Whether a sale is done via asset or share, all aspects of a business will be affected, including employees
Things have been strange at work for the past little while. Unfamiliar women and men in suits have been meeting with management, all departments have been instructed to prepare a status overview, and most strangely, someone came through and measured the offices last week. Today the news was circulated: the business is being sold, to be effective in a few weeks. Panic immediately circulated — everyone is worried about their job and nobody knows what’s going to come next. Then, further news was circulated: it is going to be a share purchase — and everyone’s staying employed, at least for now.
There is relief — but what does it all mean?
The significant detail is that it was a share purchase. There are two major ways a business can be sold: as an asset purchase or share purchase. The type of sale will determine, among other things, whether the existing or new owner is obligated to the business’ employees. All of this leads to the question: is there a better method for the vendor or the purchaser, and what does proper due diligence look like in either context?
Asset purchase
In an asset purchase, the purchaser buys all or some of a company’s assets, such as property, contracts, or equipment. The purchaser is able to select exactly what they want to take from the business, while avoiding taking on too much of the business’ liability. While certain types of liability are inescapable no matter the type of sale (such as environmental liability and union contracts), the majority of these are not — including employees.
Where a business is bought through an asset purchase its non-union employees remain with the existing business, and the purchaser has no obligation to them. The purchaser may offer employment to any employee of the existing business, on any legally compliant terms it sees fit — but does not have to.
An employee who chooses to accept an offer of employment with the entity that has purchased its employer severs their employment with their existing employer for purposes of the common law, but does not under the statute. Where this transaction is a “sale of a business” for purposes of the governing employment statute, the purchaser also takes on that employee’s service for their earlier employer for purposes of calculating their statutory termination entitlements.
The purchaser may include a term in the employment agreement recognizing the employee’s previous service at common law — but does not have to do so.
Share purchase
In a share purchase, the purchaser buys all of a company’s shares and steps into the shoes of the existing owner. Unlike with an asset purchase, a share transaction involves the transfer of all aspects of the company’s business, such as inventory, goodwill, and its employees.
This will include the employer’s obligations to the employee on termination of employment. The employee’s employment will be considered continuous for both purposes of the common law and the underlying employment statute.
Depending on their length of service and whether their employment is governed by a valid employment agreement, a purchaser may take on a substantial liability to an employee in terms of their entitlement to reasonable notice on dismissal.
Best practices
A purchaser in a share purchase situation buys everything — this might include taking on the previous owner’s problems, such as a lack of enforceable (or any) policies or valid employment agreements. Depending on the size of the workforce and its employees’ lengths of service, the buyer in a share purchase may become the owner of a substantial, unintended set of liabilities.
To address this, the buyer in a share purchase must conduct its due diligence, including a review of all current employees, the status of their employment agreements, and of the company’s policies. Where any of this is lacking the purchaser must either build the price of the liability into the purchase price, or require that the seller implements new contracts and policies as a condition of sale.
Conversely, a purchaser in an asset purchase buys only what they want — and is not required to take on any employees. However, a purchaser’s due diligence can include a frank discussion with the vendor as to the merits of individual members of its workforce. The purchaser can then choose which employees it will offer employment.
The vendor continues to have liabilities to the employee in an asset purchase. Should the vendor close what remains of the business after the purchaser takes the assets, it will have to terminate the employment of its remaining staff. Where this happens, it will have obligations on dismissal for each employee — either as set out in the employee’s employment agreement or at common law.
An employee’s common law obligations are subject to the duty to mitigate — which can be negated where the employee gets another similar job.
Issues often arise regarding who will pay severance costs when the business is sold. For example, who is liable for severance costs if:
- the new owners only make offers to keep some staff?
- the previous owners increased everyone’s compensation immediately before the sale closed?
- the new owners want to have a brief period of time to assess the staff and decide who to keep?
We have seen business owners devastated when they realize that the proceeds of the sale are largely eaten up by severance payments, and also by purchasers who find out that their cost of acquisition will be much higher once they finalize the head count.
As employment lawyers, we regularly advise parties who are in the process of buying or selling a business. There are two types of contracts to consider and address: the individual contracts of employment for each employee, and the contract of sale. Review of the individual contracts of employment can inform the larger contract of sale in terms of whether this needs to include an allocation of which party is responsible for severance costs.
This can help the parties to clearly establish who will be responsible for potential severance costs if not all employees are kept.
Conclusion
Irrespective of whether a sale is done via asset or share, all aspects of a business will be affected by the process, including the business’ employees. In either case, it is vital that the purchaser carry out its due diligence. In a share purchase, failing to do proper due diligence may lead to purchasing substantial liabilities in the form of a workforce not subject to employment agreements or governed by valid policies. In an asset purchase, this may lead to the purchaser making an offer of employment to the wrong employees — or failing to hire the right ones.
As with most things, preparation may pay future dividends — and failing to prepare may lead to unwanted liabilities. Like deciding whether to make a share or asset purchase, the choice is with the purchaser, and should be taken wisely.
Both at Rudner Law in Toronto, Stuart Rudner is the founder along with being a senior lawyer, mediator and arbitrator; he can be reached at [email protected]. Geoffrey Lowe is an associate lawyer who can be reached at [email protected].
