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San Diego Mergers and Acquisitions: Avoiding a De Facto Merger
When buying a business in San Diego or elsewhere in California, one key consideration is whether you, as the buyer, are intending to accept any or all of the liabilities of the target business. As we have discussed, there are some valid reasons for assuming the target business’ debts, but if the goal is to AVOID assuming the debts, the transaction documentation should be carefully drafted and your business should avoid various actions that might result in application of the de facto merger rule. Under the de facto merger rule, California courts will deem the two businesses “merged” and, as such, will hold the buyer to have assumed various liabilities and debts of the purchased business. This can lead to liability even if the transaction is structured as a pure asset purchase. An excellent and skilled San Diego corporate lawyer can help.
San Diego Corporate Law: What is a De Facto Merger?
The general rule is that a buyer of assets for cash or other valuable consideration does not assume the seller’s liabilities.
However, under some circumstances, California courts will look past the FORM of the “asset purchase” transaction and deem the transaction a de facto merger under this five-part test:
- Was the consideration paid for the assets solely stock of the purchaser of its parent? Put another way, did the consideration “paid” provide money/value from which credit and other liabilities could be satisfied?
- Did the purchaser continue the same enterprise after the sale and continue using the name?
- Did the shareholders of the seller become shareholders of the purchaser?
- Did the seller liquidate?
- Did the buyer assume the liabilities necessary to carry on the business of the seller?
According to the case law, the crucial factor is the first one. As long as actual and adequate consideration is paid, California courts will be unlikely to find that a de facto merger exists.
San Diego Corporate Law: Avoid Using Words Like “Merger”
Note that the above list is not exhaustive as other details of the transaction can be relevant to the issue of whether the sale was truly an asset sale. One example is the parties’ various and respective use of the words “merger.” Thus, the transaction documents and any made-for-the-public statements (e.g., press releases and statements on websites) should be carefully worded to avoid any confusion. Statements that suggest a “merger” has taken place or that the buyer has “absorbed” the seller/target business should be studiously avoided because such statements can and will be used by future litigants if they want to argue a de facto merger.
An example of this happened in the case of CenterPoint Energy, Inc. v. Superior Court, 69 Cal. Rptr. 3d 202 (Cal. App. 4th Dist. 2005). In that case, various documentation and corporate resolutions discussed the “merger” and distributed “merger agreements” for review and approval. Those references were sufficient for the trial court to hold that a de facto merger had taken place. However, fortunately for the buyer, the Court of Appeals reversed holding that all the other factors precluded a finding of de facto merger.
CenterPoint highlights the importance of retaining a skilled and experienced corporate attorney to help with your business acquisition.
Contact San Diego Corporate Law
For more information, contact corporate attorney Michael Leonard, Esq. of San Diego Corporate Law. Mr. Leonard has guided many San Diego businesses through the complex process of buying and/or selling a business. Mr. Leonard can advise on issues such as whether an asset sale/purchase is preferable to a stock sale/purchase and help the sales/purchase contract and other documentation avoids the CenterPoint problem. Contact Mr. Leonard by email or by calling (858) 483-9200.
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