Buying an established business can give you an existing customer base, team and operating systems. It can also bring commitments and risks that are not obvious from a sales presentation or financial statements.
Legal due diligence is the buyer’s investigation of what is being acquired, what obligations may remain after closing and what approvals or protections are needed. The right review depends on the business and whether the transaction is an asset purchase or a share purchase. The following 12 checks are a starting point—not a substitute for a transaction-specific review.
1. Confirm the seller and ownership
If you are buying shares, confirm the corporation’s existence and review its articles, bylaws, minute book, securities register, shareholder agreements and relevant filings. Confirm who owns the shares being sold and whether consents or restrictions affect the transfer.
For an asset purchase, identify which person or entity owns each significant asset and can sell it. A brand, piece of equipment or parcel of land should not be assumed to belong to the seller simply because the business uses it.
2. Decide what the transaction includes
In a share purchase, the buyer acquires shares in the corporation; the corporation continues to own its assets and remains responsible for its obligations, subject to any applicable legal or contractual consequences. In an asset purchase, the agreement identifies the assets being transferred and the liabilities the buyer agrees to assume. An asset purchase is not an automatic shield against every potential liability.
Agree early on which structure is being proposed and involve tax and accounting advisers. The structure affects diligence, consents, price allocation and closing documents.
3. Review the contracts that keep the business running
Ask for material customer, supplier, distribution, franchise, software, equipment, financing and other agreements. Check their term, renewal dates, payment obligations, termination rights and any disputes or defaults.
Identify assignment and change-of-control provisions. An asset sale may require a contract to be assigned; a share sale may trigger a different consent or termination provision. The wording of each contract matters.
4. Search for security and other registered interests
In Alberta, searches of the Personal Property Registry can help identify registered interests affecting personal property. The Personal Property Security Act is an important part of that framework. A search result needs interpretation: it does not by itself establish the outstanding debt or prove that an interest has been discharged.
Where necessary, arrange lender confirmations, payouts, releases or other closing evidence. Searches and discharge requirements should reflect the assets and parties involved in the transaction.
5. Examine the premises
If the business leases its premises, review rent, remaining term, renewal options, defaults, guarantees and the landlord’s consent requirements. Confirm whether the transaction calls for an assignment, a new lease or another arrangement.
If land is being purchased, undertake separate title and property diligence appropriate to the site. Do not treat a review of the operating business as a replacement for real estate due diligence.
6. Understand the workforce
Review key employment contracts, compensation, accrued obligations, benefit plans, contractor arrangements and any employment disputes. The steps needed to retain staff and the potential employment consequences may differ between asset and share transactions.
Obtain employment-law advice on the proposed structure and transition; do not assume that calling a transaction an asset sale resolves all employee-related obligations.
7. Verify intellectual property and technology rights
Identify registered and unregistered trademarks, domains, software, copyright-protected material, proprietary processes and important licences. Check who owns or may use each item, whether contractor-created work was properly documented and whether third-party licences can continue after closing.
A logo or application displayed on the business’s website is not proof that the selling company owns it.
8. Investigate disputes and compliance
Ask about current and threatened litigation, customer or supplier claims, investigations and material regulatory issues. Review the responses against available documents and appropriate searches.
The industry matters: a heavily regulated business may need a more detailed compliance review than a low-risk consulting operation.
9. Check licences, permits and approvals
List the approvals needed to operate the business and confirm which entity holds them. Determine whether an approval remains valid after a share sale, may be transferred in an asset sale or requires a new application or advance consent.
Build any necessary approvals into the closing schedule. A buyer should not assume it can operate on the seller’s licence immediately after completion.
10. Review borrowing and guarantees
Understand the business’s loans, lines of credit, security and guarantees. Check for repayment obligations or lender consent triggered by the proposed transaction.
If the buyer needs acquisition financing, identify the lender’s diligence, security and document requirements early enough to avoid an avoidable closing delay.
11. Coordinate legal, financial and tax diligence
Financial statements are only one part of the picture. Accountants and tax advisers may need to review revenue quality, working capital, taxes, sales-tax treatment and the financial effect of the proposed asset or share structure.
Share material findings across the buyer’s advisory team so that the legal documents reflect the agreed commercial and tax plan.
12. Turn findings into closing protections
Due diligence should lead to decisions. A finding may affect the price, a closing condition, a required consent or discharge, a holdback, a representation and warranty, an indemnity or a post-closing obligation.
Finding a problem is only the first step. Confirm who will resolve it, when it must be resolved and what happens if it remains outstanding at closing.
When should due diligence begin?
Ideally, discuss the transaction structure and access to records before committing to an unconditional purchase. If a letter of intent or purchase agreement will be signed before the investigation is complete, obtain advice about the diligence process and any proposed conditions and deadlines.
Evergreen Solicitors assists Calgary and Alberta business buyers with acquisition structuring, legal due diligence, purchase agreements and transaction closings. Contact the firm before committing to a purchase so the proposed structure and investigation can be planned together.
This article provides general information, not legal or tax advice. The scope of diligence and the protections required depend on the particular transaction.