When acquiring a business, often a key component is the contracts to which the company is a party to. Ensuring the transfer of any such contracts can have significant impacts on the structure and timing of the acquisition of a business.
The General Rule and Exceptions
The general rule is that contracts are freely assignable and can be transferred from one party to another. There are, however, exceptions to this general rule. Contracts that are personal in nature, involving personal relations or personal skills, are not assignable. Also, an assignment of a contract cannot result in an increase of the burden on the remaining third party to the contract. Finally, contracts may expressly prohibit assignment of the contract or provide that an assignment can only occur under certain conditions. In the context of most M&A transactions, the relevant exception will be anti-assignment provisions in the contract itself.
A standard assignment clause will prohibit the transfer of a contract without consent and may specify whether such consent can or cannot be unreasonably withheld. These provisions are typically included to ensure that each of the parties have control over who they engage in commercial arrangements and continue to do business with. A simple prohibition against assignment however, will not be triggered in the sale of a company by way of a share sale. Therefore, anti-assignment provisions are often include language that addresses the transfer of ownership on the sale of the shares of a company by prohibiting a change of control of a party to a contract without consent.
In an asset purchase transaction, the vendor is the company that owns the assets being sold. The resulting transfer of assets will include those desired contracts to which the company is a party to. Such transfer of contracts will be done by way of an assignment, thereby triggering any assignment provision and the corresponding need to obtain consent of the other party(ies) to such contract(s).
In a share purchase transaction, the vendor is the shareholder(s) of the target company. The vendor sells the shares to the purchaser and there is no transfer of assets as they remain the assets of the target company. In this context, an assignment of a contract is not needed as the parties to the contract remain the same. The need to obtain consent would then only arise if the assignment provision specifically prohibited a change of control.
When proceeding with either an asset or share purchase where the consent of third parties is required, the timing of obtaining such consents must be considered. The contracts themselves may dictate when consent must be obtained and may require all costs be covered with respect to such consent. Obtaining the consent of third parties also raises issues with respect to the confidentiality of a transaction, where one or both parties wish to keep the proposed transaction confidential. The impact of not obtaining required consents should be considered, especially if such contracts are material to the business. Because of these various issues it is important to review any contracts that will be transferred or remain with the target company early in the process and discuss how any required consents will be obtained.
To effect an assignment in the context of an asset purchase, the parties should enter into an assignment agreement whereby the vendor assigns and the purchaser assumes the contract and all rights, obligations and benefits thereunder. Often a contract will specify that the vendor will not be released of its obligations on an assignment. In such instances, the vendor and purchaser should address each of their obligations going forward. Typically, the purchaser will be solely responsible and will indemnify the vendor for any non-performance or breach by the purchaser under the contract from and after the date of assignment. If consent for the assignment is required from a third party, such party can either be made a party to the assignment agreement or its separate written consent can be obtained. If consent is not required, notice should be given to the third party that the assignment has or will occur. To effect an assignment in the context of a share purchase, only the documents effecting the sale and transfer of shares is needed as between the vendor and purchaser. Depending on the presence and content of any change of control provisions in each contract the target company is a party to, notice to or consent of the third party to each of the contracts may be necessary.
Although generally contracts are assignable, when contemplating the purchase or sale of a business consideration should be given to any contracts that will be assigned or remain with the target company. Each contract should be carefully reviewed in the context of the specific type of transaction so as to determine whether any consents or notices will be required before or after completion of the proposed transaction. Specifically, in the context of an asset purchase, only anti-assignment provisions will necessitate obtaining consent, and in the context of a share purchase, only change of control provisions will necessitate obtaining consent. Each party should also have regard to the timing and confidentiality issues that may arise in obtaining any necessary consents and all assignments or changes in control should be properly documented.