3. Asset Deal or Share Deal – Wich is preferable?
4. How is the purchase price allocated to the individual assets in an asset deal?
Agreeing the purchase price allocation in the purchase contract
Equal distribution method or also “Watering can method”
In an asset deal all the assets of the company are sold individually and transferred to the buyer on a specific date. The assets include real estate, machinery and equipment, office chairs and computers, inventories and goods, but of course also receivables, loans, patents, trademark rights etc. etc. Of course, not all assets have to be taken over.
The whole thing entails a multitude of legal acts: purchase agreements, assignment agreements, conveyances, endorsements etc. and is correspondingly complex.
In an asset deal, the company sells its assets. What remains is, as it were, an “empty shell”.
In contrast, the share deal seems to be a very simple matter: In a share deal, shares in a company or cooperatives or partnerships are sold. The whole thing is therefore reduced to a single legal act (a legal purchase)
The sellers are therefore the shareholders of the company.
Whether a company purchase should be carried out as an asset deal or a share deal always depends on the individual case. The decision criteria are manifold and concern tax considerations, practical and legal considerations or liability issues.
We give a few examples:
Asset deals and share deals have very different tax consequences. These depend not only on the structure chosen, but also on which side you are on (buyer or seller) and the very individual circumstances of the parties involved.
In terms of buyer-seller, it is usually a case of “one man’s joy is another man’s sorrow.”
Here are some aspects to consider:
In fact, there are countless metres of literature on the subject and many outstanding experts invest a lot of work in optimising their clients’ transactions accordingly. The best among them even think about structures that are advantageous for a later sale already when buying a company!
The so-called principle of certainty applies: only those assets that are sufficiently specifically defined in the purchase agreement will be sold. If something has been “forgotten”, you have to renegotiate – and that can be expensive.
Contracts with third parties that are to be taken over are also a factor of uncertainty. For this to succeed, the third parties must agree.
An exception to this are employment contracts, which are “automatically” transferred under certain conditions. Here, too, it should be thoroughly checked in advance whether this is what is wanted.
For example, unidentified liabilities and inherited burdens can lead to liability risks for the buyer.
It also happens that contractual partners of the company for sale have reserved extraordinary rights of termination should the shareholder change. This may leave you without your most important business partner.
You may now have a small impression of how complex the decision for a transaction structure can be.
In the following, let us assume that you as a buyer have already gone through this process and that a decision has been made in favour of an asset deal.
We had identified the possibility of a step-up as an important motive for the asset deal.
To recap:
A step-up means that the acquired (depreciable) assets are revalued and depreciated on the basis of this revaluation. If the fair values are higher than the current book values, this results in additional depreciation potential. Additional depreciation potential also arises from the possibility to write off the goodwill remaining after the revaluation of the assets.
These possibilities do not open up in the case of a share deal. Here, the old depreciation plans are simply continued within the acquired company.
The interesting question is how exactly the revaluation of the assets is carried out and how the purchase price is allocated to the individual assets. For here, too, there are further structuring possibilities that can lead to higher or lower tax payments.
Since this is the part we very often have to deal with in our valuation practice, let’s take a closer look.
A healthy company is usually more than the sum of its parts. This means that it must be clarified how the total sum – i.e. the purchase price – is to be divided among the individual parts – i.e. the assets.
The question is important because:
After all, you can not only depreciate the fair market values, which are higher than the book values, but also intangible assets created by your predecessor and – if available – goodwill. Your predecessor could not do either.
However, while goodwill is to be depreciated on a straight-line basis over 15 years, many machines and equipment, for example, have a much shorter useful life.
This means that the distribution of the purchase price among the various assets also determines the depreciation potential.
You can already specify a purchase price allocation in the purchase contract. The tax authorities are also bound by this. Unless there is a fictitious transaction or an abuse of the tax system, or the apportionment made is economically unreasonable.
In fact, we are often called in because there is a disagreement between the tax authorities and the entrepreneur regarding the valuation of plant and machinery. Our experience is: entrepreneurs usually have very good reasons for a certain assessment, which cannot be recognised in a pure desk valuation.
Tax officials are not valuation experts!
With a well-documented, court-proof valuation by an expert, a lot of disputes can be avoided.
Unless an apportionment has been made or the one made is not accepted, the so-called step-by-step theory is applied:
1. First, the assets that the seller has already recognised in the balance sheet are increased to the respective partial value.
The concept of partial value originates from the Valuation Act, which regulates the valuation of assets for tax purposes in Germany. It is used for the valuation of business assets for tax purposes. The going-concern value is defined as the amount that an acquirer of an entire business would recognise for a single asset, assuming that the business will continue. As a rule, the partial value corresponds to the market value or fair value. (§10 BewG)
2. Then, the previously unrecognised, intangible, internally generated assets are recognised as acquired intangible assets at the going-concern value. Example: Internally generated software
3. The remainder of the purchase price is capitalised as goodwill.
In exceptional cases, there is even the possibility to deduct this residual value immediately. For example, if the surcharge was paid to get rid of an unwelcome shareholder. However, the emphasis is on “exception”.
The term “modified step theory” is understood to mean an approach that virtually combines steps 1 and 2.
This is a method in which the partial values of all assets as well as the partial value of the goodwill are first determined. Then the total purchase price is distributed among the assets in proportion to the determined partial values.
Which method to use is probably debatable and definitely a task for your tax advisors.
Finally, let’s get practical again and look at how we arrive at the individual partial values.
For tangible assets such as land, machinery and production facilities, it is recommended that the value be determined by a (court-proof) expert opinion.
If you would like to know how we value machinery and equipment in practice, read our article “How do you actually value machinery?“
In the case of real estate, the division between land on the one hand and buildings on the other is of particular importance, because of course you can only depreciate the building. In any case, you are on the safe argumentative side with an expert for commercial and industrial real estate.
For current assets, you usually use the recoverable purchase price less costs, such as distribution costs.
Goodwill includes the customer base, distribution channels, reputation, good business relationships, brand and company awareness, quality of management and employees, internal organisation and order backlog. Goodwill is seen as a uniform asset that cannot be broken down into individual parts – in contrast to other intangible assets such as recipes, patents or trademark rights, which can be valued individually.
In principle, the location belongs to the property value or the value of the tenancy right and not to the goodwill.
It is worth considering the optimal structure for a corporate transaction in advance. The decision whether to do an asset deal or a share deal is complex and can only be made on a case-by-case basis. The financial consequences of the chosen structure can be significant for both buyer and seller. The valuation of the individual assets also influences the tax consequences.
So much for today,
Your Philip Merker
Philip Merker, MBA
Certified expert for the evaluation of machinery and technical equipment (DIN EN ISO / IEC 17024)
Colonnaden 46, 20354 Hamburg
Telephon +49 40 602 13 33
Email info@sv-merker.de
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