When a professional practice or business is sold, whether by share sale or asset sale, consideration must be given to the issue of third-party consents. Typically, when a business enters into a third-party contract, the contract will include a provision whereby the consent of such third party must be obtained prior to the sale or transfer of the business to a new owner. It may also be necessary for consent to be obtained in the event of a change of control of the target corporation. Selling a business without first obtaining third-party consent, where such consent is required, may result in the vendor being in breach of the third-party contract and thus may be held liable for resulting damages. As such, third-party consents or approvals, if required, must be obtained before any transaction involving the sale of the business can be completed.
Additionally, the vendor is often required to provide a specific representation and warranty in the purchase agreement indicating that the assets or shares being sold are free and clear of all third-party claims. Without first confirming that any such third-party consents or approvals have been obtained or are not required, the vendor would not be in a position to provide such representation and warranty with respect to the assets or shares.
An example of a third-party consent that may be required is that of a landlord where the professional practice or business is the tenant in a commercial lease.
Due diligence lease review
If the practice is operating out of a leased premises, the lease may be one of the significant assets of the sale. Therefore, it is imperative for the vendor to review the lease to identify whether there are any assignment rights, and if so, under what conditions.
The assignment clause in a commercial lease is often the result of significant negotiations between the landlord and tenant because they have opposing interests.
The landlord will want to exercise as much control as possible over decisions about who can occupy the space and will need to:
- ensure that the tenant is financially capable of paying the rent;
- control what the premises is used for (especially if the leased premises is located in a multi-tenanted space); and
- ensure that the tenant does not create a legal nuisance for other tenants and neighbours.
The tenant will want as much flexibility as possible because:
- the professional practice may outgrow the space before the lease term expires;
- it may be necessary to downsize because the practice may be paying to lease extra space it does not need; or
- the lease is a substantial asset should they wish to sell their practice.
Typically, a well negotiated lease will result in a balance of these interests. The tenant will have the right to transfer or assign the lease, but only with the landlord’s consent.
Share sale
It is also important to determine whether the lease defines a change of control of the business as an assignment of the lease, making it subject to landlord consent.
In a share sale, the corporation’s assets are not legally transferred to the new owner. However, the shares of the corporation are sold and the corporation will undergo a change of control. The commercial lease will often include a restriction regarding the change of control of the corporate tenant whereby landlord consent must be obtained in the event of a change of control of the tenant.
It is critical to review the wording of assignment and transfer clauses in lease agreements to ensure that consent is obtained when required and that the transaction is not stalled as a result. Proper due diligence should be conducted as early as possible in the transaction process in order to determine whether third-party consents or approvals are required and to avoid unnecessary delays.
For more information please contact Katherine Serniwka in the Professionals Practice Group or Michael Connell in the Commercial Real Estate Practice Group.