Definitive Purchase Agreement

What is a Definitive Purchase Agreement?

The purpose of the definitive purchase agreement (DPA) is to define the terms under which two businesses agree to merge, acquire, divest, form a joint venture, or form another type of strategic partnership.

The agreement also includes schedules or supporting documents listing the inventory, essential employees, net working capital assessment, tangible assets, etc.

All prior verbal or written agreements between the buyer and seller are replaced by the definitive buy agreement they sign.

A purchase and sale agreement is frequently used interchangeably with an asset purchase agreement, a stock purchase agreement, and a stock purchase agreement.

It is often referred to interchangeably with other terms, such as

• Asset purchase agreement
• The stock purchase agreement
• Purchase and sale agreement

These terms refer to the same concept with few noticeable differences. Thus, they are helpful to know if you are exploring this topic for the first time.

Definitive Purchase Agreement and sale of a business

Although roadblocks along the route can sometimes slow down the deal, a typical merger or acquisition transaction can take anywhere between three and six months on average from start to end.

Attorneys will create preliminary documents and provide updates on the transaction during the negotiation process. However, the sale is finalized once the definitive purchase agreement has been signed by all parties involved.

As the document completes the sale of a business, a definitive agreement may play the most critical role in the sale of the company. Once all parties have signed this agreement, the sale procedure becomes final, and the transition process can start.

Knowing the DPA thoroughly can help you carry out your business sale successfully.

Selling the business, you have worked so hard to build can be challenging for business owners. However, navigating the definitive purchase agreement procedure is one of the most challenging (and exhausting!) tasks.

The definitive agreement is a legal contract that seals the transfer of ownership from the seller to the buyer.

It includes everything, the sale's financial details, nondisclosure, and noncompete clauses. Finally, the definitive agreement's execution completes the sales process. When a contract is signed, the transition process starts.

Hiring highly qualified, specialized legal counsel to negotiate your business sale agreement is a smart move when you're looking to sell your business.

Hiring a mergers and acquisitions attorney with experience in mergers and acquisitions at higher costs proves to be more effective than the aftermath of signing a bad deal.

But, as the deal gets closer to the finish line, owners need to trust the selected experts to assist them.

If you still need to get ready to sell your firm, You must start working to build value now. The more you do this, the more likely you will be in a favorable position to negotiate the DPA, close the valuation gap, and sell your company.

Types of definitive purchase agreements

These agreements come in a wide variety of additional forms, and even though they share many similarities, there are a few noticeable differences to consider. Here are a few common types:

1. Stock vs. Asset Purchase Agreements

There is a distinction between buying a whole firm via a ("stock purchase agreement") and only specific assets ("asset purchase agreement").

Asset acquisition agreements are more complex because they specify the precise assets and obligations involved.

A true divestiture, rather than an acquisition structured as an asset purchase, will provide extra information about transition plans, plans for keeping staff, etc.

2. Public vs. Private Agreements

An agreement reached for a fee between a public or private buyer and a public or private economic operator is referred to as a public contract. This agreement must fulfill the buyer's work, resources, or services requirements.

Any agreement the Provider and the Resident enter that outlines the terms and conditions of the Resident's residency in the Home are referred to as a "Private Agreement." These are basic definitions of public and private agreements.

Agreements between a public buyer and seller tend to be more straightforward since they must specify fewer details because public companies provide a lot of information.

When private corporations get involved, the situation becomes more complicated because the reps, warranties, and covenants need to be more comprehensive.

3. Regional Variations

These agreements vary depending on the region. For instance, in some nations, more or less disclosure may be required due to changing shareholder vote laws.

In particular, for all significant M&A agreements in the US, clearing the HSR Act is an extra closing condition.

definitive purchase agreement components

Even though each Definitive Agreement is unique, the following are some of the elements and clauses you should expect to see:

• Details of the parties involved, including names, addresses, and contact details (including advisors like attorneys)
• The purchase price, which results from closing the valuation difference during earlier negotiations
• A solicitation clause specifying if the parties are only in communication with one another or if there are any more sides in the picture
• Down payment and financing terms, including escrow account placement and down payment amount.
• A summary of the purchased assets, their values, and the offered warranties
• Termination clauses that specify the conditions under which the sale may be discontinued and whether there is a cost for doing so
• Expenses associated with closing; buyer and seller share most costs equally.
• An earnout clause specifies if the seller will receive a future payout based on the business' success.
• Confidentiality agreements, which can forbid discussing specific topics with third parties
• Indemnification clauses transfer ownership of costs or losses incurred after a sale from the buyer to the seller.

DPA will also include a lot of schedules and supporting documents.

These may consist of the following:

• A noncompete clause prohibiting the seller from competing directly with the buyer
• A consulting or employment agreement if the buyer wishes to retain the seller's services in the future
• Promissory Note, which further specifies the amount and timing of payments
• List of Machinery & Equipment, a detailed list of the transferred assets in the sale (often referred to as a list of acquired inventory)
• Acquired contracts, which transfer the seller's stake in outside agreements to the buyer 
• Agreements relating to any leased or rented property that is being transferred

definitive purchase agreement Clauses

Even though the structure of clauses in nearly every DPA is significantly similar, each one will have unique details that you must pay considerable attention to. 

Here we outline the generic layout and what to expect.

1. Definition of Key Terms

The agreement will specify all the essential words and their definitions. It will also set the document's terminology, the closing date's significance, whether there is enough operating capital, etc.

2. Purchase Consideration

The buyer must give the seller the total amount of consideration as the purchase consideration. The document also discusses any necessary pricing adjustments.

Besides the detailed breakdown of payments after the closing date, it includes details on

• Earnest money deposited in an escrow account
• Earn-outs 
• Third-party financing
• Needed operating capital

3. Representations and Warranties

The buyer and the seller must declare any facts of significance about the agreement, known as "representations," in this section, and they must then "warrant" that the claims are accurate.

The main goal of the seller's statements is to describe the target company's current condition of affairs and those of each component section at a specific time.
Additionally, if applicable, the seller's disclosures clarify its condition, including any prospective guarantors of its commitments.

This represents the buyer's realistic goal of gaining a complete picture of the target company, including information on its finances, assets (such as intellectual property, real estate, or other), employment, group structure, etc.

The seller's business line heavily influences the statements' specific substance in a transaction. For example, an illustrative and non-exhaustive list of ideas could include claims about:

• The seller's rights and obligations
• The company's founding documents, organizational structure, and overall management
• Any ongoing legal disputes affecting the corporation
• Any bankruptcy or liquidation cases or their lack

4. Limitations of Reps and Warranties

Statements may have numerous constraints, among which "disclosures" play a crucial role and are frequently qualified by the person making them.

In general, there are two different kinds of disclosures: 

• One which defines the scope of a statement
• The other communicates facts and situations that contradict the disclosure of an idea and thereby limit it.
  Another limitation is a "knowledge"-qualifier for the effects of the seller's and/or the buyer's respective awareness of the representations' underlying problems.
  In addition, materiality standards, absolute compensation caps, and deductibles may restrict a statement.

Indemnification Clauses

Although the representations and warranties are the cornerstones of the definitive purchase agreement, indemnification provisions strengthen them.

To encourage the seller to provide complete and accurate statements and give the buyer recourse, the Definitive Agreement contains this as a support clause.

 A breach, such as an inaccuracy of statements, is sanctioned using the predefined method contained in the contractual documentation.

Indemnification clauses specify what happens a seller commits to a representation and/or warranty and the remedy the buyer can anticipate if it turns out that what the seller committed to is incorrect, including any monetary fine.

In other words, it is a clause that strengthens the reliability of the Definitive Agreement's Representations and Warranties section.

The sandbagging clause, survivability, types of damages, baskets and deductibles, caps, and other indemnification clauses are only a few examples. Once more, the ideal person to ask for assistance on these issues is a business transaction lawyer.

Miscellaneous Provisions

The "miscellaneous provisions" section of contracts is something we have all read. All of the random, seemingly uninteresting provisions are found in those parts of the contract.

Those provisions often include attorney fees, mediation, indemnification, the entirety of the agreement, severability, controlling law, risk of loss, and other clauses common to all legal agreements.

Moreover, they can include substantive issues, such as limitations of warranty and liquidated damages.

These provisions can, however, have a lasting effect since they govern remedies for breach of contract for years following the contract's execution.

The ramifications of signing a contract without those provisions may only be apparent once someone breaches it.

It is also possible for an integration and merger clause to cause issues if the parties' understanding of the contract differs from what they assume they agree to.

Hence, the tedious, extraneous clauses in your contract should be addressed because they could end up costing you a lot of misery in the future.

The following items are excluded from the agreement:

• Future expansion that the business anticipates and related estimates
• The specific conditions of the buyer's debt financing
• Cost and revenue synergies that could exist
• Financial planning and capital expenditures

What happens after a definitive agreement?

There is a lag between the signing of the contract and the transaction's completion due to the time it takes to get governmental approval.

Closing may co-occur, or if certain actions must be taken before closing (such as obtaining government approvals or obtaining consent to assign key agreements), the closing might happen later.

During the time between signing and closing, the buyer and target will prepare all closing deliverables and fulfill all closing conditions.

There can be variations in the length of the pre-closing period, depending on the closing conditions.

A deal can be closed once all closing conditions are met, and funds are exchanged. In this stage, the actual transaction takes place.

Following the close of a deal, the buyer goes into full-scale integration of the business acquired.

As you decide what to do next, pay your taxes, create an estate plan if you haven't already, and express gratitude to those who have supported you.

Typical closure requirements in a DPA include:

• As not all representations can be standardized, the buyer and seller can also agree to a certain level of precision for the warranties.
• Assessment of closure requirements must take into account Material Adverse Effects.
• The buyer should confirm that the representations and warranties are still in effect as of the signing date and the closing time.

Reviewed and edited by Ayoub Mresa | LinkedIn

Reviewed and Edited by Krupa Jatania I LinkedIn

Free Resources

To continue learning and advancing your career, check out these additional helpful WSO resources:

• Initial Public Offering (IPO)
• Joint Venture (JV)
• Killer Bees
• Letter of Intent (LOI)
• Memorandum of Understanding (MoU)