A Legal Guide to Buying or Selling a Bookkeeping Business
The sale or purchase of a bookkeeping business involves different legal considerations to other types of businesses due to the nature of the assets being sold, and the way these businesses are typically valued.
Valuing a Bookkeeping Business
The value of a bookkeeping business is usually determined by applying a multiplier to the annual revenue of the business (excluding GST). The agreed multiplier will be affected by a range of factors including:
- How long the business has been established. A well-established business that has been trading for several years and shows consistent revenue will usually attract a higher multiple.
- Whether the clients of the business are primarily serviced by the vendor’s director or a team of dedicated staff or contractors. Will the business owner be retained post completion? An evaluation always needs to be made as to how transferable the clients of the business are.
What type of clients is the business servicing? Is it a large list of primarily small business clients? Or a small list of medium to larger clients? For example, a large list of smaller clients might provide less risk of loss post-completion.
- What are the average hourly rates of the practice? A higher average hourly rate for the business will usually attract a higher multiple on sale.
- Is the business to be sold as a ‘going concern’ with the transfer of all existing staff, the right to lease the business premises, plant and equipment, business name, intellectual property etc.? Or is just the bookkeeping list that is being sold?
- What competitive threats are there which might affect the business? For example, are there any specific market, technological and/or regulatory risks that affect the sector?
Depending upon the above factors, the multiplier will typically be agreed at between 1.0 – 1.2 of the annual revenue of the business (excluding GST). However, the ordinary principles of supply and demand will also impact on the agreed multiplier as well.
Retention Sum and Adjustments to the Sale Price
From a purchaser’s perspective, to protect the goodwill of the business, it’s critical to ensure that as many clients remain with the business after the settlement date. This is particularly an issue in the context of a service-based business where the goodwill is often bound up in the relationship between the clients and the vendor/owner.
A retention sum is usually negotiated to assist with a smooth transition of clients, and to provide the purchaser with some security if there is a reduction in client income post completion. The retention sum will typically be between 30% – 50% of the purchase price negotiated at the time of sale, and will be held for between 3 – 12 months after settlement. The parties will usually agree a base revenue figure to be achieved during the retention period. To the extent that the revenue for the retention period is less than the base revenue then the retention sum will adjusted (typically) on a dollar for dollar basis. However, a vendor would also seek to ensure that any fees from new clients would offset any potential losses, and that any adjustments would be limited to the value of the retention sum.
A well-structured agreement will also set out that the purchaser is obliged to manage the business in accordance with the best commercial practice until the conclusion of the retention period. The agreement should also stipulate relevant circumstances that will not result in an adjustment to the sale price, including where there is a failure by the purchaser to properly manage clients after the settlement date (and this results in the loss of a client).
During the retention period, the vendor would usually require the purchaser not to undertake any significant changes to the operation of the business or to existing client trading terms. It would also negotiate the right to access the purchaser’s books of account to verify all revenue of the business during the retention period. The purchaser would also usually require the vendor and it’s director(s) to provide comprehensive warranties in relation to the sale.
The GST legislation provides that the the sale of a business as a going concern will be GST-free if the following apply:
- everything necessary for the business’s continued operation is supplied to the buyer;
- the seller carries on the business until the day that it is sold (that is, until settlement);
- the buyer is registered or required to be registered for GST;
- the supply is for consideration; and
- before the sale, the buyer and seller agree in writing that the sale is of a going concern.
The issue as to what is “necessary” for the business’s continued operation arises particularly in circumstances where the sale does not, for example, provide for the assignment of the lease, the transfer of employees, or the business name etc. In light of that, it is prudent for parties to seek their own tax/legal advice on this aspect of the transaction having regard to the specific terms of the sale.
A condition precedent (CP) is merely a condition that needs to be fulfilled before performance of the contract becomes due. The following are some common CPs in rent roll agreements:
- Due Diligence
This provides a purchaser with a period in which to undertake its own legal and accounting due diligence. It will usually be for a period of between 14 to 30 days.
- Finance Approval
This condition ensures that an offer is made subject to the purchaser’s bank approving finance. As with due diligence, this will usually be for a period of between 14 to 30 days.
Restraint of Trade
A restraint of trade clause is critical to protect the goodwill of the business after the settlement date. In the context of the sale of bookkeeping business, it is necessary to restrict the vendor and its director(s) / shareholder(s) (and potentially also key personnel) from competing with the business after the settlement date. Most restraint of trade clauses operate to restrict the vendor parties from competing with the business in terms of time (e.g. 3 years from the settlement date) and distance (e.g. 30 km from the business premises). However, if only the bookkeeping list is to be sold, and the vendor parties intend to continue operating as a bookkeeper, it may be appropriate to have a limited form of release. This might, for example, restrict the vendor’s director(s) from setting up a competitive business but allow them to continue working as employees.
The risk of disputes in these types of sales is somewhat increased as a result of the fact that a proportion of the purchase price is held back at settlement for the retention period. A well-structured sale agreement should contain detailed clauses which outline the way that any disputes are to be resolved. This might include provisions which require the parties to:
- negotiate in good faith to resolve any issues;
- refer any disputes regarding the calculation of the adjustments to an Independent Expert for determination; and
- refer any other matter to mediation or arbitration before court proceedings are issued.
There are numerous legal issues which arise in the context of the sale of a bookkeeping business. For that reason, it’s recommended that you seek the advice of a business broker and a commercial lawyer who have experience with these types of transactions to ensure your rights are properly protected, and the process is managed efficiently.
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The information contained in this article is intended to provide general information only and is not legal advice or a substitute for it. You should always consult your own legal advisors to discuss your particular circumstances.