Selling Shares, Selling a Business, or Investing in a Company: What You Should Know

When ownership in a business changes hands, the parties often speak generally about “buying into a business” or “selling the business”.

Legally, however, the structure of the transaction matters.

There is an important difference between selling shares in a company, selling the business or assets of a company, and investing in a company by subscribing for new shares.

Each option has different legal, financial and practical consequences.

Understanding the difference is essential before signing any agreement.

SELLING SHARES IN A COMPANY

A share represents an ownership interest in a company. In terms of section 35(1) of the Companies Act 71 of 2008, a share is movable property and may be transferred in the manner recognised by the Act and the company’s Memorandum of Incorporation.

When a shareholder sells shares, the purchaser steps into the seller’s position as shareholder. The company itself usually continues as before. Its contracts, assets, liabilities, employees and operations remain in the company.

This means that the purchaser is not simply buying an asset. The purchaser is buying into the company, including its history, risks, liabilities and future potential.

A sale of shares is commonly used where:

• a shareholder wants to exit the company;

• the remaining shareholders want to buy out a departing shareholder;

• a purchaser wants to acquire control of a company;

• business partners want to restructure ownership;

• an investor wants to acquire an existing shareholder’s stake.

Before shares are sold, the parties should review the company’s Memorandum of Incorporation and any shareholders’ agreement. Section 15(1) of the Companies Act recognises the importance of the Memorandum of Incorporation and further provides that shareholders’ agreements must be consistent with the Act and the company’s Memorandum of Incorporation.

These documents may contain restrictions on share transfers, pre-emptive rights, valuation mechanisms, board approval requirements, or obligations for a new shareholder to sign a deed of adherence.

If these provisions are ignored, the transfer may be delayed or disputed.

The parties should also ensure that the company’s securities register is properly updated. Section 50 of the Companies Act requires a company to establish or cause to be established a register of its issued securities, and section 51 deals with the registration and transfer of certificated securities.

SELLING THE BUSINESS OR ASSETS

A sale of business is different from a sale of shares.

In a sale of business, the seller is usually the company itself. The purchaser buys the business, or selected assets of the business, rather than the shares in the company.

The assets sold may include stock, equipment, goodwill, intellectual property, customer contracts, vehicles, licences, furniture, lease rights or other business assets.

The advantage of this structure is that the purchaser may be able to choose which assets and liabilities it is willing to take over. This can be attractive where the purchaser wants the business opportunity but does not want to assume all historical risks of the company.

However, a sale of business may require more practical steps than a sale of shares. Contracts may need to be ceded or assigned, employees may transfer, landlord consent may be required, licences may need to be updated, and customers or suppliers may need to be notified.

Where a company disposes of all or the greater part of its assets or undertaking, the Companies Act may require additional approvals. Sections 112 and 115 of the Companies Act regulate certain fundamental transactions and may require shareholder approval by special resolution.

This is important because a sale of business is not only a contractual transaction between buyer and seller. In certain circumstances, the Companies Act may require the company to obtain shareholder approval before the transaction can be implemented.

INVESTING IN A COMPANY

An investment in a company may take a different form altogether.

Instead of buying shares from an existing shareholder, an investor may subscribe for new shares issued by the company. In that case, the purchase price is usually paid to the company, not to the existing shareholder.

This distinction is important.

If an investor buys existing shares, the selling shareholder receives the purchase price and exits fully or partially. If an investor subscribes for new shares, the company receives the funds and may use them for growth, working capital, expansion or other business purposes.

Where new shares are issued, sections 38, 39 and 40 of the Companies Act may become relevant. These sections deal with the issuing of shares, pre-emptive rights in respect of certain share issues, and the consideration payable for shares.

An investment transaction should clearly regulate:

• how many shares will be issued;

• the class of shares;

• the subscription price;

• what the investment funds may be used for;

• voting rights;

• dividend rights;

• board representation;

• reserved matters requiring investor consent;

• information rights;

• restrictions on further share issues;

• exit rights;

• what happens if performance targets are not met.

A new investor should also consider whether the investment will dilute existing shareholders and whether the company’s Memorandum of Incorporation and shareholders’ agreement properly reflect the agreed investment terms.

Whether a party is buying shares, buying a business, or investing in a company, due diligence is essential.

Due diligence allows the purchaser or investor to understand what they are acquiring and what risks may exist.

The documents required will depend on the structure of the transaction.

A sale of shares will usually require a sale of shares agreement, share transfer forms, board resolutions, updated securities register entries, and possibly a deed of adherence to a shareholders’ agreement.

A sale of business will usually require a sale of business agreement, asset schedules, cession and assignment documents, employee-transfer considerations, landlord consent, supplier or customer consents, and possibly regulatory approvals.

An investment transaction may require a subscription agreement, shareholders’ agreement, amended Memorandum of Incorporation, board and shareholder resolutions, and updated company records.

In all three cases, the transaction documents should clearly deal with the purchase price, payment terms, suspensive conditions, warranties, indemnities, breach, dispute resolution and closing deliverables.

Warranties and indemnities are critical in share sales, business sales and investment transactions.

A warranty is a promise about a particular fact. For example, a seller may warrant that the shares are owned by the seller, that the financial information is accurate, or that there is no undisclosed litigation.

An indemnity is a specific undertaking to cover a particular risk. For example, if there is a known tax dispute, pending claim or historical liability, the purchaser may require an indemnity if that risk materialises after the transaction.

These clauses determine who carries the risk after signature and should be drafted carefully.

PRACTICAL QUESTIONS BEFORE SIGNING

Before signing, the parties should ask:

• Are we selling shares, selling the business, or issuing new shares to an investor?

• Who receives the purchase price: the shareholder or the company?

• What exactly is being sold?

• Are the company’s MOI and shareholders’ agreement aligned with the transaction?

• Are there pre-emptive rights or approval requirements?

• Has due diligence been completed?

• Are there existing liabilities, disputes or tax risks?

• Are contracts, leases, licences or employees affected?

• Are shareholder or board approvals required?

• Is Securities Transfer Tax payable?

• Are warranties and indemnities properly drafted?

• Have the company records been updated?

CONCLUSION

A sale of shares, a sale of business and an investment into a company may all appear similar commercially, but they are legally different transactions.

The correct structure depends on what the parties want to achieve: an exit, an acquisition, a restructure, or funding for growth.

Before signing, parties should understand what is being sold, who is being paid, what liabilities are being assumed, and what approvals are required.

The Companies Act should also be considered when structuring the transaction, particularly where shares are transferred, new shares are issued, company records must be updated, or the company disposes of all or the greater part of its assets or undertaking.

At Le Roux Vivier Attorneys, we assist shareholders, investors, companies and purchasers with sale of shares agreements, sale of business agreements, subscription agreements, due diligence investigations, shareholders’ agreements, corporate restructuring and commercial advisory services.

Ezekiel Dikio

LLB

Associate at Le Roux Vivier Attorneys

Disclaimer: The views expressed in this article are those of the author(s) and do not necessarily reflect the views of the firm. This content is provided for general information only and does not constitute legal advice. While every effort is made to ensure accuracy, the law may change and its application depends on the specific facts of each matter. Readers should seek professional legal advice before acting on any information contained herein. The firm and the author(s) accept no liability for any loss or damage arising from reliance on this content.