What Happens to Existing Contracts When a Business Is Sold?
A business sale may transfer ownership, assets, and operations, but the company’s contracts do not simply follow the deal. What happens to existing contracts when a business is sold depends largely on whether the transaction is an asset sale, a stock sale, or a merger, what each agreement says about assignment or changes in control, and whether another party must approve the transaction.
Those details matter because contracts often carry much of a company’s operating value. DiFalco & Fernandez’s lawyers in New York and Florida can help buyers and sellers identify these issues before contract restrictions affect the price, timing, or closing of a transaction.
How Does the Structure of the Transaction Affect Contracts?
The structure of the sale is usually the starting point for determining how existing contracts will be handled.
In an asset sale, the buyer purchases specified assets of the business. Those assets may include equipment, inventory, intellectual property, customer relationships, and certain contracts. Because the selling company remains a separate legal entity, contracts generally do not move to the buyer simply because they are listed among the assets being purchased. They typically must be assigned to and assumed by the buyer, with any required consents.
A stock sale works differently. The buyer purchases the stock of the corporation (or, for a limited liability company, its membership interests), while the company itself continues to exist. Because the company remains the party to its contracts, those agreements generally stay with the company and do not require a traditional assignment solely because its ownership has changed.
That distinction does not mean contracts can be ignored in a stock sale. Some agreements contain change-of-control provisions that are triggered when ownership of the company changes. Those provisions can require notice, consent, or other action before or after closing.
Mergers raise their own questions. A merger may transfer contracts by operation of law, but some agreements, and some courts, treat certain mergers as a transfer that requires consent, particularly for intellectual property licenses.
Which Contracts Should Be Reviewed Before a Business Sale?
Most businesses rely on a network of agreements that affect revenue, operations, property, employees, financing, and intellectual property. Material contracts should be reviewed as part of the transaction rather than treated as routine paperwork.
Customer and service agreements can be especially important when a substantial portion of revenue comes from recurring customers or long-term relationships. If a major contract cannot be transferred to the buyer, the economics of the acquisition may change.
Vendor and supplier agreements may determine pricing, payment terms, minimum purchases, delivery obligations, exclusivity, and access to products or materials. A buyer will want to know whether those terms continue after closing.
Commercial leases may require a landlord’s approval before assignment. Some leases also define a change in the tenant’s ownership as a transfer requiring notice or consent.
Software, technology, and intellectual property licenses often contain detailed transfer restrictions. Under federal law, nonexclusive patent and copyright licenses are generally treated as personal to the licensee and cannot be transferred without the licensor’s consent unless the license permits it. A buyer should confirm that it will have the right to continue using the systems, trademarks, patents, software, or other licensed assets that the business depends on.
Other agreements that commonly warrant review include:
- Financing and loan agreements
- Equipment leases
- Distribution agreements
- Franchise agreements
- Employment and independent contractor agreements
- Partnership and joint venture agreements
- Insurance-related agreements
- Confidentiality and restrictive covenant agreements
- Property management or operating agreements
Government permits, licenses, and approvals may raise separate issues because some are tied to a particular entity or holder and may not be transferable at all.
When Are Existing Business Contracts Assignable?
Some contracts expressly permit assignment. Others allow assignment only in limited circumstances, such as a transfer to an affiliate or to a buyer acquiring substantially all of the company’s assets. An agreement may instead prohibit assignment without the other party’s prior written consent.
The exact wording can make a significant difference.
- A contract might state that neither party may assign the agreement without consent.
- Another might permit assignment in connection with a sale of the business.
- Some agreements address both assignment and a change in control, while others treat them as separate events.
The distinction between transferring contractual rights and delegating contractual duties may also matter. A party may be able to transfer the right to receive payment while remaining responsible for certain obligations, depending on the agreement and applicable law.
For that reason, buyers and sellers should not assume that a contract is transferable simply because the business itself is being sold.
What If Business Contracts Cannot Be Assigned?
A nonassignable contract does not necessarily end the deal, but it may require the parties to reconsider how that part of the transaction will work. The seller and buyer may first approach the other contracting party for consent. If consent is granted, the agreement can often be transferred with the required documentation.
If consent is unavailable, the buyer may try to negotiate a new agreement directly with the customer, landlord, supplier, or other party. In other situations, the parties may exclude the contract from the purchased assets or adjust the purchase price to account for its absence.
Certain transactions may also use temporary arrangements while consent is pending, but those arrangements must be consistent with the underlying contract and applicable law.
The practical significance depends on the contract. Losing a minor vendor agreement may have little effect on the deal. Losing a lease for the company’s primary location or a customer responsible for a large percentage of annual revenue can be far more consequential.
When Is Third-Party Consent Required?
A contract may require approval from the other contracting party before an assignment or change in control can take place.
In an asset sale:
- A customer may need to consent to the transfer of a service agreement.
- A technology provider may have to approve the transfer of a software license.
Stock sales can trigger consent requirements as well.
- A loan agreement might define a sale of controlling stock as a change-of-control event.
- A significant customer agreement could require notice or approval if ownership changes.
These requirements can become important closing issues.
If a contract is essential to the acquired business, the buyer may require that consent be obtained before it is obligated to close. The purchase agreement can identify specific third-party consents as closing conditions and establish which party is responsible for obtaining them.
Identifying those requirements early gives both sides more time to address them without putting the entire transaction on hold.
Address Existing Contracts When Buying or Selling a Business
Determining what happens to existing contracts when a business is sold requires a contract-by-contract review. Moreover, reviewing existing contracts early in the process can expose potential obstacles while there is still time to resolve them and help keep the transaction aligned with its commercial objectives. Our New York and Florida attorneys at DiFalco & Fernandez can assist buyers and sellers with contract due diligence, assignment and consent requirements, transaction structuring, purchase agreements, and closing documentation.
This article is provided for general informational purposes only and is not legal advice. Reading it does not create an attorney-client relationship. DiFalco & Fernandez attorneys are admitted to practice in New York, Florida, and/or Connecticut.
