Start with the end in mind - Health check your business before negotiating a sale

Posted by admin at 15:51 on 13 Feb 2017


If someone wants to chat about buying your company, don't overlook an employee share scheme or it could cost you, your company, and your employees unexpectedly.

Maybe out of the blue or maybe after some 'wooing', somebody looks like they want to talk to you about buying your business.


You have a really fantastic company and your team has been working hard over the past years to establish, develop, and grow the business. You might have in mind an exit price, have some idea of terms you would accept (paper, earn-outs, and retentions) but you also need to think about share options and other equity incentives.

If you get it wrong, options and the shares acquired could lose their tax advantages, demotivating you and your team, new options might fail to gain any tax benefits, you could lose a valuable corporation tax deduction, create an income tax bill (plus national insurance) instead of more favourable Capital Gains Tax (CGT) treatment or even invalidate the options.  Not what you had in mind, so let us help you plan ahead.

Existing Options

For existing options an important point is control. Once control passes to the potential purchaser you can lose the approved status of a Company Share Option Plan (CSOP) or Share Incentive Plan (SIP), the qualifying status of an Enterprise Management Incentive (EMI) and lose corporation tax relief (which can be valuable). These are some key points to look out for:

1. Make sure nothing in the heads of agreement (Heads), non-disclosure agreement (NDA), or any other exclusivity agreement restricts you or the company from acting without the consent of the potential purchaser. For example, beware of any restriction on signing new business terms or incurring debt.

2. Look out for any unusual terms in an NDA or exclusivity agreement, and, if uncertain, seek specific advice from your lawyer, accountant, or RM2 in respect of the share scheme.

3. If there is a deferred completion after exchange under the share purchase agreement (SPA), check if effective control passes at the exchange.

Are your annual returns and all the paperwork relating to share options or other equity acquisitions by employees up to date? 

The potential purchaser will ask for and seek evidence as part of their due diligence (DD). Remember, if RM2 administers your plan, we will keep everything up to date and make it easy for you to comply with requests for information. One less thing to think about at a very busy time.

New options

Were you planning to grant options or had you promised participation to specific employees? If so, you can still make grants of new options but bear in mind the following:

1. The potential acquirer may restrict you from granting new share rights if their consent is not given.

2.  Approved plan grants might be prohibited if HMRC considers control has passed to the prospective acquirer.

3.  Where you need to agree valuations with HMRC (e.g. share purchases, EMI, SIP, or CSOP) you must fully disclose any offers.  This will be treated as confidential by HMRC and they will appreciate that not all deals complete, but it will impact on the value. RM2 are experienced at negotiating such matters with HMRC on behalf of client companies.

Sale Price

On a sale, the company may be valued as a whole (rather than a price per share) with the value divided up between both existing shareholders and new shareholders who exercise options immediately before the sale.

Existing shareholders might have extra responsibilities e.g. warranties and indemnities under the SPA and may suffer retentions or may benefit from earn outs, etc. If the price is not the same per share for everyone, take advice to ensure there is no additional tax liability for employees or director shareholders as a result of an uneven split.

Date of sale dilution

What happens if you have shareholders hovering around the 5% shareholding and on a sale of the business there are options that are to be exercised? In this case, the 5% shareholder would have held the shares right up to the point of sale; however, as soon as the options are exercised the shareholding is no longer 5%. This matter concerns the requirement (in s. 168I (6) TCGA 1992) for the 5% interest to be maintained continuously for 1 year ending with the day of sale for entitlement to Entrepreneurs’ Relief (ER).

A strict reading of the legislation therefore implies that the existing shareholder has failed the test of ER on that very last day. As such, prudent advisers have hitherto advised clients to model any dilution impact taking into account any option exercises that might occur on the day of sale where preservation of ER is a prime concern.

However, in what must be stressed is informal guidance, HMRC have responded to the Chartered Institute of Tax (CIOT) who raised queries about this and consequently, the CIOT issued summary guidance to its members which states that HMRC would, in such circumstances, still treat the 5% shareholder as eligible for ER despite on the day sale dilution provided they had met all other conditions.

How RM2 can help you

RM2 can support you and your business in connection with employee and director shares at all the stages of growth. We can help start-ups to expand, entrepreneurial businesses to make acquisitions, growing companies to take on new investors, companies to float and shareholders to sell their successful businesses. In particular, we offer a share scheme Health Check service to identify any areas needing rectification or optimisation.

For further information contact Liz Hunter, Liam Liddy or Fiona Bell at RM2.