Delve into the intricate world of M&A liability allocation with our latest blog post. Explore how California law impacts buyer responsibility in asset acquisitions and learn crucial lessons from landmark legal cases. Essential reading for entrepreneurs, CEOs, and industry professionals seeking to navigate the complexities of mergers and acquisitions.
M&A Stories
April 20, 2018
In the realm of mergers and acquisitions, the nuances of liability allocation can often prove decisive. Understanding the boundaries of responsibility, particularly for buyers of company assets, is essential terrain for entrepreneurs, CEOs, and a spectrum of industry professionals.
A pivotal distinction emerges between asset acquisitions and stock purchases: in the former, buyers typically inherit only the liabilities explicitly assumed in the purchase agreement. This stands in stark contrast to the latter scenario, where buyers absorb the entirety of a corporate entity, along with its attendant obligations.
However, within the legal landscape of California, a notable exception complicates this delineation. The landmark case of Ray v. Alad Corp. (1977) introduced what practitioners term the “product-line exception.” This doctrine stipulates that buyers of manufacturing assets may be held liable for injuries stemming from defective products produced and sold by the seller pre-acquisition.
Recently, a noteworthy case shed light on another facet of buyer liability in asset acquisitions, particularly concerning service-oriented companies. The 1999 California Court of Appeals ruling in Monarch Bay II v. Professional Service Industries Inc. provides a pertinent narrative.
In this case, the transaction involved the purchase of assets from a soil engineering firm. The buyer, henceforth referred to as Buyer, acquired the assets and goodwill of the seller, herein referred to as Seller. Notably, Buyer assumed Seller’s equipment, leases, and even retained key personnel, including principal geotechnical professionals.
However, a subsequent event cast a shadow over this transaction. Damage to a luxury apartment complex, stemming from geological issues, prompted legal action against parties involved in the project’s development. Buyer found itself implicated as Seller’s successor, invoking the precedent set by Ray v. Alad Corp.
Yet, the California Court of Appeals, in a pivotal decision, declined to extend the product-line exception to cases of seller negligence. Citing the intent of the Ray ruling and the unique circumstances of that case, the court affirmed that buyers of service companies are generally insulated from liability for seller negligence, absent explicit assumption in the purchase agreement.
This ruling underscores a fundamental principle: in California, buyer liability in asset acquisitions is generally contingent upon the delineations set forth in the purchase agreement. Unless expressly assumed, buyers are generally shielded from the negligence of the seller.
In navigating the complex terrain of mergers and acquisitions, this case serves as a beacon, illuminating the contours of buyer liability. For entrepreneurs, CFOs, legal practitioners, and a myriad of industry stakeholders, understanding these principles is paramount in safeguarding against unforeseen liabilities.
Case References: This California Court of Appeals case can be found at: https://caselaw.findlaw.com/ca-court-of-appeal/1223778.html
By John McCauley: I help people start, grow, buy and sell their businesses.
Email: jmccauley@mk-law.com
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Check out my book: Buying Assets of a Small Business: Problems Taken From Recent Legal Battles
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