Successor Liability Article – Business Law
This article addresses potential liability of a successor business resulting from the purchase of a business under the Colorado Business Corporation Act.
The purchase of a corporation can be structured as a merger, stock sale, or asset sale. Generally, Buyers prefer to buy assets, whereas Sellers prefer to sell stock. The primary reason for this has to do with allocation of preexisting liabilities. In an asset sale, the Acquirer generally assumes the Seller’s business assets while leaving behind its liabilities. However in a stock sale the Buyer takes the Seller’s assets and liabilities.
A stock sale is relatively straightforward: a Seller exchanges its stock certificates for cash or other consideration. The Seller retains all of its assets and liabilities; only the identity of its shareholders has changed. Under Colorado law, mergers generally are the equivalent of stock sales resulting in the Buyer assuming all assets as well as liabilities.
Asset sales are more complicated than mergers or stock sales. Any asset or liability reflected in an agreement with a third party—such as customer and vendor contracts or real property leases—must be “assigned” to the Buyer. The assignment of these contracts often requires the express consent of the other party to the contract.
In Ruiz v. ExCello Corporation, 653 P.2d 415 (Colo. App. 1982) the Court stated that “where one company sells or otherwise transfers its assets to another company, the latter is not liable for the debts and liabilities of the transferor.” However, various exceptions have evolved to this general principle.
A Buyer may be held liable for a Seller’s debts or obligations under six exceptions: (1) express or implied assumption of the Seller’s liabilities, (2) merger or consolidation, (3) acquirer is a “mere continuation” of the Seller, (4) fraud, (5) failure to warn, and, (6) distribution of products out of state. Due to constraints in length, this article is limited to the first four exceptions.
Express or Implied Assumption of Seller’s Liabilities: If the language of the purchase agreement allocates liabilities, this issue will be addressed under rules of contract interpretation. However, if the agreement is vague or silent with respect to risk allocation, the parties’ conduct will determine whether a Buyer impliedly agreed to assume the liability of the corporation. A determination of implied agreement turns on intent and remains a question of fact.
Merger or Consolidation: A Buyer may be held liable for the Seller’s liabilities if the asset sale is ruled to be a merger or consolidation. This exception is premised in that new entities remain liable for the obligations of their respective predecessors of which they are comprised. Whether a transaction amounts to a merger or consolidation remains a question of fact.
Mere Continuation of Seller: This exception is a variation to the merger or consolidation exception. A continuation, or reorganization of an existing corporation, may be found to exist where there is a continuation of directors and management, shareholder interest, and may involve inadequate consideration.
Fraud: Successor liability will be imputed to the Buyer if the transaction was entered into fraudulently. This exception is related to fraudulent conveyances and codified under the Uniform Fraudulent Conveyance Act in Colorado.
Please contact Schunk & Associates for legal issues involving successor liability resulting from a merger, asset sale or stock sale.