How Should a Government Contractor Prepare the Company for Sale?

October 28, 2016

Practice Area: Business & Corporate Law

Whether you have decided to sell your company or have just begun considering the possibility, you will want to make the most out of your market potential. The preparation you undertake before the sale will help you maximize this unique opportunity, and to a large extent, determine your financial and professional future. 

To put your business in the strongest position for sale, it is crucial that you prepare a strong business exit strategy. This plan should include your reasons for sale, which will shape the way you present your company to the buyer. Obtaining a professional financial valuation of your business is also important – buyers will be drawn to a business with the right price tag. Good preparation should involve seller-side due diligence as well, which will prepare you and your business for questions from the discerning buyer. Please read our recently-published blog for more on the importance of seller-side due diligence for more.

As a government contractor, your preparation will involve additional considerations. Here are three critical issues that will likely affect your sale: 

1. What is your market?

For government contractors, the pool of possible buyers and the potential terms of sale will be shaped by your portfolio of contracts. What contracts are underway, and what is their timeline? What proposals have been submitted and are pending? A buyer will be interested in your backlog–specifically, the dollar amount allocated to your contract, and over what period of time. Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) multiples over various industries will be a useful measure for the buyer. These are crucial deal features for any buyer interested in taking over your business when your business includes government contracts. 

If the buyer is a non-U.S. entity, an additional important consideration will be whether the sale would result in your company being deemed an inverted domestic corporation–and no longer eligible for any future government contracts–or whether the structure should include a U.S. board of directors as part of a mitigation plan to permit the continuation of your company’s facility clearance.

2. Now that you have found a buyer, what type of transaction is right? 

As you and your buyer will know, the federal government is a uniquely valuable client to have on your roster. However, the federal government is a unique client in other ways, too. Significantly, the Anti-Assignment Act under U.S. Law (41 U.S.C. 6305) prohibits the “sale” or transfer of government contracts from your company to a third party, i.e. to an entity other than the company that was originally awarded the contract.

So how can you sell your business when you are a government contractor? You can decide between these two routes: an asset acquisition and a stock purchase.

The Asset Purchase Route

When you have an existing contract with the government, the government may permit a third party (i.e. the buyer) to take over your company’s government contract when the buyer’s interest in the contract arises out of the transfer of:

  • All the contractor’s assets; or
  • The entire portion of the assets involved in performing the contract. Examples of such transactions include, but are not limited to:
    • Sale of these assets with a provision for assuming liabilities;
    • Transfer of these assets incident to a merger or corporate consolidation; and
    • Incorporation of a proprietorship or partnership, or formation of a partnership.

In an asset acquisition scenario (number 1 above), the government must determine whether the transfer of government contracts is in the government’s interest, and also whether to approve the transfer, generally through a novation agreement. The novation is a three-party agreement between you, the buyer and the government. The novation will be accompanied by a FAR-specified document package, and your company remains a legal party to the government contract until novation is approved. To obtain governmental approval, you and your buyer will demonstrate that either the buyer is acquiring all of the assets of the company, or all of the assets of the company that are necessary to the performance of the contracts being acquired. 

The Stock Purchase Route

When a buyer purchases all of your company’s stock, the corporation continues to exist with assets and liabilities–but with new stockholders. A novation agreement is not required by U.S. law when there is a change in the ownership of as result of a stock purchase. There is no legal change in the contracting party. 

3. Do your government contracts include classified or confidential information?

A third important consideration is whether any of your company’s contracts include classified or confidential information. A government contract will often include provisions related to classified or confidential information and it is critical that you remain in compliance throughout the sale.

Government contracts can also create unique challenges for the buyers if they are unable to perform due diligence on the actual contracts without appropriately-cleared employees. Your preparation as seller is key. The government is a client that may require you to obtain permission before the details of contracts are shared with a third party such as a buyer.

When the opportunity to sell presents itself, you will want to be ready with a strong business exit strategy featuring valuation and due diligence. You will want to know your market and your potential to maximize value. To mitigate risk, you will want to know your options and your commitments relating to confidentiality. The earlier you make these preparations, the more likely you will be to complete a successful sale that ensures your financial and professional future.

For more information, or for assistance and advice in selling your business, please contact Michael de Gennaro, Kimi Murakami, or Dana Livne at PilieroMazza PLLC.

ABOUT THE AUTHOR: Dana Livne is an associate with PilieroMazza in the Business and Corporate Group. She may be reached at dlivne@pilieromazza.com.

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