Covenants and Agreements
The first covenant given by seller is the promise that it will operate its business only in the “ordinary course” and “consistent with past practice” between signing the purchase agreement and closing. The covenant goes on at length about specific things that seller will and will not do during this period without the permission of buyer. The purpose of these sections is to make sure that no significant or unusual transactions are undertaken without buyer’s knowledge and consent.
Seller agrees to give the private equity firm and its representatives access to its books, records, facilities and employees between signing the purchase agreement and closing. This is often necessary to bring in lenders for the transaction and let them complete their due diligence and investigation of seller and its business.
Seller and its affiliates, including principal shareholders of seller, typically agree not to engage in the same business for up to three to five years, sometimes longer. This non-compete restriction will include owning any equity interest in any entity that is engaged in the same business being sold and otherwise participating in, managing, controlling, operating or financing any entity that is engaged in this business. The geographic territory of the restriction is generally limited to the area in which seller conducts the business as of the closing date. Also, seller and its affiliates are not allowed to solicit or hire employees of the business to work for them or solicit customers or suppliers to the business. Seller and its affiliates also agree not to use confidential information, such as trade secrets and customer list, of seller after the closing.
These non-compete and confidentiality covenants are very important to a private equity buyer, as seller and its affiliates would otherwise have the ability to set up an effective competing business immediately after the closing. Buyer is given rights to specifically enforce these provisions against any party that breaches them. It is also important to make these covenants assignable to any person the private equity firm may later sell the business.
Often, special covenants regarding trademarks and trade names are included in the purchase agreement, as seller may need to change its name or take other actions to ensure that buyer has the exclusive right to use the purchased trademarks and goodwill. Other times, special covenants regarding the employment of seller’s management team and work force will be included in the agreement.