It is generally a requirement that the buyer notifies the Seller’s creditors of the acquisition before closing so that the creditors can protect their interest in the assets. Bulk sale laws apply to large transfers of substantial assets that are not made in the ordinary course of business.
Bulk sales are defined as the sale of all or nearly all of an organization’s inventory to a single purchaser. In these situations, bulk sales are common:
- Liquidating a business
- There is a transfer of ownership of a business
Bulk sales are characterized by the fact that goods come from inventory rather than production or service lines.
What Are the Requirements for a Bulk Sale?
Commercial and contract laws govern bulk sales very strictly. It is common for a business or Seller making a bulk sale to be in debt to one or more creditors. They may be conducting bulk sales to satisfy their debts to creditors.
When a bulk sale occurs, the Seller must provide the buyer with an affidavit that outlines the Seller’s secured and unsecured creditors. This is to protect the buyer from creditors who may have claims against the Seller. If the buyer fails to obtain such an affidavit, the creditors may be able to declare the sale null and take possession of the goods sold.
What Laws Govern Bulk Sales?
Article 6 of the Uniform Commercial Code (UCC) governs bulk sales. Article 6 has been adopted by all states, at least in part. For a bulk sale to be valid, the Seller must comply with several statutory requirements in Article 6.
One of the most important requirements of Article 6 is that a seller must notify all of its creditors when a bulk sale is about to be finalized. The Seller may suffer several unwanted consequences if it fails to notify its creditors. The Seller’s creditors may be able to enforce their credit claims on the property, which is already in the buyer’s hands.
What Parties Can Be Held Liable in a Bulk Sale?
If the Seller violates Article 6 of the UCC, they may be held liable. Under contract law, a bulk sale can be declared void if Article 6 is violated or not followed.
Furthermore, the buyer or purchaser in a bulk sale may sometimes be liable for violations. The buyer may be held liable if, for example, they had knowledge that the Seller did not comply with Article 6.
A creditor may be able to take possession of transferred goods in order to satisfy a seller’s debt, even if the goods are already in the buyer’s hands. If the buyer did not pay a reasonable value for the goods, creditors might also reach the buyer’s goods.
What Is the Middle Ground?
Because bulk sales laws can be burdensome, parties typically agree to waive compliance with those regulations, and the seller agrees to take accountability for any liabilities arising from the parties’ noncompliance.
The provision plays a minimal role in limiting the buyer’s transaction risk, but its primary purpose is to accelerate the acquisition process and limit transaction costs.
Buyer Preference
Since the default rule automatically transfers liability to the buyer along with the transfer of assets, the buyer wants to explicitly include the Seller’s assumption of liabilities in this provision. In contrast to simply relying on the Seller’s covenant, an aggressive Buyer may require indemnification for claims related to bulk sales laws.
A Buyer may also require the Seller to litigate any claims brought by creditors under bulk sales laws. A conservative Buyer might also comply with bulk sales laws if it is uncomfortable with the Seller’s level of debt or with a certain creditor.
What Is Seller Preference?
There is a good chance that the Seller will seek to limit this provision to a waiver of compliance while remaining silent on the assumption of liability related to bulk sales. In that case, the Seller might not object to granting the Buyer indemnification rights, but it would most likely resist any requirement to litigate claims brought by creditors.
Complying with bulk sales regulations may hinge on the timeline of the transaction (i.e., if it delays closing), but the more important element is likely to be how much additional effort it creates for the seller, who may already be juggling running the business with selling it.
Differences in the Structure of a Stock Sale
A stock sale does not include this provision since there is no transfer of assets between entities; the buyer simply stands in the Seller’s shoes regarding Business-Creditor relationships.
Identifying Illegal Bulk Sales
A company that is going out of business and selling its inventory at an auction with multiple buyers at a fair price is not engaging in a fraudulent bulk sale. The auction isn’t part of the normal course of business, but it is public, the assets can be counted, and the proceeds can be used in the bankruptcy process.
In most jurisdictions, a business must notify creditors of an impending bulk sale by filing a statement or affidavit. Bulk sales must be registered with the state so that sales taxes can be collected. In New York, for example, the purchaser must notify the state of a proposed bulk sale by completing a form reporting “Notification of Sale, Transfer, or Assignment in Bulk.”
Illegal bulk sales include elements such as:
- A sale of assets outside of the normal course of business
- The sale is to one party only
- Payments are not adequate
- In an effort to defraud, the sale is made in secret
Impact of Bulk Sales on Credit
Retail businesses, in particular, often operate on credit. They buy inventory on credit in order to sell it for a profit before the credit terms are due. Bulk sales to avoid creditors cause two problems:
- The assets have not yet been paid for, so that particular creditor does not get paid
- Assets are gone, so they cannot be sold to pay off creditors
What Are Fraudulent Transfers?
Bulk sales are similar to fraudulent transfers. In bankruptcy, these transfers are fraudulent because they attempt to defraud creditors by transferring assets from one business to another or selling them for less than what they are worth. In these situations, assets are transferred to a related company or another company owned by the same owner. Creditors are deprived of the proceeds from the sale of these assets.
Complying with Bulk Sales Laws
Don’t make any transfers that could be construed as bulk sales without first consulting your attorney. If your business is in bankruptcy proceedings, check with your attorney or trustee (if you have one) before making any decisions.
Do I Need a Lawyer for a Legal Dispute over Bulk Sales?
Selling in bulk is a common and often necessary part of running a business. However, bulk sales must be conducted according to the UCC or state laws. Failure to follow contract principles can have dramatic consequences for both the Seller and the buyer.
As a result, it may be necessary to consult with a lawyer if you are involved in a bulk sale. A commercial attorney can draft and review a contract that fully complies with the laws pertaining to bulk sales.
