Opinion: Selling a business? Don't forget the employee entitlements!

by HCA11 May 2015
Walter MacCallum outlines how to avoid the costly impact that neglecting employee entitlements can have on any business sale, merger or acquisition.

You’ve finally made the decision to sell your business, either because you need to, want to get out or an offer comes along that is simply too good to refuse. To start things off, you negotiate the principal terms of the deal, dealing with price, inventory and stock, intellectual property, business names, debts and liabilities and the lease of the trading premises.
Then you have some discussions about which employees may go across when the transfer of business happens, but leave the detail of each employee’s entitlements to be dealt with later on down the track, often assuming that the purchaser will take on entitlements for transferring employees.
It’s important to remember that employee entitlements can be a very costly part of any business sale, with details that are often not properly understood until negotiations over a sale are well underway and the parties are either bound on principal terms, or, if they are not, positions have been pegged out.
Take Melbourne’s Betta Foods, for example. Known for their excellent liquorice, the company collapsed as a going concern at the start of this year and was sold to a confectionary manufacturer in Sydney. Theirs is a timely example of how expensive employee entitlements can be. With 174 permanent and casual employees working at Betta Foods making jellies, marshmallows and chocolates, the total liability was estimated to be about half the company’s $5 million to $6 million debt.
The negotiations for the sale of a business involve a careful review of all the costs involved, not just from the purchaser’s point of view, but from the vendor’s also. Often the parties will agree on the principal terms and sign what is called a “Heads of Agreement” or a “Term Sheet”. Though not widely known, there is a significant body of case law over whether, or not, and when these documents are binding and the parties need to be well aware that such documents, while they set out the principal terms, may only be in one party’s mind, a road map to more formal documentation to be entered into later. 
Even if such documents are not intended to be binding upon the parties and are effectively “agreements to agree”, both vendor and purchaser need to be aware of any employee entitlements that may be payable either by the vendor or the purchaser as a consequence of the transfer the business. Often the parties focus only on dollars at this initial point in time, but are ignorant (or poorly advised) of the law relating to employee entitlements on transfer of business and do not appreciate that there can be, and often is, a significant dollar value associated with the transfer of employees.
A lot can change between the time an in-principal agreement is signed and, the final negotiated agreement. And, regardless of whether or not the initial in-principal arrangement is binding on the parties, the introduction of terms relating to the transfer of employees, which carry with it significant dollar amounts, can significantly move the goal posts on any business sale/purchase transaction and put it at risk. 
The last 10 years has seen significant changes in workplace law and it is important to remember that employee entitlements can be a complicated business at the best of times, more so when you are buying or selling a business. 
Take long service leave for example. Records are often not properly kept and the detail on just what has accrued when an employee has been part of an organisation for 10 or more years, is often not there. Getting your employee records up to date and accurate before you sell a business is critical.  
So what are the critical things to remember when buying or selling a business? 
Firstly, make sure the employee records are up to date and accurate. Do not assume that the current legislation provides the answers for you. It needs to be addressed in the sale/purchase documents.
A lot of buyers and sellers of businesses, particularly small businesses, assume that under the Fair Work Act, the deeming provision of continuous service with respect to an employee’s entitlements when transferred from the old employer to the new employer automatically means that all the accrued entitlements transfer across to the new employer/purchaser. This is not the case.
The Fair Work Act provides for a transfer of employment in relation to a national system employee, the period of service with the first employer counts for service with the second employer. There will be a transfer of employment if the employee is a transferring employee in relation to a transfer of business from the first employer (vendor) to the second employer (purchaser) if the first employer and the second employer are not associated entities or, if they are associated entities, the deeming provision of transfer of employment occurs where the employee is employed within 3 months after termination.
Does this means that, as a vendor I won’t be liable to pay any entitlements for transferring employees? 
No. There are two critical exceptions to this deeming provision- for accrued annual leave and redundancy. Under the Fair Work Act the deeming provision, does not apply for annual leave and redundancy if the second employer (purchaser) “decides not to recognise the employee’s service with the first employer” for the purposes of annual leave and/or redundancy.
And, while the deeming provision applies respect to the transfer of obligations to pay long service leave from the vendor to the purchaser, this does not automatically occur with respect to unpaid accrued annual leave and/or redundancy. 
It is important to remember that usually when there is a transfer of business there is a termination of employment with the old employer and a new beginning of employment with the new employer – the deeming provision in the Fair Work Act doesn’t change this.
The effect of this is that usual provisions relating to the employer’s (i.e vendor’s) obligations to pay redundancy and notice of termination apply. If nothing is said in the sale/purchase agreement, the vendor employer may be left with a significant redundancy bill to pay.
What this highlights is how important it is to understand that the Fair Work Act does not do the job for vendors and purchasers of businesses.  It demonstrates how important it is for all the parties involved in the sale of a business to have a proper sense of what is going on, and what will happen to the employees once the sale takes effect and new owners take over.
No vendor wants to be left with the its sale price significantly reduced by having to pay out employee entitlements, which could have been assumed by the new employer, but were not due to lack of proper consideration and documentation, not just in the final deal, but vitally in the initial in-principal arrangements.

About the author
Walter MacCallum is a Director with Aitken Lawyers