Latest / The Acquisition Talk with Fexingo: Mergers, Buyouts, and Business Sales for Operators / The M&A Deal Structure Trap That Cost a Seller 18 Million
Transcript
- Lucas: So there's a story that's been making the rounds in the M&A advisory world lately, and it's a perfect example of how a single structural choice can cost a seller eighteen million dollars. It's not a story about a hidden liability or a failed earnout, it's about something far more basic: the difference between a stock deal and an asset deal. Luna: That's a big number. Eighteen million. And I'm guessing it's not the purchase price that was the problem, it's what happened after the check cleared. Lucas: Exactly. The company was a mid-sized manufacturer, about 140 employees, making precision components for industrial equipment. Revenue was around 45 million, EBITDA was about 8 million, and in early 2026 the founder decided it was time to sell. He was seventy-one, the kids weren't interested, and he'd been approached by a strategic buyer who wanted to consolidate capacity. Luna: And that buyer came in with an offer that looked great on the surface. Lucas: They offered 60 million, which was a solid multiple given the growth profile. The founder was thrilled. But here's where it gets interesting: the buyer's initial proposal was structured as a stock purchase. They wanted to buy the equity of the company, lock, stock, and barrel. And the founder's advisors, who were mostly a corporate lawyer and his accountant, didn't push back. Luna: Why would they? A stock deal is simpler, you're selling the whole entity, no need to renegotiate contracts or transfer assets one by one. Lucas: Right, but it's also a tax trap for sellers. You see, when you sell stock, the entire gain is taxed as capital gains. For this founder, that meant a 20 percent federal rate, plus the 3.8 percent net investment income tax, plus state taxes. All in, he was looking at roughly 28 percent on his gain. Luna: That doesn't sound terrible, actually. I mean, capital gains rates are lower than ordinary income, so it's not the worst outcome. Lucas: But that's the thing, Luna. If he had structured it as an asset sale, he could have used a Section 338 h 10 election. That's a provision that lets the buyer treat the stock purchase as an asset purchase for tax purposes, while the seller still gets capital gains treatment. The buyer gets a step-up in basis, which means they can depreciate the assets and reduce their future taxes. And the seller, well, they get the same capital gains rate, so it's a win-win. Luna: Wait, so why would anyone do a straight stock deal then? If the seller can get the same rate and the buyer gets a tax benefit, it seems like the 338 h 10 is the obvious choice. Lucas: Because it's not available in every transaction. The election requires that the buyer be a corporation, and that they acquire at least 80 percent of the target's stock. In this case, the buyer was a corporation, so it was available. But the founder's advisors didn't bring it up. They just accepted the buyer's initial structure without negotiation. Luna: And that cost him eighteen million? How exactly? Lucas: Well, let's do the math. The founder's basis in the stock was probably near zero, so the entire 60 million was gain. At a 28 percent rate, that's about 16.8 million in taxes. Now, if they had done an asset sale with a 338 h 10 election, the buyer would have been able to step up the basis of the equipment, the building, even the goodwill. That step-up is worth maybe 15 to 20 percent of the purchase price in net present value terms to the buyer, depending on their tax situation. Luna: So the buyer was willing to pay more for that benefit, kind of like a premium for the tax shield. Lucas: Exactly. In a competitive process, buyers often share that tax benefit with the seller by increasing the purchase price. In this case, the buyer had initially offered 60 million for the stock. But if the deal had been structured as an asset sale with a 338 election, the buyer would have been willing to pay maybe 63 million, because they'd get an additional 3 million in tax savings. The founder left three million on the table, but that's just the beginning. Luna: There's more? Lucas: Yes. In an asset sale, certain assets can be classified as inventory or accounts receivable, and those are taxed at ordinary income rates, which for this founder could have been 37 percent. So the structure actually has to be carefully planned to minimize that. But the bigger issue here is that the founder didn't even know he could negotiate the structure. He just signed on the dotted line, and the buyer walked away with a tax benefit worth millions, but didn't share it. Luna: So the eighteen million is the combination of the lower purchase price he could have gotten, plus the fact that he's now paying 28 percent on the full amount when he could have paid the same rate anyway, but with a higher price? That's not exactly eighteen million. Lucas: Right, let me be more precise. The eighteen million is the difference between what he actually netted and what he could have netted with a better structure. Let's break it down. He sold for 60 million, paid 16.8 million in taxes, so he netted 43.2 million. If he had done a 338 h 10 election and negotiated the price up to 63 million, his taxes would be about 17.6 million, leaving him with 45.4 million. That's 2.2 million more, not eighteen. Luna: Okay, so where does the eighteen come from? I'm not seeing it. Lucas: Well, there's another twist. The founder had a non-compete agreement with the buyer, and he was going to stay on as a consultant for two years. That consulting fee was structured as ordinary income, so it was taxed at 37 percent. But if the deal had been structured differently, part of that consulting fee could have been allocated to the sale of goodwill, which is capital gains. The founder left another 1.5 million in taxes on the table there. Luna: Still not eighteen million. I'm a bit lost. Lucas: Hold on. The real kicker is that the buyer used the stock structure to avoid triggering a change of control provision in a key customer contract. That provision allowed the customer to terminate the contract if there was a change of control, and the buyer didn't want to renegotiate. So they insisted on the stock deal, even though they knew about the tax implications. The founder's advisors didn't push back, and the buyer got a deal that was worth far more than 60 million to them, but they didn't share that value. Luna: So the eighteen million isn't just about tax. It's about the buyer's willingness to pay more because they were getting a strategic benefit. Lucas: Exactly. The buyer knew that the customer contract was worth at least 15 million in future revenue, and by avoiding the change of control trigger, they preserved that value. If the founder had understood the structure, he could have demanded a premium for that, or at least a breakup fee if the customer terminated. The combination of the tax inefficiency, the under-negotiated price, and the lost strategic premium adds up to about eighteen million. Luna: That's a painful story. And it's not like the founder was naive, he had a lawyer and an accountant. But they just didn't have the M&A expertise to see the bigger picture. Lucas: And that's the lesson. When you're selling a business, you need advisors who do this every day. A general corporate lawyer might be great at drafting contracts, but they may not understand the tax and strategic nuances of deal structure. In this case, the founder's accountant was a local CPA who didn't specialise in M&A. He'd never even heard of a 338 h 10 election. Luna: That's a common problem, I bet. Small business owners rely on their trusted advisors, but those advisors might not have the depth of experience needed for a one-time transaction. Lucas: Right. And it's not just about the election. There are also things like the allocation of purchase price among assets, which can dramatically affect the seller's tax bill. In an asset sale, you want to allocate more to goodwill and less to inventory or accounts receivable, because goodwill is taxed at capital gains rates, while inventory is ordinary income. The founder's advisors didn't even think about that. Luna: So what should a seller do before they even start negotiating? Is there a due diligence process for the tax side? Lucas: Absolutely. You should have a tax advisor who specialises in M&A review the proposed structure before you sign anything. They can run the numbers and show you the after-tax proceeds under different scenarios. And you should never accept the buyer's initial structure as the only option. Everything is negotiable, including the form of the transaction. Luna: So if you're a seller, you can ask for a 338 h 10 election even if the buyer initially proposes a stock deal? Lucas: You can, and you should. The buyer may push back because they have their own reasons, like the customer contract in this story. But you can use that as leverage to get a higher price or other concessions. The key is to understand what the structure means to both sides, and negotiate accordingly. Luna: That makes sense. It's like any other deal point, you need to know your BATNA and what the other side values. Lucas: Exactly. And that's why I love this podcast. It's all about sharing these real-world examples so that business owners don't make the same mistakes. The founder in this story, he still made a good exit, but he left eighteen million on the table. And that's a hard lesson to learn. Luna: If you're a business owner thinking about selling, this is a must-listen. It could save you a fortune. Lucas: And that brings up a thought. You know, this show is ad-free, and it's made possible by listeners who appreciate these insights. If this episode has helped you think about your own exit strategy, and you want to support the work, you can buy us a coffee at buy me a coffee dot com slash fexingo. It's the smallest ask, but it keeps the lights on. Luna: Yeah, every little bit helps, and it's a great way to say thanks if you've gotten value from the show. Lucas: Anyway, back to the story. The founder's mistake wasn't just about the tax election. It was about not understanding the strategic value of the deal to the buyer. In any M&A transaction, the buyer knows what they're getting. They've done their homework. The seller needs to do theirs. Luna: And that means getting the right team in place. A transaction like this is not the time to save money on advisory fees. Lucas: Absolutely. You're making a decision that could affect your retirement, your family, your employees. You need someone who's done this before, who knows the pitfalls and the opportunities. The eighteen million that was lost in this deal would have paid for the best advisors in the country many times over. Luna: So what's the one takeaway you want listeners to remember? If they're selling a business, what should they do? Lucas: Ask about the tax structure before you get to the letter of intent. Sit down with a tax advisor who specialises in M&A, and run the numbers on both a stock sale and an asset sale, and see what the after-tax proceeds look like. And don't be afraid to negotiate the structure as part of the deal. It's just as important as the price. Luna: And if the buyer insists on a stock deal, you now know you can push for a 338 h 10 election or a higher price to compensate. Lucas: Exactly. It's your business, your life's work, and you deserve to get the most out of it. The structure is one of the biggest levers you have, and it's often overlooked. Luna: Well, I think that's a great place to leave it. Thanks for the breakdown, Lucas. Lucas: Thanks, Luna. Until next time, keep your eyes open, and your advisors sharper.