Share Purchase Agreement: a practical guide

When selling shares in companies, the Share Purchase Agreement (SPA) plays a crucial role. This comprehensive contract governs all aspects of the transfer of shares between seller and buyer, from the purchase price and payment terms to warranties and indemnities. Whether it concerns a full acquisition, a majority stake, or a minority interest, a carefully drafted SPA protects the interests of both parties. It ensures a structured transaction and reduces the risk of unpleasant surprises afterwards. Drafting an SPA requires legal expertise, as the document contains complex provisions regarding value, purchase price calculation, due diligence, closing conditions, warranties, and post-closing obligations, all of which are decisive for the success of the transaction.

The SPA is the final stage of several phases of negotiations, beginning with exploratory talks, a deal outline recorded in a (often non-binding) letter of intent, and usually follows an extensive due diligence investigation. The SPA allocates certain risks between seller and buyer, so both parties know exactly where they stand at the actual transfer of shares in the target company.

In this article, we set out the key points of the SPA and briefly discuss the due diligence investigation. After reading this article, you will understand purchase price mechanisms, the system of warranties and indemnities, and the important obligations of investigation and disclosure relevant to the SPA. Finally, other important provisions are briefly discussed.

Purchase price mechanism: locked box or closing accounts

In the transfer of a business, it is common to work with an effective date, for example, 1 January, on which the economic transfer takes place, while the legal transfer is completed later. Delivery thus occurs retroactively. This construction raises the question of how to deal with events occurring between the effective date and the actual delivery date. Since the target company remains operational during the transfer, its value may fluctuate. In addition to the question of the sale price, the mechanisms for determining the final purchase price are crucial. There are two main methods: the locked box mechanism and the closing accounts mechanism. The key difference is whether the purchase price is determined before the transfer (locked box) or can be adjusted afterwards based on the financial figures at the date of transfer (closing accounts).

With a locked box, parties agree on an effective date prior to the actual delivery date of the shares, often the end of the previous quarter or financial year. The financial position of the company on that effective date is recorded, for example, the equity according to the balance sheet as of 31 December 2024. From the effective date, buyer and seller consider the target company as economically transferred to the buyer: all results (profit or loss) from that moment are for the buyer, even though the legal transfer takes place later. The purchase price is determined based on that historical balance sheet and is fixed on the delivery date. No recalculation takes place afterwards. This provides the seller with a high degree of price certainty. The seller knows exactly what amount will be received upon transfer. For the buyer, it means benefiting economically from the effective date: if the target company makes a profit in the interim, that profit accrues to the buyer without additional payment (unless an interest compensation is agreed, see below).

Because there is a period between the effective date and the delivery date, the buyer will want to make arrangements to prevent value from ‘leaking’ from the target company during that period. Without such arrangements, the seller could benefit by, for example, paying out extra dividends. These arrangements are included in a leakage provision, which means the seller guarantees that no unauthorized withdrawals or distributions have been made to themselves or affiliated parties after the effective date. Exceptions are usually included, such as payment of normal salary or current management fees. If it turns out that the seller has withdrawn money in violation of the Leakage provision, the seller must repay this to the buyer (usually deducted euro-for-euro from the purchase price).

Because the final payment of the purchase price under the locked box mechanism often takes place months after the effective date, while the financial result from the effective date accrues to the buyer, an interest compensation is sometimes agreed. Usually, the seller receives interest on the purchase price from the effective date to the delivery date. This compensates for the fact that the buyer is already the economic owner during that period (in retrospect) and any profits benefit the buyer, while the seller has kept the company running until the delivery date.

The closing accounts mechanism takes the opposite approach. Here, the delivery date is also the economic transfer date. There is no interim period in which the buyer bears risk while the seller is still the owner: the seller bears all risks until the actual transfer. On the delivery date, the buyer pays a provisional purchase price, usually based on estimates or a provisional balance sheet as of that day. Afterwards, a final balance sheet is drawn up as of the delivery date (the closing accounts). This may take several weeks. Based on these final figures, the definitive purchase price is determined. If this differs from the provisional price, a settlement follows: if the target company has less cash or more debt than expected, the buyer receives money back. If the target company has more liquid assets or higher working capital, the seller receives an additional payment. In effect, the final value of the target company is settled on the delivery date once all facts are known.

Under closing accounts, the period until the delivery date is less sensitive, as all profits and losses until transfer are for the seller. The seller remains fully responsible for financial developments until the day of delivery. For example, if the seller pays themselves a bonus just before closing, this reduces the cash in the company and thus the final price – they ultimately pay that bonus themselves. A Leakage provision is therefore usually unnecessary with closing accounts, as the mechanism automatically corrects withdrawals in the final settlement (although the buyer will guard against extreme behaviour).

In practice, closing accounts are mainly used when the financial position can fluctuate significantly in the short term. If the target company is highly seasonal or undergoing a special transaction, closing accounts may be fairer. Also, in acquisitions of parts of larger companies (carve-outs), where a clear separate balance sheet must be drawn up, closing accounts are common. Some (international) buyers prefer closing accounts in other cases as well, as they do not want to bear (liability) risk for events that occurred before they were owners. But if it is a stable company with reliable figures, the Dutch market often prefers locked box.

Warranties and indemnities: risk allocation & duties of purchaser and seller

In addition to the price, the SPA mainly regulates who bears which risks after the target company has been transferred. The instruments for this are warranties (garanties) and indemnities (vrijwaringen) provided by the seller to the buyer. Two important legal obligations also come into play: the seller’s duty of disclosure and the buyer’s duty of investigation. These obligations form the background against which warranties and indemnities are agreed. In this section, we first explain what warranties and indemnities are, and then how the duties of disclosure and investigation work in practice in a SPA.

What is the difference between warranties and indemnities?

Warranties in an SPA are contractual promises by the seller that certain matters are correct at the time of transfer and that the shares (and the company) have certain characteristics (or do not have them). Examples include statements such as: “The annual accounts give a true and fair view of the size and composition of the target company’s assets as at the end of 2024”, “the target company holds all necessary permits”, “there are no ongoing or threatened legal proceedings”, “all tax returns have been filed on time”. If it later turns out that such a warranty was incorrect, there is a breach. The buyer can hold the seller liable for the damage suffered because the warranty was not correct. Warranties usually cover unknown problems: matters neither party knew about (or only the seller may have known, but did not explicitly disclose). They give the buyer peace of mind that if there is a “skeleton in the closet”, the seller must compensate the resulting damage. In essence, warranties shift risks from buyer to seller.

Indemnities concern specific, known risks. Generally, these are facts or risks revealed during due diligence. Indemnity means the seller promises that if a flagged risk actually materializes, the costs will be borne by the seller. Indemnity is therefore targeted risk coverage. This differs from warranties, where it must first be shown that there is a breach of warranty and that damage has resulted. Indemnities are mainly important to cover deal-breaking risks: the buyer proceeds with the acquisition despite a known problem, because the seller promises to resolve the problem if it goes wrong.

In practice, warranties and indemnities complement each other. It is often agreed that for known issues, only the indemnity applies and no further rights exist – that is, these issues do not count as warranty breaches because they are already known and covered by the indemnity. For all other (hidden) matters, the buyer relies on the warranties.

Duty of disclosure and duty of investigation

When entering into an agreement, the seller has a duty to provide relevant information, and the buyer has a duty to conduct proper investigation. In principle, the duty of disclosure takes precedence: as seller, you must disclose important matters, especially if the buyer cannot easily find them. The buyer may also rely on the accuracy of the seller’s disclosures. However, the buyer must conduct investigation: if there are clear indications of a problem or risk, the buyer must investigate and ask follow-up questions. Something that is obviously present, but which the buyer failed to investigate, cannot later be claimed as a hidden defect.

The warranties attached as an annex to an SPA are often standardised. The warranties cover corporate law, financial, and commercial matters. They usually also include an information warranty, meaning the seller has shared all essential information. As seller, you should carefully review the warranties and consider whether anything might make a warranty incorrect. If so, this must be disclosed, sometimes in the form of a Disclosure Letter. The Disclosure Letter is an implementation of the seller’s duty of disclosure.

Whether a duty of disclosure existed for the seller depends on the circumstances of the case. The Dutch Supreme Court’s Hoog Catharijne judgment (Hoog Catharijne-arrest) established that the scope of the duty of disclosure may be limited by the fact that the buyer has had experts conduct a due diligence investigation.[1]

The purchaser’s duty of investigation is reflected in the due diligence investigation. The buyer then has the opportunity to request and examine various documents and ask follow-up questions. The due diligence investigation is discussed further below.

Due Diligence: the importance of a thorough investigation

Due diligence literally means ‘appropriate care’. It is a comprehensive investigation by the buyer into all aspects of the target company, including finances, contracts, legal issues, IT, and personnel. The purpose is twofold: (1) the buyer wants to confirm that the target company is truly worth the price and has no hidden defects, and (2) any risks that emerge can be discussed, resolved, or contractually addressed before the acquisition (for example, via an indemnity). Conducting due diligence is also an implementation of the buyer’s duty of investigation.

For a seller, it is important to record which documents have been shared with the buyer, so it can be proven what the buyer knew or could have known. This usually happens automatically when a digital data room is used.

An SPA will state that the buyer has had the opportunity to investigate the target company and has decided to proceed with the purchase of shares based on the results of the investigation.

Limitations of liability

A seller will want to limit liability for breach of warranty. Including certain limitations in an SPA is common. The limitations can take various forms. The most common is a maximum amount (cap) for liability. Often, a threshold amount is also included, meaning that if the damage is less than the threshold, the buyer cannot claim under the warranty. This prevents the buyer from making claims for every minor issue. By agreeing on a basket, the buyer can claim for many small damages that together exceed the threshold.

Generally, liability limitations do not apply to indemnities, as these concern a specific risk that buyer and seller have agreed remains fully with the seller (the party giving the indemnity).

Other provisions in a Share Purchase Agreement

The above components form the core of the SPA. In addition, other provisions will be included, such as conditions precedent (opschortende voorwaarden), delivery provisions, tax clauses, post-closing obligations, non-compete and non-solicitation clauses, and confidentiality clauses. Two of these provisions are explained below.

Post-closing obligations may require the seller to remain employed by the target company for a certain period after the delivery date, often to facilitate a smooth transition. In practice, it is common for an earn-out arrangement to be agreed as part of the purchase price. This incentivises the seller to maintain the target company’s performance. The buyer may also defer payment of part of the purchase price to a later date. Other post-closing obligations are also possible.

Non-compete and non-solicitation clauses are also relatively common to protect the buyer. The buyer wants to prevent the seller from starting a competing business and then persuading all customers and employees of the target company to switch.

Conclusion

The SPA can be a complex legal document. For both buyer and seller, it is important to engage a good advisor to conduct negotiations and achieve a favorable deal.

The experienced lawyers at INC. assist both buyers and sellers in acquisition processes. We think strategically, assist in drafting the letter of intent, conduct due diligence investigations, and prepare the SPA and related documents.

Contact INC. to discuss your specific case.

[1] Hoge Raad 22 december 1995, ECLI:NL:HR:1995:ZC1930 (Hoog Catharijne).