What Happens to Existing Business Contracts After a Business is Acquired?

The new owner can assume or reject existing contracts when a business sells. If they choose to accept a contract, they become legally bound to fulfill the terms of the agreement, just as the previous owner was. If they decide to reject a contract, the other party can typically terminate it and seek compensation for any damages they have incurred. The terms of the agreement may specify what happens in the event of a change in ownership.

Assignable Contracts Explained

Most contracts are assignable, meaning the rights and obligations under them can be freely transferred to another party. The party which sells the business may find itself in a legal soup if the buyer fails to fulfill their contractual obligations. The seller can seek compensation for loss or damage caused by the breach of contract.

In most cases, the original contract includes a clause that states whether it is assignable. The counterparty must abide by the contract terms if a contract is assignable. However, they still maintain their rights under the agreement and can sue the new party for breach of contract.

Legislation and public policy can restrict the assignability of some contracts. Contracts that are personal and those that involve carrying out tasks that require skills and can be performed by the promisor themselves are not assignable. If there are three parties to a contract, assigning it should not increase the burden on the third party.

A contract may include an anti-assignable clause that prohibits the parties from assigning it to a new party. However, some contracts can be given only under certain conditions. The clause explaining the conditions under which the contract can be assigned to a new party should be in agreement at the time of the sale to be enforceable.

Principles That Dictate How a Contract is Transferred

Two basic principles dictate how a contract is transferred if another business acquires one party. These principles are novation and assignment. Novation replaces one of the parties to an agreement, and it can occur only if all parties agree.

How Does Novation Work?

Suppose A and B are the original parties to a contract. B sells their business to C. If all the parties agree, A and B can sign a novation agreement which states that party B has been replaced by party C. Once both parties sign the contract, party C assumes the rights and obligations of party B.

The assignment involves transferring some contractual rights and duties to a new party. Once they have assigned a contractual right, the assignor can’t enjoy it. Setting contractual responsibilities and obligations eliminates the assignor’s performance obligations toward the non-assigning party.

The Johnston & Associates Law team consists of seasoned business lawyers in Santa Rosa. We are committed to helping our clients navigate the ever-changing legal landscape. To make an appointment, call (707)545-6542.