TAS Tips: Lien Searches

By Steve Michaels
November, 2002

The following is an ongoing segment focusing on real-life transactions between buyers and sellers in the industry.  Here are some examples of what can happen when buying or selling a business without doing a proper lien search.

Scenario: This scenario includes several incidents in which neither UCC (Uniform Commercial Code) filings with the Secretary of State, nor lien searches, were applied:

1) A business owner on the East Coast sold her account base with a promissory note for the balance of the payment from the buyer.  The business owner neglected to file a UCC on those accounts at closing.  Many months later, the buyer sold those accounts for cash and never paid the original business owner the remaining balance. 

2) A buyer acquired an entire business for cash.  He did a complete search, which revealed existing liens against the business.  At closing, the buyer had held a portion of the funds back from the payment owed the seller for any existing contingencies.  The buyer used some of these funds to clear the liens.  Several weeks later the buyer called the equipment vendor of the newly acquired business wanting to purchase several more line cards.  The buyer was told of an outstanding balance due on the equipment, which needed to be paid before any more equipment could be sold.

3) An individual listed her business accounts for sale and found a prospective buyer.  In the due diligence process, which included a lien search, it was discovered that this lady in fact did not own the business accounts. 

Problems:

1) Seller neglected to file a UCC on the accounts at the time of sale.  Thus due diligence performed by the second buyer showed no existing liens, and the transaction was consummated with the first buyer.  To receive her remaining balance, the original seller must go through the difficult process of pursuing the first buyer.

2) Even though the buyer had done his due diligence, including a lien search, the outstanding debt on the equipment was not known by the buyer.

3) The seller was trying to sell accounts that were not hers legally to sell.

Solutions:

1) If the original seller had placed a UCC filing on the accounts at closing, her buyer would not have been able to sell the accounts with clear title.  In order for those accounts to be legally sold, the buyer needed to pay the balance to the seller in full to release the UCC lien.  She is now left with the option of taking the buyer to court, suing him for the balance of the promissory note due her.

2) The buyer of the service was smart to hold back some of the funds at closing.  The buyer told the equipment vendor to file a lien on the equipment that had the outstanding balance.  Within a few days the buyer's attorney did another lien search that showed the vendor's lien.  The buyer then had the necessary documentation needed to use the reserved funds to pay the debt.  If there were no reserve funds held aside, the new owner of the business would have either had to pay the debt or search for another equipment vendor.

3) The prospective buyer did the right thing in pursuing a lien search and the seller was taught a lesson in honesty.

Steve Michaels and TAS Marketing have been serving the TAS industry in the mergers and acquisitions arena for over 23 years with over 220 businesses sold.  His years of experience have widened his scope and experience in buying and selling businesses nationwide.  He may be contacted at 800-369-6126, tas@tasmarketing.com, or visit www.tasmarketing.com.

For more TAS Tips, see Steve's previous and subsequent article.