Will a stock deal always avoid the problem of obtaining third-party consents that often arise in an asset transaction?

No; the pertinent documents must be carefully reviewed for “change of control” provisions. Many leases, for example, require consent if there is a change in the control of the tenant, And other contracts or local permits or leases might have similar requirements.

What are the disadvantages of a stock deal?

There are two major disadvantages:

First, it might be more difficult to consummate the transaction if the company’s stockholders are parties to a stockholder’s agreement that gives them certain rights. If the buyer wants to acquire 100 percent of the company, it may have to enter into a contract with each of the selling stockholders, and any one of them might refuse to enter into the transaction or might refuse to close. The entire deal might hinge on one stockholder. Minority shareholder rights under state law offer protection against so-called squeeze outs and freeze-outs in such cases. Later in this chapter we will discuss how the parties can achieve the same result as a stock transfer through a merger transaction and obviate the need for 100 percent agreement among the stockholders.

Second, the stock transaction lacks the tax basis step-up that occurs in an asset acquisition. Under Section 338 of the Internal Revenue Code (IRC), however, it is possible to have most stock transactions treated as asset acquisitions for federal income tax purposes. With a so-called “Section 338 election,” the tax benefits can be achieved while avoiding the nontax pitfalls of an asset transaction.