Mergers & Acquisitions Basics: IFLP Boot Camp May 16, 2018

Mergers &
Acquisitions
Basics
IFLP Boot Camp
May 16, 2018
1 © 2017 HUB International Limited.

John Albright
Chief Legal & Compliance Officer
HUB International Limited

Agenda
1. Introduction
2. M&A Process
3. Deal Structure
4. Key Documents
5. Wrap-up

1
Introduction

Why People Engage in M&A
1. Improve the target company’s performance

2. Consolidate to remove excess capacity from industry
3. Accelerate market access for the Target’s (or buyer’s) products
4. Get skills or technologies faster or at lower cost than they can be built
5. Exploit a business’s industry-specific scalability or economies of scale
6. Pick winners early and help them develop their businesses
7. Execute a roll-up strategy
8. Transformational mergers
9. Buy cheap

Global M&A Volume
6 © 2017 HUB International Limited. Source: Mergermarket.com

Laws Governing M&A Transactions:
q Corporate Law/Merger statutes

q Tax Laws
q Securities Laws
q Antitrust
q Labor and Employment Laws
q International Laws (global footprint acquisitions)

Factors Most Important to Deal Success
q Correct Valuation / Deal Price
q Effective Due Diligence
q Cultural Considerations
q Regulatory Environment
q Well-Planned and Well-Executed Integration Plan
q Positive Economic Conditions

2
M&A Process

The M&A Deal Lifecycle
Term Sheet Due Diligence/

Contract
Exclusivity Negotiation
Post-Closing The M&A Sign

Integration Cycle Announce
Interim
Closing
Period

Process Timing & Logistics
LOI Exclusivity Begins Sign Definitive Agreement Closing
● Pre-M&A work ● Preliminary due ● Detailed due diligence ● Attend to closing conditions ● Post-closing integration
diligence
● Organizing ● Draft and negotiate
diligence material ● Negotiate letter of intent definitive agreements
or term sheet with
potential buyer(s)
0-2 weeks 2-4 weeks 4-8 weeks 0-3 weeks
§ Typical length of time: 2-3+ months

§ Auction scenario similar but front-loaded diligence and bid (e.g., indication of interest,
letter of intent and then term sheet)
§ Extended deal length scenarios
§ Antitrust / Hart-Scott-Rodino
§ Public company involvement

M&A Transaction Process
1. Agree on confidentiality procedures.

2. Prepare a working group list.
3. Review a copy of the term sheet or letter of intent.
4. Perform due diligence.
q Business is in the condition described by seller
q Key contracts are valid
q Assets are owned free & clear
q Agreements are in place with employees
q Complete understanding of all liabilities that transfer
q Anti-corruption

M&A Transaction Process
5. Finalize disclosure schedules.
6. Draft ancillary agreements, such as employment, consulting / transition
services agreements and escrow agreements.
7. Conduct legal research on legal issues that may arise.
8. Prepare memoranda and presentations to the management or board.
9. Prepare a proxy statement and/or registration statement.
10. Obtain waivers and consents for existing contracts of Target.

Due Diligence Objectives
q Gathering information to validate the proposed valuation

and to justify the business reasons for closing the deal;
q Learning more about the seller’s business and operations
§ collecting information that may be critical to operating the
seller’s business post-transaction, or
§ extracting institutional knowledge seeded in seller’s personnel
that may not continue on with surviving entity;
q Uncovering and identifying the current and potential issues,
risks and liabilities posed by the transaction;
q Determining how to effectively integrate the business
14
Key Due Diligence Categories
Financial, Business Plan, Forecasts and Capitalization
Budgets
§ Review capitalization table and historical stock
§ Establish projections for the combined companies issuance documentation to tie out cap table
§ Determine short term and long term working capital § Confirm that stock issuances were approved by
needs of Target business post-closing the requisite stockholder votes and complied with
federal and state securities laws
§ Identify assumed liabilities
§ Review option ledger and board minutes to tie out
§ Compare forecasts and budgets to historical results option ledger
Material Contracts Intellectual Property

§ Review customer and supplier agreements § Confirm proper assignment of intellectual property
§ Review warranties or guarantees to customers rights from employees and contractors to Target
§ Review acquisition agreements, JV’s and § Review documentation related to registered

agreements regarding indebtedness intellectual property
§ Identify any restrictions on business activities § Identify and review any material inbound or
outbound licenses or other encumbrances on
§ Identify indemnification obligations and other long Target’s intellectual property
term liabilities
15
Key Due Diligence Categories, Cont’d
Tax Litigation
• Review state and local tax returns § Identify any threatened or pending litigation or
• Determine expected tax liabilities for prior periods investigations and review the underlying facts
and any stub period § Review historical litigation and investigation
records to determine key areas of risk
• Analyze value of any tax assets (e.g. NOL’s)
§ Assess risk of enforcement from governmental
• Consider tax impact of the structure of the
agencies
transaction
Employees / Employee Benefits Corporate Governance

§ Review employee compensation information and § Review corporate governance documents to
compare to offer letters confirm proposed treatment of stockholders and
option holders in the acquisition of Target
§ Identify any accelerated vesting terms or transaction
bonuses that will result from the acquisition of Target § Review board and stockholder actions to confirm
that necessary consents were obtained with
§ Review benefit plans to confirm ERISA compliance
respect to material historical matters
§ Develop integration plan for employees/benefit plans
§ Identify any special consents that will be required
to complete acquisition of Target
16
3
Deal Structure

M&A Transaction Structures:
q Stock/Share purchase. Acquisition by stock purchase where buyer

accepts ownership of all assets and liabilities, as documented in a Stock
Purchase Agreement.
q Asset purchase. Buyer buys all (or part) of the seller’s assets and
assumes only the seller’s liabilities, as expressly agreed, as documented
in an Asset Purchase Agreement.
q Merger. Two companies combine to form one, with the surviving entity
assuming all liabilities and assets as documented in a Merger Agreement.

Structure No. 1 — Stock Purchase



Advantages of a Stock Purchase Structure
q Relatively quick and simple way to consummate a transaction, as it

generally requires fewer third party consents and transfers.
q Aside from express indemnification obligations, selling
shareholders do not retain any liabilities post-closing.
q It is generally advantageous for a seller because of the benefit from
capital gains tax rates.

Disadvantages of a Stock Purchase Structure
q Due diligence can be more extensive.

q It requires each individual stockholder selling shares to agree to
transfer ownership and, usually, to provide indemnity.
q Impractical in public company transactions because of the diffusion
of the target company’s shareholder base.
q Assumption by buyer of unknown liabilities
and less advantageous tax positioning

Structure No. 2 — Asset Purchase



Examples of Acquired Assets
q Tangible property, including equipment, fixtures, and inventory
q Owned and leased real estate
q Contract rights
q Cash and accounts receivable
q Permits, books, customer lists, and records
q Rights to bring lawsuits and to tax refunds
q Intellectual property and R&D
q Rights to employee personnel and related contracts

Examples of Acquired Liabilities
q Liabilities reserved or accrued on the balance sheet.

q Liabilities for taxes.
q Liabilities arising under assumed contracts.
q Employment and benefits liabilities.
q Liabilities associated with acquired real estate.
q Other liabilities arising before or after closing.

Advantages of an Asset Purchase Structure
q Generally consummated without 100% shareholder consent.

q Buyer can be selective in choosing which assets and liabilities it wishes to assume.
q Unless the seller will be dissolved, the seller (as opposed to its shareholders) will
typically bear responsibility for post-closing indemnification obligations to the buyer.
q The target’s tax attributes (e.g., NOLs), may be used immediately to offset the
target’s taxable gain. Any remaining tax attributes are lost if the target liquidates.
q The buyer assumes a stepped-up cost basis in the target’s net assets—a more
favorable structure from a buyer’s tax perspective than a stock sale.

Disadvantages of an Asset Purchase Structure
q May require significant/difficult to obtain third party consents.

q Some assets may be used by both the sold and retained businesses,
complicating extraction of an independent enterprise.
q Potentially two layers of tax applicable to the seller.
§ Corporate layer, where seller recognizes taxable gain/loss on sale of the assets.
§ Shareholder layer, in which shareholders recognize gain taxed as ordinary
income if Target liquidates.
q Sale of all assets impractical for public companies.

Structure No. 3 — Negotiated Merger



Advantages of a Negotiated Merger Structure
q Enables buyer to obtain ownership of 100%

of Target’s stock even if less than all of the
shareholders agree to the sale.
q Unless specifically retained by the seller
shareholders, all assets remain held by the
“merged” company.
q Aside from express indemnifications, selling
stockholders do not retain any liabilities of
the Target post-closing.
q As in a stock purchases, it generally
requires fewer third party consents and
instruments of transfer than an asset sale.
q Sellers benefit from capital gains tax rates.

Disadvantages of a Negotiated Merger Structure
q Given the need to obtain

shareholder approval, it may take
longer to close a merger transaction
than an asset purchase.
q Target shareholders may have
appraisal/dissenters’ rights to
receive a court determined value in
lieu of merger consideration.
q Other disadvantages to buyers
associated with stock deals.

Structure No. 4 — Two-Step Merger / Tender Offer





Structuring Analysis and Considerations
q Form of Target entity

q Requisite shareholder approvals
q Breadth of operations domestically and globally
§ Tax impact of alternative structures
§ Availability of NOLs and other tax assets
q Credit / real estate obligations

q Key relationships (manufacturers, suppliers and customers)
q Assignability of contracts / third party consents
q Employment and equity incentive arrangements
q Regulatory filings and requirements (e.g., Antitrust, OFAC, FCPA)
q Successor liability and due diligence logistics
41
Deal Structure Considerations
q Stock Purchase
§ Simplicity and flexibility on terms
§ Continuity of entity and contracts
§ Problem of holdouts
q Merger
§ Majority vote cures holdout problem
§ Less flexibility on terms
§ Continuity of entity can be preserved
q Asset Purchase
§ Maximum flexibility on terms; maximum complexity
§ Contractual assignment problem
§ Requires wind-up and dissolution, resolution of excluded liabilities

Forms of Consideration
q Cash
§ Simplicity
§ Taxable
§ Eliminates upside potential
q Stock
§ Requires securities law registration/exemption
§ Can be tax-free in certain circumstances
§ Affords continued participation in future upside (and risks)
§ Evaluation of minority protection/rights considerations
q Mixed Cash & Stock
§ Greater complexity and equitable treatment considerations
§ Can offer choice to stockholders
§ Similar issues to “stock” deals, including tax-free treatment of stock portion

4
Key Documents

Documents Signed Before
Principal Transaction Agreement
q Confidentiality Agreements
§ Entered into at commencement of discussions
§ Ensure confidentiality of information and protect solicitation of employees
q Letters of Intent
§ Generally non-binding
§ Lay out general transaction framework and key terms
§ Simplify negotiations by crystallizing key terms earlier in process.
q Exclusivity Agreements
§ Prohibit the seller from attempting to sell to a third party for a period of
time (typically, 15-60 days).
§ Sought by buyers who do not wish to compete for a deal.
§ Without exclusivity, buyers may not invest time and resources in due
diligence and negotiating transaction.

Major Components of M&A Transaction Agreements
q Representations and Warranties—statements made by a party

referring to facts or matters about the party making them.
§ Speak negatively—“there is no litigation pending. . .” and affirmatively—“each of
the company’s employees earning more than $100,000 per year are listed. . .”
§ Significance of “knowledge” and “materiality” qualifiers.
§ Closely linked to the disclosure schedule.
q Covenants—assure buyer the acquired business will not
significantly change between signing and closing.
§ Can address process requirements to close (e.g., shareholder approval)
§ Covenants may survive closing (e.g., non-compete/solicit).

Major Components of M&A Transaction Agreements
q Conditions to Closing—things that must happen/not happen

to obligate close of acquisition.
q Indemnification—who pays for liabilities arising post close.
§ What is an “indemnification cap”?
§ What is escrow and why is it used?
§ What is a “basket”?

Additional Stock Purchase/Merger Agreement Terms
q Transfer [or cancellation and conversion] of Target shares

q Mechanics for payment of purchase price and transfer of [or tendering of
cancelled] shares
q Process for filing certificates of merger or other regulatory filings
q Appraisal (dissenters’) rights
q Termination rights under specified circumstances, such as a material
adverse effect on the target company

Additional Asset Purchase Agreement Terms
q Specific enumeration of assets and liabilities being transferred.

q Provisions for necessary legal instruments to transfer ownership, such as
bills of sale, assignment and assumption agreements, and intellectual
property assignments.
q Differences in seller representations and warranties include a rep that
acquired assets are sufficient to run acquired business.
q Provisions governing treatment of assets that are used in both the business
of seller and acquired business (shared assets).

Disclosure Schedules
q Attachments to the deal’s principal transaction agreement that serve to provide
party disclosures and qualify or limit representations and warranties.
q Seller and buyer may have schedules but seller schedule is far more common.
q Disclosures are generally tied to specific representations and warranties.
q Incorrect, incomplete, or misleading disclosure schedules can result in a breach
of the acquisition agreement and lead to significant liability to the sellers.
q Because disclosure schedules require a significant amount of time to assemble,
preparation of the initial drafts should be undertaken early in the process.

Documents Needed Between Signing and Closing
q HSR Filings
§ Provide information to FTC and DOJ for determining whether the
transaction has an anti-competitive effect.
§ If the FTC and DOJ have no concerns, parties may close the transaction
30 days after making the HSR filing.
q Third Party Consents
§ Many Targets are subject to agreements with third parties that restrict
their ability to consummate a deal.
§ When such restrictions cannot be avoided through deal structuring,
parties must obtain third party consents.

Documents Delivered At or Effective After Closing
q Legal Opinions
q Assignment and Assumption Agreements
q Transition Services Agreements
q Employment Agreements
q Noncompetition Agreements
q Resolutions approving the transaction
q Escrow Agreements
q Stock Certificates
q Bills of Sale

Documenting the Deal
Structural Mechanics Pre-Closing Covenants
• Execution of transaction (stock, merger, asset) § Ordinary course of business / limitations on actions
• Allocation of consideration § No public announcement
• Computation of earnouts / royalties § Shareholder meeting / approval
• Treatment of equity incentive arrangements § Regulatory approvals (HSR)
• Working capital or other adjustments § Third-party notices and consents
• Delivery of shares / assets § Access and diligence

§ Exclusivity / fiduciary out
• Payment mechanics and timing
Closing Conditions Post-Closing Covenants

§ Accuracy of Representations & Warranties § Non-competition / non-solicitation
§ Performance of Covenants § Confidentiality
§ Shareholder Approval § Continuation of D&O indemnity obligations
§ Governmental / Third-Party Consents § Transition services
§ Absence of Litigation § Prior period tax preparation and payment
§ Employee Matters § Expenses
§ Material Adverse Effect § Release of claims
§ Legal Opinion
53
Documenting the Deal (Reps & Warranties)
Fundamental Representations Specialist Representations
• Organization § Tax
• Authorization § Employment / ERISA
• Enforceability § Intellectual property
• Tax § Regulatory
• ERISA § Environmental
• Capitalization § Real estate
• Brokers
General Representations Typical Areas of Negotiation

§ Financial statements / undisclosed liabilities § Materiality and knowledge qualifiers
§ Sufficiency of Assets § Time and dollar thresholds
§ Contracts § Applicability and scope of disclosures
§ Absence of change § Updating of disclosure schedules
§ Compliance with laws / litigation § 10b-5 (no material omissions or misstatements)
§ Insurance / product liability
§ Customers and suppliers; trade relations
§ Interested party transactions
54
Documenting the Deal (Indemnification)
Areas of Indemnity Sources of Recovery
• Breach of representations and warranties § Escrow held with third party
• Breach of covenants § Holdback of funds
• Working capital § Offset of future payment obligations
• Tax § Joint versus several recovery
• Breach of Ancillary Agreements § Direct recovery from stockholders
• Third-party claims
Limitations of Liability Typical Areas of Negotiation

§ Limits on types of recoverable damages § Materiality and knowledge scrapes
§ Survival period § Limitations of liability
§ Aggregate cap on recovery § Recovery for third party claims in absence of final
judgment
§ Exclusion of fundamental and specified reps
§ Right to control defense / settle claims
§ Baskets / mini-baskets
§ Anti-sandbagging
§ Exclusivity of indemnity as remedy
§ Authority of stockholder representative
§ Insurance / tax offsets
55
5
Wrap-up

What We Learned!
Due diligence is Deal structure can be used to optimize

critical to M&A risks, tax exposure and timing to close.
success
Most transactions are stock The Disclosure Schedule

deals, but asset deals offer often proves to be the
unique advantages to buyers. most critical document—
as well as the longest and
most difficult to compile
Identifying and obtaining in that it is often tied to
third party consents post-close legal exposure.
triggered by an asset
purchase or change in
control, as well as locking in
key personnel post close, M&A process can take 2-3
can be critical to longer months or more to complete
term deal success. from NDA to close.

Questions?

Thank you.

Mergers & Acquisitions Basics: IFLP Boot Camp May 16, 2018

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Mergers & Acquisitions Basics: IFLP Boot Camp May 16, 2018

Uploaded by

Copyright:

Available Formats

Mergers &

1 © 2017 HUB International Limited.

2 © 2017 HUB International Limited.

3 © 2017 HUB International Limited.

4 © 2017 HUB International Limited.

1. Improve the target company’s performance

5 © 2017 HUB International Limited.

6 © 2017 HUB International Limited. Source: Mergermarket.com

q Corporate Law/Merger statutes

7 © 2017 HUB International Limited.

8 © 2017 HUB International Limited.

9 © 2017 HUB International Limited.

Term Sheet Due Diligence/

Post-Closing The M&A Sign

10 © 2017 HUB International Limited.

LOI Exclusivity Begins Sign Definitive Agreement Closing

0-2 weeks 2-4 weeks 4-8 weeks 0-3 weeks

§ Typical length of time: 2-3+ months

11 © 2017 HUB International Limited.

1. Agree on confidentiality procedures.

12 © 2017 HUB International Limited.

13 © 2017 HUB International Limited.

q Gathering information to validate the proposed valuation

14 © 2017 HUB International Limited.

Material Contracts Intellectual Property

§ Review acquisition agreements, JV’s and § Review documentation related to registered

15 © 2017 HUB International Limited.

Employees / Employee Benefits Corporate Governance

16 © 2017 HUB International Limited.

17 © 2017 HUB International Limited.

q Stock/Share purchase. Acquisition by stock purchase where buyer

18 © 2017 HUB International Limited.

19 © 2017 HUB International Limited.

20 © 2017 HUB International Limited.

21 © 2017 HUB International Limited.

q Relatively quick and simple way to consummate a transaction, as it

22 © 2017 HUB International Limited.

q Due diligence can be more extensive.

23 © 2017 HUB International Limited.

24 © 2017 HUB International Limited.

25 © 2017 HUB International Limited.

26 © 2017 HUB International Limited.

27 © 2017 HUB International Limited.

q Liabilities reserved or accrued on the balance sheet.

28 © 2017 HUB International Limited.

q Generally consummated without 100% shareholder consent.

29 © 2017 HUB International Limited.

q May require significant/difficult to obtain third party consents.

30 © 2017 HUB International Limited.

31 © 2017 HUB International Limited.

32 © 2017 HUB International Limited.

33 © 2017 HUB International Limited.

q Enables buyer to obtain ownership of 100%

34 © 2017 HUB International Limited.

q Given the need to obtain

35 © 2017 HUB International Limited.

36 © 2017 HUB International Limited.

37 © 2017 HUB International Limited.

38 © 2017 HUB International Limited.

39 © 2017 HUB International Limited.

40 © 2017 HUB International Limited.

q Form of Target entity

q Credit / real estate obligations