M&A 101: Back to Basics

texaslawyer.com ❘ May 28, 2019 w M&A 101: Back To Basics

Rob Shearer and Jon Boben

Sellers and buyers in M&A trans- actions necessarily have conflict- ing interests and a natural desire to minimize their risks. These issues are among those that must be negotiated and resolved in most acquisitions of a private company target. Transaction Structure Early on, parties must decide whether to structure the deal as a merger, a stock sale or asset sale. That decision is usually driven by 1. tax considerations, 2. equity holder-approval requirements and NESPIX/Shutterstock.com 3. the desired risk allocation. Gen- erally, an asset purchase may allow tion provisions will be of particu- the business principals’ and coun- a buyer to cherry-pick assets and lar interest to the parties and their sels’ time and effort to carefully leave behind unwanted liabilities counsel. craft earn-out provisions. with the seller, but there remains Earn-outs Furthermore, sellers will demand the possibility of successor liabil- If the parties find themselves at a and buyers will resist operat- ity and a negotiated asset purchase valuation impasse, an earn-out can ing covenants limiting the buy- agreement may leave seller hold- help bridge the gap by allowing er’s range of freedom to operate ing more post-closing liability than the seller to earn additional consid- the business during the earn-out an equity purchase agreement. eration if certain criteria are satis- period. Seller wants to prevent the The parties will need to deter- fied. Whether the agreed criteria purpose of the earn-out from being mine whether the signing and clos- are complex formulae or relatively frustrated, while buyer wants to ing can occur simultaneously, or if mundane financial metrics, every- run the newly-acquired enterprise time between signing and closing one at the table should be mind- as it wishes. Such covenants should will be required to secure financ- ful that the parties must be able to be narrowly tailored and well ing or obtain necessary regulatory objectively determine satisfaction understood by the business princi- approvals or third-party consents. of the criteria. Even metrics that pals to prevent surprises. In a bifurcated signing and clos- may seem crystal-clear at the out- Purchase Price Adjustments ing, interim operating covenants, set can be clear-as-mud at the end Purchase price adjustments for closing conditions, and termina- of the earn-out period. It is worth working capital allow the parties

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with a particular focus on the energy energy the on focus particular a with not be subject to a deductible or or deductible a to subject be not in which the financial statements statements financial the which in

sitions in a wide array of industries, industries, of array wide a in sitions will survive in perpetuity and will will and perpetuity in survive will ule) and/or in the same manner manner same the in and/or ule)

- dispo and acquisitions, mergers, vate (1) fundamental representations representations fundamental (1) - sched a on buyer to disclosed

- pri and public in sellers and buyers provide that: provide ing idiosyncrasies that have been been have that idiosyncrasies ing

has represented financial and strategic strategic and financial represented has a typical indemnity regime may may regime indemnity typical a - account company’s the of any to

, counsel at Akin Gump, Gump, Akin at counsel , Jon Boben Jon available to the buyer. For example, example, For buyer. the to available accordance with GAAP (subject (subject GAAP with accordance

ufacturing and technology companies. companies. technology and ufacturing ties, and the post-closing recourse recourse post-closing the and ties, determinations will be made in in made be will determinations

- man services, oilfield utility, energy, - par the of positions negotiating tive agreed upon (e.g., whether such such whether (e.g., upon agreed

private mergers and acquisitions for for acquisitions and mergers private - rela the operations, company’s the items will be determined must be be must determined be will items

significant experience in public and and public in experience significant business, the seller’s involvement in in involvement seller’s the business, The standard by which such such which by standard The

energy practice at Akin Gump. He has has He Gump. Akin at practice energy tiated and vary based on the type of of type the on based vary and tiated closing working capital. working closing

is a partner in the the in partner a is Rob Shearer Shearer Rob - nego heavily are provisions These ing capital to (y) the estimated estimated the (y) to capital ing

agreement will be subject thereto. subject be will agreement - work closing finally-determined

deal. specifying which matters in the the in matters which specifying agreed-upon target and (2) (x) (x) (2) and target agreed-upon

into account and memorializes the the memorializes and account into periods, caps, deductibles, and and deductibles, caps, periods, closing working capital to (y) the the (y) to capital working closing

ment takes all of these concerns concerns these of all takes ment the indemnity regime by survival survival by regime indemnity the ments comparing (1) (x) estimated estimated (x) (1) comparing ments

- agree acquisition crafted carefully resentation). They can customize customize can They resentation). - adjust separate two, be often will

ing obligations and liabilities. A A liabilities. and obligations ing - misrep intentional and fraud like the reconciliation process, there there process, reconciliation the

- post-clos its with concerned sarily ing open a backdoor for matters matters for backdoor a open ing To minimize the amounts paid in in paid amounts the minimize To

- neces is seller the and acquisition, - (leav liabilities post-closing their purchase price will be increased. increased. be will price purchase

address the potential risks of the the of risks potential the address allow parties to draw a box around around box a draw to parties allow target working capital, then the the then capital, working target

motivated to understand and and understand to motivated Indemnification provisions provisions Indemnification working capital is greater than than greater is capital working

seller alike. The buyer is highly highly is buyer The alike. seller paid will be decreased. If closing closing If decreased. be will paid Indemnification

transformative for both buyer and and buyer both for transformative such matters. such ing capital, then the purchase price price purchase the then capital, ing

An M&A transaction can be be can transaction M&A An be inoculated from liability for for liability from inoculated be - work target than lower is capital

typical. representations and generally will will generally and representations as of closing. If closing working working closing If closing. of as

and environmental matters are are matters environmental and exceptions and qualifications to its its to qualifications and exceptions to the company’s working capital capital working company’s the to

indemnities for pre-closing taxes taxes pre-closing for indemnities will be permitted to schedule schedule to permitted be will then compare such target amount amount target such compare then

cate risk to one party. Line-item Line-item party. one to risk cate mal share of liabilities, the seller seller the liabilities, of share mal torical working capital needs and and needs capital working torical

- allo specifically can they which to - nor its has business every Because - his company’s the with consistent

line-item indemnities, with respect respect with indemnities, line-item not aware or that are immaterial. immaterial. are that or aware not get amount of net working capital capital working net of amount get

The parties may also agree to to agree also may parties The exposure to risks of which it was was it which of risks to exposure - tar a on agree will parties The

deductible or cap. or deductible materiality qualifiers to limit its its limit to qualifiers materiality bills when they are due. are they when bills

initely and not be subject to a a to subject be not and initely sentations with knowledge and and knowledge with sentations accounts receivable and pay its its pay and receivable accounts

- indef survive will covenants (4) - repre its qualify to seek typically inventory, make sales, generate generate sales, make inventory,

ject to the deductible and cap; and cap; and deductible the to ject mental liabilities. The seller will will seller The liabilities. mental words, it will continue to produce produce to continue will it words,

- sub be will and closing following - environ of absence and liabilities, course before closing. In other other In closing. before course

survive for between 12-24 months months 12-24 between for survive of taxes, absence of undisclosed undisclosed of absence taxes, of the target company in the normal normal the in company target the

(3) all other representations will will representations other all (3) of financial statements, payment payment statements, financial of seller will continue to operate operate to continue will seller

cap; compliance with law, accuracy accuracy law, with compliance gives the buyer comfort that the the that comfort buyer the gives

be subject to the deductible and and deductible the to subject be to title to and sufficiency of assets, assets, of sufficiency and to title to working capital adjustment also also adjustment capital working

of limitations has expired and will will and expired has limitations of ness. Typical representations relate relate representations Typical ness. bifurcated signing and closing, a a closing, and signing bifurcated

of time after the applicable statute statute applicable the after time of - busi acquired the of quality the to resolve any discrepancies. In a a In discrepancies. any resolve to

ters will survive for some period period some for survive will ters the buyer to provide comfort as to to as comfort provide to buyer the that there is a mechanism in place place in mechanism a is there that

- mat benefits employee and ment, make detailed representations to to representations detailed make working capital, with the comfort comfort the with capital, working

- employ and labor environmental, The seller will be required to to required be will seller The out knowing the final amount of of amount final the knowing out

(2) representations relating to to relating representations (2) - with transaction a into enter to Representations and Warranties and Representations