M&A Blog
Mergers and Acquisitions
Is Your M&A Attorney an Advisor or a Consultant?
For many people, selling a business is their largest, lifetime financial transaction. And typically, it is a one-time event. And further, most people have little experience with this transaction type. Consequently, surrounding oneself with good advisors and advisory teams is paramount. An M&A sale is essentially one really large commercial transaction. Of course, the transaction is documented with contracts containing a host of legal provisions. However, the details of the agreement essentially spin around a sophisticated circumstance where 2 or more parties are negotiating a financial transaction. Hence, understanding market and what are reasonable terms within the “bell curve” of options is important to the seller. The seller’s attorney must routinely work in the M&A space to have the current knowledge base of what is considered market. M&A is not a place to dabble. M&A attorneys must provide their clients with recommendations and suggestions – not merely options, information, and forks in the road. Reviewing complicated purchase agreements and understanding the terms is most basic; providing true counsel and advice is a must. I have practiced in the M&A space for more than 25 years representing both buyers and sellers. My practice and my colleagues at Offit Kurman have successfully concluded hundreds of transactions by carefully subscribing to the formula of (i) educating our clients on the circumstances; (ii) making concrete and definitive recommendations; and (iii) understanding the client’s risk tolerance and ultimate objectives to assist the client with arriving at their decision. Because in the end the M&A transaction is likely the largest financial transaction for most clients. Originally posted on 12/4/2020, no content changes.
May 30, 2024
Mergers and Acquisitions
3 Questions and 3 Pieces of Advice: In a Hot M&A Market, Is Now the Time to Sell Your Business?
The M&A market has been very robust over the last few years. This year the market is still receptive to deals. With all of the momentum this M&A momentum, many business owners have a once-in-a-lifetime opportunity to retire wealthy. To take advantage of that opportunity, however, owners need to act fast. The market won’t stay receptive for much longer. And with a potential economic downturn ahead, the next window to maximize sales value may be five or 10 years out. As I have been telling my clients, now is the time to choose a path: a) get ready to sell your business as soon as possible, or b) prepare to keep running it through the next few years. To determine which path is right for you, consider the following questions: Do you feel emotionally ready to sell? The sale of a business is likely the most sophisticated and largest transaction a seller will encounter in the course of their career. There’s a reason most only go through with it once. Even with years of preparation, no owner can fully predict the myriad of issues and uncertainties in M&A until a buyer commences diligence. You need to be ready for ups and downs, back and forth negotiations, false starts and sudden surprises. Do you know what your business is really worth – and how much M&A may cost? Get a valuation – perhaps more than one. Owners are too close to their businesses to assess their worth objectively. Once you truly understand the value of your company, be prepared to set aside more than you think you’ll need to sell your business. Even if you achieve ideal terms, you will need to be ready to cover any trailing liabilities post-closing. How long will you have the energy to continue running your business? The older you get, the more critical the decision to sell your business becomes. Owners need to be realistic about their abilities and limitations, particularly if things were to go sour: e.g. contacts disappear, key employees leave or industry disruption makes the business irrelevant. Even if a potential deal doesn’t seem perfect, an owner selling now would have a longer runway to retirement. Otherwise, the owner would need to spend the next few years working harder than ever to carve out better numbers. Whichever path you choose – selling now or waiting – there are three steps you can take to set yourself up for M&A success: Commit to your plan. Do not let others set the terms of your business’s outcome for you. Use the market to your advantage. If you’re thinking of selling now, don’t sign the first letter of intent that comes your way. If you’re waiting it out, don’t concede to a mediocre offer in a couple years; instead, turn into an opportunity to create competition over your business. Focus on creating conveyable value. This one is simple: maximize your earnings, minimize your risks and secure your greatest assets – be they contracts, intellectual property, real estate or skilled employees. Build the team. Whether selling now or later, consider hiring an M&A advisor – they tend to pay for themselves. At the very least, discuss your exit plan with your financial planner, CPA and attorney. Look within your organization for people you can trust to go to bat for the business during negotiations with a buyer: executives, board members and finance personnel are good candidates. Make no mistake: M&A is a challenging and costly prospect no matter what the market looks like. But by developing the right strategy, setting the right expectations and finding the right allies early on, any business owner can begin their exit with confidence.
May 23, 2024
Mergers and Acquisitions
M&A: Matching Priorities – Buyer and Seller
In the context of M&A, frequently the priorities of a buyer and a seller differ, especially at the outset of a transaction. In sum, what may be important to a buyer, frequently is not on the radar of a seller. Why? Simply put, how a seller operates its business day to day most times is not focused on risk mitigation and value drivers. For example, frequently I find that seller’s have promised key people compensation in the event of the sale but just have never gotten around to documenting the details. Or simpler yet, numerous sellers cannot locate their stock certificates or recall the basics of their corporate governance. These details, while important, do not rise to top priorities for the entrepreneur focused on the next sale or cash flow issues. A buyer, however, is most focused on a return on their investment and related risk mitigation. Hence, the disconnect. So, what’s the solution? Proper planning. The simple fact is that how an entrepreneur operates his/her business will not be how he or she sells the business. As such, if the entrepreneur has the luxury of some time before the sale, then he/she should use the ramp up as a means to check on the readiness of the business for sale. Too many sellers become faced with the “triple threat” during the sale of their business: (i) selling their business; while (ii) adjusting their business to the expectations of the buyer; all while (iii) still operating their business. I can assure you this is no easy task.
May 16, 2024
Business
The Current M&A Market: Three Questions & Three Pieces of Advice
In an Uncertain M&A Market, Is Now the Time to Sell Your Business? 3 Questions and 3 Pieces of Advice In the lower middle market, the mergers and acquisitions market is still hot (despite the larger economic challenges). This is largely due to a combination of issues, including “Covid hang-over” concerns, challenges with hiring and retaining employees, baby-boomers getting older and the large amounts of cash that still needs to be deployed. As a result, many business owners have a once-in-a-lifetime opportunity to retire wealthy. To take advantage of that opportunity, however, owners need to act fast. The market won’t stay hot forever. And with a potential further economic downturn ahead, the next window to maximize sales value may be five or 10 years out. As I have been telling my clients, now is the time to choose a path: get ready to sell your business as soon as possible, or prepare to keep running it until the next M&A window develops. To determine which path is right for you, consider the following questions: Do you feel emotionally ready to sell? The sale of a business is likely the most sophisticated and largest transaction a seller will encounter in the course of their career. There’s a reason most only go through with it once. Even with years of preparation, no owner can fully predict the myriad of issues and uncertainties in M&A until a buyer commences diligence. You need to be ready for ups and downs, back and forth negotiations, false starts and sudden surprises. Do you know what your business is really worth – and how much M&A may cost? Get a valuation – perhaps more than one. Owners are too close to their businesses to assess their worth objectively. Once you truly understand the value of your company, be prepared to set aside more than you think you’ll need to sell your business. Even if you achieve ideal terms, you will need to be ready to cover any trailing liabilities post-closing. How long will you have the energy to continue running your business? The older you get, the more critical the decision to sell your business becomes. Owners need to be realistic about their abilities and limitations, particularly if things were to go sour: e.g., contacts disappear, key employees leave, or industry disruption makes the business irrelevant. Even if a potential deal doesn’t seem perfect, an owner selling now would have a longer runway to retirement. Otherwise, the owner would need to spend the next few years working harder than ever to carve out better numbers. Whichever path you choose – selling now or waiting – there are three steps you can take to set yourself up for M&A success: Commit to your plan. Do not let others set the terms of your business’s outcome for you. Use the market to your advantage. If you’re thinking of selling now, don’t sign the first letter of intent that comes your way. If you’re waiting it out, don’t concede to a mediocre offer in a couple years; instead, turn into an opportunity to create competition over your business. Focus on creating conveyable value. This one is simple: maximize your earnings, minimize your risks and secure your greatest assets – be they contracts, intellectual property, real estate or skilled employees. Build the team. Whether selling now or later, consider hiring an M&A advisor – they tend to pay for themselves. At the very least, discuss your exit plan with your financial planner, CPA and attorney. Look within your organization for people you can trust to go to bat for the business during negotiations with a buyer: executives, board members and finance personnel are good candidates. Make no mistake: M&A is a challenging and costly prospect no matter what the market looks like. But by developing the right strategy, setting the right expectations, and finding the right allies early on, any business owner can begin their exit with confidence. © 2017 - 2023 Michael N. Mercurio. All Rights Reserved. Originally posted 9/23/2020, content updated 11/2/2023.
November 2, 2023
Business
The Entrepreneur’s Lab Video Series: Due Diligence
Due Diligence, exchanging information and documents during a sales transaction can be a tricky proposition. During our business life, we do all we can do to keep our information and data private. With the transaction, a seller will be asked to tell and show all. Due Diligence is typically conducted in three buckets: financial, legal and operational. As a seller moves beyond the letter of intent, the diligence process intensifies. There will be a natural tension between buyer and seller as to what to disclose and when. Sellers naturally want to keep their data, customers, employees, and other items close to the vest. Buyers want to know about contracts, customers, and employees ASAP. So, what should a seller do? Here are a few tips. Make certain to have a strong confidentiality agreement that contains non-solicitation provisions from the buyer. Understand that disclosure is the friend of the seller. Few businesses have zero nicks. Disclose the good, the bad, and the ugly to any buyers. Note that diligence is a process that continues to closing; manage the process with the buyer so that risk is mitigated. For example, hold back introductions of clients and employees to the buyer until such time that the deal is on firm ground. Last, and most importantly, get organized. Nothing is worse than a shoebox full of papers. Being disorganized during diligence will cost the seller valuable time and money. Originally posted 1/26/2018, no content changes.
October 24, 2023
Business
U.S. Inbound M&A and Investment Transactions May Be Subject to CFIUS Review
Originally posted on 03/26/2020, content updated on 10/06/2023 Foreign companies and investors who are acquiring or investing in a U.S. company should consider whether their U.S. inbound transaction will be subject to review by the Committee on Foreign Investment in the United States (CFIUS). On February 13, 2020, regulations (31 CFR §§800, 802) (the “Final Regulations”) issued by the U.S. Department of the Treasury went into effect, which expanded and clarified CFIUS’ jurisdiction over certain foreign investments in U.S. companies or real estate. CFIUS is an interagency committee chaired by the Secretary of the Treasury that is authorized to review certain transactions involving foreign investment into the U.S. to determine the effect of such transactions on national security. If a transaction could pose a risk to U.S. national security, the U.S. President may suspend or prohibit the transaction, or impose conditions on it. Before August 2018, CFIUS’s jurisdiction was limited to transactions in which a foreign investor acquired control of a U.S. business (which involves certain blocking rights). CFIUS’s jurisdiction was expanded in August 2018, when President Trump signed the Foreign Investment Risk Review Modernization Act of 2018 (FIRRMA) into law. The Final Regulations implement FIRRMA. FIRRMA covers not only certain controlling/majority investments but also certain non-controlling/minority investments and certain investments in real estate located near sensitive government sites (including airports, harbors, and military sites). This article will focus on non-controlling investments in U.S. companies. A non-controlling investment is subject to CFIUS’ jurisdiction if it (i) is an investment in a U.S. business involved in certain critical technologies, critical infrastructure, or sensitive personal data of U.S. nationals (referred to as “TID” businesses), and (ii) grants the foreign investor any of the following: (a) access to any material non-public technical information of the U.S. company, (b) membership or observer rights on the board of directors or equivalent governing body of the U.S. company or the right to nominate an individual to a position on the board of directors or equivalent governing body, (c) any involvement, other than through voting of shares, in substantive decision-making of the US company. Critical technologies are defined as items on certain U.S. export regulations (such as the U.S. Munitions List and the Commerce Control List) and other regulatory regimes and include certain emerging and foundational technologies controlled under the Export Control Reform Act of 2018 (“ECRA”). The Bureau of Industry and Security (BIS) is working on proposed rules to define “emerging and foundational technologies” that will be subject to future export controls. BIS is considering technologies such as (a) artificial intelligence and machine learning technology; (b) logistics technology; (c) robotics; and (d) advanced surveillance technologies, such as faceprint and voiceprint technologies. Critical infrastructure is generally defined as systems and assets, whether physical or virtual, so vital to the U.S. that the incapacity or destruction of such systems or assets would have a debilitating impact on national security. Critical infrastructure includes certain IP networks, telecommunications services, interstate oil pipelines, crude oil storage facilities, rail lines, public water systems, and electric power generation, storage, or transmission facilities. A list of types of critical infrastructure can be found in Appendix A to Part 800 of the Final Rules. Sensitive personal data include the following categories: financial, consumer report data, geolocational, health data, non-public electronic communications (including emails and chats), Federal ID card data, U.S. government personnel security clearance data, and genetic testing data. The categories are covered under FIRRMA only if the U.S. business: (a) targets or tailors its products or services to sensitive U.S. Government personnel or contractors, (b) maintains or collects such data on greater than one million individuals, or (c) has a demonstrated business objective to maintain or collect such data on greater than one million individuals and such data is an integrated part of the U.S. business’s primary products or services. Genetic testing data from databases maintained by the U.S. government and routinely provided to private parties for research are exempted, so as not to capture U.S. businesses using common datasets for research purposes. Examples of transactions that were blocked by CFIUS involved a dating app for LGBT individuals (Grinder LLC) and an online patient forum (PatientsLikeMe). Under the Final Regulations, non-controlling investments by certain investors from Canada, the UK and Australia are exempted. Furthermore, investments in TID businesses by U.S. investment funds with foreign limited partners will not be subject to CFIUS review if (i) the fund is managed exclusively by a U.S. general partner (or equivalent), (ii) the firm's advisory board on which the foreign limited partner sits does not have the ability to control in any way the investment decisions of the investment fund, (iii) the foreign limited partner does not have the ability to control the fund, including through investment decisions, ability to approve or disapprove decisions made by the managing partner, or unilaterally determine the compensation of the general partner, and (iv) the limited partner does not have access to material, nonpublic technical information. Filings with CFIUS are voluntary, except for the following investments which require a prior filing with CFIUS: (i) investments in critical technology businesses operated within one of twenty-seven specific industries, as defined by the North American Industry Classification System (NAICS) codes, listed in Appendix B to Part 800 of the Final Rules, as well as (iii) investments by foreign persons in which a foreign government (other than Canada, the UK, or Australia) owns a substantial stake. Filings related to investments in critical technology businesses were made mandatory in October 2018 when FIRMA instituted a “Pilot Program”. CFIUS stated, however, that it expects to replace the Pilot Program system based on NAICS codes with a system based on export control licensing requirements. Even if a prior filing with CFIUS is not required, the parties should consider filing on a voluntary basis in order to avoid a possible rejection or modification of the transaction after closing. Filings with CFIUS may require a filing fee not to exceed $300,000. Voluntary and mandatory CFIUS filings can be done by a short declaration or longer notice. Mandatory declarations must be filed 45 days before the close of a transaction. CFIUS has 30 days to render a decision on a mandatory declaration but may at that time require a full notice, which may delay the transaction substantially. CFIUS has 130 days to decide on a notice. Failure to submit a mandatory filing may result in a penalty of up to the greater of $250,000 or the value of the transaction. If you have any questions or would like to discuss any of these issues, please contact me at 212-545-1900 or mbloemsma@offitkurman.com.
October 6, 2023
M&A Nuggets
M&A Nugget: Shhhh…Keep It Secret
Sellers usually do not want the world to know the terms under which their business is sold, especially the purchase price. Purchase agreements therefore typically contain a confidentiality provision requiring both sides to keep the transaction and its terms confidential. There are, however, exceptions to this “keep it secret” obligation that should be included in every agreement. First, the parties should be able to relay the transaction and its terms to their accountants, attorneys and advisors. Second, either side should be able to disclose the transaction in any dispute between the parties. Last, buyers often want to publicize an acquisition through a public notice, commonly referred to as a Tombstone. In non-public transactions, the Tombstone usually contains the names of the purchaser and seller, but not the purchase price. So, keep the transaction secret for the most part, but allow for the above reasonable instances of disclosure.
September 28, 2023
M&A Nuggets
M&A Nugget: Representations And Warranties Insurance
If you read a business purchase agreement carefully, you cannot help but notice that more pages are devoted to the seller’s representations and warranties than any other topic. A substantial amount of time and costs are spent negotiating the representations and warranties. Sellers are left at risk for an indemnity claim, especially in deals in which part of the purchase price is held back, which is common. Buyers are somewhat at risk, as the ability to collect an indemnity claim against a seller is not guaranteed. To address all of this, a unique kind of insurance was developed several years ago and is in use with increased frequency. The insurance is known simply as Representations and Warranties Insurance (R & W Insurance), and protects the buyer or the seller from inaccuracies in or breaches of the seller’s representations and warranties. The use of this insurance can allow the seller to avoid a purchase price holdback and the buyer to avoid having to collect an indemnity claim from the seller. There are many details that must be addressed with R & W Insurance, including the coverage limit, the deductible amount, the premium and the fact that certain representations and warranties will not be covered. R & W Insurance is typically used in transactions in the high-mid market to large market range. So, if your transaction falls within that range, consider exploring R & W Insurance.
September 25, 2023
M&A Nuggets
M&A Nugget: Health Care, Beware
The acquisition of a health care entity implicates two major federal statutes aimed at the health care industry. The Anti-Kickback Statute prohibits offering, paying or soliciting anything of value in return for referrals of heath care business covered by federal programs. A second law, known as Stark, prohibits physicians from referring Medicare patients for designated health services to an entity in which the physician has a financial relationship. Violations of these laws can result in severe and substantial penalties, including suspension from participation in federal health care programs and fines. Although these laws are usually discussed in the context of a health care provider’s ongoing operations, the laws can also apply to health care consulting and service firms and can be implicated in the acquisition of health care related entities. A purchaser must conduct appropriate due diligence to ascertain whether the seller has any exposure under these laws. The business terms of an acquisition can actually bring these laws into play. These health care laws are unique and a violation of them can have serious consequences. A purchaser of a health care entity should, therefore, secure advice from an advisor well-heeled in the health care law environment.
September 22, 2023
Business
Healthy Businesses Lead to Successful Sales: Business Ownership Maintenance is Key
What does getting your car its annual safety inspection and selling a business have in common? More than seems obvious. Many states require annual safety inspections for vehicles. Maryland is one of the states that does NOT have this annual safety inspection. In Maryland, your vehicle does not need to be safety inspected until you seek to transfer the title. Thus, in practice, there are many cars in Maryland on the road for years that have not been safety inspected. Hence, numerous vehicles are driving around that may have “issues” that the owners are not aware of. My personal experience has shown that when you transfer a vehicle in Maryland and have the car inspected, you are suddenly faced with numerous vehicle “defects” that must be fixed to pass inspection and transfer title. Fast forward to selling a business. In my experience, I have not come across a single business that was without “defects” in the sale process. Like the running car, these businesses are operating and making money. However, when the business goes to sell, the buyer and its advisors will conduct a thorough inspection. Too often, many defects rise to the surface, requiring remedy before the sale can proceed. In this series of articles, I will be discussing the best ways to start, grow, and maintain a healthy business by reflecting on top issues when selling a business and what can be done to set up a business for a successful sale. This series will include annual “inspections” by the owner in the areas of legal, operation and financial to better prepare the business for sale. Frequently defect areas often include tax planning, employment and key employees, intellectual property, ownership issues/operating agreements, cap tables, and corporate governance issues.
September 21, 2023
M&A Nuggets
M&A Nugget: Non-Competes- “The Reverse”
Buyers of businesses typically require the target and its owners to sign non-compete agreements which restrict the seller and its owners from competing after the closing. Those agreements obviously benefit the buyer. Non-compete provisions must, however, also be examined from a different perspective. As part of due diligence, the buyer examines the seller’s contracts to determine what contracts the buyer will assume, or take over. The contracts usually include leases, supply agreements and distribution agreements. Those contracts may contain non-compete restrictions or exclusivity provisions which bind the seller and benefit the other party to the contract. If the buyer assumes the contracts, the buyer takes on and is also bound by the non-compete and exclusivity provisions. It is therefore important for the buyer to carefully review contracts for the “non-compete reverse”.
September 20, 2023
Business
M&A Nugget: Dissenters’ Rights
In Maryland, and other states, a stockholder who does not believe that the purchase price to be paid by an acquirer is fair value has the right to object to the sale and receive payment for the fair value of the stock. The basic procedure for a stockholder to invoke that right is to object to the proposed transaction in writing, not vote in favor of the transaction and make a demand for payment of the stock. The target may then notify the stockholder of the price the target is willing to pay for the stock. If that price is not satisfactory to the owner, or the target does not notify the owner, then the owner may ask a court to obtain an appraisal to determine the fair value of the stock. If the court accepts the appraisal or, not accepting the appraisal, determines the fair value of the stock itself, the amount determined shall be entered as a judgment against the target. Although the use of these dissent and appraisal rights is rare, both parties to a sale transaction need to be aware of them, especially if the acquirer intends to purchase 100% of the target’s stock.
September 11, 2023
M&A Nuggets
M&A Nugget: Every Word Matters
This Nugget is for those English majors out there. In a purchase agreement, every word matters. The omission of a keyword or the incorrect use of a word can have an adverse impact on the purchaser’s or seller’s rights under the agreement. For example, in describing a list of assets to be acquired, using the word “including” after a delineated list, rather than “including, but not limited to” might have the effect of limiting the assets being acquired. Although logic tells us that “including” has the same meaning as “including, but not limited to,” some courts have held that “including” actually acts to limit the list of items to those listed after the word “including”. Therefore, the additional words “but not limited to” should always be used. As an example of keywords being omitted, consider the indemnification clause in a purchase agreement, by which the seller agrees to indemnify the purchaser for pre-closing operations and breaches of representations and warranties. An indemnification clause may state that the seller indemnifies the purchaser for any loss, damage and “cost and expenses” incurred. Can the purchaser recover its attorneys’ fees under such a clause? The answer is no. The indemnification clause must specifically include “attorneys’ fees and costs of the legal proceeding” as a recoverable item. Last, suppose a seller is asked to subordinate its right to receive payment to the purchaser’s lender. There are different kinds of subordination. Some lenders require “deep” subordination. The addition of the word deep drastically changes the extent to which a seller subordinates its right to payment. So, although the wordsmithing in the purchase agreement is the attorneys’ responsibility, it is important to keep in mind that every word matters.
September 8, 2023
Business
M & A Nuggets: The “KEIP”
The Key Employee Incentive Plan (“KEIP”), has become common as a way to incentivize key employees. The KEIP usually allows key employees to participate in an exit transaction through the grant of a percentage of the net proceeds from the sale of the business. Many transactions are structured with potential post-closing payments through earnouts or other mechanisms. Acquirers do not want or accept responsibility for KEIPs and, therefore, require that the seller maintain responsibility for the KEIP post-closing. During the negotiation process, a significant amount of time is devoted to the KEIP. Instead of leaving it to the acquirer to react to and dictate how the KEIP will be handled, owners of target companies should have a plan developed. The plan will have as its objective achieving the same end result that the acquirer will eventually insist on. Here are the two most common ways KEIPs are dealt with: Termination of the KEIP, with the only surviving provision being the payment of amounts that may be owed to the key employees in the future reducing the seller’s share of net proceeds, and The transfer of any future responsibility under the KEIP to the selling owners. When first developing a KEIP, it is important that the agreements that will memorialize the KEIP allow flexibility to achieve one of the results described above. By proactively dealing with the KEIP and having a plan in place, a target can lessen an acquirer’s concern about the KEIP and save both sides time and resources.
September 7, 2023
M&A Nuggets
M&A Nugget: To Split or Not to Split (The Tax Years)
The sale of the stock of an S Corporation raises a tax issue. The S Corporation is a pass through entity, that is, its net income or loss is passed through to its owners and included on their individual tax returns. When the sale of an S Corporation occurs effective the last day of the tax year, there is no tax issue – the seller owned the business for the entire year prior to the sale and therefore reports all income from that year. A sale in the middle of a year, however, raises an issue. Absent an agreement, the income of the company is reported using the “per share per day” method. Under that method, a pro rata portion of the income for the entire year is allocated to the seller. The pro rata portion is the number of days the seller owned the company during the year divided by 365. However, the purchaser and seller can agree to use what is known as the “cutoff” or “specific accounting” method. Under this method, the tax year is split into two years, the first year starting on the first day of the year and ending on the day before the closing date and the second year beginning on the closing date and ending on the last day of the year. Under this method, the seller is allocated one hundred percent of the income attributable to the first tax year. These two methods of allocating income (or loss) can result in substantially different tax impacts on the seller and the purchaser. When an S Corporation is sold in the middle of the year, the decision of whether or not to split the tax years must be carefully considered.
September 4, 2023
M&A Nuggets
M&A Nugget: A Purchaser’s Representation and Warranties
The seller’s representations and warranties in the agreement for the purchase and sale of a business usually comprise many pages. For a seller, however, it is important to include several representations and warranties by the purchaser, including that: 1) the transaction has been properly authorized by the purchaser’s governing body; 2) the purchaser is not party to any litigation that could adversely impact the transaction; 3) the purchaser is in good standing under the laws of the State in which it is organized; and 4) the purchaser is not insolvent, or a party to a bankruptcy proceeding. So, even though the seller’s representations and warranties in an agreement far outnumber the purchaser’s, it is important to the seller that the warranties listed above be included. The failure of any one of those warranties could prevent the transaction from going forward or from being successful
September 1, 2023
Business
M&A Nugget: Licenses – Odds and Ends
When acquiring a business, it is important to understand the licenses needed to operate that business. Some licenses, such as professional and contractor’s licenses, are obvious. There are many business activities that do not shout out as requiring a license, but for which the license is integral to operate the business. Here are a few examples: Locksmithing License Well Drillers License Salvage Yard Permit Bottled Water License Fire Sprinkler Contractors License Taxidermy License Licenses are either required to be held in the company’s name, a designated individual’s name, or both. There may be different levels for a particular license, such as master, associate or apprentice. Usually, even with a license in the company’s name, an individual who has gone through training and licensing, must be listed. For the purchaser entering into a new business, it can take weeks or even months to obtain the necessary licenses. It is therefore often crucial that the licensed individual agrees to allow the purchaser to continue to use the license and to provide services to the purchaser post-closing. The bottom line is that the purchaser and seller must plan for the purchaser to be able to operate with the requisite licenses on the closing date.
August 30, 2023
Business
M&A Nugget: Related Party Transactions
It is important that the purchaser investigate related party transactions when conducting due diligence. A related party transaction is a transaction or a contract between the target and another company controlled by, or related to, the owners of the target. An example of a related party transaction that is often encountered is a real estate lease between the owner of the target and the target. Another example is a key supplier agreement between the target and a relative of the target’s owner. Related party transactions must be examined to determine whether they are priced at fair market value. Often these arrangements are priced at higher than fair market value to benefit the related party. Another factor to consider is whether the related party will continue doing business with the purchaser post-closing, especially if the related party is a key supplier of goods or even a sole source provider. I have encountered situations where the key supplier was the target owner’s relative, and while more than happy to do business with the target on generous terms, would not commit to continuing those terms with the purchaser. So, as part of the purchaser’s due diligence, related party arrangements must be asked about and investigated.
August 28, 2023
Business
M&A Nugget: Cyber Insurance – The Tail
As data breaches have become larger (think Equifax, Target, and Yahoo) and more frequent, buyers and sellers should pay more attention to cyber insurance. Cyber insurance provides coverage for risks that arise out of the use of devices that maintain data, including computers and mobile phones. The insurance has existed for years, and generally covers losses incurred by the insured and claims of third parties seeking to be compensated for a data breach. One issue that arises with cyber insurance is that it is usually issued on a “claims-made” basis, which means that, for a loss to be covered, the claim must occur while the insurance policy was in place or within a specified period after the policy lapses. The problem with this is that cyber incidents may not be uncovered until well after the coverage period lapses. This is where tail insurance comes in. The inclusion of a tail provision extends the time during which a claim can be reported and therefore covered. Another way for a buyer to close the gap in coverage that exists with claims-made policies is to purchase cyber insurance with a retroactive coverage date, that will cover cyber incidents that occur before closing. The bottom line here is that with the increase in cyber security breaches, the buyer and seller need to ensure seamless coverage for incidents that occur before closing.
August 24, 2023
M&A Nuggets
M&A Nugget: The CPA – An Integral Advisor on the Deal
In a merger transaction, sellers should enlist the aid of their CPA throughout the sale process, from beginning to end. Here are but a few of the many reasons: First, near the inception of the deal, the CPA, who knows the seller’s books and records and finances well, can act as an advisor to the seller on the financial merits of the deal. Indeed, many CPA firms have specialists in business valuations, who can suggest a range of values the seller should be looking for. Second, an important financial decision in an asset sale is how the purchase price is to be allocated among the assets sold. Depending upon the allocation, there can be significant out of pocket tax consequences to the seller. Again, the seller’s CPA should be consulted to determine the purchase price allocation. Last, purchase agreements contain many representations and warranties by the seller regarding the target’s financial statements, tax returns and books and records. The seller’s CPA should always be consulted to review these specific representations and warranties for accuracy. The sale of your business is one of the most important events in your life, so make sure to include one of your most important advisors: your CPA.
August 21, 2023
M&A Nuggets
M&A Nugget: Stockholder Disclosure
In a merger transaction, sellers should enlist the aid of their CPA throughout the sale process, from beginning to end. Here are but a few of the many reasons: First, near the inception of the deal, the CPA, who knows the seller’s books and records and finances well, can act as an advisor to the seller on the financial merits of the deal. Indeed, many CPA firms have specialists in business valuations, who can suggest a range of values the seller should be looking for. Second, an important financial decision in an asset sale is how the purchase price is to be allocated among the assets sold. Depending upon the allocation, there can be significant out-of-pocket tax consequences to the seller. Again, the seller’s CPA should be consulted to determine the purchase price allocation. Lastly, purchase agreements contain many representations and warranties by the seller regarding the target’s financial statements, tax returns, books and records. The seller’s CPA should always be consulted to review these specific representations and warranties for accuracy. The sale of your business is one of the most important events in your life, so make sure to include one of your most important advisors: your CPA.
August 18, 2023
M&A Nuggets
M&A Nugget: Acquihire
One of the busiest areas of merger activity is in the government contracting sector. A major subsector of merger activity within that sector is acquihires. An acquihire is the purchase of a company, often a technology company, for the skills and expertise of its people. Acquihires have their own challenges for sellers and buyers. Since the main asset being acquired is the skill and knowledge of the seller’s employees, retention of the employees is crucial. That is why buyers often insist on a substantial portion of the purchase price being earned over time, and why sellers often request that buyers include stay bonuses as a deal component. Creative compensation models for the acquired employees must be considered. Since the main asset being acquired is basically people, the role of non-competition agreements is even more important. The golden point here is that a team of employees with unique technology skills and knowledge is valuable and both seller and buyer must consider the best ways to motivate the employees in the overall structure of the transaction.
August 16, 2023
M&A Nuggets
M&A Nuggets: The Drag-Along
In a sale structured as a stock purchase, most acquirors want to purchase one hundred percent of the ownership interests in the seller. That is why, if a seller has any minority owners, it is important to include a drag-along clause in the agreement among the owners of the seller. A drag-along clause basically states that if owners holding a certain percentage of the ownership agree to a sale, the owners can require the remaining owners to participate in the sale. The use of the drag-along clause prevents a minority owner from in effect vetoing a sale by not agreeing to sell. Several details need to be included in the drag-along clause, including the percentage needed to approve the sale and to drag-along the non-approving owners, whether the non-approving owners have the right of first refusal to purchase the company on the same terms offered by the third party and whether the drag-along right applies initially or at some future date. The big picture here is that the simple step of including drag-along rights in the ownership agreement helps to ensure the sale of one hundred percent of a company.
August 10, 2023
M&A Nuggets
M&A Nugget: The Best Fit
Most business transitions are accomplished by a sale to a third party. The merger and acquisition is, however, one of several ways that an owner can transition a business. The question is – what is the best fit for the owner? There are other alternatives that should be considered, if applicable. Does the owner have family who has worked in the business? If so, the owner could accomplish both business planning and estate planning objectives by transferring ownership to the family member. Are there key management personnel who are ready now or will be ready in the near future to take the helm of the business? If so, an exit plan can be implemented by which the ownership is transitioned to management over time. A sale to a third party might mean a greater purchase price and/or more secure source of funding for a purchase price to be paid over time. On the other hand, a sale to a third party might also result in a shorter term of continuing employment and therefore a stream of income over a shorter period of time than one of the other alternatives discussed above. There are many other factors to consider. In any event, when deciding how to exit your business, just as with a work suit, the question is which alternative is the best fit.
August 7, 2023
M&A Nuggets
M&A Nugget: Licenses – A Potential Holdup
Many target companies own a license that is required to engage in business. To the buyer, the ability to use the license is therefore crucial. Some licenses can be transferred, but most licenses cannot, in which case the buyer is required to apply for a new license. This important part of getting a deal done is often mismanaged. The keys to assure that the license process does not unduly delay closing are preparation, timing, and smart use of resources. On the preparation end, a buyer needs to do its homework to review the applicable rules and regulations governing the license. These rules often change, and it therefore is important to make sure that the most recent rules are reviewed. As for timing, applications to transfer a license or obtain a new license must be reviewed by the applicable government agency, which is often understaffed and underfunded. The license application should be made early enough to allow the government agency more than enough time to review and approve the license. Last, in terms of smart use of resources, it is often wise to engage a local expert who deals with the particular kind of license on a regular basis. By taking the above steps, the buyer and seller can make sure that the required license is not the holdup to closing.
August 2, 2023
M&A Nuggets
M&A Nuggets: Fair Notice
This nugget covers one of the mundane but important procedural aspects of a purchase agreement, called “Notice”. Every purchase agreement should contain a paragraph describing the methods by which written notice of a matter must be given. There may be important matters that the buyer/seller needs to notify the other about. For example, notification of the buyer’s decision to extend the closing date or the buyer’s claim for indemnification after the closing. It is therefore important that the method for providing notice be reliable enough to assure that the notice will be received and that the receiver of the notice will have enough time to respond. Boilerplate notice paragraphs often allow notice to be given by several methods, including hand-delivery, overnight mail, certified mail, fax transmission and e-mail transmission. In my opinion, neither certified mail nor fax transmission should be used as a delivery method. Certified mail, even if restricted to delivery of a specified person, is often either not retrieved or signed for by someone other than the designated person. Fax communications are used much less often than before e-mail existed and are often directed to a general fax line that may not make its way to the intended recipient. My preference is to limit the modes of delivery of the written notice to hand-delivery or overnight mail sent by a national recognized courier, along with, and not in lieu of, e-mail transmission. By being particular in drafting the notice paragraph, neither the purchaser nor the seller will risk missing an important notification from the other.
July 31, 2023
Business
Why is M&A Due Diligence Important?
The success of a Merger and Acquisition (M&A) deal depends heavily on the due diligence process. Due diligence refers to the investigation and analysis of a company's financial and legal information to identify potential risks and opportunities associated with an M&A transaction. M&A due diligence is critical for several reasons. First, it helps the acquiring company to identify potential risks associated with the acquisition, such as legal or financial liabilities, compliance issues, or hidden costs. This information is vital in negotiating the terms of the deal and determining the fair value of the target company. Second, due diligence can help identify potential synergies and opportunities for growth that the acquisition may bring. By analyzing the target company's financial and operational data, the acquirer can identify areas where cost savings can be made, revenue can be increased, or efficiencies can be gained. Lastly, due diligence can help the acquirer to develop an integration plan and manage the transition process more effectively. By understanding the target company's operations and culture, the acquirer can plan and execute a seamless integration that minimizes disruption and maximizes value. Key Steps in M&A Due Diligence The due diligence process can be complex and time-consuming, involving a range of activities, such as financial analysis, legal review, and operational assessments. Below are some of the key steps involved in M&A due diligence: Identify Key Areas for Investigation: The first step in the due diligence process is to identify the key areas of investigation. This may include financial statements, tax records, legal documents, customer contracts, employee agreements, and operational data. Conduct Financial Analysis: The financial analysis involves a detailed review of the target company's financial statements, including income statements, balance sheets, and cash flow statements. This analysis helps identify potential financial risks and opportunities associated with the acquisition. Review Legal Documents: The legal review involves a thorough analysis of the target company's legal documents, such as contracts, agreements, leases, and intellectual property rights. This review helps identify any legal risks or liabilities associated with the acquisition. Assess Operational Data: The operational assessment involves a review of the target company's operations, including production processes, supply chain management, and customer service. This assessment helps identify potential synergies and opportunities for operational improvement. Identify Risks and Opportunities: Based on the findings of the due diligence process, the acquirer can identify potential risks and opportunities associated with the acquisition. This information is used to negotiate the terms of the deal and develop an integration plan. Develop an Integration Plan: The integration plan outlines the steps required to integrate the target company into the acquirer's operations successfully. This plan should address key areas such as organizational structure, culture, systems integration, and communication.
May 4, 2023
M&A Nuggets
M & A Nuggets: Beware the Four Corners Offense
As the NCAA Basketball Tournament begins this week, it is appropriate to remember the “Four Corners Offense” and tie it to the merger process. The “Four Corners Offense” was popularized by the University of North Carolina in the 1960s and 1970s. The offense involved four of five players standing in the corners of the offensive half court with the fifth player dribbling in the middle, often for several minutes at a time. The result was a big slowdown of the game with no progress. Sellers of businesses devote substantial time, energy and resources to move a sale transaction to closing, but ultimately, are at the mercy of the purchaser. At the inception of the relationship between the potential seller and purchaser, all things are rosy. The purchaser lets the seller know how impressive the seller’s business is and how terrific of a fit the seller will be with the purchaser. As time unfolds during the merger process, sellers need to have an eagle eye for action or inaction by the purchaser that is not so obvious, but that indicates the purchaser intends to slow down the process, and which often results in the purchaser retreating from the transaction. Here are a few actions or inactions that should trigger concern: Comment from Purchaser: “One or two of our board (or investment committee) members are thinking about the pricing of the transaction or the current economic headwinds.” Real Meaning: The purchaser’s decision making body is rethinking the transaction. Inaction from Purchaser: Purchaser’s counsel is silent on when the purchase agreement will be forthcoming.Real Meaning: Purchaser has told its counsel not to prepare the purchase agreement because the purchaser is rethinking the transaction. Comment from Purchaser: “We are re-examining the valuation based upon current numbers.”Real Meaning: The purchaser intends to lower the purchase price or not proceed. The objective of seller and its counsel is to move the transaction along as fast as possible towards closing, but the above warning signs may indicate that the purchaser is deploying the “Four Corners Offense” and that the purchaser will withdraw. Being able to recognize this sooner rather than later will allow the seller to save a tremendous amount of time, energy and money and refocus on growing its business until such time as a purchaser with intent to complete a transaction arrives on the court ready to play and finish.
March 16, 2023
M&A Nuggets
M&A Nuggets: Be Prepared for Due Diligence, Before You Go to Market Part 4 – Employee vs. Contractor Classification
This is Part 4 of a series on steps business sellers should take to make sure their house is in order before going to market. One of the hot button issues that buyers examine when conducting due diligence is whether the seller has properly classified a worker as an independent contractor versus an employee. The contractor versus employee issue has always been a target of the Internal Revenue Service and United States Department of Labor. If a worker improperly classified as a contractor is in fact an employee, the consequence can be a finding that the employer owes back payroll taxes, interest and penalties. Some employers stretch their classifications of workers as independent contractors to avoid having to pay payroll tax and provide coverage under the employer’s employee benefit plans, thereby saving costs that would be incurred if the person was classified as an employee. Regardless of an employer’s past practice, potential buyers are certain to examine the issue and, if a buyer believes that there is the potential for misclassification, a specific indemnification by the seller of the buyer will be required. Prior to going to market, sellers should review any classification of workers as independent contractors. The factors looked at to determine whether a worker is an independent contractor or an employee, although not crystal clear, depend in large part on whether the employer controls the worker’s schedule, provides all of the resources the worker needs to work and restricts the worker from engaging in competition. Independent contractor relationships should be properly documented with contractor agreements. The factors that determine worker status should be reviewed as they apply to each contractor and, if necessary, the relationship between the worker and the company should be adjusted to either make clear that the factors weighing in favor of a contractor determination will be satisfied, or to shift the worker to an employee. By examining the contractor versus employee issue proactively, a seller can not only provide comfort to interested buyers that this issue has been dealt with, but also avoid potential payroll tax and other regulatory issues later.
September 28, 2022
M&A Nuggets
M&A Nuggets: Be Prepared for Due Diligence, Before You Go to Market Part 3 – Privacy Policies
This is Part 3 of a series on steps business sellers should take to make sure their house is in order before going to market. The Health Insurance Portability and Accountability Act, better known as HIPAA, was enacted in 1996 as one of the first laws to protect the privacy of personal identifiable information. The increase in attempts by cybercriminals to obtain or hold hostage private information, whether through ransomware, phishing attacks or other efforts, has been in part the reason for spurts in the enactment of additional privacy laws to protect personal information. As a result of the greater susceptibility of personal information to attack and the increase in the number of laws designed to protect the information, privacy laws and policies have become one of the due diligence areas most focused on by buyers. To be prepared, sellers must first understand which privacy laws apply to them. In the United States, HIPAA, which is designed to protect healthcare information, is the most significant federal law. At present, there is no overall federal law protecting privacy information in general. However, several States have enacted their own privacy laws, including California, Virginia, Utah, Colorado and Connecticut, and more are on the way. It is important to determine whether these laws apply to your business. A State’s law may apply to your business even though you do not do business in that State. Among the most important overseas laws is the General Data Protection Regulation, known as GDPR, which regulates the information of residents of the European Union. Again, just because your business does not operate in the European Union does not mean that your business is not subject to the GDPR, as that law applies to businesses that collect and process information of European residents. The privacy laws establish policies and standards that must be followed to protect personal information. Once it is understood what laws are applicable to your business, the next step is to determine whether your business has in place the policies and standards that are required, including whether its online privacy policies and terms of use are sufficient. Making sure that your business is in compliance with privacy laws will not only go a long way to protect the personal information of persons who do business with you (your employees, customers and members of the public who visits your website or app), but will provide comfort to potential buyers that you have adequately dealt with this area of high risk. If you have any questions about this or any other M&A issue, please contact Glenn Solomon at gsolomon@offitkurman.com or 443-738-1522.
September 22, 2022
