ACQUIRING A BUSINESS IN THE UNITED STATES Corporate and Business Law Aspects Current Trends © 2004,...

ACQUIRING A ACQUIRING A BUSINESSBUSINESS

IN THE UNITED IN THE UNITED STATESSTATES

Corporate and Business Law Corporate and Business Law AspectsAspects

Current TrendsCurrent Trends

© 2004, 2008© 2004, 2008Constance R. BarnhartConstance R. Barnhart

2© 2004, 2008 Contance R. Barnhart

Beginning the Process:Beginning the Process:CULTURAL DIFFERENCESCULTURAL DIFFERENCES

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CULTURAL CULTURAL DIFFERENCESDIFFERENCES

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Good Time to Acquire a Good Time to Acquire a BusinessBusiness

in the United States in the United States Dollar lowDollar low Low valuations – time of near-Low valuations – time of near-

recessionrecession Troubled company opportunitiesTroubled company opportunities VC’s divesting & partnering to re-VC’s divesting & partnering to re-

investinvest Some pick-up in M&A activitySome pick-up in M&A activity


Beginning the ProcessBeginning the Process

FINDING THE TARGETFINDING THE TARGET Beware the InternetBeware the Internet Registered Broker/ Dealer Requirement in Registered Broker/ Dealer Requirement in

U.S.U.S.

LETTER OF INTENTLETTER OF INTENT May Not be Wise – Risk of Binding EffectMay Not be Wise – Risk of Binding Effect Hard to Change Terms Already “Agreed”Hard to Change Terms Already “Agreed” It’s a Legal Process from the Beginning in It’s a Legal Process from the Beginning in

U.S.U.S.


Due DiligenceDue Diligence Virtually No Public Information on U.S. Virtually No Public Information on U.S.

Private CompaniesPrivate Companies No Audited FinancialsNo Audited Financials No Public Disclosure DocumentsNo Public Disclosure Documents

““Caveat Emptor” (Buyer Beware) – Caveat Emptor” (Buyer Beware) –

Common Law vs. Code Law systemCommon Law vs. Code Law system

Early, Careful & Thorough Due Early, Careful & Thorough Due Diligence Means MoneyDiligence Means Money


Due Diligence:Due Diligence:Management & ReputationManagement & Reputation

Public Information – Press CoveragePublic Information – Press CoveragePrivate Investigators in The Due Private Investigators in The Due

Diligence Process:Diligence Process: Background Checks – Criminal; Civil; Background Checks – Criminal; Civil;

CorporateCorporate Litigation ChecksLitigation Checks Customer, Supplier and Creditor Checks Customer, Supplier and Creditor Checks

– Payment History– Payment History Competitor IntelligenceCompetitor Intelligence References; ReputationReferences; Reputation


Basic Corporate Basic Corporate & & Financial Financial

Due DiligenceDue Diligence See Sample U.S. Due Diligence ChecklistSee Sample U.S. Due Diligence Checklistss Financial Records – U.S. GAAPFinancial Records – U.S. GAAP (or ”GUAP”) (or ”GUAP”) When there are No Audited Financials?When there are No Audited Financials?

When You Are Buying a Division?When You Are Buying a Division? Pre or Post Closing Audit, with Adjustments to Pre or Post Closing Audit, with Adjustments to

Purchase PricePurchase Price Valuation Opinion – Discounted Cash Flow; Valuation Opinion – Discounted Cash Flow;

Comparable DealsComparable Deals Earn OutEarn Out


U.S. Due Diligence – Big U.S. Due Diligence – Big Ticket ItemsTicket Items

Product Liability ClaimsProduct Liability Claims Class Action LitigationClass Action Litigation Securities or Accounting FraudSecurities or Accounting Fraud Environmental Liabilities – Superfund Clean-Up Environmental Liabilities – Superfund Clean-Up

LawsLaws Price Fixing or Anti-Trust IssuesPrice Fixing or Anti-Trust Issues Patent Infringement, Trademark Infringement Patent Infringement, Trademark Infringement

ClaimsClaims Patent Issued or Trademark Registration is No GuaranteePatent Issued or Trademark Registration is No Guarantee

Trade Secret IssuesTrade Secret Issues Hidden Claims of Past Owners or Past Employers of Hidden Claims of Past Owners or Past Employers of

InventorsInventors


ContractsContracts & Securities & Securities::Small Print with Big ImpactSmall Print with Big Impact Reps; Liquidated Damages on BreachReps; Liquidated Damages on Breach Performance Standards; Termination; Performance Standards; Termination;

”Evergreen Contracts””Evergreen Contracts” Non-assignment clauses (if transaction involves Non-assignment clauses (if transaction involves

transfer of assets)transfer of assets) Change of control (if sale of more than 50% of Change of control (if sale of more than 50% of

the equity of the entity)the equity of the entity) Equity warrantsEquity warrants Stock rights & Stock rights & Anti-dilution clauses (in stock Anti-dilution clauses (in stock

option, sales agreements)option, sales agreements) Securities Review – Paper records & Securities Review – Paper records &

CertificatesCertificates


Gotcha’sGotcha’s

State franchise taxes and State franchise taxes and qualification feesqualification fees

State income and sales taxesState income and sales taxes Qualification to do businessQualification to do business Employment taxesEmployment taxes Lack of corporate recordsLack of corporate records


Sarbanes-Oxley Act IssuesSarbanes-Oxley Act Issuesfor the Public Company for the Public Company

AcquirerAcquirerWill the Target Company Take You Out of Will the Target Company Take You Out of

Compliance?Compliance? Officer & Director Loans; Consideration IssuesOfficer & Director Loans; Consideration Issues GAAP FinancialsGAAP Financials Disclosure Controls and Procedures; Disclosure Controls and Procedures;

Certification RequirementsCertification Requirements Triggers for Enhanced Review by SECTriggers for Enhanced Review by SEC

Material Financial RestatementsMaterial Financial Restatements Disparities in Price to Earnings RatioDisparities in Price to Earnings Ratio Significant Stock Price VolatilitySignificant Stock Price Volatility

Auditor Independence; Audit CommitteeAuditor Independence; Audit Committee Majority of Independent DirectorsMajority of Independent Directors


Structuring the Structuring the Transaction:Transaction:

Choice of Entity for U.S. Choice of Entity for U.S. InvestmentInvestment The options:The options:

C CorporationC Corporation S CorporationS Corporation Limited Liability CompanyLimited Liability Company

The reasons:The reasons: TaxationTaxation Flexibility of governanceFlexibility of governance Appeal for Appeal for future future institutional venture institutional venture

investorsinvestors Opportunity for future tax-deferred dealsOpportunity for future tax-deferred deals


C CorporationC Corporation Pro’s:Pro’s:

SimpleSimple Keeps foreign parent from filing returns or paying tax Keeps foreign parent from filing returns or paying tax

in U.S.in U.S. Eligible for future tax-deferred 368 reorgs.Eligible for future tax-deferred 368 reorgs. Stock options easy to implementStock options easy to implement Fast/inexpensive to createFast/inexpensive to create Institutional VC’s will require these or LLC’sInstitutional VC’s will require these or LLC’s Any number and type of shareholdersAny number and type of shareholders Multiple classes of stockMultiple classes of stock

Con’s:Con’s: Double taxDouble tax


S CorporationS Corporation Pro’s:Pro’s:

SimpleSimple Single-level taxSingle-level tax Eligible for future tax-deferred 368 reorgs.Eligible for future tax-deferred 368 reorgs. Stock options easy to implementStock options easy to implement Fast/inexpensive to createFast/inexpensive to create

Con’s:Con’s: Only US resident individuals and S corporations may Only US resident individuals and S corporations may

own shares; some trustsown shares; some trusts One class of stock (though voting/non-voting One class of stock (though voting/non-voting

permitted)permitted) Limit on the number of investorsLimit on the number of investors


Limited Liability Limited Liability CompanyCompany

Pro’s:Pro’s: FlexibleFlexible Pass-through Tax Treatment; Single level taxPass-through Tax Treatment; Single level tax Good U.S. vehicle for foreign parties with no U.S. operations Good U.S. vehicle for foreign parties with no U.S. operations

or income in ventures outside of U.S.or income in ventures outside of U.S. Any number and type of members (owners) permittedAny number and type of members (owners) permitted Multiple classes of ownership unitsMultiple classes of ownership units

Con’s:Con’s: Subjects foreign parent to U.S. tax on U.S. income & filing tax Subjects foreign parent to U.S. tax on U.S. income & filing tax

return in U.S.return in U.S. Complex Operating Agreements (more like partnership)Complex Operating Agreements (more like partnership) Slow, expensiveSlow, expensive Newer form of entity; Case law/ rights not as well establishedNewer form of entity; Case law/ rights not as well established Awkward for equity option plansAwkward for equity option plans Many VC’s cannot be members (UBTI – Unrelated Business Many VC’s cannot be members (UBTI – Unrelated Business

Taxable Income)Taxable Income)


Trends in Deal Structure Trends in Deal Structure

and Termsand Terms 1.1. STOCK PURCHASE, ASSET PURCHASE OR STOCK PURCHASE, ASSET PURCHASE OR

MERGERMERGER Stock purchase is most prevalent: Stock purchase is most prevalent:

May avoid third party consents triggered by asset May avoid third party consents triggered by asset salessales

Long term capital gains for SellerLong term capital gains for Seller Novations of government contracts not required Novations of government contracts not required

for Buyerfor Buyer Asset purchase where division being sold or liabilities Asset purchase where division being sold or liabilities

difficult to assess difficult to assess Merger may be used where target is publicly held or Merger may be used where target is publicly held or

where less than all stockholders are willing where less than all stockholders are willing participantsparticipants

Tax ConsiderationsTax Considerations



and Termsand Terms 2.2. FORMS AND STRUCTURE OF FORMS AND STRUCTURE OF

CONSIDERATIONCONSIDERATION Stock in Publicly Traded BuyerStock in Publicly Traded Buyer

Likely still ”restricted stock” in U.S.Likely still ”restricted stock” in U.S. But worth more than U.S. Stock if U.S. But worth more than U.S. Stock if U.S.

Seller can trade outside of U.S. under Reg Seller can trade outside of U.S. under Reg SS

Stock in Non-Public BuyerStock in Non-Public Buyer Valuation issuesValuation issues Stockholders Agreement restrictionsStockholders Agreement restrictions Pledge as Security for Seller’s Reps/ Pledge as Security for Seller’s Reps/

IndemnitiesIndemnities



and Termsand Terms FORMS FORMS AND STRUCTURE AND STRUCTURE OF OF

CONSIDERATION, ContCONSIDERATION, Cont::

Cash – Installments; AdjustmentsCash – Installments; Adjustments Subordinated Notes of BuyerSubordinated Notes of Buyer -- LBO -- LBO

Collateral – subordinated lien on assets or stock of TargetCollateral – subordinated lien on assets or stock of Target Principal issues are repayment terms, interest and terms Principal issues are repayment terms, interest and terms

of subordination agreementof subordination agreement Subordination issues include how much senior or Subordination issues include how much senior or

mezzanine debt is permitted, what remedies are available mezzanine debt is permitted, what remedies are available upon default of senior debt and when may payments be upon default of senior debt and when may payments be mademade

Mandatory prepayment upon sale, recapitalization or IPO Mandatory prepayment upon sale, recapitalization or IPO often requiredoften required


Trends in Deal Structure Trends in Deal Structure and Termsand Terms

3.3. PAYMENT STRUCTURE & PAYMENT STRUCTURE & SECURITYSECURITY::

Holdbacks and EscrowsHoldbacks and Escrows Closing Balance Sheet & Post-Closing Balance Sheet & Post-

Closing AdjustmentsClosing Adjustments Earn-Outs – Contingent Earn-Outs – Contingent

Deferred PaymentsDeferred Payments Pledged Buyer StockPledged Buyer Stock


Trends in Deal Structure Trends in Deal Structure and Termsand Terms

4.4. REPRESENTATIONS AND WARRANTIESREPRESENTATIONS AND WARRANTIES Common Law vs. Code Law SystemCommon Law vs. Code Law System AssetsAssets -- A/R Collection; Real Estate; IP -- A/R Collection; Real Estate; IP LiabilitiesLiabilities – Prod. Liability; Environmental; Accounting – Prod. Liability; Environmental; Accounting

Fraud; Employee Matters; Tax Responsibility; Litigation/ Fraud; Employee Matters; Tax Responsibility; Litigation/ Claims: Claims:

(>Contingent Fees >Class Actions >Each Party pays (>Contingent Fees >Class Actions >Each Party pays Own Atty Fees)Own Atty Fees)

OperationsOperations – Financials; Inter-company issues; Conduct – Financials; Inter-company issues; Conduct pending Closingpending Closing

Due Diligence ”Out”Due Diligence ”Out” Materiality and knowledge qualifiersMateriality and knowledge qualifiers – allocation of – allocation of

risksrisks Definition of knowledgeDefinition of knowledge and knowledgeable employees and knowledgeable employees


Trends in Deal StructureTrends in Deal Structure and and TermsTerms

55.. SURVIVAL OF REPRESENTATIONS AND SURVIVAL OF REPRESENTATIONS AND WARRANTIESWARRANTIES General – 1 to 2 yearsGeneral – 1 to 2 years Capitalization, authority, title, brokers – Capitalization, authority, title, brokers –

indefiniteindefinite Tax, ERISA, environmental – 30-60 days Tax, ERISA, environmental – 30-60 days

past statute of limitationspast statute of limitations Government contracts – 3-5 years, statute Government contracts – 3-5 years, statute

of limitations or generalof limitations or general Pre-closing covenants – indefinite or same Pre-closing covenants – indefinite or same

as generalas general Post-closing covenants – indefinitePost-closing covenants – indefinite


Trends in Deal StructureTrends in Deal Structure and Termsand Terms

66.. INDEMNIFICATIONINDEMNIFICATION Sellers – joint and severalSellers – joint and several Cap – percent of consideration varies (10% to Cap – percent of consideration varies (10% to

50%) 50%) Basket – Basket – vs. Extent of vs. Extent of materiality qualifiers in materiality qualifiers in

reps.reps. Exclusive remedy – except for fraud Exclusive remedy – except for fraud Potential exclusions from cap and/or basket: Potential exclusions from cap and/or basket:

breach of covenants, fraud, willful misconduct, breach of covenants, fraud, willful misconduct, tax, ERISA, government contracts, ongoing tax, ERISA, government contracts, ongoing litigation/investigation/claimslitigation/investigation/claims

Special indemnities outside of cap or basket for Special indemnities outside of cap or basket for known items that Buyer will not assumeknown items that Buyer will not assume

Rep. & Warranty Rep. & Warranty InsuranceInsurance


Trends in Deal StructureTrends in Deal Structure and Termsand Terms

77.. EMPLOYEE/ SELLER RETENTION EMPLOYEE/ SELLER RETENTION ISSUESISSUES

EMPLOYEE RETENTIONEMPLOYEE RETENTION Retention agreements – terms, responsible partyRetention agreements – terms, responsible party Employment agreements – condition to closingEmployment agreements – condition to closing Seller Earn OutSeller Earn Out

NON-COMPETE AGREEMENTS OF SELLERSNON-COMPETE AGREEMENTS OF SELLERS Term – 2 to 5 years or longerTerm – 2 to 5 years or longer Scope – Seller’s business or certain customers of TargetScope – Seller’s business or certain customers of Target Exclusions – academia, unrelated consulting, government Exclusions – academia, unrelated consulting, government

position, certain investments in fundsposition, certain investments in funds Non-solicitation of EmployeesNon-solicitation of Employees Non-disparagementNon-disparagement Non-disclosure of Target’s proprietary informationNon-disclosure of Target’s proprietary information


Special Issues in Special Issues in Troubled Company Troubled Company

AcquisitionsAcquisitions

Fraudulent TransferFraudulent Transfer Bulk Transfer LawsBulk Transfer Laws Successor LiabilitySuccessor Liability Right to Reject or Assume ContractsRight to Reject or Assume Contracts Pre-Bankruptcy Acquisition Pre-Bankruptcy Acquisition

StrategiesStrategies ““Prepackaged” BankruptciesPrepackaged” Bankruptcies


Special U.S. Regulatory Special U.S. Regulatory IssuesIssues

for the Foreign Buyerfor the Foreign Buyer HartHart--ScottScott--Rodino Act – Anti-Trust Pre-Rodino Act – Anti-Trust Pre-

Merger NotificationMerger Notification U.S. Real Property Holding Corporation – U.S. Real Property Holding Corporation –

Withholding TaxWithholding Tax SEC RequirementsSEC Requirements Exon-Florio AmendmentExon-Florio Amendment Regulated Industries (Communication; Regulated Industries (Communication;

Shipping; Aviation; Defense; Energy & Shipping; Aviation; Defense; Energy & Natural Resources; State Regulations)Natural Resources; State Regulations)

Reporting RequirementsReporting Requirements


7 Keys to a Successful 7 Keys to a Successful AcquisitionAcquisition

in the United Statesin the United States1.1. PreparePrepare -- Education on the U.S. -- Education on the U.S.

Environment and Advance Consultation with Environment and Advance Consultation with Qualified U.S. Acquisition ExpertsQualified U.S. Acquisition Experts

2.2. Seize OpportunitiesSeize Opportunities – Act when valuations – Act when valuations are loware low

3.3. Due DiligenceDue Diligence -- Do Your Thorough -- Do Your Thorough “Homework” on the Target“Homework” on the Target

4.4. Manage ExpectationsManage Expectations – Consult with your – Consult with your advisors to determine what terms are advisors to determine what terms are realistic and customaryrealistic and customary


7 Keys to a Successful 7 Keys to a Successful AcquisitionAcquisition

in the United Statesin the United States5.5. TeamworkTeamwork among acquisition team members among acquisition team members

in Buyer’s country and U.S. --Buyer, in Buyer’s country and U.S. --Buyer, accountants, investment bankers, legal accountants, investment bankers, legal counselcounsel

6.6. Use Experienced AdvisorsUse Experienced Advisors with a Creative with a Creative Win/Win approach to Negotiations -- Beware of Win/Win approach to Negotiations -- Beware of the all too common Adversarial U.S. “Bulldog”the all too common Adversarial U.S. “Bulldog”

7.7. Understand and Manage Cultural Understand and Manage Cultural DifferencesDifferences (and work with Advisors who (and work with Advisors who understand and can help with this) –- Clear understand and can help with this) –- Clear CommunicationCommunication



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ACQUIRING A BUSINESS IN THE UNITED STATES Corporate and Business Law Aspects Current Trends © 2004,...

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Transcript of ACQUIRING A BUSINESS IN THE UNITED STATES Corporate and Business Law Aspects Current Trends © 2004,...