Advanced Negotiation Issues in M&A and Stock Purchase Agreements (USA)

0 Part Course | Acquire an in depth knowledge of effective negotiating, equity bridge, risk allocation methods, value leakage, earn-outs and much more

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A one-day course

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Part One

General guidelines for effective negotiating

5 key issues everyone should remember in negotiating M&A
Why price isn’t everything (10 aspects affecting the value)
The value matrix – building blocks of the price
Reconciling price vs. value (strategy) – what to look for
Three step approach to focus on the key commercial issues
The art of making concessions - how and why they can help to close
Common mistakes in negotiating the deal (and how to avoid them)

The Parties and Agreements to Agree

Who should be a party to the SPA & why (apart from the buyer and seller)
- Buyer’s Parent – rationale
- Seller’s Parent & /or Holdco - rationale
- Third parties
- Management of Target?
- The ‘Section 338(h) (10) election’
Agreements to Agree Letters of Intent
- Requirement to Negotiate in good faith – position in the US (UCC)
- Position in Delaware - Legally binding &/or enforceable

Methods of Allocating risk in M&A (overview)

Purchase of Assets vs Stock
Triangular mergers
- Forward Triangular mergers – pros & cons
- Reverse Triangular mergers - pros & cons
Purchase price adjustment mechanisms
Representations and Warranties
Pre-Closing Covenants
Indemnification remedies
Pre-Closing conditions
Termination rights
MAC and MAE

Overview- Purchase Price Adjustment mechanisms

Reconciling Enterprise to Equity Value
- Cash Free / Debt Free adjustment
- Working Capital adjustments
- NAV approach – use and application (typical sectors)
Closing balance sheet adjustments (Completion Accounts)
Locked Box mechanism (summary)
Earn-outs (summary)

Closing balance sheet adjustments (Completion Accounts)

The Accounts – what accounting principles apply
- GAAP ? “amended GAAP” vs (non-GAAP) Management Accounts
- The importance of the hierarchy of “Accounting principles”
- What about a GAAP “override” – pros and cons
Potential problems with GAAP
- Which GAAP ? historic [“in accordance with GAAP applied on a basis consistent with past practice”] or other
- Issues when “modifying” GAAP (historical cost vs ‘fair value’)
- Problems using historical figures that are not GAAP compliant
Case review ? Alliant Techsystems
The financial components of the adjustments
- What is included in “Debt”
- Obvious “debt-like” items (i.e. Interest-bearing debt)
- Contentious “debt” items (e.g. Deferred Revenues/Taxes, Stretched Payables, Reverse factoring)
- Interaction with working capital
- Case review ? Accel Int. Corp. re deferred tax
- What does “Cash” include
  - Which cash figure matters – Bank vs Ledger
  - ‘Trapped’ cash
  - The ‘operating cash’ debate
- The working Capital Adjustment
  - Key components in the Working Capital definition
  - Adjusting for Transaction expenses
  - Setting the Working Capital Target/Peg ? normalised vs run-rate vs average
  - Problems with erratic working
  - Checklist of accounting items that are frequently disputed
- Case review ? Twin City Monorail
- Case review ? Mehiel v. Solo Cup
- Final Adjustments (the “true-up”)
  - One-way vs two-way
  - Downward vs upward only
  - Dollar for dollar vs capped
  - Recourse to Escrow only?

How to minimise post-Closing disputes

Defining the scope of the independent expert’s review
Case review ? Chicago Bridge
Use detailed accounting definitions for “debt, “cash” & “working capital”
Use worked examples/Schedules to clarify matters
Avoid double counting
Case review ? Brim Holding re double counting
Specify cut-off dates for prepaid expenses/
Use interest accrual to encourage dispute resolution
Use Escrow accounts (can help buyer and seller)

Part Two

Representation & Warranties

Role of the Reps & Warranties
List of typical Seller’s Reps & Warranties
- ‘Financial Statements’ rep – scope “fairly presents” or more onerous formulations
- Internal controls representation – why it matters [Section 13(b)(2)]
- ‘Undisclosed liabilities’ representation – buyer vs seller approach
- The 10b-5 representation
Summary of the main/typical Buyer’s Reps & Warranties
Limitations on the Reps & Warranties
- Disclosed matters
- Scope of matters (does it cover the data room?)
  - What are “Material Contracts” Buyer vs Seller approach
- Time limits – how long
- “Knowledge” limitations – whose knowledge
  - Defining “Knowledge”- Seller vs Buyer negotiating points
  - “Due and careful enquiry” obligation
  - Whose ‘knowledge’ – specific individuals vs broad categories (e.g. “All Directors”)
  - Actual vs constructive knowledge
- Materiality
  - Defining “Materiality”
  - Defining a MAE – Seller vs Buyer negotiating points [key issue]
- Case review ➜ Akorn
- Case review ➜ - Hexion Specialty Chemicals

Indemnification & Damages

Application of Indemnification
- Failure to perform a covenant
- Breach of a Rep & Warranty
- Other agree matters (e.g. litigation)
Stand-alone Tax Indemnity?
Survival periods and Statutory Limitations
- Differential survival periods for ‘fundamental’ matters
- What’s market
Coverage of indemnification - Seller vs Buyer position
- Seller - Items in the Stock Purchase Agreement only
- Buyer – expanding the coverage (ancillary documents, affiliates)
- Indemnification for specific “known” matters e.g. litigation, product liability
- Definition of “Losses” covered
Financial Limitations
- Overall cap
- ‘De-minimis’ basket for individual (‘Qualifying’) claims (What’s market)
- Deductible (or Tipping) basket for ‘Qualifying’ claims
- Adjustments for Insurance proceeds and Tax rebates
- Duty to Mitigate damages
- Exclusion of punitive damages and consequential loss
- Anti-Sandbagging provisions
- Materiality Scrapes
- Do baskets apply to all Reps and Warranties or are there carve-outs
- Indemnification as an “Exclusive Remedy” – Seller vs Buyer vs Market
- ” Typical” carve-outs from “Exclusive Remedy” provisions
- Escrow Accounts summary
- Warranty Insurance

Escrow Accounts – key negotiating issues

When and why they are needed
How much (percentage) should the Escrow cover”
How many – one or more
Should buyer be subject to an Escrow?
Holdback / Retention as an alternative to Escrow
Dealing with Escrow interest
Interest on Post-Closing Adjustments - treatment

Representation and Warranty Insurance

Pros and cons of using R&W Insurance
Key considerations
- Is it right for the deal?
- Who pays the premiums
- Does replace or enhance Indemnification
Issues when R&W Insurance replaces the Seller’s Indemnity
- The Definition of loss.
- Standard of materiality
- Carveouts and offsets for coverage
- Typical coverage and exclusions
Typical fees (what’s market?)

Split Signing & Closing – key negotiating issues

‘Typical’ Closing Conditions
Review of key Closing Conditions
- Requirement to ‘bring-down’ reps and warranties at Closing
- Hart-Scott-Rodino
- Typical pre-closing Covenants (summary)
Key aspects re ‘Bring-down’ Reps & Warranties at Closing
- How accurate must the Reps & Warranties be at Signing & Closing?
- Right to update Disclosures?
- Buyer remedies to further Disclosures
Post-Closing covenants (when and why they matter)
Role of the MAC/MAE (next section)
Termination Rights
- Buyer’s right to terminate
- Seller’s right to terminate
- Effect of Termination - Break fees & Reverse Break Fees

MAC / MAE Provisions

Why and where they matter
- Seller’s Representation and Warranties
- The ‘Bring-down” Closing condition
What Constitutes a ‘MAC’ – typical formulations (Buyer vs Seller approach)
- MAC Condition
- MAC Representation
- MAC Definition
Negotiating the MAE – typical ’market’ exclusions
Impact of Coronavirus - is it a MAC?
Case Review – Genesco
Separate ‘Stand-alone’ MAE ?
Case review ➜ Akorn
Case review ➜ - Hexion Specialty Chemicals

Bridging the “Value Gap” on price

Cash - how much cash is too much?
Shares (listed)
- Use and application
- Problems areas: market price, caps & collars
- Other pitfalls & how to avoid them
Vendor loans
- Use and application
- Pros and cons for sellers and buyers
Other methods
- Consultancy agreements - Where and how they can help
- Service agreements - Where and how they can help
Stub equity – when to use it and why
Contingent value rights (earn-outs)

Earn-outs

Structuring the earn-out – the key issues
Determining the benchmark
- Financial benchmarks
- Considerations
- Pros and cons of each
- Contentious issues re financial targets
- Non-financial benchmarks
The earn-out period – key considerations
Structure of the earn-out pay-outs
- Issues with multiple payments
- Dealing with subsequent underperformance
- Buyer’s Acceleration rights
Measuring the target’s performance
Dispute Resolution options and issues
Post-closing operations of the target – typical covenants
Seller's rights and obligations, they remain aboard
Security for the buyer's obligations
Case review ➜ Vysyaraju v. Management Health Solutions, Inc. [earn-outs]

The negotiation issues in stock purchase agreements course trainer is a consultant, public speaker and author with expertise in private equity, debt advisory, restructuring and infrastructure. He is a Senior Advisor to KPMG Finland, a Senior Advisor to Reorg EMEA Covenants, the leading provider of information to the European High Yield community, and a Senior Consultant to Grant Thornton UK.

Redcliffe’s stock purchase agreement negotiation masterclass is provided to a wide range of blue-chip clients in Europe, Africa, the Middle and Far East, North America and Australasia. In-house clients include banks (BNP Paribas, Société Générale, ING, Barclays Capital, Bank of China, RBS, SEB); lawyers (Baker & McKenzie, Skadden Arps, Sullivan & Cromwell, Cadwalader, Latham & Watkins, Weil, White & Case); advisory firms (Lazard, PWC, M&A International, KPMG, EY, Deloitte); PE firms (Cinven, Advent, Barings Asia, Waterland); corporates (Siemens, Airbus, Turkcell, Candy Crush, Gunvor, Statkraft) and governmental bodies (the UKLA, the EBRD, the ECGD, Omani Oil Corp.)

He qualified in South Africa both as a Chartered Accountant, with Deloitte, and as a lawyer with Hofmeyr where he was involved in structuring a number of high-profile project financings including BMW 3 Series, Ford Sierra, GM, Sappi and Mondi.

When he moved to London and joined Lazard Brothers as a corporate finance executive he was involved in a wide range of public and private transactions. Subsequently he joined Hoare Govett as an assistant director where he acted as an advisor to smaller listed companies and was involved in several syndicated Euro-Equity Initial Public Offerings.

In 1991 he joined ABN Amro’s cross border M&A team prior to being transferred to MeesPierson Corporate Finance as a Director in Cross-Border M&A where he was also involved in a number of deals in Central Europe. During this time he was a member of the EU-PHARE programme and advised the Estonian government on their privatisation programme.

He is the Programme Director at the City Business School, London, for Infrastructure Finance for the M. Sc. programme in Business Administration and Finance.

He is a member of the Institute of Chartered Accountants in England & Wales and the South African Institute of Chartered Accountants. He completed a BA and an LLB at the University of Natal and a B. Compt. (Hons) at UNISA.

Effective Negotiating – M&A is an organic process which involves not only negotiations between buyer and seller but also managing other parties in the deal who may often have competing agendas. The programme provides practical guidance on how to approach the key issues for each party and also how to maximise the chance of closing the deal by focusing on what really matters
Equity Bridge – ‘cash free/debt free’ does not capture the myriad of ‘debt-like’ items nor how to negotiate the working capital ‘peg’. The programme provides participants with insight into how to negotiate both these thorny topics
Risk Allocation Methods – the programme covers the various ways in which risk can be allocated between buyer and seller and analyses in depth the critical issues in each method
The Stock Purchase Agreement (“SPA”) embodies the final agreement between the parties and incorporates the key commercial and legal issues agreed between buyer and seller. The programme provides an in-depth analysis of the key commercial issues in the SPA from both buyer and seller’s perspective. Whilst the document is drafted by lawyers, advisors and the main players need to have a sound understanding of how the commercial and legal issues
Purchase Price Adjustment Mechanisms – M&A deals can be structured using a variety of PPA mechanisms. In the USA the most typical is the ’cash free/debt free’ coupled with a working capital adjustment. The programme covers how to identify and negotiating the PPA adjustments (from both buyer and seller perspective) and how to approach matters to avoid the chance of post closing disputes
Value Leakage – all parties (not only lawyers) need to have an understanding of the interplay between representations & warranties, disclosure and indemnities and other risk mitigants such as the various deductible and de minimis baskets that can disadvantage buyers. The programme covers these key issues in depth with guidance on current market practice
Representation and Warranty Insurance – is playing an increasingly large role in M&A deals and can be used to supplement Indemnification for the buyer or even replace it entirely. The programme covers the key aspects relevant to the parties
Bridging the Value Gap – there are many ways to skin a cat and participants will discuss the pros and cons of the various ways to bridge the ‘gap’ between buyer and seller including Earn-outs, Stub equity and the use of Consultancy Agreements
Earn-outs – these provide a useful mechanism for resolving a number of conflicting aims between buyers and sellers; how to reconcile views on value/price, how to ensure the sellers remain incentivised to maximise value; how to ensure there is an orderly handover from sellers to buyers. The bad news is earn-outs invariably lead to disagreements. The programme provides guidance on how to negotiate an effective earn-out which also reduces the chance of disputes

The trainer qualified as a solicitor so has experience in drafting legal documentation
He has experience in over 40 years of M&A covering a wide range of regions including the USA, Canada, Europe, Asia and Africa
Having trained as a Chartered Accountant with Deloitte he has a sound understanding of the key financial issues in SPAs
The trainer is a still active in the M&A market though his various consultancies
Through presenting to clients involved in different aspects of M&A (advisers, transaction services/DD, Investment Banks and lawyers) he gains exposure to different aspects to the SPAs

This negotiation issues in M&A and stock purchase agreements training programme is aimed at those with a working knowledge of the M&A process. It focuses on negotiating the key commercial aspects of the transaction which impact value for both buyer and seller and on creating the right framework and strategy for enhancing value to the seller or retaining value for the buyer.

The simplistic view of M&A is that it is a bilateral process between buyers and sellers. Experienced practitioners understand it is an organic process, which involves multilateral negotiations between buyers/sellers on the one hand, and their respective advisers on the other hand. Additionally, there are critical negotiating issues that arise, in parallel, between the parties, their own advisors and between the advisors themselves (e.g. accountants debating the completion accounts, lawyers debating warranties in the SPA).

To complicate matters, there are significant differences in approach between different types of sellers and buyers. For example, corporates have a different agenda to PE firms whilst owner/managers, who invariably lack experience in M&A, often represent the biggest challenge. Last, the seller’s management can also have a malign influence on the sale process which requires delicate handling.

The programme is divided into two parts. The first part focuses on the soft negotiating issues which are common to smaller deals but less relevant in larger auctions. The second part focuses on the technical or commercial aspects where the real value can be gained or lost. These include the completion mechanisms (completion accounts and locked box), the offer structure (e.g. cash free-debt free and working capital adjustment), structuring the consideration, handling management and value leakage through the warranties, disclosure and indemnities.

Finally, warranty insurance, long seen as an expensive and cosmetic solution, is experiencing rapid acceptance in Europe and, increasingly, has emerged as a powerful negotiating tool. Last, the programme reviews various solutions to closing the “value gap” between the parties and the pros and cons of the various methods of achieving this.

Please note that this course covers some aspects that are also covered on the Sale & Purchase Agreements course although the focus in this programme is on commercial aspects as opposed to a more legalistic approach in the SPA course.