Exits: Legal and Practical Aspects

Transcription

1 Technion Institute of Technology: Legal and Financial Aspects of Technology Entrepreneurship Exits: Legal and Practical Aspects Adv. Barry Levenfeld, Yigal Arnon & Co. April 30, 2014

2 Selected Recent M&A Transactions 2

3 Selected Recent M&A Transactions 3

4 Outline The Exit Possible Structures Initial Public Offering (IPO) Asset Sale Share Sale Reverse Triangular Merger Court Approved Merger Legal and Regulatory Issues Antitrust Securities Laws Tax OCS Ten Commandments for Running Your Company and Preparing for Exit 4

5 The Exit Possible Structures Initial Public Offering Asset Sale Share Sale Reverse Triangular Merger Court Approved Merger 5

6 IPO 1. Start: 3. Finish: Founder Shareholders Investor Shareholders Founder Shareholders Investor Shareholders Public Issuer Issuer 2. Transaction: $ [Underwriter] Issuer Public Shares 6

7 Pro Preserves the Dream Preserves control, autonomy Lends credibility If done on the right exchange and right valuation, adds cash resources and liquidity IPO Con Very expensive and time consuming; monopolizes management resources High annual maintenance costs Public scrutiny on earnings, etc. Dealing with public shareholders, external directors Approving certain transactions

8 1. Start: Asset Acquisition 3. Finish: Acquirer Shareholders Target Shareholders Acquirer Shareholders Target Shareholders Acquirer Target Assets Acquirer Assets Target Consideration 2. Transaction: $ and/or shares Acquirer Target Assets of Target 8

9 Asset Acquisition Pro Can be fastest Easier decision making process in target and acquirer (often no shareholder approval is needed) Acquirer can avoid unknown liabilities Con Two levels of tax on selling shareholders company and shareholder Non-Israeli shareholders of target pay more tax Target may be left with unwanted liabilities May have OCS complications Need to assign contracts, rehire employees, etc.

10 Share Acquisition 1. Start: 3. Finish: Acquirer Shareholders Target Shareholders Acquirer Shareholders Target Shareholders (only if consideration was in shares of Acquirer) Acquirer Target Acquirer 2. Transaction: Target $ and/or shares Acquirer Target Shares Target Shareholders 10

11 Share Purchase Private Target Pro If all shareholders agree, can be very fast Only capital gains taxes foreign shareholders often exempt Con If not all shareholders agree, need contractual or statutory bring-along Bring-along may require 80% or 90%, sometimes less, and may take up to 90 days Questions regarding enforceability if: differs from statute consideration allocated according to liquidation preferences often excluded from legal opinions

12 Share Purchase Public Target (tender offer) Pro No target board approval required In theory, can be very fast Relatively simple documentation Con Tender offer rules apply Need 95% positive response! not practical Also need majority of disinterested shareholders (unless 98% positive response) Right to appraisal for 6 months following even if you agreed! Unless otherwise stipulated in offer

13 1. Start: Reverse Triangular Merger 3. Finish: Acquirer Shareholders Target Shareholders Acquirer Shareholders Target Shareholders (if consideration includes Acquirer shares) Acquirer Target Acquirer Acquisition Subsidiary 2. Transaction: Target (survives merger) Acquirer $ and/or shares Target Shareholders Acquisition Subsidiary (יעד) merger Target (קולטת ( 13

14 Pro Reverse Triangular Merger Con Certainty, if you have majority (50% or 75%) of target shareholders May require class vote Can substitute court approval US companies/lawyers understand it better All agreements, etc. of target remain no assignments needed Only capital gains taxes foreign shareholders often exempt Only viable option for public targets Originally, some uncertainty regarding reverse mergers, but now the courts have blessed this structure Can close only on latter of 50 days from signing or 30 days from shareholder approval

15 Court Approved Plan Of Arrangement Companies may adopt a Plan of Arrangement which is basically a court-approved merger Application made to the District Court to convene a meeting of Target s shareholders. Transaction must be approved by the shareholders (and possibly the creditors) Vote required is 51% of the voters that are present and that represent 75% of shares present (for each class) Court must then approve the transaction and find it to be fair - can be used under Section 3(a)(10) of 1933 Act

16 When you need a Plan of Arrangement? Where stock is used as consideration Where different consideration is provided to different classes of shares In going private transactions or any transaction where some shareholders remain in the company Anywhere the statutory merger might not be available

17 Regulatory Concerns Antitrust Israel Securities Authority Taxation Office of the Chief Scientist

18 Antitrust Restrictive Trade Practices (Antitrust/HSR) approval required depending on: Minimum of turnover in Israel (NIS 150 M aggregate; NIS 10 M each) Either party is a declared monopoly Merged entity will control over 50% of product or service in Israel Short Form Pre-Merger Notification Can be Used Commission has 30 days to respond Not needed if acquirer has no Israeli presence Not a company for purposes of the law Doesn t work for second acquisition

19 Securities Law Issues Option Grants Background: Exemption from Israel Securities Authority (ISA) required for offering securities to more than 35 Israeli residents in any rolling 12 month period (excluding qualified investors ) Qualified Investors include most financial institutions and VC funds, but not high net worth individuals Option substitution constitutes an offering, but an exemption is available under Section 15D if applied for in advance New ISA policies impose monetary sanctions if target company has previously granted options without complying with Section 15D

20 Securities Law Issues Stock Deals Complications in receiving ISA approvals where U.S. listed purchaser uses stock to make acquisition (where there are more than 35 Israeli resident selling shareholders). Possible solutions: Court approved arrangement Dual listing on the Tel Aviv Stock Exchange often not practical Israeli prospectus never practical Alternative: offering Israeli residents cash only

21 Taxation Capital Gains Tax and Purchaser Withholding Obligations If the sellers are subject to Israeli capital gains tax, then the purchaser (even if not Israeli) may be subject to Israeli tax withholding obligations Withholding obligation may apply to purchase of Delaware corporation if: Management and control exercised from Israel Significant assets (IP) held by Israeli subsidiary Result a US acquirer buying a Delaware corporation could be subject to Israeli withholding requirements!!!

22 Solutions for Purchaser Apply to ITA for withholding tax pre-ruling Clarity as to who pays how much Clear instructions to paying agent Insist on personal withholding exemptions (or reductions) for Israeli and non-israeli shareholders For some shareholders, declarations of residency may suffice to determine that no withholding is required Can be handled in merger agreement, or in letter of transmittal

23 Taxation Option Cash-Out or Substitution Background: virtually all Israeli employees hold options through an incentive stock option plan qualified under the capital gains track of Section 102 of the Israel Tax Ordinance Section 102 options taxed at 25% on sale of underlying security; otherwise tax can be as high as 44% To qualify, options must be held by a qualified Section 102 Trustee for at least 2 years from the date of grant Issue: cash out or substitution of options breaks the 2 year holding period and can result in loss of tax benefits Solution: apply for a option tax pre-ruling

24 Tax Ruling for Treatment of Options Roll-Over or Substitution of Options To ensure no deemed tax event (sale and purchase) To ensure that the 2-year 102 clock does not restart Cash Out Escrow of funds for vesting and/or 102 compliance Maintain 25% tax rate To prevent an early tax event if the consideration is held in trust Interim Rulings: to allow closing prior to finalizing the option tax ruling

25 Office of the Chief Scientist ( OCS ) Background: many Israeli companies receive OCS funding for R&D No such thing as a free lunch: OCS funding comes with royalty obligations and other strings attached Some restrictions may apply to getting the acquisition done Sometimes OCS consent will be required for the change in ownership resulting from the acquisition of the Israeli or Israeli- Related company Other times notice alone will suffice Other restrictions will apply after the deal is done

26 Post-Closing OCS Restrictions OCS approval required: to transfer OCS-supported technology outside of Israel (even to affiliated companies) to manufacture products based on OCS-supported technology outside of Israel in excess of agreed percentages To transfer IP out of Israel must pay the greater of: Amount of grant, plus interest Sale Price multiplied by (amount of all OCS grants / total investment in the IP), and then depreciated Payment capped at 6X, or 3X if R&D operations maintained To manufacture outside of Israel may be required to pay royalties equal to three times the original grant Still no regulations on license agreements!

27 The Ten Commandments 1. Keep the Company Structure Simple 2. Love Your Cap Table 3. Don t Delay Solve Problems Early 4. Keep Your Due Diligence Ready at All Times 5. Build the Best Team 6. Position the Company 7. Be Your Shareholders Best Friend 8. Know When to Say Yes 9. Don t Drag Out the Process 10. Don t Do It Alone 27

28 1. Keep the Company Structure Simple Underwriters and potential acquirers are familiar with and prefer standard structures and documentation Creative structures/documents risk raising time consuming and expensive problems and may result in unintended consequences Standard documents work Many have been vetted by U.S. courts They are drafted to anticipate and prevent problems Save time, money and headaches! Save innovation and creativity for your business!! 28

29 2. Love Your Cap Table Keep it complete, accurate and up-to-date Clean-up shareholder ownership and transfer records; establish option plans Make sure your options and share grants have clear numbers of shares; not percentages! Remember: a confused cap table can kill deals Shareholders fight over dividing up the proceeds Cannot determine price per share Cannot get an opinion of counsel 29

30 Sample Cap Table Sampe Cap Table Stockholder/ Option Holder Ordinary Shares Options/Warrants to Purchase Common Stock Preferred A Stock Total I&O % I&O Total FD % FD Investor A 500, , % 500, % Investor B 1,000,000 1,000, % 1,000, % Ivnestor C 1,500,000 1,500, % 1,500, % Investor D 200, , % 200, % Founder A 1,000,000 1,000, % 1,000, % Founder B 1,000,000 1,000, % 1,000, % Total ESOP Reservation 0 600, % 600, % Total : 2,000, ,000 3,200,000 5,200, % 5,800, % 30

31 3. Don t Delay Solve Problems Early Agreements with Employees Best practice - separate the IP provisions from employment terms Make sure you have clear IP assignments (Section 134 issues) Beware of problems with prior employers IP and non-competition Agreements with Consultants IP Assignments Mandatory IP Ownership at Risk Other affiliations? academic, medical, government?? Don t accidentally give away your IP to Third Parties Check NDAs, MTA s and License Agreements; fix if needed Best Practice: do an IP Audit now Obtain all waivers, consents, etc. early, while there are no big bucks on the table Install clear IP policies (no open source, no unidentified IP incorporated, no transfer of IP out of company, etc.) 31

32 4. Keep Your Due Diligence Ready at All Times Be ready at all times! Prompt and organized document production increases credibility Simply get a copy of any standard Due Diligence Request and use that to organize documents All Due Diligence these days is done virtually s and virtual data rooms This makes it easy to be organized and up-to-date establish virtual filing based on due diligence request 32

33 5. Build the Best Team Make sure management includes at least one person (CEO, CFO or COO) who has done it before, someone with real exit experience Remember the CEO for the start-up may not be the best CEO for the exit Make sure some directors and scientific advisory board members have established relationships or unimpeachable credibility with potential buyers or underwriters Select VC s with added value (do your own due diligence!) 33

34 6. Position the Company Get the Word Out: Trade Shows, Exhibits and Investor Conferences Professional Articles and Press Releases Social Media For Biotech, hard to generate interest without human clinical data Create a Management Presentation that clearly conveys product and market potential Engage in Dialogue with Potential Buyers and Bankers Be prepared to learn as well as to educate Locate the decision maker within a company; don t blindly call contacts from a web site 34

35 7. Be Your Shareholders Best Friend Remember: you need their approval to close the deal Keep good relations turn them into your good will ambassadors Every investor is a potential resource Don t surprise them! 35

36 8. Know When to Say Yes Consider the deal negotiations as the beginning of a long term partnership Keep a positive atmosphere Keep the deal moving a good dynamic is key Identify your red lines and be prepared to compromise on other issues 36

37 9. Don t Drag Out the Process Increases direct costs Increases opportunity costs if no deal Don t give events beyond your control more time to kill the deal: Market crash Competitive product Technological/clinical failures 37

38 M&A: The Process Initial Contacts Term Sheet No Sleep Period Contract Signing Post Closing Closing Pre-Closing Period 38

39 Initial Contacts Business and technical contacts, possibly with multiple potential purchasers Target needs to be sure sensitive technical and fiscal information is protected Broad outlines of transaction are discussed Bankers (if any) involved; lawyers and accountants in background 39

40 Term Sheet Not legally binding, but morally binding and hard to escape Need good reason or new facts to change terms Almost always contains binding no shop Don t sign without lawyer and accountant involvement Different schools of thought regarding level of detail Only select few should know about the deal 40

41 No Sleep Period Lawyers and business people transform term sheet into full blown agreement: intense negotiations and exchanging of drafts Due diligence proceeds in parallel Legal/IP Accounting/Tax Business Intense management involvement hard to run the company at the same time Circle of knowledge expands; need to keep confidentiality Use of Code Names 41

42 Contract Signing Binding Legal Obligation Remembers signing is not closing (although they may be simultaneous) Deal usually becomes public knowledge Press releases TASE and SEC filings No champagne yet! 42

43 Pre-Closing Period Obtain regulatory approvals SEC/ISA OCS Tax Rulings Antitrust Convene shareholders meeting to obtain shareholder approvals Restrictions on target s actions Mandatory waiting periods before closing 43

44 Closing Money changes hands; shares issued Public deals use payment agents or exchange agents Sometimes some funds deposited in escrow Trust company involved for option issues Deal is done Usually virtual no meetings in big conference rooms 44

45 Post-Closing Paying Agent pays target shareholders Escrow Agent holds funds for escrow period Filings with Registrar of Companies, etc. Integration: Now the real work begins Employees IT systems Corporate culture 45

46 10. Don t Do It Alone Select patent counsel with strategic outlook Don t let your tech geniuses draft patents Select a leading accounting firm Use a law firm with proven experience Consider taking on an investment banker At a minimum talk to them even if you don t need them 46

47 Barry Levenfeld Harvard College, AB 1976; Harvard Law School, JD 1979 Senior Partner in Yigal Arnon & Co. s Technology Practice Group International clients include Computer Associates, Medtronic, Oracle, ebay, IBM, Boston Scientific, EMC Representation of venture funds, technology start-ups, IPO s of Israeli companies, and technology/life science M&A transactions Senior Lecturer, Hebrew University Law Faculty, in high tech corporate finance 47

48 Thank You! 48