Moving Forward in an M&A Transaction The Art and Science

Transcription

1 November 2005 GREENBERG TRAURIG, LLP 1 ATTORNEYS AT LAW Moving Forward in an M&A Transaction The Art and Science Presented to the WMACCA Corporate Law Forum September 9, 2014 Scott Meza, Esq. Greenberg Traurig, LLC Samuel E. Logan, Jr., Blackboard Inc.

2 Panelist Bio: Scott Meza Scott Meza, Shareholder Greenberg Traurig, LLP Scott Meza has more than 25 years of experience assisting businesses in a wide range of complex transactions, including mergers, acquisitions and spin offs of public and private companies and sophisticated equity and debt financings and recapitalizations. Scott manages these types of transactions for technology based companies in addition to companies operating in regulated environments like government contracting, telecommunications and health care. Representative transactions include stock-for-stock combinations, cash out mergers, tender and exchange offers, management buyouts, stock and asset purchases, and distressed company acquisitions, including bankruptcy auctions, corporate spin offs, divestitures and corporate governance matters. Scott regularly represents venture funds and emerging growth companies in financing transactions, such as preferred stock sales and subordinated debt lending and licensing. Scott has been a leader in organizing networks of accredited "angel" investors that invest in emerging growth companies around the country. Scott also advises senior management and boards of directors on executive employment and compensation issues and equity incentive plans. 2

3 Panelist Bio: Samuel E. Logan, Jr. Samuel E. Logan, Jr., Blackboard Inc. Samuel E. Logan, Jr. is Assistant General Counsel to Blackboard Inc., serving as chief in-house lawyer for Blackboard s M&A activity. Since joining Blackboard in 2010, Mr. Logan has represented Blackboard on a number of acquisitions and in 2011 helped with Blackboard s successful go-private sale to Providence Equity Partners. In addition to his M&A role, Mr. Logan directs the legal function for Blackboard s Education Services platform, advising on day-to-day legal matters such as commercial licensing, vendor management, customer negotiations and intellectual property. Prior to joining Blackboard, Mr. Logan spent five years as an associate at Latham & Watkins LLP in Washington, DC. Mr. Logan s practice at Latham & Watkins focused on mergers & acquisitions, private equity, cross-border transactions, corporate governance, and venture capital financings. He is a graduate of Georgetown University Law Center and Cedarville University, and is licensed to practice law in New York and Washington, DC. 3

4 THE LETTER OF INTENT/TERM SHEET: PRINCIPAL DEAL TERMS IDENTIFIED The Letter of Intent sets the stage with basic terms agreed upon, including: Structure of transaction. (e.g. sale of stock; sale of assets) Headline price (not the net price) is set. A level of normalized working capital is required at closing. Earnout and/or other deferred payment terms are identified but not detailed. An escrow/holdback in an undetermined amount is referenced. The letter of intent references usual and customary representations, warranties, and indemnifications for a transaction of this nature. Conditions to closing include retention of key personnel, but details aren t stipulated in LOI. 4

5 LETTER OF INTENT/TERM SHEET: MAJOR DEAL TERMS IDENTIFIED Now it s time to prepare a Definitive Acquisition Agreement: We are going to focus on a few key terms of that agreement and examine the strategy for negotiating and drafting those provisions. How to structure these key terms from a Buyer vs. Seller perspective is very different. Precise drafting is essential; ambiguity in these areas generally creates cratered deals and post closing disputes. The letter of intent often gives little direction on how to draft these terms and there are often huge business and legal rewards and risks depending on your choices. 5

6 WHO IS ON YOUR M&A TEAM AT THIS POINT IN THE TRANSACTION? CAST OF CHARACTERS: Inside and outside legal counsel need to confer closely to make right decisions before a draft acquisition agreement is prepared/exchanged. Investment bankers may be consulted; can run interference and socialize issues with other side in a different way. Business decision-makers need to be engaged from the beginning and key issues should be outlined for them. Some of these agreement provisions will involve detailed accounting and tax issues. Buyer s and Seller s CFOs, tax directors, and outside accounting firms will often play important roles and should be selectively engaged in process early on. 6

7 WHO IS ON YOUR M&A TEAM AT THIS POINT IN THE TRANSACTION? (cont.) In larger deals, Buyer s due diligence team will need to identify the risks in Seller s business that may influence terms and drafting choices for the definitive agreement. Depending on the size of the Buyer, Seller, transaction, the Boards of Directors and owners may need to be consulted on some of these issues. Buyer and Seller need to know the market terms for their transaction; What are the ranges of acceptable terms based on type of deal, size, industry sector, type of Buyer (e.g. private equity firm) etc.? Outside counsel/investment banker should be able to advise on those market terms. Do your homework. There are good sources for guidance and market terms for these key acquisition provisions. 7

8 HAVE CLARITY ON THE NEGOTIATION AND DRAFTING PROCESS Next steps drafting the Acquisition Agreement (We will assume a Stock Purchase Agreement for a mid-market, closely-held business) Who drafts the Acquisition Agreement? Generally, Buyer does the first draft. In some auction sales led by investment banker, Seller may prepare a bid draft acquisition agreement, and bidding Buyers must mark up that draft. The first drafter has an advantage because it can drive the initial process and impact final terms of the definitive agreements. What are the basic types of first draft of the definitive agreement? Over the top aggressively one-sided Buyer draft Seller friendly draft Middle of the road draft 8

9 HAVE CLARITY ON THE NEGOTIATION AND DRAFTING PROCESS That choice has ramifications for the Buyer (and Seller): Over the top approach can kill the deal or cause Seller to completely redraft, create deal friction, or lengthen transaction and costs. Middle of road draft can create good deal climate, shorter backand-forth time. But what if Seller comes back with very pro-seller mark-up? Does Buyer then lose its first drafter advantage? Key = be pro-buyer on the important issues that matter to your client; go easier on things that don t matter to your client but may matter to other side. And leave some room to trade terms. How to do all of this is the art of the deal. 9

10 NEGOTIATING AND DRAFTING SEVERAL KEY ELEMENTS OF AN ACQUISITION Attached as Appendix 1 is a list of material terms in an acquisition agreement. We are focusing on a few of these: (i) purchase price adjustments (ii) escrows and holdbacks (iii) Earnouts and deferred payments (iv) Net working capital adjustments (v) Representations and warranties (vi) Certain conditions to closing (vii) Key indemnification issues (viii)employee retention Purchase Price: It s Not the Headline ; It s the Net that matters. Gross Purchase Price: Is generally set in the term sheet. Buyer may seek to change that price based on results of due diligence. This price change needs to be communicated as early as possible, and ideally, before first draft is done. 10

11 NEGOTIATING AND DRAFTING SEVERAL KEY ELEMENTS OF AN ACQUISITION Purchase price: All cash, stock, or combination? This issue also should be resolved before drafting the definitive agreement. Gross Purchase price is subject to certain adjustments Reduced by escrow/holdback (see below). Reduced by Seller s transaction expenses, which may be captured in working capital adjustment (see below). Reduced (or increased) by working capital (or sometimes net assets or cash) of Seller at closing. Reduced by Seller s debt. In some deals, reduces or increases by cash on balance sheet. Reduced by specified liabilities Buyer does not want to assume. Potential upward tax adjustments (e.g. gross-up for 338(h)(10) election). Increasingly, purchase price may be reallocated to fund management carve-out; or to fund retention pool for key employees (see below). 11

12 NEGOTIATING AND DRAFTING OF SEVERAL KEY ELEMENTS OF AN ACQUISITION (Escrow or Holdback) Escrow or Holdback? An escrow or holdback reduces the purchase price paid at closing and is used to fund indemnity claims by Buyer post-closing. Escrows require set aside of cash with neutral escrow agent. Holdbacks allow Buyer to retain that amount. Is it a cash escrow or is it a holdback by Buyer? A holdback is a key advantage to Buyer. Requires less money for Buyer to fund at closing; Buyer keeps the money during the pendency of an indemnity dispute which gives Buyer leverage in the dispute. Seller wants a cash escrow for those same reasons which also removes Buyer insolvency risk that would make Buyer unable to pay holdback. (A holdback is usually unsecured.) 12

13 NEGOTIATING AND DRAFTING OF SEVERAL KEY ELEMENTS OF AN ACQUISITION (Escrow or Holdback) (cont.) What does the escrow or holdback cover? To fund indemnification claims by Buyer for breaches of Seller s representations, warranties, and covenants and for third party claims made against Buyer that are Seller s responsibility Does it fund a working capital deficit? Sometimes a separate escrow is established for working capital or other specified risks. How much is the escrow/holdback? Typically, a percentage of the total purchase price Often there is a significant difference between Buyer and Seller in potential escrow amount but there is a typical market range that should provide guidance. Buyer should marshall arguments to support larger escrow (e.g. liabilities; problems with due diligence). Seller should develop counter argument and think about swaps (e.g. higher escrow for lower total cap on liability. 13

14 NEGOTIATING AND DRAFTING OF SEVERAL KEY ELEMENTS OF AN ACQUISITION (Escrow or Holdback) (cont.) How long is the escrow/holdback in effect? Usually months Cover an audit cycle Sellers seek staggered release of funds 14

15 EARNOUTS AND DEFERRED PAYMENTS Earnouts and Deferred Purchase Price Payments. An earnout is a deferred purchase price payment generally made based on the performance of the Seller s business (or some aspect thereof) for a period following the closing. This is probably the most difficult part of an acquisition to negotiate and draft. Metrics for an earnout are often financially based: e.g. EBITDA, revenues, or achieving specific business or technical goals. From a Buyer s Perspective, generally: Have as few restrictions on how Buyer runs the purchased business postclosing. Don t let earnout tail wag the business dog. Have a cap on the amount of the earnout. Control the process for calculating the earnout using Buyer s accounting methodology. 15

16 EARNOUTS AND DEFERRED PAYMENTS (cont.) Allow Buyer to offset indemnity claims against future earnout payments. Right to require future purchaser to assume earnout obligation or liquidate at low or fixed price in the event of such sale. From a Seller s Perspective, generally: Require Buyer to covenant to run the business post-closing in a stipulated way in order to maximize Seller s changes of achieving the earnout (e.g., in accordance with Seller s past policies; continue to run as separate unit; invest same amount into marketing and sales efforts; retain key personnel; regular reporting on results). No cap on amount earned and a sliding scale for earnout payments below target. (Avoid all or nothing scenario). No right of set off against the earnout for indemnity claims. 16

17 EARNOUTS AND DEFERRED PAYMENTS (cont.) Significant liquidation payment if Buyer later sells the business (or if Buyer itself is sold) before earnout period is completed. Deemed tax treatment as capital gains, not ordinary income. 17

18 NEGOTIATING AND DRAFTING OF SEVERAL KEY ELEMENTS OF AN ACQUISITION (Net Working Capital Adjustments) Net Working Capital Adjustments. What is Working Capital?: current assets (e.g. accounts receivable or cash) less current liabilities (e.g. accounts payable or current portion of debt). Working Capital means (a) the Current Assets of the Company, less (b) the Current Liabilities of the Company, determined as of the open of business on the Closing Date. What Does Buyer Want? Ensure Seller has enough net working capital to fund its operations postclosing. Also, Buyer wants to prevent Seller from stripping out cash prior to closing (e.g. accelerating collection of its receivables and distributing cash to the owners.) So Buyer should stipulate in the Acquisition Agreement that there must be a required level of working capital (e.g. not less than $1 million of current working capital ). This is often called a target or peg. 18

19 NEGOTIATING AND DRAFTING OF SEVERAL KEY ELEMENTS OF AN ACQUISITION (Net Working Capital Adjustments) (cont.) Buyer needs input from its finance team to help identify an acceptable level of working capital to account for fluctuations such as seasonality in Seller s working capital and to develop acceptable methodology. Buyer will want a dollar for dollar reduction in the purchase price if Seller s working capital at closing is less than the established amount. Buyer will also want the right to retroactively reconcile working capital post closing (60-90 days) to calculate what actual closing working capital turned out to be. If Buyer distrusts Seller s working capital estimates, then Buyer may also want to create a separate working capital escrow to fund that shortfall (so as to prevent depleting the regular indemnity escrow fund or having to recover directly from Seller). 19

20 NEGOTIATING AND DRAFTING OF SEVERAL KEY ELEMENTS OF AN ACQUISITION (Net Working Capital Adjustments) (cont.) What Does Seller Want? To calculate working capital in manner that Seller has historically calculated working capital in its own financial statements (and in accordance with GAAP). Remember, GAAP may allow multiple alternatives for the same item. Often include example of the principles of that calculation on separate schedule. (For example, use Seller s method of revenue recognition). Working Capital shall be, in each case, determined in accordance with GAAP applied consistently with the methodologies, practices and principles used in preparation of the Working Capital Schedule and consistent with the illustrative pro forma calculations. Require an increase in purchase price if working capital at closing is higher than target. Prevent double dip for downward working capital adjustment and indemnity claim, for the same circumstance. 20

21 NEGOTIATING AND DRAFTING OF SEVERAL KEY ELEMENTS OF AN ACQUISITION (Net Working Capital Adjustments) (cont.) Other Choices Both Buyer and Seller should want an orderly process to resolve working capital disputes e.g. unresolved disputes go to an independent accountant for final resolution. Allocation of costs of that accountant should be addressed. Where Buyer and Seller are not confident of where working capital will be at closing (or can t agree on target number), consider using a working capital band or collar where no adjustment to purchase price if closing working capital is close enough (e.g. not more than $500,000 greater or less than stipulated working capital threshold.). Provide for the working capital adjustment to the purchase price to be made at the closing based on an estimate of working capital with a later true-up reconciliation of actual working capital. 21

22 Important Aspects of Seller s Representations and Warranties Seller will be required to make representations and warranties to the Buyer. Breach or falsity in those representations can result in indemnification claims against the Seller and the failure to satisfy conditions to Closing. Major areas for representation include: Seller s ownership rights and due authorization of the agreement Accuracy of its financial statements Due payment and reporting of taxes Compliance with its obligations under its material customer, vendor contracts Not subject to litigation, claims, or regulatory challenges Ownership and non-infringement of its intellectual property Properly structured and operated benefit plans 22

23 Important Aspects of Seller s Representations and Warranties (cont.) Compliance with law Operational issues and results 10(b)(5) type representations From Seller s perspective, there are several ways to limit Seller s deal risk and exposure to indemnity claims arising from Seller s reps and warranties: Qualify representations by knowledge standard E.g. To Seller s Knowledge, it has complied with all laws and regulations in the operation of its Business. A Seller favorable approach to defining knowledge : Knowledge means the actual knowledge without investigation of [limited number of specific individuals] 23

24 Important Aspects of Seller s Representations and Warranties (cont.) A Buyer favorable approach: Knowledge means the actual knowledge of [wider group of individuals] and the knowledge that each such person would reasonably be expected to obtain in the course of diligently performing his/her duties for the Seller and after reasonable inquiry of his/her direct reports. From Seller s perspective, qualify representations by materiality and material adverse effect. E.g. Seller has complied in all material respects with all applicable Laws and Regulations, except where failure to comply would not have a Material Adverse Effect on Seller or its Business. Seller needs to be careful to draft to account for ordinary course of business changes that occur between signing and closing that will not be grounds for failing to close. 24

25 Important Aspects of Seller s Representations and Warranties (cont.) From Buyer s perspective, limit use of materiality and MAE to only a few representations and scrape out those qualifiers in connection with Buyer s recoverable damages for indemnification (see below). An essential part of Seller s protection from indemnification claims is to prepare a thorough Schedule of Exceptions that qualifies Seller s representations and warranties. If Seller discloses in that Schedule existing circumstances that may constitute exceptions to the accuracy of its representations, it may avoid indemnity liability with respect to that matter. 25

26 Important Aspects of Seller s Representations and Warranties (cont.) Buyer must review and edit the Schedule of Exceptions to prevent a Seller from unfairly limiting its exposure on reps and warranties in an unintended way. Sometimes, Seller s disclosure or Buyer s diligence results may actually cause Buyer to create special indemnity clauses directed to the circumstances disclosed by Seller. Buyer will usually require a bringdown of representations and warranties as of closing so the representations must be true as of date agreement was signed and as of the closing date. 26

27 Addressing Certain Conditions to Closing Most acquisition agreements drafted in Buyer s favor state that as a condition to closing that representations and warranties of Seller are true, accurate and complete as of the closing date. From a Seller s perspective, a high priority is to protect the deal from not closing because of failure of Seller s representations and warranties at closing. The following are three basic formulations to address these contesting priorities: 1. Buyer Favorable. Accurate in all respects: Each of the representations and warranties made by Target in this Agreement shall have been accurate in all respects as of the Closing Date as if made on the Closing Date. 27

28 Addressing Certain Conditions to Closing 2. Seller Favorable. Accurate in all material respects: Each of the representations and warranties made by Target in this Agreement shall have been accurate in all material respects as of the Closing Date as if made on the Closing Date. 3. Very Seller Favorable. MAE qualification: Each of the representations and warranties made by Target in this Agreement shall be accurate in all respects as of the Closing Date as if made on the Closing Date, except for inaccuracies of representations or warranties the circumstances giving rise to which, individually or in the aggregate, do not constitute and could not reasonably be expected to have a Material Adverse Effect. 28

29 Key Indemnification Issues Key Indemnification Issues Almost every acquisition agreement will address the substance and mechanics for a Buyer to make indemnification claims against the Seller (and vice versa) for damages arising from breaches of the Seller s representations, warranties and covenants. This is often the most highly contested part of an acquisition agreement and presents substantial upside advantages and downside risks to both Buyer and Seller. 29

30 Key Indemnification Issues (cont.) The following indemnification-related issues should be addressed in the acquisition agreement Survival; Time limitation to Assert Claims How long does Buyer have post-closing to make an indemnification claim against Seller (and against the escrow)? In some cases, it is an arbitrarily limited time frame, usually between 6 months and 24 months post-closing. The longer the period, the better for the Buyer. Usually certain types of claims are not time limited, other than by the applicable statute of limitations, e.g. taxes, due authority, fraud, pending litigation. These are often referred to as Fundamental Reps. What is the correlation between these time periods to assert claims and the release of indemnity escrow funds? Often no correlation, in the sense that usually indemnity claims can be made even after the escrow is released (or used up). 30

31 Key Indemnification Issues (cont.) Sandbagging (and Anti-Sandbagging) Another contentious area relates to sandbagging and anti-sandbagging clauses in the acquisition agreement. From Seller s perspective, what if Buyer knows a representation and warranty by Seller is untrue before closing and still decides to close the purchase and then bring an indemnity claim for breach? Seller might propose anti-sandbagging language like the following: No party shall be liable under this Article for any Losses resulting from or relating to any inaccuracy in or breach of any representation or warranty in this Agreement if the party seeking indemnification for such Losses had Knowledge of such breach before Closing. From Buyer s perspective, Buyer wants the benefit of its bargain i.e. a company as it existed at the signing of the agreement. So Buyer may want the following antisandbagging language: 31

32 Key Indemnification Issues (cont.) The right to indemnification, reimbursement or other remedies based upon any such representation or warranty will not be affected by any Knowledge acquired (or capable of being acquired) at any time, whether before or after the execution and delivery of this Agreement or the closing Date, with respect to the accuracy or inaccuracy of such representation warranty Types of damages and losses that may be recoverable (or excluded) under an indemnification claim. Buyer wants the right to make a broad range of damage claims for Seller s breach of representations, warranties and covenants, including out-ofpocket damages, diminution in value, consequential damages, and incidental and punitive damages. An example of that kind of language: 32

33 Key Indemnification Issues (cont.) Loss means any and all losses, damages, dues, penalties, interest, fines, costs, amounts paid in settlement, judgments, Liabilities, Taxes, costs of investigative, expenses and fees (including court costs and reasonable attorneys or other professionals fees and expenses); provided, that Losses shall only include punitive (sometimes referred to as exemplary) damages, to the extent such damages are required to be paid to a third party resulting from a third party claim; and provided, further, that Losses shall only include consequential or incidental damages to the extent such damages are reasonably foreseeable or are required to be paid to a third party resulting from a third party claim. Conversely, Seller wants to limit those damage claims to actual out-of-pocket, direct damages. An example: Limitation of Liability means notwithstanding anything in this Agreement to the contrary, in no event shall any Seller be liable for any damages based on a multiple of earnings, profits or EBITDA, provided, however, that nothing herein shall affect or diminish Buyer s rights to recover consequential damages to the extent included in the definition of Loss. 33

34 Key Indemnification Issues (cont.) However, there are other techniques for a Seller to limit or manage its indemnification risks, including baskets, deductibles, thresholds, and caps on damages. Baskets provide that Buyer may not seek indemnity until the Buyer s losses reach a stipulated dollar amount. Baskets can be a true deductible (which is desirable to Sellers) or tipping (which is desirable to Buyers). For example: Sellers shall not be required to indemnify Buyer for Losses until the aggregate amount of all such Losses exceeds $300,000 (the Deductible ) in which event Sellers shall be responsible only for Losses exceeding the Deductible. 34

35 Key Indemnification Issues (cont.) If a Buyer agrees to a basket, Buyer would prefer it to be a tipping basket: First Dollar Sellers shall not be required to indemnify Buyer for Losses until the aggregate amount of all such Losses exceeds $500,000 (the Threshold ) in which event Sellers shall be responsible only for Losses in excess of [$300,000] (the Deductible ). In some cases, some types of claims (e.g. taxes, fraud) would be excluded from the basket. 35

36 Key Indemnification Issues (cont.) Thresholds or Mini-baskets provide that an individual claim must be above a stipulated dollar amount (e.g. $5,000) to even be considered indemnifiable. Example language: Securityholders shall not be required to indemnify Buyer for any individual item where the Loss relating to such claim (or series of claims arising from the same or substantially similar facts or circumstances) is less than $25,000. The rationale for the Seller for a threshold is to avoid nickel and dime type claims. For Buyer, either reject this concept or provide when enough of these nominal claims exist, this threshold limit will phase out. Caps on Total Damages provide that with few exceptions (e.g. fraud by Seller, unpaid taxes), the maximum exposure a Seller may have to Buyer for indemnification will not exceed a fixed amount (often described as a percentage of the total purchase price). Obviously, Seller wants as low a cap, with as few carve-outs as possible. Buyer wants the opposite outcome. 36

37 Key Indemnification Issues (cont.) In a highly negotiated deal, Seller may also want Buyer s indemnifiable damages to be reduced by other elements: Any insurance proceeds available to the Buyer for that loss. The net savings from any tax benefits (deductions) the indemnifiable losses produce for the Buyer. Buyer has a duty to mitigate its losses, which includes pursuing insurance proceeds and tax savings. Buyer should be very careful in agreeing to these types of clauses. For example, only insurance proceeds actually received on a timely basis for the identical loss should be considered as offset. Tax savings are hard to pin down and use as an offset to claims should be resisted by Buyer. Expressly agreeing to mitigate damages creates a potential built in defense for Seller to challenge an indemnification claim (and confirm whether case law presumes a duty to mitigate damages). 37

38 Key Indemnification Issues (cont.) Indemnification for Third Party Claims Commonly, Sellers will seek to include a provision in the acquisition agreement that mandates that any claim by a third party made against the Buyer for which it seeks indemnification against Seller must follow a special process. For example, assume a customer to Seller sues the Buyer for a pre-closing claim that Seller should have paid. 1. Seller may request that: Seller gets to defend the third party claim on behalf of the Buyer at the Seller s expense since if the third party claim is proven, Seller may have to indemnify the Buyer for that claim. Conversely, Buyer would prefer to control the defense of that claim since it impacts Buyer and the business it bought from Seller. 2. At a minimum, in that event, Buyer should require: Buyer should be able to participate in the defense of that third party claim with Buyer s own counsel, at its expense. 38

39 Key Indemnification Issues (cont.) Seller has the right to defend the third party claim only if Seller admits it has an obligation to indemnify Buyer if the third party wins its claim. (This is an effective tool for Buyer). 3. Seller may settle the case only if Seller pays the third party without any contribution from Buyer. Buyer does not have to admit liability or agree to other relief. The third party is not seeking injunctive relief against the Buyer. Loss of that third party claim would not have material adverse effect on Buyer. 39

40 Return of the Materiality Scrapes Materiality Scrapes As discussed previously, a Seller often qualifies some of its representations and warranties by materiality or Material Adverse Effect. However, Buyers often seek to disregard those qualifiers for (i) purposes of determining whether Buyer is entitled to indemnification for breach of these representations and/or (ii) for purposes of determining the amount of the Buyer s indemnifiable losses. 40

41 Return of the Materiality Scrapes (cont.) Here is an example of Materiality qualifications in representations and warranties disregarded for all indemnification purposes (i.e. for determining whether there is a breach and calculating Buyer s losses from that breach). For purposes of this Article X (Indemnification), the representations and warranties of Seller shall not be deemed qualified by any references to materiality or to Material Adverse Effect. 41

42 Return of the Materiality Scrapes (cont.) The following is an example of Materiality qualifications in representations and warranties being disregarded only for purposes of calculation of indemnifiable losses: For the sole purpose of determining Losses (and not for determining whether any breach of any representation or warranty has occurred), the representations and warranties of Seller shall not be deemed qualified by any references to materiality or to Material Adverse Effect. These scrapes are often contested. Sellers argue that if the materiality and MAE qualifiers are acceptable for representations and warranties and for closing, why aren t they good enough for limiting indemnification and recoverable damages? 42

43 Retention of Key Employees is Big Issue for Sellers Employee Retention Related Issues For many Buyers, a crucial element to the success of an acquisition is that key employees of Seller stay and work for the Buyer after the Closing. Several different provisions of an Acquisition Agreement come into play to address that goal. For example. Buyer may condition closing on key employees executing employment agreements with Buyer effective at Closing that may include restrictive covenants and noncompetes. Buyer may specifically require a designated portion of the purchase price proceeds be used to create a post-closing incentive bonus pool for Seller s key employees. Buyer may require Seller to defer making customary severance, bonus payments, raises in compensation and stock option acceleration prior to closing and repurpose those payments/benefits as post-closing incentives for key employees. Conversely, Buyer may require Seller to fund severance, accrued vacation, etc. for Seller s non-key employees that Buyer does not want to retain. 43

44 Retention of Key Employees is Big Issue for Sellers From Seller s perspective, part of the pushback is to have Buyers fund these incentive retention payment from their own funds, not deduct that money from the purchase price. Seller may also limit who are key employees that must sign up with the Buyer as a condition to closing. Conversely, Seller may require the Buyer to offer a certain level of compensation and benefits to Seller s employees post-closing. Don t forget the logistical challenges represented by some of these approaches. For example, having a key employee sign a new employment agreement as a condition to closing gives that employee significant leverage. Some of these issues should be addressed by a thoughtful adoption by Seller of an incentive equity or comp plan long before closing that achieves/promotes these post-closing retention objectives. 44

45 Summary Assemble and engage your key advisors to contribute to decisions on these (and other) key issues to be proposed in the draft Acquisition Agreement. With respect to key transaction terms, have a feel for what is the range of possible market based terms, and get advisors with experience with those terms. Understand the longer term strategic implications of these key terms to the overall value of the transaction. The devil is in the details. Sometimes the change of a few words in these very technical provisions can have a big impact and materially improve or degrade the risk/reward calculus for a Buyer or Seller. 45

46 Scott Meza, Shareholder Greenberg Traurig, LLP 1750 Tysons Boulevard, 12th Floor McLean, VA T: Samuel E. Logan, Assistant General Counsel Blackboard Inc. 650 Massachusetts Avenue, N.W., 6 th Floor Washington, DC T: , ext [email protected] 46