Center for Management of Emerging Companies

Acquisitions by Purchasing a Controlling (But Less than 100%) Interest

While most acquisitions take the form of a merger or stock/asset purchase that results in the buyer-acquiring full control over the equity interests and/or assets associated with the target business it is also possible to break into a new business area by purchasing a controlling (but less than 100%) interest in the target.  For example, if the target is owned by a single shareholder who also operates the business the transaction may be structured to permit the buyer-acquirer to purchase a sufficient number of shares (e.g., 70%) to give it a controlling voting interest over management of the affairs of the target while allowing the selling shareholder to retain a minority interest and continuing serving as a key executive of the target.  The former sole shareholder’s minority interest serves as a performance incentive since he or she retains the right to share in future increases in the value of the business.  Incentives for other executives and key employees can be created by both parties to this agreement by adopting a stock option or other form of bonus performance plan.

The first step in such a transaction should be a letter of intent that addresses key terms and conditions to closing including price and payment terms, post-closing management of the target, due diligence, negotiation and completion of definitive agreements, consents and approvals, escrow requirements and procedures, retention of key employees, approval of acquirer’s financing for the transaction and other issues.  Perhaps the most important section of the letter of intent is a detailed listing of the specific conditions precedent to the closing of the proposed acquisition.  Among the matters that should normally be covered from the perspective of the buyer-acquirer are the following:

• The satisfactory completion of a due diligence investigation and acquisition audit by the buyer-acquirer showing that the assets of target and any actual or contingent liabilities against those assets, and the prospective business operations by the buyer-acquirer of the target’s business are substantially the same as currently understood by buyer-acquirer as of the date of the letter of intent.
• A satisfactory determination that the acquisition and prospective business operations by the buyer-acquirer of the target’s business will comply with all applicable laws and regulations, including antitrust and competition laws.
• Completion of all required approvals and consents from both parties and other interested stakeholders including governmental entities, utility providers, railways, material vendors, lenders, landlords and customers.
• The absence of material litigation or adverse change with respect to the transaction and the ordinary business activities of the target.
• The buyer-acquirer must be able to enter into satisfactory employment agreements with specified key employees of the target.

The content in this post has been adapted from material that will appear in Business Transactions Solutions (Fall 2008) and is presented with permission of Thomson/West.  Copyright 2008 Thomson/West.  For more information or to order call 1-800-762-5272.

Virtual Deal Rooms

A comprehensive due diligence investigation in a transaction involving parties with a broad scope of business activities will inevitably call for delivery of a voluminous amount of documentation.  Companies must learn how to accurately and efficiently track and review all of the contracts and other materials that are exchanged during the course of an investigation.  Typically this process begins by referring to the aforementioned list of documents, commonly referred to as the “due diligence checklist,” and making sure that each document is indexed against the list and assigned an appropriate document number.  All documents would then be packaged into bankers’ boxes and sent to a central location, such as a conference room at a law firm, where they would be available for review and copying by authorized parties.  While this became accepted practice it was an imperfect and expensive solution for several reasons.  First, whoever was responsible for storing and securing the documents had to make sure that it had someone in the room at all times whenever documents were being reviewed in order to be sure that documents were not removed or tampered with by visitors.  Second, even when the review process was being monitored there was a high likelihood that documents could be lost or misplaced while they were being refilled.  Third, parties needing to review documents often needed to incur significant travel expenses (i.e., airfare, hotel and meals) to get to the site where the documents were maintained.  Finally, the need to be physically present to review documents raised privacy concerns since competitors could “stake out” a storage site to see who else might be conducting due diligence.

The drawbacks of the traditional method of collecting and reviewing information during the due diligence investigation have been largely overcome by the creation and growing use of “virtual” deal or data rooms, popularly referred to as a “VDR,” which allow the parties to a transaction to conduct the document-related phase of the investigation safely and securely in a collaborative online workspace.  When using a VDR for due diligence the parties first scan all of the relevant documents and transfer them to a VDR vendor who uploads the documents on to its data room server.  While companies can, and often do, make their documents available online, a VDR vendor provides various value-added services that are specifically useful for the due diligence environment—documents can be arranged in hierarchical order, document indexes can be prepared so that users can immediately see what is available when they log in, levels of permission can be created and enforced to restrict access to certain documents and/or the ability of a user to download or print out copies of documents, and reports can be generated that detail who has looked at which documents and how often.  In addition, it is generally agreed that a qualified and experienced VDR vendor can greatly accelerate the process of getting documents ready for viewing.  For example, vendors usually can provide scanning services directly or through sub-contractors and are typically able to get the VDR up and running within a few business days after all the documents are identified.

A VDR can be established and used on a deal-by-deal basis or companies that are continuously engaged in transactions may purchase a subscription which establishes their VDR and keeps it up and running for all transactions without having to pay separately for each new deal.  Fees are typically based on the number of pages in the VDR and the use of additional services such as scanning, indexing, site management, consulting services, and technical support.  Companies should get demonstrations from several vendors before making a choice and should select a service that fulfills their expectations with respect to navigability of the site, ease of use, availability of support and flexibility.  Before beginning the selection process the company should conduct an internal assessment to determine the volume and type of documents that would be transferred to the VDR.  This allows the company to seek and obtain more accurate estimates of the costs of the VDR and determine which features (i.e., access restrictions) will be most necessary and useful.  As of early 2008 it was estimated that a VDR was being used in about half of the mergers and acquisitions transactions involving public companies in the US and there are a number of major vendors competing for a share of a rapidly growing market including long-time financial printers Bowne & Co. and Merrill Corporation.

The content in this post has been adapted from material that will appear in Going Global: A Guide to Building an International Business (April 2008) and is presented with permission of Thomson/West.  Copyright 2008 Thomson/West. For more information or to order call 1-800-762-5272.

Post-Merger Procedures-Bringing the Parties Together

Many mergers and acquisitions do not work out as planned and the problem usually lies in a lack of focus on how the two parties should actually be brought together once the deal is completed.  The issue is particularly important in situations where it should be obvious from the beginning that the transaction will require integration of two very different corporate cultures.  The first problem to consider is where to locate the headquarters of the combined company.  Rather than select the headquarters location of one of the parties it may be useful to proceed without any formal headquarters and ask senior executives to rotate among various key office locations around the world.  A second issue is integrating similar departments from both companies.  One solution might be to create talent centers at strategic locations around the world that will serve as the focal point for essential functional activities such as research and development, manufacturing and marketing.  Employees from both companies would have the option to transfer to these centers as a condition to advancing to leadership positions and this would facilitate integration in a totally new environment for veterans of both parties.  In order to ensure that valuable employees who elect not to transfer do not become isolated the company should adopt and enforce a rule that all business-related communications within the company are to be in one language (e.g., English).  A third step that needs to be considered in making sure that key customers of both parties are reassured about the ongoing commitment to service from the merged entity.  Finally, while many merger deals allow the acquiring party to continue to use the trade names and logos of the acquired party for a certain period of time consideration should be given to moving quickly to re-brand the acquired party’s products to reflect the new owner.  This can accelerate the process of getting employees of the acquired party to identify themselves with the merged company.