Early Stages of a Merger & Acquisition
It is important to note that the business acquisition process is highly variable. In other words, there is no prescribed form or context in which business acquisition deals are performed. Every business has different moving parts, different assets, different business owners, etc. Thus, the merger and acquisition process and the transaction agreements themselves are different for every transaction – there is not a one-size-fits-all approach. The following is a general discussion on the anatomy of a business acquisition.
Letter of Intent; Indication of Interest
After introductory communications have been made between the parties and their respective teams, and the buyer has expressed its preliminary interest in purchasing the business, the senior members, executives will convene to meet in person to get a first impression of the people and business of the seller. As the discussions proceed, disclosure of sensitive and confidential information about the seller and buyer will be circulated. At this stage, it is customary for the buyer and seller to enter into certain confidentiality agreements (or nondisclosure agreements) to facilitate the exchange of information. That agreement will bind the buyer and seller to prevent any public dissemination of sensitive, confidential information even if the transaction is not consummated.
At some point during the early stage discussions, either the buyer or seller will request that their preliminary understandings of the transaction are embodied in a letter of intent or an indication of interest. A letter of intent is a formalization of the term sheet. While the letter of intent should not necessarily set forth all the terms and conditions in detail, it should include most of the key terms of the business acquisition. If the letter of intent if structured properly, it will help the buyer and seller progress to a final agreement. It will force the buyer and seller to focus on key terms of the business acquisition and help identify potential areas of conflict.
Letters of intent generally contain provisions, often non-binding, describing what assets or stock is being sold, the purchase price, any possible price adjustments, the form and timing of payments, confidentiality, termination fee, no shop clause, indemnification, exclusivity, closing conditions, choice of law, jurisdiction, and venue, among other items. There is considerable debate among attorneys and other professionals about the wisdom of entering into a letter of intent. For example, some professionals argue that entering into a letter of intent is useless since the LOI is almost always non-binding and embodies no real substance in connection with the transaction. On the other hand, there are number of reasons why the buyer and seller will want to enter into a letter of intent. For example:
The letter of intent (“LOI”) is a fairly straightforward agreement. The LOI is easily understood by the buyer and seller, which avoids any misunderstandings during the early stage negotiations so that all parties are on the same page.
The LOI sets forth the substantive terms to be reflected in the business acquisition documents and can therefore be of great help in preparing the asset purchase or stock purchase agreement.
The buyer may require an LOI to provide to its third party lenders that are financing the transaction.
Often buyers are reluctant to commit to any legal, accounting, and/or other third party expenses for due diligence without having a singed letter intent. On the other hand, often sellers will require a nonrefundable good faith deposit (e.g., break-up or termination fee) to ensure the buyer is serious before the seller begins to incur any transaction expenses.
It should be noted that although there are common themes and practices in the business acquisition process, every deal is different and specific to the parties involved. Every LOI is subject to variation depending on the particular set of facts and circumstances of the transaction and the parties involved and thus every letter of intent should be specifically tailored for the particular business acquisition.
Due diligence is the in-depth analysis of a business and its affairs. Performing due diligence of a seller’s business requires careful evaluation of the company’s operations, management structure, employees and contractors, financial and legal circumstances. The primary purpose of performing a thorough due diligence of the seller is to determine the appropriate purchase price. To make this price determination the buyer must assess the seller’s present operating and financial condition and then attempt to predict its future performance. Conducting an investigation and evaluation of the target will also uncover any issues not disclosed during the preliminary discussions between the buyer and seller.
In most merger and acquisitions handled by our Charleston corporate lawyers, a buyer’s due diligence is usually a continuous process. Due diligence is often perceived as a task to be completed before the acquisition agreements are prepared. However, more often than not, the due diligence will continue as the acquisitions agreements are being prepared and negotiated (and even after the transaction documents have been signed if they are contingent pending the closing). The buyers and its team will want to carefully review the seller’s articles, operating agreement or bylaws and shareholder agreement, meeting minutes, liabilities, financial statements, accounts receivable and payables, inventory, customer lists, tax returns, employment agreements and benefit plans, intellectual property, mortgages, insurance, assets, business contracts, and other important information.
Performing a thorough due diligence of the seller will help the buyer answer a few important questions, such as: (i) can the buyer effectively integrate and operate the newly acquired business; (ii) does the seller have the skill set effectively operate the newly acquired business; (iii) can the seller leverage the synergies existing in the newly acquired business; (iv) what are the buyer’s risks after the business acquisition is consummated; (v) what is the true value of the business being purchased; (v) what are the tax liabilities and other seller liabilities that will or will not be acquired.
Hiring Business Brokers and Other Professionals
Reputable business brokers who are familiar with particular corporate industries may be good sources of business acquisition leads. Generally, the business broker will be compensated only if an acquisition is consummated. Business owners looking to purchase a business in South Carolina should make sure they do their due diligence before engaging the services of any business broker. For example, can the business broker’s reputation be evaluated? Is the business broker located in the state in which the business is being sold or purchased? Is the business broker licensed by the appropriate state regulatory agency? What kind of fee arrangement is the broker charging (i.e., 5%-10% of the aggregate purchase price?). It is also critical to select a business broker that responds in a timely manner and is willing to devote the appropriate amount of time to help with the acquisition process. Note, a small business desperate for money will pay more to a broker than will a business that can shop around for the best deal. An agreement as to the broker’s fees should be reached before any sensitive or confidential information is exchanged
Business attorneys and business accountants may also be sources of acquisition leads. Many business attorneys and accountants have clients that often discuss purchasing or selling their respective businesses before such information is available to others. These professional groups can generally offer good acquisition opportunities for those looking to buy a business in South Carolina.
Call Our Charleston Business Law Firm
Mergers and acquisitions are a core practice area of our law firm. Our Charleston corporate lawyers regularly handle business acquisitions throughout South Carolina. To schedule a consultation with one of our business attorneys, please send us an email or call 843-564-5115. We will respond to all requests within one business day.