- Posted on: May 11 2022
By: Biniam Tesfamariam [5/11/22]
In the corporate world, mergers and acquisitions are transactions where ownership of companies combines in some form. Although the terms are used interchangeably, they deviate officially. For example, an acquisition occurs when one company purchases a smaller company, and a merger occurs when two companies form a new single entity. Equally, though, the course for the acquisition or merger of two companies, are both laborious undertakings. In fact, most merger and acquisition transactions can take between 4 to 6 months to close. This article will discuss the process that leads to a typical merger and/or acquisition transaction.
There are various types of merger and acquisition transactions. Some of the more common transactions include:
- Conglomeration: merger between companies that are unrelated and form a new entity, while the companies pre-merger cease to exist
- Forward merger: the target company becomes part of the acquiring company and ceases to exist as an independent entity
- Forward triangular merger: involves a third party- usually a subsidiary of the acquiring company where the target company is merged into the subsidiary
- Reverse triangular merger: the subsidiary merges into the target company leaving the target company as a subsidiary of the acquiring company
- Joint venture: this is a partnership between businesses usually for executing a mutually beneficial project
- Asset purchase: the acquirer purchases the target company’s assets (knowledge, customer lists, inventory, resources, equipment, etc.) while the target company remains a legal entity), and
- Stock deal: acquirer company purchases the target company’s stock and target continues as a subsidiary of the acquiring company
After there is consensus among the buyers and sellers of the type of transaction, the parties will then begin the process of negotiating and finalizing the Letter of Intent. Although, sometimes the modality of the acquisition changes during this process as the parties think things through.
The Letter of Intent is a brief non-binding contract that precedes a binding purchase or merger agreement, such as a share purchase agreement or asset purchase agreement. The Letter of Intent provides a roadmap for the transaction and structure of the deal. This ensures both parties, the buyer and seller, are aware of all the facts needed to price the transaction. This also ensures the accuracy of the information provided by the parties, and that the transaction is in accordance with the provisions of the purchase agreement. Terms of the Letter of Intent are negotiable and parties usually will go through multiple drafts before finalizing such.
Some of the typical issues presented occur with negotiating include certain stipulations such as the timeline, the balance sheet, working capital, price, non-disclosure agreements, confidentiality, due diligence, and exclusivity. The Letter of Intent will save the parties time and money by preliminarily negotiating the significant terms of the transaction. The Letter of Intent will assist with drafting the purchase agreement as well. After the Letter of Intent is finalized, the parties will then have a period to set the parameters for due diligence. Any deal is more likely to close if there is proper due diligence as problems can be uncovered and addressed.
While the Letter of Intent should have a time frame for the due diligence period, the general rule of thumb is between thirty (30) and sixty (60) days, but each merger or acquisition transaction is different. Considerations for setting a timeline typically involve understanding the complexity of the deal, the industry the acquired company is in, and the kind of transaction.
Merger and acquisition transactions typically involve a great deal of due diligence by the buyer. This is because it will want to ensure it completely understands what it is purchasing, including but not limited to the liabilities, contracts, litigation, and intellectual property potential issues of the seller. This is more so true in private company acquisitions as the seller has not been subject to making financial disclosures and the like as a public company.
Typically, the buyer reviews all the due diligence documents in an online data room. The dataroom houses key seller documents, including but not limited to, contracts, governance, intellectual property, financial statements, and ownership information. Some issues that may arise after a thorough buyer’s due diligence investigation include contracts not signed by all parties, contracts that have been amended but without the amendment terms, missing or unsigned board of director minutes, and stockholder minutes.
After the due diligence period is over, the parties will negotiate and finalize the purchase contract with a clear closing date.
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Posted in: Business Law