TAX TIP FOR THE M&A CROWD

Byron Egan, that plain talkin’ Texan (resident in the Dallas office of JacksonWalker), gave a taaallllkkk (said with the best Texas drawl you can muster) yesterday addressing the IRS’s new tax shelter disclosure rules.

As Byron noted, the topic of his presentation could well have been titled “The Law of Unintended Consequences.” If you read further you’ll see why. If you just want the “magic language” it’s towards the end of this blog. Be advised though, we are told by responsible sources that the IRS has declined to bless this or any other language attempts to accommodate the IRS rules. If there are any IRS staffers out there you might let us know if we’re getting close. Gulp, I hope that revelation (and subsequent very tiny bit of levity) doesn’t get me flagged for an audit. Hey, it was Wilson’s idea to put that in! That’s spelled W I L S O N C H U.

Here’s the text of Byron’s materials provided at yesterday’s presentation. I checked with Byron and even though he has a copyright on this material (and what good lawyer wouldn’t) he is ok with you using the “magic language”):

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DRAFTING CONFIDENTIALITY AGREEMENTS AFTER
IRS REPORTABLE TRANSACTION REGULATIONS
By
Byron F. Egan, Dallas, TX*

On February 28, 2003, the Internal Revenue Service (“IRS”) issued final regulations relating to the disclosure of certain reportable transactions, the registration of certain tax shelters and tax shelter list maintenance requirements. T.D. 9046, 2003-12 I.R.B. 614 (February 28, 2003). These regulations impose a special reporting requirement that could require the reporting of ordinary commercial transactions to the IRS as tax shelters IF they contain typical confidentiality provisions. These new IRS regulations are leading many people to revise their confidentiality agreements to exclude from confidentiality matters relating to tax treatment or tax structure of transactions.

While the purpose of these regulations is to require taxpayers to report tax shelter transactions, the regulations were drafted so broadly that they could apply to certain commercial transactions that do not involve a tax shelter. One of the provisions of the new regulations requires reporting to the IRS of transactions subject to conditions of confidentiality with respect to the tax treatment or tax structure of the transaction (as those terms are broadly defined in the regulations), including certain acquisition agreements, settlement agreements, employment agreements and private placement memoranda. There are limited exceptions (i) where the restrictions on disclosure of tax treatment or tax structure are necessary to comply with applicable securities laws or (ii) for a taxable or tax free acquisition of (x) historic assets of a corporation that constitute an active trade or business or (y) more than 50% of the stock of a corporation, provided that the parties must be permitted to disclose the tax treatment and tax structure of the acquisition transaction no later than the earlier of: (A) the date of the public announcement of discussions relating to the transaction, (B) the date of the public announcement of the transaction, or (C) the date of the execution of an agreement to enter into the transaction. The regulations further grant a presumption of nonconfidentiality if there is a written disclosure authorization in the form provided by the regulations that excludes from confidentiality matters relating to the tax treatment or tax structure of the transaction. See Overview of Reportable Transaction Regulations by William H. Hornberger (July 24, 2003), which can be found at http://www.jw.com/site/jsp/featureinfo.jsp?id=10.

Set forth below is a form of disclosure authorization intended to conform to these IRS regulations:

(c) Certain Tax Information. Notwithstanding anything herein to the contrary and except as reasonably necessary to comply with applicable securities laws, any of Buyer, Seller or any Shareholder (and each employee, representative or agent of any of Buyer, Seller or any Shareholder) may disclose to any and all Persons, without limitation of any kind, the U.S. federal income tax treatment (as defined in Treas. Reg. § 1.6011-4) and U.S. federal income tax structure (as defined in Treas. Reg. § 1.6011-4) of the transactions contemplated by this Agreement and all materials of any kind (including opinions or other tax analyses) that are or have been provided to any of Buyer, Seller or any Shareholder relating to such tax treatment or tax structure.

* Copyright© 2003 by Byron F. Egan. All rights reserved. Byron F. Egan is a partner of Jackson Walker L.L.P. in Dallas, Texas. Mr. Egan is a former Chairman of the Texas Business Law Foundation and is also former Chairman of the Business Law Section of the State Bar of Texas and of that Section’s Corporation Law Committee. Mr. Egan is Vice-Chair of the ABA Business Law Section’s Negotiated Acquisitions Committee and former Co-Chair of its Asset Acquisition Agreement Task Force, which published the ABA Model Asset Purchase Agreement with Commentary (2001). He is also a director of the Texas General Counsel Forum and a member of the American Law Institute.

The author wishes to acknowledge the contributions of the following in preparing this paper: William H. Hornberger of Jackson Walker L.L.P. in Dallas, Texas.

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Welcome my friends to another slippery slope.

Comments? Gripes? Pls feel free to email us: wilson.chu@haynesboone.com or lglasgow@gardere.com )

Check this out for recent VC stats from VentureOne, which includes 2Q03 figures: http://www.venturesource.com/news/VCMarket.ppt or go to http://www.VentureSource.com.

Great stuff that will no doubt impress everyone at your next cocktail party.

This is my first attempt at a WSJ’s Mossberg Solutions-like product/service review. This one’s on risk management due diligence.

Let’s imagine that you’re representing a buyer of a business. How good would you look in your client’s eye if you’re able to get a nationally-recognized risk management group to conduct due diligence on target’s insurance and other risk management matters – FOR FREE?

For years, my college tennis buddy, Dave Lukens (dlukens@lockton,com) of insurance brokers Lockton Companies (www.lockton.com), told me about his M&A Group based in NYC that – for no charge – analyzes target’s insurance policies and other risk management programs (including matters like coverages, claims, retentions, reserves, etc…) and produces a report to the buyer on Lockton’s findings and recommendations. (Of course, these guys are doing it to get their foot in the door but there’s no obligation to buy). They mainly offer this service to support Lockton’s buyout fund customers.

On a recent deal, the moons lined up (i.e., I finally remembered what Dave was telling me), and I recommended Lockton to perform the risk management due diligence on target. On (very) short notice, these guys dove into the data room, jumped on conference calls with us, and otherwise served as the client’s risk management department . On this deal, environmental liabilities was a particular concern and the Lockton guys were able to get their environmental specialists involved at a moment’s notice. In all, we got the expert analysis that we needed, got it fast, and got it for free.

Even if your client has a full-blown risk management dept, wouldn’t it be helpful to benefit from another expert’s investigation, analysis, and judgment – without cost to the client?

I wouldn’t be surprised if other insurance brokers offered this service but I’m certainly going to remember this for future deals.

THE BLINDFOLDED M&A LAWYER

To avoid being labeled by Larry and Broc as a blogless-wonder-for-life, I thought I’d incoherently spew about a pet peeve of transcendental proportions in M&A negotiations: “Does anyone really know what’s “market” or “standard?”

We’ve all heard – and even said – superficially deep statements like: “Well, a 10% liability cap is market” to “I’ve never seen a deal without ‘prospects’ in the MAE definition.” And yes, the most famous line ever to be uttered by the pre-puberty second year lawyer: “Oh, that’s standard in every deal I’ve seen” (Pretty persuasive stuff, huh?)

Does it ever make you wonder if the person using the “that’s standard or “that’s market” statement is truly arrogant enough to believe that that he’s the know-it-all of all deals terms under the sun? (Sometimes, it makes you wonder if the person is that smart – or that stupid.) Can this guy really detect a ripple in the Force?

To me, a “market term” depends on what part of the elephant that you, the blindfolded M&A lawyer, is touching. On one hand, you could think all merger agreements have “big trunk” terms or, on the other end (literally) of the elephant, you could think that all 10b-5 reps stink (and therefore aren’t “market.”).

Isn’t a “market term” just another negotiation tactic? Who really, really knows what’s market in the deal you’re negotiating? Don’t know but there are plenty of folks out there, however, that will be glad to tell you what they’re seeing (or think they’re seeing), with the hopes of convincing you that they’re in-the-know and you’re not.

As mentioned in some of Larry’s earlier blogs, Larry and I are in our third year of a study of deal points in publicly-disclosed middle market M&A deals. While I can tell you that purchase price caps show up about 22% of the time, I can’t tell you that a purchase price cap or any other cap level is “market.”

Is knowing “what’s market” more important than knowing why a particular term should be included or not – or worded a particular way? Whether you’re armed with statistical data from studies like ours or you possess a wealth of anecdotal evidence, I think “the why” is much more important than “the standard.” Of course, a combination of stats, deep anecdoctal evidence, AND “the why” probably works the best.

Which goes to prove – once again – that doing deals is more art than science.

(Comments? Gripes? Pls feel free to email us: wilson.chu@haynesboone.com or lglasgow@gardere.com )