Tune in tomorrow for the webcast – “FCPA Considerations in M&A” – to hear Richards Kibbes’ Audrey Ingram, K&L Gates’ Vince Martinez and Schulte Roth’s Gary Stein to learn how to take the FCPA and other anti-corruption laws into account during M&A activities.

– John Jenkins

Weil Gotshal recently published its 10th annual “Sponsor-Backed Going Private Survey”.  A related blog reviewed how going private transactions have evolved over the past decade.  Here’s an excerpt highlighting some of the key differences between pre-financial crisis deal terms and those prevalent today:

– Before the financial crisis, the risk of a sponsor not being able (or willing) to close a deal was not on people’s radar in a meaningful way.  In 2006, reverse termination fees were generally around 2-3% of enterprise value, a relatively small amount that became very relevant when sponsors (and banks) soured on certain signed deals in 2008 and 2009.  After the trauma of the financial crisis, target companies and their advisors began to insist on higher reverse termination fees and the market is now 5-6% of enterprise value (slightly higher for smaller deals).  A review of relevant agreements from 2006 and 2016 also reveals that the situations in which the reverse termination fee is payable has been made much more clear.

– The amount of conditionality in pre-crisis deals is striking.  Although we noted in 2006 that financing outs were increasingly “out”, over 25% of deals under $5 billion actually included financing outs (which allowed sponsors to walk from a deal without paying any fee if the debt financing was not there).  Today, the prevailing construct in sponsor-backed take privates is specific performance lite, where a company can force the sponsor to close if the debt financing is available but in other cases can only receive a reverse termination fee.  In 2016, 73% of transactions featured the specific performance lite construct.  No deals in 2016 (or 2015 or 2014) included a financing out.

Deals are financed very differently today too – in 2006, deals over $5 billion in value averaged only 27% equity financing.  Today, leverage is much lower, & a quarter of all going private deals in 2016 were financed entirely with equity. But maybe the most striking difference is how many fewer deals there are today.  In 2006, there were 50 going private transactions included in the survey – compared to only 22 in 2016.

– John Jenkins

I once worked on a big deal for a company that had a reputation for excellence in transformational acquisitions.  The buyer brought the usual assortment of lawyers, financial people, and senior executives to the initial “all hands” meeting with the seller – but by far the largest group in attendance was the team responsible for post-closing integration.

Watching them in action, I learned pretty quickly exactly why this company’s M&A track record was so good. They began laying out the details for integrating the acquisition long before the parties even shook hands on a deal, and when the deal closed, they hit the ground running.

Post-merger integration is almost always the most challenging – and least sexy – part of doing deals.  This Deloitte memo reviews the critical importance of integration & makes the case for increased board oversight.  Here’s an excerpt with some thoughts on the role of the board in post-merger integration (PMI):

The board’s role obviously should not be to supplant management or micro-manage a transaction before or after it’s completed. Rather, board members should look to see that management has set a robust PMI strategy with appropriate resourcing and be held accountable for delivering against it, providing the board with regular updates and dashboards on timing and actions on critical issues, challenges, and milestones.

Many boards assume that everything after this phase will naturally fall into place. Often, that is not the case. In many M&A transactions, it is not until the deal is signed—or later—that the two companies have ample exposure to the leadership style and aptitude of the other company and can begin to know who the key employees will be—and where the problems are.

As a result, the board should gain visibility into the integration leadership decisions, including the appointment of a strong integration leader who can make decisions swiftly and who has the clout to execute on key decisions. A leader who understands cultural issues and is able to navigate the associated challenges is critical. Having that leader ready to combine the two entities is a key part of Day 1 preparedness and sets the stage for a successful PMI program.

The Board should also ensure that there is a well defined set of principles to guide management’s approach to the integration process. Directors should oversee the post-merger integration process, regularly evaluate its implementation, and hold management accountable.

– John Jenkins

My apologies to Jello Biafra & “The Dead Kennedys”, but that song was the first thing that popped into my head when I read this excerpt from Keith Bishop’s recent blog:

Suppose Mr. Henry owns all of the outstanding shares of a Virginia corporation that owns all of the issued and outstanding shares of a Massachusetts corporation that owns, among other things, real property in Los Angeles, California.  Suppose further that Mr. Henry sells his shares in the Virginia corporation to a buyer in New York and that the transaction is negotiated and closed in New York.  Does anyone believe that the County of Los Angeles can impose a documentary transfer tax on the transaction?

In an alarming decision yesterday, the California Supreme Court held that the County of Los Angeles could impose a documentary transfer tax on a written instrument that transferred beneficial ownership of real property from one person to two others.  926 N. Ardmore Ave. v. County of L.A., 2017 Cal. LEXIS 4768 (Cal. 2017).

Big states sometimes flex their tax muscle in odd ways – and applying a county excise tax on real estate transfers to a deal like this certainly qualifies as odd. I don’t know how much of a taste LA wants here, but it will be interesting to see if somebody tries to come up with a workaround.

People sometimes go to great lengths to dodge the tax man when it comes to deals.  For instance, when I was a young lawyer, I remember hearing stories about lawyers getting up in the middle of IPO closings & cabbing it over to New Jersey for the formal issuance of the shares in an attempt to avoid application of New York’s stock transfer tax.

Anyway, for now at least, it looks like the lyrics to “California Uber Alles” need to be changed – instead of “mellow out or you will pay,” it probably should be “mellow out AND you will pay.”

Update – Keith Bishop shared the following information on the potential amount of this tax: “The county’s “taste” can be significant. The tax is based on the value of the property. Value is determined exclusive of the value of any lien or encumbrance remaining thereon at the time of sale.  This would allow the exclusion of mortgage debt assumed by the buyer, but not new secured debt obtained by the buyer in connection with the purchase.

In Los Angeles County, the rate is $.55 per $500, with no cap. If, for example, if the property is valued at $10,000,000, the amount of the County’s Documentary Tax would be calculated by dividing $10,000,000 by $500, and multiplying that number by $0.55 for a total of $11,000. Some cities impose an additional amount per $1,000 as well. Since California real estate isn’t cheap, the amount of the tax can be significant.”

– John Jenkins

This book chapter by Vice Chancellor Laster addresses the remarkable evolution in Delaware’s M&A jurisprudence over the past three decades.  Here’s the abstract:

In the decades since 1985, the Delaware Supreme Court’s attitudes towards recurring third-party M&A scenarios have evolved significantly. Four areas that stand out are (i) the level of comfort with management-led, single-bidder processes, (ii) the legitimacy of defensive measures that appear designed to deter the emergence of alternative bids, (iii) the relative priority of fiduciary duties and third-party contract rights, and (iv) deference to stockholder voting. Current doctrine is much more favorable towards sell-side boards and the contract rights of third-parties.

Although many factors have contributed, the two predominant reasons for these shifts are (i) the rise of sophisticated institutional investors who have the ability to influence the direction of the corporations in which they invest and determine the outcome of M&A events, and (ii) the system-wide failure of stockholder-led M&A litigation to generate meaningful benefits for investors, setting aside occasional recoveries by a small subset of the bar.

After 30 years of evolution, are we close to a point of stasis in Delaware?  In light of the rapid changes that have happened since Corwin & MFW were decided, it’s hard to say – my guess is that Delaware’s world is going to keep on spinning for a while.

– John Jenkins

Here’s a Norton Rose Fulbright blog that talks about some of the unique aspects of negotiating an acquisition of a small, private company – including the fact that for many sellers, it’s not just a business deal.  This excerpt addresses the importance of keeping the seller’s perspective in mind during negotiations:

While the more seasoned buyer could be approaching the deal from a purely business perspective, the seller’s sentimentality towards its company, and its lack of experience in M&A deals, provides the seller with a different perspective—one that is less purely business, and more personal and emotional. Perhaps the seller truly views its employees as family, and wants to ensure that they will be treated well. Or maybe the seller wants a guarantee that it will be able to keep its office, wine or art collection, or company car post-closing.

These may not seem like big issues to a sophisticated buyer, but they can be very important to the seller.  Efforts to address issue like these often won’t cost much, but can help the seller to feel that it has extracted important items of value during the negotiation process.

– John Jenkins

Here’s an excerpt from a recent Nixon Peabody blog with observations on the impact that rep & warranty insurance has had on the size and terms of escrow arrangements in private equity deals:

In our experience, Rep and Warranty Insurance has impacted escrow percentages in Private Equity transactions.  In deals that involve a Private Equity seller, historically we would have expected to see anywhere from 8% – 10% of the total purchase price escrowed for indemnification purposes.  However, with the use of Rep and Warranty Insurance, we now see that escrow percentage routinely decreased to approximately 1% of the purchase price, which is escrowed to provide for payment of the Rep and Warranty Insurance deductible.

Some private equity deals have eliminated the indemnification escrow altogether – and are just using an escrow for purchase price adjustments. In addition, special escrows have been established in some transactions to address items excluded from coverage.

The blog says that the rep & warranty insurance tidal wave hasn’t swept strategic buyers yet. Escrow arrangements in these deals still contemplate holdbacks in the traditional range of between 8% – 10% of the purchase price.

– John Jenkins

Here are the second batch of stories that have run in my “John Tales Blog”:

1.   “Makin’ Thunderbirds”
2.   Due Diligence: Aim Before You Fire
3.   Mergers: One Step or Two?
4.   Tender Offers: Still a Few Bugs in the System
5.   “It’s Groundhog Day!” Deciding Whether to Disclose Merger Negotiations
6.   NOW, THEREFORE, IT IS RESOLVED: Drafting Board Resolutions
7.   Practice Points for Drafting Board Resolutions
8.   A Date with Destiny: Record Dates, Mailing Dates & Meeting Dates
9.   A Date with Destiny: Dividends
10. Being the Local Yokel
11. Be Afraid, Be Very Afraid: Fraudulent Transfer Statutes
12. Lyondell: One Bad Apple Ruins the Whole Bunch?

Check ’em out. If you like them, that’s great – insert your email address when you click the “Subscribe” link and we’ll push a new one out to you each week. If you don’t like them – well, you know I could still change my mind about the dog, right?

– John Jenkins

This Shearman & Sterling blog discusses Vice Chancellor Laster’s recent bench ruling in In re Good Tech Corp. Stockholders Litigation (Del. Ch.; 5/17), where the Vice Chancellor permitted claims against a company’s financial advisor to be severed from settled claims against the other defendants – despite provisions in the bank’s engagement letter designed to prevent that. Here’s an excerpt:

The financial advisor opposed the severance and sought a continuance of the trial, arguing that the settlement contravened the settlement consent and indemnification provisions in its engagement letter with Good—drafted in the wake of In re Rural Metro Corp., 88 A.3d 54 (Del. Ch. 2014)—intended to protect against just such an eventuality.

Noting that neither plaintiffs nor the settling defendants were parties to the engagement letter, and concluding that the advisor could recover money damages were it subsequently determined that the provisions were breached, Vice Chancellor Laster granted the severance request, denied the continuance request, and ordered the claims against the financial advisor to proceed to trial as previously scheduled.

Investment banks are deep pockets, and the prospect of their clients settling out & leaving them holding the bag as the sole remaining defendant has long been an area of concern to them.  That concern was heightened by the staggering damage award in Rural Metro.  As a result, increased attention has been paid to engagement letter language limiting the ability of other parties to settle without the bank’s consent.  But those contractual protections may not be much help if the other defendants aren’t parties to the contract.

– John Jenkins