Mergers and Acquisitions

Photo by Oblivious Dude
Photo by Oblivious Dude

The SEC’s Division of Corporation Finance recently issued new Compliance and Disclosure Interpretations (“C&DIs”) for Securities Act Rule 701 which clarify application of the Rule in the context of mergers. In a nutshell, Rule 701 provides an exemption from SEC registration requirements for private companies, private subsidiaries of public companies and foreign private issuers to offer their own securities, including stock options, restricted stock and stock purchase plan interests, as part of written compensation plans or agreements, to employees, directors, officers, general partners and certain consultants and advisors.

Under Rule 701, the aggregate sales price or amount of securities sold in reliance on Rule 701 during any consecutive 12-month period must not exceed the greatest of $1 million, 15% of the total assets of the issuer (measured as of the issuer’s most recent balance sheet date, if no older than its last fiscal year end), or 15% of the outstanding amount of the class of securities being offered and sold in reliance on Rule 701, (again, measured at the issuer’s most recent balance sheet date, if no older than its last fiscal year end). If the aggregate sales price or amount of securities sold during any consecutive 12-month period exceeds $5 million, the issuer must deliver specific written disclosures a reasonable period of time before the date of sale, including a copy of the summary plan description under ERISA or, if the plan is not subject to ERISA, a summary of the material terms of the plan, information about the risks associated with investment in the company’s securities, and financial statements meeting the requirements of the SEC’s Regulation A as of a date no more than 180 days before the date of the sale.

In the context of a merger transaction, the newly issued C&DIs provide the following guidance: Continue Reading SEC issues guidance on Securities Act Rule 701 in context of mergers

Photo by Jan Tik
Photo by Jan Tik

In business, we’ve all seen the traditional nondisclosure agreement (also known, more simply, as the “NDA”) between two parties wishing to discuss a potential business transaction. While NDAs are good tools to protect a party’s confidential information during such discussions,  businesses must take care to ensure that an NDA does not jeopardize the strong protections traditionally available to them under state laws.

State trade secret laws can provide substantial protection to certain confidential information, including trade secrets. These protections generally apply to information or materials that (1) have independent economic value; and (2) are kept “secret” by the owner. Importantly for purposes of meeting the secrecy requirement, most state laws provide that, so long as the owner takes measures to protect the secrecy of the information or materials that are reasonable under the circumstances, the requirement will be deemed met. Entering into an NDA sure sounds like at least one reasonable measure to protect the secrecy of a business’ confidential information, including its trade secrets. But business must beware: certain provisions of NDAs, if not properly addressed, could endanger state law protections regarding trade secrets. These provisions generally fall into one of two categories:

1. The term of the NDA. In many cases, the term of the NDA is limited to a one, two or three year period. The issue with NDAs of limited duration stems from the fact that, once expired, the recipient of trade secrets under the NDA might have no duty to keep such information or materials confidential. Under these circumstances, once the NDA has expired, some courts may find that the owner of a trade secret is no longer taking reasonable measures to keep its trade secret a “secret.” As a result, the relevant information or materials may lose trade secret protections under state law.

On its face, the obvious solution to this problem Continue Reading Keeping Your Trade Secrets Safe: When NDAs Can Backfire

Two news items from the front lines:

First, you may recall my mentioning that the Council of Institutional Investors was considering adopting a new policy that would limit newly public companies’ ability to include “shareholder-unfriendly” provisions in their organizational documents (see “Caveat Issuer“, posted on February 13).  I just came back from Washington, DC, where I attended the Council’s Spring Meeting, and the new policy appears to have been adopted as proposed.  While the text of the new policy was not made available at the meeting, and has yet to be posted on the Council’s website, it appears to provide that while some of these provisions can be in place when a company goes public, others — such as plurality voting for directors in uncontested elections — should be absent from the get-go.

By the way, my hotel room had a lovely view of the Jefferson Memorial, and the cherry blossoms were about to pop.

In other news, the SEC has announced, by way of a Sunshine Act Notice, that at an open meeting to be held on March 30 it “will consider whether to issue a concept release seeking comment on modernizing certain business and financial disclosure requirements in Regulation S-K”.  Looks like the disclosure effectiveness program may be moving forward.  Watch this space for details.

Bob

Protecting your board from shareholder lawsuits when you announce a dealFor a board of directors of a company, perhaps no decision is as important (and litigious) as the sale of the company in a change-of-control transaction. Shareholder lawsuits aimed at merger and acquisition (“M&A”) transactions (usually in the form of a putative shareholder class action or derivative suit) often allege that the directors of the acquisition target company breached their fiduciary duties in approving the transaction in question, and name the acquiring company and other defendants as aiders and abettors of the fiduciary violation. In support of their claim, the plaintiffs typically assert one, all, or a few of the following:

  • Transaction price is inadequate,
  • Directors failed to exercise due care to maximize the price being offered,
  • Transaction is coercive to shareholders because of so-called deal protection measures included in the agreements,
  • Public disclosures associated with the transaction are inadequate or misleading, and/or
  • Some or all of the directors have some form of conflict of interest.

The rationale for shareholder litigation generally stems from the idea that managerial agency costs are high, and that class actions and derivative suits are key shareholder monitoring mechanisms necessary to keep managers in line. On the other hand, representative litigation claims are often lawyer-driven, reflecting the agency costs that arise out of contingency fee suits that make the lawyer the real party in interest in these cases. In any event, the fact is that shareholder litigation in the United States has exploded in recent years. According to one study, in 2012, shareholders challenged 93 percent of M&A deals valued over $100 million and 96 percent of transactions valued over $500 million.

And while the deferential business judgment rule (i.e., the presumption that the directors’ actions were informed and taken in the good-faith belief that the actions were in the company’s best interests) generally enables directors to Continue Reading Protect your Board from merger and acquisition lawsuits with these five critical considerations

Registering shares of stock in a mergerThis is the fifth part of our Securities Law 101 series.  Because capital raising is such a critical function for middle market companies, we designed this series to introduce their management teams to some of the fundamental concepts in securities law.  We hope that this series will prevent some of the most common mistakes management teams make.  We will periodically publish posts examining different aspects of securities law. 

So your company wants to use its stock to buy another company?  As we have seen, stock consideration is coming back into vogue.  Issuing shares of stock for mergers and acquisitions, however, triggers the need to either register the new shares with the SEC (and possibly state securities regulators) or to find an exemption from the requirements found under Section 5 of the Securities Act of 1933. The presence of these rules can substantially increase the cost of the deal and could even make you consider going public before you thought possible.      

For mergers, finding an exemption from registration is not usually an easy task unless the target company is still held largely by the founder. Usually, the target company’s shareholders in the merger are often numerous, from many different states or jurisdictions, and represent a wide range of investor qualifications (accredited, sophisticated, etc.). As such, in many cases, finding a securities exemption is all but impossible. With exemptions off the table, let’s look at how to register stock in a merger. 

Stock that is registered in the context of a merger is registered on Form S-4.  This form was specifically designed for business combinations and exchange offers.  A transaction in which security holders are required to elect to receive new or different securities in exchange for their existing security (so called Rule 145 transactions) would qualify to use Form S-4.

Disclosure under Form S-4 can be quite complex. Generally, Form S-4 requires full disclosure regarding both the acquiring and target companies and, if the post-merger entity will differ materially from the acquiring entity, then full disclosure with respect to the post-merger entity is also required. Form S-4s also include the proxy statement for the shareholder meeting to approve the transaction and, typically, combine this proxy with the prospectus. Form S-4 mandates extensive disclosure of the transaction in the prospectus/proxy statement, including any fairness opinions and a comparison of the rights of the shareholders of the parties to the transaction.  Essentially, the disclosures are tailored to the specific transaction and nuances in the deal can create the need for a lot of disclosure.  Notably, for some companies, (e.g., 1st United Bancorp, Inc.) Continue Reading Securities Law 101 (Part V): Issuing shares of stock for mergers and acquisitions

Dell going private transaction shines light on risksSo you are set on taking your company private.  Well, before you put your plans in motion, there are a lot of risks and potential consequences to consider along with the benefits.  At the moment, no one knows this better than Michael Dell, CEO of Dell Inc.  

Back in February 2013, Mr. Dell and his financial partner, Silver Lake Management LLC, entered into a merger agreement with Dell that would make Dell a private company.  The merger was valued at $13.65 per share, with a deal value of $24.4 billion.  The deal would keep CEO Michael Dell and others in his investment group in charge of the company. 

The driving force behind the deal is the perceived need to restructure Dell due to fundamental changes in the computer industry.  Consumers are focusing more on tablets and smartphones, which is hurting Dell’s core computer business.  The thought is that the company needs a couple years to restructure and that being a private company would allow the restructuring to occur without so directly impacting the price of the stock.  Since most investors these days have shorter time horizons and less patience for restructuring, this looked like a smart move. 

As negotiations progressed and the deal was announced, however, the door was opened for other offers because Dell was in play.  This is one of the uncertainties involved with a going private transaction and makes this type of deal more risky.  In particular, there is the risk that the initial group loses control of the bidding process and gets out bid. 

Here, despite initial thoughts that no other parties would top the Silver Lake bid, two additional bids that are arguably superior have surfaced and make the outcome uncertain.  One of these bids is lead by investor Carl Icahn and the other is lead by Blackstone.  Both bids were deemed by Dell’s special committee to be potentially Continue Reading Dell shines a light on the risks of going private

Business CombinationsCash may be king, but the use of stock to buy a target company can be very advantageous.  The practice of using stock to purchase a target company never really went away, but it did become less desirable to target company shareholders during the recent economic downturn.  With stock values dropping and access to credit diminishing, mergers and acquisitions that did close were often done in cash.  However, as markets have become more stable and many stocks have risen to higher valuations, purchasers are looking more and more to again use their stock to buy companies.

In a typical merger, the question of whether to use cash, stock, a combination of the two or some other form of consideration is a business decision to be negotiated by the purchaser and target companies, with the consultation of professionals. Despite the recent economic downturn and its effect on market volatility, reduced market volatility over the last three years, combined with a legislative push to assist small businesses in raising capital, has made stock a more attractive form of consideration for buyers and sellers alike.

There are many benefits to using stock in a deal.  Perhaps the most important benefit stems from qualifying the transaction as a tax-free “reorganization,” provided that the transaction is structured properly. As a tax-free reorganization, the target shareholders would generally not have to realize gains on the exchange of their stock for the purchasers stock.  In contrast, target shareholders would normally have to realize gains to the extent they receive cash for their shares in a merger.  So the use of stock in a deal can be very advantageous to seller shareholders for tax reasons.

The use of stock consideration can also assist in addressing possible absolute and relative valuation issues by allowing the parties to negotiate with an eye toward the market. Further, stock consideration can help to minimize deal risks that arise in transactions where Continue Reading Has stock returned as the currency of choice in mergers and acquisitions?

Dual track acquistion structureWhen the private equity firm 3G Capital took Burger King private in 2010, it used an innovative “dual-track” acquisition structure to minimize the amount of time to consummate the acquisition. This involved 3G simultaneously pursuing both a friendly tender offer to Burger King shareholders as well as a traditional merger that would need to be approved by shareholders at a special meeting. Since the Burger King deal, nearly 20 other companies have used this structure. 

In basic terms, a tender offer allows the acquirer to make a direct offer to shareholders to purchase shares of the target company at a specified price. Consummation of the tender offer is usually contingent upon the target shareholders tendering a minimum number of shares so that the acquirer can take advantage of a subsequent short-form merger to squeeze out any non-tendering shareholders thereby resulting in the acquirer being the 100% shareholder of the target company. On the other hand, a traditional merger involves the solicitation of shareholder votes to approve the acquisition by proxy or in person at a special shareholder meeting. 

From a timing perspective, acquirers typically prefer to use tender offers to accomplish acquisitions because it normal takes less time to complete because, among other things, it does not require a special meeting of the shareholders to approve the transaction. Where a traditional merger can take upwards of three to six months to complete (depending on the circumstances), a tender offer can be completed in as few as 20 business days following the date the tender offer is initiated (the minimum period that a tender offer must remain open). However, if shareholders of a target company do not tender the minimum number of shares necessary to consummate the acquisition, the acquirer would be forced to abandon the tender offer and switch over to a traditional merger structure. 

In the Burger King deal, rather than waiting to see whether the tender offer was successful, 3G simultaneously prepared documents and made filings to proceed with a traditional merger concurrently with the tender offer. By doing this, 3G would have a head start on the traditional merger transaction if the tender offer ultimately failed, thereby saving significant time. However, public companies considering this type of approach should be aware that the timing of certain key events when undertaking a dual-track approach could result in an inadvertent violation of the Exchange Act rules. 

Specifically, Rule 14e-5 issued under the Exchange Act prohibits an acquirer from Continue Reading Acquirers beware! New expedited acquisition method could violate the Exchange Act

Following up on my post on the subject, I had the opportunity to speak with Colin O’Keefe of LXBN regarding the Facebook/Instagram deal.  In the brief interview, I explain how things have changed since Facebook’s IPO and what, if anything, that meant for the deal’s fairness review with the California Department of Corporations.

Following up on my post on the subject, I had the opportunity to speak with Colin O’Keefe of LXBN regarding the Facebook/Instagram deal.  In the brief interview, I explain how things have changed since Facebook’s IPO and what, if anything, that meant for the deal’s fairness review with the California Department of Corporations.