Private Share Acquisitions
By Kathleen Wang What is a private share acquisition?
Private share acquisitions involve the sale and purchase of the shares of privately held companies. This is distinct from asset acquisition, wherein a company purchases certain assets and liabilities of the target company but ownership is not transferred.
Who is involved in a private share acquisition?
The buyer – this is the buy side, usually a company seeking to purchase ownership of another privately held company.
The seller – this is the seller, or target, company, whose share capital is the subject of sale.
Investment banks – investment banks are heavily involved in the transaction, from valuing the price of the sale, structuring the transaction and other advisory services.
Law firms – law firms are involved in the legal aspects of the transaction, from conducting legal due diligence to drafting agreement and negotiation documents.
Steps in a private acquisition
Preliminary stages – before detailed negotiation takes place, the companies will usually enter into confidentiality agreements to keep confidential information about the target company disclosed during the negotiations. In addition, the parties may sign non-binding letters of intent with broad key terms of the transactions, which may include exclusivity or break fee clauses.
Due diligence – as with any transaction, large amounts of due diligence must be undertaken before a transaction closes. Legal due diligence includes research into the legal assets and liabilities of the target company. This may include the assets the company holds (and liabilities arising under those assets), as well as any potential litigation or other liabilities (pensions etc.) that the target company may have. Financial due diligence includes research into the financial accounts, debts, profits, and outlook of the target company. The results of this due diligence may influence the purchase price.
Drafting the SPA – private acquisitions will typically be effected through a Share Purchase Agreement (SPA). This will be the principal contractual document governing the transaction. The SPA sets out all terms of the agreement and includes the rights and obligations of each party. Standard clauses in an SPA may include anti-corruption clauses, condition precedents before completion and material adverse change clauses.
Post-completion procedure – if completion documents or conditions precedents are required in the SPA, these will then be delivered/completed. The completion documents are driven largely by the structure of the transaction and the form in which the price will be paid. Other completion documents may include share certificates (transferring the share capital) and letters of resignation from the directors. Other post-completion matters may include announcing the transaction, paying stamp duty on the purchase price and any necessary filings.
The Share Purchase Agreement
The SPA is arguably the most important aspect of a private share acquisition, as it includes all the terms of the transactions. Significantly, it also includes clauses governing the parties’ respective rights and liabilities. Common factors to negotiate and include in the SPA include:
Contractual framework – this will clearly specify whether the transaction will be solely governed by one main contract, or if there will also be collateral/local agreements.
Guarantees – this will be included if the parties negotiate for the obligations of the other to be guaranteed by a third party.
Purchase price and mechanism – importantly, the SPA will set out the transaction price, and the mechanism for which that price will be paid.
Mechanisms for determining the purchase price include the locked box method (which fixes the purchase price based on the company’s accounts at an agreed prior date) and the closing accounts method (where the price is determined to the company’s accounts at the date of transaction closing).
Mechanisms for payment include upfront payment, where the price will be paid upfront all at once, or earn-outs, where varying payments may be due depending on the performance of the target company post-acquisition.
Condition precedents – the parties may also negotiate conditions that need to be met before the transaction can be completed. This includes whether to require shareholder approval (and if so, at what proportion) any third party/regulatory approvals etc.
The applicable law – a SPA will also specify the applicable law which will govern the agreement if any claims or conflicts arise, as well as any dispute resolution mechanisms (for example, it might stipulate that any disagreements must be subject to arbitration).
Protective mechanisms for private acquisitions
Given the complexity and scale of purchasing a company, as well as the numerous rights and obligations to cover, both the buyer and seller may insert protective mechanisms into the SPA, either limiting liability in terms of breach or guarantee of certain key aspects of the agreement.
Buy-side protection mechanisms include:
Warranties – the seller will usually enter into warranties about the target company written in the SPA; if any of the warranties turn out to be false, the buyer may seek a breach of contract claim against the seller. Common areas of warranty protection include the target company’s audited financial accounts, the legitimacy and workability of any outstanding contracts of the target company, compliance with existing loan agreements, and the target company’s legal title to any real properties.
Assignment – another common clause in the SPA is the assignment clause, allowing the buying company to transfer the rights it receives under the SPA to a third company/group, such as the buyer’s subsidiaries.
Indemnities – the buyer may also require the seller to enter into certain indemnities, requiring the seller to cover the cost of certain events. For example, the buyer may require the seller to bear the risk and costs of any unresolved or ongoing litigation. Other common areas for indemnities include environmental risks, product liability claims, or infringement of intellectual property rights that may have a significant impact on the target’s business.
Sell-side protection mechanisms include:
Limitation of liability – in light of the seller’s potentially onerous responsibilities above, it is common practice to include limitations of liability clauses for the seller. These may include qualifying the warranties to ‘so far as the seller is aware’, and, more commonly, through disclosure. Specifically, the parties may sign a disclosure letter, under which the seller will not be liable if the facts giving rise to the breach have been disclosed. This mechanism serves a dual purpose: it both ensures protection for the seller in the event of a breach, and encourages greater disclosure of information that could allow the parties to reach a more accurate purchase price, or even for the buyer to decide whether to enter into the transaction at all.
Financial and time constraints – the seller may often include financial limitations of liability, such that it will not be responsible for any breach of warranting under a certain sum. This allows the seller to disregard any and all claims falling under the specified amount. Additionally, the seller may insert time constraints under which a claim can be brought; the common limitation period is 6 years.
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