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Corporate & Tax

Tips to Minimize the Risks and Maximize the Rewards of Your M&A Transaction

By Justin Nesbit

Congratulations! You turned what once were only dreams into a thriving business venture. It took more effort than you ever imagined, yet you have created a valuable company that others are willing to pay a premium to acquire. Now you just need to negotiate, structure and close on the sale of your business. Below are some tips to help you to minimize the risks and maximize the rewards of your M&A transaction:

  1. Conduct Due Diligence on Yourself. Before you begin shopping your business, put on your “Buyer’s” hat and conduct a thorough due diligence review of your own company. Examine it as if you were being asked to buy it, and conduct a rigorous analysis to uncover all of its warts and wrinkles and to locate every skeleton lurking in your closets. Look for anything and everything that might spook a prospective buyer, or give them a reason to ding the purchase price…and do your best to address all issues that are uncovered. For example, make sure that your cap table is 100% tied out, that you have a signed assignment of inventions agreement from everyone who has ever had a hand in developing your IP, and that you have a fully-signed contract with each of your customers. This will help make the DD process with your actual acquiror run as smoothly as possible, and should help to maximize the deal price.
  2. Protect Confidential Information, Especially Trade Secrets. Your IP and other confidential information probably are your most valuable assets, so don’t accidentally give any of it away when trying to convince someone to acquire your business. Make sure each potential acquiror signs a protective NDA before you have any substantive discussions with them. And do not disclose your trade secrets or source code until you are very far down the M&A path. Even consider requiring an extra special NDA (with maximum “shields up”) before you disclose that type of mission-critical information.
  3. Optimize Transaction Structure. Make sure that you know which deal structure (i.e., stock sale, stock sale with rollover, asset sale, merger (one of the many flavors), “acqui-hire”, or even an exclusive license of IP) will maximize your after-tax consideration and will otherwise be optimal for you as the seller. You will need to work closely with your company’s lawyers, accountants and other trusted advisors (such as investment bankers and personal financial advisors) to make sure that you fully understand the pros and cons of the various deal structures. That will put your team in the best position to negotiate the LOI. Even if the deal structure isn’t optimal, at least you’ll know the relative value of each structure and you and your team of trusted advisors will be able to use that insight to negotiate the terms. For example, I’ve often helped my clients to trade “structure” chips for increased deal price (i.e., agree to structure as an asset sale if the buyer agrees to compensate for the bulk of the tax hit caused by inability to utilize the qualified small business stock exemption), effectively providing a win-win situation for both the seller and buyer.
  4. Limit $s At-Risk Post-Closing. Negotiate hard to limit your potential obligation to return deal proceeds post-closing. You can do this by making sure that the representations and warranties, limitation of liability, indemnification and escrow or holdback provisions all are carefully negotiated and are reasonable/market. These concepts honestly deserve their own blog post (or even their own multi-volume treatise), so it would be impossible to do more than to scratch the proverbial surface here. Just know that beyond negotiating the deal price, making sure that these issues are properly addressed in the transaction documents arguably is the most important part of any M&A deal. Push your advisors to explain the ins and outs of these provisions…and make sure that you fully understand your potential liability post-closing.
  5. Maximize Your Earn-Out. If part of your deal consideration will be in the form of an earn-out that is based on the post-closing performance of your business, make sure that (a) it is based on clearly defined metrics that you believe to be very achievable (and that you have mechanisms to track and audit the extent to which those metrics are achieved), and (2) your former employees are taken care of by the acquiror and are properly incentivized to hit all of the required performance metrics. You could do this by not accelerating at closing the vesting of all unvested equity incentives held by your employees, and instead requiring the acquiror to issue new equity incentives with vesting tied to hitting the required performance metrics. You could even consider trading some deal proceeds to help fund a bonus pool that can provide further incentives for hitting the required metrics. It may be a bit counterintuitive, yet it may be an acceptable investment to increase the odds of maximizing the earn-out.

The corporate and tax team at Gesmer Updegrove is ready to assist business owners navigate their exit strategy and eventual M&A transaction. Please contact us to discuss in more detail.

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