M&A Disclosure Schedules: Seller and Buyer Perspectives Making and Updating Disclosures in U.S. and International Deals Today’s faculty features: 1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 1. WEDNESDAY, JUNE 17, 2020 Presenting a live 90-minute webinar with interactive Q&A Karen A. Abesamis, Partner, Morgan Lewis & Bockius, Palo Alto, Calif. Peter D. Feinberg, Attorney, Law Offices of Peter D Feinberg, San Francisco Carol Osborne, Partner and Co-Leader, M&A and Corporate Finance, Bryan Cave Leighton Paisner, London
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M&A Disclosure Schedules: Seller and Buyer
PerspectivesMaking and Updating Disclosures in U.S. and International Deals
M&A DISCLOSURE SCHEDULES: ISSUES, TRENDS AND BEST PRACTICESKaren Abesamis
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ISSUES AND TRENDSM&A DISCLOSURE SCHEDULES
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COVID-19 DISCLOSURES
• Party Preference– Sellers: Broad disclosures (impact and potential impact)
– Buyers: Narrow disclosures
• Absence of changes rep to have many new disclosures– Change in the line of business (ex: shifting to manufacturing hand sanitizer)
– Reductions in force and temporary shut downs
– Change in cash management practices
• Other particular disclosures to review carefully– Labor and employment
– Customers, Suppliers, Vendors
– Taxes
– Insurance
– IT/Data Privacy
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COVID-19 DISCLOSURES
• Buyer may seek additional reps related to Seller’s emergency protocols, contingency planning and business continuity
• Consider modifying standard reps and warranties to address the current situation
• Compliance with laws rep and PPP loans
• Disclosures of known issues v. Protection for the unknown
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DISCLOSURE SCHEDULE UPDATING
• Disclosure Schedule Updating = Risk Allocation
– Closing condition
– Seller: Need to continue to conduct business and not breach reps
– Buyer: Would amend the reps and reduce its protection
– Termination Rights
– Seller: No termination
– Buyer: Right to terminate
– Liability for Breach
– Seller: Reps should be read with disclosure schedule as of signing and the updated disclosure schedule as of closing
– Buyer: But this may absolve Seller of its breach
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DISCLOSURE SCHEDULE UPDATING
• Era of COVID-19
– Deals signed but not closed: Look to see whether permitted to update
– Deals about to be signed:
– Sellers want right to disclose new COVID-19 consequences as things evolve
– Buyer wants right to terminate, bargained for adjustments, etc. and will push for limitations
– Materiality increasingly important
– Materiality previously irrelevant (all updates allowed, no updates allowed)
– Now, consider whether an update is material that would trigger closing condition failure or right of buyer to walk away
– Primary issues:
– Reps and warranties true and correct as of closing
– Termination right
– Liability for breach/right to cure
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DISCLOSURE SCHEDULE UPDATING
• ABA M&A 2019 Private Target Deal Point Study
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DISCLOSURE SCHEDULE UPDATING
• ABA M&A 2019 Private Target Deal Point Study Cont.
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DISCLOSURE SCHEDULE UPDATING
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• Time Period
• Industry
• Covenants
• Materiality
– Terminate if update is material
– MAC closing condition
• Points of Compromise:
– Update will not cure breach in effect at signing but may update for new matters
– Update as to new information but not retroactive
#METOO
• “Weinstein Clause”: statement of no accusation of sexual harassment against managers, directors and senior officers
– “To the Company’s Knowledge, in the last ten (10) years, (i) no allegations of sexual harassment have been made against any Executives of the Company and (ii) the Company has not entered into any settlement agreements related to allegations of sexual harassment or misconduct by an Executive”
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#METOO
• Confidentiality (esp. if investigation pending)
– Accuser
– Accused
– Buyer
• Disclaimers
The representations, warranties and covenants of each of the Company, Parent and Merger Sub contained in the Merger Agreement have been made solely for the benefit of the parties to the Merger Agreement. In addition, such representations, warranties and covenants (i) have been made only for purposes of the Merger Agreement, (ii) have been qualified by confidential disclosures made by the Company in connection with the Merger Agreement, (iii) are subject to materiality qualifications contained in the Merger Agreement which may differ from what may be viewed as material by investors, (iv) were made only as of the date of the Merger Agreement or such other date as is specified in the Merger Agreement, and (v) have been included in the Merger Agreement for the purpose of allocating risk between the contracting parties rather than establishing matters as facts.
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Materiality Qualifiers
• Materiality scrape or materiality read out
– Pro Buyer
– Single (loss) versus Double (breach + loss)
• Materiality scrape → Sellers will tend to over disclose in disclosure
schedule to avoid liability
– Increased time for both parties to prep, review, negotiate
– Effectiveness of disclosure schedule purpose
– Representations and warranties insurance
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Representations and Warranties Insurance
• General and continued growing market acceptance
• ABA M&A 2019 Private Target Deal Point Study
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Representations and Warranties Insurance
• General and continued growing market acceptance
• Will Seller provide full disclosures regardless of whether they retain post-closing liability?
– Insurer can create exclusion where insurer is not satisfied with scope of diligence and disclosure
– Moral Hazard
– Continued careful disclosure
– Retention amount ensures Seller has skin in the game
– Reputational harm
– Harm to continuing relationships // Buyer is not going to want to explain up
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Representations and Warranties Insurance
• Era of COVID-19:
– Pay attention to policy exclusions. COVID-19 known risk. Some insurers have specifically excluded.
– Consider business interruption insurance to supplement
– Expect enhanced due diligence by underwriters and longer bring down calls.
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Other Items
• Informational purposes only
• Discrepancies between original and translated
• Embedded links
• Electronic delivery
• Affiliates
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BEST PRACTICESM&A DISCLOSURE SCHEDULES
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When Representing Sellers
• Disclose Disclose Disclose
• Make it easy
– Who is included in the knowledge definition?
– Careful review
– Do not just focus on “except as set forth in the disclosure schedule”
• Start early
• Clear delegation of responsibility
• Lists not descriptions
• Review agreements and prep list assuming lower threshold
• Business Legal
• Cross references
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When Representing Buyers
• Beware kitchen sink dump of information
• Beware broadly drafted and ambiguous exceptions
• Clear delegation of responsibility for reconciliation
• Descriptions preferred over lists
• Diligence must be in data room X days prior to signing
• Keep an eye on data room post-signing
• Flash drive or data room copy of data room
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This material is provided as a general informational service to clients and friends of Morgan, Lewis & Bockius LLP. It does not constitute, and should not be construed as, legal advice on any specific matter, nor does it create an attorney-client relationship. You should not act or refrain from acting on the basis of this information. This material may be considered Attorney Advertising in some states. Any prior results discussed in the material do not guarantee similar outcomes. Links provided from outside sources are subject to expiration or change.
Karen A. Abesamis focuses her practice on mergers and acquisitions, strategic and venture capital investments, and technology transactions. She advises on general corporate matters, including securities compliance and corporate governance. Her clients include public and private companies, financial institutions, venture capital funds and corporate investors. Having practiced in the Bay Area for more than a decade, Karen has significant experience working with technology companies and non-technology companies that are finding opportunities to grow through the use oftechnology.
– Despite Brexit, the UK is still the top destination for US-
European M&A activity, representing nearly 40% of all US-EU
deals since 2009
– Deal activity was expected to increase in 2020 pre-COVID 19
due to increased certainty around Brexit and a decisive
Conservative win during the December 2019 elections.
– COVID-19 (and impacts on certain key sectors) will create
opportunities for bargain hunting especially for well-funded US-
based investors
• Understanding the landscape improves deal efficiency
and client happiness!
Why relevant to a U.S. practitioner?
54
• In theory, due diligence and disclosure are two very separate exercises: – due diligence being undertaken at the outset of the deal by the Buyer in order to test the price and inform the
appropriate terms of the transaction;
– disclosure being undertaken by the Seller in response to the warranties in the acquisition agreement and in
order to avoid liability under them.
• But increasingly blurred - with all information being made available to the Buyer
(whether at the outset or subsequently) being included in the data room - and the
whole data room being generally disclosed.
• Same purposes for disclosure as in the U.S.
– Post-closing price adjustment mechanism if facts are not as represented.
– Pre-closing diligence opportunity for the Buyer which allows a pre-closing price
adjustment, an opportunity to seek a specific indemnity (with or without liability
caps) or the right to walk away.
• Special situations (auction or bankruptcy/administration) limit opportunities for full
diligence but limited warranties mean there are also limited disclosures.
Purposes of Disclosure Practice
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• Disclosure is the means by which the Seller notifies the
Buyer of matters that are inconsistent with the
Warranties.
• It enables the Seller to avoid liability under Warranties –
in respect of the matters properly disclosed – and is
valuable to the Buyer as it provides it with further
• The disclosures are provided by means of a Disclosure
Letter.
Overview of the
U.K. Disclosure Process
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• Make sure the letter of intent (LoI) is clear on this point!
• Don’t use throw away phrases like “usual and
customary” because you might not get what your client
wants.
• COMPARE:
– In the U.S., warranties are customarily given on a full indemnity
basis
– In the U.K., warranties are given on a contract basis
• It matters:
– Determining damages on a contract basis vs. damages on an
indemnity basis
Recovery on a Contract vs. Indemnity
Basis
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• English law rule: protection arising from disclosure will not exist merely by disclosing
enough for the Buyer to “work out” certain facts and conclusions.
– A disclosure letter merely refers to other documents as a source of information
will generally not be adequate or fair disclosure
– Disclosure by omission will rarely be adequate
– "… fair disclosure requires some positive statement of the true position and not
just a fortuitous omission from which the buyer may be expected to infer matters
of significance.”
• The concept of “Disclosure” is always set forth in the acquisition agreement:
– The Buyer will require 'fair disclosure' to mean information is provided in
sufficient detail to reasonably allow its full relevance to be understood.
– The Seller’s preference will be to limit the requirement to providing sufficient
detail to identify the nature of the matter but not its potential impact.
• Effect of Buyer’s knowledge or investigation – Sandbagging and Anti-Sandbagging
discussed below.
What is Adequate Disclosure?
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• The bundle of documents referred to in the Disclosure
Letter
• Why needed?
– Disclosure letter will often provide that the contents of
documents referred to therein are deemed to be disclosed
• Can you just disclose the entire data room?
– Different desired outcomes.
• Mechanics:
– Two identical physical or electronic bundles “initialed” by the
parties are delivered.
– Timing is important – especially for the buyer.
The Disclosure Bundle
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• Separate from the acquisition agreement; not a schedule.
• Like a legal opinion letter, the preamble sets the context for the disclosure letter and what is
(and isn’t included).
• General Disclosures
– Information available through public sources or which the Seller can obtain
independently.
– COMPARE: This is generally not considered disclosure in the U.S.
• Specific Disclosures
– Facts, matters or circumstances which, if not disclosed, would result in a breach of one or
more warranties.
– Generally tied to specific warranties but can also be deemed to cover others.
– COMPARE: This is the U.S. style disclosure schedule.
• When delivered?
– Usually delivered just prior to signing
– Concerns around confidentiality, data protection and privilege may well affect what is
disclosed and/or when (certain documents being withheld until a late stage and certain
details being redacted or anonymised).
The Disclosure Letter
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• Contents of Acquisition Agreement (schedules, etc.)
• Companies House searches (i.e., publicly filed corporate records)
• The contents of the Seller’s company books and records
• Property Searches
• Other public record searches (e.g. UK Intellectual Property Office)
• Physical inspections of properties or assets
• Audited accounts
• Documents in the disclosure bundle
• Matters “in the public domain”
General Disclosures
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• Includes details of any specific matters that are known to the Seller or persons designated as having “knowledge.”
• The specific disclosures are produced by reference to the Warranties themselves.
– Disclosure against one Warranty would normally count as disclosure against all Warranties unless the disclosure is not precise enough to qualify as “fair” disclosure.
• As discussed, disclosure must be sufficiently precise (i.e., match any definition for proper disclosure in the acquisition agreement) or it may not serve as a defense to a breach of warranty claim.
• Process for developing specific disclosures comparable to the U.S. but COMPARE:
– The Seller should make careful and reasonable enquiry into the subject matter of the Warranties. If it fails to do so, it exposes itself to liability under the Warranties – and it will lose the benefit of any Seller limitations on liability if a Warranty is given fraudulently.
– A Warranty will be given fraudulently if the person making it knows it to be untrue, does not believe it to be true or is reckless as to its truth!
• The Buyer should not hesitate to mark up the specific disclosures if necessary.
Specific Disclosures
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• The nature and extent of the disclosure will depend upon the nature of the materiality
qualifier:
– qualifier relating to 'performance' (e.g., “The Target has complied in all material
respects with all laws") will require the Seller to disclose material non-compliance
(ie the nature and extent of how it has complied – rather than necessarily
considering the impact of non-compliance;
– qualifier in relation to a 'thing' (e.g., “The Target is not in breach of any material
contract") will be easier to disclose against – as the Seller simply has to consider
whether it has breached any material contract (and there may even be a
definition of what counts as a material contract) – it should not, for example, have
to consider material breaches of non-material contracts; or
– qualifier relating to the nature of the 'impact' (e.g. “The Target has not done or
omitted to do anything in breach of any law that could result in a penalty or other
liability which has a material adverse effect on its business") may arguably only
require something quite significant to be disclosed – but it would be prudent for
the Seller not to construe any requirement to disclose too narrowly.
Disclosure for Warranties Qualified by
Materiality
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• Yes, we have it in the U.K. too (we just don’t call it that).
• The definition of “Disclosed” sometimes excludes
matters known to the Buyer merely as a result of due
diligence or data room access. If the matter is not
discussed in the disclosure letter or the document is not
in the bundle, it is not considered “fairly disclosed.”
• Case law suggests the Buyer may not be able to rely on
such a savings clause if it (directly or through its
advisors) had actual knowledge of a matter.
Sandbagging and Anti-Sandbagging
64
• Full or partial disclosure might be undesirable for commercial reasons:– Risk of losing attorney-client privilege in a sensitive litigation matter
– Concern over unduly aggressive pre-closing purchase price adjustments
• Caveat Emptor: in the absence of a Warranty to disclose against, the Seller is not obliged to draw to the Buyer's attention matters that might reasonably effect Buyer’s willingness to proceed with the transaction on the proposed terms or at all.
• BUT if the Warranty has been agreed and the Seller fails to disclose something it knows: – the Warranty will have been given fraudulently.
– Seller will lose the benefit of any Seller limitations on liability.
– Seller also runs the risk of criminal liability.
This presentation was provided as an educational service. It is an overview only, and should not be construed as legal advice or advice to take any specific action. If you have questions regarding any of the content contained in this presentation, we recommend you seek the assistance of a knowledgeable legal professional.