M&a for CFOs What you Don't Know Could Kill Your Deal

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THE RESOURCE FOR CORPORATE FINANCE, ACCOUNTING & TREASURY PROFESSIONALS

Gabor Garai

Foley & Lardner LLP

The Legal View On M&A Preparedness


Identify the Target Business

• Buyer or seller?

• Is the target business in a separate entity?

• Who owns the assets used in the target business?

• Do shareholders or other affiliates provide services or employees to the target business?

• Is the target business in a heavily regulated industry?


Identify the Target’s Owners

• Is the target owned by:

– Corporate seller

– PE fund

– Family / founders

• Why does owner want to sell?

– Change in corporate direction

– Financial need

– PE Fund lifecycle

– Generational issues

• What are key sale drivers?

– Money

– Politics

– Management (or lack thereof)

– Fear / risk

– Age

• How do these translate into ―price‖ offered?


First Contact: How Do the Parties Meet?

• For an experienced buyer, this may occur before attorneys are

brought in

• For an inexperienced buyer or seller, intermediaries should be

involved at this stage

• The role of bankers and lawyers

• Romancing the buyer

– Understand motivations

– Speed and certainty

– Reputation

– Style and culture

• NDA

– Definition of proprietary information and exclusions

– Non-solicitation

– Trading


Plan Your Deal Team

• Company

– Senior management

– Identify those with authority to direct the professionals

– Company specialist

• Outside professionals

– Attorneys

– Investment bankers

– Accountants

– Others

• Define working relationships/responsibility of in-house vs. outside

attorneys

– Skill

– Capacity

– Cost


Letters of Intent / Term Sheet

• Non-binding vs. binding

• Binding provisions

– Exclusivity

– Disclosure of confidential information

– Expenses

– Good faith negotiations

– Access to information

– Termination

• What is the purpose and benefit?

• Who drafts the purchase agreement?

– Control

– Cost containment

– Negotiating strategy


Structure of the Transaction

• Stock Sale

– Transfer of shares

– All assets and liabilities automatically transfer

• Asset Sale

– Transfer of individual assets and liabilities

– Permits carve-outs

• Merger

– Assets and liabilities transfer by operation of law

– Forward vs. reverse triangular merger

• Importance of flexibility

– Substance should dictate structure

– We can create desired outcome with any structure

– Risk vs. value


Issues Affecting Deal Structure

• Tax planning

– ―Form over substance‖ means that tax planning often determines

structure

– Doing your target a favor: understand its tax attributes

• Transferability of permits and contracts

• Insulation from liability

• Dissenting shareholders

• Customers and vendors


Due Diligence

• Due diligence in the process of investigation

• Purpose of due diligence:

– Identify issues affecting the deal structure

– Identify and deal with problems before they are discovered by the other

side

– Provide information for disclosure schedules

• Applies to buyer and seller

• Review business from perspective of

– Financing needs

– Consolidation

– SOX compliance

• What’s beneath the fresh paint

• Different approaches depending on type of seller


Common Problems

• Key employees

• Intellectual property rights

• Title to assets

• Validity/transferability of permits and contracts

• Affiliate transactions

• Customer and supplier relationships

• Pending litigation and other contingencies

• Environmental

• Poor documentation

• Disclosure schedule

• Letter of Intent vs. reality


Financing Considerations

• Earn-out

– Certainty of collection

– Post-closing issues

• Financing post-closing indemnification claims

• Bank financing

– What will the bank require?

– Financing contingency

• Seller notes

• Escrows


Think About What Comes Next

• Transition services and integration

– Seller agrees to provide services to buyer after closing for a limited time

– Accounting services, human resources, employee benefits, information

technology, etc.

• Non-competition agreements

• Incentives


Possible Deal-Specific Concerns

• Public companies/securities laws

• Cross-border transactions

• Unionized labor

• Regulatory matters

• Other industry-specific issues


Post-Closing

• Integration of the new business and its employees (clients generally

do this without lawyers):

– Human resources/benefits

– Customers

– Suppliers

– Name changes

– Other transition issues

• Closing Binders on CD/DVD


General Tips

• Be organized

• Be patient

• Develop a risk allocation philosophy to guide you through the deal

• Be actively involved in the deal process


Thank You


Dan Kabat

Partner, Transaction Services

PwC

Being prepared: The accounting and financial reporting

obstacles to realizing deal value


• Corporations look cash rich – over

$1 trillion in cash

• Deal environment was robust and

growing for past year

• Companies looking for ways to

increase growth rates

– International deals – particularly

in emerging markets – Brazil,

India, China

– Bolt-on’s and tuck-ins – fill

product / geographic gaps

– R&D alternative

• Financing market very favorable past

6-12 months….short memories

Increasing storm clouds on horizon:

• Financing market getting difficult,

particularly high yield market,

spreads on corp debt up significantly

• Can PE compete in higher interest

rate environment

• European debt issues remain

worrisome and unresolved

• US and Euro growth slowing again

Middle market deals continuing, bigger

deals never came fully back and may

struggle

Current deal environment about to get more

challenging?


What’s expected at every stage of the transaction

Typical transaction order of events

Develop

divestitures

strategy;

reach tentative

decision to

divest

Prepare

preliminary

financial

information/

sell side due

diligence

Address

separation

requirements;

structure

alternatives;

carve-out

financial

matters; taxes;

IT, ops, etc…

Circulate

financial

information/

business

summary to

buyers

Select

potential

buyers to

conduct data

room visits;

deliver

management

presentations

Prepare data

room and

management

presentation;

prepare

historical

financials for

carve-out

Draft contract

and deal

negotiation

Perform due

diligence for

selected

buyers;

conduct audit

(if required)

Develop

Transition

Service

Agreement

(TSA)

requirements

and costing

Negotiate

price and key

terms

Develop plans

for separation

across

functions

Manage and

execute

separation

plans across

people,

process,

systems

Purchase

agreement

signed; buyer

financing

needs

addressed;

transaction

closed

Public capital

raising

Post-closing

adjustment

completion


Performing more seller diligence has greatest

favorable impact on deal success

2011 PwC Divestiture webcast polling result: 452 votes received

37%

31%

19%

12% Performing more seller diligence or pre-sale preparation

Having more bidder(s) for the deal(s)

Providing more detailed information to buyers for their due diligence

Having audited financial statements available for the divestiture

Question: Using your divestiture experience as a reference, which of the

following do you feel would have MOST favorably impacted one or more of

your deals, closed or not?


Largest value deterioration occurs in the diligence

phases

2011 PwC Divestiture webcast polling result: 468 votes received

29%

28%

17%

14%

12% During the dataroom/initial due diligence phase

During the final due diligence

Contract drafting/negotiations/TSA

Post-closing adjustment mechanisms

After the initial discussion but before distribution of an information memorandum

Question: From your transaction experience, where have you seen the largest

risk of value deterioration for the seller?


Value leakage can occur if key considerations

are not addressed

Timing

Deal

financials

Audit/reporting

requirements

Structure

Governance

& process

Separating

infrastructure &

operations

Key

Obstacles

In a Sale

Transitional

matters

Employee

related matters

2010 Divestiture Survey

results:

Key takeaways for divestitures

• More time consuming - over

half say they take 20% or

longer to complete

• Greater info and access

required - 75% say buyers

were requiring more or

extensive additional

information.

• Audited financials are

important - - 76% say audits

are more important or critical


• Timing – Difficulties sustaining value

– Is timeline realistic?

– Accumulating the required information for pro

forma, Offering Doc, data room, etc.

– Delays in selling process reduce negotiating

leverage

– Surprises from buyer due diligence reduce

prices

– Loss of deal ―momentum‖

• Creating appropriate deal financials

– Historical results may not reflect information

relevant to buyer

– Sellers struggle to reconcile GAAP vs deal

financials vs internal #s

– Determine basis of presentation

– Identifying the appropriate accounting records

and data gaps

– Building projections and bridge various

historical and pro forma financials

• Governance & process

– Insufficient allocation of resources and capital

for divestiture and separation effort

– Divesture leader seniority in company

– Accountability / Compensation for critical

resources

– Complexity in coordinating dependencies

across teams, functions and geographies

– Disorganized process, bankers limitations

– Overall project management - centrally run

process (from beginning to end)?

• Creating appropriate deal financials

(continued)

– Is there a need for audited information – impact

of lower level of materiality

– Need for audited information to support

financing

– Accumulate KPI’s and other operating data that

is consistent with deal based financial

information and overall story

Common process challenges and deal issues


• Structure

– Planning should consider most likely

alternatives and anticipate impact of mid-

stream change (stock vs assets, inclusion /

exclusion of parts)

– How will business extraction work? If a buyer

doesn’t want it all, can you pull apart the

information?

– Understand retained liabilities and reserves

– Consider potential Tax implications for both

buyer and seller

• Employee related matters

– Ensure appropriate motivation to get

transaction completed for both divested and

retained personnel

– Management’s role pre/post deal

– Employee selection and necessary employment

agreements

– Identify and assess employee-related

exposures, costs and deal-issues

– Equity and benefit plan conversion/transition

– HR shared service delivery

• Separating infrastructure &

operations

– Complexity in separating systems, data

confidentiality and shared services

– Local regulatory requirements and Asset

segregation

– Difficulty in negotiating ownership of IP and

ongoing joint commercial relationships

– Dependencies on third parties to execute

contract consents and assignments

– Understanding change in control provisions

• Transitional matters

– Difficulty in identifying transition requirements

and developing cost effective TSA

– Underestimating stranded costs and timeline

required to unwind

– Lost cost synergies to buyer and seller. Co-

sourcing other purchasing, etc.

– Complexity in reorganizing and revitalizing

remaining company operations

Common process challenges and deal issues (cont.)


Making the sale of your business successful

Strategy Management & execution Maximize value

Assess financial and operational

information to identify potential

issues, transition service

agreements, and alternative tax

structures.

Process and governance to

coordinate activities across

people, functions, and

geographies.

Have a strategy in place to

assess portfolio, market, and

related strategic issues.

• Formal portfolio optimization

process with regular, metric-driven

portfolio reviews and support from

the C-suite

• Validate the case for separation

• Understand the market value of

the business

• Timing, price, and ease must be

balanced and prioritized

• Be prepared to answer key

questions around why the asset is

for sale, reasons it has been

underperforming, and why it

should do well outside the

Company

• Approach the deal from the

buyer’s perspective by performing

due diligence before buyers get

involved

• Identify and correct any significant

operational issues

• Ensure data provided to buyers is

consistent and forecast is credible

and supported by the historical

results

• Evaluate working capital and other

items that will be considered for

post closing adjustment

mechanisms

• Consider all of the various tax and

accounting structures available

• Develop key transition service

agreements analysis

• Negotiate upfront to limit negative

impact on deal value

• Create a dedicated divestiture

management team

• Prepare for dual-track

transactions or other alternative

outcomes

• Control negotiation of certain

contract language including post

closing adjustment mechanisms in

order to protect the seller

• Coordination and execution of

data room

• Anticipate critical buyer requests

• Address internal financial

reporting requirements for

discontinued operations

• Anticipate the need for audited

carve-out financial statements


Thank You


Paul Burmeister

Partner, Tatum

M&A: The Journey, The Destination

and The Hazards on the Way


Which is the greater tragedy:

the journey that goes awry, or the journey that

never begins?


Agenda

• Why?

• What?

• Who?

• How?

• Deal Killers

• Causes of Failure


Buyer Seller

Why are you buying?

• Technology

• Market Share

• Synergies

• Growth prospects

• Profit improvement

opportunities

Why are you selling?

• Liquidity Event

• Retirement/intergenerational

transfer

• Portfolio adjustment

Why?

What are the value drivers?


What?

Buyer Seller

What are you buying?

• Stock versus assets

• Selected assets/selected liabilities

• Intangible property

• Income stream/quality of earnings

What are you selling?

• Stock versus assets

• Selected assets/selected

liabilities

• Intangible property

• Income stream/quality of

earnings


Who?

Buyer Seller

Who is coming with the deal?

• Strength of management team

• Gaps-and plan to fill them

Who is buying you?

• Compatibility between buying

and selling teams

• Roles post-sale

• Gaps-and plan to fill them


How?

Decision Phase.…. Execution Phase….. Implementation Phase….. Post-Sale Phase

Buyer Seller

How are you buying?

• Financing…and what it does to your

balance sheet

• Cash vs. stock

• Earnouts…

How is the buyer paying you?

• Financing…and what it says

about the buyer

• Cash vs. stock

• Earnouts…


How? Part 2

Buyer Seller

How will you run the business once

you’ve bought it?

• Integration must start when the deal

is a gleam in the buyer’s eye

• Integration ends…never

• This is no place for amateurs or the

faint of heart

How will you be part of the

business once you’ve sold it?

• Integration isn’t just for buyers

• If you want to be part of the

future, demand a seat at the

integration table

• This is no place for amateurs or

the faint of heart


4 Key Steps To Realize Define Goals

Define strategy and goals for acquisition,

focusing on integration feasibility as key target

screening criterion

Plan and Execute Due Diligence

Identify challenges to value realization,

including risks, integration and transition issues

Plan the Integration

Create plan to address integration issues and risks so as to realize

intended value

Perform the Integration

Merge operations, processes, cultures to realize strategic and financial objectives


Step 1: Define Goals

• M&A strategy should rest on analysis of current

competitive position and future objectives

– Define future state and gaps with current state;

choose acquisition candidates that best fill gaps

• Develop revenue and cost model for combined

organization as an integral step in evaluating each

potential target

• Assess cultural fit

• Define key success factors to realize value

• Develop ―threshold‖ pro-forma assumptions and

business forecast


Step 2: Plan and Execute Due Diligence • Goal is to verify that the value you are paying for is actually there

• Due diligence involves: financial due diligence, operational due

diligence; legal due diligence, technology due diligence, people

due diligence

• Review acquiree’s strategy and operations to validate

assumptions built into the valuation

• Test assumptions about how the new combined business will

operate and its projected sales, cash flows, margins

• Execute due diligence

– Build thorough understanding of target company via review of

relationships with customers, vendors, regulatory agencies,

etc.

– Identify and document transition issues to be addressed in

post-deal integration


Step 3: Plan the Integration

• Integration process should begin as soon as target is

identified and come into sharper focus as deal is finalized

• Concentrate on issues raised during due diligence that

threaten value realization

• Ensure members of acquisition team and key managers

understand valuation assumptions and their role in realizing

them

• Create transition steering committee and larger functional

team

• Define work plan for transition steering committee

• Focus on integration risks that could impede realization of

value: quantitative/ tangible and qualitative/ intangible risks


Step 4: Perform The Integration

• Revalidate all assumptions and integration plans developed

since the deal was first considered

• Execute essential Day One activities:

– Control

– Communications

– Governance

• Develop integration plans by function:

– Activities

– Names

– Dates

• Drill down in the organization and hold managers

responsible

• Speed is of the essence—delay drives failure


Deal Killers

Buyer Seller

• Unrealistic demands on the seller

-Due diligence

-Terms & conditions

- Reps & warranties

• Unrealistic expectations

-Smaller companies not as well prepared as

you might wish

• Unprepared for integration

• Unrealistic demands on buyer

-Price (relying too much on wishful

thinking and distorted multiples)

-Terms & conditions

-Reps & warranties

• Bad financial and legal preparation and

advice

• Unprepared for integration


Causes of Failure

Buyer

• Economic conditions: seldom the real cause

• Inadequate due diligence

• Wrong target/wrong acquirer

• Unrealistic expectations unrealistic pricing

• Poor integration

-Lack of leadership commitment

-Lack of management commitment

-Lack of resources


Key Points To Remember

1. Focus on the key drivers for realizing the value you envisioned

for the deal

2. Move quickly and decisively to retain key people and

communicate logic of the deal to employees, customers and

other stakeholders

3. Don’t underestimate problems of integrating the two

organizations but insist everyone focus on the future—not on

―how we used to do things‖

4. Drive the integration effort deep into the organization, holding

managers responsible for achieving specific goals


Whether you are a buyer or a seller

• Understand your company: what you provide; how it is

different; who it benefits and why; what your revenue

and profit model is; who your competitors are; what

industry dynamics are changing; the capital available to

you, etc. etc.

• Run detailed projections on an on-going basis and test

them for ―worst case‖ scenarios

• Find outside advisors who understand your industry

• Look at ALL alternatives

• Err on the side of caution

• Adjust your expectations re: timing; valuation; execution

success


Thank You


Panel Discussion and Q&A


Proformative Contact John Kogan

CEO [email protected]

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M&a for CFOs What you Don't Know Could Kill Your Deal

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