The pace of merger and acquisition activity in Silicon Valley continues unabated, and the satisfaction of conditions to make sure both parties conclude a deal with all loose ends tied up becomes critical to a final closing. In my last blog, I discussed certain standard closing conditions contained in merger and acquisition documentation, particularly the requirement of stockholder approval and the use and impact of dissenters’ rights. In this blog, I will cover some of the other commonly used conditions in acquisitions of privately held companies.
Being a technology transfer lawyer, many of my clients’ deals focus on the need to retain key employees after the company is sold. For that reason, a key closing condition included in most acquisition agreements requires that certain employees with the acquired company agree to continue working with the company for a period of time after the closing. Often this obligation is structured by requiring the employees to sign employment agreements or consulting agreements with the buyer. Managing this process can be tricky, because employees will want to agree to terms they find preferable (e.g., receiving additional options and higher salary) and some key employees may be reticent to work with a buyer they do not know. In addition, negotiations occur between the key employee and an acquirer before a deal is closed, which is sometimes an awkward process.
Covenants Not to Compete
A corollary to this condition is the buyer’s desire to have key employees sign covenants not to compete. Although generally unenforceable in California, these covenants can be enforced where the key employee holds sufficient stock, and has sufficient control, in the acquired company to warrant protection of the buyer’s interest after the sale. The covenant must also be for a reasonable time, and limited to a reasonable geographic area. Because of these somewhat vague standards, buyers often want these covenants signed by as many of the key employees/stockholders as they can. Key employees, understandingly, become very apprehensive about signing these documents, because many are not receiving enough money from the deal to be able to afford being shut out of the industry in which they have developed a substantial expertise.
Employee Releases
Where a selling company’s shares are closely held, or where a substantial percentage of the shares are held by a small group, a buyer will often want the stockholders to release the company from any claims the stockholders may have. This may present a problem if any selling company stockholder has any claims, or even hard feelings, against the selling company. Requiring them to sign a release provides them great leverage in getting their claims or concerns resolved in their favor.
Material Adverse Impact
Another key closing condition is the absence of any “material adverse impact”. It is often defined as an impact to the acquired company that is material and adverse. Helpful, huh? There lies the problem with this condition. Although it behooves parties to objectively define what is both material and adverse, too many times parties want to rely on an “I’ll know it when I see it” standard. Using objective standards here is critical, because there is precious little time to use standard dispute resolution proceedings to decide who is right or wrong when you are trying to close a deal.
Regulatory Requirements
Satisfaction of regulatory requirements is another important closing condition. Where publicly-tradable securities are being issued, acceptance of an appropriate registration statement by the SEC is often a condition. For acquired companies with a smaller stockholder group, mature buyers can often get the selling stockholders to agree that shares issued in the acquisition will be registered after the closing. Other regulatory requirements could include bulk sales filings for certain types of deals, and antitrust filings.
Legal Opinions
One of the last closing conditions, which is unfortunately one of the last to be considered, is the infamous legal opinion. This is a letter written by one party’s counsel to the other party providing certain legal conclusions, or opinions, about the state of the party and the transaction. Because legal opinions are provided, or rendered, to a non-client, attorneys are very sensitive about their content, and the opinion letter itself is an almost incomprehensible collection of jargon and assumptions. The opinion is also based on factual representations provided by management, and attorneys typically provide, right before the closing, confirmation documents concerning facts on which their opinions are based.
Because every deal is unique, other closing conditions may be present, and some of those discussed above may be absent. In any event, it is important that both attorneys and their clients work toward their completion, so that the closing a business sale can proceed with as little controversy as possible.
The information appearing in this article does not constitute legal advice or opinion. Such advice and opinion are provided by the firm only upon engagement with respect to specific factual situations. Specific questions relating to this article should be addressed directly to the author.