Mergers and Acquisitions For Dummies (63 page)

Role of management

An LOI may define the expected role of the company's management after the deal closes, including Buyer's intent to retain certain employees in the current roles and at their current compensation levels.

Sellers should be on guard against an LOI that includes a well-meaning but potentially destructive clause where Buyer won't move forward unless he can sign certain employees to employment contracts and noncompete agreements. This practice can become tricky because if an employee realizes she can hold up the deal and prevent it from closing, she may dig in her heels and make outsized demands. Don't let an employee hold up the process of closing a deal.

Access to information

Seller agrees to furnish Buyer with all information necessary for Buyer to conduct due diligence and close the deal.

Just because Seller agrees to give Buyer access to the company doesn't mean Buyer has permission to simply waltz into the office, speak to any employee, and dig into any file he chooses. Instead, Sellers should carefully and tightly control the process. Buyer shouldn't be able to speak with employees unless Seller agrees to the communication. Communication should follow the chain of command at all times; if Buyer desires a certain piece of information, he should route that request through Seller's intermediary, of if Seller doesn't have an intermediary, through a previously defined point person. If Seller doesn't tell Buyer who the point person is, Buyer should ask.

Expenses

This section is an important bit of boilerplate. The LOI usually stipulates that the expenses incurred by Buyer are Buyer's responsibility and the expenses incurred by Seller are Seller's responsibility.

Because this problem does often arise, Sellers should make sure Buyers don't try to have them pay for Buyers' deal-related expenses; those, too, should be the responsibility of the Buyers.

Exclusivity

Exclusivity
(also known as
no shop
)
is one of the main differences between an IOI and an LOI. It's the clause where Seller agrees to halt all other conversations with other potential Buyers. The length of exclusivity should coincide with the amount of time Buyer requires to conduct due diligence (see the earlier “Due diligence and timing” section). From my experience, 60 days should be sufficient; I wouldn't agree to an LOI that had more than 60 days, but in practice the due diligence and contract-writing sometimes take longer than 60 days. Check out the later section “Agreeing to and Extending Exclusivity” for more on exclusivity issues.

Non-disclosure and publicity

More boilerplate. Both sides simply agree to not tell anyone (outside of those in their respective inner circles) about the proposed deal. This provision is especially important for Seller because premature release of news about the pending sale may harm Seller's business by spooking customers, employees, and/or vendors. Flip to Chapter 7 for more on confidentiality.

Nonbinding agreement

Just in case the nonbinding nature of the LOI isn't clear, the letter includes language that indicates the document isn't binding in a court of law. This text is usually boilerplate, but it's important boilerplate for Buyer because it gives him a clear out should he want to walk away.

Governing law or jurisdiction

In the case of a dispute that needs to be adjudicated in a court of law, both parties agree to the state where that adjudication will take place. If Buyer and Seller are in the same state, that decision is pretty easy because they typically agree to use their mutual home state.

However, if Buyer and Seller are in different states, each party will naturally want to use its own home state. In these examples, most Buyers simply list their home state in the LOI. Therefore, Seller has to pay close attention to the designation in this section of the letter and suggest a change of venue. Buyer may agree to use Seller's state, but in most cases, a neutral state is the best option.

If you and the other party can't agree on whose state to use for jurisdiction, remember that many deal-makers choose Delaware, mainly because Delaware has a separate court system for business issues.

Agreeing to and Extending Exclusivity

Buyers often prefer to negotiate deals without the nuisance of competition. Strike that; Buyers
always
prefer to negotiate deals without the nuisance of competition. Who can blame them? Removing competition puts Buyer in a stronger position. That's why Buyers often want to lock Sellers down with an exclusivity clause (which I discuss in the earlier section “Exclusivity”). In the following sections, I give you the skinny on giving your exclusivity away appropriately and deciding whether to extend expiring exclusivity.

Considering exclusivity in pre-emptive bids

An exclusivity clause prevents you as a Seller from engaging in M&A talks with other Buyers, so I recommend Sellers wait until the IOI stage before agreeing to exclusivity. Competition is a boon to any Seller; as a Seller, the odds of closing a deal are lower when you have only one potential Buyer. Play the field until you have multiple offers.

Granting exclusivity is a form of capital; don't give it up without getting something in return.

Buyers sometimes ask to make a
pre-emptive bid
(an offer made before the due date for offers from other Buyers), which usually includes exclusivity. I'm all for reviewing and considering any offer, but I recommend pursuing a pre-emptive bid only if Buyer is willing to forgo exclusivity. This way, you have protection if the pre-emptive Buyer backs out (the process has been continuing, so you don't lose any time). Otherwise, you can lose momentum and essentially end up back at square one. Remind such Buyers that if they're genuinely interested in making a pre-emptive bid, that bid ought to reflect your potential lost opportunity cost. In other words, that pre-emptive bid ought to have some sort of premium in the price.

Asking for a
breakup fee
(a fee Buyer pays you if he ultimately walks away without closing a deal), may not be a bad idea. Note that most Buyers are reluctant to include a breakup fee (in both pre-emptive bids and regular bids) in a deal, though, so the odds of getting one are rather low.

If you require a quick close, perhaps due to an eroding business situation, a pre-emptive bid may make sense. You may not get the best deal possible, but given the time constraints, it may be the last and best option. Holding out for a slightly better deal may backfire if you run out of time before that better deal materializes.

Running out of time: Prolonging exclusivity

If Buyer is unable to close the deal in the time the LOI allots, you as Seller should confer with your advisors to determine whether Buyer is having problems that may compromise the deal. For example, Buyer may be stalling for time because she doesn't yet have the money lined up. If you and your advisors believe Buyer isn't able to close the deal, you may be better off refusing to grant her continued exclusivity. If you think Buyer is stalling, informing her that you'll begin to talk with the other interested parties is often a good technique to get her to wrap up the deal and close.

However, before refusing to extend exclusivity, consider whether your own actions caused or contributed to the delay. Have you released information in a timely manner? If you've been slow in providing Buyer with needed due diligence information, you're partially responsible for her slow pace and should take that into account when evaluating the situation.

If you do decline to grant Buyer an extension of exclusivity, I don't recommend actually telling her that you don't want to do a deal. Never shut a door and walk away. If the situation is seemingly untenable, let the other side be the one to close that door. You never know whether that other side will eventually see your point of view and come around to your position, so give yourself a chance at closing a deal.