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U.S. M&A Deals: Key Points for 2019

Stay updated on U.S. M&A developments, CFIUS changes, tax law impacts, and more. Learn about key aspects like non-compete agreements and material adverse change clauses.

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U.S. M&A Deals: Key Points for 2019

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  1. U.S. M&A Deals:Key Points for 2019 Tuesday, 26 March 2019 | 8:30 – 10:00 AM Michael J. StudentDoug S. Stransky

  2. Overview • News from the US • Problem areas • Planning for an exit? • Deal issues and solutions – cases and learnings

  3. News from the US • CFIUS Developments • Overview of Major Tax Law Changes Impacting M&A • Employee Non-Compete Agreements • Material Adverse Change Clauses

  4. News from the US • CFIUS Developments • What it is • The Committee on Foreign Investment in the United States – a US Government agency with the power to review foreign investment transactions to determine whether the transactions could threaten US national security • Historically, there were two paths for review • The parties to a transaction could voluntarily request review • In addition, CFIUS could itself determine to review a transaction

  5. News from the US • What’s new • Foreign Investment Risk Review Modernization Act of 2018 (FIRRMA) • What to know • Certain non-controlling and real estate transactions are now covered • Temporary Pilot program for certain investment transactions involving listed sensitive industries makes filing mandatory • Possible monetary penalties for failure to file, up to the value of the transaction • The Pilot program was set to expire March 5, 2019, but program experience is expected to influence final regulations and processes under FIRRMA • What to do – put CFIUS analysis on your general deal checklist

  6. News from the US • Overview of Major Tax Law Changes Impacting M&A • The corporate tax rate has been reduced to 21%. • The U.S. joins the rest of the world with a participation exemption. • Interest deductions are limited to 30% of EBITDA. • As in Finland, an anti-hybrid rule has been introduced. • There is a new minimum tax related to cross-border payments called Base Erosion Anti-Abuse Tax or BEAT. • A special deduction is available for sales and services provided outside the U.S., called FDII.

  7. News from the US OverviewofMajorTaxLawChangesImpactingM&A Old Law New Law Finland Oy Finland Oy 20% corporate tax 20% corporate tax 100% 100% U.S. Inc. U.S. Inc. 21% corporate tax 35% corporate tax

  8. News from the US Foreign Derived Intangible Income To the extent that the U.S. corporation sells to customers outside the U.S., a deduction is available for 37.5% of the gross income related to the sale. As a result, the U.S. corporate tax rate is reduced to 13.125%. Finland Oy 20% corporate tax 100% U.S. Inc. 13.125% corporate tax

  9. News from the US • Employee non-compete agreements • What they are – M&A transactions frequently involve two types of non-competes • Seller non-competes – Seller agrees not to compete with the business it is selling for some period after sale; usually not a major concern from a legal enforceability standpoint, although they are often negotiated • Employee non-competes – Employee agrees not to compete with the business for a period after termination • Often required by buyers who are hiring employees of the seller • Important because talent acquisition is often a key driver for deals • These restrictions are sensitive under state law – wide variation in requirements for enforceability

  10. News from the US (continued) • Employee non-compete agreements (continued) • What’s new – The rules on what constitutes an enforceable employee restriction are getting tougher (i.e., more protective of employees) – for example: • Massachusetts “Noncompetition Agreement Act” • Limits classes of covered employees • Does cover independent contractors • Notice/procedural requirements • 12 months maximum, in most cases • Consideration required – garden leave (at least 50% of salary) or other agreed, specified consideration

  11. News from the US (continued) • Material adverse change clauses • What they are – M&A agreements often include clauses referring to “material adverse changes” or “material adverse effects” • These may involve representations and warranties (e.g., “there are no outstanding claims that, if adversely determined, would have a material adverse effect on the Business”); or • Closing conditions – it is a condition to buyer’s obligation to complete the purchase that: “There shall have been no Material Adverse Change in the Business” • The term is often defined at considerable length, with carve-outs, exceptions to the carve-outs, etc.

  12. News from the US • Material adverse change clauses (continued) • What’s new • Akorn, Inc., v. Fresenius Kabi AG (2018) – Delaware Supreme Court upheld a decision by the Delaware Chancery Court that – for the first time – permitted the acquirer in a merger transaction to terminate the deal on the basis of a “material adverse change” clause • https://courts.delaware.gov/Opinions/Download.aspx?id=282110 • A series of regulatory and other problems resulted in a 21% decline in the value of the company • But note that the 21% should not be taken as a general guideline – the analysis will remain fact-intensive

  13. Problem Areas • Earnouts • Price adjustments • Dispute resolution alternatives

  14. Problem Areas • Earnouts • What they are – a formula by which a portion of the purchase price for a business is determined and paid based on post-closing performance of the business or other milestones • A way of “bridging the gap” between the parties’ perceptions of the value of the target

  15. Problem Areas OR • A device that parties use to postpone resolving a disagreement that they will need to face later: • “…since value is frequently debatable and the causes of underperformance equally so, an earn-out often converts today's disagreement over price into tomorrow's litigation over the outcome.” Airborne Health, Inc. v. Squid Soap, LP, 984 A.2d 126, 132(Del. Ch. 2009)

  16. Problem Areas • Earnouts are especially common in life sciences deals, where realization of value may be very highly dependent on future events, e.g., obtaining an FDA clearance or commercial introduction of a product • However, they have also become more common in non-life sciences deals as well • More frequent in small-mid-market deals • Often seen in deals involving relatively young companies with limited operating history or earnings that do not reflect a steady pattern • Earnouts are a frequent source for disputes

  17. Problem Areas • What to do? • If it will work, keep it simple • For financial metrics, higher up in the earnings calculation is simpler • But make sure it creates the right incentive • For earnings based formulas, such as EBITDA, net earnings or margin-based measures, be specific and clear about the calculation • Think hard about the measurement tools – consistent application of principles • Talk to the business and finance people – see what terminology and measurement tools the clients use for other purposes • Provide for periodic calculation and reporting, to enable the parties (or your client) to see problems as they start to develop

  18. Problem Areas • Price Adjustments •  Used to determine working capital, book value or another metric relevant to the price • May be based on an estimate used for purposes of the closing, determined post-closing to calculate the final purchase price, or both (estimate plus “true-up”) • Key considerations • Who controls the preparation • Time periods for review and objection, etc. • Scope of permitted objection • Process if the parties disagree • Before proceeding with process, make sure its covered

  19. Problem Areas • Dispute resolution alternatives • Special, e.g., price adjustments • General, i.e., indemnification, breach of contract, other deal disputes • Courts vs. arbitration • Pre-arbitration or court measures, e.g. mandatory negotiation or mediation • For special disputes, arbitration or other non-court resolution is common

  20. Planning for an Exit? • Planning for (or aspiring to) an eventual exit transaction? • Get your house organized and set the table • It’s never too early – really! • And it’s never too late! • Documentation – collection and organization • Beneficial generally –for internal purposes, tax, other compliance • Also for eventual due diligence

  21. Planning for an Exit? • How? • Ask your lawyer for a typical due diligence list from an acquisition • Have a legal checkup for potential “hot issues,” deal impediments and deal killers • Unusual regulatory compliance • Missing IP • Employee issues • Prior share issuances • Most problems are curable, but early detection can be important, and the fixes can be less pressured, and less expensive, if they do not have to happen when a transaction is imminent or active

  22. JUICE(BUYER 1) Deal Issues and Solutions: A Tale of Two Earnouts PARTNERS DEAL 1 BUYER SHARES EMPLOYMENT PRICE and EARNOUT WEBCO (CLIENT) ASSETS

  23. CANDY(BUYER 2) Deal Issues and Solutions: A Tale of Two Earnouts DEAL 2 JUICE SHAREHOLDERS (INCLUDING FORMER CLIENT PARTNERS WHO OWN SMALL %) SHARES PRICE -- CASH JUICE(BUYER 1 – NOW TARGET 1) WEBCO (Original Client)

  24. CANDY (BUYER 2NOW BUYER 3) Deal Issues and Solutions: A Tale of Two Earnouts DEAL 3 DAZZLE SHAREHOLDERS (TARGET 2 OWNERS) PRICE CASH + EARNOUT 2 SHARES DAZZLE (TARGET 2) JUICE(SUB-FORMER BUYER 1/TARGET 1) EMPLOYMENT WEBCO (ORIGINAL CLIENT AND PARTNERS)

  25. Deal Issues and Solutions:A Tale of Two Earnouts • Take-aways • Even a well-structured earnout needs the parties’ compliance and cooperation • Don’t commit to more than you are going to do/can manage • Consider self-help or other creative solutions • Be careful what you wish for

  26. Deal Issues and Solutions:Cases and Learnings • A couple of other case-based thoughts • As soon as the key terms of the deal are agreed, consider your worst acceptable version • Know when to fold them • Be prepared for surprises • Unanticipated bank complications

  27. Deal Issues and Solutions:Cases and Learnings • Working with advisors • Make sure they have the freedom to communicate • The reason they worry is because they have seen what can happen • Sometimes, the thing you worry about isn’t the one that goes wrong; but the worrying will still equip you to deal with it more effectively • The client who can’t say no

  28. Questions? Michael J. Student Douglas S. Stransky 1633 Broadway One Post Office Square New York, NY 10019 Boston, MA 02109 Tel: 212-660-3065 Tel: 617-338-2437 mstudent@sandw.comdstransky@sandw.com

  29. Michael J. Student CounselSullivan & Worcester1633 BroadwayNew York, NY 10019T 212-660-3065F 212-660-3001mstudent@sandw.com Web:sandw.com LinkedIn:linkedin.com/in/michael-student Twitter:@MichaelStudent1 Michael J. Student is counsel in the Corporate Department of Sullivan & Worcester's New York office. His practice focuses on assisting clients in a broad range of commercial endeavors, including mergers and acquisitions, employment matters, venture capital, cross-border transactions, licensing, and strategic alliances. He regularly counsels enterprises in the technology sector. Mr. Student also advises non-U.S. companies looking to establish or expand in the United States, with a particular focus on clients in Finland and other parts of the Nordic region. Prior to joining Sullivan & Worcester, Mr. Student was a partner at Arent Fox. Bar & Court Admissions New York, 1982 U.S. District Court for the Southern District of New York U.S. District Court for the Eastern District of New York Professional & Civic Activities Member of the Board of Directors and Former President, Finnish American Chamber of Commerce, Inc. (New York) Member of AmCham Finland, NYC Member of the Board of Directors and Secretary of American Friends of CMI, Inc. Frequent lectures to international legal and business audiences on U.S. legal topics New York State Bar Association Education J.D., Columbia University School of Law, 1981 B.A., cum laude, Phi Beta Kappa, Hobart College, 1978

  30. Douglas S. Stransky PartnerSullivan & WorcesterOne Post Office SquareBoston, MA 02109T 617-338-2437F 617-338-2880dstransky@sandw.com Web:sandw.com LinkedIn:linkedin.com/in/dstransky Douglas S. Stransky is a partner in the Tax Department of our Boston office and the leader of the International Tax Practice Group. Doug concentrates his practice on international tax planning for clients in a wide range of industries. Doug is a former co-chair of the International Tax Committee of the Boston Bar Association, a member of the Board of Advisors for Practical U.S./International Tax Strategies, a contributing author for Lexis Practice Advisor and a member of the adjunct faculty at Boston University School of Law. Bar & Court Admissions Massachusetts U.S. District Court, District of Massachusetts U.S. Tax Court Professional & Civic Activities Lecturer in Law, Boston University School of Law, Graduate Tax Program Co-Chair, International Tax Committee, Boston Bar Association, 2009-2011 Tax Section Steering Committee, Boston Bar Association Advisory Board, Practical U.S./International Tax Strategies International Fiscal Association Taxation and International Law Sections, American Bar Association Pro Bono Panel, Children’s Law Center of Massachusetts Education LL.M., Taxation, University of Miami School of Law J.D., cum laude, University of Miami School of Law; Projects Editor, Miami Law Review B.A., cum laude, Harvard University

  31. Thank you for attending!Please visit amcham.fi for upcoming events.See you soon! Tuesday, 26 March 2019 | 8:30 – 10:00 AM

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