Mergers & Acquisitions: Issues Raised by Health Benefit Plans

1. Mergers & Acquisitions:Issues Raised by Health Benefit Plans Jasmine Villaflor Hernandez Anna Rubinstein FIN434 – Employee Benefits December 4, 2007

2. Overview of Presentation Defining key terms Pre-merger issues Post-merger issues Additional thoughts

3. Mergers & Acquisitions Commonly recognized business transactions that fall under the “M&A” umbrella: • Asset purchases – where one company acquires all or part of the target company • Stock sales – target company becomes a subsidiary of the surviving company • Mergers – target company completely mergers with the surviving company which assumes all responsibility for the target’s assets and liabilities

4. Pre-Merger Issues: Stock Deals Stock deal benefit plan options • In these situations, the buyer decides how he will merge the plans. Four main options exist: • Continue the target’s plan • Terminate the target’s plans and distribute the accumulated benefits, if a distribution is allowed • Stop benefits from accruing, and simply pay benefits when they come due • Merge the target’s plan into its own plan

5. Pre-Merger Issues: Employee Benefit Plan Due Diligence A consequence of not conducting thorough due diligence: • The failure to notice certain issues may lead to overstated purchase prices and the assumption of unnecessary risks. Three main types of due diligence: • Technical • Economic • Documentary

6. Economic due diligence: to prevent exposure originating from retiree medical expenses, executive contract provisions, or unawareness that the target’s pension plan is under-funded Pre-Merger Issues: Employee Benefit Plan Due Diligence • Technical due diligence: making sure that a plan’s terms, operations, and discrimination tests follow the rules set by the IRS ** Smaller firms are more likely to run into problems associated with plan qualifications

7. Pre-Merger Issues: Employee Benefit Plan Due Diligence • Documentary due diligence: All qualified plans need formal plan documents, which are the subjects of either IRS opinion letters to the sponsors of the documents (banks, brokerage firms, mutual funds, etc.) or letters of determination to the plan sponsors • If a plan document does not have a current letter of determination, need to investigate why

8. Pre-Merger Issues: Specific 401(k) Issues An M&A involving 401(k) plans often has two specific issues the target and survivor should address: • If the merger occurs mid-year, both firms need to discuss is who will be responsible for making the required matching contributions - In many cases, the buyer takes on that responsibility, but the purchase price is adjusted to reflect that fact

9. Pre-Merger Issues: Specific 401(k) Issues (2) After 401(k) plan termination, the survivor must also decide whether it will allow distributions from the terminated plan to be accepted as rollovers into the new plan. • Qualification issues • Increased assets can affect top-heavy rules • Administrative costs decrease

10. Pre-Merger Issues: Specific 401(k) Issues • Participants are allowed to borrow money from the plan, and many have outstanding loans at the time the plan is terminated. • What they can do with the money: • Repay the loan before the plan is terminated • Allow the acquiring firm to be substituted as the obligee on the loan and roll it over to the target’s plan • Allow an employee to borrow money from the surviving firm, pay back the loan from the terminated plan, and eventually pay back the new loan

11. Pre-Merger Issues: Employee Communication • Good communication with the employees of both firms should be a vital part of a merger • Both the target and the surviving firms may be uncertain as to how the benefit plans will change • Hold employee information sessions and discuss new events to keep employees as calm and as productive as possible

12. Post-Merger Issues: Transition Periods • Transition Period: period of time from acquisition until the conglomerate of employers (purchasers) verifies the target’s plan complies with minimum federal and state guidelines Rule: The target’s plan complies with minimum requirements, so long as “the minimum coverage requirements for each member of the group were met before the acquisition of the [target] and coverage under the plan does not significantly change during the transition period.”

13. Conduct thorough pre-merger due diligence Reduce excise tax to 20% by using the total excess amount to fund replacement plan, or increase benefits Avoid federal, state and local income taxes Negotiate price of transaction to reflect extra costs Avoid all taxes by absorbing the total reversionary amount Post-Merger Issues: Consequences of Over-Funded Defined Benefit Plans Fail to conduct thorough pre-merger due diligence The “excess of the FMV of the plan’s assets over the plan’s present value of its obligations” is subject to sponsor-level income taxes Reversionary amount incurs an additional 50% excise tax Substantial federal, state and local income taxes

14. Post-Merger Issues: “Same Desk Rule” Purpose: to regulate distribution of 401(k) deferral contributions

15. Post-Merger Issues: Due Diligence Checklist

16. Additional Thoughts: Foreign Employee Benefit Plans • Consider implications of buying and maintaining foreign benefits plans • Administrative costs • Additional communication strategy • Both sides should consult with local benefit consultants or accountants for a comprehensive assessment of liabilities under those plans • Regional offices