Key Provisions in the Negotiation of Asset Purchase Agreements

Key Provisions in the Negotiation of Asset Purchase Agreements

LUNN IRION LAW FIRM David P. Hamm, Jr.

KEY APA PROVISIONS TALK OVERVIEW

TALK OVERVIEW Preliminary Considerations

Rules of Thumb Deal Structure: Equity v. Asset CPA/Attorney Partnership The Skeleton of an APA

Key Provisions Payment Terms Lists of Assets and Liabilities Representations and Warranties Covenants (Non-competition; non-solicitation) Indemnity Provisions

KEY APA PROVISIONS PRELIMINARY CONSIDERATIONS

PRELIMINARY CONSIDERATIONS Rules of Thumb

#1 – Every Deal is Different #2 – No Deal is “Simple” #3 – Free Projections Are a Bad Idea #4 – A Closing Checklist Updated in Real Time

is Essential #5 – Most Contested Points of Negotiation: (a)

Payment Terms, (b) Lists of Assets/Liabilities, (c) Representations/Warranties, (d) Non-Competes, and (e) Indemnity Provisions. #6 – Due Diligence is Often Neglected


PRELIMINARY CONSIDERATIONS Rules of Thumb

#7 – Time Pressures Are Real (i.e., 9-5 mentality does not work well)


PRELIMINARY CONSIDERATIONS Deal Structure: Equity v. Asset

The Attorney’s Primary Perspective: Liability “Liability Driven” Deal Structure Counsel

If representing buyer – advocate for asset deal structure If representing seller – advocate for equity

deal structure Exceptions (e.g., regulatory considerations)


PRELIMINARY CONSIDERATIONS CPA/Attorney Partnership

Different/Complementary Primary Focus – Tax Implications (e.g., deal structure) Different/Complementary Expertise –

Tax/Financial Reporting E.g., Defined Terms – Audited Financial

Statements, Balance Sheet, Closing Working Capital, Closing Working Capital Statement, Interim Balance Sheet, Interim Balance Sheet Date, Interim Financial Statements, Post-Closing Tax Period, Pre-Closing Tax Period, Target Working Capital


PRELIMINARY CONSIDERATIONS The Skeleton of an APA

Preamble; Recitals Definitions Purchase and Sale (included/excluded assets and liabilities; purchase price and adjustments; escrow) Closing (closing date and deliverables) Representations and Warranties (seller; buyer) Covenant (e.g., non-competition; non-solicitation) Conditions Indemnification Termination Miscellaneous

KEY APA PROVISIONS KEY PROVISIONS

KEY PROVISIONS Payment Terms Lists of Assets and Liabilities Representations and Warranties Covenants (Non-Competition; Non-Solicitation) Indemnity Provisions


KEY PROVISIONS Payment Terms

Base Purchase Price The aggregate purchase price for the

Purchased Assets shall be $10,000,000, subject to Purchase Price Adjustment (the "Purchase Price"), plus the assumption of the Assumed Liabilities, plus the Earn Out Payment.



Escrow Holdback Percentage of Purchase Price held in escrow

to cover post-closing obligations of Seller 10 percent relatively common

Earn Out Purchase Price Adjustment (Working Capital)



Earn Out Allows for part of Purchase Price to be

calculated by reference to the performance of the target business over a period of time after the closing Used often as a bridge in the negotiation

when the parties cannot come to an agreement on price



Earn Out Seller’s Perspective

Potential for higher price Potential for future disputes Prevents total break with buyer

Buyer’s Perspective Price point tied to future performance

rather than historical data



Earn Out Buyer’s Perspective

Defer payment of a portion of Purchase Price Shift portion of risk of future performance

to Seller



Earn Out Modified Example From Irobot Defense

Holdings Deal Formula: 1.5625 multiplied by the amount

by which the Adjusted EBITDA exceeds $60,000,000 (let’s say that is the EBITDA Threshold). If the Adjusted EBITDA equals

$50,000,000 Earn Out Payment is zero






$61,800,000 Earn Out Payment is $2,812,500






$69,000,000 Earn Out Payment is $14,062,500



Purchase Price Adjustment (Working Capital) This adjustment is typically included by

buyers to protect against any decreases in value of the target business Formula: Closing Working Capital minus

Target Working Capital If positive number, Buyer pay to Seller an

amount equal to the Post-Closing Adjustment If negative number, Seller shall pay to

Buyer an amount equal to the Post-Closing Adjustment



Purchase Price Adjustment (Working Capital) Formula: Closing Working Capital minus

Target Working Capital If Closing Working Capital was $800,000

and Target Working Capital was $1,000,000 Seller pays buyer $200,000

If Closing Working Capital was $1,200,000 and Target Working Capital was $1,000,000

Buyer pays seller $200,000


KEY PROVISIONS Lists of Assets and Liabilities

Categories of Assets and Liabilities Included Assets Excluded Assets Included Liabilities Excluded Liabilities

Role of Attorneys/CPAs Ascertain assets and liabilities and make

sure proper assets/liabilities are included and excluded, as appropriate


KEY PROVISIONS Representations and Warranties

The “Knowledge Qualifier” Shifts risk of “unknown” facts from seller to

buyer “Subjective” v. “objective” definition of

knowledge What’s market?

21/60 used “subjective” definition Scope of application (whole v. part)



The “Materiality Qualifier” Shifts risks of immaterial items to buyer Can be defined by a “Material Adverse

Effect” standard or a simple dollar threshold Scope of application (whole v. part)



By Seller (much more exhaustive) Consents

Seller typically warrants that only the third-party consents listed on a Schedule are required to consummate the transaction (e.g., contracts, leases, permits, loan docs) This is not an intuitive concept for some

clients and helping ascertain which third-party consents are required is an important aspect of the professional’s role in due diligence Seller should try to insert a materiality

qualifier



By Seller (much more exhaustive) Financial Statements

Attorney/CPA Partnership (e.g., GAAP) How many years required? Audited? GAAP or other methodology? Language of representation should reflect

what Seller can provide and Buyer should get help understanding not only the numbers but also methodology behind numbers



By Seller (much more exhaustive) Tax Matters

Timely filed all tax returns? Accuracy of tax returns? Satisfaction of withholding obligations?



By Seller (much more exhaustive) Employment Matters

List of all employees, independent contractors, consultants Name, title, hire date, base compensation,

incentive compensation, fringe benefits, outstanding amounts owed, unwritten agreements


KEY PROVISIONS Covenants (Non-Competition; Non-Solicitation)

Non-Competition Agreements are Personal Matters for “Smaller” Sellers Terminology: Non-competition; non-solicitation Enforceability:

Not favored as a matter of public policy Must comply with LSA 23:921 (2 years,

listed parishes)


KEY PROVISIONS Indemnity Provisions

Agreement by one party to the asset purchase agreement (the “indemnitor”) to another (the “indemnitee”) that if that party (the “indemnitee”) sustains a “Loss” (broadly defined) based upon a third-party claim related to certain matters, that the indemnitor will make the indemnitee whole Three Parties (Indemnitor, Indemnitee, Third

Party Making Claim)



Triggers of Indemnification Obligations Inaccuracy of representation (duration

limits) Breach of covenant Excluded Assets or Liabilities (not part of

deal) Pre-closing operations (seller to buyer) Post-closing operations (buyer to seller)



Limitations on Indemnification Obligations Most Frequent Context

Claim by buyer against seller Basket

Minimum amount that must be reached before party liable for indemnification obligation “Threshold” basket v. “Deductible” basket



Limitations on Indemnification Obligations Basket - Examples

“Deductible” basket of $10,000 Claim of $8,000

No indemnity owed Claim of $20,000

$10,000 indemnity owed



Limitations on Indemnification Obligations Basket - Examples

“Threshold” basket of $10,000 Claim of $8,000

No indemnity owed Claim of $10,001

$10,001 indemnity owed



Limitations on Indemnification Obligations Caps –

Maximum amount for which a party will be held responsible under the indemnity provisions Example: Cap of $1,000,000 included in

the indemnity provision and a claim of $5,000,000 is asserted for which the indemnitor is responsible. The indemnitor in this case will only be liable for $1,000,000 under the indemnity provision.


KEY PROVISIONS Indemnity Provisions - General Example

Buyer purchases the assets of Seller on December 31, 2015 (effective date). On February 1, 2016, the Buyer receives a demand letter for $15,000 from a customer regarding a defective product sold by Seller on November 15, 2015. There is a “Threshold” basket of $10,000 and

standard indemnity language making Seller responsible for pre-closing operations. Who is responsible for the customer’s claim

and to what extent?


KEY PROVISIONS Indemnity Provisions – What’s Market?

Data Base – 60 Recent Deals Ranging from $25-50 Million Baskets

0.33 percent to 5 percent of Purchase Price Higher than what typically used in this area

Caps 8.57 percent to 85.71 percent of Purchase

Price 10-15 percent typical around this area

KEY APA PROVISIONS QUESTIONS

QUESTIONS

Any Questions?

Date post:	21-Mar-2017
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Key Provisions in the Negotiation of Asset Purchase Agreements

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