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Your goal is to get the information you need to determine a preliminary price and to structure a letter of intent that outlines the key points of the proposed acquisition. Most managers will not believe that you intend to keep them all. Establish an incentive bonus plan tied to realistic, attainable goals. Provide employee contracts to key members of the manage- ment team.

Explain any potential structural changes with care and clarity, ensuring that a history of good communication, equity, and trust is established. We find that a well- defined acquisition plan and the rigorous analysis of whether a po- tential target meets the criteria will help accomplish that goal. Fol- lowing the steps set forth in this chapter is a great roadmap to use, as will the letter of intent and due diligence processes discussed in Chapters 4 and 5. After the completion of the pre-sale review, the next step involves the preparation and negotiation of an interim agreement, which will guide and govern the conduct of the parties up until closing.

Although there are certain valid legal arguments against the exe- cution of any type of interim document, especially since some courts have interpreted them to be binding legal documents even if one or more of the parties did not initially intend to be bound , it has been my experience that a Letter of Intent, which includes a set of binding terms and nonbinding terms as a roadmap for the transaction, is a necessary step in virtually all mergers and acquisi- tion transactions. I have found that most parties prefer the organi- zational framework and psychological comfort of knowing that there is some type of written document in place before proceeding It is also criti- cal to deal with as many of the potential due diligence problems or surprises at this early stage as possible.

The ability to resolve prob- lems that may derail a transaction is much stronger at the outset of the deal before each party has incurred significant expenses and becomes more entrenched in their position. In addition to creating a framework for any potential deal with the prospective buyer, an LOI letter of intent is a catalyzing event in most deals. In a normal process, the investment banker strives to keep the potential buyers on a common timeframe. However, the first LOI drives the timing of the process, and furthermore, provides a solid framework for more specific price negotiations.

Finally, if the LOI received is at an acceptable price, the investment banker can now be more aggressive in price negotiations with the other interested parties. There is no event that allows the banker to create an auction more than an LOI, and as such, it is a tool that is welcomed, care- fully managed, and ultimately used to obtain more value for the seller.

There are many different styles of drafting Letters of Intent, which vary from law firm to law firm and business lawyer to busi- ness lawyer. These styles usually fall into one of three categories: a binding; b nonbinding; and c hybrids, like the model in Ex- hibit In most cases the hybrid format, which contains both binding and non-binding Impor- tant since may be long delay before sales agreement is ex- ecuted.

Important to state whether or not letter of intent is meant to constitute enforceable agreement. Although formally executed by the buyer and the seller, a Letter of Intent is often considered an agreement in principle. As a result, the parties should be very clear as to whether the Letter of Intent is a binding preliminary contract or merely a memorandum from which a more definitive legal document may be drafted upon com- pletion of due diligence.

Regardless of the legal implications in- volved, however, by executing a Letter of Intent, the parties make a psychological commitment to the transaction and provide a road- map for expediting more formal negotiations. In addition, a well- drafted Letter of Intent will provide an overview of matters which require further discussion and consideration, such as the exact pur- chase price.

Although an exact and final purchase price cannot real Proposed Terms As you can see from the sample Letter of Intent in Exhibit , the first section addresses certain key deal terms such as price and method of payment, but these terms are usually nonbinding so that the parties have an opportunity to complete the due diligence and analysis and have room for further negotiation, depending on the specific problems uncovered during the investigative process.

Binding Terms The sample Letter of Intent in Exhibit also includes certain binding terms which will not be subject to further negotiation. These are certain issues that at least one side, and usually both sides, will want to ensure are binding, regardless of whether the deal is actually consummated. Before wasting too much time or money, the buyer will want to know that the seller has the power and authority to close the deal.

The seller in particular, and in general both parties, will want to ensure that all information Prospective Seller SellCo, Inc. Dear Ms. These principal terms are subject to the execution and delivery by the Parties of a definitive Stock Purchase Agreement and other documents related to these transactions.

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Mergers and Acquisitions from A to Z by Andrew J. Sherman

Section II of this Letter Agreement contains a number of covenants by the Parties, which shall be legally binding upon the execution of this Letter Agree- ment by the Parties. The binding terms in Section II below are enforceable against the Parties, regardless of whether or not the aforementioned agreements are executed or the reasons for nonexecution. Stock Purchase. Employment Agreements. Closing and Documentation.

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The Parties intend that a closing of the agreements shall occur on or before , , at a time and place that is mutually acceptable to the Parties. BCI or its representatives will prepare and revise the initial and subsequent drafts of the necessary agreements. Refundable Deposit. All sums paid hereunder shall be deductible from the purchase price to be continues In the event that BCI does not complete the purchase of the Shares, the sums payable hereunder shall be re- ferred to BCI less to be retained by the Seller for its expenses, with interest at the rate of 1.

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Due Diligence. No Material Changes. No-Shop Provision. The Company agrees that, from and after the execution of this Letter Agreement until the termination of the Binding Terms in accor- dance with Paragraph 12 below, the Company will not initiate or conclude, through its Representatives or otherwise, any negotiations with any corporation, person or other entity regarding the sale of all or substantially all of the assets or the Shares of the Company.


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The Company will immediately notify the other Parties regarding any such contact described above. Lock-Up Provision.

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The Company agrees that, from and after the execution of this Letter Agreement until a the consummation of the transactions contem- plated in Section I and the execution of definitive agreements thereby, or b in the event that definitive agreements are not executed, until the repayment of all amounts advanced hereunder, plus accrued interest, that without the prior writ- ten approval of BCI and subject to any anti-dilution provisions imposed hereun- der, x no shares of any currently issued Common Stock of the Company shall be issued, sold, transferred or assigned to any party; y no such shares of Com- mon Stock shall be pledged as security, hypothecated, or in any other way en- cumbered; and z the Company shall issue no additional shares of capital stock of any class, whether now or hereafter authorized.

Prior to Closing, neither Party nor any of their Representa- tives shall make any public statement or issue any press releases regarding the agreements, the proposed transactions described herein or this Letter Agreement without the prior written consent of the other Party, except as such disclosure may be required by law. If the law requires such disclosure, the disclosing party shall notify the other Party in advance and furnish to the other Party a copy of the proposed disclosure. Notwithstanding the foregoing, the Parties acknowl- edge that certain disclosures regarding the agreements, the proposed transac BCI and its employees, affiliates and associates will a treat all information re- ceived from the Company confidentially, b not disclose such information to third parties without the prior written consent of the Company, except as such disclosure may be required by law, d not use such information for any purpose other than the consideration of the matters contemplated by this Letter of Intent, including related due diligence, and d return to the Company any such infor- mation if this Letter Agreement terminates pursuant to Paragraph 12 below.

Break-Up Fee. Effective Date. The foregoing obligations of the Parties under Section II of this Letter Agreement shall be effective as of the date of execution by the Com- pany, and shall terminate upon the completion of the transactions contemplated in Section I above or, if such transactions are not completed, then at such time as all of the obligations under this Section II have been satisfied, unless otherwise extended by all of the Parties or specifically extended by the terms of the forego- ing provisions; provided, however, that such termination shall not relieve the Parties of liability for the breach of any obligation occurring prior to such termi- nation.


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Please indicate your agreement to the Binding Terms set forth in Section II above by executing and returning a copy of this letter to the undersigned no later than close of business on , Following receipt, we will instruct legal counsel to prepare the agreements contemplated herein. The Binding Terms shall become binding on the Company upon the advance of deposit pur- suant to Paragraph 4 and the execution of Promissory Note in consideration therefore.

By: Prospective Seller, President Dated The buyer will want to ensure that the seller and its advisors will fully cooperate in the due dili- gence process. The seller may want a reciprocal clause to protect against its own expenses if the buyer walks away or defaults on a preliminary obligation or condition to closing, such as an inability to raise acquisition capital.

The buyer may want a period of exclusivity where it has the confidence of knowing that the seller is not entertaining any other offers. In some cases the seller will request a deposit or option fee and the parties must determine to what extent, if at all, this deposit will be refund- able and under what conditions. There are often timing problems with this provision which can be difficult to resolve. For example, the buyer will want the deposit to remain percent refundable if the seller is being uncooperative, or at least until the buyer and its team complete the initial round of due diligence to ensure that there are no major problems discovered which might cause them to walk away from the deal.

The seller will want to set a limit on the due diligence and review period at which point the buyer forfeits all or a part of its deposit. The end result is often a progressive downward scale of refundability as the due diligence and the deal overall reach various checkpoints towards closing. To the extent that the buyer forfeits some or all of the deposit, and the deal never closes, the buyer may want to negotiate an eventual full or partial refundability if the seller finds an alternative buyer within a certain period of time, such as days.

Perhaps among the most challenging issue faced by sellers is the decision as to who is told what, when From a human capital management perspective, if team members are told too soon then it may be hard to keep them from running out the door due to uncertainty , and if they are told too late it may lead to resentment and frustration.


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If the communication of the possible sale is mishandled, then the employees may get the message that their jobs are unimportant or in jeopardy, or both. Supervisory personnel should be briefed first, and all of their questions should be answered so that they can in- form their subordinates. After the closing, it is imperative that the top management of the acquiring company meet with the employees of the target company to discuss their post-closing roles, compen- sation and benefits.

If there will be job cuts, discuss the methods as to how this will be determined and whether any training, resume writing skills or outplacement services will be offered. It is often the case that the Letter of Intent will provide that it is subject to the definitive documents, such as the Purchase Agreement, and that those defini- tive documents will address certain key matters or include certain key sections, such as covenants, indemnification, representations and warranties, and key conditions for closing. Both parties will want to articulate a set of conditions or circumstances stating that they will not be bound to proceed with the transaction if certain contingencies are not met, or if events subsequently happen after the execution of the Letter of Intent such as third party approvals, regulatory permission or re- lated potential barriers to closing.

Be sure to articulate these condi- tions clearly so that there are no surprises down the road. The buyer usually wants some protection that the general state of the company that he or she sees today will be there tomorrow. Thus, the seller will be obligated to operate its business in the ordinary course and that assets, customers and employees will not start disappearing from the premises, equipment left in disrepair, new customers not pur- sued, bonuses magically declared, personal expenses paid the night before and other steps which will deplete the value of the company If these things do occur, then the parties should anticipate a mechanism for adjusting the price based on the relating valuation of the lost contracts, relationships or human resources.

The parties may want to place certain restrictions on the content and timing of any press releases or public announcements of the transaction and in some cases may need to follow SEC guidelines. If either are or both of the parties to the transaction are publicly traded, then the general rule is that once the essential terms of the transaction are agreed to in principle, such as through the execution a Letter of Intent, there must be a public announcement.

The timing and content of this announcement must be weighed carefully by the parties, including an analysis as to how the announcement will affect the price of the stock. This task should be accomplished well before the due diligence discussed in Chapter 5 begins.

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The primary purpose of the schedule is to outline all of the events that must occur and documents that must be prepared prior to the closing date and beyond. Once all tasks have been identified and assigned, along with a realis- tic timetable established for completion, then a firm closing time and date can be preliminarily determined. A sample Work Schedule for an asset purchase transaction, which is not intended to be overly complex or comprehensive, is shown in Exhibit Naturally, the board of the seller wants to be able to represent that it is being paid a fair price, and the board of the buyer wants to represent to its shareholders that it is not using company resources to overpay for a transaction.

If the buyer intends to pay a price that is well above current market conditions, then it better be prepared to justify and defend the reasons for the higher valuation. But fairness opinion practices have come under scrutiny as poor analysis, conflicts of interest, and a lack of due diligence to support the opinions began to surface. The process for selecting the firm to draft the fairness opin- ion should be competitive and well-documented and all potential conflicts avoided.

Due diligence is not just a process, it is also a reality test—a test of whether the factors driving the deal and making it look attractive to the parties are real or illusory. Due diligence is not a quest to find the deal breakers but a test of the value proposition underlying the transaction to make sure that the inside of the house is as attractive as the outside.

It is also important to understand that in a post-Sarbanes-Oxley world, due diligence is typically wider and deeper in its scope than ever before, especially if the prospective buyer is a public company or a company with plans to go public within the next 18 months.

To the Throughout the process, both teams compare notes on open issues and potential risks and prob- lems. The legal due diligence focuses on the potential legal issues and problems that may serve as impediments to the transaction, as well as sheds light on how the transaction documents should be structured. The business due diligence focuses on the strategic and financial issues in the transaction, such as confirmation of the past financial performance of the seller; integration of the human and financial resources of the two companies; confirmation of the op- erating, production, and distribution synergies and economies of scale to be achieved by the acquisition; and the gathering of infor- mation necessary for financing the transaction.

Overall, the due diligence process, when done properly, can be tedious, frustrating, time consuming, and expensive. Yet it is a nec- essary prerequisite to a well-planned acquisition, and it can be quite informative and revealing in its analysis of the target company and its measures of the costs and risks associated with the transaction.

Buyers should expect sellers to become defensive, evasive, and im- patient during the due diligence phase of the transaction. Like any audit, a diligence process is designed to answer the important Information will slip through the cracks, which is precisely why broad representations, warranties, liability holdbacks, and indemni- fication provisions should be structured into the final purchase agreement. These provisions protect the buyer, while the seller negotiates for carve-outs e.

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The nature and scope of these provisions are likely to be hotly contested in the negotiations. The specific issues and problems will vary based on the size of the seller, the nature of its business and the number of years that the seller or its predecessors have been in business.

Questions designed to uncover If the seller has recently made a substantial workforce reduction or if you as the buyer are planning post-closing layoffs , then the requirements of the Worker Adjustment and Retraining Notification Act WARN must have been met. The requirements of WARN include mini- mum notice requirements of 60 days prior to wide scale terminations. Effective due diligence is both an art and a science.