This presentation walks through general rules of thumb in negotiating asset purchase agreements, the pros and cons of an equity v. asset deal structure, the importance of a vibrant CPA/attorney partnership when representing a seller or buyer in connection with an asset purchase, an overview of the skeleton and logic of an APA, and an exposition of several key provisions (including what's market) in the negotiation of APAs.
Key Provisions in the Negotiation of Asset Purchase Agreements
1. Key Provisions in the Negotiation of Asset
Purchase Agreements
LUNN IRION LAW FIRM
David P. Hamm, Jr.
2. 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
3. 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
4. KEY APA PROVISIONS PRELIMINARY CONSIDERATIONS
PRELIMINARY CONSIDERATIONS
Rules of Thumb
#7 – Time Pressures Are Real (i.e., 9-5 mentality does not work
well)
5. KEY APA PROVISIONS PRELIMINARY CONSIDERATIONS
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)
6. KEY APA PROVISIONS PRELIMINARY 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
7. KEY APA PROVISIONS PRELIMINARY CONSIDERATIONS
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
8. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
Lists of Assets and Liabilities
Representations and Warranties
Covenants (Non-Competition; Non-Solicitation)
Indemnity Provisions
9. KEY APA PROVISIONS KEY 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.
10. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
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)
11. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
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
12. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
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
13. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
Earn Out
Buyer’s Perspective
Defer payment of a portion of Purchase Price
Shift portion of risk of future performance to Seller
14. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
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
15. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
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 $61,800,000
Earn Out Payment is $2,812,500
16. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
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 $69,000,000
Earn Out Payment is $14,062,500
17. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
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
18. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Payment Terms
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
19. KEY APA PROVISIONS KEY PROVISIONS
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
20. KEY APA PROVISIONS KEY PROVISIONS
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)
21. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Representations and Warranties
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)
22. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Representations and Warranties
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
23. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Representations and Warranties
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
24. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Representations and Warranties
By Seller (much more exhaustive)
Tax Matters
Timely filed all tax returns?
Accuracy of tax returns?
Satisfaction of withholding obligations?
25. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Representations and Warranties
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
26. KEY APA PROVISIONS KEY PROVISIONS
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)
27. KEY APA PROVISIONS KEY PROVISIONS
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)
28. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Indemnity Provisions
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)
29. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Indemnity Provisions
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
30. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Indemnity Provisions
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
31. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Indemnity Provisions
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
32. KEY APA PROVISIONS KEY PROVISIONS
KEY PROVISIONS
Indemnity Provisions
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.
33. KEY APA PROVISIONS KEY PROVISIONS
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?
34. KEY APA PROVISIONS KEY PROVISIONS
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