Part 1 of 2
Someone once opened a fortune cookie at a Chinese restaurant that read, “Stop procrastinating—starting tomorrow.” While we are all guilty of occasional procrastination, failing to prepare your company for sale in advance of the sale transaction can have disastrous consequences for you. There are a number of relatively painless legal steps that you can take now to protect your company’s valuation, lower your potential post-closing liability, lower your M&A legal fees, and make the sale transaction quicker and smoother.
Two Midsized M&A Transactions that Differed Greatly On Legal Fees and Timing
A few years ago one of my corporate law partners closed two midsized M&A transactions in the Intermountain West during a short period of time in which he represented the sellers. The first deal took eight months and cost the seller $425,000 in legal fees. The second deal took only two months and cost the seller only $95,000 in legal fees. Why did one deal take four times as long and cost four times as much as the other deal?
The first company was poorly prepared, from a legal perspective, to sell. It had used corporate and securities lawyers very little to assist it over the years with its corporate documents and contracts. It had tried to do everything itself or had not done it at all. When it came time to sell, there were dozens of legal problems to solve and lose ends to tie up.
The second company, in contrast, was well prepared, from a legal perspective, to sell. It used corporate and securities attorneys for years and had its corporate documents and contracts in good order. When it came time to sell, the deal proceeded relatively smoothly for everyone involved.
Lesson to Be Learned (or “A Great Way to Save on Legal Fees”)
What is the most important lesson that can be learned from this example? I think it’s that it doesn’t pay to wait to clean up your company’s legal affairs until you arrive at a sale of the company.
Incidentally, this same rule applies in the context of major equity financings—it doesn’t pay to wait to clean up your company’s legal affairs until you begin a major financing.
Put another way, a company can either choose the “pay-as-you-go” approach, and sleep better at night during the life of the company, or a company can choose the “save-it-all-till-the-last-minute” approach, and pull its hair out during the M&A transaction.
Another Lesson to Be Learned
Question: What’s another reason to prepare your company’s legal affairs well in advance of an M&A transaction?
One major reason is to avoid jeopardizing the value of the sale, or, in extreme cases, to avoid killing the deal altogether. The sad fact is that if the buyers find significant legal problems during the deal, they may seek to renegotiate the deal on terms that you, as the seller, won’t like nearly as much as the prior deal terms. For example, the purchase price will sometimes get lowered. The buyer may seek to defer payment of even larger portions of the purchase price until well after closing to cover potential liabilities resulting from legal due diligence issues. The buyer may want the seller to guarantee various aspects of the deal through ironclad seller representations and warranties and indemnifications—this gives the seller more potential liability following closing.
*Please check back for Part 2, “How to Prepare Your Company for a Sale from a Legal Perspective"