Negotiating M&A deal terms

[Music] we're here to talk about negotiating m a deal terms and thought that it might make sense to start really right at the top and discuss some of the key components to negotiating a transaction factors to consider in negotiation strategies i think all generally within the context of the hypothetical scenario that we've got with the east coast acquisition east coast pardon me east corporation's acquisition of west corporation but uh it may direct our first question to dina and to rachel uh to try to focus on what you consider to be some of the more critical components of a transaction and some factors that would help you determine how to address those within the context of a transaction and negotiating the terms and maybe the most obvious starting point is on valuation so maybe given the hypothetical that we've been asked to consider maybe walk us through how you might consider you know evaluation strategy um well i think when you're looking at a tech company that you're acquiring i think the first question i would ask is am i really focused just on the patents and the trademarks and the actual assets that are registered or am i really focused on the people and do i really you know am i highly dependent on their sales team or their founders or certain innovators and depending on the answer to that question you would structure the transaction differently so if it was a former i'd be really pretty much okay just saying okay here's your purchase price give me your ip and walking away if it's the latter and i really need those people i would really need to structure the transaction to make sure that they stick around and that they're motivated to do their best for us in the same way as they were when they worked for themselves or worked in their old structure i think from from a strategic point of view i agree with everything um that that was just said but i'd also add that a lot of the consideration is around the synergies and you know what is the point of the acquisition um you know is this a tuck-in acquisition that we're trying to then you know merge with something we already have is it going to be a stand-alone business unit you know what are we going to do with the acquisition and how does the acquisition say it's a technology play right what kind of synergy do we have with what we already what we already own because that can also impact you know maybe not the valuation per se but what you're willing to pay you know the multiple you're willing to pay in order to acquire the technology or the people thank you and i think we had talked and you mentioned it just a moment ago and i know nate that we had talked earlier about retention and different ways to maybe structure the transaction or structure either bonus structure or or whether it's use of an escrow or or an earn out rather um how have you seen your clients addressing retention different ways it depends on who you're trying to keep happy right there's always if it's the right structure you can always use a rollover of equity those are always popular particularly founders or other important people i'm seeing more bonus structures for people who aren't the top guys but they want to keep around it built into a deal what other things are you guys seeing being used out there to keep the people that you want to keep happy so as a financial buyer we almost always want to keep management and most of if not all the employees around so we typically try to set up our incentive structure with equity to give them capital gains treatment for their for their investment and also hope that it will keep them around for longer our equity would be subject to vesting which will help with retention and it will also align them with maximizing equity value for us since they're kind of along for the ride so that's typically how we do it i would think that as a strategic you're probably thinking about it differently yeah so i i think there were quite a few strategics here so as a strategic we come at it a little bit differently because depending on the size of the acquisition and what's happening people are going to be rolled into what we already have and they're going to be kind of you know we're a big company and they're going to be leveled in advance of um you know coming in and put into you know they're going from a ceo maybe to a director level or a ceo to a vice president level and so you know you have a whole organization and a structure where people who are already employees of this company are making a certain amount of money within a band and they're getting a certain amount of equity within a band and so you can't then bring people in and say by the way here's your gigantic amount of equity or gigantic amount of cash that would then upset kind of the ecosystem you already have going in your company because of course everybody will know so you know we have to be quite creative in terms of um ways to structure things so that people you know people are retained and we also have to be honest with ourselves in terms of what we can do in order to actually retain people going forward we spend a good amount of time looking at you know how much is you know ceoa going to make in connection with this transaction and is what's the likelihood that we can actually retain them right if they're getting a hundred million dollar payout like we're probably not going to be able to do all that much um to actually financially get them to stay like the incentives may need to be more along the lines of you know title and responsibility and you know other kind of more intangibles right so it's a very different different calculation and one that takes an awful lot of our um brain power in connection with any sort of acquisition [Music] if you're interested in additional information on innovation in m a i encourage you to check out the transaction advisors institute which is a robust source for knowledge on m a best practice we host a series of m a conferences run an elite m a academy offer m a master classes conduct m a research organize the m a leadership council and publish a prestigious m a journal members of the transaction advisors institute include corporate executives board members and private equity investors that are interested in understanding the critical issues impacting transaction planning structuring and execution i encourage you to get more involved in the institute so then i guess the curiosity is you know when you're looking at these various considerations and and then obviously gearing up to towards the negotiations how how does the nature of the party i mean i think we talked about here we've got a strategic acquirer in east corp but i'm not certain that we've really sussed out what the ownership structure is of of westcorp i think we know some some some basics around the target the target's profile but not really the ownership so curious and i'm sure different people in the room may have have different experience than this but curious how the ownership of that target might affect your negotiations yeah so i mean i guess i'll start so if it's founder owned and actually the founders still involved i think there can be a lot more emotion um involved in the acquisition as opposed to if it's something where the founders kind of taken a back seat they've brought a cdo in specifically to sell the company or you know has the founders kind of already transitioned out you know it also depends on how broad broadly distributed the equity is how much of it is options versus how much of it is actually stock a lot of it for at least for us and maybe other strategics do it differently in terms of you know when you're talking about structuring indemnities um you know the actual mechanics of any sort of you know payouts of escrow and those kinds of things and we have a strong preference for paying out just what we'll we'll put stockholders in an escrow but we don't want to put the option holders in escrow because paying through payroll is a gigantic pain you know especially when you're talking three three years down the road and then you've got to go find you know the hundreds of different people i mean that's it's my worst nightmare so you know all of that really impacts how we then think about structuring what we're doing in terms of specifically an indemnity package in connection with the transaction if the founder is still involved it really is a question of are they going to walk away are they staying for the people we want to keep around and it's important to us to keep around if their owners will want them to roll over maybe half of their stock i mean we're happy for them to cash out some amount we're always focused on are we giving them so much cash that they have just no incentive to work anymore people have different thresholds for that but i would estimate that you know somebody's getting 10 million dollars or more they really don't feel they need to work for 250k a year anymore so um we really try for those critical people to both motivate them and force them to continue uh the really critical people know that they are critical to the business and they and so if you make them roll over a significant portion of their equity or you give them enough incentive equity to really motivate them that will usually keep them around there's also founders who really are emotional about their businesses i know the california way is sort of be a serial entrepreneurial preneur but a lot of times if you've worked on a business and made it big enough for a large strategic or a financial buyer to buy you you've been working on it for a long time it's not two-year project it's your baby you've worked on it for 10 plus years and so a lot of these founders want to stay with us and they don't want to let go control the business so actually they'll be very focused on negotiating employment agreement or something like that that lets them continue and that gets the problem of what happens when you do have a founder that has a big equity stake and we as a strategic buyer saying well we're going to want you to park x percent of these proceeds in an escrow and that founder is going to look at that as as her money or his money and uh maybe the purchase price is high enough that everyone's okay with it but the fact is that if you're going to make a claim against that escrow you're taking it away from your current division lead or the former ceo or whatever role that person is playing in your go forward organization and that can be tricky so tricky i haven't had a client who had a straight dead bang reps claim against the founder of a company that acquired and it decided not to make the claim because it didn't want to we didn't want to upset him that was that goose was still laying golden eggs that's really a good point if we know that we have people continuing with us we're not going to want a normal indemnity package because the last thing you want is to go to one of your employees and say hey write me a check so we will always if the people are continuing with the company we're always going to be looking at an earn out structure or an escrow or some other way like reps of warranties insurance to get the downside protection because we don't want to harm our upside by covering you know whatever downside there is and we have had situations where you know a state tax claim or something will come up that the sellers are responsible for but we always want it to be a situation where we are not asking them to write us a check there is some other source of funds for it and we talked about founders and we talked you know some of the dynamics of some of the challenges now if there's venture capital involved it gets at the point where you're seeking to acquire the target how does that affect your negotiations how does that affect some of the considerations we've been talking about well as a financial um buyer we're also a financial seller and so you know i find that they're going to have the same priority i would when we sell a portfolio company which is luck we'll negotiate whatever indemnity package we negotiate but there is a cap and that's it so there will be an escrow there will be whatever it is but the second i get that cash i distribute it to my lps and i do not ever want to be in a world where i have to go to my investors and claw back funds obviously under my fund agreement i'm allowed to do that if we owe an indemnity claim we can ask girl piece to fund that but i never want to be in that situation so i will always insist on just an absolute cap for everything even fundamental reps yeah how about purchase price adjustments purchase price adjustments that's the new thing now caps on ppas that we're starting to see can you believe it and i have that in a lot of my deals like it will be capped at we'll have a purchase price adjustment escrow for six months or whatever and it's kept there yeah we're working through that now and i you know in our world on the insurance side of the house that also becomes more problematic just given the way the insurance has been set up so i will say from my perspective and me personally i love when i see vcs in a deal on the other side because it's very clear right it's dollars and cents and there it is and you know we can negotiate around it and it's dollars and cents that you you avoid kind of all of the the founder potential issues which i think can be much more difficult to navigate because it's not just right there for you to deal with right um so i think it can be a really um it can be very beneficial you know we may not be on the same side of issues but the issue is clear and they have a cleaner shop usually if a financial buyer's already been in the house and that's i think that would have been my next follow-up question is also then when you're looking at diligence in the target is it then a different experience and granted everything likely changes based on the personalities i mean one founder is different from the next founders different from the next but i wonder if you were to compare sort of founder own targets to a financial sponsor that owned it if it's cleaner is it is does that make the diligence process easier i do think so because someone else has our intelligence the company but i also find in a company that's still founder owned you're very dependent on sort of just the innate level of talent that that management has and and the people that they hired have because they've never really gone been professionalized and they've not have not necessarily worked in these huge companies where they know best practices for everything so if they're really all over the map once you buy it on what you have to do to make things operate the way that they should and i think the most common thing you have to you replace when you go into a company that has been is still founder run is usually the cfo because their entire finance function doesn't really operate properly or maybe with the accuracy or level of analysis that you want and i i would say that also makes your diligence really challenging because you are reliant always for diligence on what they give you and you kind of have to assume they're being honest and they're usually being honest but you also have to assume some level of accuracy which may or may not be true especially when you're looking at finances and things like that sure but you know where someone like sergio come to us with a deal that they've found it isn't a banker represented seller it's not someone who's on the market it's just somebody they know about they want to get yeah that company might not have the great you know might be a year off quickbooks or whatever but it may be an incredible opportunity so you work through those things as best you can i mean that's you know the diligence may not be as good but you're gonna have maybe an opportunity there you wouldn't get for a company that was run by a financial buyer and i think then we can apply that to the fact pattern here where you've got a tech company growing at a pretty rapid clip and then you've got some of those hurdles to clear including you know financial statements which we've talked about you know now a bit and you know in the absence of say audited financials i mean if they're a year off quickbooks right um you know just just finding a way to get yourself comfortable on the basis of your financial diligence that you know that the results are are adequate and that they've been keeping things in order well and even if they're audited that doesn't mean they're accurate fair enough especially when you change auditors isn't that interesting how suddenly that causes issues well i mean i guess you asked the question yeah um yeah no that definitely is and then uh you know so so moving on to actually negotiating the terms of the deal now you've taken a look at some things that you're going to focus on obviously in the course of determining your interest and determining valuation and then understanding how best to to diligence this target um then i guess turning to how you negotiate i mean i don't know if focusing on particular reps is a good jumping off point here i think for me a lot of it depends on kind of the transaction and what i mean by that is is this a situation where there was a deal process in place where you know they're selling themselves the bankers were engaged they're shopping this it's a competitive process and so like you're providing a markup of an agreement which is going to be compared against a whole bunch of other people along with your price or is it a situation where you know our you know corp dev group was out hunting basically and you know said we want these guys and you know they engage them in an exclusivity period and then we're approaching them with like this is what we're prepared to do depending on that posture you know what posture we're in it'll look really different in terms of the terms right and where we start as far as how competitive competitive and market-based and whatever else you want to say we are in terms of the various terms we offer up it's also dependent on how sophisticated the seller is you know if they're represented by simpson thatcher i know that they're going to catch every nuance in what i write but if maybe they don't you know they have their single shingle law firm that does everything representing them because they're old friends you know i can get away with a little bit more so i definitely try to place my audience but ultimately i think a seller is really focused usually on purchase price and that's about it so as long as you're not doing things in the agreement to shift a lot of liability to them or to somehow subtract from that purchase price significantly in an auction they're going to pick the highest price i've been almost always i've been in auctions where we gave the best agreement on earth and the best indemnity terms on earth or whatever but if you don't have the highest price you lose and the only secondary factor again is this situation where you have perhaps some equity holders or ceos or whatever who are really vested in keeping their jobs and staying around or controlling the company and and there you have some room to play well i'm tempted to ask the question about where you spend more time negotiating on various points although obviously that's going to wildly vary thinking about something maybe a little bit more near and dear to a lot of people's hearts in this room um in an auction context what are what's everybody seeing in terms of formal exclusivity period these days and um you know sellers appetite for running multiple parties to sign um time periods that they're allowing to to complete diligence once they've actually made a decision curious how many hours basically how many i mean yeah i mean yeah exactly right well it's certainly a seller's market right now that's for sure um in the really competitive auctions for a strong company there you may not get exclusivity at all it could be that you negotiate the merger agreement over the weekend while they negotiate two three other people they pick their best person and they sign monday morning um but that's still unusual i typically they will pick like their lead their lead bidder and give you some amount of exclusivity i don't see those 60 90 day periods anymore i'm seeing a lot more like 14 to 30 days but i perhaps i'm cynical but i generally enter these exclusivity arrangements assuming that we're going to extend them multiple times it does happen right we get these short periods and we just end up extending them yeah it just doesn't really matter because once they have told their other bidders to go away for two weeks or three weeks or four weeks and they've spent two three four weeks negotiating with you usually they're kind of pregnant on the deal and they'll just keep they'll just keep going and they'll extend until you get it done yeah i agree 30 days extended extended extending yeah and is that really to keep a particular bidder's fee to the fire i mean i think it's just what people are willing to agree to up front is you know 30 days it looks worse when you come in you're like i'd like 180 days of exclusivity right not that we ever go 180 days but you know um yeah yeah and the biggest conflict for many of my clients were these compressed exclusivity periods and if they had deals that involved reps insurance is a critical part of the deal trying to get the reps insurance locked down when you didn't have exclusivity and just even a couple years ago you had to pay the insurance carrier hundreds of thousands of dollars to give you a bindable quote before you had at least de facto exclusivity and now there's more insurers who are willing to do that for a lot less money so if i have a buyer and the insurance is really important part of the deal and they don't have exclusivity they can still get that bindable quote to rely on when they sign with the with the seller even if they don't have the diligence completed yet yeah i mean it's it's it's definitely been interesting because i think when you've seen a seller actually wire rep some rit's insurance into a into an acquisition agreement it at least suggested or implied that there was gonna be a little bit of extra time there at least three to five business days in order to get it to get the insurance process done but you're right i think with the growing awareness of the availability of pre-exclusivity you know as needed it's not probably it's probably not the perfect process it's it's it's moving quite quickly and obviously as the rest of the deal teams are but it no longer really implies that there is this um unspoken anticipated period of exclusivity um we just did a uh market exercise yesterday on um on pre-exclusivity fees and you're right it runs a gamut from from nothing to thirty thousand dollars actually to a hundred thousand dollars extra so there still is a wide variety but i think that there is definitely ability to get that done so maybe using that as a transition and and talking about some of the challenges that you faced in negotiating some of these transactions and worrying about retention and worrying about maybe proceeding against a founder or a shareholder for something maybe beyond the purchase price adjustment name what has your experience been in using an alternative recourse mechanism like reps and warranties insurance and how have you seen it affect deals how have you seen it be responsive to some of these challenges that we've talked about in the context of drafting terms well we're primarily still using to try to bridge a gap right you have two parties i'll give you an example from from out here um you have a seller that is being asked to provide a hundred percent indemnity on ip because like a lot of deals in the valley ip is why we're one of the main reasons we might be buying a company and that seller doesn't want to give you 100 indemnity um so how do you bridge that gap and one deal we bridge the gap on with my partner louis laho a couple years ago was the seller actually paid for the buyer to buy insurance against the ip reps and the buyer didn't buy a hundred percent at the end of the day but they compromised at 45 so that gave the buyer some recourse not having to go chase down the sellers um and which was nice for the buyer the seller paid for it but the seller also got to walk away with certainty that at least um a huge chunk of the deal consideration was was in their pocket so it's still primarily is a gap bridger and again you might have founders that you want to keep happy you don't want to make claims against them um there can be a number of reasons maybe the fun that you're buying from is closing so an indemnity from them isn't worth anything or they know they can't give you an indemnity so you've got to look at insurance or other things maybe it's a particular problem like uh i think in this example west corporation as a tax issue i mean tax insurance it will do that all day long as long as it's something that is material to the deal but still a remote issue or something we can at least put a risk number around right like that's probably a two million dollar problem well fine i can buy insurance if it's a two and a half million dollar problem or more um that's the kind of thing that that we're we're using it for every day and more more and more strategics that's the biggest change in the market that i've seen the last three years is this has now become not just a strategic buy side um poli pro thing to get but also now i see strategics using it on spins they'll go out there with the deal and say oh okay well here's the deal we're going to give this the market we're going to give you a 1.5 percent naked indemnity and if you want to go and get insurance go ahead but this is what we're going to give you on this spin it's that's really that's always fun seeing the strategic kind of give at the market what they've had to eat going into some competitive deals i do think it's become more and more prevalent earlier in my career you didn't really see people using reps and warranties insurance or only two or three insurance companies that even offered it and now you see it all over the place there's a live insurance companies providing it and we use it in many many of our deals and in fact sellers that are running a full process and have a competitive auction can require you to use it and pay for it so you're definitely seeing it a lot more and i think because of the increased prevalence of it i do find that my deal teams sometimes are asking me questions that are kind of funny that they'll be like well i have this known issue and it's not a remote possibility and it's a known issue can i get insurance for that and so i would say the answer to that is still no yeah sales taxes yes equal to the amount of the issue so you're still looking at unknown or kind of maybe a known remote possibility but it can still you know it really can cover a huge amount of issues i think especially when you're looking at being a pbs startup or a tech company target they may be really clean and right run a very tight shop on things like you know their patent filings but everything else may be a little bit more mysterious to that founder and so that's a great place to really use that product i think when you're looking at all alternative solutions like reps and warranties insurance or tax insurance to just to shift risk from from the deal parties to to the insurance market um you can look at it across more of a spectrum you know and on one end you've got the truly unknown risks and on the other end you start to gravitate more towards known exposures and just as a quick you know crash course reps and warranties insurance functions the best for unknown exposures and they'll run through the diligence to determine what is known on the underwriting process and then the expectation is to pick up any of the exposure that comes through the reps and breaches of the reps anything that's unknown would typically find a home with reps and warranties insurance and then you start to gravitate more down the spectrum if it's a tax exposure something that's been identified as exposure but isn't necessarily a known problem then you start looking at tax insurance and like you said there is definitely a really deep skill set in the market as far as how to how to really understand the risk profile of that particular issue and maybe underwrite to it so the rule of thumb is if it's something you would normally expect a special indemnity or special escrow on you probably can't you can't get rep and warranty insurance probably against that there are some other insurance products that we've used like for example we had a seller that we represented that was being sued by one of its competitors and it was anti-competitive litigation completely bs and we were able to go out and get aig to give us a very large policy against a bad outcome of that litigation because aig underwrote it and concluded the litigation was bs it was just anti-competitive they weren't going this competitor wasn't going to win and we went to market with that policy saying hey we know these guys have sued us but we've got protection against that for all buyers and that competitor ended up making a very nice offer to our client who sold to the competitor because the bullet had been taken out of the gun so that's that we still don't see a lot of those policies being purchased but we do see it i think it's a growth area i mean we've now got a lot of competition in the insurance market there's over 20 underwriters and it's putting a lot of pressure on on individual underwriters to either get more aggressive on some of the more commonplace areas like reps and warranties insurance and or tax but in the contingent liability end of that spectrum they are probably more rare and they're they're much more bespoke but that is one of the developing areas i'd say as all as is the mix of who's buying these types of insurance products rachel how many deals in your last year what percentage do you think used a trend focused on insurance in some way as being an important part of the deal we've considered it in every transaction we've probably used in about half like i said there are some auctions where they really require you to it's written into the agreement itself and it's still you could still forfeit that right but generally we'll really look at the company and we'll think like how clean is this company how impressed are we with management and our diligence and whatnot and sort of a cost-benefit analysis on the cost of the insurance versus do we really think that we'll have identification claims because remember your indemnity claim is probably going to be subject to a basket and a cap before you even get there so if you look at it you know a 300 million deal and you have to have a million dollars of claims before you can even start to make claims on the policy it may not be worth it so dina gets both escrows and insurance because she has that much leverage but we do and i was actually going to mention that um yeah so the one thing right the one i guess kind of the opposite side of of of getting an insurance policy is you know there were there were a lot of things where uh you come across them and they're not connected with reps and warranties um and you they're things that you would otherwise maybe want to get a special escrow for but you don't want to go through the headache of negotiating it and when you were just doing kind of an escrow generally and you don't have insurance you know okay so we're going to get you know a 10 million dollar escrow okay so 350 000 here and you know a million dollars there and whatever like thing things that you find you're like okay i'm quantifying it this is what it is our escrow can handle it okay we're not going to worry about trying to get a specific escrow for it when you go ahead and get insurance um you typically well we when we get insurance we'll end up with an escrow also but it's a much smaller escrow right so you know a 200 million dollar deal you'll end up with you know a 2 million escrow and then also your reps and warranties insurance and so those other odds and ends that don't fall within the reps and warranties things so you know tax or whatever else they start to add up really quickly and really quickly you find that you no longer have any sort of recourse as you as you're doing your calculations and that's not even you know looking at what actually exists after you do the acquisition so you have to be really careful um in terms of you know sometimes it actually opens the door to needing to have the special indemnity the special escrow conversation that you otherwise wouldn't have to have that said on the flip side of it i love getting reps and warranties insurance we've done it in the last few deals that we've done because i think an inordinate amount of time is spent negotiating reps and warranties right um just a ridiculous amount of time and people get very very heated i think over things that obviously are super important but like they're not so much more important than everything else but i think it just there's a lot of emphasis placed on it and it really smooths the conversation right and you can also use the insurance companies as kind of you know well the insurance you you want to marry your reps and warranties up with whatever your insurance will do well the insurance won't do that so we got to change it okay we're good all right fine right so it really makes it a lot easier and i'll give you a hypothetical hypothetically speaking you know your company goes out company a goes out and buys you know some company and the ceo you don't have reps and warranties insurance and the ceo gets really upset and feels beaten up over uh the way in which the reps and warranties conversation were handled it was a clean negotiation but whatever he didn't like where it ended up then he comes in at a position that's you know fairly senior to you know company a's in company a and then you have the opportunity to go and clear the air with them because you know they're in a position where you get to continue working with them down the road and so you want to actually have a positive working relationship as opposed to kind of the angry hostile you know reps and warranties um negotiation that occurred so to the extent insurance can kind of make all of that disappear that's that's always a plus in my book and that is that is the root i think of the insurance was as a deal facilitation tool and we're going to take q a in just a minute i just probably won't run through one or two more questions but just to uh an individual close tool too and that hypothetical example where between signing and closing you discover a breach at your target and that's actually happened to us in a deal and if you have rep and warranty insurance that you bound at signing and it turns out the breach that occurred was something that wasn't true like oh we've updated all our servers and it turns out that wasn't the case then as long as that isn't a mac breach like in the example you know it's not a mac breach it doesn't kill the deal and i my buyer still has to close we can close and then make a claim for that for damages from that breach against the insurance so that was a that's an advantage for sure uh so i think my last question for for the panel was just with respect to caps and with respect to reduced astros i mean if you're in a position where you're either getting escrow and or reps and warranties insurance or otherwise well maybe when you're getting insurance are you seeing are you seeing fundamental exposure sellers exposure for fundamental reps are you seeing that capital or is that still customarily going up to purchase for us i'm definitely seeing a capped i push back on it really hard i don't like it i'd rather cut the survival period on a fundamental rep from being indefinite to say being three years or two years but i am definitely seeing that i would typically expect it to be a higher cap than the rest of the independent indemnification and you know traditionally maybe it's kept at purchase pricing no more but now i'm definitely seeing something like 10 20 percent people are really not offering it i take small comfort in the fact that if you've reached your fundamentals you've probably committed fraud and that is an exception to all of the indemnity package in any case yeah we're seeing a cap we're pretty successful in pushing back against it um it depends i mean it really depends on if we're willing to walk away or not over this issue but yeah they try i know i know on our side of the house we've struggled for a couple years now too because it's a very relatively remote risk right it's just that the magnitude is so extreme um and so we've we've worked to try to find a way in the insurance market uh the options that we had to take fundamental reps even if it was a slightly reduced pricing or rate was just a little bit unhinged when you were or maybe un not satisfactorily correlated with the actual risk exposure so i think one of the interesting developments on our side has been finding capacity out there to address just fundamentals and fraud exposure for that matter at a highly aggressive rate where it does make sense to take it up beyond even one of those elevated caps of about 20 but maybe considering going up to 50 or 75 or even up the purchase price where it's necessary we had a client that had to do a deal where it had to agree to cap fundamentals at very at a single digit and um they to get the was a conservative buyer and they said fine i'll just how much will rep and warranty insurance cost to ensure 100 of my deal value against fundamental breach and the seller paid for half that and they shook hands i do think it's a sign of how outrageous the market is right now that people can argue with a straight face that they shouldn't have to identify fundamentals because i mean how can you say like well i'm not authorized to actually sell you this company or i don't actually own this company but they do if i represent the seller though you know i'm going to say i had a fundamental rep breach on a deal and it was small and it was simply you know they didn't track somebody's stock option so one stock option was not on the ledger but still you know that's money and it should not be out of our pocket as buyer agreed so with that i think i'd open it up to the floor to the extent that anybody has any questions well i have a question larry does this insurance thing really pay uh yes it does obviously yeah i mean well you've got as much experience as i do on it yeah no no i mean we certainly have been across a variety of different insurers worked through and had you know varied experience where at some points we've really had to work through because it is still a negotiation and i think that the insurers will still do as dutiful a job as a seller would i mean you know where you mean they'll kick and scream like by sellers when uh we have indemnification claims against us yeah i mean i think if you're not expecting that you're probably the wrong line right but um at the same time we have had great recent experience in the seven eight figure range where the claims have been paid out on a financial statements breach right at around the level that the claim was for so with a multiple for with a multiple on it so it's um you know it does pay and there the examples i think what's happened is with the prevalence of the insurance over the last few years we're now starting to see more and more waves of claims come in and you've had more policies in force for longer and so the claims experience is growing and while not reported as much i think as many people would like to see just because a lot of claims are subject to confidentiality the the experience is is growing more robust and more positive i had one question how many of you have seen leak clauses in your agreements where there's fines if the seller or the buyer leaks the transaction i've not had that in any transaction i haven't either because they're really damaging as far as you know the whole process and trust and things like that i completely agree and a lot of our transactions unfortunately get leaked um but i you know there's just so many parties involved and so many different advisors i one it's not surprising and two frankly i think sometimes parties plant them oh yeah definitely yeah usually regarding specific diligence items that are being shared we do spend a lot of time negotiating ndas which i find to be sort of a waste of time since nobody ever enforces them [Laughter] well i mean i know on the insurance side as well i mean we'll obviously run through those ndas and then we subsequently have to get all the other parties with whom we're having conversations execute the ndas as well so i do think from a documentation perspective it's very well covered and i think from an experience perspective i i think important to be dealing with folks that have the same commitment to confidentiality that's right i'm gonna jump in if i could can you give us a sense when when do you see post-closed claims do you see him in three months six months or is it the day before the expiration at whatever it happens to be 18 months what's the experience we've seen it all but i would say one inflection point is when you're doing the purchase price adjustment buyers getting there getting to drive the car off the lot taking it home kicking the tires at home and that's where we see a lot of a lot of claims made is during that process it might not be a purchase price adjustment but it might be something else that they discover in that process i'd say integration is really important particularly for strategics because the the fact that you have a deal team that knows you have indemnities that expire in a certain amount of time for certain promises i have seen situations where folks completely blew that like oh we had an escrow for this and it just was people not talking in-house about issues that they were having with this new target so the next i you know it really the next inflection point i'd say after that usually in the first year and follow-up question if i could what about when there is a claim is that a 12-18 month scenario or is it is it tighter i would say the experience varies but typically it's not a quick process because it involves questions if they were questions enough that no one figured it out in the deal diligence usually it's going to require an ey or someone to do a financial analysis if it's a financial or tax loss or some other investigation then you have to convince the seller or the insurer or both that they owe you money or if i represent the seller you have to make a really locked solid case that you get our money but i mean what are you guys seeing i'm it's not quick yeah i think you know independent claims like will often come up when you're doing the first audit um during your ownership or frankly it's just something random that comes up out of the blue and and bites you um i think typically when you're sending a claim letter it's not straightforward you're not sending a letter saying dear so-and-so this happened you owe me a hundred dollars it's usually dear stone so this happened i don't really know how much it will be but i'm putting you on notice that i have a claim and we'll figure it out as it goes along that's true for tax claims litigation that comes up environmental issues whatever it is it's more putting a stake in the ground and saying you owe me money as opposed to making a specific claim until you work it out how long are they sorry so if you're looking at it from a buyer it'll differ from a buy side or sell side policy but if you're looking at it from a buy-side policy a couple of the advantages is obviously you can determine how much insurance you want to buy but you'll also extend the survival out so even if you were looking at a no seller recourse where there was no survival customarily general reps would be taken out in north america out to about three years and tax and fundamental reps will survive six years post-closing yeah we get taxed at six or more which is really advantageous because in a normal deal that i do if you have actual identification the survival is never three years anymore yeah i'll say from a strategic perspective also i mean we know really quickly if there's a problem just because of the integration process right that we get the company is as we're integrating it we're seeing all the warts right so we find out really quickly and and certainly know within the three-year period um if there's a claim to be made had a tax claim come in at four years the other day it was a company that we sold after three we bought it bought reps insurance sold it three years later and then the new buyer had a tax claim that related back to our purchase so four years later we were making a claim on our policy yeah can happen yeah i think i think common expectations were that most claims would come in within that first audit cycle but again even with the limited reporting aig puts out a claim study and i think they had reported where there was a significant number of claims that would come in after the 12-month period so it's it's been interesting i think it's evolving um how about another uh this is a little out of sequence but timing question um danny you intrigued me when you talk about it being a faster easier negotiation are you talking cutting a week off of the time or a day how meaningful and material does it tend to be if you can use reps and warrants as opposed to arguing it all out yeah i don't think i can quantify it that way um it's more it's more along the lines of like you got the list of stuff you got to deal with and it's just one less thing you have to deal with right so every negotiation is different every deal is different and candidly you know within a strategic it's not just how fast can i negotiate the purchase agreement right there's a lot of other people doing a lot of other things that have to happen before we can write our check and you know sign the deal and you know everything's good right so um it doesn't i you know yes it can certainly shorten things but in a lot of situations the contract isn't necessarily the thing that's slowing things up the contract is marching to the beat of the internal drummer yeah that's right i don't think the timing of a transaction is really set by the negotiation of the contract itself because the negotiation really starts well before that as you go through your diligence you know pre-legal group diligence you're finding things that you have to talk out you have to set up the structure the transaction and how your purchase price will be set up there's a lot determined before you get to the contract and frankly the contract can go as quickly or as slowly as people want it to go i'll say diligence is probably the thing and that's a lot some of our i mean our strategic clients tend to be do better dillage than even financial buyers because they're usually in that sector they have people who are working there all day long may have even worked with the target or its products and some of those strategics though they overkill the diligence and i did have one strategy that came to us with uh saying how much diligence this international deal and it was like two and a half million dollars it was an incredible amount of diligence it wouldn't have made the seller happy and they said whoa okay how much diligence do we need to do if we just want to get insurance against some of these very remote risks that they were going to send people to foreign countries to look at and it turned out to be a lot cheaper so that's what they did but diligence i think is often the the slowdown not really the yeah you know when i was at kirkland one of my major clients was a large strategic and they you know they would have to get 30 people into a room one from each department and all seek alignment that was kind of their buzzword and you had to align on whatever it was and every department had to sign off which i'm sure drives deena crazy all day long so you know that's a really different experience from you know my private equity fund clients who have a deal team of three people and who can make decisions very quickly they do have to rely on industry experts and we have to use you know an insurance expert and a accounting expert and a tax expert and whatever but those people come in they kind of do the down and dirty and give us a higher overview view of the world i think at times strategics can pay more but we usually can move faster and perhaps be more accommodating on things like deal terms a lot of these times these sellers are trying to operate a fast growing company at the same time they're trying to meet your diligence requests as a as and again some strategics just forget that and it ends up really you know they say gosh the target's not responsive at all well it's because the people that you're making these requests to are also running a business that is growing so fast you're paying 20 times ebitda so pick your battles [Music] you

Channel: Transaction Advisors Institute

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Rating: 4.8947368 out of 5

Keywords: Mergers and Acquisitions, M&A, Transaction Structuring, M&A Strategy, M&A Structures, M&A Synergies, M&A Conference at Wharton San Francisco, M&A Conference at Cornell Tech New York, M&A Conference at the University of Chicago, William Jefferson Black, Transaction Advisors, M&A Strategy & Governance, Transaction Structuring & Negotiation, Valuation & Transaction Opinions, M&A Regulation & Litigation, M&A Integration & Culture, M&A Finance, M&A Accounting, M&A Tax

Id: 32laLeJozDM

Length: 49min 50sec (2990 seconds)

Published: Wed Nov 18 2020