m&a escrow agreements: negotiation & drafting...
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M&A Escrow Agreements: Negotiation & Drafting Strategies Structuring Contract Terms, Dealing With Escrow Agents, Avoiding Conflicts With Acquisition Agreements
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WEDNESDAY, MARCH 11, 2015
Presenting a live 90-minute webinar with interactive Q&A
George Colindres, Senior Counsel, Perkins Coie, Los Angeles
Paul Koenig, Managing Director, Shareholder Representative Services, San Francisco
Alex Tsarnas, Managing Director - Global Business Development, SRS|Acquiom, New York
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M&A Escrow Agreements: Negotiation & Drafting
Strategies CLE Webinar
George Colindres
Perkins Coie
Senior Counsel
gcolindres@perkinscoie.com
Paul Koenig
SRS Acquiom
Founder, co-CEO
pkoenig@srsacquiom.com
Alex Tsarnas
SRS Acquiom
Managing Director, Global Business Development
atsarnas@srsacquiom.com
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I. Current Trends: M&A Escrow Agreements
> Changing Banking Regulations – Impact on Escrows
> With the recent Cigna vs. Audax decision, there may be a trend
towards larger escrows
> No significant changes in the size, duration, prevalence or terms of
typical escrow arrangement
> In competitive bidding situations, buyers might make offers with
smaller/shorter escrows; might buy insurance to fill gap
> R&W insurance and payment in full at closing remain as the exception
> Expense funds are now included on virtually all deals
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Changing Banking Regulations - Impact on Escrows
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Changing Banking Regulations - Impact on Escrows
> January 1, 2015: Selection of Investment alternatives for Escrows became
more complex
- New regulations will be phased in during 2015 and 2016
- Escrows last 12-24 months – affects decisions made today
> Money Market Accounts
- Changing liquidity coverage ratio rules make deposits less attractive
> Money Market Funds
- New Floating NAV reporting requirement
- SEC adopted July 23, 2015
- Now affects all MMFs, when historically it didn’t
- Most important change on Oct 14, 2016 (the Effective Date)
- Liquidity fees of up to 2% of the amount of any redemption
> Treasury Funds
- Anticipated supply-demand imbalance
- Subject to same redemption limits and liquidity fees as MMAs/ MMFs
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Private Mergers after Cigna v. Audax
What can buyers do after Cigna v. Audax to address a more limited ability
to bind non-party stockholders?
- Increase escrow coverage
- Focus on obtaining support agreements and/or joinders
- Consider creating “hooks” in merger agreement to the desired stockholder undertakings
- Consider making merger consideration “ascertainable” to a greater degree by limiting
indemnity in time and/or duration
- Depending on degree of risk, buyers might consider more aggressive measures
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I. Current Trends: Claims
> Two-thirds (67%) of expired-escrow deals have material post-closing
issues
- 18% of expired-escrow deals have at least one claim made in the final week of the escrow
period
- 12% of deals with a claim have at least one claim that resulted in litigation or arbitration
- 21% of expired-escrow deals with claims have claims exceeding half of the escrow
> Claims types fall largely into three groups:
- Breach of R&W
- Purchase Price Adjustment
- Fee/costs
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Subset: 2013 deals with escrows/holdbacks*
* 97% of deals included an escrow or holdback for general indemnification purposes. Data does not include special escrows.
Escrows/Holdbacks as a Percentage of Transaction Value
Average Median Minimum Maximum
11.8% 10.0% 2.0% 31.5%
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Transaction value vs. Escrow size (deals over $800MM hidden)
Data set: All deals closing in 2010–2013
* Equity capital investment data provided by S&P Capital IQ™.
Correlations: Transaction Value and Escrow Size
Each point is a deal; linear fit line in blue
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Subset: Deals with separate escrows/holdbacks for specifically identified matters*
Deals with special escrows Frequency of special escrow types
* Excluding shareholder representative expense escrows.
** Deals may include more than one special escrow.
Special Escrows
Subset: 2013 deals with special escrow(s) included**
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> Median size = $200,000
> Expense fund accounts slightly larger in
deals with earnouts
- 3% of transaction value for deals without an
earnout
- 5% of transaction value (not counting the
potential value of the earnout) for deals with an
earnout
> Expense fund usage
- 42% used some portion of the expense fund
in completed deals
- 20% average amount, when used
Deals including an expense fund Expense fund notes
Data set: all deals
Expense Funds
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Adjustment direction Key figures
Post-Closing Purchase Price Adjustments (“PPAs”)
> 73%: deals with a PPA mechanism
> 46%: deals where the PPA statement was delivered
after the contractual deadline
> 3%: median PPA claim size, as a percentage of a
deal’s total escrow dollars, when buyer-favorable
adjustment
- The average was 10% of escrow, swayed by a number of
large claims
> 33%: average PPA claim reduction due to
negotiation
- The average time to resolve a contested PPA claim was 2.5
months
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Claim subject matter as % of all claims (~700 claims) Subset: breaches of R&W (~ 400 claims)
Data set: claims across all deals (open and completed)
Claim Types and Subject Matter
* Claims pursuant to a post-closing purchase price adjustment mechanism (e.g. working capital).
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Claim size breakdown (median: $140k) Average claim size as % of escrow
Data set: claims across all deals (completed and ongoing)
Claim Sizes Generally
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Claim frequency based on buyer type Claim size based on buyer type
Data set: claims in deals with expired escrows
Claim Activity Based on Buyer Type
* Including deals with no claims.
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Ultimate payouts of general indemnification escrows
Ultimate Payouts
Data set: escrows in completed deals
* * Excludes escrows set aside for special purposes, e.g., working capital adjustments or known issues.
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II. Key Provisions in Escrow Agreements
Terms negotiated between buyer and seller - negotiated at M&A
agreement
> Obligations covered by escrow
- Typically indemnification obligations.
- Sometimes also purchase price adjustments or earn outs.
> Amount of escrowed funds
> Length of escrow period
> Selection of escrow agent
> Responsibility for payment of escrow agents fees
> Who represents the sellers?
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II. Key Provisions in Escrow Agreements
Terms negotiated between buyer and seller - negotiated at escrow
agreement
> Segregated accounts?
> Investment of escrowed funds
> Mechanism for payment of buyer claims
> Timing of release of escrowed funds to seller
> Ownership of escrowed funds for tax purposes
> Removal of escrow agent; selection of replacement escrow agent
> Assignment
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II. Key Provisions in Escrow Agreements
Terms negotiated with escrow agent
> Liens; right to set off
> Indemnification obligations to escrow agent
> Escrow agent’s ability to assign the escrow agreement; resignation of
escrow agent
> Tax reporting
> Jurisdiction and venue
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III. Considerations: Drafting & Negotiating Escrow Agreements
> Addressing Know-Your-Customer (KYC) Requirements Early
> Avoid Improper Lock-up of Escrow Funds
> Ensure Clear Procedures for Release of Escrow Funds
> In Cross-border Transactions, Watch out for FBAR
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Addressing Know Your Customer (KYC) Requirements Early
> Typically each party to escrow agreement must comply with bank’s
KYC
> Can be burdensome and time-consuming
> Compliance departments often issue follow-up requests for more info
> For non-U.S. entities, nature of requests and processing time can be
greater
> Action: proactively clear bank’s KYC process early to avoid last minute
rush that could delay closing
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Avoid Improper Lock-up of Escrow Funds
> Clearly define what constitutes a third-party claim
- Do not permit vague concerns about future liabilities (not yet
materialized) to block release of funds.
> Buyer should accrue potential losses on balance sheet
> Specify time limit during which buyer must hear from third party before
claim is deemed dormant
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Ensure Clear Procedures for Release of Escrow Funds
> Option 1: Joint written instructions.
- Pro: simplifies matters for escrow agent; simpler to negotiate
- Con: gives buyer leverage to delay releases, whether intentionally or just
being slow
> Option 2: Automatic release of escrow funds by escrow agent at end of
escrow period (less funds set aside for pending claims).
- Pro: funds released without delay
- Con: can prompt escrow agent comments during negotiation
> In any event, clearly define how funds are to be released under each
possible circumstance
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In Cross-border Transactions, Watch Out for FBAR
> Certain accounts domiciled outside U.S. may require compliance with
Report of Foreign Bank and Financial Accounts (FBAR) regulations
> Penalties for non-compliance can be severe
- Forfeiture of up to greater of 50% account value or $100,000
- Possible criminal penalties
> Domicile may not be apparent
- E.g., If escrow fund held at a US bank is actually held in Hong Kong
branch, account may be subject to FBAR
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SRS Acquiom at a Glance
> Continuous innovation in managing post-closing activity in private M&A
- Created professional shareholder representation in 2007
- First online platform for payments administration: Acquiom Clearinghouse
- Patented method applied to first escrow products designed for M&A
> Global leader: 800 deals with $130B in value
- 80K shareholders in 44 countries, including 500 VC and Private Equity funds
- Over 70 professionals
> Three lines of business:
- Shareholder Representation
- Escrow Solutions
- Acquiom Payments Solutions
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SRS|Acquiom Data Resources
> 2013 SRS M&A Post-Closing Claims Study
> 2012 SRS Life Sciences M&A Study
> 2014 SRS M&A Deal Terms Study
> Newsletters
Subscribe to receive resources:
srsacquiom.com/newsletters
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