Negotiating Preliminary Agreements – Pitfalls to Avoid in the M&A Context

Negotiating Preliminary Agreements – Pitfalls to Avoid in the M&A Context

PLI Doing Deals

March 28, 2007

Nicole E. Clark

PLI Doing Deals

March 28, 2007

Nicole E. Clark

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Speaker ProfileSpeaker Profile

Nicole E. Clark is a Partner in the Corporate section of Vinson & Elkins and focuses on public and private mergers, acquisitions and divestitures; securities offerings; and corporate governance matters. She can be contacted at 713.758.3344 or via email at nclark@velaw.com.

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Preliminary AgreementsPreliminary Agreements

• Confidentiality Agreements (CAs)• Standstill Agreements• Exclusivity Agreements • Letters of Intent (LOIs)

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Preliminary AgreementsPreliminary Agreements

Practice Tip:

• Business people may view preliminary agreements as “standard” or “boilerplate.”

• To help avoid unintended consequences, lawyers should get involved early in the transaction.

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Confidentiality AgreementsBasic ElementsConfidentiality AgreementsBasic Elements

Definition of “confidential information” Obligation to protect the information Return of information Disclaimer of obligation to negotiate/consummate Disclaimer of warranty Unilateral vs. bilateral Definition of “representatives” Term/integration Access to employees

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Confidentiality AgreementsBasic ElementsConfidentiality AgreementsBasic Elements

Other possible provisions:• Prohibition on soliciting or hiring personnel• Most-favored nations clause• No clubbing• Standstill (if a public company target)• Exclusivity

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Definition of Confidential InformationDefinition of Confidential Information

• Typically, broadly defined to include all information concerning the business and affairs of seller that will be disclosed to the recipient, including materials prepared by the recipient

• Specific identification of confidential information

• Exclusions to the definition– Already in possession of recipient

– Becomes publicly available (other than through any breach by the recipient of the CA)

– Independently developed by recipient

– Exception when required by law or court order

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Definition of Confidential InformationDefinition of Confidential Information

• Sensitive information may include:– Trade secrets

• Term on confidentiality obligation can thwart required efforts to maintain secrecy

• Disclosure to one party can have effect vis-à-vis third parties• Defer disclosure• Buyers should consider having CAs assigned• Consult with IP counsel

– Privileged documents • Disclosure may create risk of waiver• Consider discussion among lawyers rather than provision of documents• Consider “common interest” language if disclosure necessary

– But note that this language may flag the issue for third parties• Consult with litigation counsel

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Definition of Confidential InformationDefinition of Confidential Information

• Disclosures to competitors may create antitrust risks– Pricing or other competitively sensitive information– Potential approaches:

• Exclude sensitive information from disclosures• Identify materials that will not be disclosed• Limit disclosure to recipient’s personnel not in a position to

violate antitrust laws• Defer disclosure until late in the process• Avoid mutual exchanges

– Be aware that express provision in CA may flag the issue– Consult with antitrust counsel

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Obligation to protect the informationObligation to protect the information

• Limited purpose– “assist the bidder and its representatives in connection with a

possible negotiated transaction”– “possible” in order to avoid implication that there is an

agreement in principle– “negotiated” in order to reinforce that the company’s purpose

is to facilitate a process which it controls and that it would be a breach for bidder to make a hostile bid (if target is a public company)

• Agreement not to use the information “in any way detrimental to the Company”– Viewed as broad by recipients

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Obligation to protect the informationObligation to protect the information

• Enforcement– Acknowledgment that money damages are insufficient– Express inclusion of injunctive relief and specific performance

(non-exclusive remedy)– Governing law– Consent to jurisdiction of a specific court

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Return of InformationReturn of Information

• Return or destroy– At bidder’s or seller’s option?

• Bidder may request to have the right to keep one copy (usually by its outside counsel)

• Electronic data rooms• Email

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“Representatives”“Representatives”

• Who is covered?– Private equity bidders may be especially sensitive to the inclusion of

“affiliates” in definition

• Disclosure on a “need to know” basis• Bidder may seek to limit obligations for actions of its

representatives• Execution of acknowledgements

• “Clubbing” concerns– Definition of representatives may expressly exclude other equity

participants; additional provisions may also prohibit clubbing– Definition of representatives may expressly exclude potential lenders

unless identified; additional provision may prevent bidders from exclusive use of a debt financing source

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Term/IntegrationTerm/Integration

• Seller’s form may not include any term provision• Bidder will seek to limit (e.g., for 1-2 years)• Consider the type of the information disclosed

– Trade secrets – specified term can thwart required efforts to maintain secrecy

• Consider varying survival, if warranted• Consider delaying disclosure of the most sensitive

information• Integration clause in definitive agreement

– CA to be modified or superseded

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Non-solicit of EmployeesNon-solicit of Employees

• Non-solicitation of employees– Generally see 6 months – 2 years– Bidder may want to limit to those introduced through process– Exception for general solicitation or employees laid-off by

seller

• Non-solicitation clauses that extend to customers and suppliers could be a “back-door” non-compete

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Most-favored nations clauseMost-favored nations clause

• Bidder negotiates to receive most preferential terms granted to any other bidder.

• Seller will want to retain flexibility to respond to bidders depending upon their individual circumstances.– For example, in the public company context, if a bidder

already has commenced a tender offer, the company may agree to a CA without a standstill with such bidder and arguably it should not have to agree to waive its standstill with another bidder merely because the other bidder had obtained a most favored nations clause

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Standstill (if a public company target)Standstill (if a public company target)

• Agreement by bidder to not pursue an acquisition of the target other than by negotiating with the target’s management and the board for a specified period– Prohibitions on acquisition of target securities– Prohibitions on proxy solicitations– Restrictions on requests for waivers

• Advantages for target:– Avoid hostile offer– Greater control over auction process– Avoiding public disclosure

• Advantages for bidder:– Access to non-public information

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StandstillStandstill

• Bidder may seek to limit the standstill so that it will terminate if a third party proposes to acquire the target

• In two recent cases, bidders who had executed a standstill were precluded from making topping bid

• Important to note that even if there is not an explicit standstill provision, receipt of material non-public information (for example, projections) and/or limited use clause may restrict bidder from proceeding on a hostile basis

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Exclusivity AgreementsExclusivity Agreements

• Agreement by potential seller to deal exclusively with one potential buyer for a specified period of time

• Buyer may require before investing a significant amount of time and expense in due diligence and negotiations

• Shift in leverage– Seller may desire to negotiate for as many material terms as it

can upfront, in exchange for exclusivity, when its leverage is greatest

• Buyer may ask for notification of unsolicited offers

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Letters of IntentLetters of Intent

• Used to outline the material terms of a proposed transaction – Usually signed by both parties (as opposed to a term sheet)– Almost always intended to be non-binding, except for certain

limited terms (such as confidentiality, exclusivity, expenses)

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Letters of IntentLetters of Intent

• Advantages to using an LOI– Creates a roadmap – Helps to expose any “deal breakers” – May enhance parties’ commitment/ moral obligation to the

deal – Solidifies understanding - helps to avoid “selective memory”– May be useful to buyer in seeking financing– Can help facilitate earlier compliance with regulatory

requirements

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Letters of IntentLetters of Intent

• Disadvantages– For a public company it may create an obligation to disclose

the proposed transaction before the parties would otherwise like

– Risk of unintended consequence of being construed as a binding agreement • Pennzoil v. Texaco — $11 billion damage award against

Texaco over its tortious interference with Pennzoil’s memorandum of agreement to acquire an interest in Getty Oil

– Risk of unintended consequence of having an obligation to negotiate in good faith

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Letters of IntentLetters of Intent

Courts found obligation to negotiate in good faith when:• The parties did not state expressly an intention to be bound or not

– Party’s reservation of right of approval to its board of directors did not leave it free to abandon the transaction

• Language in the LOI – LOI stated that the parties “shall make every reasonable effort to

agree upon and have prepared” a contract setting forth the terms and conditions of a merger to be agreed upon

• Conduct of the parties after executing the LOI – Court noted that oral assurances, reliance and awareness of reliance

was substantial enough to establish a triable claim under promissory estoppel doctrine

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Letters of IntentLetters of Intent

• To avoid unintended consequences – Be explicit and precise as to intent to be bound or not

• Specify provisions that are binding and precise remedy for breach

– If further negotiations are contemplated, a court may find a duty to continue to negotiate in good faith• To avoid uncertainty, parties may choose to affirm this

duty or to expressly reject it – State that each party bears its own expenses whether or not

definitive agreement is reached– Specify period for future negotiation

Negotiating Preliminary Agreements – Pitfalls to Avoid in the M&A Context

Negotiating Preliminary Agreements – Pitfalls to Avoid in the M&A Context

PLI Doing Deals

March 28, 2007

Nicole E. Clark

PLI Doing Deals

March 28, 2007

Nicole E. Clark