Letters of Intent
in Merger & Acquisition Transactions
The Art and Science
Presented to WMACCA
September 17, 2013
Scott Meza, Esq.
Greenberg Traurig, LLC
and
David Mace Roberts
Associate General Counsel
Samsung Telecommunications America, LLC
November 2005
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Presentation to Pegasus C
GREENBERG TRAURIG, LLP | ATTORNEYS AT LAW | WWW.GTLAW.COM
Panelist Bio: Scott Meza
Scott Meza, Shareholder
Greenberg Traurig, LLP
Scott Meza has more than 25 years of experience assisting businesses in
a wide range of complex transactions, including mergers, acquisitions
and spin offs of public and private companies and sophisticated equity
and debt financings and recapitalizations. Scott manages these types of
transactions for technology based companies in addition to companies
operating in regulated environments like government contracting,
telecommunications and health care. Representative transactions
include stock-for-stock combinations, cash out mergers, tender and
exchange offers, management buyouts, stock and asset purchases, and
distressed company acquisitions, including bankruptcy auctions,
corporate spin offs, divestitures and corporate governance matters.
Scott regularly represents venture funds and emerging growth
companies in financing transactions, such as preferred stock sales and
subordinated debt lending and licensing. Scott has been a leader in
organizing networks of accredited "angel" investors that invest in
emerging growth companies around the country. Scott also advises
senior management and boards of directors on executive employment
and compensation issues and equity incentive plans.
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Panelist Bio: David Mace Roberts
David Mace Roberts, Associate General Counsel
Samsung Telecommunications of America, LLC
At Samsung Telecommunications (STA), David manages all legal affairs
relating to Wireless Network Systems, Enterprise Communication
Systems, Enterprise Sales (B2B), Government Solutions, Compliance,
Mergers and Acquisitions and Research and Development Laboratories.
David also manages STA’s Contracts Department.
Prior to joining STA, David served as SVP, General Counsel and
Secretary of Xtera Communications, Inc., a Sevin Rosen backed venture
providing optical communications systems for the terrestrial and subsea
markets. Previously, David held the position of Vice President, General
Counsel and Secretary of Elbit Systems of America, LLC, a wholly owned
subsidiary of Elbit Systems Ltd. (NASDAQ: ESLT), a leading global
defense and aerospace company. Prior to this, David was Vice
President, Chief Compliance Officer, Associate General Counsel and
Assistant Secretary of Broadwing Communications, LLC (NASDAQ:
BWNG). Prior to joining Broadwing, David was Chief Counsel and
Secretary at Efficient Networks, Inc. (NASDAQ: EFNT).
David holds a J.D. from Emory University and a B.A. from New York
University. David was named the 2012 Best Deputy General
Counsel/Associate General Counsel-midsize legal department by D CEO
Magazine and the Association of Corporate Counsel.
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Letters of Intent in M&A Transactions
 WHAT IS A LETTER OF INTENT?
 Sometimes referred to as a “term sheet,”
“memorandum of understanding” or “agreement in
principle” (be careful of terminology)
 Summarizes many of the principal terms of the M&A
transaction
 Lays out a transaction chronology
 An important transaction document; do not be deceived
by its non-binding features
 Non-binding generally, but also often legally binding in
critical aspects
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Lettersof
ofIntent
Intent in
M&A Transactions
Letters
(continued)
 POTENTIAL BENEFITS OF LETTERS OF INTENT
 Gets the parties working together and developing a deal
dialogue; creates confidence that deal can be done (a
“moral commitment”)
 Allows parties to identify basic deal structure, tax
treatment, e.g., tax free reorganization; §338(h)(10)
election with or without gross-up
 Identify “deal breakers” early on
 Can be used as an informal auction document; allows
better comparison of deal proposals from competing
bidders
 Is often a vehicle for binding exclusivity: Buyer can get
Seller “off the market” in return for “moral”
commitment from Buyer to move forward with the
negotiations
∙ also confidentiality, non-solicitation commitments
 May help identify required approvals (investors, lenders,
regulators)
 Can be basis for Buyer’s financing commitments for the
acquisition
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Letters of Intent in M&A Transactions
 POTENTIAL DRAWBACKS OF LETTERS OF INTENT
Requires some investment of time and money for what is a
non-binding moral commitment to attempt to reach
definitive agreement.
 Can cause loss of negotiation leverage (e.g., exclusivity
commitment by Seller; for Buyer, too many deal terms
specified before due diligence is completed)
 May create disclosure obligations with lenders,
regulators, and others, depending on extent of legally
binding terms (e.g. impact on affiliation, ownership
issues for small business; 8(a) status)
 If not drafted carefully, may create unintended binding
provisions; e.g. legal duty to negotiate in good faith
 If over negotiated, can lead to premature “deal fatigue”
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Letters of Intent in M&A Transactions
 WHO DRAFTS THE LETTER OF INTENT?
 Business leaders take the lead: outline key terms,
pricing, type of consideration, timing, etc.
 Investment bankers in larger deals take an active role
 Experienced in-house or outside M&A attorney
involvement in formulation of LOI is essential
∙ To ensure proper deal structure and reference to essential
elements of the transaction
∙ Tax/special legal considerations
∙ Ensure binding/non-binding provisions are appropriate,
correctly drafted
 Tax/finance advisors often have roles in LOI
development
 Be sensitive to over-negotiation of LOI, especially by
legal counsel: address material terms and leave other
terms unresolved
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Letters of Intent in M&A Transactions
Letters of Intent
(continued)
 DIFFERENT APPROACHES FOR BUYERS AND
SELLERS TO LETTERS OF INTENT
 Buyer generally wants only the high points of the deal
to retain flexibility to later impose deal terms to
reflect due diligence findings and unpleasant
surprises (e.g., undisclosed liabilities, decreased
earnings)
 For Seller, the more detail on the deal terms in the
LOI, the better (usually)
 For Seller, deal terms usually only get worse after the
LOI, so Seller often wants the important deal terms
tied down now
 Buyer has the Seller legally locked up in the LOI so
Seller’s leverage often decreases post LOI
 Buyer will insist on exclusivity; Seller may then
consider breakup fee in return
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Letters of
of Intent
Intent in
in M&A
M&A Transactions
Transaction
Letters
 KEY TERMS/ISSUES IN LOIs FOR M&A
TRANSACTIONS ?
 Purchase Price
∙ How much? (or what range of purchase price or
methodology for calculation of purchase price?)
∙ Express the assumptions of Buyer that underlay the
proposed purchase price (e.g. confirmation of earnings)
∙ Cash consideration
∙ Equity consideration (what key features of equity;
preferred stock; common stock, other?)
∙ Deferred payment of purchase price (promissory note
terms, amortization, interest, collateral)
∙ Earnout (address core features, e.g., earn-out amount,
time period for measurement; metrics; sliding scale
payment or all or nothing earnout)
∙ Required working capital at closing (though dollar level
required usually not stipulated in LOI); also, in some cases
provide definition of working capital if special W/C
components.
∙ Cash free/debt free
∙ Other adjustments to purchase price (e.g. to fund stay
bonuses)
∙ Source of Buyer’s funds (financing contingencies)
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Letters
of Intent
in M&A(continued)
Transactions
Letters
of Intent
Examples of Pro-Buyer Approach
∙ Offer only a range of purchase price
∙ Dictate a price formula rather than fixed price (e.g. multiple
of confirmed EBITDA)
∙ Describe earn-out in general terms (e.g. up to $_____ based
on to be determined net income targets)
∙ Reference a “holdback” or escrow.
∙ Specifically condition closing on due diligence results
∙ Make specific reference to joint and several indemnification
from all sellers
Examples of Pro-Seller Approach
∙ Reference a fixed price and more detail on the earn-out
(e.g. sliding scale earnout based on specified EBITDA target
for set period)
∙ Reference cash escrow
∙ Create timeline for delivery of definitive agreement
∙ Upward adjustment for excess working capital
∙ Reference indemnification caps, baskets, deductibles
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Letters of Intent in M&A Transactions
Letters of Intent
(continued)
 FORM OF TRANSACTION
 Stock sale (majority, all)
 Asset sale
∙ Which assets are being sold?
∙ Which liabilities are assumed?
 Merger
 Recapitalization
 Spin-off or exclusion of certain assets and
operations from the sale
 Special structure for transfer of regulated
business
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Letters of Intent in M&A Transactions
Letters of Intent
(continued)
 IDENTIFY TAX ISSUES/REGULATORY ACTIONS
 Tax-free reorganization expectations
 For S corporation targets, §338(h)(10) election and
gross-up to Sellers
 HSR filings
 CFIUS/DSS approvals
 SEC filings
 Shareholder approval/timing for public companies
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Letters
of Intent
in M&A(continued)
Transactions
Letters
of Intent
 TIPS FOR SELLERS ON TAX ISSUES
 Consider referencing gross-up in the context
of 338(h)(10) election (S corps)
 Earn-outs considered additional purchase
price; not compensation
 Reference change of control; severance
payments for sellers’ tax benefit
 TIPS FOR BUYERS ON TAX ISSUES
 Require 338(h)(10) election consent by
Sellers
 Control over filing post closing tax returns
 Special tax indemnity for pre-closing tax
liabilities
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Letters of Intent in M&A Transactions
Letters of Intent
(continued)
 RISK ALLOCATION TERMS IN LETTERS OF INTENT
 Scope of representations/warranties/covenants by
Seller and Buyer (usually generic descriptions)
 Survival period for representations and warranties
 Indemnity escrow (or holdback) from purchase
price (size of escrow, term of escrow, staggered
release of escrow funds and limits)
 Indemnification by Sellers (caps, thresholds,
baskets and carve-outs from indemnification,
special indemnities)
 Apportionment of indemnification liability among
multiple Sellers (e.g. different treatment for
passive owners; small shareholders)?
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Letters
of Intent
in M&A(continued)
Transactions
Letters
of Intent
 IDENTIFY KEY CONDITIONS FOR CLOSING
 Execution of definitive agreements
 Approval by Board, shareholders, lenders
 Retention of principals/key employees
 No material change in Seller’s business
 Non-competes from Seller’s principals/key
employees
 Key third party consents/governmental consents
to the transaction
 Buyer’s financing contingency
 Buyer’s satisfactory completion of due diligence
 Specific items (e.g. securing customer contract,
solving specific liabilities)
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Letters
of Intent
in M&A(continued)
Transactions
Letters
of Intent
 TIMING AND DEAL PROCESS OFTEN ADDRESSED IN LOI
 Deadline for counterparty to execute LOI
 Process/access for Buyer’s due diligence of Seller
 Limits on Buyer’s contacts with Seller’s customers,
employees
 Seller’s reverse due diligence on Buyer
 Date for delivery of draft definitive agreement (often
tied to exclusivity)
 Expiration of exclusivity; extension of exclusivity period
 Expiration of letter of intent itself
 Process for early termination of LOI
Example of Pro-Buyer Approach: Exclusivity
commitment from Sellers (45-90 days)
• The Pro-Seller Response: To extend exclusivity
beyond short initial period, Buyer must deliver “good
faith definitive agreement draft”
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Letters
of Intent
in M&A(continued)
Transactions
Letters
of Intent
 OPERATING COVENANTS OFTEN INCLUDED IN
LETTERS OF INTENT
 Seller must conduct business in ordinary course
 Seller cannot enter into extraordinary transactions,
make special dividends, distributions to owners
 Seller may not issue/sell additional equity
 Seller may not incur additional debt
 Be aware of any anti-trust implications of binding preclosing commitments if Buyer and Seller are competitors
Pro-Buyer Approach
 These are binding legal commitments of Seller (or at
least Seller must use commercially reasonable efforts to
comply)
 At minimum, make binding those covenants that are
essential to preserving the transaction
Pro-Seller Approach
 These are “non-binding” commitments; you can’t run my
company until you own it, or until we have a binding
contract
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Letters
of Intent
in M&A(continued)
Transactions
Letters
of Intent
 TYPICALLY LEGALLY BINDING TERMS FOR LOI
 Confidentiality: Unilateral or bilateral?
∙ Coordinate this covenant with any prior NDA
∙ Limit public disclosures, press releases
 Allocation of expenses of transaction if transaction
does not close; in some cases, break-up fees may
be stipulated
 Requirements for Seller’s conduct of its business
pending closing (e.g., ordinary course operation,
no additional debt, no shareholder distributions)
 “No shop”/”exclusive dealing” clause that
prevents Seller from soliciting/entertaining
competitive bids for designated period
∙ Exclusivity can be staged based on other actions
e.g., completion of due diligence, Buyer obtaining
financing, Buyer submitting credible draft of
definitive agreement
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Letters of Intent in M&A Transactions
 TYPICALLY LEGALLY BINDING TERMS FOR LOI
cont’d
 Possible “fiduciary out” from exclusivity for a
public target company (with a breakup fee)
 Non-solicitation of employees, customers,
prospects by Buyer if transaction does not close
(particularly important to protect Seller in deals
with strategic buyers/competitors)
 Duration of LOI, process for terminating LOI
 Timing, content of press release, public disclosure
 Governing law, jurisdiction, venue for disputes
 Merger, integration clause
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Letters of Intent in M&A Transactions
 TYPICALLY LEGALLY BINDING TERMS FOR LOI
cont’d
Pro-Buyer Term
 Allow Buyer to contact key customers as part of due
diligence
 No time frame for conducting due diligence
 No ability to terminate LOI before its expiration date
Pro-Seller Response
 Contacts with customers only with Seller’s consent and
participation
 If deal fails, Buyer subject to non-solicitation of
employees; key customers (often difficult with strategic
buyers)
 Contacts with customers only with Seller’s consent and
participation
 Seller can terminate LOI on notice
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Letters of Intent in M&A Transactions
 BINDING VS. NON-BINDING NATURE OF LOI: TIPS
 Title of document should be “Non-binding Letter
of Intent” or “Letter of Intent;” NOT “Letter of
Understanding” or “Letter of Agreement”
 Letter of Intent should expressly state it is nonbinding in all respects except where clauses are
expressly designated as binding; repeat that in
opening paragraph and before the signatures
 Try to separate non-binding and binding provisions
into different sections
 Merely stating that transaction is subject to
execution of “definitive agreement” is NOT
sufficient to make non-binding
 Beware of language to the effect of “negotiating
in good faith” to reach definitive agreement; this
may create an enforceable obligation
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Letters
of Intent
in M&A(continued)
Transactions
Letters
of Intent
 BINDING VS. NON-BINDING NATURE OF LOI: TIPS
cont’d
• Consider including language expressly disclaiming a duty
to negotiate in good faith (and perhaps right to
terminate discussions at any time)
• Course of conduct can change non-binding LOI into a
binding commitment (e.g., communications indicating an
agreement has been reached)
• Before a definitive agreement is signed, consider
including language that neither subsequent
communications nor course of conduct will give rise to
binding obligation
• Where no binding intent is contemplated, use
subjunctive words like “would,” “may,” “proposed,”
“potential”
• Where binding effect is intended, use words like
“shall/will,” “agree,” “covenants”
• Manage post-LOI conduct, emails, messaging to avoid
creating context that suggests agreement, binding
commitments
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Letters of Intent in M&A Transactions
 ILLUSTRATIVE CASES
SIGA Technologies, Inc. v. Pharmathene, Inc. – Del.
Supr., 2013
∙ Letter of Intent stated parties would “negotiate in
good faith” to reach definitive license agreement in
accordance with LOI terms. Plaintiff claimed
defendant breached the obligation to negotiate in
good faith by subsequently proposing terms
significantly different from those outlined in term
sheet.
∙ Defendant argued that the LOI, which expressly
indicated that the terms were non-binding, did not
require the parties to negotiate in good faith for
agreement on terms outlined in the LOI.
∙ Court found: Where parties agree to negotiate in
good faith in accordance with terms in a LOI, that
obligation to negotiate in good faith in accordance
with those terms is enforceable.
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Letters of Intent in M&A Transactions
 ILLUSTRATIVE CASES cont’d
Ward v. Pricellular Corporation – S.D. N.Y., 1991
• Letter of Intent stated that it “reflects in writing the
agreement in principle” between the parties
regarding the sale of a construction permit.
• Plaintiff and defendant each motioned for summary
judgment, arguing that the LOI was binding and nonbinding, respectively.
• Defendant argued that the LOI was designated as
“agreement in principle” and therefore was nonbinding. Plaintiff argued that the LOI referenced
“rights and obligations” created by the LOI and the
LOI referenced “acceptance” of the terms and
conditions contained the LOI and therefore was
binding.
• Court found: There is a material issue of fact as to
whether a LOI is binding or non-binding if it contains
provisions/language that are both binding and nonbinding. The Court denied both motions for
summary judgment.
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Letters of Intent in M&A Transactions
 ILLUSTRATIVE CASES
cont’d
White Construction Company, Inc. v. Martin Marietta
Materials, Inc. – M.D. Fla., 2009
∙ Letter of Intent memorialized plaintiff’s interest in selling
certain assets to defendant.
∙ Plaintiff claimed that the LOI was a binding and enforceable
contract either by its plain terms or by the subsequent
actions (partial performance), of all parties (e.g. plaintiff’s
termination of contracts in contemplation of the sale; the
parties execution of a lease; defendants oral promises to
execute the purchase agreement; and defendant’s
preparation of agreements and instruments in contemplation
of the transaction).
∙ Defendant argued that: whether parties intend to form a
binding contract is determined by examining the language of
the LOI and as the LOI expressly stated it was a “non-binding
letter” such indication of binding intent was explicitly
disavowed.
∙ Court found: An LOI is non-binding if it expresses no more
than an agreement to agree in the future and furthermore
that subsequent actions cannot defeat the clear and
unambiguous expression not to be bound in the absence of a
formal written agreement.
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Letters of Intent in M&A Transactions
SUMMARY
 LOI’s are often an important critical first step in
an M&A transaction, set the tone/framework for
definitive agreements
 Buyers/Sellers may have different objectives in
LOI that significantly effect purpose and content
of LOI
 Clearly state what provisions are binding and
that all other terms are non-binding
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Letters
of Intent
in M&A(continued)
Transactions
Letters
of Intent
 OTHER RESOURCES
 Spreen, Kristopher, “Ten Practice Tips for negotiating
the Letter of Intent,” Deal Lawyers 2 (May-June 2008):
13 (Print)
 Williamson, Mark D., “Letters of Intent: Their Use in
Minnesota Business Transactions,” Minnesota Bench and
Bar (November 2007)
 “Ancillary Document B.” Model Stock Purchase
Agreement. 2nd ed. Pg. 67: ABA, 2010
 Special Study for Corporate Counsel on Using Letters of
Intent in Business Transactions, Thomson-West, 2010
 The M & A Process: A Practical Guide for the Business
Lawyer. [Chicago, Ill.]: Committee, 2005. Print.
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Scott Meza, Shareholder
Greenberg Traurig, LLP
1750 Tysons Boulevard
12th Floor
McLean, VA 22102
(703) 903-7587 (phone)
(703) 749-1301 (fax)
[email protected]
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