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Mergers and Acquisitions

01.07.2004

The purpose of this article is to provide a brief description of mergers and acquisitions from the lawyers’ perspective. This article has been extracted from the book “Mergers and Acquisitions” published early in May 2004

No doubt companies' future visions on technology and marketing as well as mergers and acquisitions are mainly created by managing directors and board members who may consult investment bankers or auditors. However, structuring and carrying out mergers/acquisitions involves so many legal issues that the participation of a qualified lawyer is inevitable.

A merger/acquisition starts with a company's vision, with the driving force of the process being mostly a development strategy based on acquisition as opposed to one based on organic growth. Naturally, no companies only rely on one or the other. Depending on the strategy, they keep on looking for or look occasionally for potential merger/acquisition targets to create synergy resulting in an increase of market share, profit, or turnover, or in a reduction of costs. A suitable target can be another company, its structural unit, etc.

Having found a suitable target, one tries at the same time to learn more about it by performing due diligence (when dealing with mergers as defined in the Estonian Commercial Code or with stock swaps or the like, the due diligence is mutual) and to get a clear idea of the possible structure and cost of merger. Of course, those things do not necessarily have to be done at the same time. Most often it is reasonable to calculate the likely price range on the basis of available information before directly contacting the target. However, this analysis of available information may just as well be called due diligence. Due diligence usually includes the examination of legal documents and accounts but quite often also environmental and employment audit. Information gathered during the due diligence process is used both in planning the merger as well as compiling the text of acquisition agreement. In agreements, this information is mostly taken into account in the representations and warranties. 

The key to success of a merger/acquisition plan is the choice of a merger/acquisition structure - the acquisition of majority or minority shares, traditional merger of two companies, stock swap (first and foremost between companies established in different countries that cannot merge for technical reasons) or acquisition of assets of an economic unit (as defined in § 5 of Estonian Commercial Code), etc. In choosing the merger/acquisition structure, it is essential to consider the values one wants to acquire through merger/acquisition. If the main purpose of merger is the acquisition of assets or blue-collar workers, the acquisition of 100% of the target's shares or economic unit together with employees may be the best solution. If the merger/acquisition aims at gaining top-level officials, a good solution might the acquisition of majority shares with options to provide a stimulus for the top officials, although there are also other methods for motivating the latter (e.g. performance pay). Actually, the acquisition of minority shares by a financial investor may also be considered a merger/acquisition, for legal operations such as the exercise of due diligence and conclusion of acquisition agreement and shareholders' agreement are similar to operations conducted upon merger/acquisition carried out by a strategic investor. When a financial investor acquires minority shares, it is usually essential to conclude an agreement with the shareholders in order to ensure that the dividend flow and exit price are based on arm's length principles. Similarly, divesting may be considered a "close relative" of mergers/acquisitions. A need for divesting may arise in the course of organic growth or strategy changes, but quite often a major merger is followed by a sale of subsidiaries/structural units of the target or the acquirer itself that are no longer of use. Other reasons for divesting may involve economic setbacks or liquidity problems.

The conclusion of basic agreements necessary for merger - share acquisition agreement, shareholders' agreement, merger agreement or a unit acquisition agreement - is usually followed by a closing stage which aims at fulfilling the conditions precedent for closing the agreement. These conditions may be related to the acquirer or the target or they may be external. 

Notwithstanding the country involved, one of the major conditions precedent today is getting a permission for merger form the competition board. One of the acquirer or target related conditions precedent may be the restructuring of legal relationship between the target and the seller in order to avoid the continuation of transfer pricing or possible cancellation of relevant agreements due to change of control clauses or the like.

The closing stage, during which the agreements are closed and the ownership of shares or assets is transferred, is followed be an integration stage which should end by formation of a new unified company. In this stage, information on company's governance, employees, etc. gathered by due diligence is put into use.

Although the overview of merger/acquisition procedure provided above was written from the point of view of the acquirer, it can be said that most of companies are constantly involved in a merger or acquisition procedure, being either an acquirer, a target, a merging company, or a potential target of acquisition or divesting.

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