Headaches Can Crop Up After Private Deals Close, M&A Study Finds

Amy Miller, The Recorder, 10-18-2010:
It's not easy to sell a privately held tech company these days. But the real headaches sometimes begin after the deal closes, according to a new study by Shareholder Representative Service, which manages the post-closing process in M&A transactions for its clients.
The post-closing period can be "long, risky, and complex," the study found. Claims related to deals can be filed over an extended period of time, even after closing. Meanwhile, shareholders are increasingly demanding that certain conditions, such as performance goals, be met before the privately held company can cash out.
The study looked at more than 100 transactions that Shareholder Representative Services handled recently in which the terms were not publicly reported. The value of the deals, which involved primarily software, electronics, and telecommunications companies, ranged from about $25 million to $200 million.
According to the study, nearly two thirds of the deals allowed for possible changes to the final purchase price after closing.
Two thirds of the deals also set aside a portion of the merger consideration in escrow for more than a year, and more than half of the transactions had escrows that exceeded 10 percent of the deal value.
Even when the escrow period closes, consideration is still at risk. About 95 percent of the deals also had "carve outs," or exceptions, built into their terms that allowed claims against the transaction to be brought well after the deal closed.
And a quarter of the deals had "earnout," or performance hurdles, attached to them before shareholders could fully reap the full value of a sale. Such agreements are most common in life science or pharmaceutical deals, said SRS managing director Paul Koenig.
For example, the full value of deal to buy a pharmaceutical company might not be realized unless a particular drug gets approved by the Food and Drug Administration.
"Sometimes those are extremely complicated," Koenig said.
But in general, buyers across all industries have more leverage than in the past because the IPO window has closed for a lot of start-up companies. In the Silicon Valley tech world, it means that big companies like Google, Hewlett-Packard and Oracle can dictate the terms of a deal, and the target companies have little choice but to accept them.
Even if the economy improves and it becomes easier for start ups to go public, the trend isn't likely to change, Koenig said.
"My guess is these complicated structures are here to stay," he said. "Deals are going to remain more complicated than they were 10 to 15 years ago."