U.S. M&A Newsletter — May 23, 2024
Chambers & Partners 2024 Corporate M&A Guide: U.S. Chapter
We are delighted to share the U.S. chapter we wrote for Chambers & Partners’ 2024 Corporate M&A Guide. In our chapter below, you will find insights on the current M&A landscape in the U.S., exploring different strategies, challenges, and crucial details that businesses may face during M&A transactions. We cover essential topics such as hostile tender offers, the increasing role of activist campaigns, and the recent concerns raised by antitrust authorities. We also delve into the growing impact of specific sectors like technology, energy, and life sciences in the dealmaking process. The chapter is a comprehensive guide to understanding the complexities surrounding M&A transactions and getting up to date with key legal and regulatory changes. Whether you are a seasoned professional or just stepping into the world of M&A, this guide is an invaluable resource in navigating the complex and ever-changing world of U.S. M&A.
1. Trends
Over the past 12 months, M&A activity levels decreased for the second consecutive year, with the lowest levels of M&A activity globally in value terms for almost a decade. Such decrease in the global M&A market was marked by:
- heightened concerns about inflation;
- significantly increased interest rates;
- economic conditions;
- a tight financing market;
- increased regulatory scrutiny;
- geopolitical uncertainty; and
- difficult labor markets.
Despite the fall in global M&A activity, the U.S. M&A market is still by far the largest M&A market in the world, with the U.S. accounting for half of total global deal value in 2023. M&A practitioners are optimistic, however, with respect to a resurgence of M&A activity over the next 12 months, given:
- decelerating inflation;
- more favorable economic conditions in the U.S.;
- expected reduction in interest rates;
- availability of financing;
- strong equity markets; and
- a pent-up demand for both sell-side and buy-side transactions for private equity firms.
Last year was marked by high inflation, high interest rates, geopolitical uncertainty and lower global growth prospects that led to M&A market participants pausing or significantly reducing their investments, resulting in increased target selectivity among potential buyers and knock-on effects on competitive auction processes. As a result, the multiples that buyers were willing to pay for assets, as expressed by their EV/EBITDA ratio, fell within this environment — particularly during the first half of 2023.
Deal timelines have been getting longer over the last couple of years, and this trend is particularly pronounced for mega-deals. Due diligence periods have been extended with increased buyer concern about the risks of an asset, while the period between signing and closing has also significantly lengthened owing to a much longer regulatory review process. Greater focus is expected on:
- how to apportion risks relating to the period between signing and closing;
- whether and how to address concerns raised by antitrust authorities; and
- how to secure financing (if it is needed) for an extended period of time.
Aggressive antitrust enforcement continues to present challenges for dealmaking, as agencies have rearticulated their enforcement approach in the 2023 Merger Guidelines and in the proposed changes to the HSR form. Regulatory scrutiny of “serial acquisitions,” such as “add-on,” “bolt-on,” or “roll-up” transactions, remains high, with particular scrutiny being applied to private equity buyers.
In 2023, compared to 2022, deal volumes increased in:
- aerospace and defense;
- mining and metals;
- power and utilities;
- pharma;
- industrial manufacturing;
- automotive; and
- technology.
Expectations are that the leading sectors will continue to be technology, energy and life sciences.
2. Overview of Regulatory Field
The common transaction structures that can be used to acquire a U.S. company are:
- a stock purchase;
- an asset purchase;
- a merger; or
- a tender offer.
Acquisitions of Private Companies
An acquisition of a private company is often structured as a stock or asset purchase, but may need to be structured as a merger transaction if the company has a larger number of shareholders.
Stock purchase
A stock purchase is a typical method for acquiring all or part of a private company, or a division of a private company whose business is conducted through a subsidiary, where the buyer will purchase the stock of a target company from the seller shareholder(s). To acquire all of the target’s stock, all shareholder(s) need to be party to the transaction pursuant to a stock purchase agreement.
Asset purchase
An asset purchase is often used to acquire select assets or a division of a target company where the buyer will purchase identified assets and assume identified liabilities of the target company pursuant to an asset purchase agreement. The asset purchase structure allows parties to exclude specific assets and liabilities, which is a key negotiation point in an asset purchase deal.
Acquisitions of Public Companies
The most common means of acquiring a U.S. public company are via a merger and/or tender offer.
One-step merger
A merger is a combination of two entities by operation of law, in accordance with the statutory corporate law of the states of the constituent entities, pursuant to a merger agreement that sets forth the terms and conditions of the acquisition, and is approved by the boards of directors of the target and acquirer and then subsequently adopted by the target’s shareholders (generally by the holders of a majority of the outstanding shares) at a shareholders’ meeting. A merger is a single-step transaction, whereby, pursuant to operation of law, all of the shares of the target company are converted into the right to receive the merger consideration (which may be cash, securities or other property).
Tender offer
A tender offer is a direct offer to the shareholders of the target company to purchase their shares. As a consequence, it is highly likely that not all the shareholders of the target will tender their shares into the tender offer. Therefore, for a bidder to acquire all the shares of the target, a tender offer is inevitably a multi-step transaction, whereby, following the initial purchase of shares in the tender offer meeting a requisite threshold, the remaining shareholders of the target have to be “squeezed out” through a second-step statutory merger.
Because a tender offer is an offer made directly to the shareholders, no board of directors’ approval from the target company is technically required, although most friendly tender offers are made pursuant to a board-approved merger agreement. Most hostile transactions involve a tender offer as the acquirer can bypass the target’s board of directors and management. In any event, the board of directors of the target company will be required under other rules of the Securities and Exchange Commission (SEC) to state its position with respect to the tender offer.
The state law of the target company’s jurisdiction of incorporation will govern many aspects of an acquisition. State law may impose substantive requirements of fairness on the transaction and may provide the target company with anti-takeover defenses, such as the ability to implement shareholder rights plans (also known as “poison pills”).
In contrast, U.S. federal law relating to acquisitions is generally part of the U.S. securities laws and regulations, and is mostly focused on adequacy of disclosure relating to the proposed transaction, the tender offer process or proxy solicitations. Federal securities laws applicable to public companies and to the sale and purchase of securities are administered and enforced by the SEC; alleged violations of state corporate law are typically challenged by private plaintiffs in state courts (private plaintiffs also often challenge violations of federal securities laws in federal courts). State securities (aka “blue sky”) laws may also be applicable depending on the relevant state. If a U.S. publicly traded entity is involved in the transaction, stock exchange rules may also be applicable.
U.S. federal antitrust laws are enforced by the Antitrust Division of the Department of Justice (DOJ) and by the Federal Trade Commission (FTC).
Depending on the industries and jurisdictions in which the target and acquirer operate, other approvals from state and federal regulatory authorities may be required.
2.3 Restrictions on Foreign Investments
There are several sectors in which the U.S. government restricts foreign ownership or attaches special regulatory requirements for foreign owners. Examples include:
- airlines (25% limit);
- shipping between U.S. ports (25% limit); and
- broadcast communications (20% direct limit, 25% indirect limit via holding company).
In some cases, a distinction may be made between foreign ownership by private-sector and government entities. Waivers or licenses allowing foreign owners to exceed standard limits are sometimes available. There are also transactions in which foreign ownership is not limited, but is subject to regulatory requirements (e.g., registration under the Foreign Agents Registration Act for U.S. subsidiaries of Chinese State-owned newspapers). The U.S. government also has four separate national security-based processes for regulating foreign investment. See 2.6 National Security Review for more details.
In the U.S., the main antitrust regulations (each as amended) applicable to business combinations are:
- the Clayton Antitrust Act (the “Clayton Act”), which includes the Hart-Scott-Rodino Antitrust Improvements Act of 1976 (the “HSR Act”);
- the Sherman Antitrust Act (the “Sherman Act”); and
- the Federal Trade Commission Act (the “FTC Act”).
The HSR Act prescribes a pre-merger notification procedure for certain business combinations. The Sherman and FTC Acts prohibit certain anti-competitive conduct, and the Clayton Act prohibits (among other things) anti-competitive transactions.
The HSR Act requires that the parties to proposed stock or asset transactions file pre-merger notifications with the FTC and DOJ and observe a waiting period (usually 30 calendar days; 15 calendar days in the case of cash tender offers and transactions in bankruptcy) if the transaction exceeds certain thresholds. This initial waiting period allows federal antitrust authorities to investigate the transaction prior to its consummation on the basis of the filing. If the government declines to take enforcement action concerning the acquisition, the parties will be free to close from a U.S. antitrust perspective within one year once the waiting period expires. Otherwise, the government may act before the initial period expires by issuing a “Second Request,” although the acquirer may choose to “pull and refile” its notification to effectively grant the government an additional 30 or 15 days, as the case may be, to review the transaction without issuing a Second Request.
A Second Request will extend the waiting period, and requires the parties to submit a wide range of documents and to answer numerous interrogatories. After the parties have substantially complied with these requests, a second 30-calendar day waiting period (or ten-calendar day waiting period for cash tender offers and transactions in bankruptcy) begins. There is a one-year deadline within which to substantially comply with the Second Request, and parties receiving a Second Request cannot close before the second waiting period expires. The antitrust agencies typically seek a timing agreement with the parties that obligates the parties to provide several weeks’ notice of substantial compliance and closing.
If the government still has substantive concerns about the transaction at the end of this period and has not reached agreement with the parties on an appropriate remedy, it can seek to enjoin the closing of the transaction in federal district court. In the absence of an injunction, parties may close the deal, subject to any applicable timing agreement.
Employee benefit and executive compensation-related issues have been known to unravel M&A transactions. Both federal and state laws, as well as local laws, can be implicated with respect to these matters. Sellers may reduce risks and streamline negotiations through proactive pre-sale planning; while buyers may be able to maximize their deal-related protections and their post-closing alternatives by assuring early-stage attention to the matters discussed below.
Employment
Employment arrangements in the U.S. are generally “at will.” Buyers need to consider worker classification and proper visa status of workers. Buyers should be aware of the Worker Adjustment and Retraining Notification (WARN) Act and similar state laws that may give employees the right to early notice of impending lay-offs or plant closings (or salary in lieu of notice).
Both buyers and sellers need to assess whether key employees have a right to resign with full severance on a change in control, and whether such employees are subject to post-employment restrictive covenants. As a general matter, employment-related covenants and agreements should be reviewed to determine whether they are adequate and assignable to the buyer (or surviving entity). The enforceability of such agreements is determined on a state-by-state basis. Five states (including California) have banned the use of non-compete covenants.
Equity plans and award agreements
Buyers need to review employee equity plans and the impact of a change of control on outstanding employee equity. Numerous considerations go into determining treatment of equity awards in a deal, including:
- business decisions/use of cash;
- dilution of acquirer’s shareholders;
- prevalence of out-of-the-money options;
- ability to achieve retention benefits through continuation of the awards;
- legal compliance issues raised in diligence;
- legal limitations (e.g., consent requirements, substitution limitations);
- Section 280G golden parachutes and potential gross-ups;
- administrative burden considerations (e.g., equity-tracking employee communications, accounting, SEC registration); and
- international compliance.
Non-qualified deferred compensation plans
Key issues for the buyer to consider include:
- whether the seller maintains non-qualified deferred compensation and, if so, whether such arrangements are compliant with Section 409A; and
- whether the arrangements that provide material benefits will be continued or whether they will/can be terminated following the change of control.
Employee benefits
Buyers should be aware of the Employee Retirement Income Security Act (ERISA), which governs the operation and terms of certain employee benefit plans, including their treatment in connection with transactions.
Retirement plans
There has been an avalanche of litigation surrounding excessive fees, poorly monitored investments and claims related to employer stock investments in 401(k) plans. In addition, compliance problems in need of correction and their impact on a possible plan termination or plan merger may need to be assessed. Buyers and sellers need to also determine whether any plans of the buyer and seller should be terminated prior to a change of control.
If a seller maintains a defined benefit plan, actuarial assistance may be needed to understand the funded position of such plans and whether the actuarial assumptions used are reasonable. Often, the Pension Benefit Guarantee Corporation may insert themselves into the M&A process if either the buyer or seller has a significantly underfunded pension plan.
If the buyer has a collectively bargained workforce, attention will be needed to understand whether the buyer participates in multi-employer pension plans sponsored by a union, and whether the structure of the transaction will result in a withdrawal under the plan and withdrawal liability.
Health plans
The buyer would need to know whether the health plans are self-insured and whether they maintain adequate stop-loss coverage. The parties must also understand their obligations with respect to the Consolidated Omnibus Budget Reconciliation Act (COBRA) and similar state laws that provide benefit continuation coverage after termination of employment. Certain states may also require the paying out of accrued leave or other benefits. In addition, the buyer must also consider:
- whether the employer provides retiree medical liability;
- whether any such plans are terminable at will or whether they provide lifetime benefits; and
- how such plans’ liability would be apportioned between the buyer and the seller.
Golden parachute excise taxes
Section 280G of the Code regulates “golden parachute” payments made to certain key employees in M&A transactions. If Section 280G is triggered, excise taxes may be imposed on key executives at the company and the company may lose corporate deductions. Early analysis of the effect of Section 280G will be critical in determining whether the parties may be able to mitigate the imposition of excise taxes on key employees.
There are generally four different U.S. bodies responsible for addressing national security concerns that could arise from foreign investments:
- the Committee on Foreign Investment in the United States (CFIUS);
- the Defense Counterintelligence and Security Agency (DCSA);
- the Directorate of Defense Trade Controls (DDTC); and
- the Committee for the Assessment of Foreign Participation in the United States Telecommunications Services Sector (“Team Telecom”).
These regimes have distinct processes and thresholds, and a single transaction can implicate more than one regime.
CFIUS is a multi-agency panel charged with identifying and addressing national security risks arising from a wide variety of foreign investments in U.S. businesses as well as certain transactions involving U.S. real estate. The CFIUS process normally involves a joint filing by the parties to a transaction, typically followed by additional questions from CFIUS as it assesses potential national security concerns. CFIUS has jurisdiction over any acquisition of control of a U.S. business (often including U.S. activities of a non-U.S. parent) and also has jurisdiction over certain non-controlling investments in companies involved with critical technologies, critical infrastructure or sensitive personal data (“TID Businesses”). Investments in TID Businesses can sometimes be subject to mandatory pre-closing CFIUS filings.
If CFIUS has jurisdiction over a transaction, that jurisdiction will be perpetual, and CFIUS will have the right to call in the transaction for review at any time after closing. On the other hand, CFIUS offers a “safe harbor” against further review if it has cleared an acquisition of control or a non-controlling investment (though in the latter case, incremental acquisitions that increase the investor’s rights can be subject to a new CFIUS case).
The DCSA is an element of the U.S. Department of Defense. One of its responsibilities is to mitigate foreign ownership, control or influence (FOCI) of U.S. businesses that hold facility security clearances. Typically, these clearances are issued because the business requires access to classified information in connection with their work supporting sensitive U.S. government programs. The DCSA does not approve transactions, but failure to receive FOCI mitigation could lead to the DCSA terminating the contractor’s facility clearance, disabling its ability to continue performing on sensitive contracts. FOCI mitigation is based on the sensitivity of the contractor’s activities and the nature of the foreign ownership, and comes in a number of forms that combine varying degrees of governance requirements with the implementation of security policies addressing a variety of technical, physical and operational security concerns.
The DDTC is part of the Department of State and regulates foreign ownership or control of manufacturers, service providers, exporters and brokers whose activities are governed by the International Traffic in Arms Regulations (ITAR), a set of export controls governing military goods and services. The DDTC requires pre- and post-closing notifications of new or changed foreign ownership or control of ITAR registrants, mainly to confirm that foreign investors or other foreign parties are not improperly afforded access to ITAR-controlled technology. Like the DCSA, the DDTC cannot block a transaction, but non-compliance with the ITAR can cause revocation of a company’s registration, adversely affecting its ability to conduct activities governed by the ITAR.
Team Telecom is a multi-agency panel led by the Departments of Justice, Homeland Security and Defense. It conducts national security- and law enforcement-related reviews of foreign applications for certain telecommunications licenses granted by the Federal Communications Commission (FCC). Team Telecom can recommend that the FCC deny (or in some cases terminate) a license or place conditions on the granting or transfer of ownership of a license.
3. Recent Legal Developments
3.1 Significant Court Decisions or Legal Developments
In the past year, Delaware courts opined on several cases involving controlling stockholders or conflicted management in highlighting the circumstances where the strictest standard of review — entire fairness — would be warranted in evaluating a transaction, or otherwise detailed the procedural steps to be taken by parties to reap the benefit of a lower standard of review by the court. Noteworthy examples include:
- In re Oracle Corporation Derivative Litigation, where the Delaware Court of Chancery emphasized that a significant stockholder’s potential to control a company or transaction does not automatically equate to being an actual controller supporting the need for entire fairness review of the transaction; and
- In re Sears Hometown and Outlet Stores Inc Stockholders Litigation, which discussed the limited fiduciary duties a controlling stockholder owes when affirmatively exercising their voting rights to change the status quo of a corporation.
In W Palm Beach Firefighters’ Pension Fund v Moelis & Co, the Delaware Chancery Court also held certain stockholder agreement provisions, including those granting the CEO pre-approval rights over listed board actions, to be improper constraints on a company’s board of directors’ management authority in violation of Section 141(a) of the General Corporation Law of the State of Delaware (DGCL).
Another notable decision in 2023 by the Delaware Court of Chancery was Crispo v Musk, which addressed whether a target could recover lost-premium damages from a buyer in connection with a failed merger pursuant to so-called Con Ed provisions in a merger agreement (most commonly found in public company mergers). While the opinion suggests that there are avenues whereby such damages could be recoverable under Delaware law (e.g., setting out in the target’s charter that it is the exclusive agent on behalf of its shareholders for recovering lost-premium damages, or clearly defining recoverable damages in the merger agreement to include benefits lost by the shareholders and expressly conferring third-party beneficiary status on such shareholders), uncertainty exists post-Crispo regarding the limitations to enforceability of such options.
3.2 Significant Changes to Takeover Law
In antitrust, the Antitrust Division of the DOJ and FTC recently completed their comprehensive revision of the Merger Guidelines. The changes generally reflect the more aggressive approach by these antitrust enforcers in recent years, including new and stricter thresholds for presumptively anti-competitive mergers (both horizontal and vertical) and new guidelines addressing labor market effects, serial acquisitions and “incipient harms to competition.”
Along with the revisions to the Merger Guidelines, U.S. antitrust regulators are also in the process of revising the pre-merger notification form under the HSR Act. The final rule is expected to significantly increase the burden of completing the form, owing to new and expanded disclosures and more burdensome documentation requirements.
4. Stakebuilding
4.1 Principal Stakebuilding Strategies
Stakebuilding is permitted in the U.S. and, in contrast to many other jurisdictions’ takeover laws, U.S. federal law does not mandate that an acquirer make a bid for the target upon reaching a specified threshold. Therefore, unless it has publicly announced or commences a tender offer for shares of the target, an acquirer may purchase a publicly traded target’s shares on the open market, so long as the acquirer does not hold “inside” information that would cause such purchase to violate insider trading rules.
U.S. securities laws do generally require an acquirer to file a notification on a Schedule 13D form (or a short-form equivalent), which requires disclosure of the acquirer’s ownership stake and its intentions with respect to the target, within five business days of acquiring beneficial ownership of more than 5% in a target company. Additionally, acquisitions in excess of the HSR Act threshold (USD119.5 million as of March 2024) will require an antitrust filing.
In addition, a number of states, including Delaware, have “anti-takeover” statutes that have the effect of encouraging acquirers to negotiate with management and of discouraging certain hostile activities. For example, Delaware’s business combination statute prevents acquirers from entering into business combinations with a target if they have exceeded a specific ownership threshold (15% in Delaware) unless they received prior board of directors’ approval or a super-majority vote of the shareholders.
4.2 Material Shareholding Disclosure Threshold
Under Sections 13(d) and 13(g) of the U.S. Securities Exchange Act of 1934 (the “Exchange Act”), persons or groups who own or acquire beneficial ownership of more than 5% of certain classes of equity securities registered under the Exchange Act are required to file beneficial ownership reports with the SEC. Generally, if Section 13(d) is triggered, a person must file a Schedule 13D form unless they are eligible to use Schedule 13G. Schedule 13G, a shorter form requiring less disclosure than Schedule 13D, is available to passive investors meeting certain requirements.
A beneficial owner of a security includes any person who, directly or indirectly, has or shares either:
- the power to vote or to direct the voting of the security; or
- the power to dispose or direct the disposition of the security.
According to the SEC’s amendments to certain rules that govern beneficial ownership reporting effective on February 5, 2024, a Schedule 13D must be filed five business days after acquiring beneficial ownership of more than 5% or losing Schedule 13G eligibility, and Schedule 13D amendments must be filed within two business days after the triggering event.
U.S. public companies cannot introduce higher reporting thresholds and generally would not introduce lower reporting thresholds than those mandated by federal securities laws in respect of thresholds requiring public reporting to the SEC. However, a target’s board of directors can implement certain obstacles to stakebuilding tied to ownership thresholds, such as adopting a shareholder rights plan (i.e., a “poison pill”); see 9.3 Common Defensive Measures.
Dealings in derivatives are allowed in the U.S., subject to applicable insider trading restrictions.
4.5 Filing/Reporting Obligations
Historically, holding derivatives that, by their terms, only provide the holder with economic exposure to a covered class of security has not been considered sufficient to constitute beneficial ownership under Regulation 13D-G and therefore require disclosure as set forth previously (see 4.2 Material Shareholding Disclosure Threshold). The SEC’s recent release provides that a person is deemed a beneficial owner of an equity security if the person:
- has a right to acquire beneficial ownership of the equity security within 60 days; or
- acquires the right to acquire beneficial ownership of the equity security with the purpose or effect of changing or influencing the control of the issuer of the equity security, or in connection with or as a participant in any transaction having such purpose or effect, regardless of when the right is exercisable.
If such a right originates in a derivative security that is nominally “cash-settled” or from an understanding in connection with that derivative security, the holder of such cash-settled derivative security may be deemed a beneficial owner.
Aspects of a derivative instrument, including whether they carry the current right to vote for directors, can determine whether acquisition of derivatives would be reportable under the HSR Act.
Shareholders must disclose beneficial ownership of more than 5% of the outstanding shares of a class of U.S. public company equity-voting securities, pursuant to a Schedule 13D filing (as discussed in 4.2 Material Shareholding Disclosure Threshold). Shareholders that are required to make pre-merger notifications under the HSR Act, or who file with CFIUS or other U.S. national security review regimes, should also expect to address questions regarding the purpose of their acquisition and intentions regarding their interests in the target.
5. Negotiation Phase
5.1 Requirement to Disclose a Deal
Under U.S. federal securities laws, entry into a material definitive transaction agreement requires disclosure by public companies. Prior to signing the transaction agreement, a disclosure obligation can still exist with respect to non-public information relating to a merger or acquisition in accordance with a two-part test:
- the information must be “material”; and
- the company must have a duty to disclose such information.
The U.S. Supreme Court has rejected the idea that merger negotiations are only material when the parties have agreed in principle to the price and structure of the transaction. The materiality of contingent or speculative events such as M&A is determined on a case-by-case basis. There are situations where the companies involved in negotiations may remain silent provided they do not release false or misleading information.
Ultimately, the materiality of negotiations is still determined by weighing the magnitude against the probability of the event, with additional consideration to the sensitivity of the information and the business’ purpose compared to the substantial impact on investors of a potential merger or acquisition. In practice, the determination of whether to disclose negotiations often turns on the probability that the transaction will occur. While there is no bright-line test that makes the event more probable (short of an agreement in principle), key events which a court may consider in making the determination of whether a disclosure obligation exists include:
- adoption of board resolutions;
- execution of a letter of intent; and
- appointment of financial and other advisers.
Stock exchange disclosure and reporting rules and regulations governing disclosure of material non-public information also need to be considered in the M&A context.
In the U.S., the buyer will generally carry out legal, financial, commercial and tax due diligence, involving reports from lawyers, accountants and other specialists. The scope of due diligence review will vary based on the client’s needs and the nature of the target company’s business, as well as on whether the target company is private or public, the proposed transaction structure and the level of access to the target company.
The information collected during the due diligence process can have an impact on:
- purchase price (i.e., valuation of the target company);
- transaction/tax structuring;
- the drafting of the purchase agreement;
- certain steps that need to be taken prior to closing (such as consent required from any change-of-control provisions); or
- in some cases, whether to proceed with the proposed transaction at all.
U.S. market practice does not provide for the target company to prepare vendor due diligence reports for potential buyers.
If a target shareholder is to receive shares of buyer stock as consideration, reverse due diligence of the buyer would also be expected.
5.4 Standstills or Exclusivity
Standstill provisions are commonly included in confidentiality agreements if the target company is a public company, prohibiting a buyer from taking certain unsolicited actions with respect to a seller (e.g., acquiring securities, commencing a tender offer or otherwise trying to obtain control of the target company or its board or management without approval).
Potential buyers also often request that the target company enter into an exclusivity agreement providing for a period of exclusive negotiations following the end of an initial bidding phase. Negotiation dynamics will influence whether a seller would agree to such a request.
As noted previously, friendly transactions are almost always effected pursuant to a board-approved merger agreement setting out the terms and conditions of the transaction between the acquirer and the target company, including whether the transaction is structured as a tender offer followed by a second-step merger.
6. Structuring
6.1 Length of Process for Acquisition/Sale
The following factors, among others, determine how long the process of acquiring or selling a business in the U.S. takes:
- the type of asset that is the subject of the transaction;
- the extent of due diligence needed;
- whether there is an auction process;
- timing of regulatory approvals; and
- whether the transaction is challenged in court.
The entire process (until closing) generally takes three to four months (at minimum) from when discussions are initiated.
Auctions
To maximize the sale price, sellers often run an auction process where they give potential buyers a confidential information memorandum, and the potential buyers submit their initial indications of interest several weeks (approximately three to four weeks) thereafter. Potential buyers then normally submit their markup of the auction draft as part of their final bid, typically four to eight weeks after the initial indications of interest. Signing of the transaction agreement generally follows shortly after the seller’s receipt of the final bids and selection of the winning bidder.
Antitrust Waiting Period
See 2.4 Antitrust Regulations.
Changes Due to COVID-19
Although various U.S. state and federal regulatory agencies did not formally change their review periods for M&A transactions during the COVID-19 pandemic, practitioners reported a slower review process in various cases. Further, as of 4 February 2021, the FTC and DOJ suspended grants of early termination of the HSR waiting period and, at the time of writing (March 2024), had not resumed or announced a timeline for resuming early termination grants.
Long-Form (One-Step) Mergers
Where the target is a publicly traded company and the transaction is effected through a one-step merger (see 2.1 Acquiring a Company), to solicit the required shareholder vote, the target must prepare and file a detailed “proxy statement” with the SEC that complies with the SEC’s proxy rules. It typically takes up to two weeks to draft and file the initial proxy statement. The proxy statement may not be disseminated to shareholders until the SEC staff has commented on it and all such comments have been resolved, which may take several additional weeks.
Upon finalization, the target then mails the proxy statement to its shareholders and files the final version with the SEC. State law, the target’s constitutional documents and rules of the applicable stock exchange will dictate the minimum length of time between the mailing of the proxy materials and the date of the target company shareholders’ meeting to approve the merger, but is typically 20 business days.
Assuming shareholder approval, the acquirer can then complete the merger rather quickly. Typically, such transactions close on the day that the shareholders approve the transaction, or on the following day.
Tender Offer
In general, a cash tender offer (see 2.1 Acquiring a Company) takes only 30 to 60 days to close after the time that the definitive documents are executed. In friendly transactions, tender offers are almost always made pursuant to a merger agreement between the acquirer and the target company, which sets the terms and conditions of the transaction. However, the timeline for any tender offer or one-step merger may be significantly impacted by regulatory clearances — e.g., antitrust and CFIUS.
U.S. federal securities laws and Delaware law applicable to tender offers do not require an acquirer that obtains a given threshold of the target company’s shares to make an offer for the remaining shares of the target company; see 4. Stakebuilding. However, a few states (e.g., Pennsylvania) have adopted “control share cash-out” statutes, whereby once an acquirer obtains control (i.e., exceeds a certain threshold of voting power) the other target company shareholders may make a demand on the acquirer to purchase their shares at a fair price.
When acquiring a company that is publicly traded in the U.S., the proposed offer may be in the form of an exchange offer (i.e., equity share offer), a cash offer or a combination of the two. Where the bidder is a private company or is not publicly traded in the U.S. — for a majority of acquisitions of U.S. publicly traded companies — the consideration included in the bid is entirely cash.
Where there is a significant gap regarding valuation of the target company, or in a deal environment or industry with high valuation uncertainty, parties may structure the purchase price such that they pay a lower price for the target company upfront, but then make certain specified additional earn-out payments when certain business milestones are attained. These milestones may be tied to sales, revenue or, in certain industries such as biotech, regulatory approval of products developed or owned by the target. Alternatively, the acquirer may offer some of its stock as part of the consideration (in combination with cash) so that target company shareholders pre-acquisition can indirectly benefit from the post-acquisition success of the target company.
6.4 Common Conditions for a Takeover Offer
Generally, tender offers will be conditioned on:
- tender of a certain minimum number of target company shares;
- receipt of applicable regulatory approvals and expiry of applicable waiting periods; and
- no injunction, government order or law prohibiting the transaction, and there being no material adverse change with respect to the target company.
In addition to the foregoing, a hostile tender offer will often require:
- removal of any anti-takeover defenses;
- receipt of financing needed to effect the transaction; and
- absence of a competing third-party tender offer.
However, the conditions must:
- be based on objective criteria and not be subject to the sole control of the bidder; and
- apply to the entire tender offer.
6.5 Minimum Acceptance Conditions
Generally, tender offers are conditioned on the target company’s shareholders tendering a certain minimum number of shares, usually a number of shares sufficient to approve the subsequent merger to squeeze out the remaining shareholders; see 6.10 Squeeze-Out Mechanisms. The specific percentage required is based on state law and the target’s governing documents, but is usually at least 50% of the shares plus one additional share.
6.6 Requirement to Obtain Financing
Historically, certain transaction in the U.S. had a financing condition precedent (CP) — i.e., if the acquirer is unable to raise financing between signing and closing, it will not be required to close the transaction. However, such standalone financing CPs are now rare. To mitigate financing risk, parties now typically negotiate respective covenants in terms of consummating the financing (or, on the part of the seller, co-operating with the financing process) and provide for termination rights and/or reverse termination fees payable by the buyer upon a financing failure.
A target can also expect to receive evidence of committed debt financing for the buyer at signing, and to have the ability to seek specific performance or other equitable remedy to enforce the buyer’s obligation to close the transaction if debt financing has been funded and other CPs have been satisfied.
6.7 Types of Deal Security Measures
In the U.S., the parties to the transaction may agree to a variety of “deal-protection” terms. While the target and acquirer need to negotiate such terms on a case-by-case basis, some common terms in the U.S. market are discussed below.
“No-shop” Clauses
“No-shop” clauses restrict the target company’s management and board of directors from soliciting any other bids or from providing any confidential information to any third-party bidders, in each case, subject to the board of directors’ fiduciary duties. These clauses typically permit the target company to entertain unsolicited proposals.
Break Fees
A break fee is payable to the acquirer if the target company’s board of directors’ recommendation is withdrawn or if the transaction is not approved by the target company shareholders due to another transaction that has been proposed by an interloper. In certain cases, a break fee may be payable by the acquirer in the event it fails to close the acquisition (“reverse” break fee).
Board or “Force the Vote” Commitments
These require the board of directors to submit the transaction to the target company’s shareholders for a vote, even if the board no longer recommends that shareholders vote in favor of the transaction.
Right to Match (or Top) Other Offers
If the target receives a third-party proposal, the bidder has the right to change the terms of its proposal to “match” or “top” the third-party proposal. See also 6.11 Irrevocable Commitments.
While the above mechanisms can help safeguard the success of an acquisition, state law imposes fiduciary duties on any target company’s board of directors which can limit the use of certain deal-protection terms and make it virtually impossible to “lock-in” a transaction.
Generally, unless the deal is signed and closed simultaneously, the transaction will involve interim operating covenants for the period between signing and closing. Interim operating covenants impose on the target the obligation to maintain the target business between signing and closing and to deliver it at closing without material impairment.
6.8 Additional Governance Rights
Generally, a large shareholder will seek governance rights and other protections of its stock in a company — e.g., a designation right to the board of directors and a consent right to changes to the target governing documents or material business transactions.
The bidder may also seek information rights — e.g.:
- appointing a non-voting board observer;
- requiring periodic financial information and reports about the company’s operations; and
- the ability to request certain information from the company.
The bidder may also look to obtain certain rights allowing it to exit its investment — e.g., requiring registration rights for the bidder’s shares or a drag-along provision allowing it to compel other shareholders to join a sale of the company’s shares.
Voting by proxy is generally allowed under state law, federal regulations and rules of applicable U.S. stock exchanges. The majority of shareholders of public corporations vote by proxy.
State law and the target company’s governance documents will generally set out requirements relating to:
- notice of the meeting/vote;
- record date for determining shareholders eligible to vote; and
- quorum and votes required.
SEC rules and regulations promulgated under the Exchange Act govern proxy solicitation of shareholders of publicly traded companies. These regulations provide additional procedural requirements and require certain information to be included in the proxy statement sent to shareholders as part of the proxy solicitation.
Lastly, the exchanges on which the target company’s stock is traded (e.g., New York Stock Exchange (NYSE) or the Nasdaq Stock Market (Nasdaq)) may impose additional timing and disclosure requirements. While the exchanges may require that certain nominees be able to vote on behalf of the beneficial holders of the stock, both NYSE and Nasdaq prohibit such voting for non-routine matters (e.g., M&A) without specific instructions from the beneficial holders.
In Delaware, a squeeze-out in the form of an intermediate form merger can be effected without obtaining stockholder approval following successful completion of a tender offer for at least a majority of the outstanding shares, provided the merger meets certain procedural conditions pursuant to Section 251(h) of the DGCL. Otherwise, 90% is the most typical threshold for short-form mergers and is the threshold set by New York and for squeeze-outs in Delaware, except following a tender offer as described in the foregoing sentence. In a friendly transaction, a “top-up” stock option may be granted by the target company to the acquirer, pursuant to which the target company would issue up to 19.9% of its outstanding shares to help the acquirer reach the short-form squeeze-out threshold. See 2.1 Acquiring a Company.
If, upon completion of the tender offer, the acquirer owns less than the minimum amount of the target company’s shares necessary to complete a short-form merger or does not otherwise meet the requirements of DGCL Section 251(h) as mentioned above, a long-form merger following the tender offer would be subject to shareholder approval. Since the acquirer should own the requisite number of the target company’s shares, such approval should be assured; see 6.5 Minimum Acceptance Conditions. However, the acquirer would still need to comply with state law procedures relating to the calling of a shareholders’ meeting and SEC requirements relating to proxy statements. Regardless of whether a long-form or short-form merger is utilized, appraisal rights may apply.
Prior to announcing a transaction, the acquirer may wish to execute agreements with the target company’s board of directors and senior management to ensure their support of the transaction and that they will tender any shares they own into a tender offer or vote in favor of a proposed merger. In some cases, if the target company has one or more significant shareholders, requiring such shareholders to sell their stock to the acquirer, to vote their stock in favor of the merger (and against any competing transaction) and/or to tender their stock into the tender or exchange offer is an effective way to “lock-up” the deal.
However, Delaware courts have struck down such lock-up agreements that absolutely preclude the target company’s shareholders from availing themselves of a more attractive subsequent offer. Further, with respect to commitments by directors, such commitments will be subject to the reasonableness review in light of the directors’ duties; see discussion of Revlon under 8.3 Business Judgement Rule.
7. Disclosure
For a tender offer, the SEC rules require that the acquirer file a Schedule TO (including an offer to purchase and related documents, such as a letter of transmittal). If the deal is only for cash consideration, the Schedule TO is relatively straightforward and, assuming advance preparation, is often filed on the day of (or shortly following) the announcement of the bid for the target.
For a merger, the parties will generally jointly announce the transaction when the definitive merger agreement has been entered into between the target and the acquirer. A publicly traded target company must disclose the material terms of the transaction, in a filing made with the SEC, within four business days of entry into the definitive transaction documents. Such material terms include (among others):
- price;
- break fees; and
- conditions precedent to closing.
To solicit the required shareholder vote for a merger, the target must prepare and file a detailed “proxy statement” with the SEC that complies with the SEC’s proxy rules. The proxy statement may not be disseminated to shareholders until the SEC staff has commented on it and all such comments have been resolved. Upon finalization, the target mails the proxy statement to its shareholders and files the final version with the SEC.
7.2 Type of Disclosure Required
To offer securities to the target company shareholders as consideration for the acquisition, such securities will need to be registered under the U.S. Securities Act of 1933 (the “Securities Act”), unless an exemption applies. A registration statement for registering the securities would include (among other information):
- risk factors;
- business descriptions;
- financial statements;
- management’s discussion and analysis of financial conditions; and
- transaction-specific information that would be required in a proxy statement or a Schedule TO, as applicable.
7.3 Producing Financial Statements
Whether a bidder needs to produce financial statements in its disclosure documents should be determined on a case-by-case basis. For example, there may be situations (e.g., an all-cash offer that is not conditioned on the bidder obtaining financing) where the financial condition of the bidder may not be material to the target company’s shareholders.
In a registered exchange offer or merger in which all or a portion of the merger consideration consists of securities, financial statement issues can add significant time and expense to the process to the extent that financial statements — both of the acquired business and pro forma for the combined company — may be necessary, depending on the magnitude of the transaction to the acquirer; as well as the requirement that financial statements filed with the SEC be prepared in accordance with U.S. generally accepted accounting principles (GAAP) or International Financial Reporting Standards (IFRS) as promulgated by the International Accounting Standards Board, or, failing those, with a reconciliation with GAAP.
Parties generally may not include transaction agreement schedules, exhibits or attachments that do not have terms that are material to the transaction or information that would otherwise be material to the shareholders’ investment decision; or can otherwise request confidential treatment for portions of filed transaction documents. Nonetheless, the SEC may still request such that materials be submitted to it confidentially. See 7.1 Making a Bid Public.
8. Duties of Directors
8.1 Principal Directors’ Duties
The directors of a Delaware corporation owe two core fiduciary duties to the corporation and to its stockholders: the duty of care and the duty of loyalty. In Delaware, the obligation of good faith underlies these two core fiduciary duties.
The duty of care requires directors to act in an informed and considered manner. Accordingly, directors must inform themselves, prior to making a business decision, of all material information reasonably available to them and, based on such information, must act with due care in discharging their duties. Generally, directors will be liable for a breach of their duty of care only if they are found to have acted with gross negligence.
The duty of loyalty requires directors to act without self-interest and in the best interests of the corporation and its stockholders. Directors must refrain from fraudulent conduct, self-dealing and actions intended to entrench themselves in office. Furthermore, directors may not take personal advantage of business opportunities at the expense of the corporation. Directors found to have breached their duty of loyalty may be subject to personal liability under Delaware law.
While the approach to directors’ duties in Delaware emphasizes “the primacy of the stockholder,” some other states permit, and even require, the board to consider interests of other constituencies such as employees, customers and suppliers.
8.2 Special or Ad Hoc Committees
Boards of directors will sometimes establish special or ad hoc committees, comprising independent directors, to negotiate the terms of potential business combinations. Such special committee of the board will often be formed where the majority of the directors are not independent (or are conflicted), or when a controlling shareholder stands on both sides of the potential transaction or will receive different consideration in the transaction or in any side agreement to the detriment of the other shareholders. A properly functioning special committee should select and retain its own independent advisers who are free of conflicts, and the committee must be fully informed, both regarding the terms of the transaction and in terms of diligence. To fulfil their duties, the directors on the committee must actively oversee the conduct of the transaction.
Under the “business judgement rule,” Delaware courts will presume that directors have satisfied their fiduciary duties if they have made their decisions in good faith, on the basis of a reasonable investigation and after careful consideration of all material factors reasonably available, in accordance with what they honestly believe to be the best interests of the corporation and its stockholders.
In applying the business judgement rule, Delaware courts do not measure, weigh or quantify directors’ judgements, nor will courts decide if they are reasonable in the usual context, but instead will only consider whether a rational decision-making process has been demonstrated.
However, Delaware courts will not apply the business judgement rule in certain contexts, and apply heightened standards of review as noted below.
Enhanced Scrutiny
Unocal: defensive measures
Prior to taking defensive action (see 9. Defensive Measures) against a threatened acquisition of control or takeover of the corporation, the board must — after a reasonable investigation — have reasonable grounds for believing there is a danger to corporate policy and effectiveness. Further, the directors must show that the action taken was “reasonable in relation to the threat posed.”
Revlon: sale or break-up of the company
If the board of directors authorizes the sale of control or break-up of the company, the directors have a duty to seek the highest value reasonably available. This (Revlon) duty will generally be triggered if:
- a company initiates an active bidding process seeking to sell itself or to effect a business reorganization involving a clear break-up of the company; or
- in response to a takeover proposal, a company abandons its long-term strategy and seeks an alternative transaction involving a break-up or sale of the company.
If the Revlon duty is not met, the board decision will be reviewed under the more exacting standard of entire fairness (discussed below) instead of the business judgement rule.
Entire Fairness: Conflicts of Interest
The presumptions of the business judgement rule will not automatically apply to transactions involving conflicted directors or a controlling stockholder. However, Delaware law may provide for a “safe harbor” for such transactions whereby such transactions may get the benefit of business judgement rule review if the transaction is conditioned up-front on:
- approval by a majority of a fully informed, disinterested special committee of directors (see 8.2 Special or Ad Hoc Committees); and
- informed approval by the majority of disinterested stockholders.
Otherwise, the transaction may still be upheld if the interested director or controlling stockholder can demonstrate that the transaction satisfies the more demanding standard of “entire fairness” (i.e., “fair dealing” and a “fair price”).
8.4 Independent Outside Advice
A target company board will generally engage external legal and financial advisers, and may also engage external accountants and consultants in consideration of a potential business transaction. A director can rely on such outside advisers, and consideration of robust advice from such advisers is important for demonstrating satisfaction of the director’s fiduciary duties. Target company boards generally also request a “fairness opinion” from the financial advisers on whether, from a financial standpoint, the proposed consideration is fair.
Judicial scrutiny of conflicts of interest between principals and their advisers is a point of focus, in particular when the target’s financial adviser also seeks to provide acquisition financing to the acquirer or when they may potentially favor one acquirer over another. The board of directors should educate itself on areas of potential conflicts of interest (and perceived conflicts of interest) and should carefully supervise and manage selection and conduct of its outside advisers.
9. Defensive Measures
Even though hostile tender offers are permitted in the U.S., they are significantly less common than negotiated or “friendly” tender offers. Because the board is able to deploy various anti-takeover defenses (see 9.3 Common Defensive Measures), even an initially unsolicited bidder may find it necessary or more advantageous to negotiate with the target company’s management to increase the likelihood of completing the transaction. Additional factors that encourage negotiated transactions include the fact that negotiated transactions are usually completed more quickly and provide for lower transaction risk for the hostile bidder, including the ability to have access to non-public due diligence materials.
9.2 Directors’ Use of Defensive Measures
Available defensive mechanisms have the effect of encouraging acquirers to negotiate with management and of discouraging certain hostile activities, subject to the board of directors’ fiduciary duties. Ultimately, the target company’s board of directors may remove most obstacles to an acquisition, and they may be required to do so if they believe their fiduciary duties to the target company and its shareholders so require; see 8. Duties of Directors.
Statutory Anti-takeover Defenses
State law may include certain anti-takeover provisions, such as provisions authorizing the board to adopt poison pills or provisions regarding control share acquisition, business combination statutes, fair price statutes and constituency provisions that expand the board’s ability to defend against a takeover.
Poison pills
These adopt shareholder rights plans or “poison pills,” which when triggered cause rights to be issued to all shareholders (other than an acquiring person), when an acquiring person crosses a specified threshold (generally between 10% and 20%). These rights would allow each shareholder (other than the acquiring person) to acquire stock of the target company at a substantial discount, thereby substantially diluting the ownership of the acquiring person.
Control share acquisition statutes
These limit the ability of acquirers to vote regarding more than specified percentages (e.g., 20%, 33% and 50%) of the target company’s shares, unless the acquisition of the shares was approved by the other target company’s shareholders.
Interested shareholder or business combination statutes
These prevent acquirers from entering into business combinations with a target company or from acquiring more shares of the target company if they have exceeded a specific ownership threshold (typically 15%) unless that acquisition received prior board approval or the acquirer receives a super-majority vote of the other shareholders of the corporation.
Fair price statutes
A bidder is required to pay all shareholders a “fair price,” usually defined as the highest price the bidder paid for any of the shares it acquires of a target company during a specified period of time before the commencement of a tender offer.
Constituency provisions
These permit a target’s board discretion in discharging their director duties by allowing it to consider other corporate constituents (e.g., employees, customers, suppliers and creditors) and other community and societal considerations in responding to a takeover proposal.
Provisions Against Bidder Control
In addition to the statutory anti-takeover defenses, the organizational documents of the target company may contain various provisions that allow a board to defend against a takeover:
- restricting shareholders from taking action (or removing the board) by written consent or calling a special meeting;
- requiring shareholders to provide advance notice of business that they intend to present at a shareholders’ meeting;
- providing for a classified or “staggered” board and cumulative voting for election of directors;
- allowing the board the sole authority to fix the size of the board and fill vacancies;
- imposing a “fair price” requirement;
- requiring a super-majority vote for various actions, such as amending constitutional documents or approving a merger; and
- allowing for issuance of blank check preferred stock.
Additionally, a target company may make the hostile takeover less attractive to the bidder by:
- increasing the regulatory risk through its engagement with regulators;
- incurring additional debt, providing for additional stock issuances and other changes to its capital structure; and
- soliciting bids from other potential acquirers or even suing the bidder.
See 8.3 Business Judgement Rule.
9.5 Directors’ Ability to “Just Say No”
Subject to directors’ Revlon duty (sale or break-up of the company) and other fiduciary duties (see 8. Duties of Directors), directors generally have the authority to “just say no” to a proposed business combination (but not “just say never” under certain circumstances). Although the board of directors’ use of defensive measures may be subject to heighted review, the decision to say no should likely fall within the protections of the business judgement rule; see 8.3 Business Judgement Rule.
10. Litigation
Litigation by shareholders is very common in relation to acquisition of public companies in the U.S. However, it is relatively uncommon for such litigation to completely derail transactions, due in part to:
- federal and state (largely Delaware) court decisions limiting the use of “disclosure only” settlements whereby plaintiffs seek to obtain additional information and legal fees; and
- Delaware courts’ continued expansion of steps to be taken to provide for application of the business judgement rule in an M&A transaction, making it easier for the target company to win dismissal before plaintiffs seek discovery.
Potential litigants have continued and are expected to continue to look for alternative paths in disputing M&A transactions.
Under Delaware law, stockholders who do not vote in favor of a cash merger are generally entitled to an appraisal by the Delaware Court of Chancery of the fair value of the stockholder’s shares. No appraisal rights are available if the merger consideration consists solely of shares of U.S.-listed stock.
While appraisal actions have historically been common, recent decisions by the Delaware Supreme Court give significant weight to market-based indicators of value (e.g., the target company’s stock price or the transaction price) in the absence of showing that the target’s stock trades inefficiently or that there was no robust sale process.
Litigation is usually initiated shortly (usually a matter of days) after the transaction is publicly announced. The timing is mainly driven by the following.
- Lawyers wanting to be first to file and therefore being designated as “lead counsel” for shareholders challenging a transaction (as a class). However, courts are increasingly appointing “lead counsel” based on the party best positioned to be the shareholder class representative.
- Dissenting shareholders having more negotiating power prior to closing of the transaction; and a common route is for them to ask for a court to enjoin the transaction.
Due to the recent pandemic, target companies have insisted on certain exceptions to interim operating covenants that allow them latitude in responding appropriately to a changed business environment between signing and closing (see 6.7 Types of Deal Security Measures) as well as carve-outs for pandemic effects in the definition of “material adverse change.”
11. Activism
Shareholder activism continues to be an important market force — both traditional operational/financial activism and an increase in campaigns targeting broad environmental, social and governance (ESG) (or more recently anti-ESG) issues. Recent and prospective regulatory developments and the uncertain political landscape may also accelerate the number of campaigns that incorporate ESG issues. Certain sectors, including technology and healthcare, have seen a high concentration of activist activity in comparison with other sectors.
Even with recent decreased general M&A activity, M&A-focused activist campaigns have continued to form a substantial portion of activism campaigns, as activists seek to cause public companies to put either themselves or a business division up for sale in response to perceived underperformance.
11.3 Interference with Completion
With increased scrutiny on companies’ M&A strategies, activists have continued to launch campaigns on pending transactions with an aim of potentially recutting deals, with respect either to the purchase price or to other transaction terms.
In Other News
Read past issues of our U.S. M&A Newsletter here. We thought you might also find the following articles featuring our Linklaters colleagues useful.
