Presenting a live 90-minute webinar with interactive Q&A M&A Escrow Agreements: Negotiation & Drafting Strategies Structuring Contract Terms, Dealing With Escrow Agents, Avoiding Conflicts With Acquisition Agreements WEDNESDAY, MARCH 11, 2015 1pm Eastern 12pm Central 11am Mountain 10am Pacific Today s faculty features: George Colindres, Senior Counsel, Perkins Coie, Los Angeles Paul Koenig, Managing Director, Shareholder Representative Services, San Francisco Alex Tsarnas, Managing Director - Global Business Development, SRS Acquiom, New York The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 10.
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M&A Escrow Agreements: Negotiation & Drafting Strategies CLE Webinar George Colindres Perkins Coie Senior Counsel gcolindres@perkinscoie.com Paul Koenig SRS Acquiom Founder, co-ceo pkoenig@srsacquiom.com Alex Tsarnas SRS Acquiom Managing Director, Global Business Development atsarnas@srsacquiom.com
I. Current Trends: M&A Escrow Agreements > Changing Banking Regulations Impact on Escrows > With the recent Cigna vs. Audax decision, there may be a trend towards larger escrows > No significant changes in the size, duration, prevalence or terms of typical escrow arrangement > In competitive bidding situations, buyers might make offers with smaller/shorter escrows; might buy insurance to fill gap > R&W insurance and payment in full at closing remain as the exception > Expense funds are now included on virtually all deals Page 6
Changing Banking Regulations - Impact on Escrows Page 7
Changing Banking Regulations - Impact on Escrows > January 1, 2015: Selection of Investment alternatives for Escrows became more complex - New regulations will be phased in during 2015 and 2016 - Escrows last 12-24 months affects decisions made today > Money Market Accounts - Changing liquidity coverage ratio rules make deposits less attractive > Money Market Funds - New Floating NAV reporting requirement - SEC adopted July 23, 2015 - Now affects all MMFs, when historically it didn t - Most important change on Oct 14, 2016 (the Effective Date) - Liquidity fees of up to 2% of the amount of any redemption > Treasury Funds - Anticipated supply-demand imbalance - Subject to same redemption limits and liquidity fees as MMAs/ MMFs Page 8
Private Mergers after Cigna v. Audax What can buyers do after Cigna v. Audax to address a more limited ability to bind non-party stockholders? - Increase escrow coverage - Focus on obtaining support agreements and/or joinders - Consider creating hooks in merger agreement to the desired stockholder undertakings - Consider making merger consideration ascertainable to a greater degree by limiting indemnity in time and/or duration - Depending on degree of risk, buyers might consider more aggressive measures Page 9
I. Current Trends: Claims > Two-thirds (67%) of expired-escrow deals have material post-closing issues - 18% of expired-escrow deals have at least one claim made in the final week of the escrow period - 12% of deals with a claim have at least one claim that resulted in litigation or arbitration - 21% of expired-escrow deals with claims have claims exceeding half of the escrow > Claims types fall largely into three groups: - Breach of R&W - Purchase Price Adjustment - Fee/costs Page 10
Escrows/Holdbacks as a Percentage of Transaction Value Subset: 2013 deals with escrows/holdbacks* Average Median Minimum Maximum 11.8% 10.0% 2.0% 31.5% * 97% of deals included an escrow or holdback for general indemnification purposes. Data does not include special escrows. Page 11
Correlations: Transaction Value and Escrow Size Data set: All deals closing in 2010 2013 Transaction value vs. Escrow size (deals over $800MM hidden) Each point is a deal; linear fit line in blue * Equity capital investment data provided by S&P Capital IQ. Page 12
Special Escrows Subset: Deals with separate escrows/holdbacks for specifically identified matters* Deals with special escrows Frequency of special escrow types Subset: 2013 deals with special escrow(s) included ** * Excluding shareholder representative expense escrows. ** Deals may include more than one special escrow. Page 13
Expense Funds Data set: all deals Deals including an expense fund Expense fund notes > Median size = $200,000 > Expense fund accounts slightly larger in deals with earnouts - 3% of transaction value for deals without an earnout - 5% of transaction value (not counting the potential value of the earnout) for deals with an earnout > Expense fund usage - 42% used some portion of the expense fund in completed deals - 20% average amount, when used Page 14
Post-Closing Purchase Price Adjustments ( PPAs ) Adjustment direction Key figures > 73%: deals with a PPA mechanism > 46%: deals where the PPA statement was delivered after the contractual deadline > 3%: median PPA claim size, as a percentage of a deal s total escrow dollars, when buyer-favorable adjustment - The average was 10% of escrow, swayed by a number of large claims > 33%: average PPA claim reduction due to negotiation - The average time to resolve a contested PPA claim was 2.5 months Page 15
Claim Types and Subject Matter Data set: claims across all deals (open and completed) Claim subject matter as % of all claims (~700 claims) Subset: breaches of R&W (~ 400 claims) * Claims pursuant to a post-closing purchase price adjustment mechanism (e.g. working capital). Page 16
Claim Sizes Generally Data set: claims across all deals (completed and ongoing) Claim size breakdown (median: $140k) Average claim size as % of escrow Page 17
Claim Activity Based on Buyer Type Data set: claims in deals with expired escrows Claim frequency based on buyer type Claim size based on buyer type * Including deals with no claims. Page 18
Ultimate Payouts Data set: escrows in completed deals Ultimate payouts of general indemnification escrows * * Excludes escrows set aside for special purposes, e.g., working capital adjustments or known issues. Page 19
II. Key Provisions in Escrow Agreements Terms negotiated between buyer and seller - negotiated at M&A agreement > Obligations covered by escrow - Typically indemnification obligations. - Sometimes also purchase price adjustments or earn outs. > Amount of escrowed funds > Length of escrow period > Selection of escrow agent > Responsibility for payment of escrow agents fees > Who represents the sellers? Page 20
II. Key Provisions in Escrow Agreements Terms negotiated between buyer and seller - negotiated at escrow agreement > Segregated accounts? > Investment of escrowed funds > Mechanism for payment of buyer claims > Timing of release of escrowed funds to seller > Ownership of escrowed funds for tax purposes > Removal of escrow agent; selection of replacement escrow agent > Assignment Page 21
II. Key Provisions in Escrow Agreements Terms negotiated with escrow agent > Liens; right to set off > Indemnification obligations to escrow agent > Escrow agent s ability to assign the escrow agreement; resignation of escrow agent > Tax reporting > Jurisdiction and venue Page 22
III. Considerations: Drafting & Negotiating Escrow Agreements > Addressing Know-Your-Customer (KYC) Requirements Early > Avoid Improper Lock-up of Escrow Funds > Ensure Clear Procedures for Release of Escrow Funds > In Cross-border Transactions, Watch out for FBAR Page 23
Addressing Know Your Customer (KYC) Requirements Early > Typically each party to escrow agreement must comply with bank s KYC > Can be burdensome and time-consuming > Compliance departments often issue follow-up requests for more info > For non-u.s. entities, nature of requests and processing time can be greater > Action: proactively clear bank s KYC process early to avoid last minute rush that could delay closing Page 24
Avoid Improper Lock-up of Escrow Funds > Clearly define what constitutes a third-party claim - Do not permit vague concerns about future liabilities (not yet materialized) to block release of funds. > Buyer should accrue potential losses on balance sheet > Specify time limit during which buyer must hear from third party before claim is deemed dormant Page 25
Ensure Clear Procedures for Release of Escrow Funds > Option 1: Joint written instructions. - Pro: simplifies matters for escrow agent; simpler to negotiate - Con: gives buyer leverage to delay releases, whether intentionally or just being slow > Option 2: Automatic release of escrow funds by escrow agent at end of escrow period (less funds set aside for pending claims). - Pro: funds released without delay - Con: can prompt escrow agent comments during negotiation > In any event, clearly define how funds are to be released under each possible circumstance Page 26
In Cross-border Transactions, Watch Out for FBAR > Certain accounts domiciled outside U.S. may require compliance with Report of Foreign Bank and Financial Accounts (FBAR) regulations > Penalties for non-compliance can be severe - Forfeiture of up to greater of 50% account value or $100,000 - Possible criminal penalties > Domicile may not be apparent - E.g., If escrow fund held at a US bank is actually held in Hong Kong branch, account may be subject to FBAR Page 27
SRS Acquiom at a Glance > Continuous innovation in managing post-closing activity in private M&A - Created professional shareholder representation in 2007 - First online platform for payments administration: Acquiom Clearinghouse - Patented method applied to first escrow products designed for M&A > Global leader: 800 deals with $130B in value - 80K shareholders in 44 countries, including 500 VC and Private Equity funds - Over 70 professionals > Three lines of business: - Shareholder Representation - Escrow Solutions - Acquiom Payments Solutions Page 28
SRS Acquiom Data Resources Currently Available > 2013 SRS M&A Post-Closing Claims Study > 2012 SRS Life Sciences M&A Study > 2014 SRS M&A Deal Terms Study > Newsletters Subscribe to receive resources: srsacquiom.com/newsletters Page 29