Untangling a Multi-Jurisdictional Transaction: Be Prepared!
By James A. Grayer and Jodi Rosensaft, Kramer Levin
The phone in your office rings—the principals of a longtime client tell you that they are ready to sell their business.
You have worked with this particular longtime client over the years as it has grown from a small start-up to a global business with operations in several different countries, including the United States, several countries in Europe, and several countries in Asia. Your longtime client’s principals explain that none of the next generation wants to continue in the family business and it is time to sell.
As you have been their trusted adviser over the years, they want you to handle the sale. You, of course, say you would be delighted to represent them; already in the back of your mind you are thinking about how to structure the transaction to be most efficient from a tax perspective as well as how to most successfully protect your client from post-closing liability and related indemnification claims, all the while getting them the highest purchase price possible.
You ask the principals to send you the term sheet they have been discussing with a potential buyer. You tell them not to sign the term sheet until you and your team have had a chance to review it and you hang up the telephone.
Whether reviewing a single term sheet with a prospective buyer or considering a variety of indications of interest from bidders in an auction setting, the first thing you need to do is to think about structuring the transaction.
The work that you do at this stage of the deal may be the most important work you do during the entire transaction, and yet it may not appear to you or your client to be producing tangible work product despite the billable hours you and your team spend to analyze the situation and come up with the ideal transaction structure. The work that needs to be done is to determine what structure maximizes the client’s goals, including price maximization, risk mitigation, and tax efficiency.
These important goals likely will produce competing outcomes, so one of your tasks will be explaining these competing forces to your client and getting the client’s views on the relevant priorities. In order to accomplish this task you will need to understand, at the very least, the following:
- What are the relevant jurisdictions involved in the transaction?
- What assets/operations are located in each jurisdiction and what is the value and tax basis of each significant asset or operation?
- What type of corporate entity exists in each jurisdiction and how is each such entity treated for tax purposes (e.g., are they passthrough entities or corporate-type entities)?
It is of paramount importance that you then assemble an appropriate team to review the information in order to determine the most desirable structure. Your team will need to include in-house representatives of the client (both business and, if applicable, legal) and outside professionals. To the extent the client has an internal legal adviser, you will want to include that person. You will also want to include someone from the client’s financial team, preferably someone who has a good understanding of the nature and scope of the operations and who also understands the tax treatment that has been historically used for the relevant entities and assets.
The next group is the outside advisers. You will need to involve the client’s outside audit/accounting firm as well as tax experts from your firm (if you are not personally a tax lawyer) or from some other firm if your firm does not have such internal expertise. Any tax expert involved must have familiarity with multi-jurisdictional transactions. In addition, it is likely that the client’s outside auditors/accountants will want to obtain advice from their offices or affiliates in the various relevant local jurisdictions.
In a multi-jurisdictional, cross-border transaction, you will also want to make sure to involve legal experts who have experience in the jurisdictions in which your client has significant assets or operations, as local rules are often overlooked until such local rules create major deal issues later on in a transaction. You will want to make sure you have a team that can provide you with an understanding of the basic regulatory and corporate requirements/formalities that are going to be necessary in each relevant jurisdiction. These requirements/formalities include things like:
- the general process for the transfer of assets or securities in such jurisdiction;
- what regulatory filings/approvals/clearances will be required by the various levels of foreign government and regulatory authorities (including under applicable antitrust and competition laws), as well as the timing for such processes;
- what documentation will be necessary to effectuate a transfer;
- what formalities apply for the execution and delivery of such documentation (e.g., whether documents will need to be executed in person before a local notary versus those that may be executed in counterparts and delivered from overseas; whether originals being delivered to a foreign jurisdiction will require notarization and, if applicable, an apostille from the local secretary of state in order to certify its authenticity), and what the timing requirements are for such process; and
- whether the contemplated transfer and/or documentation will need to be publicly recorded with any governmental or regulatory authority and the timing requirements for such process.
The applicable corporate formalities and required regulatory approvals will impact the structure of your transaction as well as the timing of its closing, as there will likely be several layers of foreign approval processes that will undoubtedly move at differing speeds but will nevertheless be gating items to the ultimate consummation of the global transaction. In addition, local laws and formalities may have an impact on the overall transaction structure.
For example, certain jurisdictions have restrictions on foreign ownership of certain types of assets or foreign leasing of local real property. Consider the case of a U.S. corporate target with subsidiaries all over the world, including a subsidiary in this type of restrictive jurisdiction. The parties may be contemplating structuring the overall transaction as an asset sale, but in such a case, if the buyer does not itself have a local subsidiary in the relevant jurisdiction, it may be advantageous for the buyer to acquire the securities of the local target subsidiary (such that the buyer continues to operate through a local entity) rather than acquiring the local subsidiary’s assets (in which case the buyer may be in danger of running afoul of local regulations).
In addition, it is imperative to involve legal and tax advisers that understand the applicable tax regulations in the relevant jurisdictions, as tax efficiency is often the lead driver in structuring a transaction.
Back to our example of a U.S. corporate target with subsidiaries all over the world—it may make sense to structure the deal as one global transaction governed by a single main purchase agreement, whereas it may be more advantageous to structure the deal as a series of separate jurisdiction-specific transactions governed by separate purchase agreements but with the consummation of each transaction being conditioned upon the consummation of all of the other transactions.
A seasoned team of legal and tax professionals can help a client navigate the perils and pitfalls of multi-jurisdictional, cross-border transactions in order to arrive at a transaction structure that is mutually beneficial to all parties.
Follow the Money
Understanding where the cash is and where you want it to end up can also be crucial for structuring a multi-jurisdictional transaction. Repatriating cash back into the United States from abroad creates many issues, both on the domestic United States side, where high taxes are likely to be imposed, as well as in the foreign jurisdiction where the cash currently resides, as that jurisdiction may have special regulatory requirements (for which compliance can be burdensome, costly, and time consuming) and in particular may impose high export taxes that may turn out to be cost-prohibitive.
In the context of structuring a multi-jurisdictional transaction, addressing issues related to the movement of funds are often overlooked and yet can represent a significant economic deal point.
Or … Location, Location, Location
The key to structuring any transaction, and in particular complex multi-jurisdictional transactions, is to be creative. The primary drivers in structuring merger and acquisition transactions are typically tax and risk/liability mitigation; however, the tax efficiencies and risk mitigation strategies may vary from jurisdiction to jurisdiction—what works best in the United States may not work best in China, Europe, Turkey, etc.
Do not rule out doing hybrid transactions or separate transactions. You may find that, in your particular circumstances, an asset sale works best in one jurisdiction while a stock sale works best in another. You might find it most efficient to structure a single, global transaction governed by a global purchase agreement, or you may find that you need to have a series of stand-alone transactions, each governed by their own separate documentation. Be creative, be flexible, and be thoughtful!
One critical factor that also should be considered is the timing for closing your transaction, particularly if you want or need to close prior to a year-end or prior to any particular date. Most M&A lawyers experienced the time crunch of trying to close an unusually large volume of deals in December 2012, as clients feared the worst in facing the fiscal cliff and changing tax rates.
Key gating items to closing a multi-jurisdictional transaction are the various governmental and regulatory filings, notices, consents, approvals, and clearances that may be required. In your planning, you should understand what jurisdictional filings will be necessary.
For example, in many jurisdictions, such as China, transfers may need to be approved and/or registered on both the national and local levels. When contemplating a transaction in the European Union, will you need to file with the European Commission or will you need to file locally in any EU-member countries?
For each regulatory approval, you should understand the timing of the process, which party in a transaction is responsible and what information is required. You should then prepare a time line so that you know what milestones you have to hit to achieve your timing goal and work backward to make sure you plan enough time into your schedule to meet the necessary milestones.
In the planning stages, you should build in additional time for local counsel to perform the appropriate analysis in order to determine which filings and/or approvals are required, such as whether there exists sufficient overlapping sales or turnover by target and buyer in any relevant jurisdiction that would require approval or clearance under applicable competition laws.
Know Thy Enemy
To the extent possible and prior to any discussions with the potential buyer, try to gain an understanding of the buyer’s structure and where it has significant assets, operations, and subsidiaries. If the buyer is a public company, take a look at its public filings. For example, the buyer may be more willing to buy the stock of your Turkish entity if it does not have a Turkish presence but has Turkish customers or business sourced through Turkey.
Also, if possible, determine where the buyer might need cash in order to use that information to structure a mutually advantageous transaction. For example, consider a U.S. target with a subsidiary in China that has a significant amount of renminbi (RMB) on the balance sheet—the target would rather have the funds in the United States, but Chinese regulatory approval is required to take cash out of the country. If the buyer needs cash in China, the parties could potentially negotiate a transaction that results in the buyer obtaining the balance of RMB with transaction payment in U.S. currency, as opposed to payment in RMB that the target would then have to try to repatriate from China to the United States. For example, a buyer could acquire the stock of the Chinese subsidiary (including all of its assets, bank accounts, cash, cash equivalents, etc.) from the U.S. parent, with the consideration paid to the U.S. parent in U.S. currency.
More often than not, in the context of a multi-jurisdictional transaction, the interests of buyer and seller are actually aligned—discovering common interests among the parties facilitates a cooperative negotiation atmosphere where the parties can work together to achieve common goals.
Negotiating With the Other Side
At this point, you have your ideal structure in mind by understanding what will work best for your client and you have done some “homework” on what will work best for the buyer; you are now ready to negotiate with the buyer on structure. While it would be ideal if you could get the transaction structured exactly as you want, the buyer is likely to have some countervailing views on what structure optimizes the value of the transaction on the buy-side. It is important that you (or whomever is the principal negotiator) understand the basis for the structure you are proposing and, in particular, where there is “give” in your proposal in order to effectively negotiate a mutually acceptable structure (and corresponding purchase price).
Given the current environment, we have found that most buyers want to buy businesses through asset purchases. The common reasons for this preferred structure are often tax efficiency (e.g., to get a step-up in basis of the assets acquired) and risk mitigation (e.g., to leave the liabilities with the seller and start fresh with a new entity).
As you are likely aware, the largest practical complication related to an asset sale structure is the need to get consents from third parties that otherwise might not be required if the transaction were structured as a stock sale. As the buyer is likely to put the responsibility of getting consents on the seller, it is a practical concern that needs to be reviewed by the seller.
As such, you should consider in your planning discussions how an asset sale transaction would impact your client and, if you can agree to this structure, what concessions you can get for such agreement.
Once you and the buyer have agreed on a structure and a price, the easy part of the transaction can commence—the negotiation of the actual transaction documents! All kidding aside, putting the time and effort in up front and making sure that the proposed transaction works for all parties from both an economic and structural perspective will make the negotiations of the definitive transaction documents easier as well as save you time (and save your client money!) during the negotiations.
It can be extremely helpful to the process to have all parties agree on a detailed, non-binding term sheet prior to drafting the definitive transaction documents in order to ensure that the parties are on the same page, so to speak. A detailed term sheet and structure chart will confirm that all parties share a common understanding of the agreed-upon transaction structure and will expose any miscommunications or misunderstandings. As you will probably agree, it can be very frustrating for all involved to progress through lengthy negotiations and document turns only to find that there is a fundamental disconnect between buyer and seller on a major deal point.
The Best Laid Plans
If there is only one piece of advice you take away from this article, we hope it is that creative, upfront planning by a seasoned team including the client, lawyers, and accountants is crucial to getting a successful deal done for your client.
James A. Grayer is a partner in Kramer Levin‘s Corporate Department, resident in the New York office, where he counsels clients on mergers and acquisitions, securities and investment transactions, as well as providing general corporate counsel. He can be reached at email@example.com.
Jodi Rosensaft is an associate in Kramer Levin’s Corporate Department, resident in the New York office, where her practice focuses on corporate and financial transactions, with particular emphasis on mergers and acquisitions, licensing matters, and private equity transactions. She can be reached firstname.lastname@example.org.
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