Below are some common terms and phrases often used within the Mergers and Acquisitions industry and the wider corporate advisory world, with a ‘plain English’ explanation of what they actually mean to you.
The difference between a ‘Share Sale’ and a ‘Goodwill and Assets Sale’
In a Share Sale the Buyer will be purchasing the entire issued Share Capital of the limited company from the existing shareholders. The company is its own legal entity, and the amount that is paid for those shares will go direct to the equity shareholders. In this scenario,
the Seller should be subject to capital gains tax and may qualify for Entrepreneurs’ Relief provided they have met the relevant criteria.
From the 6 April 2008, Entrepreneurs’ Relief was introduced as a capital gains tax concession on qualifying business disposals, providing a 10% tax rate on business sales up to a maximum lifetime allowance of £10 million. A flat capital gains tax rate of
28% applies in other cases. This is why as a Seller it is important to seek the right tax advice from an expert pre-sale to try and minimise tax exposure. As a Buyer, understanding the various complex methods of structuring a deal in order to limit the Vendor’s tax position can have financial benefits to both parties.
In a Goodwill and Assets Sale the Buyer purchases part or all of the company’s assets and calculated goodwill from the company entity, not the Seller. The ownership of the company does not change, with any funds received going to the company itself. An important point to remember is that the company will be taxed on any gain and the owners might well then be taxed again when they choose to extract the funds from the company. Despite the tax repercussions, this method is regularly used as it is a simpler procedure which has benefits from a potential liability perspective to the Buyer, whilst allowing the Vendor to achieve a comparable quick sale.
Alternative Investment Market or AIM
Part of the London Stock Exchange, AIM offers a more flexible and regulatory regime than a listing on the main market and access to a wide pool of capital for growing companies.
These are high net worth individuals who provide seed capital to young companies in exchange for equity stakes. Over the past few years, due to difficulty in securing funding from traditional banking routes, this option has become more commonly utilised for start-ups as well as companies experiencing fast growth. Angels can often be found through websites such as Funding Circle (www.fundingcircle.com) and Thin Cats (www.thincats.com).
These are provisions in an Investment Agreement that protect the shareholders’ shares from dilution as the result of the later issue of shares at a lower price than that paid by the investor.
Bad Leaver Provisions
These provisions are built into the Articles of Association of a company or the Shareholders Agreement, often stipulating that if a shareholder that is an employee or director resigns under any circumstances, or is dismissed for valid reasons (such as gross misconduct), then they must sell their shares for a pecuniary amount to the existing shareholders. This is typically used by private
equity or investment consortia to protect their investment by ‘tying in’ the Vendor.
This acronym stands for ‘Buy-In Management Buy-Out’. This is where an external individual or company will, alongside the existing management team, facilitate a buy-out of the current Vendor.
Capitalisation Table (Cap Table)
This is a table (often a spreadsheet) listing all the shareholders and holders of options and any other securities, with the respective number of shares, share options and any convertible securities held.
Cap and Collar
A mechanism used to fix interest rates on loan agreements within an agreed range of interest rates.
The total sum (including cash, shares and other benefits) paid by a Purchaser to a Vendor for the business.
This ratio indicates the number of shares that can be acquired upon exchange of a convertible security. For example, the number of ordinary shares into which preferred shares are convertible.
These are undertakings as detailed in the Share or Business Purchase Agreement or Investment Agreement given by the Seller to the Buyer or Investor either to do or not to do certain things post sale.
This is a type of loan which is usually secured, often with a fixed or floating charge attached to it. Typically, if the company has a loan, overdraft, or utilises Factoring or Invoice Discounting, then the bank or finance company providing the facility will have a Debenture over all of the company’s assets, including real property, fixed assets and debtor book. Often the Vendor will also be required to provide a Personal Guarantee.
Deed of Adherence
An agreement that new or existing Purchasers of shares may be required to sign, binding them to the terms of an Investment or Shareholders Agreement.
This is an element or percentage of the total consideration for the business, which is scheduled for payment at some point in the future.
A Deferred Payment is not linked to any future performance criteria of the company, though it is commonly used by a Purchaser in conjunction with an Escrow Account where concerns have arisen from Due Diligence relating to risks which will not be settled until after completion. Deferred Payments may be secured or unsecured.
The Disclosure Letter is the Seller’s opportunity to set out exceptions to specific representations and Warranties detailed in the Sale and Purchase Agreement. Once the information has been disclosed and the Buyer confirms they are still happy to proceed on that basis, the Buyer cannot then in the future make a claim under those Warranties in respect of the disclosed matter. Sellers should
be wary however of ‘hiding’ this information until the Disclosure Letter, as this may damage the relationship with the Buyer and develop mistrust, increasing the probability of the Buyer withdrawing at this late stage.
Discounted Cash Flow
An investment appraisal technique which takes into account both the time value for money (net present value) and also the total profitability of a project over the life span.
Drag Along Rights
Rights granted to investors in a company which entitle the investor to force an exit through listing, flotation or sale of the entire issued share capital of the company at their discretion in the future.
This is the stage in the process, after a formal offer and Heads of Terms have been agreed, that the Purchaser will review the company in full detail, often for the first time. Due Diligence is formed of four core elements – Legal Due Diligence, Operational Due Diligence,
Property Due Diligence and Financial Due Diligence.
This is the most common form of profitability by which SME businesses are valued and the acronym stands for Earnings Before Interest, Tax, Depreciation and Amortisation. “Adjusted EBITDA” is EBITDA as adjusted (up or down) for exceptional or non recurring items. Historic EBITDA is often used as a guide to future performance.
The total value of the business determined by reference to the application of an EBITDA multiple to the EBITDA before deducting total
A timeframe during which the Seller has agreed with the preferred Purchaser not to market the business to any other party, nor entertain any unsolicited offers from other confirmed interests. Typically this will be a clause within the Heads of Terms, ranging from
30 to 90 days. Prior to signing therefore it is critical that the Seller is confident that this offer is the best available.
Also known as an Initial Public Offering or IPO. This is where the shares of the company are listed on a public market.
These are the shares issued to the founders of a company, typically at a lower price in comparison to that paid by investors.
This refers to the borrowing within the business, usually expressed as a ratio to equity or a percentage of shareholder funds.
Heads of Terms / Heads of Agreement
The Heads of Terms or HOTs are a brief document which outlines the main aspects of a transaction once both the Buyer and Seller have agreed the initial offer. The document should detail the total consideration payable, the payment terms and any deferred payments or performance related criteria, and also the ongoing requirements of the exiting shareholders. Generally the document is not legally enforceable, save for clauses relating to confidentiality and English law.
If an onerous liability is highlighted during or on completion of the Due Diligence process, then the Buyer could seek an Indemnity which would be included in the Sale and Purchase Agreement. An Indemnity is protection for the Buyer that if a specific liability crystallises
after Completion, then the Buyer will have an immediate right to recover the losses incurred, plus any legal costs required to enforce the Indemnity. Indemnities tend to be more specific than Warranties as they are relating to actual facts raised in Due Diligence and therefore the claims amount may be larger than claims from standard Warranties.
This is the document which will be utilised to attract interest from potential parties during the marketing phase of the sale. The document should contain details referring to the company’s history and legal status, ownership, operational capabilities, staffing, assets and financial performance both historic and forecasted. Ensuring this document is professionally presented, accurate and independently analysed and produced is crucial.
Internal Rate of Return (IRR)
The annual gain realised on an investment expressed as a percentage of capital invested. IRR is often used by venture capitalists and institutional investors.
A bundle of rights in favour of an investor built into a Shareholders Agreement and the Articles of Association. These rights are in addition to, and take precedence over normal shareholder rights.
In a substantial investment the whole risk is often shared among a syndicate. The lead investor will take the lead in negotiating the terms of the investment and managing Due Diligence.
A Buy-Out of a company where the Buy-Out team mostly uses funds borrowed for the purpose.
This is a form of finance where payments are due to be made to the holder of the Loan Notes at a future date, often used to satisfy Deferred Considerations. Loan Notes may be referred to as QCBs or NQCBs. Different types of Loan Note can be treated differently for tax purposes.
Management Buy-In (MBI)
A Management Buy-In involves an external management team with experience or skills relevant to the business buying it from the
Management Buy-Out (MBO)
A Management Buy-Out involves the existing management team of a business purchasing it from the Owner.
A layer of finance between senior debt and equity, which ranks behind senior debt in the event of insolvency or liquidation of the company. Often the interest rate on this debt is higher than that paid on the senior debt.
The value of a privately held company immediately after the most recent round of financing. This is calculated by multiplying the company’s total number of shares by the share price of the latest financing.
A class of share which carries a dividend (usually fixed) and which ranks ahead of ordinary shares in terms of payments of the dividend and return of capital on liquidation. They may or may not carry a right to vote at general meetings; they may also be redeemable,
cumulative, convertible or any combination of these.
An agreement among lenders and the company which sets out the order in which the various lenders will be repaid in the event of liquidation of the company.
Undertakings in Investment Agreements or Sale and Purchase Agreements, contracts of employment or consultancy agreements which restrict the ability to undertake activities which might compete with the company for a specified period of time.
Sale and Purchase Agreement or SPA
The Sale and Purchase Agreement (SPA) is the legal terminology used for the contract between both parties for the transfer of the shares in the company and is drafted by the legal advisors. When selling the goodwill and assets of a company, the document is
referred to as the Business Purchase Agreement (BPA). Generally this document is issued after Due Diligence has progressed,
allowing the Purchaser’s advisors to tailor elements, in particular the Warranties and Indemnities, accordingly.
A term loan facility made available for a fixed purpose which is secured such that repayment of the loan in the event of insolvency or liquidation ranks first before repayment of any of the company’s other secured debts.
Tag Along Rights
Rights granted to investors in a company which allow the investor to participate in and benefit from any flotation, listing, sale or other exit initiated by other shareholders.
A sale of the business to a Buyer that already operates within the sector or who is seeking to enter it.
Apart from the limited rights given under the sale of goods legislation (in the case of a goodwill and assets sale) the Buyers of the share capital of a company obtain little protection under the law if the purchase turns out not to be what the Buyers expected (unless there has been misrepresentation by the Seller).
Therefore as the Buyer’s solicitors are aware of this, it is customary for them to request assurances from the Seller to be placed in the Sale and Purchase Agreement to limit the Buyer’s risk. These assurances are given by way of a schedule of Warranties.
For example, the Seller may be asked to warrant:
“All amounts due to be paid to the relevant taxation authority prior to the date of this agreement have been so paid, including without limitation all tax chargeable on benefits provided for directors, employees or former employees of the company or any persons required to be treated as such.”
Where the statement is not accurate, a potential liability arises, which allows the Buyer to recover any losses suffered, unless the statement has been qualified in the Disclosure Letter.
Warranties serve two purposes:
1. Disclosure – the Warranties are designed to bring to the attention of the Seller the points that are of concern to the Buyer.
The process of checking the Warranties should result in the disclosure to the Buyer of all potential problems known to the Seller.
If these problems are sufficiently serious, the Buyer can renegotiate the deal or possibly withdraw.
2.Risk Apportionment – the effect of the Warranties is to impose legal liability upon the Seller if it transpires that something is not as warranted. The Warranties thereby allocate risk accordingly between the Seller and