Post-merger integration: Every step should follow a well-designed legal choreography
By Dr. Dirk Stiller, Dr. Simon Dürr
It is an uncomfortable reality but undisputable fact: More than 70 percent of all mergers, acquisitions or buyouts fall short of their stated objectives (see PricewaterhouseCoopers’ Post Merger Integration Survey 2009). There are many reasons why M&A transactions fail. Some involve an exaggerated purchase price and errant strategic thinking. At other times, efficiency gains associated with mergers are not present or are overcompensated by the cost of inadequate post-merger integration (see the article “Übernahmen vernichten Wert”, in the May 3, 2006, issue of Handelsblatt). Post-acquisition structures are generally not tax efficient and need to be adjusted in order to exploit synergies and reduce compliance costs. Structuring a merger is a relatively simple task compared with integrating multijurisdictional groups of companies, something that is usually nothing short of a mammoth undertaking. Recent studies show that the chief cause of the majority of failures is poorly timed execution of integration and not a flawed strategy (PricewaterhouseCoopers’ Post Merger Integration Survey 2010, p. 9). Flawed planning or delays will negatively impact the business and lead to poor performance. In addition, delays are likely to hurt employees’ morale and to create uncertainty within both the acquirer and the target group. Consequently, more than 60 percent of companies that have recently undergone a postmerger integration would, in retrospect, have chosen to integrate faster (see PricewaterhouseCoopers’ Post Merger Integration Survey 2010).
With a variety of work streams and key drivers involved, the greatest challenge of a legal post-merger integration is to complete the integration within the shortest possible time without disrupting business operations, while considering the objectives of all functions involved. Once the key milestones of the integration are defined, the process will gain speed and involve different teams working in parallel in greater and greater detail. To ensure full control of the process at the outset of the integration, the right team structure and roles must be defined. Above all, this involves setting up a steering committee and an integrationmanagement committee, defining the principles of communication among the various relevant functions involved, and hiring and coordinating external advisors in all countries involved.
Analysis, planning, execution
Typically, once the operating model is defined and the tax analysis is complete, the legal function would take over the wheel, manage the integration process, coordinate with the other functions involved, and report milestones to the integration management committee. It is a common practice for the advisors to slice a post-merger integration into phases. >> The implementation phase resembles a ballet performance where every move has to be right << The integration work starts with a detailed analysis phase designed to find the most efficient legal integration alternative from a business, tax and legal perspective. This includes gathering information about the entities and businesses concerned. Based on the analysis, a detailed implementation plan is prepared, crossfunctionally reviewed and approved, encompassing—at the holding level—the global, and—at country level—the local integration and structuring work. The implementation plan forms the basis for the entire project and will anticipate all relevant project steps to complete the integration, such as milestones; logical, functional, tax and legal interdependencies; accountable resources/ ownership; and implementation dates. It helps decision-makers and local implementation teams monitor and track the implementation phase, minimizing confusion and maximizing the benefits of the restructuring as a result. The planning phase is followed by the implementation phase. In practice, almost all entities of the target group will be transferred from their current shareholder(s) to one or more new shareholders at least once in the course of a post-merger integration, and multiple changes to the group holding structure will be implemented. In most jurisdictions, particularly in the United States and in most central European jurisdictions, the transfer of an entity can be effected within a relatively short timeframe. But, in many other jurisdictions, the transfer of an entity may take considerably longer. In order to avoid implementation delays, the “economic ownership” in the relevant group entities is usually transferred with legal title to follow. In line with the “substance over form” principle, this approach facilitates instant consolidation of the integrated entities from an accounting perspective while the transfer of legal titles is pending. The implementation phase resembles a ballet performance where every move has to be right and should follow a well-designed choreography. But this is not surprising given that signatories are located in all time zones and consecutive implementation dates are filled with dozens of transactions, notary appointments in different jurisdictions, the issuance of auditors’ certificates, or cross-border cash remittances. To avoid tripping over their own feet, companies must consider a number of factors, including the electronic execution of documents in electronic counterparts, streamlined legalization and apostillation processes for notarial documents, the use of real-time drafting spaces and electronic closing bibles. The use of best practices and of streamlined and proven templates for all kinds of transactions usually encountered in a post-merger integration is key to minimizing risks and ensuring a seamless integration. Execution of the implementation phase should be followed by a “sanity check” to monitor the completion of processes such as registrations and legal transactions triggered at earlier points in time (for example, the transfer of legal ownership where previously only beneficial ownership was transferred). Issues that were left unresolved in the course of the implementation phase will be fixed during this check. The execution phase must be accompanied by general project coordination. This work involves managing, moderating and aligning the various teams and jurisdictions, as well as monitoring the integration process in order to ensure the timely and accurate execution of the steps identified.
Pitfalls for the legal team
A great challenge in a multijurisdictional post-merger integration results from the interaction of two or more legal systems in almost every integration. Under the lex rei sitae principle of international private law, the legal transfer (conveyance) of property is typically governed by the laws of the jurisdiction in which the assets are located. Multijurisdictional aspects may be relatively simple to handle where both the underlying transaction and the legal implementation (things like the share-purchase agreement and subsequent share transfer) are governed by the laws of the target, while the shareholders are situated in one or more foreign jurisdictions. However, complexity increases significantly if the underlying transaction is implemented under the laws of a shareholder while the legal implementation takes place in the jurisdiction of the target. For example a merger at the level of and pursuant to the laws of the parent –> 13 – Mergers & acquisitions – BLM – No. 1 – June 26, 2014entities is not always acknowledged in the jurisdiction of the target either because the target jurisdiction does not recognize the concept of merger or because the concept of merger is acknowledged but not the concept of universal succession. To avoid complications at the local level, a confirmatory share transfer form would be signed. However, since a share transfer form is subject to stamp duty in certain jurisdictions, careful consideration should be given to the question of whether signing the confirmatory form may trigger the need to obtain stamp duty relief. Another example would be that a contribution in kind is made for a share premium in a jurisdiction that acknowledges the concept of share premium contributions (U.S. and most central European jurisdictions), while the contribution assets are located in a jurisdiction in which contributions are only feasible as capital contributions, meaning with an increase of the stated share capital of the contributee. This may result in the fact that, in addition to the contribution agreement governed by the laws of the contributee, a symbolic sale and purchase agreement are required at the local level to transfer the shares to the contributee. As a rule of thumb, whenever a transaction is proposed between parties of one jurisdiction involving a target entity of another jurisdiction, it should (also) be reviewed in advance by the advisors of the target jurisdiction and should be adapted to match local circumstances, as the case may be.
Usually, unless the parties agree otherwise, the lex fori, meaning the law of the local forum court, will be applied to the aspects of the transaction in question. Obviously, in a multijurisdictional transaction, the issue of which law to choose becomes highly significant. As a consequence of the public policy of freedom of contract, the parties are free to designate any law as the governing law of the transaction, even though there may be no other connection between the substance of the obligations and the law selected. The possibility of choosing a law or of using the most favorable law (“forum shopping”) can provide significant benefits to the parties to the extent that a choice of law (a) may render certain transactions that are not foreseen in the lex fori possible at all or (b) may help them to avoid uncertainty as to which laws actually govern the transaction in question. Let’s say that a power of attorney is to be granted to an attorney from the jurisdiction in which a share transfer will be notarized. Under the laws of this jurisdiction, the power of attorney does not require any particular form. By contrast, the principal is located in another jurisdiction that imposes formal requirements on the granting of a power of attorney (such as the requirement that the power of attorney be bestowed by way of a deed and cosigned by at least one witness). Such a situation raises the question about which formal requirements would apply to the power of attorney. Instead of carrying out extensive and lengthy legal research in to the international private laws of both jurisdictions involved, it is sufficient to check whether both jurisdictions are open to a choice of law in this respect. If so, the power of attorney should be submitted to the laws imposing no formal requirement. However, it should be considered that, as the courts of the forum state –> 14 – Mergers & acquisitions – BLM – No. 1 – June 26, 2014are usually not familiar with the proper law, they may incorrectly apply the law chosen by the parties or may be willing to apply the law of their own forum. While renvoi is not applicable in commercial disputes in most legal systems, some courts (in particular in the United States) would search for a provision in their proper law permitting to use the lex fori. This problem can be avoided by expressly excluding the court’s power to apply the choice-of-law provisions for their proper law. Finally, the public policy principle should be considered, which states that a court must not apply a foreign law that violates the fundamental convictions of its own legal system and thereby limits the parties’ freedom to choose the law they favor.
Typical implementation hurdles
In the course of a business integration or restructuring project in most of the involved jurisdictions, some local particularities and implementation hurdles should be considered from a legal and tax perspective. Certain jurisdictions impose stamp duty, including on share transfers in France, the United Kingdom, South Africa and Argentina or on loans in Austria and Greece. Depending on the particular jurisdiction, there may be regulatory hurdles that need to be overcome in order to implement the proposed transactions, such as foreign investment control, business and banking licenses and merger control (even if the group acquisition as such has been cleared). >> Depending on the particular jurisdiction, there may be regulatory hurdles that need to be overcome in order to implement the proposed transactions << Many jurisdictions impose restrictive rules regarding shareholding in certain entities, for example by stipulating that there must be a minimum of two, three, five or another number of shareholders. In certain countries, the directors of an Inc. entity must hold at least one share. Other jurisdictions apply the so-called 1:1:1: rule, meaning that an LLC with a sole shareholder may not hold 100 percent of a local LLC. In some jurisdictions, if a company only has one shareholder for a certain duration, the sole shareholder may become jointly liable with the company (which would, under normal circumstances, limit the shareholders’ liability to the share capital). Significant amounts of the target group’s cash can be “trapped” in foreign jurisdictions because of overly tight restrictions by exchange-rate controls and tax laws, such as limitations on currency convertibility and transferability, high withholding taxes on money repatriated from the foreign jurisdiction and the inability to gain right of set-off. These risks can be mitigated by using different techniques to free up trapped cash, including intercompany transfers or interest optimization, payment of dividends to effectively relocate funds out of locked jurisdictions, and intercompany loan structures. In most jurisdictions, the rights of employees must be observed. In certain jurisdictions, labor law aspects are particularly burdensome, in particular in jurisdictions where the employee representative bodies may challenge legal integration measures like share or business transfers. Such actions may pose a roadblock to the integration. A deep understanding and long experience in structuring the proposed transactions are key to minimizing the risk of stumbling over implementation hurdles.