Exit Strategies and Techniques:
IPO, M&A, Buyouts
Lucas Shen-Lun Chang, .
Morgan, Lewis & Bockius LLP
Why Going Public?
Greatly enhanced status, exposure and image
”Membership” to the “MNC Club”
Sign of stability
Competitive position
Improved access to capital for growth
Acquisition currency in M&As
Liquidity for investors and employees
Pride or ego
“Always wanted to be a public company CEO”
“Show my schoolmates who really made it”
What’s the Downside?
Intense public scrutiny
Formal corporate governance
Made tougher by Sarbanes-Oxley
Elevated potential personal liabilities
Disclosure of significant amount of information
Sales, contracts, compensation
Impact on competitive advantage
“Life in a fish tank”
Restrictions on publicity and whom to talk to
Reporting requirements compliance
More Downside . . .
Compromise long-term growth by meeting earning expectations of analysts and shareholders
Significant dilution and loss of control
Risk of take-overs
Distraction to management and employees
Effects on employee motivation
Doing great = Fast exit
Doing poorly = Fast exit
Increased Cost
Secret of Success
Business/financial model is sound
valuation
revenue stream
profitability
business maturity
potential growth
Industrial sector is attractive
Overall market condition is favorable
Relative importance = 20:30:50 or 10:20:70
Is the Company Ready?
Depth and quality of management and board
At least three independent directors with financial strength
Substance, not loyalty
Corporate and capital structures
Cheap stock issues
Implemented systems for disclosure controls and procedures
Implemented systems for internal controls
Federal Statutory Framework
Section 5 of the Securities Act of 1933:
Statutory foundation of the registration process
Governs the manner and timing of public offering and distribution of securities
Requires that, absent an exemption, a registration statement be (i) filed with SEC before offers to sell or buy are made, and (ii) declared effective before sales take place
The IPO Process
Major steps in the IPO process:
Understanding between issuer and managing underwriter
Organizational meeting
Due diligence
Draft/negotiate registration statement
Draft/negotiate underwriting agreement
Filing of registration statement
The IPO Process
More steps:
SEC Review and comment process
NYSE or Nasdaq listing application
NASD review/clearance
Road show
Effectiveness
Pricing
Closing
Three Stages of an Offering
Three periods contemplated by Section 5 of the 1933 Act, with different restrictions and requirements:
Pre-filing Period
Waiting Period
Post-effective Period
Pre-filing Period
Begins when the issuer reaches an understanding with the broker-dealer which is to act as the managing underwriter, not with the generally later organizational meeting
Important to recognize when it has occurred and control publicity to prevent inadvertent gun-jumping
Pre-filing Period
Press releases
Ordinary course, consistent with past practice
Just the facts – no predictions, projections, forecasts, valuations
Advertising/publicity campaigns, news articles, interviews, speeches, investor vs. trade conferences
normal flow of information vs. conditioning the market
Websites, hyperlinks to third party sites
Waiting Period
From filing of registration statement with SEC to declaring effectiveness
Purpose: provide potential investors time to learn about company in order to make investment decision
Information must come in the form of a permitted prospectus or be given orally (subject to anti-fraud provisions)
Waiting Period
Road show issues
No writings distributed other than prospectus
Other information cannot be inconsistent with prospectus
Review by issuer’s attorneys
Post-effective Period
From date of effectiveness until dealers no longer required to deliver prospectus (25 days)
§5(a) – securities may be sold once registration statement declared effective
§5(b)(2) – final prospectus meeting requirements of §10(a) must be delivered prior to or contemporaneous with the delivery of a security for sale
Post-effective Period
Prospectus delivery requirements
Underwriters – until distribution is complete
Dealers (§4(3) and Rule 174) –
25 days after IPO if listed on exchange or traded on Nasdaq
90 days otherwise
Post-effective Period
Supplement (sticker) or post-effective amendment if material developments render prospectus inaccurate or incomplete
Post-effective amendment subject to SEC review
“Free-writing” permitted, so long as accompanied/preceded by final prospectus
Limitations on research reports
Parties Involved in the Process
The Regulators
The Working Group
Other Parties
The Regulators
SEC
NASD
Nasdaq or NYSE
State Securities Regulators
The Working Group
Management of the issuer
CEO, CFO, CTO, COO, Controller
Designate an “IPO Captain”
Investment Bankers
Lead and co-managers
Underwriting syndicate
Research analysts
Firewalls
Attorneys (both sides)
Accountants/auditors
Other Parties
Selling shareholders (occasionally at an IPO)
PR firms / Roadshow consultants
Printers
Transfer agents
Banknote company
Documents – Disclosure or Sale?
Banker’s perspective: Marketing and sale of securities with prospectus and road shows (meetings with institutional investors)
Issuer’s perspective: Sell stock at favorable valuation; do not disclose more than necessary; avoid liability; eliminate burdensome preferred terms; registration statement just a marketing document
Tension between disclosure documents and marketing/sales documents . . .
What are the Documents?
Registration Statement
Exhibits
Prospectus
Preliminary and final
Artwork
Form 8-A (under the 1934 Act)
Underwriting documents
More Documents . . .
Nasdaq or NYSE listing applications
NASD filings (electronic via COBRADesk)
Lock-ups, NASD questionnaires, D&O questionnaires
Selling shareholder documents (if applicable)
Registration Statement
Summary
Risk Factors
Use of Proceeds
Selected Financial Data
Management’s Discussion and Analysis (“MD&A”)
Business
The “Back Half”
Financial statements
Exhibits
Underwriting Documents
Underwriting Agreement
Agreement Among Underwriters
Selected Dealer Agreement
Comfort Letter
Lock-up Agreement
IPOs vs. Follow-Ons
Speed of deal: S-3 vs. S-1
Research analysts/conferences
Publicity/Regulation FD/Section 5/ Regulation M
Insider trading
Acquisition discussions
Standard S-3/shelf registration
Why doing IPO in the .?
Much better valuation, especially for technology companies
Growth-oriented and not just focused on revenue
Better coverage by research analysts
Much higher trade volume
Better access to world capital market
Prestige and status
“I survived Sarbanes-Oxley!”
Rules are clear and predictable
Listing Shares on the Growth Enterprise Market (GEM) of Hong Kong Stock Exchange
No profit requirement
In recognition that promising growth enterprises may not always have achieved a past profit record, the GEM Listing Rules does not impose a profit requirement on listing applicants.
Sponsor and sponsorship period
A listing applicant must appoint a GEM Sponsor to submit its listing application and the appointment must continue for a fixed period covering at least the period comprising the remainder of the financial year in which listing takes place and the 2 full financial years thereafter (the "Period").
Acceptable jurisdictions
The new applicant must be incorporated under the laws of Hong Kong, the PRC, Bermuda or the Cayman Islands.
Listing Shares on the Singapore Stock Exchange
Quantitative Criteria
An issuer must satisfy one of the following requirements:
Cumulative consolidated pre-tax profit of at least $ million for the last three years, and a minimum pre-tax profit of $1 million for each of those three years.
Cumulative consolidated pre-tax profit of at least $10 million for the last one or two years.
Market capitalization of at least $80 million calculated based on the issue price and post-invitation issued share capital.
Listing Shares on the Singapore Stock Exchange
Profit Test
An issuer must have been engaged in substantially the same business and have been under substantially the same management throughout the period for which the relevant profit test applies.
If the group made low profits or losses in the two years before the application due to specific factors which were of a temporary nature and such adverse factors have either ceased or are expected to be rectified upon the issuer’s listing, the application may still be considered.
Listing Shares on the Singapore Stock Exchange
In determining the profits, exceptional or non-recurrent income and extraordinary items must be excluded.
The Exchange will normally not consider an application for listing from an issuer which has changed or proposes to change its financial year end if the Exchange is of the opinion that the purpose of the change is to take advantage of exceptional or seasonal profits to show a better profit record.
IPOs
Source:
Mergers and Acquisitions
Source: Mergerstat Review
Leveraged Buy-Outs
Sources: Bank of America, FTI Consulting, US Bancorp Piper Jaffray
Mergers and Acquisitions
As a Way of Life
Source:
Source:
Source:
Mergers and Acquisitions
Regulatory and Approval Considerations
Structuring the Acquisition
Choosing the Acquisition Vehicle
Documentation
Legal Due Diligence
Closing and Post-Closing Issues
Structuring the Acquisition
Purchase Structure
Tax Considerations
Accounting Considerations
Purchase accounting
(Pooling of interests accounting)
Other Considerations
Contract assignability
New license requirement
Tax-Free Forward Triangular Merger
(Hybrid A Reorganization—. Sec. 368 (a)(2)(D))
T
Corp.
S
Corp.
P
Corp.
T assets
SH-1
P stock
SH-2
P
Corp.
S
Corp.
SH-1
SH-2
S and T
assets
1. SH-1 owns 100% of the stock of P; P owns 100% of the stock of S.
2. SH-2 owns 100% of the stock of T.
3. T merges into S: T’s assets are transferred to S and the stock of T is canceled.
4. SH-1 transfers a portion of the stock of P to SH-2.
Structuring the Acquisition
Tax Considerations
Documentation
Letter of Intent
Obtaining Necessary Board/ Shareholders Approval (s)
Definitive Agreement
Ancillary Agreements
Letter of Intent
Generally Non-Binding
Implied good faith to negotiate
Outlining the Transaction
Offer Price
No-Shop Clause; Break-up Fee Clause
Access to Information
Confidentiality
Usually an agreement preceding letter of intent
Conditions to Definitive Agreement Execution
Legal Due Diligence
Corporate
Government Filings
Financial Matters
Intellectual Property
Material Contracts
Real Estate
Employment Matters
Environmental Matters
Litigation and Claims
Third-Party Transactions
Definitive Agreement
Description of Transaction
Representations and Warranties
Covenants
Conditions to Closing
Indemnification
Dispute Resolution
Ancillary Agreements
Non-Competition
Geographic, time and field limits
Legality and enforceability
Escrow of Payment
Employment Lock-up and Incentives
Service, Supply, Distribution, IP License
Affiliates Agreements
Closing of Transaction
Transfer Documents
Payment
Corporate Formalities
Post-Closing Activities
Post-Closing Adjustments
Evaluation/Performance Measurement
Earnout arrangements
Part of Economic Life; Post-Merger Integration Is Key
Mergers and Acquisitions Tax Perspective
Buyer and seller have different focus and objectives
Seller’s concerns:
Is it tax free?
Am I getting cash or stock?
How long do I have to hold the stock that I receive before I can sell it?
Mergers and Acquisitions
Buyer’s concerns:
Should I acquire stock or assets?
Do I get a step-up in the basis of the stock or assets I am acquiring?
Do I use cash or stock as consideration?
Is there any restriction on disposition of the target company stock or assets?
Can I use the net operating loss of the target company to offset future income?
Mergers and Acquisitions
Stock acquisition vs. asset acquisition
With stock acquisition, the buyer gets the target's assets along with its liabilities, the buyer also gets the intangibles associated with the company as a going concern (trade name, customer lists, etc.)
In a stock acquisition, the buyer also gets the limited liability protection for keeping the target as a separate legal entity
Both types of acquisition can be structured as either a taxable or tax-free transaction
Mergers and Acquisitions
Examples of tax-free stock acquisition:
B reorganization
Reverse triangular merger
Examples of tax-free asset acquisition:
Statutory A merger
C reorganization
Mergers and Acquisitions
. Shareholders
.
Acquisition Co. (China)
China
.
Chinese
Shareholders
. Shareholders
China
Chinese
Shareholders
merge
China Co. Stock
. Co. Stock
(1)
(2)
Mergers and Acquisitions
Reverse triangle merger.
If Chinese law does not permit share for share exchange, then a "cash-in, cash-out" technique can be used to achieve the same result. The circular cash flow is disregarded for . tax purposes.
It is the most popular form of merger transaction for various reasons: (1) don't need to acquire 100% of the target company stock with voting stock; cash can be used to buy out dissenting target. shareholders; (2) it protects the acquiring company from potential liabilities associated with the target company's business.
Mergers and Acquisitions
The acquiring company must retain the control of the target company for some period of time. The target company cannot be decontrolled immediately after the transaction.
The shareholders of the target company must also hold onto their stock in the acquiring company to satisfy the "continuity of interest" requirement. There cannot be a preconceived plan or arrangement to dispose of the acquiring company stock by the target company shareholders.
Mergers and Acquisitions
If the reverse triangular merger is immediately followed by the upstream merger (the target company merges into the acquiring company), the transaction may be recast as a statutory A merger. The difference is that the statutory A merger will be treated as an asset acquisition.
Reverse triangular merger can also be effected as a taxable merger.
Who is MLB?
Experience and expertise as issuers’ counsel and as underwriters’ counsel
Ranked top 5 as issuers’ counsel and top 10 as underwriters’ counsel
Over 30 SEC alumni covering a wide spectrum of expertise
Exit Strategies and Techniques: IPO, M&A, Buyouts
Lchang@
86 10 5876 3500
86 1330 1312 888
Spent first several years doing public and private offerings, primarily for public companies.
Now spend about 1/3 of time doing capital raising activities; 1/3 of time on mergers and acquisitions and 1/3 of time doing general corporate work.
Last time I spoke at this class was 1999. During the first 6 months, I represented companies or underwriters in 8 IPOs, including Healtheon, Critical Path, Portal Software, , Cobalt Group, US Search. This was a time when companies could go public with little or no revenue (CPTH went public with $700K of cumulative revenue – it had a market capitalization of a little over a billion within two days. didn’t have any revenue when they went public).
This year I have participated in two IPO’s, and this year, that is a lot.
No longer in the world of public company venture capital. Businesses that will go public will be more mature, more stable.
Materials for this slide:
“Deciding Whether to Go Public: Certain Basic Considerations” Stacey J. Kanter
Materials:
SEC final rules re: Audit Committees
SEC final rules re: NYSE and Nasdaq Governance Proposals
SEC final rules re: Disclosure controls and procedures
SEC final rules re: SOX 404
Materials:
“Statutory Framework of the Registration Process”
“The Regulation of the Registration and Distribution Process under the Securities Act of 1933” – Sonsini, Char and Husick – determine if updated article is available.
“The Statutory Arrangements for Public and Private Securities Offerings Under the Securities Act of 1933”
Examples of Press Releases
“Before” and “after”
Corporate No-Chat Policy
Corporate Investor Relations Policy
SEC Comment Letter Sample?
Materials:
Organizational Meeting Book
Materials:
Nasdaq Going Public Materials
NYSE Going Public Materials
Goldman Presentation on Spitzer Settlement
Materials:
2003 Public Offering Statistics showing law firms
