Acquisition structure is defined as the general framework or arrangement upon which the acquisition of a company will be organized. The acquisition structure basically breaks down the enterprise value of the company into the non-cash and cash consideration components. Non-cash consideration may comprise vendor takebacks, rolled equity, earnouts, etc.
Additionally, the acquisition structure also specifies whether the acquisition transaction is an asset or share deal, the assets that will be included and those that will not be included, any stock options, post-acquisition arrangements, and any other conditions that would exert an effect on the seller or the buyer. The structure of an acquisition arrangement may be different depending on the immediate and long-term objectives of the involved parties.
Types of Acquisition Structures
There are normally three alternatives in relation to structuring a merger or acquisition deal:
1. Stock purchase
In a stock purchase, the buyer acquires the stock of the target company from its stockholders. The target company will remain intact, but it will now be under new ownership. The purchaser acquires all or the majority of the seller’s voting shares. The buyer fundamentally now owns all the assets and liabilities of the seller. The purchaser needs to negotiate the representations and warranties regarding the assets and liabilities of the business to ensure that the target company is accurately and completely understood.
Stock purchases are typically beneficial to sellers. The earnings of a sale are usually taxed at the lower and long-term capital gains rate. Moreover, such sales are less disruptive to the day-to-day business of the company. For buyers, a stock purchase is advantageous because the seller continues to be in charge of the operations, making the integration less expensive and shorter. The buyer owns all the assets, contracts, and intellectual property, making the derivation of value from the acquisition easier.
Stock purchase negotiations also tend to be less contentious. One disadvantage is that, since all unsettled liabilities of the seller are acquired by the purchaser, the buyer may be forced to inherit financial and legal problems that, in the long run, diminish the value of the acquisition. Moreover, if the selling entity faces dissenting shareholders, a stock purchase will not prevent them from going away.
2. Asset purchase
In an asset purchase, the buyer only buys the assets and liabilities that are precisely specified in the purchase agreement. The structure is desirable to buyers because they can select only the assets they desire to buy and the liabilities they would like to assume. Buyers often use an asset purchase when they want to acquire a single business unit or division within a company.
The process can be complex and time-intensive due to the additional effort needed in finding and transferring only the specified assets. Typically, the buyer will acquire a majority of the seller’s assets for a cash payment or in exchange for its own shares and ignore all liabilities linked to the assets. However, buyers may end up losing important non-transferable assets such as permits or licenses.
The asset purchase method is not preferred by sellers, as they may be faced with adverse tax consequences because of allocating the purchase price to the assets. After the sale, the selling entity will continue to exist legally, though in many cases it ends its operations as soon as the deal closes.
In a merger, two distinct companies come together to form a single combined legal entity, and the shareholders of the target company obtain cash, the stock of the buyer company, or a combination of both. Either the seller’s company or the buyer’s company is reconstituted, or a fresh entity is started. One main benefit of a merger is that it normally needs the approval of only a majority of the shareholders of the target company.
A merger is an excellent choice if there are many stockholders in the target firm. The process is also relatively simple. All contracts, as well as liabilities, are passed into the new company. Hence, minimal negotiation about the terms is required. The disadvantage of this acquisition structure is that if a large enough block is formed, disapproving shareholders are capable of thwarting the merger by deciding to vote against it.
Even though each M&A deal is usually unique, they all consist of a single or combination of the three rudimentary acquisition structures: asset purchase, the merger of companies, or stock sale. Stock sale transactions consist of purchasing the whole business entity, including future loans, liabilities, and receivables. A sold entity may continue as a fully owned subsidiary of the company that acquired it or it may be merged at the closing date.
Asset purchase acquisitions are usually comprised of buying the valuable assets only, while the selling company’s legal entity may be kept intact. Such assets may include plants, property, physical inventory, brands, customer lists, trade/product names, trademarks, patents, and intangible products.
Each company that is considering selling or buying needs to understand the differences between the various types of acquisition transactions. Making a wrong choice may lead to tax disadvantages, difficulties in negotiations, and could even thwart the completion of the deal.
Selecting an ideal acquisition structure is a complicated process because buyers and sellers usually have conflicting tax, legal, and financial considerations. For instance, a buyer who prefers an asset purchase may need to offer a relatively high price or other concessions in order for a seller in favor of a stock deal to accept the asset purchase format. The concessions that an entity is willing to make chiefly depend on its strategic objectives.
For buyers who want to acquire the seller’s business, best employees, and reputation, the best option, although not necessarily the least expensive, may be a straight merger. A selling owner who wants to cash out swiftly will typically find an asset sale to be more attractive than a stock deal.
Due to the challenging nature of acquisition structure negotiations, it is important to work with proficient M&A advisors.
CFI offers the Financial Modeling & Valuation Analyst (FMVA)™ certification program for those looking to take their careers to the next level. To keep learning and advancing your career, the following CFI resources will be helpful: