Type A Reorganization

One of the many types of section 368 reorganizations

What is a Type A Reorganization?

Type A reorganization is a “statutory merger or consolidation.” These are mergers or consolidations effected pursuant to state corporate law. A merger is a union of two or more corporations. One corporation retains its existence and absorbs the others. On the other hand, a consolidation occurs when a new corporation is created to take the place of two or more corporations.

A corporate reorganization is a tool used by many businesses to expand operations, often aiming at an increase in long-term profitability. Usually, mergers/consolidations occur on a consensual basis where the owners/operators/management from the target business help those from the purchaser to ensure that the deal is beneficial and profitable for both parties.

Mix of Cash and Shares

A Type A reorganization allows the buyer to use either voting stock or nonvoting stock, common stock or preferred stock, or even other securities. It also permits the buyer to use more cash in the total consideration because the law does not stipulate a maximum amount of cash that may be used.

At least 50% of the consideration, however, must be stock in the acquiring corporation. In addition, in a Type A reorganization, the acquiring corporation may choose not to purchase all the target’s assets. For example, the deal could be structured to allow the target to sell off certain assets separately and exclude them from this transaction.

In cases in which at least 50% of the bidder’s stock is used as the consideration, but other considerations are used, such as cash, debt, or non-equity securities, the transaction may be partially taxable. Capital gains taxes must be paid on those shares that were exchanged for non-equity consideration, whereas taxes are deferred for those shares that were exchanged for stock. Rights and warrants that are convertible into the bidding firm’s equity securities are generally classified as taxable.

Continuity of Interests

A Type A reorganization must fulfill the continuity of interests requirement. That is, the shareholders in the acquired company must receive enough stock in the acquiring firm that they have a continuing financial interest in the buyer.

Type A reorganizations are frequently used in triangular reorganizations where the target corporation merges into a subsidiary of the acquiring corporation. As a result, the acquiring corporation is able to shield itself from any liabilities assumed from the target corporation while taking advantage of the flexibility of Type A reorganizations. After a Type A reorganization is complete, the acquiring corporation will own all assets and liabilities of the target corporation, and the target corporation will cease to exist.

Advantages of a Type A Reorganization

• Type A reorganization is flexible
• Consideration need not be voting stock
• Money or other property can be transferred without disqualifying the transaction, as long as “continuity of interest” is met (at least 50% of consideration used in reorganization must be stock)

Disadvantages

• Shareholders of either entity may dissent; in most states, their shares must be redeemed
• Acquiring entity must assume all liabilities of Target

Additional Resources

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• Valuation Methods
• Cash Rich Split Off
• Financial Modeling Guide
• Free Excel Crash Course
• DCF Modeling Guide
• See all valuation resources