Unit 5: Mergers and Acquisitions

1. Explain some reasons for M&A.

Acquisitions of businesses are undertaken with various motives. For example, the former entrepreneur
may want to retire and sell their business, whereas the acquirer may want to take over an existing business
instead of starting from scratch. Another reason is external growth via acquisition of other entities instead
of internal growth by expansion of the existing business. On one hand, a merger between two business
entities may yield economics of scale (production costs per unit decrease as a function of the number of
units produced). The merged entity may explore synergies, such as reducing the number of legal
departments from two to one. On the other hand, a well-established company may want to acquire an
enterprise engaged in developing some cutting-edge technology.

2. What is an asset deal?

The two parties of an asset deal are the acquirer and the vendor (natural person as “sole trader” or a legal
entity running the business). The acquirer buys the enterprise from the former entrepreneur, where the
object of the sale are the assets and the receivables. The acquirer will also be interested in the vendor’s
contractual positions (employment contracts and lease contracts for the business facilities). The acquirer
may also face “successor liability”, meaning they will have to assume some of the vendor liabilities.

3. How does a share deal work?

If the business is run by a company, the transaction may be structured as a share deal (“share purchase
agreement” or “SPA”). The parties to the contract are the acquirer and the person holding the shares in the
company (“target company”). The contract does not affect the company’s assets; the object of sale here are
the shares in the company. After the transaction, the same company as before will run the business, only
the identity of the shareholder will have changed (hence the ownership).

4. How do you transfer property in the assets in an asset deal? Is the passing of property an issue in
a share deal?

In an asset deal, property, regarded as a mass of single assets, is transferred according to the principle of
“singular succession”: every single asset has to be transferred from the vendor to the acquirer by means of a
separate act. You have to asses in case of each and every asset whether property has actually been
transferred.
To transfer tangible assets three conditions must be met: the vendor has to be the actual proprietor of the
goods, the contract has to be valid and the parties have to set a modus. A modus is an action by which the
parties actually want to transfer property, which allows the public to observe that the property has been
passed on to a new owner (e.g. an entry of the change of ownership in the land register for real estate or
just the reception of control over movable assets /a.k.a. “chattel”/). Under certain circumstances, even if
the first condition fails to be met (vendor ≠ proprietor), a bonda fide acquirer can obtain the property.
Intangible assets (among them receivables and claims) can be transferred via an “assignment” of the debt,
an informal agreement between the vendor and the acquirer. However, the creditor (here the vendor) and
the debtor may have agreed that debt cannot be assigned to third parties. If not, the debtor has no say in
the matter (indifference to whom they make their payment). The acquirer, however, must first, be aware if
the receivables have already been assigned to another party, in which case the assignment (to the acquirer)
is voided. Second, the acquirer must notify the debtor of the assignment.

In principle, the acquirer in a share deal will gain control over all the target’s assets (although the target
company remains owner thereof). However, some assets can be excluded (transfer from target to its
shareholder within the permitted limits). Also, some assets may be allocated to other companies e.g. in a
group of companies (essential when acquiring a subsidiary). Therefore, the acquirer must determine which
assets are actually needed for running the business (due diligence) and structure the deal accordingly.
 5. Do contracts pass automatically to the acquirer in asset deal? Do you have to worry about the
company’s contracts in a share deal?

Generally, the seller and the acquirer of the business in an asset deal can decide whether to transfer all
contracts & legal relationships (default rule), to transfer a selection of them, or to not transfer any of them.
However, “personal legal relationships” cannot be transferred. Parties can stipulate that the contract be
“personal” and protect themselves ex ante. Furthermore, contractual parties have to be informed about
the transfer, as they, as a default rule, have the right to object to it without giving specific reasons.
Once the contract has been transferred, there are two important legal consequences. First, the acquirer is
entitled to demand fulfilment of the contract. Second, all liabilities are passed on to the acquirer. However,
the vendor will remain liable for any arrears or future payments due within five years. With a few
exceptions (contracts such as lease agreements for business property /rent/, labour contracts with
employees, insurance) the contractual partner can subject to the transfer ex post, with the result that the
vendor of the business will remain liable for the entire amount irrespective of the date of payment.
Additionally, any authorisations or business licenses granted by public authorities (e.g. licenses under trade
law) are not automatically transferred to the acquirer with the business.

As mentioned, the acquirer in a share deal will gain control over all the target’s contracts, but the target
remains party to its contracts. However, via private ordering, a “change of control clause” might be
included. This would mean that the other party to a contract of the target party has the right to terminate
the agreement in the event of a change of control of the target party (e.g. other party shares a business
secret and the acquirer is a competitor). A bank, on the other hand, might be empowered to accelerate a
loan or demand immediate and full repayment (→target/corporate insolvency, negative effect on returns).

6. Explain the concept of “successor liability”.

This concept of business law is designed to protect creditors.

Firstly, full liability exists as a default rule. Even if the acquirer does not assume all the business contracts of
the vendor, and circumvents that default rule, they are liable for all debts arising from these contracts. If
the parties to the transfer decide to stipulate otherwise, they have to communicate this to the business’
creditors via a respective entry into the business register.
Secondly, as a mandatory rule, the acquirer has to assume liability regarding any debts they knew about, or
would have known about if they had acted carefully, which encompasses any debts in the enterprise’s
books (but not tort liability). This liability is limited to the total amount of the assets received.

7. Compare the liability situation of the acquiror in an asset deal and in a share deal.

In an asset deal, the acquiror will by default become liable for all the target’s business debts (and more
generally for all that exceed the five-year-due period). As a mandatory rule, the acquiror faces limited
liability for any debts in the enterprise’s books. If the acquiror decides to circumvent full liability via private
ordering, this should be communicated to creditors via the business register. The vendor may also remain
liable for the debt if the contractual party subjects to the transfer (with a few exceptions).

As already mentioned, the acquirer in a share deal gains control over all the target’s liabilities, although the
target remains debtor. What the potential acquirer must consider is the inclusion of “change of control
clauses” which might affect the initial conditions of the loan agreement.

In a share deal where both parties are companies, both companies as well retain their separate legal
entities after the transaction. The acquiring company as shareholder in the target will not become directly
liable for the target’s debts and is shielded by limited liability. In the worst case, the target company may
become insolvent and the investment will have lost its value. If, however, the acquisition was financed by
debt, this may in turn lead to corporate insolvency.

8. What is takeover law?

In a share deal, the vendor could be an owner not of all, but e.g. of the majority of the shares with voting
rights. As a result, minority shareholders of the acquired company might be harmed by the free
transferability of shares. In the absence of clauses such as the “tag along clause”, there is no duty on the
exiting controlling shareholder to provide their shareholders with a comparative opportunity to sell their
shares. However, companies listed on the stock exchange are subject to takeover law. This means, if a share
deal takes place, and the subject of sale is a controlling block of ≥30%, then the acquirer has to make a
“mandatory offer” to take up the shares of the other shareholders at the highest price paid (typically the
acquisition price) within the last 12 months before acquiring control over the block. As a result, the former
controlling shareholder has to share their control premium, which also serves as protection against
oppression of minority shareholders.

9. Please explain the concept of a merger.

A merger is a transaction technique which takes place between two companies (two AGs, two GmbHs or an
AG and a GmbH). In this case, two separate legal entities are amalgamated into one. By default, the merger
is a “merger by formation of a new company”, wherein the asset transfer is into a newly founded company.
The second type of mergers are the so called “merger by acquisition”, where assets are transferred from
one company to another already existing company. This is most common within corporate groups, where a
subsidiary can be merged into the parent (“up-stream merger”), the parent into a subsidiary (“down-stream
merger”), or one subsidiary into the other (“side-stream merger”). In all cases, after the merger one of two
legal entities will cease to exist.
At the asset level, a merger leads to a transfer of all assets, contracts and liabilities into the acquiring/newly
founded company. The transfer takes place via “universal succession”, meaning that all assets pass on to
the acquirer at the moment the merger is entered into the business register. Furthermore, the transferring
company’s contractual partners and creditors cannot object to the transfer of their position to the
acquirer/new company as their former partner or debtor ceases to exist.

10. What are the core issues of creditor protection in a merger?

As a result of a merger, the asset base changes. This change could be reflected in a decrease (merger of an
indebted company with a sound one) or an increase in the asset base. However, after the merger the two
groups of creditors of the two separate legal entities now share one single asset base. In the first case, the
creditors of the highly leveraged company may benefit, whereas the creditors of the other company are
impaired.
Creditors can protect themselves via private ordering, for example credit acceleration in case of a merger
resulting in adverse effects on the debt-to-assets ratio. Apart from that, in extreme cases, courts may
provide the party with an extra-contractual right to terminate the agreement. Furthermore, the courts
keeping the business register will not enter mergers which they regard as detrimental to creditors. Finally,
creditors may petition the court for adequate safeguards if they claim that their position is endangered due
to the merger ex post.

11. What are the core issues of shareholder protection in a merger?

In case of a merger, shareholders of the transferring company will exchange their membership in that
company for shares in the acquiring company. Therefore, shareholders have to vote on the deal. A
resolution can only be passed with a supermajority (75%). Once the resolution is passed, all shareholders
have to relinquish their shares. For that reason, one main issue for the shareholders is the share exchange
ratio (number of shares acquired versus number of shares relinquished). Necessarily, the value of the
shareholding after the merger must be at least equal to the value of the shareholding in the transferring
company, otherwise an expropriation takes place. Special proceedings are designed to check the adequacy
of the share exchange ratio after the merger. If shareholders use this ex post protection, they will either
receive additional cash payment, or the share exchange ratio will be adjusted to their benefit.
12. Can you merge a company across the border?
Mergers can also be executed cross-border within the European Union. For Austria, an “incoming merger”
would be a merger of a company from other Member State into an Austrian one, whereas an “outgoing
merger” would be a merger of an Austrian company into a foreign one. After an outgoing merger, the
company will be governed by foreign company law and thus shareholders will be subject to the jurisdiction
of a different Member State. Therefore, dissenting shareholders in outgoing cross-border mergers are
granted an exit right: they can choose to relinquish their shares in return for an adequate compensation.

13. What are the core issues in a division?

In a division, one legal entity is split into two separate ones, and the company’s assets, contracts and liabilities are
allocated to the successors according to a de-merger plan. In a full division, the company divided ceases to exist
and its assets are allocated to two or more successor companies. In a partial division (“spin-off”) the company
divided transfers part of its assets and liabilities to one (or more) company and retains the other part and
therefore continues to exist. The successor can be a newly found or an existing company. In the latter case,
both a division and a merger take place. The asset transfer is a partial universal succession. The de-merger plan
must specify which assets, contracts and liabilities belong to which company in the future. There are no special
rules as to how assets and liabilities must be allocated.
For this reason, a division may pose a considerable threat to creditors, as they cannot veto the transfer. Their
protection devices are the following: first, apart from the company to which the liability is allocated, all other
companies are liable for the debt towards the creditor. As liability is limited to the net assets (allocated assets –
allocated liabilities), the creditors of successor companies gain access to wherever the surplus of assets is to be
found. This can be avoided contractually before the division. Second, creditors may petition the court to demand
companies to provide adequate safeguards if their position is considered endangered.
From the shareholder point of view, there are two types of divisions. In a proportionate division, the
shareholders receive shares in all successor companies in the same proportion to their shareholding in the
company divided. In this case, the transaction needs a shareholder resolution with a supermajority of 75%. In a
disproportionate division, the proportion of the holding in each of the successor companies does not remain the
same as before the transaction (e.g. company Z is divided into company X and Y, shareholder X receives all
shares of company X, shareholder Y receives all shares of company Y). In such cases, the requisite quorum
amounts to 90% (danger that the two successor companies are not of equal value).
All dissenting shareholders have the right to exit the company in return for adequate compensation.

14. Describe different pricing mechanisms in a M&A-deal.

First, parties may enter into a “locked-box agreement”, where the acquirer pays a price fixed at the
moment of signing the deal, irrespective of any development before closing. The acquirer may profit from
positive or and accept any negative developments happening between signing and closing the contract. It
is necessary that the acquirer protects themselves from ‘leakages’ (distributions in cash or in kind by the
vendor) by including additional clauses. Second, parties may opt for a “completion account mechanism”,
where the final purchase price is determined at the moment of closing the deal. Typically, an ‘initial’
acquisition price is determined, from which the final price is derived via certain algorithms based on a
balance sheet at the moment the transaction is completed. Third, the parties can stipulate that the seller
receives an initial down payment and the remaining fixed purchase price is paid in instalments.
Alternatively, an “earn-out clause” can be introduced, where the vendor receives a certain fixed sum at the
moment the deal is closed and additional variable payments at later stages, conditional upon the business’
future success.
15. What is due diligence?
“Due diligence” is the task of the acquirer to get acquainted with the target company before the transaction
in order to avoid unpleasant surprises after the deal is closed.
examples in a share deal: determine which assets are actually needed for running the business (caution if
all assets are acquired, if core assets are allocated to other companies); examine all agreements for any
hidden risks (e.g. change of control clauses)