One of the key aspects of mergers and acquisitions is determining the governance structure and necessary approval mechanisms associated with the possible director and shareholder approvals in buying or selling a business. A frequent M&A question that often arises is whether all mergers and acquisitions require shareholder approval, when a shareholder vote most often occurs, and what steps are needs to approve a transaction.
Whether your merger or acquisition requires shareholder approval depends on a range of factors. Important components to consider include the domicile and governing law of both the acquiring company and the target company, financial considerations, whether the transaction will be friendly or hostile, the governance documents of the acquiring company and the target company, and the overall structure of the acquisition or merger.
M&A Activity in the US and Economic Outlook
Before we dive into our discussion on shareholder approval and the different types of mergers and acquisitions, a brief reference to the overall US M&A market can be useful for the purpose of perspective.
Although the financials of most M&A deals in the US are not disclosed, there continues to be a strong amount of M&A activity in the US. In 2019, there were over 12,000 noted M&A transactions. Although the M&A transactions worth over one billion or more tend to dominate the headlines, these tend to be in the minority in the context of the overall volume of the US M&A market. Of the M&A transactions that did disclose numbers, there were only a little over 280 transactions that were north of one billion.
In contrast, the M&A market for small and medium sized businesses tends to be more voluminous in terms of the overall number of completed deals. In 2019, of the M&A transactions that did disclose numbers, 59.3% of M&A deals were less than $100 million. On the smaller end of the M&A market, 23.3% of the M&A transactions that disclosed amounts were under $10 million.
Going forward, industry analysis seems to indicate mergers and acquisitions activity will only continue to be strong. Low interest rates, combined with widespread reports that buy-side institutions are sitting on a large amount of dry powder, could mean even stronger M&A activity over the next few years.
Different Types of Mergers and Acquisitions
There are a number of different ways to approach buying a business or selling a business, or even acquiring a business unit or specific assets of a company. How you ultimately select the acquisition vehicle will vary from transaction to transaction.
For example, with the more high profile M&A deals, a tender offer can be the ideal approach in certain circumstances. A tender offer can involve a public solicitation by the acquiror to pay a premium for the shares held by the shareholders. Depending on the applicable shareholder approval requirements and a number of moving parts, a tender offer can take a significant amount of time to close and can take months just to get the stage where shareholders approve or reject the offer price from the bidder.
Conversely, especially with the small and medium size M&A market, an M&A transaction can be closed in a matter of weeks (and in certain circumstances, sometimes even in a matter of days). The time necessary to close a small or medium size M&A transaction will ultimately depend on a number of factors, including the scope of due diligence, the type of assets that are being purchased, the number of employees, contractors, and consultants that are associated with the business, and whether any regulatory approvals must be obtained.
When it comes to selecting the method with which you go about buying a business or selling your business, in the small and medium size M&A market, the three primary options are typically an asset purchase agreement, a stock sale agreement, or a merger.
With an asset purchase agreement or a stock sale agreement, goal of the transaction is for one business to buy another business (or the asset of a business).
Mergers come in a few varieties. With a traditional merger, the target company ends up merging into the acquiring company, often documented in an agreement and plan of merger. Popular variations of a merger include the reverse triangular merger and the forward triangular merger.
As the name, implies, a triangular merger involves three entities – the target, the acquiring business, and a shell entity. A reverse triangular merger involves the shell company merging into the target company, and this newly merged entity ends up being a subsidiary of the acquiring company. In contrast, the forward triangular merger involves the target company merged into the shell entity, and the shell entity as the surviving entity, ends up being the subsidiary held by the acquiring company.
Acquiring a Company – Asset Purchase Agreement vs a Stock Sale Agreement
When it comes to buying or selling a business or business division, the preferred acquisition method can usually be an asset purchase agreement or a stock sale agreement.
An asset purchase agreement is exactly what it sounds like – the buyer is purchasing the assets of the company. Acquirors typically prefer an asset purchase agreement as a good APA offers a number of protections for the buyer. Structurally speaking, the buyer is only buying the assets of the company and typically avoids taking on any liabilities, liens, or encumbrances that may be associated with the target company. Asset purchase agreements can involve more logistics if the business has a number of assets that require title changes or contracts that need to be assigned (assuming such contracts do have good assignment clauses).
The alternative acquisition is the stock sale agreement. Instead of buying assets via an asset purchase agreement, a stock sale agreement has the acquiror simply buy all of the equity from the owners of the target company. Stock sale agreements can sometimes make for a smoother transaction in that the assets of the company do not have to “change hands” as the acquiring company basically steps in to the shoes of the target company.
Getting Shareholder Approval for Buying a Business or Selling a Business
Regardless of whether you’re buying a business or selling a business, shareholder approval may have to occur with both the acquiring company and the target company. When it comes to an asset purchase agreement or a stock sale agreement, determining whether shareholder approval or member approval is necessary for the transaction to occur will involve an analysis of the governing documents for both the acquiring company and the target company.
Shareholder Approval for Selling a Company
Suppose that you are the company looking to sell. Determining the authorization needed to sell the company will turn on the structure of the company and its governing documents.
If the target company is a corporation, the articles of incorporation and the code of regulations (also known as bylaws) will likely be the most relevant documents. These documents will most likely stipulate that either (or both) a certain percentage of the shareholders and/or a certain percentage of the board of directors will be necessary to approve the sale of the company. Such authorization will likely have to be documented with either a written consent of the board of directors or the written consent of the shareholders (or both). A meeting of the shareholders or directors may also have to occur prior to executing said written consents.
If the target company is a limited liability company, the articles of organization and the operating agreement will most likely be the controlling documents that determine the procedure for a sale. Depending on the structure of the LLC, the approval of the members will be needed or the approval of the board of managers will be needed (or, in some cases, both will be necessary). Although LLCs are often noted for their informality as compared to corporations, this approval will also likely require a written consent to document the authorization of either the members or the board of managers.
Drag Along Rights and Selling a Business
When looking at the governing documents related to authorizing the sale of the company, one important point to keep in mind is whether the governing documents involve drag along rights.
Drag along rights are basically exactly what they sound like. If an offer is made to purchase the company, and a certain majority percentage of the members or shareholders desire to accept the offer, that majority can “drag along” any holdouts or minority shareholders to approve the sale of the company. Drag along rights can be critical in certain situations where shareholders or members are contemplating voicing their dissent to the transaction
Shareholder Approval for Buying a Company
If you are the acquiring company, determining whether shareholder approval is necessary to purchase the business will also revolve around the governing documents. With certain entities that are structured specifically for acquiring companies, the code of regulations or operating agreement may stipulate that just the approval of the board of directors or even just the CEO is required to authorize the purchase.
Mergers, Domicile, and Governing Law
In the case of a merger, there may be specific requirements under state law that dictate the procedures for a merger and how a merger is approved. Here, we’ll briefly examine some of the main requirements under Delaware and Ohio law.
Mergers in Delaware
If you are considering a merger that involves Delaware law, Section 251 of the Delaware General Corporation Law provides specific requirements for approving a merger.
First, the board of directors for both the acquirer and the target ,must adopt a resolution that approves the agreement of merger and declares the advisability of the merger. Section 251 stipulates a number of areas that the agreement must cover.
The agreement of merger must include the following:
-the terms and conditions of the merger;
-how such terms will take effect;
-the necessary amendments that must be made to the certificate of incorporation of the surviving corporation (or a statement that the certificate of incorporation of the surviving corporation will simply be the certificate of incorporation for the merged entity); and
-if applicable, the manner in which the shares of the target will converts into the shares or securities of the surviving corporation, whether any shares of the target company will be cancelled, and the cash, rights, or securities that the shareholders in the target company will receive.
Once the agreement and plan of merger is drafted and approved by the board of directors, the agreement is then submitted to the shareholders for a vote. The vote can be held at the annual meeting for the corporation or a special meeting called specifically for the purpose of approving the merger agreement.
In order to notify the shareholders for a special meeting to vote on the merger, all shareholders must be notified in accordance with corporation’s governance documents. However, Section 251 specifies that the shareholders must be given at least 20 days prior notice. The notice must also include either a summary of the merger agreement or the merger agreement itself. Once the meeting is held, if a majority of the shareholders vote in favor of the merger agreement, the merger is approved.
Keep in mind that Section 251 contains a number of exceptions for when a vote of the shareholders is not required. If you think one of these exceptions may apply to your situation, carefully review the requirements of such exceptions.
A recent and particularly famous illustration of the Section 251 exceptions were utilized by Google. Google successfully used the Section 251 exceptions to restructure itself into the new holding company, Alphabet, all without shareholder consent.
Mergers in Ohio
Similar to Delaware law, Ohio law also specifies a number of requirements for approving a merger. To start, Ohio Revised Code Section 1701.78 lists certain requirements for an agreement of merger, summarized as follows:
-specifying the state of domicile for both the target corporation and the acquiring corporation;
-disclosing that one of more of the corporations involved shall merge into a surviving corporation;
-including all aspects in the agreement of merger that are required to be included under the respective state laws of the acquiror and the target;
-the terms of the merger, including the manner in which shares of the target will be converted or substituted or the cash, securities, rights, or other property to be received by the shareholders of the target corporation; and
-specifying how the above terms will go into effect.
Once the agreement and plan of merger is completed, the agreement must be approved by the target company’s board of directors and then approved by the shareholders of the domestic company.
For the acquiring company, the agreement must also be approved by the board of directors. The merger must be approved by the shareholders of the surviving company if any of the following conditions are triggered:
-the articles or the code of regulations/bylaws of the surviving corporation require the approval of the shareholders (of the shareholders of a particular class of stock) for a merger;
-if in the event the agreement of merger conflicts with or would alter the articles or governance documents of the surviving company, so that such conflict or change would not require the vote of the shareholders;
-the merger would result in the issuance or transfer of greater than one sixth of the total shares in the surviving corporation to the target company; or
-the agreement of merger results in changing the abilities or powers of the directors in such a way that would otherwise normally require the vote of the shareholders.
Notice to the shareholders of both the surviving company and the target company must be given to all of the shareholders in each company, regardless of whether a particular shareholder can actually vote on the merger. A copy of the agreement of merger, or a summary of it, must also be included in the notice to the shareholders.
Once a meeting is held for a shareholder vote on the merger, Ohio Revised Code Section 1701.78(F) stipulates that the percentage of shareholders necessary to approve the merger shall be the percentage that is specified in the governance documents of the corporations. However, the stated required proportion cannot be less than a majority.
In the event the governance documents do not state a necessary proportion for a vote on the merger, Section 1701.78(F) specifies a vote of two-thirds of the shareholders to approve the merger.
Buying a Business in Ohio, Selling a Business in Ohio, or Merging Businesses in Ohio
Purchasing a business, selling a business, or merging two businesses can involve a range of complex factors, including shareholder or member approval, tax analysis, and structuring of an asset purchase agreements, a stock sale agreement, or an agreement and plan of merger.
From small and medium sized business to larger multi milliondollar transactions, our Columbus mergers and acquisitions law firm has closed M&A deals of all sizes, and our Columbus Ohio business acquisition lawyer understands that each M&A transaction must be uniquely structured based on the goals of our clients. Please contact our firm today, if you think we can be of assistance with your M&A transaction.
