A significant consideration when considering an M&A target can be the impact that pending or threatened litigation has on the proposed transaction.
While some organizations may balk at the idea of acquiring a target that is (or is likely to be) the subject of a lawsuit, such companies are often available at significant discounts to purchasers that are able to understand and address the risks.
Each transaction will have its own unique considerations. However, an organization that is contemplating acquiring a target that is the subject of pending or threatened litigation should, among other items, address the following high-level considerations:
- Due Diligence: Purchasers should involve litigation counsel at the outset of the due diligence process to understand and evaluate the costs, risks and likely outcomes of the litigation, as well as develop strategies to address those risks and engage with the target.
- Negotiate the Costs of the Claim: Informed by the due diligence process, the parties may discuss which party will assume costs of the claim if judgement against the target is awarded. A purchaser may discount the purchase price by the quantum (if known) of the claim, or saddle the vendor with ongoing liability for the claim by way of specific indemnity.
- Negotiate Control of the Defense: If the claims are fundamental to the purchased business, the purchaser will likely wish to maintain full control of the defense strategy in order to protect its acquisition. If the target is assuming control of the defense, the purchaser must stipulate that any settlement or admission of responsibility requires its consent or else it risks outcomes that may not be in its best interest.
- Representations, Warranties and Indemnification: The purchaser must have sufficient assurances that the information that it has received from the target regarding the pending or threatened litigation is accurate in order to properly structure the litigation risks into the transaction. The target’s indemnification of the purchaser should, as specifically as possible, reflect the litigation risks identified in the due diligence in order to sufficiently protect the purchaser. Purchasers may also consider withholding a portion of the purchase price, subject to certain litigation outcomes, for additional protection.
- Asset Purchase: If the litigation risks are too great for the purchaser, it may consider buying the assets of the business rather than the shares/units/interests of the target, and leave some or all of the liabilities behind with the target. However, purchasers should be aware that some liabilities, such as environmental liabilities, may follow the related assets without a specific assumption in the asset purchase agreement. Tax considerations of asset purchases are also very important to consider as we discussed in a previous post.
Each transaction will always have its own unique circumstances which should be evaluated by counsel. Please contact Norton Rose Fulbright Canada LLP for specific inquiries.
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