Classification: Deal Driver
Section: Representations and Warranties of Buyer
Negotiation Time: Minimal to Moderate
Transaction Costs: Insignificant
Major Impact: Transaction Completion
Sufficiency of Funds
What is This? The Representations and Warranties of Buyer portion of the Agreement is used to save the Seller time and money. Rather than require the Seller to go through third parties to find certain information, the Buyer provides the information and must reimburse the Seller for any Losses it suffers if the information is false or misleading. Here, the Buyer provides information regarding its ability to fund the acquisition.
The Middle Ground: Here, the Buyer represents that it has enough cash on hand, or immediate access to funds from other sources, to be able to pay the Purchase Price and take the other necessary steps to complete the transaction. If the Buyer is financing the acquisition instead of paying the Purchase Price out of its available cash, this representation should be revised accordingly.
Purpose: The portion of the Purchase Price to be paid at Closing is typically a substantial share of the overall Purchase Price, and it is often the most anticipated payment from the Seller’s perspective. By obtaining this representation, the Seller is provided some assurance that the Buyer has the capacity to follow through on its most important commitment. Furthermore, it’s essential that the Buyer is able to make the payment as a way to build trust if the parties will continue to work together after the Closing. In short, few things, if any, will cause the Seller to abandon the transaction quicker than the Buyer failing to make the Closing Payment.
Buyer Preference: The Buyer will likely be satisfied with this representation as written if no financing is required. However, if the Buyer is utilizing acquisition financing it will want the representation to reflect those terms, and it may want additional covenants such as a requirement for the Seller to take any reasonable actions necessary to assist the Buyer in obtaining such financing. It may also want to add, as a condition to Closing, that a failure to obtain financing allows it to walk away from the deal. Most sellers will strongly resist that sort of condition, but may agree to a “reverse break-up fee” that allows the Buyer to pay a specified amount and abandon the transaction if it’s not able to find financing. If the Buyer is required to make a solvency representation (which it generally wants to avoid doing), it will want to explicitly include certain assumptions to minimize its potential liability for a breach, such as that the Seller’s representations and warranties are true, the target company has not suffered a Material Adverse Effect, and that any financial projections regarding the Business are still reasonable at the time of Closing.
Seller Preference: If the Buyer is using acquisition financing, the Seller will want assurances that the Buyer has satisfied all the conditions to obtaining the financing and is not in breach of its agreement with the lender. If the Buyer is using the Purchased Assets as collateral for the financing, the Seller will want to include a solvency representation so that it is protected if the Buyer is unable to repay its creditor(s). The Seller may also want to consider a covenant requiring the Buyer to use reasonable best efforts (or some other effort standard) to find alternative financing if the arrangement with the initial lender falls through.
Differences in a Stock Sale Transaction Structure: None.
We want The Middle Ground to be an ongoing dialogue for and resource to the lower middle market M&A community. The outline above is generally applicable, but there is always specific case law and nuance around certain industries that can be useful in helping buyers and sellers come together. If you are a lawyer or deal professional, we encourage you to add your perspective below.