Understanding post-closing disputes to avoid costly litigation
In a hot deal market, speed often trumps detail
Low interest rates, buyers sitting on record levels of investable cash and a shortage of sellers are key factors driving one of the most competitive mergers and acquisitions (M&A) markets in recent history. But in the rush to grab opportunities when they arise, key details often get missed that can result in expensive litigation when the parties discover unpleasant surprises well after the agreements are signed.
Post-closing disputes usually center on the following issues:
- Working capital. While it’s standard practice to estimate a working capital target in pre-closing activity, that estimate does not always reflect the reality of a situation at closing. If gaps are not addressed, it can fuel post-closing litigation.
- Representations and warranties. In essence, reps and warranties form the core of assertions that both parties make to evaluate and close an M&A transaction. If post-sale issues arise between what was represented in the deal documents and what actually turned out to be true, the value of the transaction can be negatively affected, spurring litigation.
- Earnouts. An earnout provision generally means that the seller can receive additional future compensation, based on the company hitting certain specified post-sale targets. This provision often creates potentially harmful assumptions, as many buyers believe the targets will never be reached, while sellers often take those same targets for granted. Without clear communication and goal-setting before the deal is finalized, litigation is a definite possibility.
To avoid these issues, it’s critically important to engage experienced advisors early in the M&A process. These third-party resources can help guide due diligence activity, anticipate common roadblocks and remove any uncertainty about the current (and future) ramifications of a prospective deal. Given the time and expense involved in any post-closing litigation, a strong advisory team offers peace of mind and a tangible return on investment.