The sale process

The existing owner ("the vendor") will either undertake a formal sale process by hiring a financial adviser to run an auction, or he may employ a more informal approach which he may handle himself. The vendor will normally require the management of the business to assist him in getting the best price for the business and not to have contact with private equity firms. In certain, rare cases the vendor may grant management a period of exclusivity during which time the vendor will not market the business. A vendor may be also underwrite some of the management's costs. The vendor's adviser will normally contact potential trade buyers as well as private equity firms.

Disclosure of information

The vendor will disclose information relating to the business to prospective purchasers either in a formal information memorandum or by responding to requests from prospective purchasers. If the vendor does allow management to deal with private equity firms directly, the management will normally be responsible for compiling and disseminating the information.

Contacting private equity firms

In addition to a list of trade buyers, the vendor and its advisers will draw up a list of private equity firms which are most likely to be interested in the prospective transaction. The choice is usually driven by the size of deal and the industrial sector which the business is in. A list of 3-5 prospective backers is established and contact made to establish interest in principle in the proposed transaction.

NDA

The BVCA has prepared standard NDAs and potential financial backers are accustomed to signing these.

Structuring the financing plan

The private equity bidders develop a structure for the proposed financing. This will set out the nature and amount of the financing facilities (equity, senior debt, mezzanine debt) and will contain an allocation for the management team.

Conditional 1st offers to vendor

The vendor normally requires a written offer and confirmation from financial backers that they have the resources to finance the proposed transaction.

2nd round of bidding

Depending on the outcome of the first round of bids, the vendor will either run a second round of bidding or enter directly into exclusivity if it is satisfied with a single first offer. The second round involves disclosure of additional information and presentations by the management, followed by a second bid. The additional information is usually contained in a data room, which may be virtual.

Exclusivity period for due diligence

At the end of the 2nd round (or the 1st round in a one-round process) the vendor selects an offeror and grants it exclusivity. The exclusivity arrangement normally runs for 6-10 weeks during which time the vendor agrees not to negotiate with any other bidders. Financial backers require this arrangement as they incur external costs for accountants and lawyers and don't wish to run the risk of been outbid by another acquirer and losing the money they have spent.

Due diligence

The due diligence involves investigations by lawyers, accountants, market consultants and other experts. The objective of their work is to throw up any previously unrevealed issues which could have an impact on the transaction and to confirm the information which has been disclosed. One element of this work is a review of the financial model by the accountants and will involve them running a number of "scenarios" by employing different key assumptions.

Confirmation/renegotiation of offer

The experts issue reports of their findings. If the bidder is happy with the findings it will normally confirm its offer. If it is not happy with the findings, it may wish to renegotiate the price or other terms with the vendor. If the findings are particularly poor, the offer might be withdrawn.

Legal documentation

During the exclusivity period the vendor and the private equity firm will put together the legal documents. They fall into two categories:

• The acquisition agreements which are between the vendor and the acquisition vehicle "Newco".
  The principal agreement is the sale and purchase agreement (SPA). This agreement incorporates warranties and indemnities from the vendor and the vendor prepares a disclosure letter to mitigate the impact of the warranties.
• The financing documents which are between Newco, the management and the financiers.
  They include: Newco's articles, the equity subscription agreement, loan agreements, inter-creditor agreement and management's service agreements.

Conditions precedent

The bank and equity term sheets will contain a number of conditions which must be satisfied before their facilities can be drawn down. In addition to being satisfied with the due diligence and the legal documentation, these will include key man insurance for the principal members of the management team, adequate company insurance, property valuations and reports on title and the financial assistance formalities (see below).

Financial covenants

The bank loan agreements will contain a number of financial covenants or limits which have to be tested periodically. The consequences of being in breach of the covenants are pretty serious and great care needs to be taken in setting the level of the covenants and in ensuring that there is plenty of headroom in the financial model.

Financial assistance whitewash

The Companies Acts prohibit a company giving financial assistance for the purchase of its own shares. Therefore a company which grants security over its assets to the banks who are providing finance for the purchase of its shares would be committing an illegal act. A procedure known as a "whitewash" can be employed to get around this prohibition. The procedure involves the Directors making a Statutory Declaration that the company is able to pay its debts as they fall due for the following 12 months and the auditors issuing a report stating that they are not aware of anything to indicate that the opinion expressed by the Directors is unreasonable.

Management's service contracts

Each of the key members of the management team will be expected to enter into a service agreement. In addition to the customary terms in a service agreement, there are provisions known as good leaver/bad leaver provisions. The consequence of being a bad leaver is that the manager loses the upside on his shares if he is fired but he or his estate will have the benefit of some upside if he is considered a good leaver e.g. if he dies or has to retire due to illness.

Management's equity investment

Management will have the opportunity to acquire a shareholding on advantageous terms compared to the other shareholders. The cost of the investment should be significant for each individual so that he does not walk away if things go a bit wrong. However, investors do not normally wish to see the management completely impoverished if the venture fails.

Completion of the acquisition and financing

When all the documents have been agreed, the agreements are signed and completed and the management team have their freedom! There can sometimes be a delay between signing the agreements and completion. One reason for a delay is if the vendor needs to have the transaction approved by a shareholder resolution.

Completion accounts

Very often the acquisition agreement will have a requirement that the price is subject to an adjustment if a target level for net assets on completion is not met or is exceeded. Because it takes time to prepare the accounts and have them audited, this adjustment is usually made some 6-10 weeks after completion. A part of the purchase price may be held over in an escrow account pending the settlement of the net assets. The agreement usually contains provisions allowing for the auditors of the vendor to examine these accounts (which will normally be audited by the purchaser's auditors) and a method of resolving any disputes which may arise.