The Negotiation Dynamic, Part 2: The Problem
In Part 1, we set the stage for a detailed story about how an issue might be negotiated. Part 2 shows what can happen as a bit of data about a possible environmental issue percolates through the deal team. Although participants are generally not focused on using a specific process to address the evolving issue – my own training was that you just did what you had to do without being reflective about the process – we can also start to see the outline of a process starting to emerge from the narrative.
Identifying a Problem; Gathering Information
Our example arises when, as part of legal due diligence, the buyer’s junior corporate associate finds a reference to underground storage tanks (USTs) on the target’s premises that were removed in the early 1970s. He is not sure what it means but it sounds important. He tells the senior corporate associate, who talks with an environmental lawyer at her firm and the buyer’s director of environmental compliance. The environmental lawyer has already ordered Phase I environmental survey of the property from an environmental engineering firm but does not have the results back. She is surprised to learn of the USTs and, on reviewing the reference the junior corporate associate found, an oblique allusion to a plume of contaminants from their former location. She confers with the compliance director and checks back in with the senior corporate associate, who then asks the junior corporate associate to request follow-up information. The junior associate passes the request along to the paralegal, who reaches out through pre-arranged channels. That’s five people just to identify a possible issue and ask for more information!
On the Sell Side: Identifying a Problem and Responding to Information Requests
This triggers soul-searching on the sell side. Seller’s general counsel knew of the potential contamination problem, but the VP in charge of the business unit being sold is relatively new to the company and does not have the history. He also wants a job post-closing, since the seller has given him no assurances as to whether it will have a place for him elsewhere. The GC and VP have a meeting, with the CDO participating by conference call from somewhere in another time zone, to discuss how to respond. Coming out of that meeting, the CDO communicates with the partner at his outside law firm that the business should be sold as close to “as is” as possible with regard to environmental issues. The partner considers the desire but advises that the additional disclosure has to happen. An analyst in the CDO’s office passes new information to the law firm paralegal, after which it is passed through to the buyer through a virtual data room.
The Domino Effect: More Information, More People
Once the information passes through layers at buyer’s law firm, the senior corporate associate, environmental lawyer and compliance director confer. They decide the issue could be a much bigger ticket item than the general level of compliance “noise” that often arises in due diligence. The senior corporate associate tells the partner. The compliance director tells her boss, the GC, about the issue. He advises her to speak with the CFO. The CFO checks the target’s financial statements and does not see any footnotes regarding USTs or reserves for cleanup, even though to all indications there may have been a leak at the time the USTs were removed. He wonders if reserves have ever existed or if funds have been spent on remediation in recent memory, so he asks the controller to make further inquiries. The CFO also talks with the VP, who minimizes the weight of the consideration, in part because she knows that the cost of any post-closing cleanup will come out of a different budget than her own. Finally, the CFO realizes from the limited information he has that the issue is material enough that he has to bring buyer’s bank into the loop early, since it is providing financing for the acquisition. While he would have preferred to come to the bank with both problem and solution at the same time, he knows that the bank will find out about the issue soon enough as part of its due diligence and wants to control the way in which it is presented. He tells his banker and banking lawyer (the buyer is using different lawyers in the same firm to negotiate the acquisition and the financing). The banking lawyer talks with the M&A partner on the deal and then with the junior banking associate preparing disclosure schedules for the lender. The bank tells its counsel, which leads to the information flowing to the associate and to an environmental lawyer within that law firm.
The CFO discusses the issue with an assistant who is normally responsible for treasury functions and who will be taking the lead on negotiations with the bank. The treasurer does not understand environmental issues except for a sense that they can be expensive and make lenders nervous. He intends to act as a conduit for information and take notes for future reference.
The investment banker, who does not have a relationship with the buyer but brought the deal opportunistically, learns of the issue and makes an impassioned call to the CFO to encourage him to find a solution. The CFO listens politely. He suspects that the investment banker’s one and only goal is for a deal to close regardless of whether it is a good one or bad one for the buyer. The investment banker would object if he knew, since he would really like to bring future deals to this rapidly growing company.
Defining the Problem
The approach starts with the attorneys discussing the matter. A conference call is set up for buyer’s and seller’s environmental lawyers to begin the conversation. It takes several days before schedules align enough for the call to happen, since everyone is also working on other deals. Before the call happens, the Phase I report comes back suggesting further testing. The environmental lawyers narrow the technical issues, but the final resolution has to be elevated. They talk with the senior corporate lawyers – and if the senior corporate lawyers are senior associates, they may have to involve the partner who is running the deal – and the buyer’s CFO and corporate partner have a discussion to decide on the parameters and strategy of the negotiation. Each side has an internal conference call to decide what to do. The large group on the buyer’s side includes the CFO, the GC, the compliance director and the treasurer who is taking the lead in dealing with the bank, but for reasons of corporate politics not the VP.
The story continues in the next blog post.