Congratulations! Your company or client is considering an M&A—often the pinnacle of a company’s lifecycle. M&A transactions, while exciting, require a substantial lift from the management team, in-house legal team, external legal team, and tax and other external advisors to prepare for, negotiate, and close the deal. The Carta team is here to be a partner throughout the M&A process.
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Carta has a number of resources in place that can help companies moving through an M&A, and this guide will direct you to those resources. It is important to emphasize that M&A transactions of any size are complex, and likely have significant tax and legal implications for the buyer, target, and stockholders of the target.
An important note before we dive in: Make sure to consult legal and tax professionals every step of the way to ensure you are optimizing for your objectives in the deal. Nothing in this guide should be viewed as supplanting legal and tax guidance during an M&A deal, but instead are resources that can supplement the process to make it easier and more efficient.
What is a merger & acquisition (M&A)?
M&A stands for “mergers and acquisitions” and is used colloquially to describe transactions where one company (the buyer) purchases all or a portion of another company (the target). Buyouts, consolidations, acqui-hires, or restructurings are all terms that you may have heard that fall under the broader umbrella concept of M&A.
M&A deal structures
There are three common structures for M&A transactions: a stock sale, an asset sale, and a merger. The deal structure informs the level of due diligence, and the definitive documents and types of consents (both from stockholders and third parties) that will be required.
A stock sale is when the target company’s stockholders sell their stock to the buyer, such that the target becomes a wholly owned subsidiary of the buyer.
An asset sale occurs when the target sells all or substantially all of its balance sheet assets to the buyer, and then typically the company dissolves and pays the proceeds of the sale to the stockholders in the company wind-down process.
In some cases, partial asset sales can also involve the acqui-hire of specific teams (through new offers of employment with the buyer) and associated intellectual property. Any parts of the target company that were not sold off would continue to exist and operate without the acquired teams and associated IP.
A merger occurs when two companies merge together to form one company. The most common merger structure is a reverse triangular merger, where the buyer forms a new subsidiary that merges with the target company, resulting in the target becoming a subsidiary of the buyer.
Deal preparation: the tl;dr
So you are going through an M&A and you’ve determined your deal structure—now what? Carta can help with due diligence preparation, “delivering” stock certificates or other cap table information, and offboarding from Carta (if the company is sold and no longer needs to manage a cap table). Read more below, and then reach out to your company’s customer success manager or a member of the Carta support team.
Here are some other key areas where Carta can help you prepare before the process begins:
Modeling deal outcomes
Carta’s scenario modeling allows you to visualize the expected payouts by shareholder or share class based on exit value, expected non-convertible debt, and preferential payment terms to any preferred stock. While this doesn’t replace an allocation spreadsheet or “waterfall” (prepared in accordance with the terms of the definitive agreement governing the terms of the transaction), you’ll be able to get an understanding of anticipated returns based on deal size. This information is key as you enter into term sheet negotiations, so that you understand your breakeven valuation.
In most cases, Carta’s scenario modeling and cap table management software can serve as the starting point in constructing the allocation spreadsheet so your business team, investment bank, or law firm doesn’t have to model from scratch.
For more information, see:
Due diligence is a comprehensive review of the activities of a business, including financial, commercial, and capitalization matters. Due diligence in an M&A deal is typically the most time-consuming part of the process, given the information asymmetries that could result in a buyer assuming unknown liabilities in the deal. Also, the buyer could be taking on new stockholders or investors if buyer stock is to be used as consideration in the deal, so the buyer (and potentially the target) will want to diligence those new stockholders to understand who they are and the existing rights that they have in the target company.
Due diligence in an M&A deal will be much more robust than the diligence experienced to date for a typical venture-backed company—think a diligence request list with at least 10 pages of categories, versus a two to three page diligence request list in a typical venture financing.
The goal for the buyer is to leave no stone unturned and to bridge the information asymmetry through a combination of diligence and robust representations and warranties in the transaction document. Sellers need to be organized and prepared for what may seem like endless document and information requests which can be challenging when trying to operate the business and work on other parts of the transaction (e.g., negotiating the transaction documents, working on employee transition plans, etc.).
See an example of a M&A due diligence request list, provided by one of Carta’s partner law firms, and a leader in the M&A space, Goodwin.
Capitalization diligence is a big part of the larger due diligence effort, so auditing your cap table before the M&A diligence process kicks off will save a lot of time and questions down the road. The buyer will typically review the target company’s capitalization table to “tie out”, or confirm the accuracy of, the ownership history of all past and present security holders.
Some common capitalization diligence issues that arise in M&A transactions include:
Lack of documentation, or unexecuted documentation, for equity issuances—particularly to founders, early employees and early investors
Lack of proper or accurate approvals for equity incentive plan increases
Failure to update capitalization table for stockholder name changes or employee departures
Failure to comply with Rule 701 disclosure requirements
Carta’s cap table reports can expedite the “tie out” process, serving as the target company’s main repository of documents, valuation reports, equity award documents and stock ledgers. You may also need to prepare and assemble capitalization-related materials for a disclosure schedule, including equity paperwork, ledgers or full capitalization table reports that are attached as annexes to the disclosure schedule. All of these can be downloaded from the Carta cap table.
The buyer and the target will be asked to share recent financial statements, with the target’s financials particularly scrutinized. Carta automates your expense accounting, including ASC 718 stock compensation expense reports that can be delivered to the buyer as part of diligence.
M&A tax implications
Both the buyer and target should engage tax professionals to advise regarding tax structuring and tax implications of the transaction. However, there are also tax implications for most security holders of the target company if they receive a payout upon closing, resulting in potentially significant tax liabilities for rank-and-file employees, who may not be prepared for the out-of-pocket tax costs that result from that type of tax event.
To ensure your employees have sound tax advice and understand the financial implications of the exit, Carta offers personalized tax advice for employees. Our equity advisory services include company-wide educational sessions and unlimited, confidential one-on-one sessions with a tax advisor.
When should I tell Carta about my M&A?
Generally, the earlier we get involved, the better, so we can coordinate with external legal counsel on deliverables and offboarding (if appropriate). Notifying the target company’s customer success manager or Carta’s support team once the letter of intent is signed, and a proposed closing date has been set, can make for a smoother process as you move toward closing. This is particularly important in a stock sale or merger, when there are likely closing deliverables related to equity.
Download our free guide: FAQs on how Carta can help in an M&A
Looking for a comprehensive list of free Carta resources and answers to all your M&A questions?
Download our free guide and find information on:
Private equity deals
Closing the deal
Offboarding from Carta