Cross-border mergers and acquisitions (M&A) transactions amplify issues that arise in domestic M&A transactions. The interplay between varying national laws can create awkward legal contradictions or overly burdensome regulation over the transaction. Even basic M&A transactions between a foreign corporation and a U.S. corporation poses significant legal issues.
To understand these issues, let’s discuss basic complications that arise in all domestic M&A transactions.
Corporate Governance. State corporate law governs a host of merger-related issues including voting rights and procedure, deal protection measures, and board fiduciary duties.
Regulatory Approval. Transactions between companies engaged in similar business may produce anticompetitive outcomes in violation of the Sherman or Clayton Acts. The FTC or DOJ could block these violative transactions. In addition, certain regulated industries (e.g., energy and banking) face separate regulatory barriers in consummating M&A transactions.
Securities. Non-exempt securities issued as merger consideration need to comply with the 1933 and 1934 Acts and state “blue sky” laws.
Tax. The merged entity must comply with all requirements under the IRC. Understanding and minimizing the tax consequences of a merger comprises a major portion of the due diligence process.
That’s a lot to consider, right? Now let’s look at how the cross-border element compounds these issues.
Corporate Governance. Each country maintains its own corporate governance standards. Common practices in one country may be prohibited in another. For example, Italy prohibits agreements that condition the transfer of shares on discretionary board approval; these agreements commonly occur in the United States. A merger between an American and Italian company would require resolution of this contradiction.
Regulatory Approval. Cross-border transactions may require additional regulatory approval. For example, the Committee on Foreign Investments in the United States (CFIUS) retains jurisdiction to review foreign acquisitions of U.S.-based technology and energy companies. This review goes beyond the review required for a merger between two domestic technology or energy companies.
Securities. Again, non-exempt securities issued as merger consideration need to comply with the 1933 and 1934 Acts and state blue sky laws. This includes securities issued by the foreign corporation.
Tax. The U.S. corporate tax rate exceeds the rate of all other industrialized countries. Accordingly, foreign companies seek to minimize the assets that become subject to U.S. tax. This concern adds an additional consideration compared to purely domestic mergers. Moreover, the greater tax eats away at the profits from the transaction.
These difficulties effectively preclude the direct M&A transaction. A direct merger subjects the entire merged entity to the U.S. corporate tax. Moreover, a direct merger gives dissenting shareholders significant veto power because their approval is required to approve the merger and amend the organizational documents to resolve any contradictions between national laws.
The merger of subsidiaries presents a more workable option. This structure circumvents the United States’ higher tax by allowing the foreign corporation to isolate its non-merger assets. This structure also prevents dissenting shareholders from blocking the deal because the parent company is no longer a party to the merger. Finally, the merger of subsidiaries allows the acquiring company to cherry pick certain assets without giving the acquirer undue influence over the parent’s operations.
Of course, this structure only provides a starting point. An alternative structure may better achieve the parties’ goals. The final structure should incorporate all information discovered in the due diligence process, including operational concerns related to the target’s business, financial burdens that may hinder the transaction, and political or regulatory barriers in the target’s home country. Still, many cross-border transactions incorporate the basic structure in some way.
The issues discussed in this article can take many forms. This means the M&A transactions addressing these issues can take many forms as well. Ultimately, the lawyer’s job is to structure the transaction so as to best address the issues while meeting the client’s goals. This process can seem daunting. However, the creative use of subsidiaries can minimize these challenges and provide the added flexibility needed to complete the transaction.