Public-to-Public M&A Deals – Should There Be a Shareholder Rep?

Somebody recently asked us if we expected to be appointed the post-closing representative for the former Data Domain shareholders, regardless of who bought them (the company is currently “in play” with both EMC and Netapp making bids). After all, many of Data Domain’s major shareholders are VCs (including Greylock Partners, New Enterprise Associates and Sutter Hill Ventures), even though the company went public in 2007.

My initial answer to the questioner was “no comment.” This is not a finalized deal and, even if SRS were involved, it would breach the confidentiality restrictions that we agree to before the merger agreement is signed. However, even more fundamental to the answer is that since Data Domain is a publicly traded company, it is highly unlikely that the transaction will have any need for a shareholder rep.

Most mergers with a public company target are done on an “as-is” basis with no escrow and few, if any, post-closing obligations of the shareholders (however a New York Law Journal article from 2004 suggested that escrows be considered in acquisitions of public companies). As a public company, the target is subject to the regulatory oversight and reporting requirements of the SEC and their trading exchanges. In addition, public companies must have independent audits and are scrutinized by their underwriters and the analyst community. Information is, therefore, a plenty and independently verified. The merger is just closed and that’s that.

If it is eventually learned that there was some fraud committed, the buyer can typically go after the board and/or management in their individual capacities. It is, however, very difficult if not impossible to “sue the public” when the company is publicly owned. Additionally, there are securities law implications to having an
escrow and complications with appointing a shareholder rep in these transactions that generally lead the parties to conclude that it is not worth the trouble, even if theoretically possible.

That’s not the way things work when the target company is private.

There is no public scrutiny of the target company and independent audits are not necessarily performed. Given a desire by both parties to close the deal within a reasonable timeframe, indemnification provisions are heavily negotiated and, to protect the acquirer from unexpected losses due to merger term breaches, or from differences in expected working capital, escrows or holdbacks are usually required.

Therefore, unlike public deals, sales of private companies need someone to speak and act for the selling shareholders if a claim for indemnification is made or some other post-closing adjustment to merger consideration is required. That’s where the shareholder rep comes in.

Prior to the merger, a board of directors and a management team represented the target company’s shareholders. But, after closing, the board resigns and the management team now either works for the
buyer or “goes off to Disneyland”. What remains are unaffiliated shareholders who collectively have these indemnification obligations and escrow rights, or possibly rights to potential earn-out payments. The acquirer can’t and won’t deal with each shareholder individually.

That’s why they require the selling shareholders to appoint one party who can speak and act for them with absolute discretion and authority – the shareholder representative.

Mark Vogel is co-founder and managing director of Shareholder Representative Services. This post was co-authored by fellow SRS co-founder Paul Koenig.