The American Bar Association recently published its 2015 Private Target Deal Points Study, a survey of publicly available M&A transactions involving private target companies that closed in 2014. While each and every deal is unique with its own dynamics, this study is commonly used to inform “what’s market” in negotiations involving acquisitions of private companies. Below are selected highlights regarding key economic-centric transaction terms that are often considered by parties in negotiating acquisition documents.

Overview:

The study analyzes 117 acquisition agreements involving private company targets being acquired by public companies (compared to 136 in the last deal study, which was published in 2013 and covered transactions that closed in 2012), with transaction values ranging from $50 million to $500 million (with an average transaction value of $186 million and a median transaction value of $130.5 million). Asset deals comprised 17% of the study sample. We note that despite an overall strong pace for M&A deal volume in 2014, the number of transactions surveyed by this study actually decreased from the prior study, and the size range of the transactions was considerably narrower. This result is likely due to more transactions being completed by private company and financial buyers in 2014. Buyers also appear to be successfully narrowing the seller-favorable nature of some of the surveyed deal terms.

Highlights:

Purchase Price Adjustments: Purchase price adjustments at closing continue to be very common, but with a variety of metrics used to calculate such adjustments and fewer buyer approval rights prior to payment.

• Purchase Price Adjustments – 86% of the surveyed transactions include post-closing purchase price adjustments, and while the majority of adjustments were based on more than one metric, working capital (83%) comprised the most common metric used for such adjustments, with cash (38%), debt (33%), and a metric other than working capital, earnings, debt, assets or cash, respectively, being the next most common (41%).
• Estimated Payments at Closing – 89% of the surveyed transactions include payments at closing based on the seller’s estimate, and the buyer does not have an express right to approve the estimated payment amount 84% of the time (up from 74% in 2012).
• Separate Escrow for Post-Closing Purchase Price Adjustments– there is no separate escrow for post-closing purchase price adjustments 75% of the time (compared to 69% in 2012), with any true-up payment coming from the indemnity escrow 50% of the time (compared to 58% in 2012).

Earnouts: The popularity of earnouts stayed relatively consistent from 2012, but with less seller-favorable terms related to acceleration upon a change of control.

• Earnouts – 74% of the surveyed transactions do not have an earnout, but for those that do have an earnout, most earnouts are comprised of either earnings/EBITDA (39%) or a metric other than revenue or earnings/EBITDA (39%).
• Acceleration of Earnout – 65% of earnouts did not accelerate on a change of control (compared to 76% not accelerating on a change of control in 2012).

Indemnification: While the predominant survival periods stayed constant from 2012, there was a greater variety of survival periods than identified in prior years. Deductibles rather than “first dollar” baskets continued to be favored. Indemnification cap amounts of less than 10% of the transaction value continued to be the most common amount, but there was greater fluctuation for cap amounts greater than 10%.

• Survival/Time to Assert Claims (Generally) – the most common survival period for representations/warranties in general was 18 months (36% – down from 44% in 2012), followed by 12 months (23%) and 12 to 18 months (16%).
• Carve Outs to Survival Limitations – the most common representations/warranties or other concepts that were excluded from the general time limitation to assert a claim noted above, and which typically survive for a longer period of time, were the due authority rep (86% – up from 75% in 2012), due organization rep (80% – up from 67% in 2012), taxes rep (78%), capitalization rep (76%) and broker’s/finder’s fees rep (61%). Interestingly, fraud survived for a longer period of time than the general time limitation 58% of the time (compared to 42% in 2012), and a breach of the target’s covenants survived for a longer period of time only 40% of the time.
• Baskets – the most common type of basket was a “deductible” (65%), with “first dollar” being used only 26% of the time. The most common indemnification basket range was consistent with 2012, with the most common being 0.5% or less of the transaction value (52% of the time), followed by greater than or equal to 0.5% to 1% (38% of the time).
• Carve Outs to Basket – the most common carve outs for claims that would otherwise be subject to the basket were breaches of seller/target covenants (83% – up from 73% in 2012), due authority rep (85% – up from 70% in 2012), due organization rep (80% – up from 62% in 2012), fraud (80% – up from 61% in 2012), and taxes (74% – up from 56% in 2012).
• Cap Amounts as Percentage of Transaction Value – the median cap amount was consistent with 2012 (10%), with the most common amount being less than 10% of the transaction value (50% of the surveyed transactions). The next most common amount was between 10 and 15% of the transaction value, which appeared in 22% of the transactions (compared to such range appearing in 29% of surveyed transactions in 2012).
• Carve Outs to Cap Amounts – carve outs to the cap amount were generally consistent with prior years, with the most common being fraud (82%), a breach of the due authority rep (76% – up from 65% in 2012), due organization rep (69% – up from 56% in 2012), capitalization rep (65%), and the taxes rep (65% – up from 52% in 2012).

Escrows/Holdbacks: There were fewer escrows/holdbacks relative to 2012, but the most common amount of such escrows/holdbacks increased materially from 2012.

• Escrows/Holdbacks – 77% of the surveyed transactions included an escrow/holdback (down from 89% in 2012), with the most common amounts being in the 10 to 15% of transaction value range (23%), and 7 to 10% range (19%). These are materially higher than in 2012, when the most common amounts were in the 7 to 10% of transaction value range (24%) and 3 to 5% transaction value range (22%). The median escrow/holdback amount also increased slightly, with the median being 7.5% of transaction value compared to 7.14% of transaction value in 2012.

Note that some of the metrics in this summary are rounded, and some of the variances from prior years’ data may be due to differences in how data was analyzed by the study working group members from year-to-year. The information contained in this advisory should be read in conjunction with the 2015 Private Target Deal Points Study and the other studies referenced in this advisory, and is qualified in its entirety by such studies. The findings presented in this advisory do not necessarily reflect the personal views of the authors of this advisory or the views of Davis Graham & Stubbs LLP.

If you have any questions about this advisory, please contact one of the attorneys listed above.

On January 25, 2016, the Colorado Oil and Gas Conservation Commission (“COGCC” or “Commission”) approved rules for coordinating the work of the COGCC with local jurisdictions when large scale oil and gas facilities are proposed near communities and for facilitating municipal planning. These rules stem from Recommendations No. 17 and 20 of Governor Hickenlooper’s Oil and Gas Task Force and will become effective 20 days after they are published in the Colorado Register.

Over 16 months ago, Governor Hickenlooper issued Executive Order B 2014-005 establishing the 21-member Task Force to recommend measures for coordinating state and local regulatory structures to foster responsible energy development. After extensive debate and deliberation, the Task Force made nine recommendations. Two of them required COGCC rulemaking: Recommendation No. 17, which outlined a notice and consultation process between operators and local governments when a large oil and gas facility is proposed in an urban mitigation area; and Recommendation No. 20, which suggested an information sharing process between operators and municipalities to facilitate planning regarding oil and gas development.

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Today, the Department of Interior (DOI)/Bureau of Land Management (BLM) issued its much-anticipated proposed rule on venting, flaring, and leaking from oil and gas operations on onshore federal and Indian leases, along with a four-page fact sheet. DOI’s press release, which discusses the proposal largely in terms of air quality, notes that the rule will “help curb waste of our nation’s natural gas supplies, reduce harmful methane emissions and provide a fair return on public resources for federal taxpayers, Tribes, and States.” DOI is proposing to update NTL-4A by requiring operators to limit venting and flaring through new technologies, processes, and equipment including storage tanks, adopt leak detection and repair programs, and limit gas losses during liquids unloading. The proposed rule would also prohibit venting, except during emergencies and other limited exceptions–effectively implementing a “no venting” standard. Finally, the rule proposes to clarify when operators owe royalties on flared gas and allow BLM to set royalty rates at or above 12.5 percent of the value of production.

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Under the Wyoming Supreme Court’s recent ruling in Pennaco Energy, Inc. v. KD Company LLC, 2015 WY 152 (Wyo. 2015), parties assigning agreements pertaining to oil and gas development should be aware that, absent express language in the agreement to the contrary, they could remain responsible in the event of subsequent breaches by their assignees, even when those breaches occur years later.

The dispute in Pennaco surrounded several surface use and water storage agreements executed by Pennaco Energy, Inc. (Pennaco) and landowners in Johnson and Sheridan Counties, Wyoming, during the 1990s. The surface use agreements required Pennaco to make annual payments to the landowners, provide compensation for surface damages, and reclaim all wells on the covered lands upon termination of Pennaco’s oil and gas leases. The water storage agreements similarly required Pennaco to make annual payments, but also obligated it to construct certain pipelines and reservoirs. Pennaco complied with these obligations until 2010, when it assigned a portion of its interests in the agreements to CEP-M Purchase, LLC (CEP-M). Soon thereafter, CEP-M assigned all of its rights to High Plains Gas, Inc. (High Plains). Neither CEP-M nor High Plains made the required annual payments and both failed to comply with several other provisions of the agreements.

On December 9, 2015, EPA announced important changes to its environmental audit policy and voluntary disclosure program with the launch of its new eDisclosure portal (eDisclosure Notice) intended to streamline the disclosure process. Voluntary disclosure of potential or confirmed violations of federal environmental laws discovered through a qualifying audit must now be made electronically through the eDisclosure portal. Disclosures made pursuant to the New Owner Policy, however, must be submitted in hardcopy and confidential business information must be submitted in hardcopy to receive protection from public disclosure.

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Introduction

Imagine you are general counsel explaining to your management that the insurance benefits you thought the other party to a corporate transaction had assigned to your company to cover assumed liabilities are not actually available. Now you have major lawsuits pending against your company with no corresponding insurance benefits to provide defense or indemnity because your own company’s insurance will not respond to those claims. Worse still, the lawsuits also name the other party to the transaction, and a dispute is rapidly brewing between the companies concerning not only who is responsible to defend the claims asserted against both entities, but also who gets the insurance benefits. This would not be a pleasant conversation.

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Rule Now Effective In All Other States, But Legal Challenges Loom Nationwide

As discussed in a previous Davis Graham alert, on May 27, 2015, the Environmental Protection Agency (EPA) and the Army Corps of Engineers (Corps) issued the new Clean Water Rule (Rule) defining the extent of jurisdictional “Waters of the United States” regulated under the Clean Water Act (CWA). The Rule was set to take effect nationwide on August 28, 2015. Right before that effective date, however, a federal judge in North Dakota temporarily stayed the Rule in 13 states, including Colorado and several other Western states. The Rule has taken effect in all other states, pending any actions by various other courts where judicial challenges have been brought, resulting in a patchwork regulatory landscape and further complicating the legal status of the Rule. Below is a brief discussion about what you should know if you are undertaking a project where Clean Water Act jurisdiction might be an issue.

In June 2015, 13 states—Alaska, Arizona, Arkansas, Colorado, Idaho, Missouri, Montana, Nebraska, Nevada, North Dakota, South Dakota, Wyoming, and the New Mexico Environment Department and State Engineer—filed suit in the District of North Dakota challenging the Rule on multiple grounds. On August 27, 2015, a day before the Rule’s effective date, the district court granted the plaintiff states’ motion for preliminary injunction, thereby barring implementation of the Rule during the pendency of that case. On September 4, 2015, the court issued an order clarifying and limiting the scope of the injunction to apply only to the 13 plaintiff states. The court declined to apply the injunction nationwide out of respect for other states not party to the litigation and other courts that have denied or have yet to rule on motions for preliminary injunctions in cases challenging the Rule.

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Who is Covered by the New Rule?

Colorado-licensed investment adviser representatives (IARs) and Colorado-licensed broker-dealer sales representatives are now required to file their current business email addresses with the Colorado Securities Commissioner.

Since the rule applies only to Colorado-licensed IARs, SEC-registered advisers whose employees are exempt from the federal Advisers Act definition of an “investment adviser representative” are not required to comply with this new rule for those employees.

How Do I File?

Representatives or their employer firms may file email addresses by visiting the following page and clicking on the link provided. In addition to a business email address, you will need to provide the full name of the representative, as well as his/her CRD number. Alternatively, firms with substantial numbers of representatives may file email addresses by sending a spreadsheet to the Colorado Division of Securities. Additional instructions on how to comply can be found here.

How Do I Stay Current?

Email addresses of affected individuals should be updated promptly when they change, but no later than thirty (30) days following such change. The Colorado Division of Securities may also make direct requests for email addresses, in which case such information should be provided no later than fifteen (15) days following a request.

On Tuesday, August 18, 2015, with much fanfare, EPA released pre-publication versions of several proposed rules affecting air quality permitting and regulation of sources in the oil and gas sector. While EPA’s promised “methane rules” and proposed Control Technique Guidelines (CTG’s) for state emissions control requirements for oil and gas sources may have grabbed the spotlight for being completely new and different among the proposals released, also included was EPA’s proposed rule for making Clean Air Act (CAA) source determinations in the onshore oil and gas sector. This proposed Source Determination Rule follows two significant EPA attempts to clarify the process for making source determinations in the onshore oil and gas sector through guidance, but which guidance has not prevented significant litigation and disputes between permitting authorities, the regulated community, and other stakeholders regarding when and how to “aggregate” multiple pollutant emitting activities in the same CAA stationary source permit. Will this third attempt by EPA through rulemaking to clarify the process for making source determinations for oil and gas activities prove successful? We highlight a few significant aspects of the proposed rule below, to help you answer this question for yourself, or develop your own comments.

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When oil prices fell precipitously in the second half of 2014, many predicted that the resulting financial pressures on U.S. E&P companies would force them to rapidly scale back production. To date, the industry has defied these predictions – greater efficiency, high-grading of drilling plans, cost savings, robust capital raising and strong hedging positions have allowed domestic producers to maintain production at or near historically high levels even with rig counts falling significantly. However, the impact of some of the factors that have helped sustain production in the face of lower prices may now be eroding. In particular, the pace of capital raising has slowed significantly in recent months, with some planned offerings being pulled due to adverse market conditions. In addition, the benefits of deeply in-the-money hedge positions entered into before the 2014 price decline and the dramatic improvements in cost structures seen earlier this year cannot be continued indefinitely. Finally, with reports of concerned bank regulators questioning the quality of some loans made to energy producers and renewed pressure on commodities prices, it may turn out that predictions of a period of significant retrenchment in the industry will, belatedly, prove to be correct.

In this environment, many companies will continue to be focused on shoring up their balance sheets and/or liquidity positions and, when circumstances permit, acquiring new assets at what may prove to be bargain prices. This alert provides some thoughts on these topics from a legal perspective.

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