Deal Structure

Deal structure refers to a process of ascertaining the method of enterprise value or purchase price payment in a business merger and acquisition deal, I.e., whether in cash, rollover stocks, or both. It determines the consideration timeline and the other terms, conditions, responsibilities, and risk allocation for both parties. 

Such an arrangement ensures mutual financial benefit of the buyer and the seller in a business deal. While it primarily aims at maximizing the deal value for the acquirer, it also helps them examine different financing options. Further, it determines the tax considerations of both parties and successfully integrates the target firm into the acquiring firm.

A deal structure primarily focuses on the method of purchase price agreement formed between the acquirer and the target company in a potential merger and acquisition deal. However, it considers specific other terms and conditions, as discussed below:

• Down payment of the deal;
• Target firm's financing conditions;
• If any purchase price holdback is involved in the earnout agreement;
• Whether it is an asset or stock acquisition;
• Other payment-related terms and conditions.

Since there are various M&A deal structures for the companies to select, as per their needs and goals, both the acquirer and the acquiree can reap the maximum benefit from shaping a purchase price agreement such that it is a win-win for all. It not only maximizes the value these parties derive from such dealing but also mitigates the risk involved due to colossal capital involvement to a certain extent. Moreover, the acquiring and acquiree companies often review their potential tax liabilities and implications before choosing a particular structure for executing a business deal. Indeed, business buyers usually find various financing opportunities to arrange for funds to proceed with such mergers and acquisitions.

However, the acquirers must be careful while opting for a suitable M&A deal structure since it involves a significant capital investment and has a particular opportunity cost. Some of the tips for selecting a favorable model are as follows:

• A business acquisition deal structure must align with the corporate strategies.
• As discussed above, the parties must assess their potential tax consequence from the deal.
• The buyer must internally analyze its financial capacity before selecting a structure.
• Also, the parties should check whether the structure aligns with the cultural integration of the firms.
• The buyer and the seller should follow all the relevant guidelines, regulations, and legal formalities.
• The parties shouldn't hesitate to negotiate to their best.

There are different M&A deal structure models available for paying the consideration for such a business deal; the prominent ones are as follows:

• Equity-Based: It is one of the most popular deal structures whereby the buyer (acquiring company) reimburses the seller (target firm) of a target business by transferring its stocks equivalent to the deal value.
• Cash-Based: Another convenient and quick option is that the acquirer pays off the total consideration of a business deal in cash. However, it may result in high capital gain tax liability for the acquiree along with more liquidity.
• Debt-Based: In this structure, the acquirer buys a target company through a leveraged fund, I.e., financing the deal from the debt amount against the target company kept as collateral with the lender.
• Earnouts: These are particular types of dealings where the acquirer attracts the shareholders of the target firm with the extra consideration above the valuation analysis payable over the period. Thus, it is a suitable option when the target's shareholders expect more value than what the acquirer determines.
• Hybrid: It is a blend of two or more consideration methods, such as equity-based and cash-based deal structures, customized as per the unique requirements of both parties.

Some of the basic steps to the formation of a business deal structure include:

1. Initial discussions and conversations between the acquirer and the acquiree;
2. Forming a letter of intent (LOI) stating all the crucial inputs provided by both the parties;
3. The LOI includes the purchase price details as well;
4. On further negotiation, the LOI transforms into a binding Definitive Agreement, I.e., a Purchase Price Agreement by the legal attorneys of both parties;
5. However, no further negotiations should be done on moral grounds since it leads to a breach of trust between the parties.

Moving ahead, let us find out how a deal structure works in a real business scenario with the help of the following examples:

Example #1

Suppose ABC Ltd. makes a business acquisition deal structure to acquire XYZ Enterprises. The company plans to proceed with a cash-based deal structure at the valuation of $4.7 million since XYZ Enterprises requires urgent funds to pay off its liabilities before dilution. Moreover, ABC Ltd. has sufficient cash reserve to make the payment and wants to close the acquisition deal quickly for its expansion strategy to facilitate a lined-up project. Thus, within 30 days of the deal finalization, ABC Ltd. paid the total consideration in cash to XYZ Enterprises.

Example #2

In 2024, the private equity industry began the year with an impressive $2.59 trillion in cash reserves for investments, distributed among 25 prominent groups. However, they confront obstacles such as a record $2.8 trillion in unsold investments and a sluggish market for exits. Despite these challenges, there's optimism for increased deal activity, particularly with the potential stabilization of US interest rates. Moreover, the PE groups have used complex private equity deal structures like earnouts to actualize such dealings. Also, to address these dynamics, firms are employing financial engineering strategies like structured transactions and corporate carve-outs to navigate the market terrain.

Source - https://www.ft.com/content/079ccde6-3c3d-4791-953b-6e3e8203ef12

A well-designed deal structure makes a business collaboration or buyout a winning bet for both the acquiring company and the target firm. However, it is a strategic decision that brings up multiple challenges for the involved parties. Each form of deal structure has specific pros and cons, as discussed below: