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Opinion Articles

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Opinion Article


.K, so a heavy hitter, whether a private

equity fund, a conglomerate or just

somebody’s rich uncle, has agreed to

pay a hefty price tag for purchasing your start-up.

Wait just one moment before signing the “no-

shop” agreement preventing you from accepting

competing offers. It is probably a good idea to

make sure that you understand the “fine print”

affecting the bottom line, being how much you

and your fellow founders or stockholders are

ultimately going to get to put in your pockets.

Here are my top five “fine print” pitfall items, in

a nutshell. I would recommend that you skim

this list on your way to your big meeting in the

Valley with potential buyers.

1. Currency:

How are you being paid? Obviously

there is a huge difference between payment in

cash and payment in shares (for example, you

can’t buy your groceries with shares). And if

you do get paid in shares, the distinction as to

whether the purchasing company is a private

company or is listed on a respectable stock ex-

change is no less crucial. Beyond tax consider-

ations, payment in shares assumes attributing

a certain valuation to the purchasing company,

and there is no guarantee that you will be able

to sell your shares at that price. You have prob-

ably heard of some of the famous cases where

the value of shares that sellers received in their

exit plummeted before the date on which those

shares could be on-sold by the sellers.

2. Earn Out:

If part of the consideration is de-

fined as an “Earn Out”, that means that it is

conditioned on the achievement of certain tech-

nological or commercial milestones following

closing of the transaction. So, for example, a

$50M price tag might include a $15M payment

at signing and a $35M payment that is condi-

tioned on achieving a certain pre-agreed sales

target. Obviously, if the sales target is not met,

the $35M (or part of it) will not become payable,

so the price ends up being $15M instead of

$50M. It is wise to keep in mind that sometimes

a bird in the hand is worth two in the bush.

3. Escrow:

This means that, at Closing, a certain

portion of the sale price is not paid to the sellers,

but is instead transferred to an escrow agent.

This sumwill remain in escrow, often for several

years, as a security for the buyer guaranteeing

the sellers’ obligation to compensate the buyer

for any breach of contractual undertakings or

inaccurate representations made to the buyer

in the transaction. Typically, this sum will be

around 10% to 15% of the sale price. So, taking

a $100M transaction as an example, a sum of

$15Mmight not be paid to the sellers at Closing.

Sellers will instead need to wait several years

after Closing to receive the sum, or rather what-

ever remains of it if claims for compensation

were brought by buyer during the intervening


4. Holdback:

A holdback means that a portion

of the consideration that the founders were

supposed to receive for their shares will not be

paid at the Closing. Instead, it will be paid a few

years after closing, on condition that they have

continued to work for the company during that

period. If founders had committed to working

for the company but ended up leaving before

the relevant date, the holdback sum won’t be

paid to them and their total consideration in

the transaction will diminish accordingly.

5. Taxes, Taxes, Taxes:

You need to remember

that the tax authorities are a silent partner to any

transaction. The structure of the transaction will

play a critical role in determining the tax rate that

will ultimately apply to the sellers. For example,

if an acquisition is structured as an “Asset Pur-

chase”, this may result in the sellers paying

nearly twice as much tax as they would have to

pay were it instead structured as a “Share Pur-

chase”. Similarly, a transaction which includes

a holdback (described in 4 above) might result

in the founders being subject to a much higher

tax rate if the holdback arrangement is not care-

fully constructed to meet certain conditions. A

transaction where the consideration is paid in

the form of buyer shares might also lead to un-

necessarily high taxes for the sellers, unless

they make sure to get the necessary approvals

from the tax authorities.

The above is really just the tip of the iceberg for

each of the points. There are creative solutions

that can be considered and many complex fac-

tors that may be involved. I recommend that you

consult professionals with expertise in the field

in order to try and negotiate and formulate an in-

formed position concerning the “real” value of a

proposed transaction. The bottom line is, before

rushing to sign with the buyer who quoted the

highest price, first make sure you understand

the “fine print”.

Though the other deal may make racier news-

paper headlines, less $$$ in cash often beats

more $$$ in shares, especially if the higher

price comes with a significant indemnification

escrow or holdback, and a less efficient tax

structure which may impose a higher tax rate

on sellers.

Exit strategies – Top 5 tips to look out for in the

fine print

By Adv. Jacob (Kobi) Ben Chitrit, High-Tech Partner

Adv. Jacob (Kobi) Ben Chitrit, High-Tech Partner, Yigal Arnon & Co. Law Firm

Adv. Jacob (Kobi) Ben Chitrit,

High-Tech Partner