chapter 17 anatomy of an acquisition agreement - … · 2016-06-02 · anatomy of an acquisition...

CITE AS33 Energy & Min. L. Inst. 17 (2012)

Chapter 17

Anatomy of an Acquisition Agreement

Brian Stuart Duba1

Frost Brown Todd LLCLexington, Kentucky

Synopsis§ 17.01. Introduction ....................................................................................576§ 17.02. Pre-signing Documents .................................................................578 [1] — Introduction. .......................................................................... 578 [2]—ConfidentialityAgreement. ................................................... 578 [3]—LetterofIntent .......................................................................580 [4]—DueDiligenceChecklist ....................................................... 581§ 17.03. The Acquisition Agreement ..........................................................582 [1]—Overview ................................................................................582§ 17.04. Definitions Section .........................................................................583 [1] — Introduction ........................................................................... 583 [2]—Knowledge .............................................................................584 [3]—PermittedEncumbrances ......................................................586 [4]—MiningTitle ...........................................................................587 [5]—MinePlan ..............................................................................588§ 17.05. Asset v. Stock Sales and Backdoor Liability Assumption in Asset Sales ............................................................590 [1] — Introduction ...........................................................................590 [2]—FraudulentConveyance ......................................................... 591 [3]—BusinessContinuationDoctrine ........................................... 591 [4]—StockTransactionLiabilities .................................................593 [5]—NoteRegardingConsents ......................................................594§ 17.06. Sale and Transfer of Assets; Closing ...........................................595 [1] — Introduction ...........................................................................595 [2]—ANoteonHavingTwoBuyers .............................................595 [3]—Assets .....................................................................................596 [4]—ExcludedAssets .....................................................................597 [a]—BenefitPlans ................................................................597 [b]—CertainContracts ........................................................598 [c]—PermitCollateral .........................................................598

1 TheauthorwishestothankKirbyIfland,2012summerassociate(HarvardLawSchool,Classof2013),forhisthoughtfulcommentsandcontributionstothischapter.Theopinionsexpressedandanydeficienciesofthischapterare,ofcourse,solelytheauthor’s.

ENERGY & MINERAL LAW INSTITUTE

SYNOPSIS

[d]—Insurance .....................................................................598 [5]—Liabilities ...............................................................................599 [a]–Assumed ........................................................................599 [b]–Retained ........................................................................599 [6]—Consideration .........................................................................600 [a]—PaymentTerms ............................................................600 [b]—Valuation .....................................................................600 [c]—WireTransfers .............................................................601 [d]—Non-cashConsideration ..............................................601 [e]—Earnout ........................................................................602 [f]—WorkingCapitalAdjustment ......................................602 [g]—InventoryPurchasePriceAdjustment ........................603 [h]—Holdback/Escrow ........................................................604 [i]—ANoteonComplicatedConsideration Provisions.....................................................................605 [7]—AllocationofPurchasePrice ...............................................605 [8]—ClosingandClosingObligations ..........................................606§ 17.07. Representations and Warranties .................................................607 [1]—GeneralDescription ..............................................................607 [2]—MaterialityQualifiersandKnowledgeQualifiers ...............607 [3]—Sellers’andShareholders’Representations andWarranties .......................................................................608 [a]—Introduction .................................................................608 [b]—FinancialStatements ...................................................609 [c]—Inventory ......................................................................609 [d]—AccountsReceivable ...................................................609 [e]—Permits .........................................................................609 [f]—RealProperty ............................................................... 610 [g]—Reserves ...................................................................... 616 [h]—MiningPlan ................................................................ 616 [i]—AffiliateAgreements ................................................... 617 [j]—Solvency ....................................................................... 617 [4]—Buyer...................................................................................... 617§ 17.08. Covenants ........................................................................................ 618 [1] — Introduction. .......................................................................... 618 [2]—Pre-ClosingandClosing ....................................................... 610 [a]—AccessandInvestigation ............................................. 619 [b]—OperationofBusiness ................................................. 619 [c]—DeliveryofInterimFinancials .................................... 619 [d]—ApprovalsandConsents .............................................620 [e]—NoShop ....................................................................... 621 [f]—PaymentofLiabilities.................................................. 621

ANATOMY OF AN ACQUISITION AGREEMENT

SYNOPSIS

[g]—Estoppels,Ratifications,andAmendments ................622 [h]—Recordation .................................................................622 [i]—EvidenceofTitle ..........................................................623 [j]—Employees ....................................................................623 [k]—TaxComplianceCertificates ......................................623 [l]—ClosingDeliverables ....................................................624 [m]—Utilities .......................................................................624 [3]—Post-Closing..........................................................................624 [a]—PaymentofRetainedLiabilities; NoDistribution ............................................................624 [b]—Noncompetition,Nonsolicitation andNondisparagement ................................................625 [c]—MiningPermitMatters ................................................626 [d]—TransitionServices ......................................................629 [e]—TransferandPropertyTaxes .......................................630 [f]—FurtherAssurances .....................................................630§ 17.09. Conditions Precedent ....................................................................631 [1]—GeneralDescription............................................................... 631 [2]—DeliverablesClosingConditions ........................................... 631 [a]—RealPropertyComfort ................................................ 632 [b]—Financing ....................................................................642 [c]—Diligence ..................................................................... 632 [d]—AdverseFactsClosingConditions .............................. 633 [e]—BreachofWarrantyClosingCondition ...................... 633 [f]—SupplementstoDisclosureSchedules .........................634 [g]—MaterialAdverseEffect .............................................634 [3]—Seller’sConditions ................................................................ 635§ 17.10. Termination ....................................................................................635 [1]—FailureofConditionsPrecedent ........................................... 635 [2]—BreachoftheAgreement ...................................................... 635 [3]—DropDeadDate ....................................................................636 [4]—EffectofTermination ...........................................................636§ 17.11. Indemnification ..............................................................................636 [1]—GeneralNotes .......................................................................636 [a]—WhySoImportant? .....................................................637 [b]—PublicCompanyStockSale ...................................... 638 [c]—StandardIndemnitySectionOutline ..........................638 [d]—WhyWarrant? .............................................................638 [e]—ShareholdersLiable ..................................................... 639 [f]—NoteonImportanceofInsurance ............................... 639 [g]—SurvivalPeriods ..........................................................640 [2]—Anti-sandbaggingv.Pro-sandbagging .................................640

[3]—IndemnificationbySellerandShareholders ........................ 641 [4]—DeductibleorBaskets ...........................................................642 [5]—EscrowandRelatedConcepts ..............................................643 [6]—SeparateTitleorReclamationIndemnity ............................644 [7]—SoleRemedyandCarveoutforFraud ..................................644 [8]—Third-PartyClaims ..............................................................646 [9]—TreatmentofDirectClaims ..................................................646§ 17.12. General Provisions .........................................................................645 § 17.13. Determining Market Provisions ..................................................646 [1] — Introduction ...........................................................................646 [2]—ABADealPointsStudies .....................................................646 [3]—J.P.MorganM&AHoldbackEscrowReport .......................646 [a]—ElectronicDataGathering,AnalysisandRetrieval .......

(EDGAR). ..................................................................647§ 17.14. Conclusion .......................................................................................647

§ 17.01. Introduction.The acquisition of an active business operation is a challenging

transaction for lawyers, businesspersons and accountants.Whether theacquirerpurchasesthe“business”bypurchasingalloftheassetsofthetargetcompany (an“asset” transaction), orbypurchasingallof theownershipinterestsheldbyownersofthetarget(a“stock”transaction),thereareamyriadofoperational,legalandpracticalmattersthatshouldbeaddressedinordertoconsummateatransactionwithminimalinterruptiontooperationsandminimaladverseconsequences.2Despitetheextremecomplexityinvolvedinevaluating(a) thevalueofa target, (b) theassetsof the target, (c) theproceduresforclosingthetransactionwithoutadverseconsequencesand(d)thelegalrisksapplicabletothetarget(andequallyimportant,allocationofliabilityforsuchrisks)theabilitytoconsummateacquisitiontransactionsiscriticaltoanefficientcapitalistmarketbecauseitenablestheallocationofresources to themostefficientusers thereof inanefficient, lumpsumtransaction.Therefore,mergersandacquisitionslawyersplayavitalroleingreasingthegearsofthefreemarketbyhelpingbusinessfolksconsummatewhole-companyacquisitions.

2 Ofcourse,mergersarealsoaformofacquisition,buttheissuesareessentiallythesameaswithastockacquisition.

§ 17.01

Unlikeleases,coalsalesagreements,andcontractminingagreements,tonamea fewexamples, acquisitionagreementsarenotdocuments thatmostclientsbecomefamiliarwiththroughtheirdailybusinessactivities.Formanyclients, anacquisitionordispositionof a companywilloccurveryrarelythroughouttheircareer,makingthejobofcounselallthemoreimportantwhen it comes to advice regardingwhat is reasonable fromabusinessperspective,notjustalegalperspective.

Further,anacquisitionagreementcannotbepulledofftheshelfwithoutagreatdealofriskthattheprovisionswillnotprovidethelanguageandprotectionnecessary for thedealandassetsathand.There is simplynogenericagreementthatworks.

Toexhaustivelycoverallofthelegalissuesthatneedtobeconsideredwhenacquiringa coalbusiness, onewouldneed todraft a chapter thattouchesoneverylegalissuecoveredbyeverywhitepapersubmittedtotheEnergyandMineralLawFoundationsinceits inception,andthensome,becauseallofthoseissuesmaycomeupandbeofconcerntoapurchaser,especiallyinastocktransaction.Thischapterdoesnotdothat,butwhatitdoesisdescribethemasteragreementthatgovernstheacquisition:theAssetPurchaseAgreement,StockPurchaseAgreementorMergerAgreement,asapplicable.Acustomaryacquisitionagreementislongandcomplicated,butaswithacoalleaseoracoalpurchaseagreement,oranyothercommonlyutilizedformofagreement,thestandardtermsallserveanessentialpurpose.Itisalsoessentialforbuyer’sandseller’scounseltomastereveryprovisionintheagreementinordertoadequatelyrepresenttheirclientsinanacquisitiontransaction.Asthechapterdiscussesvariousprovisionsofanacquisitionagreement,itbrieflytouchesonsubstantiveissuesofthelawasitrelatestoacoalacquisition,includingtax,realestate,environmentalissues,thecontractlawofconsents,andhumanresourcesmatters.

Thischapterdiscussestheacquisitionagreementfromthepurchaser’sperspective,focusingonkeyprovisionsspecifictoourindustryandcompletelyignoringcertainprovisionsthatareapplicabletoalltransactionsandthatweredeemedlessimportantorinterestingthantheitemscoveredindetail.Coveringtheacquisitionagreementmostlyfromthepurchaser’sperspectiveisreasonablebecausetheinitialdraftofanacquisitionagreementisgenerally

§ 17.01

preparedbythepurchaserandthepurchaseris,generallyspeaking,thepartymostinterestedinhavingacomplex,comprehensiveagreement.Afterall,whenacompanyissellingallofitsassetsorshareholdersaresellingalloftheirstock,theironlyrealconcern—absentreleaseofpersonalliabilityintheeventofreclamationliability,personalguaranteesorotherliabilitiesthatpiercetheveiloflimitedliability—isreceivingtheconsiderationtheyareowed,whichiscashinthevastmajorityoftransactions.Throughoutthischapter,draftingrecommendationsandexamplesareprovided.

Afteraverybriefdiscussionofthepre-signingactivitiesrelatedtoanacquisition,thischapterdiscussesaselectionofthemostimportantprovisionsinanacquisitionagreementforanactiveminingcompanyandtheoveralllayoutandgoalsofanacquisitionagreement.Finally,thischapterdiscussestoolsthatcanbeusedtoargueoverwhat“market”termsareforvariousprovisionsintheagreement.

§ 17.02. Pre-signing Documents.[1] — Introduction. Becauseoftheimportanceofthestandarddocumentsthatprecedethe

executionofanacquisitionagreement,thefollowingbrieflydescribestheConfidentialityAgreement,LetterofIntentandDueDiligenceChecklist,whichareexecutedorprovided(inthecaseofthechecklist)intheorderlisted.Afullchaptercouldbedevotedtoeachofthefollowing,butforcurrentpurposesafewimportantpointsregardingeachareworthdiscussing.

[2] — Confidentiality Agreement. Confidentialinformationisessentialtothesuccessofminingcompanies.

Thelocationofatarget’sownedorleasedproperty,theroyaltiestheypaytotheirlandlords,andthepricestheyarepaidfortheircoal(andbywhom)arethreeofthemostobvioustypesofinformationthatareveryvaluabletoatargetandbecomelessvaluableoncedisclosedtocompetitors.Assuch,beforeanyactionistakentodiscusstermsofadeal,andespeciallybeforeatargetdisclosesinformationthatthepurchaserwillneedtovaluethegoingconcern,aconfidentialityagreementwillbeprofferedbythetarget.Suchanagreement,asitsnamesuggests,createsacontractualobligationtokeep

§ 17.02

informationsecureandconfidential.Inacashtransaction,theconfidentialityobligations areusually just obligationsof thepurchaser tonot disclosetarget’sinformation.However,wherethepurchaserispublic,orwherestockconsiderationisinvolved,thepurchasermaywantacovenantbythetargetnottodiscussthetransactionoranyconfidentialinformationitprovidestothetargetconcerningitsstockvalue.Further,ConfidentialityAgreementswillusuallyrequirethatapurchasernotusetheconfidentialinformationtothetarget’sdetriment,whichismostimportantwhenthetargetcontrolsaminingarea,butmaynothaveformalizedleasesorpurchaseswithallpropertyownersinthevicinity.Thetermsofaconfidentialityagreementareverysimilaracrossforms,butcounselshouldneverdiscounttheirimportance.

Further,evenafterobtainingaconfidentialityobligation,manytargetswillwant toprotectverysensitiveconfidential information,suchascoalcontractsandcertainleases,untilpurchaserisprettyfardowntheroadtoclosingatransaction.Thisispartlybecauseatargetcouldfeellikeithasstruckaparticularlygoodeconomicdealwithalandlordorbuyer,andwillwant toprotect that informationbecause theydonotwant thirdpartiesdiscoveringit.Theotherreasonforextraprotectionofcertainconfidentialinformationisthatmanycontractsrestrictdisclosureoftheirterms.Thisisaparticularlytroublesomeissueaspurchasersandtargetsoftendonotwantthirdpartiestoknowoftheexistenceofapotentialtransactionuntilwellintotheprocess,butsharingofagreementsisoftendonemuchearlier,usuallybeforethepricingstage,andwellbeforeexecutionofadefinitiveacquisitionagreement.Thisconundrumisonethatisnoteasilydealtwith,butoneoptionissimplynottoprovidesuchrestrictedcontractualinformationuntilwelldowntheroadtoclosing,andpotentiallyobtainconsenttosharethe information immediately prior to obtaining consent to assign suchagreements.Thisprocessmayworkwellbecause,invariably,ifacontracthasaconfidentialityprovision,itprobablyalsohasarestrictiononassignment,sothethirdpartywillhavetobeapproachedtoconsummatethetransaction.Apurchaserwillinsistonadiligenceclosingconditionifithasnotyetbeenabletoreviewcertaincontracts—whichharmsthetarget,whichwantstopushforveryminimalclosingconditions—butthisseemstobetheonlyreasonablesolutionintheabsenceofstrongleverageonthetarget’ssideto

§ 17.02

notallowadiligencecontingencyandnotsharecopiesofallcontractstobeassumeduntilwellintothepost-signing,pre-closingprocess.Oneotheroption that arguablypreventsbreachof a confidentialityprovision is toheavilyredacttheagreements(includingthecounter-partiesidentities)and/orprovidesummariesofsuchrestrictedcontracts.Thisisapartialdisclosure,butitshowsagoodfaithefforttocomplywiththecovenantofconfidentialityandhopefullywouldavoidabreachtotheextentthatthecontractcouldbeterminatedbythethirdpartyorthatthethirdpartywouldhaveadamagesclaim,whicharetheissuesofconcernwithrespecttotheseprovisions.Ofcourse,themaintakeawayfromthisdiscussionofconfidentialitycovenantsistwofold:(1)lawyersshouldstronglyconsidercarveoutstoconfidentialityprovisionstopermitsharingsuchrestrictedcontractsinconjunctionwithamaterialtransactionsuchasasaleofsubstantiallyallassets,and(2)lawyersshouldmakesuretheythinkaboutthisissueanddiscussitwiththeirclientsothattheydonotignorantlycreateanewissue.Manytimes,aclientwillbemuchlessconcernedabouttheissuethantheircounsel,anditiscertainlywithintheclient’sprerogativetoignorethefearsandworriesoftheircounsel.Whatisnotgoodisforthelawyertofailtoraisetheissuefortheirclienttodecide.

[3] — Letter of Intent. Aletterofintentsetsforththematerialtermsthatthepartieseachbelieve

arevitalinordertobewillingtoconsummateanacquisition.Asitsnamesuggests,theletterofintent(LOI)ispreparedinletterformatanddescribesthepartiesdesiretoconsummateatransaction,statesthatmostitsprovisionsarenon-binding,describes contemplated timing,details certainbindingprovisions,andlaysout,eitherintheletterorinanexhibit,alistofmaterialterms.Thesematerialtermsalwaysincludingthefollowing:purchaseprice,formofpayment,specificsonassetstobeconveyed,specificsonliabilityassumption,discussionofindemnificationprovisionsandlimitationsonsame(deductibles,escrowofpurchaseprice).TherearenorulesforanLOIotherthantomakesureitisclearlynon-bindingwithrespecttothedealtermsandobligationtoclose,asneitherpartywilltrulywanttobeforcedtoclosewithoutstandard,definitiveagreementsanddiligence.Theletterofintent

§ 17.02

isbindingwithrespecttocertain,specificprovisionssuchastheno-shop,choiceoflaw,andanagreementtomoveforwardwithgoodfaithdealingsandnegotiationtowardsreachingadefinitiveagreement.3

Thebestreasontorequirealetterofintentistomakesurethepartiesareinagreementonthesemostsubstantivebusinessandlegaltermsbeforeagreatdealoftimeisspentdraftingdocuments.Ifthepartiescometoblowsovertheamountoftheindemnitycaportheamountofadeferredpurchaseprice,itismuchbetterforalmosteveryoneinvolvedtofindthatoutearlyonasopposedtodiscoveringitafterthousandsofdollarshavebeenspentdraftinganagreementthatwillfailtomoveforwardbecauseofabusinessterm. Finally,apurchaserwillalsowantaletterofintentbecauseoftheno-shopthatisusuallygrantedinaletterofintent,requiringthattargetnotsolicit,orentertain,anymaterialtransactionwiththirdpartiesforaperiodoftime.Thisallowspurchaserandtargetbreathingroomtoreachadealwithoutotherbuyersbreathingovertheirshoulders.Atargetmay,attimes,requireadeposittowardsthepurchasepricetoestablishthepurchaserasbonafideandseriousaboutcompletingatransactionandalsotocompensatetargetforthetimeitislosingbytakingitselfoffofthemarketforaperiodoftime.

[4] — Due Diligence Checklist. Asitsnamesuggests,aduediligencechecklistisalistofitemspurchaser

askstargettoprovidesopurchaser’scounsel,accountants,insurancebrokersandotherscandeterminethevalueofthetargetandwhetheranyissuesexistthatneedtobespecificallydealtwithintheacquisitionagreements,suchasconsentstoassignmentofmaterialagreements,confidentialityprovisions,badeconomictermsincontracts,ahistoryofemployeeissues,orlitigationforwhichpurchaserwillrequirespecificindemnityfromtarget.

Duediligencechecklists are all fairly similar in content and scope,butwillneedtobemodifiedtocoverthespecificissuesthatfaceminingcompanies.SpecificquestionsaboutMSHAviolationhistory,titledisputes

3 SeeFrazierIndus.,L.L.C.v.GeneralFastenersCo.,2005U.S.App.LEXIS8158(May10,2005).

§ 17.02

betweenco-tenants, necessity for404permits to continueper theMinePlan,andotherindustry-specificitemsshouldberequestedinthechecklist. Thechecklist requires that existingdocumentsbeprovided, suchascontractsandpermitinformation,butalsomayrequiredenovodocumentssuchasalistofmaterialsuppliers,customersoremployees.

Therequest,totheuninitiated,mayseemextremelyonerous.Itisnotunheardofforarequestlisttobe20pageslong.Thestandardresponsebypurchasercounselisthatmanyoftherequesteditemsarehopefullynon-existent,suchthatrespondingtothemwillonlytakeafewminutes,andthatprovidingthisinformationnowwillsavetimelaterinthetransactionwhenitcomestimetoprepareschedules.Commonly,apurchaserwillsetupanelectronicdataroomorganizedinthesamemannerastheduediligencechecklistsothattarget’semployeesandcounselcaneasilyuploadresponsiveinformation.Thiscutsdownoncostandalsoprovidesthepurchaserwithastrongrecordofthetarget’sresponseincaseitturnsoutanyoftheresponseswerelessthancomplete.Purchaser’scounselshouldbepreparedtodealwithsomebacklashwhenalengthyduediligencechecklistissent,butitisbettertoaskthenecessaryquestionsinwritingthantonotdosoinfearoffacingsomeconsternationfromaclientwhogetsgrieffromtarget’sbusinessfolksforalloftheworktheyhavetoperform.

§ 17.03. The Acquisition Agreement.[1] — Overview. Acquisitionagreementsdealwiththefollowingmajorareasofagreement,

usuallyinsubstantiallythefollowingorder:1. Recitals2. Definitions3. SaleandTransferofAssets;Closinga. DescriptionofAssetsAssumedandRetainedb. DescriptionofAssumedandRetainedLiabilitiesc. DescriptionofPurchasePricei. DiscussionofanyEarnoutorDeferredConsiderationd. ClosingDeliverables4. RepresentationsandWarrantiesofSeller

§ 17.03

5. RepresentationsandWarrantiesofBuyer6. Pre-closingCovenants7. ConditionsPrecedenttoObligationtoClose8. Termination9. Post-closingCovenants10. Indemnification11. Miscellaneous(boilerplate)

§ 17.04. Definitions Section.[1] — Introduction. Thedefinitionssectionofanacquisitionagreementisnotalightread,

butthedevilisinthedetailsandthesedefinitionscanbeveryimportantandheavilynegotiated.Definedtermsareutilized,ostensibly,tomaketheacquisitionagreementmorereadableandshortenthebodyoftheagreement.Definitionsusedinacquisitionagreementsareoftenlonglistsofitemsthataredefineddowntooneortwowords,suchas“PermittedEncumbrances,”inordertoprovideallofthenuanceanddetailthatattorneysrequirewithoutmakingforanunreadabledocument.Onemightarguethatmanycommonlydefinedterms,suchasAccountsReceivable,donotnecessitateadetailedexplanation,becausetheworditselfisunambiguousandneednotbedefined.However,thecustomistocarefullydefineanymaterialtermtoavoidtheriskofambiguityandargumentoverwhatisandisnotincluded.Justassoonasanattorneychoosesthepathlesschosenandleavesacommonlydefinedtermundefined,adisputewillsurelyariseastoitsmeaning.Ergo,itissafesttoutilizedefinitionsforcommonlydefinedtermsandcarefullyparsethroughwhatgoes into suchdefinitions.Of course, there canbeambiguity in alengthydefinition,buttheoreticallylessso.Thereareamultitudeofstandarddefinedtermsinanacquisitionagreementrangingfromthedefinitionofenvironmentallawstothedefinitionofknowledge.

Asamatterof“optics,”itisworthconsideringmovingthedefinitionssectiontoanexhibitortotheendoftheagreementinsteadofbeingupfrontasisusuallythecase.Abusinesspersonreviewingtenpagesofdefinitionsmayhaveapredilectiontobalkatthelengthandcomplexityoftheagreementandprovidenegativefeedbacktothedrafter.Further,theymayneverread

§ 17.04

pastthefirstfewpagesofdefinitions,aresultthatisnotideal.Anattorneyreading theagreementwillfind thedefinitionswherever theyappear, soputtingthemupfrontisnotessentialandislikelydetrimental.Thatbeingsaid,thischapteraddressesthemupfront,ignoringtheauthor’ssuggestion.

Asamatterofself-preservationandinordertoretainasmanyreadersaspossible,thischapterdoesnotdiscusseverydefinedterm,asmostarethesameinanon-mineralacquisitionasinamineralacquisition.Thefollowingtermsareofdistinctinterestintheminingcontext.

[2] — Knowledge. Oneoftheheavilynegotiatedprovisionsisthedefinitionofknowledge.

Thistermisanimportantqualifiertomanyrepresentationsandwarranties.4 Thisqualifiermeansthatawarrantywillonlybebreachedifthepartymakingithadknowledgeoffactsthatmakethewarrantyincorrect,insteadofabreachsolelybaseduponthetruthofthewarranty.Thedefinitioninthefootnoteisafairlystandard,andpurchaser-favorable,knowledgedefinition.5Thatbeingsaid,aknowledgequalifierisalwaystothebenefitofthetarget.Aso-called“flat”repisthebestformofwarrantyforapurchaserbecauseitisbreachediffalse,whereasaknowledge-qualifiedwarrantycouldbe“breached”inthatthemattercoveredbyit(forexample,thataleasehasnotbeencompliedwith)maybeinaccurate;butthetargetmaystillnotbeliablebecausetotarget’s“knowledge”theoperationswereincompliancewiththelease.

Asapracticalmatter,aknowledgequalifierwillmakeprovingaclaimforbreachof suchaqualifiedwarrantyextremelydifficult for thepartyseekingindemnificationbecauseofthevagariesanddifficultiesofprovingknowledge,anarguablysubjectivestandard.However,adefinitionsuchas

4 Forbrevity’s sake, this chapter refers to representations andwarranties simply aswarranties.5 Itwouldbeveryusefulforthereadertohaveaccesstoexamplesofafewassetpurchaseagreementswhilereadingthroughthischapter.TheSecuritiesandExchangeCommission’sEDGARsystemprovidesaccesstodozensofcoalindustrypurchaseagreements,butmostinvolvepubliccompaniesononeorbothsides,somanyoftheprovisionscouldvarydueto thepublicdisclosureof informationabout the seller and thewidelydispersed shareholdings.Further,theAmericanBarAssociation’sABA Model Asset Purchase Agreement with Commentary providesusefulexamplesofprovisionsinanacquisitionagreement.

§ 17.04

inthefootnote,6duetothedeemedknowledgeandreasonableinvestigationrequirementsinit,greatlycurtailstheknowledgequalifierandmoveitbacktowardsa“flatrep”severalnotches.Thisseemsfair;ifatargetreasonablyshouldhaveknown,thentheyshouldnotbeabletorelyonaknowledgequalifierunlessthedealispricedasan“asis,whereis”transaction(whichisnotgenerallythecase).

In themining context, a targetwillwant knowledge qualifiers onwarrantiescoveringpermitbreaches,titleissues,trespass,compliancewithleasesandcompliancewithcoalcontracts.Whetherapurchaserwillconsentshoulddependuponthepurchaser’sdeterminationthatthepurchasepriceislowenoughto“compensate”itforsomeoftheseissuescomingtofruition,itscomfortlevelwiththetarget’sveracity,anditstoleranceforrisk.Manytimesapurchaseriswillingtotakeadealwithsome“hair”onitbecause

6 StockPurchaseAgreementbyandamongDavidL.Dinning,RonaldA.Corl,DavidC.Klementick,RangerInvestmentCo.,SolarFuelCo.,Inc.andAKSteelCo.yandAKSteelNaturalResources,LLC,datedasofOctober4,2011,availableathttp://www.sec.gov/Archives/edgar/data/918160/000091816011000040/exhibit10-2.htm.

Thephrase“totheknowledgeof”andsimilarphrasesrelatingtoknowledgeof(i)theSellersshallmeantheactualknowledgeofthosepersonslistedonSchedule1.2(d)(i)oftheCompanyDisclosureScheduleandwhateachsuchindividualwouldreasonablybeexpectedtohaveknownafterreasonableinquiryandafterspecificinquirywithrespectto investigation regarding theaccuracyof any representationorwarrantycontained inthisAgreement,includingbeingawareoffacts,circumstancesoreventsthatwouldleadareasonablePersontoconcludethatanyrepresentationorwarrantyinthisAgreementisnotcorrect,and(ii)theCompanyshallmeantheactualknowledgeofthosepersonslistedon Schedule1.2(d)(ii)oftheCompanyDisclosureScheduleandwhateachsuchindividualwouldreasonablybeexpectedtohaveknownafterreasonableinquiryandafterspecificinquirywithrespecttoinvestigationregardingtheaccuracyofanyrepresentationorwarrantycontainedinthisAgreement,includingbeingawareoffacts,circumstancesoreventsthatwould leada reasonablePerson toconclude thatanyrepresentationorwarranty in thisAgreementisnotcorrect.

Aperson(otherthananindividual)willbedeemedtohaveknowledgeofaparticularfactorothermatterifanyindividualwhoisserving,orwhohasatanytimeserved,asadirector,officer,employee,shareholder,partner,executorortrusteeofthatPerson(orinanysimilarcapacity)has,oratanytimehad,knowledgeofthatfactorothermatter(assetforthinsection(d)above),andanysuchindividual(andanyindividualpartytothisAgreement)willbedeemedtohaveconductedareasonablycomprehensiveinvestigationregardingtheaccuracyoftherepresentationsandwarrantiesmadehereinbythatpersonorindividual.

§ 17.04

itfeelsthepriceissogoodthatanyriskwillbeabsorbedinthewindfallprofitstheyexpecttoreceivefromstrikingadealatabargainprice.Manypurchasersunderstandthattheyaretakingagamble,tosomeextent,becausetheyhavenoonetoblameifcertainissuesariseintheabsenceofknowledgeorfraudonthetarget’sbehalf.

[3] — Permitted Encumbrances. The definition of PermittedEncumbrances ariseswith respect to

warranties covering real estate andpersonal propertyof the target.Allpropertyissubjecttosomelevelofencumbrance7butapurchaserwillwantawarrantythattheacquiredrealpropertyisfreeandclearofallencumbrancesother than specifically described encumbrances.Because thenature ofmineralpropertyinabusinessacquisitionissuchthatitoftenconstitutesavastacreageofpropertycomprisedofhundredsofdeedsandleases,andsuchpropertyisnothighlyvaluableonaperacrebasis,titleworkoneachparcelofpropertyisnottypicallyperformedbythepurchaserbeforeclosing.However,purchaserwillwantarepresentationthattherearenot“material”encumbranceson thepropertysuchasmortgages, lis pendensandothervoluntaryormaterialliens.Atarget,ontheotherhand,willwantalistofpermittedencumbrancesthatissomewhatgenericwiththegeneralconceptbeingthatcertaintechnicalencumbrancesarenotmaterialtotheuseandbenefitofthecoalproperty.Thereisagreatdealoftensioninnegotiatingthisdefinitionasthereisabiggrayareaastowhatencumbrancesarenotmaterialandshouldbeincludedinthepermissiblesection.

Further,thisdefinitioniscloselyrelatedto,andanextensionof,thetitlewarrantiesthatatargetandpurchaserhavepricedintoatransaction.Titletorealpropertyreallyinvolvestwoanalyses.Thefirstiswhatisownedofanyparticularacre.Thisrequiresdeterminingwhatinteresttargetacquiredandwhatithasdivestedafteracquiringit.Thisisthetraditionalconceptoftitleinwhichapurchaserisconcernedwithpreviousoutconveyancesofmineral

7 Thiscouldbeasminimalasaninchoatelienfortaxesnotyetdueoreasementsorrightsofwayalongroadfrontage–bothclearlyimmaterialitems.

§ 17.04

orsurfaceinterests,multipleco-tenants,previousout-leases,easements,andothersticksintheproverbialbundleofrealpropertyrightsthatmaybeheldbyothers.Thesecondanalysisiswhatobligationsorencumbrancesbindorencumberthesticksinthebundlethattargetdoesown.Thesearethemortgages,mechanicsliens,taxliensandlis pendensissues.Thesecouldbethoughtofasadditionalsticksinthebundle,butitiseasierfortheauthortothinkofencumbrancesnotasseparatesticksbutasmudonthesticksthatimpactstheirusefulness,tocompletethemetaphor.

With respect to certainhighly improved realpropertyparcels, suchas loadouts, preparationplants, officesandmineentries,warranties anddiligencemaybemorelikeatraditionalrealpropertyacquisition.Thisisdiscussed further in the sectiondiscussing realpropertywarranties, butitbearsmentioninghere that there shouldpotentiallybeamorenarrowPermittedEncumbrancesdefinition(onemoreakintothatinacommercialrealestateagreement)applicabletothoseimprovedsitesthathaveahighvalueperacre.

[4] — Mining Title. Manytargetsareunwillingtogiveageneralwarranty,butapurchaser

willwantsomewarrantyastothenatureandqualityoftitlepossessedbythetargetbeyondamerespecialwarranty.Ageneralwarrantysimplymeansthatthetargetisstating,withrespecttoanyparticulartractorparcelofland,thatitownssuchdescribedinterest(whetheritbeafeeinterestor,e.g.,a1/16thinterestintheLowerKittanningseam)withnoreservations,issuesorencumbrances.OnerelativelycommoncompromiseistohavethetargetrepresentthatithasMiningTitletotheminingproperty.8Thisprovidesawarrantybeyondaspecialwarranty,butshortofageneralwarranty,andgives

8 Acommondefinitionisasfollows:“MiningTitle”meansfeesimpletitletosurfaceand/orcoaloranundividedinterestinfeesimpletitletheretooraleaseholdinterestinalloranundividedinterestinsurfaceand/orcoaltogetherwithnolessthanthoserealproperty,easements,licenses,privileges,rights,andappurtenancesasarenecessarytomine,remove,processand transportcoal in themannerpresentlyoperatedandascontemplated tobeoperatedbyBuyerinareasonablyprudentmannerconsistentwiththecoalminingindustryinCentralAppalachiaandpursuanttotheMinePlan.

§ 17.04

afairamountofcomfortthatminingshouldberelativelyunobstructedbytitleorcorrelativerightsconflicts.Keepinmindthattheexistenceofownersofotherinterestsinanyoneacreandthenecessityforaccesstopublicroads(andmoreimportantlytopublicroadsthatpermitheavycoaltruckstotraversesame)isjustasimportantasthetitletotheparticularcoallandtobemined. Aminingtitledefinitionsuchastheonedescribedinfootnote8isnotdirectlyanalogoustogeneralorspecialwarranties,asitcontemplatesandwarrantscertainnecessaryappurtenantrightssuchasaccess.Italsoclearlydoesnotwarranttheabilitytomine100%ofallthecoalinwhatevermannerthepurchaserseesfit.Itcanbethoughtofasawarrantythatthepropertywillnotfailinitsessentialpurpose,whichistobeasourceofcoal.

Finally,itshouldbeconsideredthatacoalcompanymayhavethreevastlydifferenttypesofrealproperty:(1)improvedfacilities,(2)raw,undevelopedmineralresourcesand(3)activesurfaceorundergroundminingoperations.Itisreasonabletoconsiderhavingdifferentlevelsofwarrantiescoveringeachtypeofpropertybeingacquired,withthefirstreceivingthemostrobusttitleandencumbrancewarranties(orpurchaserhavingtherighttoobtainfulltitleinsuranceasaconditiontoclosing),thesecondreceivingverylittleinthewayofwarranty,andthethirdfallingsomewhereinthemiddle.

[5] — Mine Plan. Itisoftenclaimedinbusinessthatpastperformanceisagoodpredictor

offuturereturns.Themodifier“good”ishighlysuspectinallsituations,buttheentirestatementishighlysuspectinthecontextofvaluingaminingcompany.Futurereturnshavealmostnorelationshiptowhat theminingcompanyhasdoneinthepast.Thereasonforthisissimple:notwoacresofcoalseamarealike.Therefore,eveniftheequipment,themanagementandtheemployeesarethesame,onecontourareaorsectionofanundergroundminecanproduceamilliontonsofcoalatahighlycompetitivecostpertonandtheverynextcontourorundergroundsectioncanbeatotaldisasterdueonlytoseamvariationsorgeologicissues.Sovaluingacoalcompanybasedonprioryears’earningsisriskybusinessindeed.Theonlyaccuratewaytovaluetheoperatingportionofatargetasagoingconcernistodeterminethenetpresentvalueoftheexpectedfuturecashflows.Forcoalinplacethatis

§ 17.04

merelyareserve,andnotunderpermitorpartofforeseeableoperations,itisreasonabletosetsomepertonvalueforthepropertyifreasonablydecentgeologicdataexistsastotheseamsandconditions.Inordertodeterminefuturecashflowsforanoperatingmineorminesabouttogounderpermit,orabouttobeginoperations,aproformaprofitandlossstatementneedstobeconstructedtotrytodetermineascloselyaspossiblewhatthefuturecashflowswillbeforthefollowingfivetotenyears,soanetpresentvaluecalculationcanbeprepared.

Ofcourse,therearemanyvaluationmethods,includingliquidationvalueandtheaforementionedmultiplesofpreviousearnings.Themethodologiesthatcontemplateliquidationorperassetvaluewillalmostneverprovideashighavaluationasanetpresentvaluecalculation,sothepreviousearningsornetpresentvaluecalculationsaretheonlyviableoptions.Ofcourse,therearemanycoaloperatorswhohaveaninstinctiveknackforvaluingabusinessandwhocangamblethattheirhunchiscorrectaslongastheyaregamblingtheirownmoney,butwheneveroutsidefinancingisrequired,thebasisforthepurchasepricewillneedtobegroundedinstrongfinancialanalysisthatsupportssuchcoalbaron’shunches.Becausepreparinganetpresentvaluecalculationmodelrequiresaminingplan,purchasersshouldtrytoobtainawarrantyregardingtheminingplan—andthustheminingplanmustbedefined.9AsdiscussedinthesectionontheMiningPlanwarranty,thewarrantycannotreasonablybeveryrobust,but itshouldexistespeciallyifthetargethasmarketedtheirassetsbasedonfutureprojections.Also,aMiningPlanisimportantbecauseitisusuallyreasonabletohavestrongerwarrantieswithrespecttopropertyintheminingplanandweakerwarrantiesforpropertiesoutsideoftheMiningPlan.

9 Typicalprovision:“MiningPlan”meanstheeconomicmodelandproductionplanassetforthinExhibit[__]relatingtotheprojected10-yearperformanceandproductionoftheminesandoperationsownedorcontrolledbytheCompanyandtheCompanySubsidiarieswhich contains detailedmine plans containing good faith, reasonable and completeestimates(byprincipalcomponents)ofproductionvolumeandlocationofmineworksandimprovementsanddirectoperating,capitalexpenditureandothercosts,includingreclamationcosts,withrespecttoeachmine,setforthonaquarterlybasisforeachminecoveredintheMiningPlan.

§ 17.04

§ 17.05. Asset v. Stock Sales and Backdoor Liability Assumption in Asset Sales.

[1] — Introduction. Thedifferencesbetweenanassetsaleandastocksaleareextremely

importanttoconsider.Thischapteroutlinesanassetacquisitionagreement,as it isgenerally themorecomplicated transactiondocument, but stockacquisitionsareaveryimportantcomponentofmergersandacquisitionsthatalsobeardiscussing. Inanassetsale,everyassetofthetargetisbeingsoldtothepurchaser.Documenting and consummating legal transfer of thosemanyassets istediousandexpensive.Withrespecttorealproperty,omnibusorseparatedeedsofconveyanceorassignmentsoflease(oreasement)mustberecordedtotransfertheassets.Thetaxesinvolvedintransferringalargenumberofdeededpropertiescanquicklybecomeexpensive.Transferofequipment,permitsandotherassets involvesdozens, ifnothundreds,ofcertificatesof title,permit transferapplications,andotherdocumentation.Formanypersonalpropertyassets,thereisnoadditionalpaperworkexceptforabillofsalethatcoverstheitemsgenerallyorwithparticularity,withthelatterbeingtheobviouschoiceforanyassetofmaterialvalue.Formanyotherpersonalpropertyassets,suchason-the-roadtrucks,agreatdealofpaperworkisaddedtothetransactionbecauseoftheneedtotransferownershiponthecertificateoftitle.Saleofpermitsrequiresamountainofpaperworkandfollowupwiththeregulatorybodyresponsibleforissuance.Finally,contractsmustbespecificallyassignedinanassetsale,andtheissueofanti-assignmentrestrictionsbecomesamajorhurdle.

Thatbeingsaid,assetsalesaregenerallythepreferredroutebecauseof the ability to avoidunwanted liabilities.Theconventionalwisdom isthat the additional legal tedium in an asset deal ismore thanoffset bytheability toonly takecertain liabilitiesof the target, anoption that istechnicallyimpossibleinastockacquisition.Thepurchasercanleavebehindcertainliabilitiesinanassetsale,whereasinastocksaletheassetsremainencumberedbyallknownandunknownliabilitiescreatedwhilethetargetwasoperatedbythepreviousownersandmanagementsimplybecausethepurchaserisbuyingtheentirecompanybybuyingitsstock.Thatbeingsaid,

§ 17.05

itbearsdiscussingbrieflywhetherthedifferenceisallthatgreatduetoafewlegalconceptsthatcanbeusedbycertaincreditorstotagapurchaserwithliabilitiesofatarget.

[2] — Fraudulent Conveyance. The legal action for fraudulent conveyance, both in andout of the

bankruptcycontext,canunwindatransactionandleavethepurchaserwithnothingmorethananunsecuredclaimtoitspurchaseprice,eventhoughliabilitiesareexpresslyretainedbythetarget.Toavoidgettinghopelesslybogged down in another article entirely, the basic rule for fraudulentconveyanceisthatapurchaserthatgiveslessthan“fair”considerationwhileaselleris“insolvent”riskshavingtogivebacktheassets.10Eventhoughthesecriteriamaynotbemet,ifasellerratherquicklyfilesbankruptcyorispushedintobankruptcy,apurchaserwillhavetofightthefraudulentconveyanceclaimsofatrusteeorcreditorsatgreatexpenseevenifthepurchaserpaidareasonablylargesumfortheassets.Thisiswhyseveraloftheprovisionsdiscussedbelowaresoimportantforapurchasertoinclude,evenifthe“deal”isnottotakeliabilities(seetheSolvencyrepresentationandthecovenanttonotdissolvewithinaperiodoftime).

[3] — Business Continuation Doctrine. Anotherlegaltheory,thatofthebusinesscontinuationdoctrine,canhook

anunwarypurchaserwithliabilityforanassetseller’sretainedliabilitiesregardlessofthetermsoftheacquisitionagreement.Courts,ofcourse,holdthat“[it]isgenerallyaccepted...thatacorporationwhichpurchasesanothercorporationdoesnotassumethepaymentofanydebtsorliabilitiesofthecorporationwhichithaspurchased.”11Unfortunatelyforpurchasers,almostaswellestablishedare theexceptions to thegeneral rule.12AKentuckycourtwillholdasuccessorcorporationliableinthefollowingfoursituations:

10 See generallySection548oftheBankruptcyCode,aswellastheUniformFraudulentTransferAct.11 Pearsonex rel.Trentv.Nat’lFeedingSys.,Inc.,90S.W.3d46,49(Ky.2002).12 SeeAmericanRy.ExpressCo.v.Commonwealth, 228 S.W. 433 (Ky.1921).

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(1) wherethepurchaserexpresslyorimpliedlyagreestoassumesuchdebtsorotherliabilities;

(2)wherethetransactionamountstoaconsolidationormergerofthesellerandpurchaser;

(3)wherethepurchasingcorporationismerelyacontinuationof thesellingcorporation;or

(4) wherethetransactionisenteredintofraudulentlyinordertoescapeliabilityforsuchdebts.13

Withrespect tothesecondandthirdcategoriesabove, thefollowingfactorsguidecourtsintheirdeterminationwhethertoapplythedefactomergerdoctrine:(1)continuityofmanagement,personnel,location,assets,andgeneralbusinessoperations;(2)continuityofshareholderswhichresultsfromthepurchasingcorporationspayingfortheacquiredassetswithsharesofitsownstock;(3)whetherthesellercorporationceasesbusinessoperationandliquidatesordissolvesassoonasislegallyorpracticallypossible;(4)whetherthepurchasingcorporationassumestheobligationsofthesellerswhichareordinarilynecessary for thecontinuationof theseller’snormalbusiness;and(5)adequacyoftheconsiderationreceivedbythesellingcorporation.14 Thesetwohooksfortheunwarypurchaser(fraudulentconveyanceandthebusinesscontinuationdoctrine)arewhy,eveninanassetdealinwhichthetargetisretainingmostliabilitiesrelatedtothebusiness,warrantiesabout

13 Parkerv.HenryPetterSupplyCo., 165S.W.3d474,479 (Ky.App.2005), citingAmericanRy.ExpressCo. See also Payne-BaberCoalCo.v.Butler,123S.W.2d273(Ky.1938).14 Wallacev.MidwestFin.&Mortg.Serv., Inc., 2010WL2835753at*16(E.D.Ky.2010)(citationsomitted).See also Dixstarv.GentecEquip.,2004WL3362501at*4(W.D.Ky.2004)(“Thecasesdiscussingthisdoctrinehaveevaluatedseveralcommonelementsindeterminingwhetherthe“merecontinuation”exceptionapplies:(1)continuityofshareholdersandownership,management, personnel, physical location andbusinessoperations; (2)whethersufficientconsiderationwasgiven,particularlywhetherstockwasgiveninexchange;(3)whetherthepredecessorceasedbusinessoperationsandwasdissolvedshortlyafterthenewcompanywasformed;(4)whetherthesuccessorcompanypaidanyoutstandingdebtsonbehalfofthepreviouscompanyinordertocontinuethebusinesswithoutinterruption;(5)thebuyer’sintentorpurposewhenthenewcompanywasformed;and(6)whetherthesuccessorhelditselfouttothepublicasacontinuationofthepreviouscompany.”(citationsomitted).

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litigation,accidentsandothermattersthatareclearlystatedtobe“retained”areimportantfromtheperspectiveoftryingtounearthliabilitiesthatmaypermitrecoveryorat leastcauselitigationcostsfor thepurchaser.If theliabilitiesretainedaremassiveorifitappearsthesellerisdeeplyinsolvent,theserisksbecomematerialandapurchasershouldconsiderextraprotectionfromcreditorsofseller,includingobtaininganindependentappraisal,cuttingalltieswiththeseller’smanagementandowners,andpotentiallypurchasingtheassetsoutofbankruptcysuchthatcreditors’claimsarecleansed.

Further,itshouldberememberedthatthosecreditorsthatasellerfailstopayareprobablythesamevendorsandsuppliersthatapurchaserwillneedtouseinitsbusinessoperations,sothereisaverypracticalreasontomakesureatarget,eveninanassetdeal,paysallofitsdebts.

Also,keepinmindthatinanytransactionwherethetargetisdistressedor thepurchaser isgettingan“unbelievable”deal, thereare likely tobe“scorched earth” litigators representing creditors of a sellerwhowillassuredlygoafterthepurchaseriftheydonotgetpaidattheclosingofthetransaction,regardlessofthefinerpointsofthetransactionstructure.Thereisabigdifferencebetweentechnicallynotbeingliableandnotbeingsuedbysomeonemakingacolorableclaimthatapurchaserisliable.

[4] — Stock Transaction Liabilities. In a stock transaction, theonlyprotections against liabilities that a

purchaserdoesnotwanttoassumearisefrom(1)uncoveringallliabilitiesthroughdiligenceanddisclosure,(2)obtainingorconfirmingthepossessionofinsurancetocompensateforlossesarisingoutofsuchliabilitieswherepossible,and(3)indemnityfromtheequityownerssellingthetarget,alongwithcomfort that theequityowners canmakegoodon their indemnityobligation— either because they clearly have sufficient funds and adisincentive to ignore a judgment against them,or through retaining aportionofthepurchasepricetoprovideapotofmoneyfromwhichtoobtainindemnitypayments.

Wewilldiscussindemnitylaterinthischapter,butweshouldbrieflydiscussinsuranceanddiligencemattersnow.Withrespecttodiligence,itbearsmentioningthatdiligenceneedstogobeyondthetarget,andinclude

§ 17.05

liensearchesandotherinvestigationwithrespecttotheshareholderssellingtheirequity,astwolevelsoflienissuesinastocktransactionexist(liensonthestockitselfandliensontheassetsofthecompanywhosestockisbeingpurchased).Notonlycouldthecompanywhosestockisbeingpurchasedhavemajorliabilities,thesellersofthestockcouldalso.Afterall,astocktransactionisreallyanassetdealwheretheoneassetisextremelycomplicatedtovalueandtoperformdiligenceon(namely,thestockoftheactivecompany).

Makingsureadequateandenforceableinsuranceexiststocovermanyofthetypesofliabilitythatcouldcometolightpost-closingisyetanothertopicthatrequiresitsownchapter.Inbrief,insurancecounselmustcarefullyreviewtheinsurancetodeterminewhetheritisclaims-madeoroccurrencebasis andwhat todo about changeof control restrictions that are ever-presentininsurancepolicies.Thetypesofliabilitiesthatcouldbecoveredbyinsurancerangefromenvironmental,toharassmentclaims,topersonalinjury;soexperiencedinsurancecounselisamandatorycomponentofanystocktransaction.

[5] — Note Regarding Consents. Aperceived advantage to a stock acquisition that shouldbebriefly

discussedisthatoftheconsentproblemthatislargelyavoidedinastocktransaction.Becausemanycontractsthatrestrictassignmentdonotrestrictchangeofcontrol,astockacquisitioncanbeseenasstreamliningatransactionandshorteningthetimefromthefirstdiscussionstoaclosing.However,notadvisingkeysuppliersandothercontractpartiesofamajortransactioncanleadtoconsternationthatwouldcometolightintheprocessofobtainingconsents toassignment,so theconsentsolicitationprocesscanserve theimportantpurposeofuncovering festering issueswithin the relationshipaswellasissuesthatthecontractingpartymayhavewiththetransactionsoccurrence.Inastockacquisition,thepurchaserwillnothaveanopportunityformostcontractingpartiestochimeinonthetransaction,thuscreatingthepossibilitythatablindsidedsupplier’spentupangerovertheminingoperationbitesthepurchaser,orthatthesamesuppliersimplydoesnotwanttodealwithanyoneexceptthetarget’smanagement.

§ 17.05

§ 17.06. Sale and Transfer of Assets; Closing.[1] — Introduction. After theaside into the important considerations inchoosingadeal

structure,wenowdelvebackintoexaminingatypicalacquisitionagreement’sstructure.The“SaleandTransferofAssets;Closing”sectionoftheacquisitionagreementsetsforthwhatisbeingtransferred(stock,assets,liabilities),whatisnotbeingtransferred,howmuchisbeingpaidforit,whenandwheretheclosingwillbe,andothermattersrelatedtothepurchasepricesuchasanyearnoutorworkingcapitaladjustment.Thisisessentiallythepartoftheagreementthathastoexisttoconsummatethetransaction.Therestoftheagreementconsistsofadditionalwarrantiesandcovenantsnottechnicallynecessarytoreachanagreementtotransferassetsinexchangeforcash.

[2] — A Note on Having Two Buyers. Whenstructuringtheacquisition,itiscustomarytohavetwopurchaser

entities:onetoacquiretherealpropertyassets,andonetoacquirethepermitsandequipmentandtohiretheretainedemployees.Thereareliabilityandtaxbenefits to thisstructure.Froma liabilityperspective,separating thereclamationliabilityincumbentuponthepermiteefromtheownershipinthelandprotectsthemostvaluableassetinaminingcompany,namely,therealpropertyrightsthatentitleittoaccessmineralresources.Whilecoalcontractscanofcoursebeextremelyvaluabledependingontheirtermandpricing,theyareshort-livedassetsthatarealwaysatriskofbeinglostduetodefaultbythesupplier,defaultbythepurchaserorthevagariesofthemarketpriceofcoal.Equipment,ofcourse,quicklylosesitsvalue.Permitshavegreatvaluewhiletheycoverunminedcoal,butquicklyflipfromtheassetcolumntotheliabilitycolumnonceallofthepermittedcoalisextracted.Employees,asthesayinggoes,arethegreatestresourceofmostcompanies.Whilethisistrue,theyarenotanassetthatcanbeprotected,andareonlyasvaluableastheirlastpaycheckwastothem,meaningthattheyareanassetonlyaslongastheychoosetobe.Unlikethecontracts,equipment,permitsandemployeesdescribedabove,ownedrealpropertyisnotsubjecttobeinglostordevalued,sokeepingtherealpropertyinterestsintheirownentityisanextremelysmartandlegalwaytoprotectassets,muchlikecommercial

§ 17.06

products companies or franchises place their intellectual property in aseparateentityforliabilityshieldreasons(seewhatCoca-Colaandothersdowiththeirintellectualproperty).

[3] — Assets. Itgoeswithoutsayingthatadetailedandinclusivelistoftheassetsbeing

purchasedisveryimportanttothepurchaser.Inamineraltransaction,thegreatestvaluewilloftenbeintherealproperty,followedbytheequipmentandthepermitsthatcoverunminedcoal.Thepermitsheldbythetargetthatareofnofuturevaluearediscussedintheliabilitiessection.Whilenotexhaustive,thediscussionbelowdescribeshowsomeofthemoreimportantassetsaregenerallydealtwithinthissectionoftheacquisitionagreement.

Thetypicalacquisitionagreementspecificallylistseverypermitofeverynaturerelatedtothebusiness,withthescheduleusuallybeingprovidedinthewarrantiessectionandthatschedulebeingcross-referencedinthedescriptionofassetsinthischapteroftheacquisitionagreement.EachSMCRApermitandtherelatedwater,air,404andotherpermitswillneedtobespecificallyenumeratedwithasmuchdetailas reasonablypossible in theschedules.Preparingsuchalistshouldinvolvetheengineersatthetargetandshouldbecarefullyvettedbypurchaser’sminingconsultanttoensureadequacy.

Aswithpermits,realestateshouldbespecificallydescribedbyeachdeedorleaseconveyingthepropertytothetargetandshouldmentioneachoutleaseencumberingsuchownedproperty.Again,thisismostefficientlydonebycross-referencingthescheduleprovidedinthewarrantysectionoftheacquisitionagreement.

Equipmentshouldbespecificallylistedalongwithagenericcatch-allforallequipmentrelatedtotheoperationsbeingpurchased.

Insuranceisusuallynotassignable,butthebenefitoftheinsurancecanbeassignedandsoldtothepurchaser,soitmaymakesensetobespecificregardinginsurancepoliciesunderwhichbenefitsarebeingassigned.

Dependingonhowimportantinventorywastowardthevaluationofthetarget,anddependingonhowmanyactivecoalcontractsarebeingassumedthatwillrequirepromptdeliveries,inventorycanbeaveryimportantassettodealwithintheacquisitionagreement.Astandarddefinitionofinventory

§ 17.06

willbeasspecificaspossibleastolocation,willincludeinventoryintransit,andwillcovernon-coalinventory(suchassparepartsforequipment).Further,theacquisitionagreementmaycallforaspecifictonnageofinventoryorageneralstatementthatenoughinventorywillbepresenttofulfilloutstandingorders,assumingproductionofnewinventorycontinuesonpacewithpriorproduction.Thisobligationistoensurethatapurchaserdoesnotrunoutofcoalintheshorttermanddefaultunderitsnewlyacquiredsupplycontracts.

Quiteoften,receivablesarenotsoldinanassetdeal,butatransferisinevitableinastockdealwithoutassigningthereceivablestoaseparateentitypriortoclosinginordertonottransfertheirvaluetothebuyer.Receivablesshouldbespecificallydescribed,anditisworthconsideringwhethertargetshouldberequiredtoprovideanagingdetailreportimmediatelypriortoclosing,ifaccountsreceivablearetobeconveyed.

Cashisoftenexcludedbecauseitisafungibleasset;itreallymakesnosensetopaycashforcash,whichisakintotheproverbialrobbingPetertopayPaul.Thatbeingsaid,theauthorhasseensituationswhereapurchaserbuyingaturnkeyoperationdoesnotwanttohavetofundshort-termcashneedsandthusrequiresthatasellerinanassetsaleleavesenoughcashinthecompanytoprovideliquidity,sothattherearenoshort-termcashcrunchesduetolagsbetweenpayablesandreceivables.

[4] — Excluded Assets. Whileitmayseemlogicalthatallassetsnotspecificallymentionedin

thesectionoftheacquisitionagreementpreviouslydescribedareexcluded,it isconventiontoincludeasectiononexcludedassetsfortheavoidanceofdoubt.Ofcourse,thismeansthattheremustbelanguageineitherthe“includedassets”or“excludedassets”sectionstatingwhethermiscellaneousassetsnotspecificallydescribedaretobeassigned,orexcludedandretained.Thefollowingaresomeofthemorematerialexcludedassetscategories:

[a] — Benefit Plans. Whiletheauthorisnotanexpertinbenefitplans,itissafetosaythat

theERISAandbenefitsexpertshehasdealtwithalwayslobbyvociferously

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againstassuminganyplansorevenassetsofplans.Themainreasonisoneofsuccessorliability.

[b] — Certain Contracts. Sometimes, it is justas important to leaveoutcertaincontracts that

arenotvaluableastopurchasegoodcontracts,butkeepinmindtheriskoffraudulentconveyanceconcernsandhinderingcreditorsifthereisintenttoleavebehindahorrible,executorycontractinaninsolventcompany.Thebuyershouldstronglyconsiderusingalargeholdbacktocoveranyliabilityfornon-performanceofthatcontractbythetarget,orobtaininganamendmentorterminationofthecontract.

[c] — Permit Collateral. Manytimes, the targetwillwant to retain thecollateralsecuring its

reclamationobligationsunderitsminingpermits.Oftenthiscollateraltakestheformofcashpostedwiththestateorcertificatesofdepositsecuringbankissuedlettersofcredit.Ineithercase,thiscashassetneedstobeexplicitlydealtwith.Also,keepinmindthatthecollateralsecuringthetarget’sreclamationobligationsunderitsminingpermitscouldbeintheformofrelatedpartyoraffiliate-ownedbonds,lettersofcreditbackedbyaffiliateownedcollateralaccounts,orcashposteddirectlytothepermittingauthoritiesbyanaffiliateofthetargetinsteadofthetargetitself.Thereforeapurchaseralwaysneedstofullyunderstandwhatreclamationcollateralis,ifitistobepurchasedinsteadofexcluded,asitisoftenthecasethatthetargetdoesnotholdtitleto the reclamationcollateral,but ratheranaffiliatedoes.The targetandpurchasershoulddeterminewhatformofcollateralsecuresthereclamationobligationsunderthepermitsandownershipofsameandexplicitlycoverit,whetherexcludedorincluded.

[d] — Insurance. Insuranceisrarely,ifever,assignableinanassetdeal.Itrequiresconsent

toachangeofcontrol,soinsurancepoliciesarealwaysonthelistofretainedassetsor,inastockdeal,assetstobespunoutofthetarget.

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[5] — Liabilities. [a] – Assumed. Themost important differencebetween an asset acquisition and a

stockacquisitionisthatapurchaserofassetsdoesnot,generally,assumeanyliabilityfortheactionsorcontractsofthesellerotherthanliabilitiesinherent in the assets purchased.15However, the acquisition agreementoften contractually binds purchaser to assume liabilities beyond thoseinherentintheassets.Normallytheassumedliabilitiessectionisveryshort,astheessentialpurposeofanassetdealistoexcludethetakingofmostliabilities.Generally,atargetwillinsistuponincludingaspecificreferencetoreclamationliabilitiesandperformanceundercontracts(bothpaymenttosuppliersanddeliveryofcoaltopurchasers)asliabilitiestobeassumed.

[b] — Retained. Mostliabilitiesnotinherentintheassetspurchasedwillberetainedby

thetarget.Theseincludeliabilitiesrelatedtotortlitigation,breachofcontractclaims,trespassclaimsand(usually)contractualdebtobligations.Generally,acquisitionagreementsstatethatanyliabilitiesnotexpresslyassumedareretained,butlawyerscannothelpthemselvesfromcreatinganon-exclusivelistofretainedliabilities.Itcanbeimportanttoenumeratecertaintypesofliabilitiesbecauseatargetcovenantstopayallofitsretainedliabilities;breachesofcovenantsareoftennotsubjecttoadeductible,whereasbreachesofawarrantyare.Thusmakingaclaimforbreachofacovenantwithrespecttoanemployeeharassmentclaim(whichwouldalmostalwaysfallunderacategoryofretainedliabilities),forexample,isbetterforthepurchaserthanmakingaclaimforbreachofawarrantythatwouldcoverthesamelegalissue,becauseitisnotsubjecttothedeductibleonindemnificationinmostsituations.

15 Byinherentlyassumedliabilities,Imeanperformanceobligationsunderpurchasedcontracts,obligationstopaytaxesonrealproperty,reclamationobligationsunderassumedpermitsandotherobligationsthatarepartandparcelwiththeassetacquired.

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[6] — Consideration[a] — Payment Terms.

Inthemajorityoftransactions,alargepartoftheconsiderationfortheassetsiscashpayableatclosing.However,thebalanceoftheconsiderationoftengetspaidoutovertimeandispotentiallysubjecttocertainformulasandfactorsforpayment.

[b] — Valuation. Asdiscussed in thedefinitionofMiningPlan, thepropervaluation

methodology for agoingconcernbusiness is thediscounted cashflowsmethodbasedonstrongproformacalculationsthattakeintoaccount(aswellaspossible)seamconditions,expectedcostsandexpectedrevenues.Ofcourse,apurchaserdoesnotwanttobasethepricefullyonthevaluetheybelievetheywilladdthroughbettermanagement,bettermethodsofmining,synergiessuchascostconsolidation,orthecombinationofcontiguouscoalpropertiesorotheradvantages,asthatwilleliminatetheirprofitinacquiringthecompanyatalowervaluebaseduponitsperceiveduntappedpotential.Havingsaidthat,dealsarepricedbasedonacertainpricepertonforinplaceprovenandprobablereserves.Thismethod,likeroughjustice,maygetthejobdone,butitishardtojustifytoathirdpartyifyouneedthemtoprovidefunds.Thefirstpartofadiscountedcashflowanalysisisdeterminingtheexpectedfuturenetcashflows(cashavailabletodistributetotheinvestorasareturn).Thesecondpartisdeterminingthebeta(ordiscountrate)thatthefuturereturnsshouldbedividedbytoreachthenetpresentvalueofthefuturestreamofcash.Thisiswheretherealartandscienceofnetpresentvaluecalculationscomeintoplay.Whileguessingastofuturecashflowsrequiresagreatdealofresearchandcompilationofcosts,revenues,andproductionschedules,determininghowlikelyitisthatsuchcashflowswillbereachedisextremelysubjective.Lookingatmarketreturnsforlargecoalcompaniescanhelp,butultimatelyapurchasermustkeepinmindthatariskierinvestmentwillhavealowernetpresentvaluebecausethelikelihoodofthosecashflowsbeingmetisslimmer.Theauthormuststopnowtoavoiddevolvingthischapterintooneonfinance,butitisworthpointingoutthattheriskfactorshouldtakeintoaccounttitleandpermittingrisk,ifthedeal

§ 17.06

isstructuredasan“asis,whereis”transactionwithrespecttotitletotheproperty.Thiswilllowerthepurchasepricethatisjustifiedandthereforeaccountforthefactthattheassetsaresubjecttotitleriskandarenotworthfacevalue.

[c] — Wire Transfers.Of course, thepurchasepricewill havebeenagreed to,hopefully,

longbeforethedraftingofthedefinitiveagreement.Whatthepurchaser’scounselwillbeworriedaboutindraftingthepurchasepricesectionishowthepurchasepriceistobepaid.Thepurchasepriceisalmostalwayswiredpartiallytosecuredcreditorspursuanttopayoffletterssuchthattheassetsthataresubjecttoliensareunencumberedattheclosingbytheactofpayingoff amountsdueper the instructions in thepayoff letters.Typically, thecreditorwillauthorizepurchaser’scounseltoreleaseliensuponpaymentofthebalancedueperthepayoffletter(takingintoaccountanyperdiem).Also,inanysituationwherethereisasaleoftheentirebusiness,apurchasershouldalsostronglyconsiderrequiringpaymentofthepurchasepricedirectlytoanyknown,unsecuredcreditors.Thereisnogoodreasonforatargettoresistallowingthepurchasepricetobepaiddirectlytothecreditorswhoseliabilitiesarenotbeingassumedbythepurchaser.

[d] — Non-cash Consideration. Partial sellerfinancing isa factof life in thepost-2008economyof

frozen-uplenders.Asaresult,targetsareoftenaskedtotakepaymentonpartofthepurchasepriceatalatertime.Thiscreatesdoubletheworkfortarget’scounselbecausenowtheyarenegotiatingasaleandaloantransaction,hopefullywithacollateralpositionintheassets.Ifasellerwillbeaskedtotakealargeportionofthepurchasepriceoncredit,itisworthconsideringwhetherthetargetshouldleaseorsubleasetherealpropertyasopposedtosellingitinordertokeepastrong“lien”positioninit.Ifthisisnotatenablepropositionforthepurchaser,targetwillsimplyneedtoinsistonmortgagesonthepropertyandliensontheassetstosecurethepaymentobligation.Ofcourse,theabilitytorepossesscontractsandpermitsishamperedbytheirnature(bothrequireconsenttoassignoften,andmaybesodamagedby

§ 17.06

purchaserthattheyarenotworthtakingback),sofullyperfectingasecurityinterestintheintangiblepersonalpropertyisanimpossibility. Ifpurchaserisprofferingstockfortheassets,thetargethasanentirelydifferentissuetoconsider.Targetwillneedtoassessthevalueofthestockandwillwantwarrantiesaboutthestockandthebusinessunderlyingthestock,andcovenantstoavoiddilutionofthestockitisreceiving.Thisformofconsideration,likesellerfinancing,addsanentirelynewdimensiontothetransactionandshouldbethoughtofasastandalonetransaction(investmentinacompany)whenconsideringwhatagreementsneedtobesetinplacetoreasonablyconsummatethesub-transaction.

[e] — Earnout. Insituationswhereatargetissellingundevelopedpropertywithouta

greatdealofdiligenceorstudiestobackupitsvalue,butisinsistingonavaluethatassumestheexpectationsaboutprofitpanout,arelativelysmallfixedpurchaseprice,withapertonroyaltyasakickermakesagooddealofsense.Thepurchaserhasanincentivetominethecoal,sothetargetcangetcomfortablethatthepurchaserwillnotintentionallydeflateproduction,asthatwouldharmitasmuchasthetarget,assumingtheearnoutisproperlydraftedtofillanyloopholes.Thisway,asellercanargueagainstmuchinthewayofindemnificationliabilityrelatedtotitleorcoaladequacy,andwilllikelyonlygetpaidforwhatprofitablecoalactuallyexists.Atargetwillhavetobecomfortablewithpurchaser’sminingabilityandpracticesorelsethisearnoutwillintroduceariskoflitigationoverwhetherthepropertyisbeingadequatelyexploited.Generally,atargetwillwanttheearnouttorunwiththelandbeingsoldtoavoidanyriskofatransactioncircumventingtheobligation,sodeedsofoverridingroyaltyaregenerallyputtorecord.

[f] — Working Capital Adjustment. Inthesaleofanentirebusiness,thepurchaserwillassumeshortterm

receivablesandpayables.Acomponentofthepurchasepriceisoftentheworkingcapitalasofadatepriortotheclosing.Workingcapitalissimplytheamountbywhichshorttermassets(cash,inventory,receivables)exceedshort term liabilities (payroll, payables (including short termportionof

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longtermdebt),feesandtaxes).So,anacquisitionagreementmayincludeamechanismwherebythepurchasepriceistruedupafterclosingtoreflectwhattheactualworkingcapitalwasattheclosing.Agreatdealofnegotiationwillgointowhatbalancesheetitemsgointotheworkingcapitalcalculation,howtheyaredeterminedandwhathappensifthepartiesdisagreeoverthevalidityofthenumbers.

[g] — Inventory Purchase Price Adjustment. Atypical,althoughdaunting,inventorypurchasepricecalculationwill

requireathirdpartyappraiser.16Inventoryofalargetargetcouldeasilyrun

16 Typicalprovision:TheCoalInventoryPurchasePriceAdjustment.(a) TheApportionedUnadjustedPurchasePriceshallbeincreasedbytheEstimatedCoalInventoryValue.TheApportionedUnadjustedPurchasePrice,asincreasedbytheamountoftheEstimatedCoalInventoryValue,willbethe“CashPurchasePrice.”TheCashPurchasePriceplustheprincipalamountoftheNotewillbethe“PurchasePrice.”(b) Intentionallyomitted.(c) SellersandPurchasersshalljointlyengageMarshallMiller&Associates(“MMA”)tocalculatetheamount(basedonvolumeanddensity)ofrawandcleantonsofcoallocatedateachinventorylocationonorafterthefifth(5th)BusinessDaypriorto,butnotafter,theClosingDate(suchamountreferredtoasthe“Pre-ClosingDateCoalInventory”).ThePre-ClosingDateCoalInventoryshallbefinalandbindingonthepartiesunlessthepartiesmutuallyagreeonanadjustmenttheretoduetoanerrorinitscalculationthatappearsonthefaceofsuchcalculation.SellersandPurchasersagreetoexecute,ifrequestedbyMMA,areasonableengagementletter.Sellers,collectively,andPurchasers,collectively,shalleachpayone-half(1/2)ofthefeesandexpensesofMMA.ThePre-ClosingDateCoalInventoryshallbeadjustedtotheClosingDatetoreflectchangesinsuchPre-ClosingDateCoalInventoryfromthedateoftheMMAcalculationthroughtheClosingbasedontheoperatingrecordsofSellers.Atleasttwo(2)BusinessDayspriortotheClosingDate,SellersshallprovidePurchaserswithanestimateoftheClosingDateCoalInventoryaftertakingintoaccounttheestimatedor,ifavailablefromMMA,theactual,Pre-ClosingDateCoalInventoryandsettingforththeactualandestimatedcoalactivityattheMinesduringtheperiodfromthedateoftheMMAcalculationthroughClosingandsuchestimateoftheClosingDateCoal Inventory shallbe the“EstimatedClosingDateCoal Inventory”.ThepartieswillclosetheTransactionsbasedonsuchestimate.TheEstimatedClosingDateCoalInventoryshallthereafterbedeemedtobetheClosingDateCoalInventoryandtheEstimatedCoalInventoryValueshallthereafterbedeemedtobetheCoalInventoryValueandeachofsuchdeterminationsshallbefinalandbindingonthepartiesunless,withinthirty(30)daysafterthedeliveryofthefinalcalculationoftherawandcleantonsofcoalfromMMA,noticeisgivenbyPurchasersorSellersoftheirobjection,whichnoticeshallbelimitedtotheadjustmentsfromthePre-ClosingDateCoalInventorytotheEstimatedClosingDateCoalInventory.Ifnoticeofobjectionistimelygiven,thepartiesshallconsultwitheachother

§ 17.06

intothemillionsofdollars,soitisoftenadistinctcomponentofthecompany’svaluationanditmakessensetohaveatrueupcalculationtoensurethatthepurchaserisnotoverpayingbecauseofchangesintheinventorystockpilebetweentheinitialdeterminationdateandclosing.Ofcourse,intransactionswherethereceivablesarebeingtransferred,areductionininventoryshouldleadtoacommensurateincreaseinreceivablesorcash,butitisoftennotthecasethatreceivablesorcasharetransferred.

[h] — Holdback/Escrow. Inalmosteverytransaction,aportionofthetotalpurchasepricewillbe

heldbackorplacedintoescrowtoprovideforareadyandavailablepotof

withrespecttotheobjection.Ifthepartiesareunabletoreachagreementwithinfifteen(15)daysafterthenoticeofobjectionhasbeengiven,thedisputeshallbesubmitted,aspromptlyaspracticable,intobindingarbitrationforresolutiontoanindependentaccountingfirmofnationallyrecognizedstandingmutuallyselectedbySellersandPurchasers(the“InventoryAccountants”),whoshallactasthearbitrator.Eachpartyagreestoexecute,ifrequestedbytheInventoryAccountants,areasonableengagementletter.IfSellersandPurchasersdonotpromptlyagreeontheselectionoftheInventoryAccountants,whichshalloccurnolaterthanfive(5)daysaftertheendofthe15-dayperiodreferredtoabove,theneachshallselectan independentaccountingfirmofnationallyrecognizedstandingandsuchtwoindependentaccountingfirmsshalljointselecttheInventoryAccountantspursuanttothisSection2.4.4(c).TheInventoryAccountantswillmakeadetermination,basedsolelyonpresentationsbySellersandPurchasersandnotbyindependentreview,asto(andonlyasto)eachoftheitemsindispute,whichdeterminationwillbe(i)inwriting,(ii)furnishedtoeachofthepartiesheretoaspromptlyaspracticableaftertheitemsindisputehavebeenreferredtotheInventoryAccountants,(iii)madeinaccordancewiththisAgreementand(iv)conclusiveandbindinguponeachofthepartieshereto.Inconnectionwithitsdeterminationofthedisputeditems,theInventoryAccountantswillbeentitledtorelyontheaccountingrecordsandsimilarmaterialspreparedinconnectionwiththecalculationoftheEstimatedClosingDateCoalInventoryandthefeesandexpensesoftheInventoryAccountantsshallbeborneequallybyPurchasersandSellers.EachPurchaserandSellerwillusereasonableeffortstocausetheInventoryAccountantstorendertheirdecisionsassoonasreasonablypracticable,includingbypromptlycomplyingwithallreasonablerequestsbytheInventoryAccountantsforinformation,books,recordsandsimilaritems.IfthefinalandbindingCoalInventoryValue,asdeterminedbytheInventoryAccountants,islessthantheEstimatedCoalInventoryValue,suchdeficiencyshallbepaidincashbySellerstoPurchasersasareductionofthePurchasePrice.IfthefinalandbindingCoalInventoryValue,asdeterminedbytheInventoryAccountants,ismorethantheEstimatedCoalInventoryValue,suchexcessshallbepaidincashbyPurchaserstoSellersasadditionalPurchasePrice.Obtainedfromprivatetransactiononfilewithauthor.

§ 17.06

cashtosatisfypurchaser’sindemnityclaimsforaperiodofmonthsoryears.Ifthepurchaserispayingpartofthepurchasepricethroughanote,itwillwanttosimplyhavetherighttosetoffagainstthenotepayments.Atargetmaywanttoinsistonthecashgoingintoescrowbecausethatprovidesgreaterprotectionthattheescrowedfundswillnotgobacktopurchaserunlessatrulyvalidclaimforindemnificationhasbeenadjudicated.Escrowagentstypicallychargeasmallpercentagetoadministertheescrowaccountandwillnotdistributethefundsabsentacourtorder,ajointlysignedauthorizationtoreleasethefunds,orifafirmexpirationdateisreached.

[i] — A Note on Complicated Consideration Provisions.

Aslawyers,wethriveoncomplexity.Ifthingsweresimple,ourjobswouldbe less importantandwewouldhave less todo.Thatbeingsaid,thisauthorgenerallyabhorscomplicatedpurchasepricecalculationsanddeferredpurchaseprices.Inadditiontothosementionedabove,thereareoftenpurchasepriceadjustmentsfortaxpaymentsarisingoutofthesaledependingonwhobears the incidenceofpayment andhow thepartieshaveallocatedsuchtaxestriggeredbythetransaction.Thisabhorrenceissimplybecauseworkingcapitaladjustmentsandinventoryadjustmentshaveoftenledtocontentiouslitigation,andbecausethetruenecessityofsuchacalculationissuspectinthefirstplace.Counselneedstobeready,however,toprovidefunctionallanguagetocoverthesevarioustypesofpurchasepriceadjustmentsanddeferredpurchasepricescenarios,whileatthesametimeremindingtheclientoftheaddedriskoflitigationwheneverasumcertainatclosingisnotprovided.

[7] — Allocation of Purchase Price. Asaleofassetsconstituteshundredsorthousands(dependingonthe

numberof assets)of individual sales for income taxpurposes.As such,purchaserwillhave to allocate thepurchaseprice to eachasset, aswillseller.Eachpartymayhavewildlydifferentincentives.Asellerwillwanttoallocateasmuchaspossibletoassetswithhighbasistoavoidgain;andtoassetsthatarecapitalassets,toobtainabettertaxrate.Purchaserswillwant

§ 17.06

toallocatemoretoassetswithquickdepreciationandpotentiallyallocatelesstopropertywithhighad valoremtaxrates.Ifeachpartyusesadifferentallocation,itisalmostasuretythatiftheIRSeverreviewsthetransaction,itwillwhipsaweachpartyandusetheother’sallocationagainstthem.Assuch,thepartiesshouldalwaysagreetousethesameallocation.

Inastocktransaction,apurchasercarriesforwardthelow,depreciatedbasisofthecompanywhosestockisbeingpurchased.However,itisimportantto always investigatewhether a338(h)(10) election is amenable tobothparties.Whensuchanelectionismade,thepartiescantreatthestocksaleasanassetsaleandstepupthebasisintheassets,permittingpurchasertore-depreciatetheassets.

Inconjunctionwithallocationofthepurchaseprice,itisimportantthattheaccountsfactorinthegoodwillvalueandthevalueofanynon-competes.

[8] — Closing and Closing Obligations. Thissectionsimplyrecitesallofthedocumentsandagreementstobe

exchangedbetweentarget(andsometimesitsowners)andpurchaserattheclosingdate.Theseitemsdonotincludeitemssuchasconsentsorpayoffsfromthirdparties,justthevarioustitledocumentsandancillaryagreements(suchasbillsofsale,assignmentsofcontract,transitionservices,deferredpurchasepricenotesandnon-competes).Thereare threesectionsof theacquisitionagreementthatdealwiththemassofpapertobetradedtogetbothpartiestotheclosingtable.Thefirstisthissectionwhichrecitesthedocumentsamongtheparties(andtransferofpurchaseprice).Thesecondisthepre-closingcovenantssectionthatwilldetailthepayoffletterstobeobtained,transferapplicationstobedrawnup,andotherdocumentationtobepreparedforaclosing(alongwithcovenantsunrelatedtotheclosingtableorclosingdocuments).Thirdare thedocuments that serveasconditionsprecedenttoclosingthathavetobeprovidedatorpriortotheclosingtotriggeroneortheotherparty’sobligationtodelivertheclosingdocumentsandfunds.Tocomplicatematterssomewhat,oneofthedocumentsisusuallya certificateof eachparty certifying that thepre-closing covenants andconditionsprecedenthavebeencompliedwithandmet,respectively.

§ 17.06

§ 17.07. Representations and Warranties.[1] — General description. Itisimportanttokeepinmindthattherepresentationsandwarranties

shouldbetailoredbaseduponthereasonableexpectationsofthepurchaserinlightofthevaluationofthetarget.Forexample,isitreasonableforthepurchasertorequireanironcladtitlewarrantyfromthesellerforathousandacremineralleasethatisnotcurrentlybeingminedonandwasvaluedatwellunderadollarpertonforinplace,mineableandmerchantabletons?Thisauthorwouldpositthatitisnotreasonable.Ontheotherside,isitreasonableforapurchasertorequireaverystrongtitlewarrantyregardingleaseholdinterestsinthesurfaceandmineralleasesforanactiveminesitethatwasvaluedbasedonthenetpresentvalueofthefuturecashflowsbasedonawelldevelopedmineplanforthatsite?Iwouldpositthatsuchawarrantyisreasonablebecausethepurchaserispayinganamountforthatminethatdoesnotcontemplatealossinsurfaceormineralacreage.Thepointhereisthateachwarrantythatisnegotiatedshouldproviderecourseinsituationswherethepurchaser’sreasonableexpectationswouldnotbemet.Manytimes,apurchaserwillsimplythrowextremelystrongwarrantiesatatargetontheirfirstdraft.Thisiscommon,ifnotalwaysadvisable.Itisonthesecondandsubsequentdrafts,ifthetargethasnotbeenscaredoff,thatcounselneedstounderstandwhattheclient’sreasonableexpectationsareandtailorthewarrantiestoproviderecourseifthoseexpectationsarenotmet.

Assumingapurchaserisbeingreasonable,anythingandeverythingthatcouldimpactthevalueoftheassetsisfairgameforawarranty.Whetheritisa“flat”warrantyorqualifiedbyknowledgeormaterialityistherealquestion.

[2] — Materiality Qualifiers and Knowledge Qualifiers. Thedefinitionofknowledgeandthesevereimpactithasontheabilityof

apurchasertoprovebreachofsuchawarrantywasdiscussedabove.Howeverseveretheimpact,therearesimplysomewarrantiesthatalmostalwayshaveaknowledgequalifier,suchaswarrantiescoveringpre-existingenvironmentalconditionsandwarrantiescoveringbreachofcontractclaimsavailabletothirdparties.Anothercommonqualifierismateriality.Thetarget’sreasoningforsuchaqualifiertoawarrantyisthatneitherpartyshouldbetiedupwith

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nickelanddimebreachesandwithrespecttoawarranty(e.g.,thattherearenobreachesundertarget’scontracts);itispracticallyimpossiblethattheredonotexistimmaterialbreaches.Manytargetsaresimplyaversetomakingawarrantytheyknowisnotentirelytrue,sotheywantthecomfortofhavingthatmaterialityqualifier.Further,ascorchedearthlitigatorcouldalwaysmakeaclaimforfraudwhereanon-materiality-qualifiedwarrantyismadeifitisclearlyfalse(suchasacasewhereawarrantyismadethattherearenodefaultsundercontractsinsteadofnomaterialdefaults).However,themostdirectwaytoprotectatargetfromtheriskofdealingwithorpayingforlegalfeesarisingoutofthemanyimmaterialissuesthatmayexistwithcontracts,permitsandrealpropertytitle is tohaveadeductibleapplytoa target’s indemnificationobligations toprevent someof thepenny-anteclaims.Ofcourse,ifenough“immaterial”claimsexistthattheyaggregatetosomethingmaterial,recourseshouldbeavailabletothepurchaser,whichmaynotbethecaseifmaterialityqualifiersareinthewarranties,alongwithadeductibleintheindemnityprovisions.Assuch,amaterialityqualifierisnotgenerallythebestsolutioneventhoughitisonethat,throughinertia,isincludedinatleastafewwarrantiesinmostacquisitionagreements.Further,theexistenceofamaterialityqualifiercomplicatesthepurchaser’sclosingconditionrelated tomaterialor totalaccuracyof target’swarranties.Forthesereasonsitisfairforapurchasertoresistmaterialityqualificationsinthewarranties,because target’sconcernsaremoredelicatelyhandledbyadeductible—andpotentiallyamini-deductibleonaperclaimbasis,asdiscussedfurtherbelow.

[3] — Sellers’ and Shareholders’ Representations and Warranties.

[a] — Introduction. Manyofthewarrantiesgivenbyasellerarestandardregardlessofthe

typeofbusinessconducted.Warrantiesthatthecompanyisnotenjoinedfromconsummatingthetransaction,warrantiesthatithastakenallstepsnecessarytoproperlyconsummatethetransactionperitsgoverningdocumentsandwarrantiesregardingtheabsenceorpresenceoflitigationallapplyjustasmuch inany transactionandare thusnotdiscussedhere.The following

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discussessomeofthewarrantiesthatrequirespecialconsiderationordifferentlanguagebecauseofcertainspecificsofthecoalindustry.

[b] — Financial Statements. Thewarrantyregardingaccuracyoffinancialstatementsmaywantto

expresslyincludeawarrantythatthereclamationliabilitiesareadequatelyrepresented. Further, a separatewarrantymaybe reasonable requiringthe target toopine that the reclamationcosts and liabilities areaccurateestimations.

[c] — Inventory. The purchasermaywant a specificwarranty stating that the coal

inventoryhasqualitycharacteristicscomplianttothedeliveryobligationsithasunderthecontractsbeingassumed,sothatpurchaserwillnothavearejectedorprice-adjusteddeliverybecauseoftarget’sinventory.

[d] — Accounts Receivable. Coalcontracts aregenerallyextremelycomplicated.Thereareprice

adjustmentsforout-of-specificationqualitycharacteristics,priceadjustmentsfordelays indelivery, rights to reject, rights to rejectbasedonacertainnumberofpreviousviolations,andmanyotherprovisionsthatcanimpactwhatacustomerisobligatedtopay.Assuch,theaccountsreceivablewarrantyisimportantandtheremaybealotofnegotiationastowhethertheexactamountiswarranted.Further,becausecertaincontractscontainapunitiveprovisionthatacertainnumberof“strikes”canleadtofuturepenalties,apurchasershouldincludewarrantiesspecificallytailoredtocoversituationswherethecontractisteeteringonthebrinkofmajorissues.Counselwillneed tocarefully reviewmaterial coalcontractsandalso stronglyargueforobtainingestoppellettersfrommaterialcustomersinconjunctionwithconsentsorotherwise.

[4] — Permits. Thewarrantiesregardingpermitsshouldprobablybefairlyextensive.

Apurchaserwillnotonlywanttoknowwhatpermitsexist,butwillalso

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wantwarrantiesregardingthestatusofpermitsandrelatedviolations.Whilemuchof this information ispubliclyavailable, apurchasermaywant torequiretargettowarranttheinformation.CertainlyawarrantythatsufficientpermittedtonnagecapacityexiststocomplywiththeMinePlan—oratleastfordeliveriesundercoalsupplycontractsinthenearterm—isareasonablewarranty,evenifitmayneedascheduletolistexceptionstothewarranty.Also,warrantiesregardingthetypeofreclamationcollateralareessentialsothepurchaserknowswhatneedstobereplaced.Finally,apermitwarrantyshouldincludelanguagecoveringnecessaryrenewals,andtheabsenceofanyconditionsthatwouldleadtoapermitviolationifuncovered.

[f] — Real Property. Mostacquisitionsofcoalminingcompaniesarebasedpredominantly

onthevalueoftherealpropertyrightsheldbythetarget.Unseveredcoalisarealpropertyassetandtheownershipoftherighttoextractthatcoalisacrucialmattertobewarrantedbythetarget.

Ofcourse,thereareaplethoraofmattersrelatedtoownershipofthecoalforwhichpurchaserwillreasonablywantwarrantycoveragefromthetarget.From thepurchaser’sperspective, theextentofwarranties shouldbeextensiveifthemineralvaluationonwhichthepurchaserhasbaseditspurchasepriceplacesasignificantvalueonthecoalownership.Effectivelyadvocatingapurchaser’spositionwithrespecttorealpropertywarrantiesrequiresthatcounselunderstandthepurchaser’sexpectations,valuationandplans.Ontheothersideofthetransaction,atarget’scounselcandomoreharmthangoodbypushingtoohardagainstprovidingwarrantiesthattargetwouldbecomfortableproviding,becausesuchahardlinestancewillcausethepurchasertoperformmorediligenceandpotentiallysecondguessthetransactionduetofearoftheunknown.Thewayatargetgainscomfortwithrespecttoitslevelofwarrantiesonmineraltitleisboththroughtheobviousrouteofknowingwhatitknowsanddoesnotknowaboutitsownershiprights,butalsobynegotiatingappropriatetermswithrespecttoindemnificationfortitleissues.

Beforedelvingtoodeeplyintospecifictitlewarranties,itisimportanttopointoutthatthesortofwarrantiesgiveninabusinessacquisitionthat

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involvescommercialorindustrialrealestatearevastlydifferent.Theissuestobeaddressedwithrespecttocoaltitlebearalmostnoresemblancetothosethatcomeupwhencommercialrealestateisbeingtransferred.InKentucky,largeportionsofWestVirginia,andotherpartsoftheCentralAppalachiancoalregion,titleinsuranceformineralinterestsistypicallyunobtainableoratleastnotobtainablewithinareasonabletimeframe.Asaresult,thepartiescannotplacetheriskofatitleissueonaninsurer,soonepartyortheotherwillnecessarilybearthecostofatitleissue.

Whenonediscussesnecessary realproperty rights formining,a lotdependson themining tobeperformed.Withoutgetting into thefinerpointsofthematter,coalthatistobesurfaceminedrequiresrealpropertyrightsfrommineralandsurfaceowners,whichmaybeheldbytwoormoreentities.Ifcoalthatisbeingpurchasedistobeundergroundmined,verylittleinthewayofsurfacerightsisneededbeyondtheminemoutharea,soanownershipinterest(byleaseordeed)totheapplicablemineralseamsisallthatisneeded.Therewillbe,however,surfacerightsthatareneededevenwhereanundergroundmineismilesfromitsportal,soconsultationwiththeminingengineersoftargetandpurchaserwillbenecessarytoascertainanymaterialsurfacerightsneededforundergroundmining.

Withrespecttotherighttomine,atargetcancontrolsuchrightsbyownershipof thepropertyor bywayof a leasehold interest.Generallyspeaking,iftherealpropertyrightsareowned,theissuestoconsiderare(1) the stateof titlegranted to the target and (2)what encumbrancesoroutconveyancesthetargetorpredecessorshavecausedwithrespecttotheproperty.Concerningthefirstitem,itisnotuncommontofindthatthereareotherentitiesthatownthemineralseams,thatcotenantsmayownanundividedinterestinthesameseamtargetowns,thatotherpartiesownotherseamsaboveorbelowtheseamsthattargetowns,orthatthereareoilandgasrightsheldbyothers—allitemsthatcouldimpacttheutilizationofthecoalownership.Concerningthesecondtypeoftitleissue(encumbrancesandoutconveyances),thetargetcouldhavecausedamyriadofeventstooccurthatencumbertheright tominethemineral.Theseencumbrancesrangefromleasestothirdpartiesformining,whicheffectivelytransfertherightstominethecoaluntilexhaustion,insomecases;toliensheldbycontractors,

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taxingauthorities,andlenders,allofwhichwouldsurviveatransferoftheproperty(assumingpropertyperfected),andcouldforceasaleoftheassetbythepurchaser,withonlythesurplusvalueofthepropertyaccruingtothebenefitofthepurchaser.

Again,itisimportanttorememberthatthestateoftitleinmostindustriesisquitewellbuttonedup,andathirdparty,thetitleinsurer,takestheriskthatsomenon-recordedissuearises.Inthecoalindustrythereisnosuchluxury,andmanytimesthepropertyissovast,andworthsolittleperacre,thattitlesearchesandtitleopinionsarenotevenavailableforallpropertytoprotectandprovideinformationtothepurchaser.

Anotherwayinwhichtheminingtitleparadigmisdrasticallydifferentthancommercialrealestateiswithrespecttoboundariesandsurveys.Theexactboundariesofaseveredmineralinterestarenotsurveyedasaclosingconditiontoanacquisition,aswouldbethecasewithanALTAsurveyonacommercialtract.Veryinfrequently,surfacepropertiesmaybesurveyedtodetermineboundaries,easementsandencroachments,butnotveryoften.Onereasonforthisisthegenerallyruralnatureofsurfacecoalproperties.Another is that coalproperties, unlike commercial properties, havenotbeensubdividedandplattedofrecord,sotheonlylegaldescriptionisoftenoveronehundredyearsoldandnotcapableofbeingaccuratelysurveyedwithoutextremelycostlyandpainstakingsurveywork.Eventhenthereisnoguarantyasurveyorcanlocatealllandmarksinaonehundredyearoldlegaldescriptionthathasbeenincorporatedbyreferenceintosubsequentdeeds.

Asaresultoftheuncertainnatureofboundarieswithrespecttosurfaceandmineralinterests,boundarydisputesoftenariseinsurfaceminingandarenotunheardofwithrespecttodeepmining.Withrespecttoareasonablewarranty regarding location ofmineral and surface interests, it seemsreasonabletoatargettoatleastrepresentthatanexhibitmapaccuratelydepictsthegenerallocationandapproximateboundariesofthepropertiesbeingconveyed.

Reserve studies,whichgenerally form thebasis of a largebulkofthedeal’svaluation,assumethattherearenotitledefectsthatreducetheamountofcoalmined.Assuch,ifadealispricedbasedonfullrecoveryof

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mineableandmerchantablecoalstatedinareservereport,itseemsonlyfairthatthetargetbeliablefortitleissuesthatwouldmakethereservereportassumptions false.Thatbeing said,many timesa targetwill havemoreleverageinnegotiationsontitleissues.Oneofthereasonsforthisisthatmineralacquisitionsbyminingconcernsduringtheirlifecycleareoftencompletedwithoutfullydevelopedtitlesearches,opinions,orinsurance,andwithoutstronggrantorwarrantiesandasaresultatargetwillbeunwillingtomakewarranties that ithasnot received fromitssourceof title.Thatbeingthecase,itisimportanttokeepinmindthatadealwithoutstrongtitlewarrantiesandstrongindemnificationforbreachofthosewarrantieswillneedtobepricedtotakeintoaccounttheriskoftitleissuesandthecosttoresolvethoseissues.

Inmanygeographicareasofsignificantminingactivity,thecorollaryrightsoftheoilandgasestate’sownerscanhaveamaterialimpactonmining,especiallysurfacemining.Wherewellsortransmissionlinesmaybelocatedinhollowfilllocations,forexample,theexistenceofsuchequipmentandthecostforrelocatingsamecanimposeamaterialcostandimpactonminingplans.Assuch,itisreasonabletorequirearepresentationastolocationsofoilandgasoperationsandpotentiallyarepresentationastowhatrightsexist.

The levelofwarrantyprotection, andpotentially title insuranceandsurveyclosing conditions, could reasonablydiffer fordifferent typesofrealpropertyconveyedbythetarget.Alargepreparationplantandloadoutfacility,especiallyifitiscoupledwithamineportal,couldreasonablybethesubjectofverystrongtitlewarrantiesandpotentiallyarequirementthattargetobtaintitleinsurancewiththesurveyexceptionremoved,regardlessofthefactthatthiswouldbuckthenormaltrendincoaltransactions.Ontheflipside,somepropertyownedbyatargetcouldreallybeakintoanappendix—totallyuseless,butalongfortheride.Itmakessensetoconsideramorecomplicatedandnuancedapproachtotitlewarrantiesandclosingconditionsincoalindustrytransactionsthanisoftenthecase.

Specificwarrantieswillneedtobeincludedregardingcompliancewiththetermsofin-leases(wheretargetislessee)andout-leases(wheretargetislessororsublessor).Eventhoughtheseleaseswouldbecoveredbythe

§ 17.07

contract’swarrantieselsewhereinanacquisitionagreement,morenuancedandspecificwarrantiesareadvisableforthisspecialsubsetofcontracts.17

17 The following are representativewarranties: (a)TheCompanyand theCompanySubsidiaryeachhavegoodand indefeasible title toorvalid leasehold interests in theirrespectivepersonalpropertiesandassets(otherthantheRealPropertyandtheLeasedRealProperty),andnosuchpersonalproperty,assetorleaseholdinterestissubjecttoanyLien,otherthanPermittedLiens.TheCompanyandtheCompanySubsidiary,asapplicable,havegood,marketabletitletoallRealPropertyandLeasedRealProperty,andnosuchpropertyissubjecttoanyLien,otherthanPermittedLiens.ExceptassetforthonSchedule4.14(a)totheCompanyDisclosureSchedule,therearenooutstandingoptionsorrightstopurchaseanyRealPropertyorLeasedRealPropertyownedbytheCompanyortheCompanySubsidiary,oranyinteresttherein.NeithertheCompanynortheCompanySubsidiaryhasanycontractualobligationtopurchaseanyrealproperty.Thereisnopending,ortotheKnowledgeoftheCompany,theSellersandtheCompanySubsidiary,threateneddisputerelatingtoboundarylines,ingressandegress,adversepossession,trespass,lackofminingrightsorminingrelatedrights,breachofthetermsoftheapplicableagreements,orsimilarissueswithrespecttotheRealPropertyorLeasedRealProperty.Therearenopendingcondemnation,eminentdomainorsimilarproceedings,or,totheKnowledgeoftheCompany,theSellersortheCompanySubsidiary,anythreatenedcondemnation,eminentdomainorsimilarproceedingsthataffectanyRealPropertyortheLeasedRealProperty.

(b)Schedule4.14(b)oftheCompanyDisclosureSchedulesetsforthatrue,correct,andcompletelist,asofthedateofthisAgreement,of,andspecifies,asapplicable(i)allrealpropertyowned,inwholeorinpart,bytheCompanyortheCompanySubsidiary(“RealProperty”);(ii)allrealpropertyleased,subleased,orcontrolledbyeasement,licenseorotheragreementinwholeorinpart,bytheCompanyortheCompanySubsidiary(“LeasedRealProperty”);(iii)allleases,licensesandotheragreementswhereintheCompanyortheCompanySubsidiaryisalessor,sublessor,licensororotherwiseagrantorofrealpropertyrights(collectively,“Outleases”);(iv)adescriptionforeachparcelastowhethertheCompanycontrolssurface,mineral,partialmineralorfee;(v)allLeasedRealPropertywithrespecttowhichallco-tenantsarenotsubjecttoaleasewiththeCompanyortheCompanySubsidiary;and (vi) all royaltiespayablewith respect to theRealProperty and such schedule alsodescribesallescrowarrangementscurrentlyinplacewithrespecttoco-tenantsofLeasedRealProperty.TheCompanyhasmadeavailabletothePurchasertrue,correctandcompletecopiesofalldocuments(includingdeeds,leasesandamendmentsthereto)conveyingRealPropertyandLeasedRealPropertytoorbytheCompanyandtheCompanySubsidiary.Eachdeed,leaseorothertitledocumentlistedonSchedule4.14(b)oftheCompanyDisclosureSchedule(otherthanOutleases)hasbeenvalidlyrecorded(oravalidmemorandumthereofhasbeenproperlyrecordedinthecaseofRealPropertyLeases)intherecordsofSomersetCounty,Pennsylvania.Schedule4.14(b)oftheCompanyDisclosureScheduleincludestheexpirationdateofeachoftheRealPropertyLeases.

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(c)TotheKnowledgeoftheCompany,theSellersandtheCompanySubsidiary,thereexistsnomaterialdefaultunderanyRealPropertyLeaseorOutlease.(d)ThemapsandschedulesattachedheretoasSchedule4.14(d)oftheCompanyDisclosureScheduledepictthelocation,boundariesandinterest(whethersurfaceormineral,includinganotationifcontrolofmineralislimitedbyseam)oftheRealProperty,LeasedRealPropertyandOutleases.ExceptassetforthonSchedule4.14(d)oftheCompanyDisclosureSchedule,therearenoimprovementsontheRealPropertyorLeasedRealProperty.(e)ExceptassetforthonSchedule4.14(e)oftheCompanyDisclosureSchedule,thelessorsandsublessors,asapplicable,undereachRealPropertyLeasegrantingLeasedRealPropertyinterests totheCompanyortheCompanySubsidiaryhavegoodandmarketabletitle tosuchproperty.(f)Schedule4.14(f)of theCompanyDisclosureSchedule sets fortha true, correct andcompletelistofallconsentsrequiredpursuanttothetermsoftheRealPropertyLeasesorOutleases inorder toeffect the transactionscontemplatedbytheAgreementwithouttriggeringadefault,eventofdefault,terminationrightorpenaltyundersuchagreements.(g)Schedule4.14(g)of theCompanyDisclosureSchedulesetsfortha true,correctandcompletelistofallRealPropertyLeaseswhichexpireinthenextfive(5)years,withoutprovisionforfurtherrenewalorextension.(h)Except as set forthonSchedule4.14(h)of theCompanyDisclosureSchedule, theCompany,theCompanySubsidiaryandtheir lesseeshavenotminedanycoal towhichtheyhadnolegalright.(i)WithrespecttoallLeasedRealPropertysurfacerights,theCompanyandtheCompanySubsidiaryhave the right, notwithstanding the terminationof any lease, to enterupontheLeasedRealPropertycoveredbysuch lease for thepurposeofcomplyingwithallreclamationobligationsoftheCompany,theCompanySubsidiary,ortheirlesseesarisingunderorpursuanttoanylaw(j)Schedule4.14(j)oftheCompanyDisclosureSchedulesetsforthatrueandcompletelistofallroyaltypaymentsmadebytheCompanyortheCompanySubsidiarythathavenotbeencashedorhavebeenreturnedorrejectedbythelessor,otherthanpaymentsmadewithinthelastthirty(30)days.(k)ExceptassetforthonSchedule4.14(k)oftheCompanyDisclosureSchedule,theCompanyhasreceivednonoticeofclaimsbyordisputesbetweenCompanyandanyPersons(includinganyPersonsowningoroccupyinglandsorrealtyadjoiningornearanyoftheRealPropertyorLeasedRealProperty)pendingorthreatenedinwritingregardingminingactivities,title,locationofboundary lines, encroachments,mineral rights, royalties, subsidence,waterquantityorquality,blastingdamage,transportationofcoalorothermaterials,nuisancesoranyothersimilarmatter.(l)TotheCompany’sKnowledge,useoftheRealPropertyforthevariouspurposesforwhichitispresentlybeingusedbytheCompanyandtheCompanySubsidiaryispermittedunderallapplicablezoninglegalrequirements.TheRealPropertyandLeasedRealProperty,takenasawhole,abutsonandhasdirectvehicularaccesstopublicroadsorhasaccesstopublicroadsviapermanent,irrevocable,appurtenanteasementsbenefitingitandcomprisingapartoftheRealPropertyorLeasedRealProperty.

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Further, because coal properties are often saddledwith overridingroyalties, leaseagentroyaltiesandother interests in thecoal,awarrantyspecificallyrequiringdisclosureofallroyaltiespayableisadvisable.

[g] — Reserves. Thisauthorhasneverseenawarrantyguaranteeingthattheamountof

provenandprobablereservesclaimedintarget’smarketingmaterialsactuallyarethereandaremineable.Noonecantrulywarrantthatbecauseitisbasedonextrapolation,andwhetherthenumbereverpansoutalsohasalottodowithhowminingisconducted.Finally,theaccuracyofthenumberwillnotbeknownforyearsifnotdecadeswithrespecttomultiple,largereserves.Thatbeingsaid,itmaymakesomesensetohaveatargetwarrantthatthemethods,dataandprocessesusedtocalculatethereservedatacompliedwithreasonableindustrypractice.Ultimately,apurchaserneedstogetcomfortablewiththereservenumbersandclassofreserve(whetheritismineableornot,andhowverifiedthereserveisbasedontheproximityandnumberofboreholesamples)—notthroughwarrantiesbutthroughuseofitsownexpertsinternallyandwithindependentcontractorshiredfromoneofthemanyfineminingengineeringcompaniesthatoffersuchservicestoperformadequateduediligence.

[h] — Mining Plan. Asdiscussedabove,many targetsmarketandsell theirassetsbased

partiallyonaminingplanshowingfutureproductionandprofitexpectations.Thisusuallycomplexminingplanamountstoagreatdealofassumptionsput together, often taking the rosiestof all possibleoutcomes.Any sortofstrongwarrantyfortheMiningPlanisunlikely,butsomewarrantyatleastrepresentingthattheMiningPlanwascompiledingoodfaith,usingreasonableestimationsandmethodology,seemsreasonableinanytransactionwheretheminingplanwasamajorcomponentofthemarketingmaterials.

StockPurchaseAgreement,datedOctober4,2011,byandamongDavidL.Dinning,RonaldA.Corl,DavidC.Klementik,RangerInvestmentCo.,SolarFuelCo.,Inc.,andAKSteelNaturalResources,LLC.

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[i] — Affiliate Agreements. Arecurringthemewithsomecoalcompaniesisthataffiliatesofthe

ownershipormanagementmayprovideservicesoncontractsthatmayormaynotbeonarm’slengthterms.Itisnotuncommontohaveawarrantyspecificallycallingfordisclosureofagreementsamongaffiliatestohelpthepurchaserhoneinonwheretheyneedtoapply“enhancedinterrogation”tacticsintheirdiligenceefforts.

[j] — Solvency. Awarrantyofsomewhatquestionablevalue,butwhichshouldbeeasy

foratargettogive,isthatthetargetisnotinsolventandwillnotbemadeinsolventaftercompletionofthetransaction.Thiscouldprovidesomebenefittoapurchaseriftarget’screditorscomeafterthepurchaserusingafraudulentconveyancetheory.

[4] — Buyer.ThewarrantiesthataBuyermakesinanormalcash-for-assetsdealshould

befairlylimited.Thetarget’sonlyrealconcernisavoidinganunwindingofthetransaction,sowarrantiesregardingtheauthorityandapprovalprocessforthetransactionarecommon.Anyformpurchaseagreementwillprovidethestandardwarrantiesforapurchaserinthissortofsimpletransaction.However, theonemining-specificwarranty toalways include is that thepurchaserisnotpermit-blockedontheApplicantViolatorsSystemsuchthattheywillbeunabletotaketransferofthepermits.18Asdiscussedelsewhereinthischapter,permitsarenottransferreduponclosing,butinsteadtakemonthstofullytransfer.Atargetrunsriskduringthispre-transfertimeifthepurchaser,asisusuallythecase,ispermittedtooperateonthepermits.If

18 Typicalprovision:PermitBlocking.NeitherBuyer,anyPerson“ownedorcontrolled”byBuyeroranyPersonwhich“ownsorcontrols”BuyerhasbeennotifiedbytheOSMortheagencyofanystateadministeringSMCRAoranycomparablestateLaw,thatitis:(i)ineligibletoreceiveadditionalsurfaceminingpermits;or(ii)underinvestigationtodeterminewhethertheireligibilitytoreceivesuchpermitsshouldberevoked,i.e.,“permitblocked.”AsusedinthisAgreement,theterms“ownsorcontrols”or“ownedorcontrolled”shallbedefinedassetforthin30C.F.R.§773.5.Obtainedfromprivatetransactiononfilewithauthor.

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thepurchaserispreventedfromtakingthepermits,thepermitscouldstayinseller’shandsindefinitelyandcreateamajorriskofliabilitytoselleranditsaffiliatesandofficersshouldpurchasercommitmultiple,seriousviolationswithrespecttothepermits.

Whenpurchaserisofferingnon-cashconsideration,orevendeferredcash,additionalwarrantiesarecustomary.Simplyput,ifanon-publicpurchaserisofferingstock,target’scounselwillwantwarrantiesandcovenantssimilartothosetypicallyfoundinaprivateequitypurchaseagreement.

§ 17.08. Covenants.[1] — Introduction. Inconjunctionwithsellinganentirebusiness’worthofassetsorthe

stockofanactivebusiness,thereareagreatmany“i”stobedottedand“t”stobecrossedpriortoclosing,aswellassomeobligationsthatpurchaserwillwanttargettohaveafterclosingtohelpensurethebenefitofthebargain.Asaresult,anacquisitionagreementcontainsseveralpre-closingandpost-closingcovenantsthatbindboththetargetandthepurchasertotakecertainactions.Intheminingcontext,severalofthesecovenantsareveryimportantandaredifferentfromotherindustries.

Probablythemostimportantreasonwhyacquisitionagreementsaresetupsuchthatthereisasigningwithadelayedclosingisthatmanythirdpartyconsentsgenerallyarerequired,andthetargetdoesnotwanttosolicitthoseconsentsuntilitsmanagementfeelsfairlyconfidentthatatransactionwillbeconsummated—withthatlevelofcomfortresultingfromsigningofapurchaseagreementwithfewconditionsprecedenttopurchaser’sobligationtoclose.

Also,atargetwillwanttohaveadeal“lockedup”viaasignedacquisitionagreementthatincludesanoshopcovenantbythetarget,ifitneedstoraisedebtorequitytofinancetheacquisition.Asamatterofmarketing,itismucheasiertoraisecapitalforanacquisitionifthetargetisboundtoclose,subjecttoafewconditionsprecedent.

Generally, the pre-closing covenants fall into two categories: (1)preservingtheassetsandthe“business”and(2)takingactsnecessarytofulfilltheconditionsprecedenttoaclosing.

§ 17.08

Withrespecttopost-closingcovenants,themainobjectiveistobindeachpartytotakeactionsnecessarytoensurethedealiscarriedoutandistreatedasthepartiesintended,baseduponthetermsoftheacquisitionagreement.

[2] — Pre-Closing and Closing. [a] — Access and Investigation.

Apurchaseralwaysinsistsontherighttokickthetiresthroughoutthepost-signing,pre-closingperiod,soacovenant is includedobligating thetargettoallowthenecessaryaccesstoproperties,certainemployees,andrecords.Apurchasershouldhaveeveryrighttolearnasmuchaspossibleaboutthetarget,whilemaintainingasmuchsecrecyasmaybenecessarytonotcauseadverseconsequencesfor the targetorpurchaserdueto thetransactionbecomingdiscovered.

[b] — Operation of Business. Atargetwillbeobligatedtorun“businessasusual”andnotmaterially

alter theacquiredbusinesswithout consent from thepurchaser.Specificmentionshouldbeconsideredregardingentranceintoanylongtermcoalsupply agreements or re-pricing negotiationswith respect to existingcontracts.Also,anypermitamendmentsshouldbemadewiththeinvolvementandconsentofpurchaser.

[c] — Delivery of Interim Financials. This is a covenant to provide periodicfinancial statements to the

purchaseronatimelybasis.WhenpurchasinganactiveoperationandwherethereisasignificantlagbetweensigningandclosingduetoHart-Scott-Rodinoapproval,obtainingconsents,obtainingfinancing,orotherreasons,itcanbeveryilluminatingtotrackfinancialstatementstoseetrendsinrevenueandexpenses.Financialperformancecouldsufferenoughtoprovideforamaterialadversechangeclosingconditiontobecomeapplicable,andpermitthepurchasertowalkunderthetermsoftheagreement,orre-negotiatethepurchaseprice.

§ 17.08

[d] — Approvals and Consents.Probablythemostimportantpre-closingcovenantinaminingdeal,

alongwiththeexclusivitylanguage,isthecovenantrequiringtarget,andpurchasertosomeextent,touseacertainlevelofefforttoobtainthemanyconsentsthatareprobablyneededtoproperlyassignleasesandcontracts.

Obtainingthirdpartyconsentsisoneofthemostcriticalandsensitiveportionsofatransaction.Afterthepainstakingprocessofdeterminingwhatcontracts,permits,leasesorotheragreementsrequireconsenttoassign(whichdeterminationwillrequirecarefulanalysisoftheapplicablestatelaw,andfederallawinthecaseofBureauofLandManagementleases),astrategyhastobelaidoutwithrespecttoobtainingeachconsent.Someconsentingparties,suchaslargelandholdingcompanies,willrequireamuchmorehands-onandnegotiatedapproachtoobtainingconsent,whereasso-called“MomandPop”landlordswillgenerallyrequireamuchdifferentapproach.

Further,atargethastodeterminewhetherornottheydesiretoobtainareleaseaspartoftheassignment(sometimesreferredtoasanovation).Inmanystates,anassignorisnotrelievedofliabilityunderacontractsimplybyassigningtheobligationsandbenefitsthereunder.Mostcourtsholdthat“theassignorofacontractremainsliableforperformanceoftheobligationswhichheassumedtherein,evenafteritisassigned.”19Anagreementbetweenthepartiesthatacontractmaybeassigned,moreover,willnotofitselfreleaseapartyassigningit,unlessitexpresslystatesso,oritcanbeinferredfromthecircumstancessurroundingtheagreementthatsuchareleasewasintended,andextrinsicevidenceispermitted.20Thisreleasewillmakeobtainingaconsentmoredifficult,sothepartiesshouldagreeupontheformofconsent

19 E.g.,Jonesv.CooperIndus.,Inc.,938S.W.2d118,124(Tex.App.-Houston[14thDist.]1996,writ denied),cert denied,522U.S.1112(1998);718Assoc.,LTD.v.SunwestN.O.P.,Inc.,1S.W.3d355,361(Tex.App.-Waco1999,nowrit);UniversityofTexasMed.BranchatGalvestonv.Allan,777S.W.2d450,453(Tex.App.-Houston.[14thDist.]1989,nowrit);Farahv.Mafrige&Kormanic,P.C.,927S.W.2d663,677(Tex.App.-Houston.[1stDist.]1996)(“Apartytoacontractcannotavoidliabilitybydelegatinghisobligationtoperformtoanotherperson,”byassignmentorotherwise.).20 Pottsv.Burkett,278S.W.471,473(Tex.Civ.App.-Eastland1926,nowrit).

§ 17.08

priortosigninganagreement,astheformwilldictatewhetherareleaseofliabilityonthepartoftheassignorispartoftheconsent.

[e] — No Shop. One of themost heavily negotiated pre-closing covenants is the

exclusivityor“noshop”covenantthatatargetisgenerallyrequiredtoprovide.Inessence,atargetagreestonottalktoanyotherpotentialpurchasersaboutbuyingwhatpurchaserintendstobuy.Whenthetransactionisastocksale,obviouslytheshareholdersarerequiredtobeboundtothiscovenant,exceptin thecontextofapublicly traded target inashareexchangeormerger.Whenthetargetisapubliccompany,ahugelayerofadditionalnegotiationandhairpullingisrequiredinnegotiatingthiscovenant,duetothewealthofDelawarecaselawstatingthataboardofdirectorsmustbeverycarefulnottoviolatetheirfiduciarydutywhenagreeingtoacovenanttonotacceptorentertainhigherandbetteroffers.21Thisisatopicforanentirechapter,andmanyhavebeenwritten,soforpurposesofthischapteritissufficienttosaythattheexclusivityprovisionoftencontainsafiduciaryoutandverylittleinbreakupfees.

Inaseller’smarket,asellerwillwanttocurtailtheexclusivityprovisionbyallowingforabreak-upfeethattheycansimplypayandwalkawayfromthetransaction,andwillwantalarge,potentiallynon-refundabledeposit,inexchangeforthevalueofthetimepurchaserislockingup.

[f] — Payment of Liabilities.Attheclosing,thepurchaserwillwantallbutcurrent(non-delinquent)

accountspayabletobepaidoffbydirecttransferoftheapplicableportionofthepurchasepricetoallsuchcreditors.Clearly,thisisvitalwithrespectto securedcreditorswhere thepurchasers isnot assuming such secureddebt,butitisalsoimportantwithrespecttounsecuredcreditors.Unsecuredcreditors,whilenotpossessingalienontheassets,maybeabletorecoveramountsduefromthepurchaserunderthepreviouslydescribedtheoriesof

21 See, e.g.,CA,Inc.v.AFSCMEEmployeesPensionPlan,953A.2d227,230(Del.2008);Omnicare,Inc.v.NCSHealthcare,Inc.,818A.2d914,923(Del.2003).

§ 17.08

fraudulentconveyanceor thebusinesscontinuationdoctrine.Further,forthoseunluckyenoughtohavetodealwiththeBulkSalesAct,Article6oftheUniformCommercialCode(UCC)requiresnoticetocreditorsofasellerinatransactionwhereinthecompanyisessentiallysoldinwhole.Whilethestatuteoflimitationsforbringingaclaimisshort,thecreditorscangoafterthebuyerforsuchliabilitiesiftheproceedsarenotusedtopaythecreditorsasperthetermsoftheBulkSalesAct.Wherepurchaserisnotassumingaccountspayable,itwillwantallcreditorstobepaidoffatclosing.Wheretherearesituationsinwhichtheremaybeadisputeabouttheamountowedbytargettoacreditor,thepartiesmayconsiderputtingthedisputedamountinanescrowaccountforthebenefitofthecreditorortarget—whoeverprevailsonthemerits—inexchangeforareleaseforthebenefitofthepurchaser.

Generally, themechanism for this covenant is for target toprovidepayofflettersfromallsecuredcreditors,andpotentiallysomeunsecuredcreditors,andtoprovidealistofpayablescertifiedbyanofficer.Theclosingfundsflowmemorandumwillthendirectpaymentsdirectlytosuchpersonsfortheaccountoftarget.ThesecuredcreditorpayofflettersshouldgrantthepurchasertherighttoreleaseUCCfilings,andthenecessarymortgagereleaseswillneedtobepreparedandreadytobefiledimmediatelypriortothetransferdocuments(betheydeedsorassignmentsoflease).

[g] — Estoppels, Ratifications, and Amendments. Theremaybecertainkeycontractsthatdonotrequireconsenttoassign,

butforwhichpurchaserwillwantsomecomfortwithrespecttotheabsenceofdefaultsintheformofaffirmationfromthecounterparty.Suchestoppelsandratificationsshouldberequestedsparinglybecauseoftheaddedtime,expenseandissuesthatcanbecausedbybringingathirdpartyintoplaywithoutanabsoluteneedtodoso.Also,certaincontractsmayneedtobeamendedpriortopurchasertakingassignmentbecauseofsomeunfavorableterminthem.

[h] — Recordation. Many times,anoperatingcoalcompanywill acquire leaseswithout

puttingtheirinteresttorecordimmediately,orever.Whilethisopensthe

§ 17.08

doorforasubsequentlesseetotrumpthetitleofthetargetinstatesthatarerace-noticewithrespecttosuperiorityoftitle,itisstillacommonoccurrenceforleasestoberecordedyearsafterexecution,ifatall.Oftenapurchaserwillwantasmanyoftheseunrecordedleasesaspossibletobeputtorecord.Sometimes,thiswillrequireanewleasememorandumiftheoriginalleaseisnotfitforrecordingduetolackofacknowledgementsorsomeotherfailuretoincludethenecessaryitemsforvalidrecordation.Thiscanbeatime-andlabor-intensiveproject,andasmuchaslawyersdisliketheuncertaintyofnotbuttoninguptitleasmuchaspossible,oftentheserecordingissuesaresweptasideintheinterestoftime.

[i] — Evidence of Title. Inanormalcommercialtransaction,atargetwouldoftenberequiredto

provideatitleinsurancecommitmentwithonlyimmaterialexceptionsnoted,andanALTAsurveyfortherealproperty,suchthatpurchaserisessentiallytakingnoriskwithrespecttothevalueandownershipoftherealproperty.In amineral transaction, this is almostnever a covenantor a conditionprecedent.Thereissomelogicinhavingsucharequirementwithrespecttohighlyimprovedproperties(suchaspreparationplantsandloadouts),butthisauthorhasnotseenthatasacommoncovenant.

[j] — Employees. Thepre-closingcovenantdealingwithemployeesisprettymuchthesame

asthosecovenantsinapurchaseagreementrelatedtoanylabor-intensivecompany.Obligationstoallowinterviews,transitionemployeeinformation,makeemployeesavailableforhiring,anddealwithcollectivebargainingareallpotentiallykeyissuestodealwith.Whenandhowemployeesareinformedofthetransactionisalsoaveryimportantcovenanttosetforth.

[k] — Tax Compliance Certificates. Injurisdictionswhereitisavailable,itisworthconsideringarequirement

thatatargetprovidetaxcompliancecertificatesasaprotectionagainstcertainstatetaxliens.

§ 17.08

[l] — Closing Deliverables. Whilenotgenerallyreiteratedinthissectionoftheacquisitionagreement,

theclosingdeliverablessuchasdeeds,resolutions,certificates,billsofsale,assignmentsandotherclosingdocumentsarethesubjectofaclosingcovenanttodeliversuchdocumentsinaformagreedtoeitherbyattachinganexhibitatsigningorasmutuallyagreedtopriortosigning.

[m] — Utilities. Utilities contracts aregenerallynot assignable. In thecoal industry,

electricutilityarrangementsareveryimportantbecauseofthelargeusageatundergroundminesandpreparationplantfacilities.Thepartiesshouldcarefullyconsiderwhetherthereareanyagreementsthatcanbeassignedtoavoidre-pricingbytheutility.Thesecontractscangetoverlookedbecausebusinesspersonsoftendonotthinkofthemascontracts,liketheywouldthinkofacoalsupplyagreementoracontractminingagreement,buttheycanbevitallyimportant.

[3] — Post-Closing.[a] — Payment of Retained Liabilities; No Distribution.

This covenant acts as the suspenders to thebelt that is the retainedliabilitiessectionoftheacquisitionagreement,withbothservingthepurposeofprotectingpurchaseragainstliabilitiesofthetargetthatitdoesnotexpresslyassume.Ifaretainedliabilitycreditorpursuespurchaser,thepurchasercanefficientlypointtoadirectcovenant(asopposedtothestatementofretainedliabilities)thattargetwillpaysuchretainedliabilitieswithinacertainperiodoftimewhenmakinganindemnityclaim.Hopefully(ifyouarepurchaser’scounsel)suchindemnityclaimcanbemadeagainstadeferredpurchasepriceholdbackoranescrowfund.Afterall,withoutaprotectedpotoffundsforrecourse,ifcreditorsaredesperateenoughtopursueapurchaser,thetargetprobablyisinsolventandthepurchaserwillrecovernothingonajudgmentagainstsellerbecausethevulturesarealreadycirclingwhatisleftoftherottingcarcassoftheseller.Inadditiontothecovenanttopayallliabilities,thecovenant typicallyshould includearelatedrestrictionondistributing

§ 17.08

assets(includingcash)totheshareholdersforaperiodoftimetomakesurethesellerissolventifunknownclaimscropup.

[b] — Noncompetition, Nonsoliciatation and Nondisparagement.

Many times, restricting the activities of the target’s owners or keyemployeesisnearlyasimportantasacquiringtheassetsofthetarget.Certainbeneficiariesoftheacquisition(namelytheparentcompany,orshareholdersifthetargetiscloselyheld)mayhaveagreatdealofuntappedvaluethroughtheirexperience,contactsandknowledgeoftheindustrywhichtheyusedandacquiredinbuildingupthetarget.Someoftheseindividualsandentitiesmaynotwantorbeofferedemploymentbythepurchaser,sothepurchaserwillwanttoensurethattheydonotinterfereorcausediminutioninthevalueoftheacquiredassets.

Inmining,sometimesthatpropertythatisjustbeyondwhatyouownisasimportantasthepropertyyouown,andapurchaserwillwanttoensurethat anybeneficiariesof thepurchaseprice from thepurchaseof targetwillbeboundtoaidpurchaserinpickingupadditionalproperty,oratleastnotobstructorinterferewithsuchacquisitions.Assuch,anoncompetitioncovenantusuallyisincludedwhichrequiresthatthetargetownersorotherkeyindividualsorentitiesagreetonotcompeteforland—butalso,insomeinstances, forpurchasers, suppliers andcontractors.With respect tokeyemployeesofthetarget,thepurchaserwilloftenhaveaclosingconditionstatingthattheyobtainemploymentagreementswithsuchemployeesthatwillcontainthissamecovenant.Butwithrespecttoownerswhoareplanningtorideoffintothesunsetor,forpersonalorpersonalityreasons,willnotagreetoemployment,apurchaserneedstoensureinactionsinceitcannotobtainaction.

Definingthescopeofthenoncompetitionwithrespecttorealpropertyacquisitionsisstraightforward(yousimplycreateamapwithclearlylabeledboundaries),butagreeingtotheboundariescanoftenbebitterandbloody.Ataminimum,itseemsreasonablethatapurchasershouldhaveprotectionfor theentirearea towhichcurrentminescouldreasonablyexpand,andwithin areas that the target had reservesbutwhich reserveshaveholes

§ 17.08

whereadditionalpropertymustbeacquiredtoconstructareasonablysizedmineableblockofcoal.

Definingthescopeofthenoncompetition/nonsolicitationclausewithrespecttosuppliers,contractorsandpurchasersisamuchmoredifficulttaskifthepartiestobebounddesiretohaveanydealingsinthecoalindustryduringthetermofthenon-compete.Whilesuppliersandcontractorsareoftentiedtoacertaingeographiclocation,purchasersofcoalarenot.Agreatdealoftimeandenergycouldbeexpendedinnegotiatinganon-competerelatedtocompetitionwithcoalpurchasers,andgettingsuchacovenantmaybeabridgetoofarinsomecases.Thatbeingsaid,itisamaterialissuethatcounselshouldalwaysdiscusswiththeirclient.

The second of the triad of “N”s thatmake up this covenant, thenonsolicitation clause, simply bolsters the non-competition clause byrestrictingcertainpartiesfrompoachingtheemployeeswhoarebeinghiredorbroughtonboardbypurchaseraspartofthetransaction.

Finally,thenondisparagementcovenantsimplyrestrictsthesamesetofentitiesandindividualsfromharmingthereputationoftheacquiredtargetorthepurchaser.

It is important to remember that restraintson competition areverynarrowly construed and vary from state to state and circumstance tocircumstance.Aswithotherareastoucheduponinthischapter,therearemanyusefultreatisesthatgointoexcruciatingdetailonthelegalboundsofthesecovenants.Themostimportantadviceforcounselpreparingthisprovision is toconsultwithexperts,makeoneselfanexpert,andalwaysincludinga savings clause in case anyportionof the covenant is foundunenforceable.

[c] — Mining Permit Matters. OneofthemostimportantassetstoaminingcompanyistheSurface

MiningControlandReclamationAct-mandatedsurfacedisturbancepermit.For the initiated, itgoeswithoutsaying thatwithout thatpermitand themyriadwater,air,corpsofengineers404streamdisturbance(e.g.Hollowfill)andotherrelatedpermitsthatmayberequiredtoobtainaSMCRApermit— thealphabet soupneeded for anyparticularminingoperationvaries

§ 17.08

dependingonthemining,operationsanddisturbancescontemplated—theactofmining,evenundergroundmining,willleadtoseverepenaltiesforthepurchaser.Assuch,nominingacquisitionthatinvolvesactiveoperationswouldbecompletewithoutcoveringtransferofthepermits.And,asisoftenthecase,oneofthemostimportantassetscannotsimplybetransferredbyabillofsaleoranassignment,butinsteadrequiresalongprocessoftransferapprovalinanassetcontext(andalsoinastockcontext,althoughlessso).

In the context of a stock transaction thepermits are obviouslynottransferred—onlytheownershipofthepermitteechanges—butthechangeofcontrolrequiresfilingswiththevariouspermittingauthorities.However,inthemorecommonassettransaction,aratherlengthyapplicationandtransferprocessmustbecarriedouttofinallytransferthepermits,andtheprocessisnevercompletedprior totheconsummationofthetransactionandthetransferofthepurchaseprice.However,becauseofthenatureoftheasset,bothsidesareincentivizedtocompletethetransferinthenormalsituationsothedelayednatureofthetransferislesstroublingthanmightbethought.

In a typical asset transaction, thepurchaserwillbe requiredwithinafewdaysoftheclosingtofilethenecessarytransferapplicationsforallpermits.Thepermitsthat“underlie”issuanceoftheSMCRApermit,suchaswater,airand404permits,aregenerallymorestraightforwardtoobtaintransferontherecordsofthepermittingauthority,buttheminingpermitcantakemonthstoobtainfulltransferduetothereviewthattakesplaceintheapplicableofficeofsurfaceminingorpermitting.Atclosinganassignmentofpermitswill be executedby seller andpurchaser, but the assignmentisonlyeffectiveasbetween theparties.Because thepurchaserdoesnotpurchasethecollateralsecuringthevarioustypesofreclamation“bonds”thatarerequiredforissuanceofanSMCRApermit,thesellerisusuallyincentivizedtohelpcompletethetransferexpeditiously.Also,becausethepurchaserisinthesomewhattenuouspositionofoperatingonapermitthat,intheeyesoftheissuer,isstillheldbytheseller,itisincentivizedtofinishthetransferquicklyorrisksellerpullingits“designatedoperator”statusandthuspreventingpurchaserfromoperatingonthepermit.

Also,asdiscomfortingasitistoatargetanditscounsel,thetypicallylarge bonds, letters of credit or cash collateral that secure themining

§ 17.08

reclamationobligations(commonlyreferredtogenericallyas“reclamationbonds”orsimply“bonds”)undertheSMCRApermitdonotgetreleasedby the permitting authorities until transfer is complete.This creates asituationwhere, if things gowildlywrongwith respect to purchaser’spermitcompliancepriortotransfercompletion,thesellerscouldlosetheircashheldasreclamationcollateral,ortheircashbackinglettersofcreditorbondsthatthepermittingauthoritiesholdinlieuofcash.Acommonwaytoprotecttheassetselleragainstthisistorequirethepurchaserto“doublebond”orposttheirowncash,bondsorlettersofcreditwiththepermittingauthorities immediatelyon the closing.However, thismethoddoesnotprotectthesellers’reclamation“bonds”frombeingtakenbytheregulatorsinadoomsdayscenario. 22

During this timebetweenclosing the transactionandobtaining fulltransferofthepermitstothepurchaser,thetargetanditsownershipandcontrolgroupare still liable for,or at leastheavily impactedby,permitviolationsontheyet-to-be-fullytransferredpermits.Inpractice,whilethepermitisbeingtransferred,thetargetdesignatesthepurchaseras“operator,”whichallowsthemtousethepermitasalicensee.Anotherconcernthatreallycannotbehelpedorpreventedisthatifpurchasermakesabigenoughmess,thepermitcouldberevokedandtheseller’sownershipandcontrolgroupcouldreceivetheblackflagofbeing“permitblocked”—meaningupstreammanagersandcompanies,andpotentiallyevensistercompanies,couldfaceamajorroadblockuponpermitrenewalsandapplyingfornewpermits(inall50states,andpotentially forpermitsother thanminingpermits,andpotentiallyforever).Asaresult,theacquisitionagreementgenerallycoversingreatdetailindemnityandprovisionsforhaltingoperationsonthepermitduringthepre-transferphase.

Finally,itisworthmentioningthatsomepermitsareassetsandsomeare liabilities.Theold adageworkswell forpermits:Withgreatpowercomesgreatresponsibility.Apermitallowssomeone toextractminerals

22 Asellercanrequirepurchasertopostreplacementbondsandsubstituteseller’sbonds,butthisisuncommonandeliminatespartoftheleveragepurchaserhastoforcesellertokeeptheballrolling.

§ 17.08

andhopefullysellthematgreatprofit.Thesamepermitrequiresthatentityto restoreor reclaim thedisturbed area at veryhigh cost and to ratherdemandingstandards.WithoutgettingintoagreatdealofdetailthatmanywonderfulEMLFchaptershaveprovidedovertheyears,thepermitholdermustgenerally(1)returnthedisturbedpropertytoitsapproximateoriginalcontour(subjecttoobtainingauthoritytodootherwise),(2)re-vegetatethepropertywithgrassandusuallytrees,(3)mitigateanyrunoffissues(includingpotentially treatingacidminedrainagecausedbygroundwater leachingthroughcoalworksforasmanyyearsastheproblempersists),and(4)takevariousotheractionstoessentiallycoveruptheexistenceofpriorminingactivities.Sowhenapermitisforanactiveminewithmillionsoftonsleftunderpermit,itisfairlyeasytogetthepurchasertoquicklycompletethetransferprocess.However,whenthepermitisabouttorunoutofcoal,orhaslongsincerunout,gettingthetransfercomplete—orevengettingthepurchasertotakethepermit—canbeatoughrowtohoe.Apurchaserhastobesomewhatworriedaboutleavingbehindamassiveliabilityinasellerthatmayormaynotmakegoodonitsresponsibilitiestotheregulators.

[d] — Transition Services. Inthesituationwhereapurchaserispurchasingaminingdivision(e.g.,

theXYZMineorallminesinCentralAppalachia),theywillgenerallyhirealloftheoperationsemployees,butoftenthepurchaserwillnotbeabletocausethesellertomakeavailableforhiringtheadministrativeandmanagerialfolks that arevital to thebackoffice functionsnecessary tokeeping abusinessafloat.Historically,manybuyersinmineralacquisitionsarenewtotheindustryortotheregion.Insuchinstances,retainingtheconsultingandbookkeepingservicesofthesellercanbecritical.Inthecasewherethepurchaserisnewtotheindustryorregion,thepurchaseroftenwillrequirethatthesellerortargetprovidebackofficeservicesforaperiodoftimeatcostoratsomepre-determinedfeeperhour,weekormonth.Whilethistypeofoutsourcingisnotnecessarilyfraughtwithperilwhenperformedbyacompanywhoseexpertiseishandlingbackofficefunctionsforthirdparties,thistypeoftransactionisfraughtwithperilwhenasellerisaskedtoperformthisbackofficeworkforapurchaser.Thatbeingsaid,thefolks

§ 17.08

whowillprovidetheservicesareadeptandknowledgeableintheparticularoperationforwhichtheywillprovideaccountingservices.Usually,thispost-closingcovenanttoprovidetransitionandbackofficeservicesstandsaloneinaseparatetransitionservicesagreementthatcontainsexcruciatingdetailonperformancestandards,indemnity,paymentterms,authorityformakingpayments,andamyriadofotherissues.

[e] — Transfer and Property Taxes. Closingalwaysoccurinthemiddleofataxperiodforpropertytaxes.

Assuch,thepartiesgenerallyallocatetaxliabilityforsuchstraddleperiod.Also, somecoal-producing stateshaveunminedmineral taxes thatwillbeduewithrespecttoproducedcoalthatthepartiesmaywanttoallocateresponsibilityfor.Finally,itisimportanttotakeintoconsiderationthetransfertaxesandrecordingfeesforrealpropertytransfers,andpotentiallysalestaxonpersonalproperty,ifanoccasionalsaleexemptioncannotbeused.23 Eachstatevarieswildlyonthispoint,anditisimportanttoconsiderwhetherthestates(e.g.,Pennsylvania)potentiallytaxastocksaleasifanassetsaleactuallyoccurredforpurposesofrealestatetransfertaxes.

[f] — Further Assurances. Thiscovenantmightaswellbecalledthe“oops”covenantorthe“bail

out the lawyer”covenant. Ina transactionas complicatedas the saleofhundreds,maybe thousands, of assets, including contracts, equipment,coal,propertyandreceivables,somethingislikelynotgoingtobefullyandadequatelydocumentedpriorto,orat,theclosing.Asaresult,eachpartymakesacovenanttotheothertosignwhatdocumentsmaybeneededtocleanupanylooseends.Thismaybeassimpleassigningcertificatesoftitle(ifnothandledatclosing)topreparingadeedforatractthatwasleftoffofascheduleinadvertently.Regardless,suchaprovisionisonlyfairandreasonable.Theonlypointtoreallynegotiateishowcosts,ifany,relatedtosuchfurtherassurancesshouldbeallocated.

23 See, e.g.,Ky.Rev.Stat.139.670,139.680.

§ 17.08

§ 17.09. Conditions Precedent.[1] — General Description. Asthesayinggoes:“Stuffhappens.”Betweenthetimeadealisstruck

andtheacquisitionagreementissigned,andthetimethatthepartiesarereadytoclose,manyeventscouldoccur,ornotoccur,thatwouldmakethedealnolongerpalatableforoneorbothparties.Asaresult,acquisitionagreementscontain a section thatprovidesconditionsprecedent to theobligationofoneorbothpartiestoconsummatethetransactioncontemplatedthereby.Ofcourse,inasimultaneoussign-and-closetransactionthisisanon-issue.

Therearetwocategoriesofconditionsprecedent:(1)documentsthatmustbedeliveredortimeperiodsandfilingsthatmustbemade,and(2)eventsthatarisethatalterthenatureorvalueofthetransaction.Thefirstcategoryisalistofactionsthatmustoccurthatcannotfairlybemadecovenantsforwhichabreachofcontractclaimcanbebrought,becausethesedeliverablesrequiretheinputofathirdpartywhomneitherpartycancontrol.Thesecondisreallythe“stuffhappens”category.

It is important to alsounderstand that there is no liability to eitherparty for failureof a conditionprecedent, unless such failure is due tobreachofacovenantelsewhereintheacquisitionagreement.Forexample,themostcommonconditionprecedentisthereceiptofnecessaryconsentstoassignment.Sellerdoesnothavetheability,shortofunwisethreatsofviolence,tocauseathirdpartytoconsenttoanassignment.Assuch,itwouldbeunfairandunreasonabletoholdasellerliableforfailuretoobtaintheconsent.However,thereisusuallyacovenantelsewhereintheacquisitionagreementthatrequiresthesellertousecommerciallyreasonableeffortstoobtainthoseconsents.Soiftheconsentsarenotobtainedbecausesellertwiddleditsthumbsandmadenoattempttoobtainsuchconsents,therewilllikelybeabreachofthatcovenant—butitisthefailuretousecommerciallyreasonableefforts,notthefailureofthecondition,thatisthebreach.

[2] — Deliverables Closing Conditions. Otherthanthe“consents”closingconditionmentionedabove,someother

commonclosingconditionstiedtothirdpartydeliverables,oractionsofthirdparties,are:settlementoflitigation;receiptofpayoffletters;amendments

§ 17.09

tocontractstoextendterms,amendprovisionsorterminate;andestoppelsfromlandlordsorcoalpurchasers.Therearealsocommonclosingconditionsrelated to regulatory approvals suchasHart-Scott-Rodino approval andWARNActnoticeperiods.

[a] — Real Property Comfort. Often,especiallywheresellerhasnegotiatedminimaltitlewarranties,a

purchaserwillinsistonaclosingconditionthattheyareabletoobtaintitleopinionsortitleinsurancecommitmentswithanacceptablylowleveloftitleexceptions.Also,wherereserveswereheavilyhypedinseller’smarketingefforts,apurchasermayinsistonreceivingcertifiedreservenumbersfromaminingconsultant,suchasJohnT.Boyd,withthecostforsuchcertificationtobesharedorevenallocatedtoseller.Also,wherethesellerhasunrecordedleases,apurchasermaywellinsistthatsuchunrecordedleasesbeputtorecordpriortoclosing,andtitleworkperformed,toensureanotherlease,mortgageoroutconveyancedoesnotaffecttheirvalidityorpriority.

[b] — Financing. Dependingonthecoalmarketandtherelativeleverageofsellerand

purchaser,apurchasermaybeabletoobtainaclosingconditionthattheyareabletoobtainsufficientfinancing,eitherthroughdebtorequity,ontermsthattheyfindacceptable.Usuallythisconditionwouldexpirebeforetheultimateclosing“dropdeaddate.”

[c] — Diligence. Oftentimes,apurchaserwillwantadealinkedevenbeforetheyhave

completedtheirdiligenceandfullyvettedthepurchase.Fromtimetotime,apurchaserisabletoobtaintherighttowalkawayfromthedealforacertainperiodaftersigningiftheyarenotreasonablesatisfiedwiththeirdiligenceresults.Aprudentsellerwouldwanttostronglyconsideranon-refundabledepositiftheyaregoingtograntsucharighttoapurchaser,sinceasellerwillhaveinvestedareasonablylargeamountofmoneyinlegalfeestogettoasigningofadefinitiveacquisitionagreement,justtoseethepurchaserwalk.Itisreasonabletoconsideracompromisewhereinthepurchaser’sdiligence

§ 17.09

righttowalkafterclosingistiedonlytouncoveringcertaintypesofissues,suchasissuesthatcomeupthroughaPhase1ortitlesearch.

[d] — Adverse Facts Closing Conditions. The other category of closing conditions is related to changes in

circumstances.The twomain items in this categoryare (1)breachesofwarrantiesand (2) theexistenceofanevent thatgives rise toamaterialadverseeffect.

[e] — Breach of Warranty Closing Condition. It is important to carefully considerwhether there aremateriality

qualifiersinanywarranties,andhowthatmaterialityqualifiermayinteractwithanymaterialityqualifierintheclosingconditionregardingtheaccuracyofwarranties.Usually,aclosingconditiontiedtoaccuracyofwarrantieswillbematerialityqualified,suchthatabreachwillnotpermitthenon-breachingpartytoavoidclosingifthebreachisimmaterial.Becausesuchaqualifierexistsintheclosingconditionssection,onemustbecarefultoconsidertheinterplaywiththequalifiersinthewarrantiesthemselves.Simplyput,iftheclosingconditionstatesthatallwarrantiesaremateriallyaccurate,andsomewarrantieshavematerialityqualifiers,thereisarisktothepurchaserthatthereisadoublematerialityqualifieronthosewarranties.Theeffectofthatdoublematerialityqualifiercouldbethatasellercouldarguethattheclosingconditionhasbeenfulfilledevenifthereisarguablyamaterialbreachofawarrantybecausetherearetwomaterialitythresholdstoovercome,thusmakingadoublematerial,orextramaterial,breachrequiredtocausethefailureofaclosingcondition.Ofcourse,itisnotunfairtohaveamaterialityqualifieron theaccuracyofwarrantiesclosingconditionas thiswillnotprecludearemedy,sinceanindemnityclaimforbreachofsuchwarrantywillstillexist,solongastheindemnityprovisionisproperlydraftedregardingmateriality,andtheclaimexceedsthedeductible.Infact,itseemsmostfairforthetransactiontostillcloseaslongasthebreachisimmaterial,becauseitdoesnotmateriallyalterthebenefitofthebargain.However,sinceanindemnityclaimshouldexist,thereisaremedycommensuratewiththebreach.Thisissueultimatelycomesdowntopartypreferenceandwhetherapurchaser

§ 17.09

wouldratherbeobligatedtoclose—buthaveanindemnityclaim,becauseawarrantybreachisarguablynotmaterial—orwhetherapurchaserwouldsimplywanttowalkawayfromthetransactionbecauseofanywarrantybreach.The latterpositionwould seemunreasonable especiallybecausethetargethaslikelyalreadyputtheworldonnoticeofthetransaction,andcouldlosealotoffaceifthetransactionfailstocloseanditcomesoutthatthereasonwasawarrantybreach.Thesellerwilllikelywantthepurchaserboundtoclose,butwiththerighttoanindemnityclaim.

[f] — Supplements to Disclosure Schedules. Notethatsupplementstodisclosurelettershavenoeffectforpurposes

ofclosingconditions(meaningthatthenewlydiscloseditemwillgivethepurchasergroundsonwhichtonotcloseiftheitemismaterialenoughtocauseaclosingconditiontonotbemet),butdohaveeffecttoprotectselleragainstindemnityclaims.Thisseemsfair.Ifthepurchaserdoesn’tlikethenewlydiscloseditem,itcanchoosetonotclose,butifitchoosestoproceeditcannotbringanindemnityclaim

[g] — Material Adverse Effect. Theother closingcondition tied tochanges in facts is thecondition

statingthatnoeventhasarisenthatgivesrisetoamaterialadverseeffectontheassetsorbusinessbeingsold.Becauseasignificantamountoftimemayelapsebetweensigningandclosing,thereissomeriskthatsomesignificanteventcouldoccurthatwoulddrasticallychangethevalueoftheassetsorcompanybeingacquired.Wheresuchaneventoccurs,itisarguablyfairforthepurchasertobepermittedtohavetherighttonotclose.Thisconditionisdifferentthanthatofwarrantybreaches(althoughtheremaybeoverlap)becauseaneventthatgivesrisetoamaterialadverseeffectmaynotbeduetobreachofawarranty,butmerelybadluckbetweensigningandclosing.Thecommondefinitionofamaterialadverseeffectusuallycarvesoutmattersthatimpactallcompaniesequally,butwilloftennothavesuchacarveoutinpurchaser’sfirstdraft.Theseller’spointisthatitcannothelpthattheworldhaschangedaroundthem,andthatriskshouldfallonthepurchaser.Thiscanbehotlycontested.

§ 17.09

[3] — Seller’s Conditions. Seller’swilloftenhavetheirownclosingconditions,albeitmorelimited.

TheseoftenincludingshareholderapprovalwherethesellerisnotcloselyheldandtheabsenceofanMAEaffectingpurchaserwherestockorsellerfinancingispartoftheconsideration.

§ 17.10. Termination.Becausemost acquisition agreementsprovide for adelayedclosing,

meaningthattheagreementissignedandthenatimeperiodelapsesbeforethepartiesmustclose,theremustbeawaytoterminatethealreadyvalidagreementshouldcertaineventsarisethatmakeclosingnottenabletoonepartyor theother.TheTermination section inanacquisitionagreementcontainsprovisionsthatpermiteitherthetarget,thepurchaserorbothtoavoidconsummationofthetransaction.Becausetherighttoterminatemeansthatagreatamountofeffortandcostwillbewasheddowntheproverbialdrain,terminationprovisionsarenarrowlytailoredinscope.

[1] — Failure of Conditions Precedent. Theprevious sectionof this chapter discusses themanyconditions

precedentthatoneorbothpartieswillwanttobefulfilledpriortoclosing.However,thoseconditionsprecedentdonotterminatethetransaction;theymerelydelay it.This sectionprovides the language that terminates theagreementiftheconditionsprecedentarenotfulfilledbyacertain“dropdead”date.Itisimportanttokeepinmindthatconditionsprecedentaresplitupbetweenpurchasersandtargets,soonepartycannottakeadvantageoftheother’sclosingconditionstoterminatetheagreement.

[2] — Breach of the Agreement. Generally,becauseoftheexpenseandeffortthatgoesintonegotiating

andconsummatinganacquisitionagreement, thebreachbyonepartyofawarrantyorcovenanthastobematerialfortheothertobepermittedtocompletelywalkaway.Ifabeachisnotmaterial(ofcoursethisisaveryambiguous,butcommon,standard),thenon-breachingpartyisobligatedtocloseandthenpursueremediesforbreach,mostlikelymoneydamages.

§ 17.10

[3] — Drop Dead Date. Thepartiescan’tgoonforeverinthelimbocreatedbysigningapurchase

agreement. In fact, thesellerwillwant thisperiod tobeveryshort, justlongenoughtoobtainanynecessaryconsents.Usually,adropdeaddateisplacedintheterminationsectionjusttokeepthepartiesmovingforwardandworkingunderadeadline.

[4] — Effect of Termination. Theeffectofterminationisquitevaried.Iftheterminationisbecause

of amaterial breach, generally the non-breaching party is expresslypermittedtopursueacauseofaction,andtheindemnificationprovisionssurvivetermination.Ifthefailuretocloseisduetoaconditionprecedentandfailureofsuchconditiontobemetisnottheresultofaparty’sfailuretouse reasonableefforts (orwhatever thecovenantstandard is) to fulfillsuchcondition,thereisgenerallynoliabilitytotheparties.Ifpurchaserhasafinancingordiligenceclosingcondition,generallythereisnoliabilitytopurchaserifsuchconditionsarenotmet(again,disregardinganyargumentthatacovenanttousecommerciallyreasonableeffortsortoactingoodfaithwasbreached),soquerywhetheritisreasonableforthetargettodemandsomeamountofdepositbeforeexecutingtheacquisitionagreement,whichtheywouldbeentitledtoretainifeitheroftheaforementionedclosingconditionsgivesrisetoterminationbypurchaser.Ofcourse,theriskwithrespecttoalargenon-refundabledeposit(largeenoughtomakelitigationareasonableexpense)isthatapurchaserthatwantsitsdepositbackcanoftenclaimthatthereasontheydidnotobtainfinancing,orthatdiligencewasunsatisfactory,wasbecauseofabreachofwarrantyormisrepresentationbythetarget—sobothpartiesmayfacetheunsavoryriskoflitigationoverthedeposit.

§ 17.11. Indemnification.[1] — General Notes. This sectionof the acquisition agreement sets forth the remedy for

breachesoftheacquisitionagreementbybothtarget(anditsshareholders)andpurchaser,andalsooftensetsforthspecificknownliabilitieswhichthepartiesnegotiatedsuchthattheriskfallscompletelyononesideortheother,

§ 17.11

oristobeallocatedinaspecificway.Evenwithoutanindemnitysection,breachofawarrantyorbreachofacovenantwouldentitlethenon-breachingpartytorecoveritsdamagespursuanttothetermsofcommonlaw,ortheUCC,dependingon thenatureof thewarranty.However, it is commonpracticetoexplicitlysetforththatthebreachingpartyindemnifyandholdharmlessthenon-breachingpartyforallcosts,includingattorneyfeesandotheritemsthatmaynotberecoverableintheabsenceofexpresslanguageinacontract.Further,anindemnitysectioncanclarifywhethercertaindamagesarenotrecoverable(e.g.,consequentialdamages),andalsoprovidevariousimportantprovisionssuchasthelengthoftimethatwarrantiessurviveandtheallocationofspecificliabilitiesthatareknownanddisclosed,andassucharenotliabilitiesarisingoutofthebreachofawarranty.

[a] — Why So Important? Theindemnitysectionisextremelyimportantandisoftenutilizedbya

purchasertorecoverorwithholdfundsthatwouldbeduetothetargetabsentanindemnityright.Thefactthatindemnityclaimsareprevalentdoesnotmeanthattargetslieoften,orthatpurchasersarelookingtosavemoneyonthe“deal”price;itissimplyaresultofthemassiveamountofactionsandassetsinvolvedinabusinessacquisition.Becausetherearesomanycontractsandactivities,andbecauseofthefalliblenatureofman,itisclosetoacertaintythatmistakeswillbemade—andthussomebreachesofwarrantyarealmostinevitable.Forexample,atargetwillgenerallywarrantthattheyhavenotbreachedthecontractstheyareassigning.Afterclosing,however,itmayverywellcometolightthattheydeliveredanon-conformingshipmentunderanassignedcoalcontractandsuchshipmentconstitutedabreachwhichentitledthecounter-partytodeductdamagesfromthereceivable.Assumingthetargetdidnotretainthereceivable,thereductioninreceivableisacostforwhichpurchaserwouldhaveaclaimforrecoveryunderanindemnityprovision.Anotherexamplewouldbeacompletefailureoftitletoasurfaceparcelonwhichsitsamaterialimprovement,suchasapreparationplant.Atargetwillusuallygiveastrongwarrantyoftitletomaterialsurfaceparcels,soabreachwouldexistinthiscase.Inbothoftheseexamples,anindemnityclaimisforeseeablebecausemistakesandbreacheshappenallthetime,evenwith

§ 17.11

thebestofintentions.Manywarrantiesallocateriskthatthesellercannotpossiblyfullyunderstand,becausemistakesandaccidentsjusthappen.Asaresult,itisextremelyimportanttohaveaveryclearcutremedyandcourseofactionforresolvingaclaim,andsettingparameters,andusuallysourcesoffundsforsatisfyingclaims.

[b] — Public Company Stock Sale. Itisimportanttobrieflynotethatindemnityisalmostentirelyunheard

of in a stock sale if the target is apublic company.Themany inactiveshareholderswillnotberesponsibleforpayingbackaportionoftheproceedsgiventhem.Thisadditionalrisktopurchasershouldsimplybepricedintothetransaction.

[c] — Standard Indemnity Section Outline.a)Survivalperiodsb)IndemnificationbySeller

c)DetailofwhatSellerindemnifiesforandwhatindemnitycovers.

d)IndemnificationbyBuyer

e)Limitationsonamountsofliability

f)Minimum threshold to bring claim,maximumamount ofindemnityallowed.

g)Rightofsetoff;escrow

h)TreatmentofThirdPartyClaims

i) TreatmentofDirectClaimsthatdonotinvolveThirdParties

j) SoleRemedy

[d] — Why Warrant? Itisfairtoconsiderwhetheratargetshouldhavetowarrantthatwhich

itisselling.Afterall,thepurchaserisoftengiventimetoreviewcontracts,runtitleonpropertyandchecklitigationrecords.Atargetcouldarguethatthepurchaserneedstotakethewholedeal“asis,whereis.”Thismakessomesense,butgenerallythepricingofadealdoesnotassumetheassetsare

§ 17.11

sold“asis,whereis,”butinsteadiscalculatedbaseduponanassumptionofvaluethatdoesnottakeintoaccounthitstocashflowarisingoutofbreachedcontracts,failureoftitleandtaxliabilitiesthatfollowontothesuccessor.Thusagreatdealoftheriskthatthereareunknownliabilitiesundercontracts,orthattheassetsarenotasvaluableaseveryoneassumes,shouldbeallocatedtothetarget,whichisgettingapricebasedontheno-issuesassumptionsmadeindiscountedcashflowsanalysis.Also,manyissuesforwhichindemnityisgiven,suchaspotentialemployeeclaimsthatwerenotproperlydocumented,arenotsusceptibletobeinguncoveredduringdiligencebytheirverynature.

[e] — Shareholders Liable. Generally,eveninanassetsale, theownersof thecompanyprovide

indemnityeventhoughtheyarenotsellingtheassets.Thisissimplybecausetheactualsellerisoftenleftasashellafterthetransactionand,assuch,anindemnityclaimsolelyagainstitwouldnotberecoverable.Theshareholdersofasellermaypushbackagainstthispersonalliability,butifsotheymustthenfacetheprospectofalargerholdbackorescrowofpurchaseprice,orfacelosingthetransactionduetotakinganon-marketposition.

[f] — Note on Importance of Insurance. Atthispoint,itbearsdiscussingtheimportanceofinsurancetoboththe

targetandthepurchaser.Agreatmanyliabilitiescanbeinsuredsuchthatneitherpartybearstheriskofcashoutlaywithrespecttoathirdpartyclaim.Ofcourse,theinsurancehadtohaveexistedpriortoknowledgeofthespecificclaimat issue, sohavingadequatediligenceperformedon litigationandcontemplatedlitigationandonthetypeandadequacyofinsurancecoverage,iscrucial.Certainoftarget’sinsurancepoliciesmayverywellbeclaims-madepolicies,insteadofoccurrence-basedcoverage,sothepurchasermayneedtorequiretailcoverageorareasonableretroactivedateonitscoverage. Toprovideonehypothetical, assumea target in a stock acquisitiondisclosesthethreatofasexualharassmentclaimbyanemployeewhoresignsclaimingahostileworkenvironment.Thepurchaserwillwanttoensurethatthetargethadaliabilitypolicythatcoversemployeeclaimsliability,thatnoticehasbeensenttotheinsurer,andthattheinsurerhasnotreservedrights

§ 17.11

—orifithas,thattheindemnityriskliesontheshareholdersofthetarget,thisbeingastockdeal.Manyformsofliabilitycanbeprotectedagainstbyinsurance,soitmakesalotofsensetoensurethatallreasonableinsuranceisinplaceandispurchasedpriortoclosing,tolessentheneedforindemnitytoonlynon-insurableissues.Also,titleinsurancecanservetheexactsamepurposeofeliminatingafightbetweenthesellerandpurchaserandlayingthecostforunknownissuesonthetitleinsurer.

[g] — Survival Periods. Whileitiscustomaryforasellertomakewarrantiesaboutwhatisbeing

sold,thosewarranties(andtheliabilitytheymaygiveriseto)usuallyonlylastforaperiodoftimeafterclosing.Warrantieswithrespecttostatusandconditionofequipmentarenecessarilyrathershort-livedbecauseequipmentisinconstantuse,wearsout,andchanges.Anywarrantybeyondamonthafterclosingwouldbeveryriskyforseller.Assuch,itisonlyreasonablethatanyequipmentwarrantyshouldonlysurviveforamatterofdaysormonthspost-closing.Warrantieswithrespecttomattersthatarenotsubjecttochange(e.g.,asamatteroffact,warrantiesabouttitletoassetsareeitherbreachedornotbreachedatclosing),however,generallyhavelongersurvivalperiodsandthetermofsuchsurvivalperiodisusuallybasedsolelyonwhetherthetargetorpurchaserhasmorebargainingleverage,andonwhatcustomis.Certainwarrantiescustomarilysurviveclosinguntiltheapplicablestatuteoflimitationsrunsout,whichcanbemanyyears.Ageneralsurvivalperiodofeighteentotwenty-fourmonthsformostofthewarrantiesisstandard.

[2] — Anti-sandbagging v. Pro-sandbagging. Amatterthatlawyerslovetowrangleover,whichisofsomeimportance,

dealswiththeeffectofknowledgebypurchaseroftheexistenceofabreachofawarrantybyseller.Anexampleof thiswouldbewhereapurchaseruncoverstheexistenceofaprioroutconveyanceofamineralseambyseller’spredecessorintitle,whichsuchseamismaterialtotheminingplanorisalreadybeingmined.Atfirstblush,onewouldthinkpurchasershouldtellsellerimmediatelyofthisissue.However,thiscouldslowdownthedeal,andpurchaserhasnolegaldutytotakesuchaction.Withoutspecificlanguage

§ 17.11

intheacquisitionagreement,thepurchasercouldsaynothing,stopminingimmediatelyafterittookcontroloftheoperationstoavoidanyriskthatittrespasses,andbringaclaimagainstseller—assumingsellerwarranteditstitleinsuchseam—forthevalueofthelostseam.

This resultmay seemunfair,but it isnot.Purchaserhasnoduty toseller,andsellerisasophisticatedpartyandostensiblyunderstandsitsrisks.Asaresultofthestandardrule,24sellersoftentrytoincorporateananti-sandbaggingprovisionthatrequirespurchasertonotifysellerofanybreachthat it hasknowledgeof, and requires that suchbreachcannot, in somecases,bethebasisforindemnification.(“Sandbagging”referstoapurchasernottellingsellerofabreach;thistermofartcomesfrompokerparlanceandmayhaveitsoriginsinmedievalwarfare,wheresandbagswereusedasfortifications.)Theauthorfeelsfairlystronglythatananti-sandbaggingprovisionshouldberesistedbyapurchaser.Forone,asellercouldclaimthatpurchaserhadknowledgeevenwhenitdidnot,ifapurchaserattemptstomakean indemnityclaim.Apurchasercouldhave lawyersporeoverdocumentsforhundredsofhoursandmissabreach,butasellercouldusesuchfactstoconvinceathetrieroffactthatthepurchaserclearlyknewofthebreach,butsatonituntilafterclosing.Sinceknowledgeisaquestionoffact,apurchaserwillbeassuredofalongtrialwithoutsettlementassummaryjudgmentwouldnotbeaprobableresult.25

[3] — Indemnification by Seller and Shareholders. This section states the grounds for indemnification by seller and

shareholders for the benefit of purchaser. The obvious grounds forindemnificationarebreachesofwarranties.Also,indemnificationappliestobreachesofcovenants,suchasthenon-competecovenantandcovenantsregardingeffortsrequiredtoobtainconsents.Further,itisoftenthecasethatbothpartiesareawareofsomeliability,suchasatortliabilityrelated

24 CBSInc.v.Ziff-DavisPubl’gCo.,553N.E.2d997(N.Y.1990)(knowledgeofbreachdoesnotmatterabsentcontractuallanguagebecauseitispartofthecontract).25 Seethefollowingcasesdiscussingsandbagging:Giuffridav.Am.FamilyBrands,Inc.,CIV.A.96-7062,1998WL196402(E.D.Pa.Apr.23,1998);Hendricksv.Callahan,972F.2d190(8thCir.1992).

§ 17.11

towrongfuldeathoremploymentpractices,suchthatthereisnowarrantythatsuchclaimdoesnotexist,butthepartiesstillwanttoallocatetherisktosellerorequally tosellerandbuyer.Theseclaimshavetobecoveredspecificallyinthelaundrylistofitemsforwhichsellerindemnifiespurchaser.Oneexampleofthis isasituationinwhichthepartiesbothknowthatadisturbancemayarguablybe“offpermit.”Thepartieswillwanttoallocatethatriskspecificallyifsellerscheduleditasaconditiontoitscompliancewithpermits,suchthattheexistenceofsuchissuewillnotbeabreachofwarranty.Aquestionoftenexistsastowhetherasupplementtothedisclosureletter cleanses thebreach for indemnitypurposes.Normally itdoesnot.Thepurchasershouldhaveafullrighttoindemnitybasedonthewarrantiesmadeasofsigning,asthatiswhenthedealwaspriced.Further,materialityqualifiersonwarrantiesshouldbestrippedforindemnitypurposesifthereisanydeductibleorminimumthresholdonaper-claimorall-claimsbasis,sothatpurchaserisnotfacedwithadoublematerialityqualifier(amaterialitythreshold,plusadollaramountthreshold)thatcouldinflatethethresholdformakingaclaimbeyondthedeductibleamount.Selleralsoindemnifiespurchaserforanycostsrelatedtoretainedliabilities,whichisthesuspenderstothebeltofthecovenanttopayallretainedliabilities.

[4] — Deductible or Baskets. Asmentionedinvariousplacesinthischapter,indemnificationisusually

subjecttoaminimumthresholdofsomesortinordertoeliminatenickelanddimeclaims.Thisthresholdcantakemanyforms,butisoftencalledadeductible.Thebasicmechanicsofthisprovisionaresuchthatpurchaserisnotpermittedtobringaclaimunlesssuchclaimexceedsacertainestimateddollaramountintotaldamages(includinglegalfeesandothercosts).Aftertheclaimexceedssuchalimit,thepartieshavetoagreeonwhethertheclaimispayabletopurchaserbyselleronafirstdollarbasis(theparlanceinthiscasebeingthatthedeductiblebaskettipsoverandthefullclaimpoursouttotheliabilityofseller)orwhetherjusttheclaimamountthatoverflowsthedeductiblebasketmustbepaidoutbyseller(atruedeductible).Also,manytimesthedeductiblewillbequitelargesuchthatnooneclaimwillreachsuchanamount,sothepartieshavetodeterminewhetherthesmallclaims

§ 17.11

thatdonotreachsuchamountcanaggregatetofillthedeductiblebasket.Manytimes,tofurthercomplicatematters,mini-deductibleswillapplytothesesmallclaims.Purchaser’scounselmustbecarefultoavoidtheriskofatarget“doubledipping”andclaimingthatthebreachonlyexiststotheextentthatitismaterial,andthatthematerialbreachissubjectedtothedeductionofthebasket.Thisdoublediparisesanytimethereisbothadeductibleandmaterialitylanguageinthewarrantyatissue.Oneissuethatshouldbedealtwithdirectlyiswhobearstheburdenforcostsrelatedtothirdpartyclaimsthatendupbeingwithoutmerit,oratleastunsuccessful.Generally,itmakessenseforthesellertobearthecost,butagreementsoftendonotadequatelydealwithinvalidormeritlessclaimsspecifically,sooneshouldbecarefultoclarifythisissue.Withrespecttomeritlessclaimsthatarenotrelatedtothirdpartyclaimsorlitigation,itseemsreasonablethatthepurchaser,ifitbringsameritlessclaim,shouldnotreceiveindemnityforitslegalfeesandcosts.

Keepinmindthattypicallybreachesofcovenantsarenotsubjecttodeductibles, nor arebreachesof certainwarranties such as paymentoftaxes.Thismeansthatifpurchaserissuedforpaymentofadebtthataroseduringseller’soperationofthebusiness,andwasclearlyaretainedliability,purchaserwillbeabletorecoveritsentirelossanddamages,withoutthelimitationofadeductible.

[5] — Escrow and Related Concepts. Oneofthemostimportantconceptsinthelawofbreachofcontractis

theinabilitytosqueezebloodfromaturnip.Thesellerinan“allassets”saleis,bydefinition,sellingallofitsassetsinexchangeforcash,whichwillmostlikelybedistributedtoitsshareholdersveryquickly.Assuch,anindemnityclaimagainstitwillbevaluelessbecauseoftheinabilitytorecoveronaclaimagainstashell.Asmentionedbefore,usuallyshareholdersinacloselyheldsellerwillbejointandseveralindemnitors,butbringingaclaimagainstindividualsisanunsavoryproposition.Assuch,thebestcourseforallinvolvedistohaveasufficientpotofmoneyavailableforpurchasertohaverecourseagainst.Thispotofmoneyoftentakestheformofpurchasepricepaidintoescrowasopposedtopaidouttotheselleratclosing.Onotheroccasions,thepotofmoneyisintheformofdeferredpurchaseprice

§ 17.11

orrecourseagainstpurchaser’sobligationunderapurchasepricenoteinseller-financedtransactions. Whatevertheformofpurchasepriceholdback,thepartieswillheavilynegotiatetheamount,whetherinterestispayable,andwhentheholdbackisreleased.Escrowedfundsarethemosttypicalformofholdback.Anescrowagentwillholdthefunds,payinteresttothesellerandreleasethefundsattheendoftheescrowterm,whichoftenrunsthesamelengthasthesurvivalperiodforthebulkofthewarranties.Theescrowagentistypicallyabank,suchasJPMorganChase,whichhasadepartmentdedicated toholdingescrow fundsarisingoutofpurchaseagreements.A three-partyescrowagreementwillbeexecutedatclosing,whichbasicallystatesthetermsuponwhichescrowagentwillreleasefunds.Thetermsareessentiallythatfundsarereleaseduponexpiration(unlessnoticeofadisputehasbeengiven,inwhichcase thenonly thenon-disputed fundsare released),uponafinalnon-appealablecourtorder,oruponjointdirectionbysellerandpurchaser.Whilethisisnotaperfectremedytoensuredamageclaimsarerecoverable,itisthebestofmanyoptions.

Adeferredpurchasepricecanbesetoffagainstbypurchaser,butthisprovidesagreatdealmorepowertothepurchaserthandoestheescrowoffunds,andwilloftenberesistedbyseller.

[6] — Separate Title or Reclamation Indemnity. Somethingthatisnotoftendone,butisworthconsidering,ishavinga

separatedeductibleandcaponliabilityforcertaintypesofwarrantybreaches.Twothatcometomindasreasonablearetitlewarrantybreachesandbreachesrelatedtoreclamationcosts,ifsuchwarrantiesexists.

[7] — Sole Remedy and Carveout for Fraud. Generally,acquisitionagreementsholdthatindemnificationisthesole

remedyforbreachesofwarrantiesandcovenants.However,fraudisalmostalwayscarvedout,whichallowsforclaimsthatarenotsubjecttothetimelimitations and thebaskets and caps that apply to indemnity claims.Asellerwillwanttobecarefulaboutthedefinitionoffraudbecauserecklessmisrepresentations can sometimes be considered fraudunder case law

§ 17.11

interpretations,whichmaynotbethetrueintentofthepartieswhenusingtheterm“fraud.”Otherthanfraudclaims,typicallyindemnity,alongwiththerestrictionsthatapplytoit,appliestoallclaimsandisthesoleremedyforbreachofawarrantyorcovenant.26

[8] — Third-Party Claims. Whilesuchclausesmaybeextremelytedioustodraftandcomprehend,

acquisitionagreementsgenerallyprovideagreatdealofdetailabout thecourseofeventsandobligationsofthepartieswhenathirdpartybringsaclaimthatissubjecttoindemnification.Theexampleprovisionprovidedinthefootnotesistypical.Becausetheultimateliabilityisonseller’sdime,thesellerwillwanttocontrolthelitigation.Ontheotherhand,thepurchaserhasastakeintheoutcomeifthelitigationcaninsomewayaffectitsoperationsgoingforward.Theseissuesmustbedealtwith,andthemethodisfairlywellestablishedbycustomarylanguage.

[9] — Treatment of Direct Claims. Notmuchneedstobesaidaboutdirectclaims.Ifonepartybelievesthe

otherpartybreachedtheagreement,andiftheotherpartydisagreesthatabreachexists,onepartywillfilesuitorpursuearbitration,dependingonwhattheagreementsays.Theindemnifiedpartywillwanttomakeitclearthantheymaywithholdortieupthedeferredpurchaserprice,orescrow,inanamountequaltotheirestimateofthetotalclaim.

§ 17.12. General Provisions. By the time a drafter gets to the final portion of the acquisition

agreement,exhaustionwilllikelyhavesetin.However,manyoftheso-called“boilerplate”provisionsattheendoftheagreementareofvitalimportance.Provisionsrelatedtoselectionofvenue,arbitration,publicannouncementsandtimebeingoftheessencecanallbevitallyimportantifthepartiescometologgerheadsoveranissue.Withrespecttoarbitration,forexample,the

26 Fina, Inc.v.ARCO,200F.3d266 (5thCir. 2002) (regardingpitfalls surroundingindemnificationfornegligenceinenvironmentalliabilitycontextwherepurchaserarguablyhaspartialliabilityfortheactionsleadingtotheliability).

§ 17.12

devilisinthedetails;itishighlyrecommendedthatsomeoneveryadeptatarbitrationassistindraftingtheagreement,asprovisionswithrespecttotheamountofdiscovery,rulesofevidenceandrulesrelatedtotheproceedingcanbeveryimportantinobtainingthequickandaffordabledisputeresolutionmechanismthatpartiesgenerallyintendwithanarbitrationprovision.

§ 17.13. Determining Market Provisions.[1] — Introduction. Determiningthematerialdealpointsinmostcontractsisfairlyeasy

for thebusinessfolks tohandle.Forexample, theygenerallyknowwhatthemarketroyaltyisforcoalorsurfaceleases;theyknowhowtheywanttopricecoalundersalescontracts;andtheyknowthemarketrateforacontractminer.However,whenitcomestopricingacoaldealanddeterminingtheprevailingholdback,indemnitycap,orindemnitydeductible,justtonameafew,thebusinessfolksareusuallyreliantupontheircounsel.Nothingdictatesthatthepartieslookatotherdealstoseewhatis“market,”butitisusuallyavaluableuseoftime,asitmayhelpyouargueyourpointonanyonedealpoint.Thereareseveralsourcesforinformationastoprevailing“market”dealpointoutcomes.

[2] — ABA Deal Points Studies. TheMergersandAcquisitionsMarketTrendsSubcommittee,Mergers

andAcquisitionsCommitteeoftheAmericanBarAssociationBusinessLawSectionpublishesmultipleannualstudies thatareextremelyvaluableforstatisticalanalysisofdealpoints.Thevolunteersinthisgroupsummarizeandprovidechartson lotsof“hot topic”dealpoints, suchasdeductibleamount,survivalperiod,materialityqualifiersandsoon.Alldeallawyersshouldarmthemselveswiththisinformation.

[3] — J.P. Morgan M&A Holdback Escrow Report. J.P.MorganhandlesescrowaccountsinmanyM&Atransactionsand

compilesanannualreportthatprovideshelpfulstatisticsrelatedtotheamountofholdbackandthefrequencyofindemnityandotherclaimsagainsttheescrowedfunds.Itisimportanttokeepinmind,asthisstudypointsout,that

§ 17.13

therearemanyinstancesinwhichthereisanadjustmenttothepurchasepricethatispaidoutofescrowwhichisnotbasedonanindemnityobligation,butisinsteadrelatedtoworkingcapitaladjustmentsorpotentiallyinventoryadjustmentstothepurchaseprice.

[a] — Electronic Data Gathering, Analysis and Retrieval (EDGAR).

Notyourwife’sweirduncle;rather,theSEC’sElectronicDataGathering,AnalysisandRetrieval(affectionatelyknownasEDGAR)isanothergreatsource for information.Everymaterial agreement entered intobyeverycompanyrequiredtoprovidepublicdisclosuresundertheExchangeActof1934mustbeuploadedtothissystem.Thisisawellspringofinformation.Therearealsomanypay-for-useservicesthatdigestandprovideinformationonEDGAR-filedacquisitionagreementsinamoreusableandcomparableformat.

§ 17.14. Conclusion. Astheendofoneoftheauthor’sfavoritemoviesasks:“You’restillhere?It’sover.”Allkiddingaside,Ihopethischapterhasprovidedsomeinsightandfoodforthoughttofolkswhoplytheirtradeintheworldofmergersandacquisitions.Ourroleisanobleone.Theoretically,ourskillshelpthegearsof the entire economy tobewell-greasedbyhelping toefficientlyconsummate complicated transactions that placevaluable assets in thehandsofthehighestbidder(andthereforeinthehandsofthepartythatisinthebestpositiontomaximizethevalueofthoseassetsandprovidethemostvalueforshareholders).Thevaluegetsturnedaroundandusedtobuyservicesandgoods,whichtherebyemploysmoreAmericansandincreasesthegreatergoodbyincreasinggrossdomesticproduct.Thisinturnincreasesthestandardoflivingand(theoretically)increasesthetotalwealthandhappinessofourpeople.So,takeprideinyourworkandenjoyit.

§ 17.14

chapter 17 anatomy of an acquisition agreement - … · 2016-06-02 · anatomy of an acquisition...

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