Drafting Contracts

9 February

• Handout 1: Assignment #3. Salutation in a business letter should be followed by a colon. Call a business "it," not "they," unless you're referring to the board, etc. The entity itself is an it. Write out numbers 10 and below.

  "I would recommend" = "I recommend." It doesn't hurt to say "would," but you can sound more certain, and use fewer words just by omitting it.

  Be on the lookout for conflict of interest (none in this case, but some worried that they couldn't be attorney for both Ms. Martin and Paramount).

• Handout #2: Principal/Principle. Note that "Principal" can be a noun (a school principal, the amount of money borrowed, etc.) or an adjective (the main part). "Principle" is always a noun, and means a fundamental concept, law, or doctrine, etc.
• Letters of intent. These are preliminary agreements, subject to further hammering out. Also: agreement in principle, memorandum of understanding. Sometimes these are as casual as a "terms sheet." Common in M&A, joint ventures, agreements to collaborate in academic endeavors. Sets forth the main terms of an agreement, usually between a buyer and seller, and usually at the end of the successful conclusion of the first stage of negotiations. Not always needed.

  Typically this is entered into prior to a definitive agreement. Sometimes the parties want to put the preliminary agreement on paper because the deal seems too iffy, and they want to create some sort of moral/ethical binding, even though it's subject to further, more precise, drafting. Basically, some stuff that the parties agree not to go back on. Also worthwhile if the transaction is complex enough that there will be a long lead time before the definitive agreement, so expectations don't drift.

  If some portion of the deal is going to be extremely complex, it's desirable to set it out to ensure that there's really a meeting of the minds. Basically, to get the dealbreakers out of the way up front. It also allows the parties to take a basic agreement back to their various tax lawyers, etc., so that they can consult about the consequences.

  This is often the appropriate time to make an announcement of the fact that the transaction is pending. For example, if the seller is a publicly-held company (or the buyer, for that matter, if it's a material acquisition). It can also serve as a pre-merger notification to DOJ or FCC or whoever-- filing the letter of intent can trigger the waiting period, so that's nice.

• A "no-shop" clause: we have a handshake deal here, so you're not free to negotiate with other possible buyers, because we're going to start devoting significant resources to making this deal happen.
• Usually there's an agreement that from the LOI on, the buyer's representatives can start coming in and doing due diligence (looking at books, etc.).
• The LOI often specifies how the expenses of the transaction will be divided up, and whether and to what extent people can talk about the pending transaction.
• People disagree about which side of a transaction is most likely to benefit from the LOI. Conventional wisdom says that the buyer is more likely to benefit. Once it's signed, the seller is at a negotiating disadvantage, since due diligence now means the buyer has a lot more info than they used to, and the deal may be known to the outside. Customers, employees, other potential buyers, etc., may all change their behavior, and this will likely affect the seller. But the seller might like a LOI also: that's when the seller has the maximum leverage-- the buyer is eager for the transaction, and the seller has not disclosed info yet.
• Disadvantages (Getty/Penzoil/Texaco): a poorly-drafted LOI might get treated as a binding contract, and any holes will just get pasted over with commercially reasonable terms or a good-faith duty to come up with reasonable terms. There's also an inherent conflict: the buyer has a real interest in getting a no-shop clause and staying flexible on purchase price pending due diligence, whereas the seller wants certainty in the purchase price and other key terms. So sometimes the LOI negotiation can get so bogged down that it might be worth just cutting to the chase and going right to the definitive agreement. In some circumstances, they may not be worth the trouble.
• In some economic environments, where there's hunger for acquisition targets, the LOI might draw enough attention that others will make offers so sweet that the board of directors will be bound by fiduciary duty to consider them, the LOI notwithstanding (it is, after all, nonbinding).
• So the goal is to make the LOI partially binding: some provisions should be binding, and others maybe not so much. The point of a no-shop provision, of course, is to be binding. Otherwise it's useless. Same with confidentiality. So those clauses need to be made binding.
• Typically, it takes the form of a letter from the buyer and to the seller, to be signed by both parties.
• What do we want to be non-binding? All the "deal" points. We want to define the stuff that has yet to be negotiated. What is the deal? What is the consideration that will be paid? Will any of it be deferred? If there's going to be an escrow arrangement, that should go in the LOI.
• If there are conditions that you want to use as excuses for backing out, those can be in the non-binding provisions.
• Label what is non-binding.
• Generally indemnification is not mentioned (i.e., buyer might be going after seller if seller's statements turn out not to be true). There's enough psychological pressure without that. In fact, it's generally a good idea not to bring up negative stuff.
• Both parties are typically going to want to live up to the LOI terms. The seller especially, since if the deal doesn't go forward, the world assumes there was something wrong with the seller. Usually, after all, it's the buyer who gets disenchanted and calls off the deal.
• Things to include in the binding section:
  • No-shop clause
  • Confidentiality (if this hasn't already been handled as a precursor to negotiation; this is the handling of trade secrets, etc.)
  • Non-disclosure (i.e., about the transaction itself)
  • Expense reimbursement or breakup fee language
• "Stalking horse:" a would-be buyer who doesn't actually get the purchase, but just serves to attract another buyer. If you get used as a stalking horse, you want your expenses covered, plus a breakup fee.
• Who should draft the LOI? The buyer, generally. Otherwise the seller (who holds extra cards at that point) will make it lopsided. In general, if you have the opportunity to draft the document, do so, in negotiations: you jump into the lead forever. On top of that, there are traditions. Financing agreements are drafter by the lender, e.g. Purchasers draft purchase agreements. Basically, the party most likely to suffer if the document is bad will prepare the first draft.
• The drafter also controls the pace of the transaction (i.e., how quickly documents get turned around, what deadlines there are, etc.).
• It's nice to find good precedent: start with a form designed for the kind of transaction you're undertaking. You don't want to reinvent the wheel if you can help it. It's way more time-consuming, and it'll contain the boilerplate that everyone knows in this area of business, and it'll cover aspects of the deal you might not have thought of.

  Consider the difference between a stock purchase agreement (just signing over stock) and an asset purchase agreement (changing title to every asset: patents, factories, etc.).

• Don't just start with a prior final document: you'd be already giving away all the bits that your client negotiated away. You want to start with an early (first) draft of the prior agreement. Don't just incorporate concessions on auto-pilot.
• Handout #3: a sample LOI for a model stock purchase agreement.
• Handouts #4-6: more samples.
• See maybe Warren on Forms in LexisNexis.