Structuring Your M&A Deal: Choosing Between Asset, Equity, and Merger Transactions

When navigating the complexities of mergers and acquisitions (M&A), one of the first and most crucial decisions is determining the structure of the deal. The decision about whether to proceed with an asset purchase, an equity purchase, or a merger will significantly impact the transaction’s legal, financial, and operational outcomes. If you’re a CEO or other executive officer leading your business through a an acquisition, sale process or merger, understanding these distinctions is essential to making informed decisions that align with your strategic goals.

Asset Deals: Flexibility and Control

Asset deals involve the buyer purchasing specific assets and liabilities of the target company, rather than acquiring the equity of such company. This structure offers significant buyer flexibility, allowing the buyer to “cherry-pick” which assets and liabilities they wish to acquire. This selective approach can be particularly beneficial when the target company has valuable assets alongside unwanted liabilities, such as potential lawsuits or underperforming divisions.

For buyers, asset deals can provide a way to mitigate risks associated with unknown liabilities since these typically do not transfer to buyers with the purchased assets. From a tax perspective, asset deals can also be advantageous because buyers may benefit from depreciation deductions on the newly acquired assets. However, sellers often face higher taxes in asset deals, as the sale is usually subject to ordinary income tax rates rather than the more favorable capital gains rates.

Equity Deals: Continuity and Simplicity

In contrast, equity deals involve the purchase of the target company’s stock or other equity interests, meaning buyers acquire ownership of the company itself (instead of ownership of the assets owned by the target company). An equity deal is often favored by the sellers of a target company because, in general, all of the known and unknown liabilities of the business are transferred to the buyer, and therefore the sellers avoid ongoing exposure to such liabilities.

A few benefits of equity deals are that they generally provide continuity for the business of the target company, which can be crucial for maintaining customer and supplier relationships and for maintaining stability for employees, and from a tax standpoint, sellers may benefit from capital gains tax treatment instead of the proceeds from an asset sale being taxed at ordinary income tax rates. However, since buyers in equity deals often assume all existing liabilities of the target company, including those that may not be immediately apparent, there may be a greater need for comprehensive due diligence.

Mergers: A Hybrid Approach

A merger is, in many ways, similar to an equity deal in that the buyer absorbs the equity of the target company. Mergers can be particularly advantageous when dealing with companies that have a complex ownership structure, as they typically require the approval of only a majority of shareholders rather than unanimity, which is often necessary in equity deals.  However, because mergers are governed heavily by state statute, there are many more procedural hurdles to jump through before and after closing.

Conclusion

Choosing the right structure for your M&A deal is critical and requires a thorough evaluation of various factors, including tax implications, liability risks, and strategic goals. Engaging legal and financial advisors early in the process is crucial to ensuring that the chosen structure aligns with your long-term objectives. Whether opting for an asset deal, equity deal, or merger, each path offers distinct advantages and challenges that must be carefully weighed before proceeding.