Preparing for an Acquisition - Due Diligence

Authored by Bryan Springmeyer Bryan Springmeyer is a California corporate attorney who represents startup companies. The information on this page should not be construed as legal advice.

 

The biggest transactional hurdle to most acquisitions is due diligence.  In due diligence, the buyer inspects the company’s affairs – its technology, its finances, and its legal affairs.  Similar to a purchase for anything else, the buyer wants to make sure everything is in good order before committing to the purchase.

In preparing for an acquisition, the company being acquired (the “target”) will want to make sure it can make it through due diligence without the buyers becoming concerned about the purchase.  In acquisitions of technology companies, a primary emphasis will be placed on intellectual property issues.  Buyers will want to ensure that companies have appropriate title or license to the intellectual property that they are using, and that no significant issues impacting the desired treatment of the IP exist.  Some of the things that will be scrutinized are:

• - Whether the company has obtained IP assignments from anyone who has worked on development;
• - Whether there are any potential third-party claims to any of the IP;
• - Whether open-source and other third-party IP has been used in compliance with the terms of the relevant license;
• - Whether commonly registered forms of IP (trademarks and patents) have been registered without problem; and
• - Whether appropriate measures have been taken to safeguard trade secrets and source code.

In addition to intellectual property issues, the buyer will want to understand what financial, contractual and legal obligations and liabilities the target has.  The buyer does not want to purchase a lawsuit or financial liabilities.  Likewise, certain contracts can be burdensome to fulfill and/or distract the buyer from its intended purposes of acquiring the target.

If significant problems are uncovered during the due diligence phase, the buyer may decide not to move forward with the purchase, may request changes in the structure of the deal, or may request other changes in the terms including a possible purchase price adjustment or indemnification.

To a certain degree, buyers can structure out of financial, contractual, and legal obligations and liabilities by doing an asset purchase of the company rather than an equity purchase.  However, significant problems with intellectual property will be problematic for an equity purchase or an asset purchase.  It’s generally better for the target to understand what issues might impact the due diligence process ahead of time and be prepared to address them, rather than taking a purely reactionary approach.