In the previous two posts in our series on legal considerations for selling an emerging growth company, we focused on providing an overview of the M&A process as well as negotiating an engagement letter with a financial adviser. In this third installment, we will take a look at drafting a Non-Disclosure Agreement (NDA) with a potential acquirer. What makes the NDA particularly significant for an emerging growth company entering into the acquisition process is that, unlike other aspects of the sales process such as due diligence or executing a letter of intent, the NDA should be drafted with a primary focus on the needs of the target company, and not the acquirer. Thus the burden lies more with you and your company in drafting an NDA that will protect your company’s intellectual property and strategies while at the same time providing a sufficient window into a company to your potential acquirer to entice them to move forward with the transaction. With those oftentimes competing interests in mind, we will take a look at the four central questions you will need to answer in drafting and finalizing a NDA.
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What Target Information Should the NDA Cover?
The impulse for a target company in drafting an NDA might be to draft language that simply states all information about the target is covered by the NDA, but, while comprehensive protection is a worthy goal of an NDA, the more precise you are in describing what is covered by the NDA, the better a case you will have at a later date that the NDA was breached.
The language of the NDA should refer specifically to the type of information the target has prepared or intends to prepare for the potential acquirer, such as: forecasts, studies, analyses, presentations, records and reports, and any underlying notes or preparation materials created in anticipation of the transaction. Similarly, a potential acquirer will likely request that the NDA make clear that information not covered by the NDA includes publicly available information about the target company or other information obtained about the target through legal, non-confidential means.
How May the Potential Acquirer Use the Target’s Information?
While the first question goes to the ability of the potential acquirer to share information about the target with others, this second question deals with how the potential acquirer may use that same information about the target internally. In essence, the NDA should make clear that the potential acquirer may use information about the target solely for the purpose of evaluating the proposed transaction in purchasing the target, and may not use any information about the target for its own competitive purposes (and, of course, may not share that information). For example, a potential acquirer may review a target’s future sales strategies for the purposes of valuing the target and determining whether the strategies might create a conflict with the potential acquirer’s own strategies, but it may not then use that information to better its own competitive position in the market. Obviously, policing whether a breach of an NDA later occurs will present its own challenges, but making the NDA as clear as possible will lay the groundwork for resolving any future disputes in your favor.
When May the Potential Acquirer Share the Target’s Information?
In some cases, a potential acquirer may have to share information gleaned about the target during the evaluation process, and, in other cases, doing so may be to the target’s advantage. Thus, the NDA should spell out the circumstances under which the covered information may be shared without liability, with the understanding that it may be difficult to predict exactly what those circumstances might be. A potential acquirer will likely want to see NDA language giving it the right to respond to forced disclosure through litigation, governmental request, or subpoena. If the target is sharing internal correspondence with its attorneys to the potential acquirer, it is important to include language which states that the target is not waiving any rights to attorney-client privilege that might apply to such information by sharing it with the potential acquirer.
What Protections Does the Target Have for Breach of the NDA?
Many agreements with more powerful entities often include language limiting the rights of the other party to pursue avenues of litigation against the more powerful entity, but it is important for a target to maintain its rights in taking action against the potential acquirer for a breach of the NDA. Specifically, a target should include language in the NDA giving it the right to pursue equitable remedies such as injunctions and specific performance, in addition to money damages, given that money damages could well be insufficient to cover the full losses associated with a breach of the NDA, and an inability to pursue equitable remedies may even put the target’s future at risk. A target should also consider whether an arbitration clause improves or hinders its ability to pursue relief should a potential acquirer breach the NDA.
Finally, a target might consider any other provisions it deems necessary for sharing information with a potential acquirer, such as a non-solicitation clause to protect its employees from being poached by the potential acquirer (and vice versa). Keep in mind that an NDA does not commit either party to proceed with the transaction, but is critical to protecting the parties as they enter into the rest of the acquisition process, which we will resume looking at next month.