How to prepare for an M&A transaction  

Adriana Castro and Diego Quirós,  August 22, 2024

BLP Legal - In the dynamic business world, mergers and acquisitions represent a powerful tool for business growth and consolidation. However, the complexity and challenges inherent in these transactions can generate uncertainty and anxiety. In this context, we firmly believe that knowledge brings calm. Our mission is to provide clarity and understanding, enabling Costa Rican market players to navigate this process with confidence and efficiency.

This guide has been prepared with the purpose of contributing from our trenches, offering detailed and updated information on mergers and acquisitions in Costa Rica. From legal and regulatory aspects to best practices and key strategies, our intention is to facilitate more successful transactions and strengthen the local market. With a comprehensive approach, we address the various facets of these processes, providing an essential tool for entrepreneurs, lawyers, consultants and all those involved in the entrepreneurial ecosystem of our country.

How do you know if this type of transaction is for you/your company?

Many entrepreneurs, after years of dedication and effort in building their businesses, aspire to monetise their work at some point in their lives. There are various strategies to achieve this goal. One option is to open the company’s capital to third parties, which can be done through an initial public offering (IPO), allowing the company to be listed on the stock exchange and attract a wide range of investors. Alternatively, one can opt for a private offering, where shares are sold to selected investors, maintaining greater control and confidentiality over the process.

For some entrepreneurs, the objective is not just immediate monetisation, but to raise capital or strategic knowledge that will drive the growth of their business. In these cases, an injection of capital can provide the resources needed to expand, innovate or access new markets. Bringing in strategic investors can also provide valuable expertise and specific knowledge, helping to improve the management and competitiveness of the company.

On the other hand, there are entrepreneurs facing difficult situations, where their business is losing value. In these cases, selling the company can be a strategy to safeguard what is left of its value, as finding a buyer who can integrate the company into their existing operations and create synergies can be the key to rescuing and revitalising the business. These synergies may result in greater operational efficiencies, access to new markets or a combination of resources that increase the value of the acquired company.

In each of these situations, mergers and acquisitions (M&A) offer varied and flexible solutions. Whether it is to capitalise on success, seek support for growth or find a strategic exit, M&A provides entrepreneurs with a way to achieve their goals and secure a brighter future for their companies.
Regardless of the reasons that lead an entrepreneur to opt for such transactions, and regardless of the great advantages they may bring, they can be complex and daunting processes. In our practice, it is not uncommon for very successful entrepreneurs with many years of operating businesses to feel overwhelmed by this process, so this guide seeks to familiarise you with what to expect when embarking on such a process.

How can these transactions materialise?

The reality is that in Costa Rica the use of concentrations to achieve business objectives is increasingly common. Proof of this is the steady increase in transactions whose parties have requested merger authorisation before the country’s competition authority (the Commission to Promote Competition: COPROCOM). According to data from this authority, a total number of 41 merger requests were made during 2023.

While this may, at first glance, not appear to be a high number, it should be considered that merger transactions requiring COPROCOM authorisation are only those in which the parties involved reach a significant threshold of turnover or assets. Therefore, the actual volume of mergers for Costa Rica may be much higher than that recorded by COPROCOM. Similarly, there are a number of transactions that are approved by SUTEL when companies are regulated by that entity.

Given the myriad business realities that exist, it is possible for M&A transactions to take a myriad of forms as well. The Costa Rican competition authority has classified concentrations under the following categories. This categorisation makes it easier for entrepreneurs to understand the menu of alternatives available to them, in order to structure an eventual transaction according to their business needs:

- Mergers: These occur when two or more companies are integrated into one. There are mergers by absorption, where one company integrates the others, which legally disappear, and mergers by integration, where companies combine to form a new entity. Mergers can be legal (where they are formally combined) or de facto (where they maintain legal autonomy but lose economic autonomy).

- Acquisitions of share capital: These consist of the acquisition of control over a company through the purchase of shares or participations. Control can be obtained with a majority of the capital, but even minority shareholdings can constitute concentrations if they allow influence over the management of the company.

- Asset acquisitions: These involve the transfer of assets from one company to another. If the assets transferred are significant and allow for revenue generation, this transaction can be considered a concentration. It is important to consider that the Costa Rican regulation contemplates the process of Sale and Purchase of Business Establishment, which is configured in certain cases of asset sales for the protection of creditors of the selling company. Not following this process, in the cases in which the regulation requires it, entails risks.

- Joint ventures: These can be cooperative, where the companies maintain their independence, or concentrative, where a new legal entity is created with shared control. Concentrative alliances perform all the functions of an independent entity and are considered concentrations.

- Other acts of concentration: All acts that result in the economic integration of undertakings, even if they do not involve the direct transfer of shares or assets, are considered concentrations. This includes interdependent operations, successive transactions, share exchanges, hostile takeovers and capital increases or decreases.

How to prepare for a transaction?

As mentioned above, M&A processes can be very complex and time-consuming, and there are many interests at stake that need to be safeguarded. Apart from the technical complexity, there are often feelings involved that add to the difficulty of the process. For this reason, proper advice, as well as a broad knowledge of the generalities of the alternatives and their implications, is not only of great value, but can mean the difference between a successful transaction and a failed one.

Many processes are handled by investment bankers who have knowledge of the market and the process, while others are handled by legal advisors alone. In either case, choosing advisors with proven experience in the field is vital to the success of the transactions, as it undoubtedly provides market knowledge that makes the processes much more successful and less time-consuming.

The M&A market has been developing for many years outside of Costa Rica, but recently, there has been a certain degree of maturity in the country that has led to market standards that are the expectation in this type of transaction. Unfortunately, it is not unusual to hear anecdotes of transactions that do not come to fruition due to bad advice from advisors. There are brilliant advisors who do not have the knowledge necessary to effectively navigate and advise during this type of process, and who approach transactions in a very simplistic or legalistic manner, making them, in many cases, unworkable for more sophisticated buyers.

What are the stages of a transaction?

It would be nice if all transactions followed the same logic, but, given the myriad ways in which they can be structured, this is not the case. There are many factors that influence the process of an M&A transaction. Notwithstanding the above, there are certain basic and recommended guidelines to be followed in any transaction, which are detailed below:

1. Initial agreements: When the parties are in the process of informal negotiations, it is always advisable to put their understanding in writing. This understanding may take the form of a binding or non-binding offer, or a memorandum of understanding. Regardless of its form, this understanding should contain the basic issues and conditions that are essential for the parties to be willing to proceed with the negotiation. It is also advisable for this preliminary agreement to contain provisions relating to confidentiality and exclusivity. Having a basis on which to negotiate later can facilitate the negotiation process and avoid misunderstandings as to what was discussed as basic elements of the deal. It also makes it easier for advisors to draft contracts.

2. Due diligence: Usually, before entering into a deal, it is necessary to conduct a due diligence study. From the buyer’s perspective, it is essential to be clear about what kind of issues they want to be reviewed in the due diligence. It is important that, in cases of acquisitions, the buyer talks to the seller and explains how much due diligence detail is desired, so that the seller can prepare and generate the required information. In merger cases, this process can become much more complex, but it is still essential to discuss the scope and expectation of the due diligence process to avoid significant attrition during the due diligence process. The required information should be made available to the other parties in the agreed form and timeframe. It is very useful to have specialised information storage and management platforms for these types of transactions, which allow visualisation of who has processed the information, what documents and data were made available, and to follow up on outstanding information and additional requests for clarification. Proper management of the due diligence process goes a long way in avoiding reprocessing that translates into further costs for the parties.

3. Negotiating final contracts: Once you have an understanding of the business, its risks and its potential, you can start drafting final agreements.

The type of contract to be drafted will depend on the type of transaction being made.

However, it is usual for these contracts to include provisions relating to the following issues:

- What is being acquired, or what will be jointly developed.

- What the consideration will be and whether it will be adjusted for debt or for changes in working capital and cash. These transactions are about going concerns, which, unlike asset purchases, change every day. It is usual to regulate how the value of the business will be adjusted based on these changes, if applicable as agreed between the parties.

- Who is responsible for the business risk prior to the transaction and how the non-risk-bearing party will be indemnified in case the risk materialises. This is usually done through representations about the condition of the business.

- Additional material obligations on the parties: This may include non-compete obligations, transition agreements, terms and conditions of certain employees, among others.

- Authorisations and conditions precedent: The parties may not be able to close or consummate the transaction with the signing of the definitive contracts, but may need to wait for a number of conditions to be met prior to the closing of the transaction. Some of the issues that may be included here would be regulatory approvals, such as COPROCOM authorisation, third party contractual approvals, events that need to occur, among others.

In the event that, as a result of the transaction, there is a plurality of partners in the resulting company, it is also advisable to negotiate a shareholders’ agreement that regulates decisions on issues relevant to the business and operation of the entity, exit procedures for partners, agreements on representation of the company, among others.

4. Closing: Once the conditions are met, or in case they do not exist concomitantly with the signing of the definitive agreements, the necessary legal acts must be carried out to formalise or consummate the transaction. Here it is very important that the legal formalities are complied with in order to carry out the agreed transaction. For example, purchases of share capital may require corporate or contractual authorisations to be effective and enforceable against third parties. The transfer of shares in corporations, on the other hand, requires compliance with certificate endorsement requirements. In the case of the sale and purchase of business premises, the transfer document must be signed in a public deed, and the price must be deposited as required by law. Proper advice allows to determine the steps required from the parties to properly formalise the transaction, according to the desired structure, and to avoid nullities in this process.

5. Post-closing activities: Then there will be post-closing actions that will need to be analysed on a case-by-case basis, such as updating appointments in legal entities, notifications to clients, contractual counterparties or authorities about the changes, including municipalities and other types of entities.

The previous sections seek to synthesise the very varied ways in which an M&A transaction can be carried out in Costa Rica, and to provide a basic outline of the minimum steps that all those involved in our country’s business ecosystem should follow when approaching such a process. Although the heterogeneity of businesses and ways of structuring transactions prevent the application of the same mould to every process of this type, it is clear that there is one rule that should be followed in all cases, regardless of their nature: seek out experienced advisors who understand the business and know how to design the merger, acquisition and/or concentration in a way that suits the needs of all parties involved.

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