Non-Disclosure Agreements in M&A Transactions
M&A transactions (which can include mergers between various entities, the purchase of a company, or the sale of assets) can be an exciting time for the parties involved. In the context of a sale, such a transaction often provides sellers with an exit opportunity that allows them to reap the financial benefits of their efforts and begin a new chapter. For a buyer, the acquisition may be a foray into a new venture that was once only a dream, or perhaps the acquisition is an expansion of a current business that will help catapult it to new heights. In the midst of the excitement, two important considerations cannot be emphasized enough: beginning the transaction with the execution of a non-disclosure agreement, also commonly referred to as an NDA, and relying on an experienced attorney to draft and negotiate the NDA for you.
An integral part of an M&A transaction is the due diligence phase, which involves the request and disclosure of information needed in order to evaluate the transaction. This often results in the disclosure of confidential and/or trade secret information (collectively “Confidential Information”), including, for example, proprietary information related to special processes, client lists, marketing and expansion strategies, intellectual property, employment practices, pricing, costs, and vendor lists. Without proper protections, the disclosure of Confidential Information can be damaging. For example, the due diligence in connection with the sale of a company would provide the buyer with an opportunity to get a better understanding of the inner workings of the target company and the potential liabilities associated with the purchase and would likely result in the disclosure of the target company’s Confidential Information. A well-drafted NDA will help protect the target company from a myriad of potential problems, but most notably in instances where the target company’s Confidential Information has been disclosed to a potential buyer in connection with a sale that ultimately does not close. The NDA can not only limit with whom the potential buyer can share information but also prevent a prospective buyer, who may be a competitor (either now or in the future), from using the target company’s Confidential Information for any objective apart from what has been specified in the NDA. The many years of hard work building the target company can swiftly become moot if a third party gains access to the target company’s Confidential Information and uses it to either harm or compete with the target company. Although NDAs may be difficult to police, an NDA may prove to be invaluable in the event of a serious breach.
NDAs also serve as an integral part of the vetting process. Requiring the execution of an NDA at the beginning of an M&A transaction provides the following advantages:
- It signifies professionalism. In the context of a sale, when a seller does not require prospective buyers to sign an NDA, this may create an impression that the seller is not sophisticated, that the business may not be run professionally, and that proprietary information is not protected, thereby limiting its competitive advantage.
- It sets expectations. The process of requesting and working through an NDA can help set joint expectations among all parties involved.
For those unfamiliar with NDAs in general or the more specific NDAs used in M&A transactions, there are many traps for the unwary. Not only should the NDA be appropriate for an M&A transaction, but it should also be tailored to the specifics of the deal at hand so that all information needing protection is properly protected. In so doing, it is important to strike that careful balance in an NDA so that it properly protects the Confidential Information but is not overly restrictive or broad such that the parties cannot abide by its terms and/or a court finds it unenforceable. These are some of the many ways this balance can be achieved:
- Limiting the term length of the NDA. Except for certain highly sensitive information, for example, the recipe or formula for a party’s most important product, the length of an NDA should not be unnecessarily long.
- Limiting the definition of Confidential Information. The definition of Confidential Information will be the core component of the NDA. The parties should strive for a definition that is not overly broad and includes only information that needs to be protected. One way the parties can limit the definition of Confidential Information is by explicitly stating what is not considered Confidential Information, for example, information that is already public or becomes public without any misbehavior by the party to the NDA that received the Confidential Information.
- Protecting third-party information and key relationships. A disclosing party may have a legal requirement to keep certain third-party information confidential, including information related to its customers, employees, vendors, and/or suppliers as well as an interest in ensuring that these relationships are not disturbed. Although not strictly non-disclosure issues, all of these concerns can be covered in the NDA.
- Ensuring all relevant parties are bound by the NDA. All people who will have access to Confidential Information, including, for example, investment bankers, accountants, and other experts, should be bound by the NDA.
- Limiting the use of the Confidential Information. It is important to list the limited ways in which the Confidential Information can be used by the party receiving it, namely, that it can be used only for the purpose of evaluating, negotiating, and consummating the transaction.
- Strategically withholding the most significant trade secrets. If, for example, there are numerous buyers looking to purchase the target company, it may be helpful to refrain from sharing the most significant trade secrets until the ultimate buyer is identified. This may require the creation of a second NDA.
There can also be tremendous value in using an NDA that is as simple and uncomplicated as the specifics of the transaction will allow so that the parties understand the NDA and feel confident that they know what will and will not breach its terms. An NDA’s effectiveness, no matter how well intended the parties are and how likely a court would be to enforce it, is impaired if the parties do not understand how to abide by it. Using and working with an experienced attorney to draft the NDA needed for your transaction will help you achieve that balance and the protection needed.
If you would like to learn more about NDAs in general or are ready to move forward with an M&A transaction, please feel free to contact us.
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