Middle East business information

By Steven Bainbridge, senior associate, and Taki Osman, associate

This article will look at the acquisition of family companies and identify a number of key legal issues that should be identified, and potentially reflected in the purchase price, prior to the acquisition.

Family companies

For the purposes of this article a family company can be identified as a corporate entity that was founded by several members of one or more families, where the members or their descendants maintain significant ownership interest and commitment towards the overall welfare and continuity of the business.

A family company may have shareholders and managers who are non-family members however, family members are usually involved in the operations of the company in some capacity or other.

More often than not, it is a feature of family companies that they have hands-on managers who are family members. This, of course, can be a significant asset because such key individuals are typically loyal and dedicated to the family enterprise. On the other hand, family participation can present unique challenges because the dynamics of the family system and the business system are not always in consistent balance.

Additionally, there may be instances where the interests of a particular family member may not be aligned with the interests of the other members or the company business.

The acquisition

An acquisition is the process whereby a company or an individual seeks to purchase another company (a target). Typically this is done by one of two main processes; acquiring shares or stocks in the target or, acquiring all or the substantial part of the target's assets. The first is identified as a 'share acquisition' and the second as an 'asset acquisition'.

When an acquisition is contemplated, the buyer and the target will often enter into a non-disclosure agreement to allow them to exchange information in confidence. It is also common for a memorandum of understanding or a letter of intent to be agreed setting forth the basic terms of the potential acquisition and a period of exclusivity during which the parties agree not to seek other potential transaction partners for similar deals.

A valuation of the target company must be undertaken by financial advisors and valuators. These advisors take into consideration such matters as the value of the movable and immovable assets, historical earnings, future earnings, cash flow, good will. Reviewing the target company's balance sheet, cash flows and profit and loss accounts is a good start to obtaining accurate information about the target's financial position. The scope and detail of the valuation process will impact what can often be the most important aspect to any acquisition, the price.

Share acquisition

In a share acquisition, also known as a takeover or a buyout, the buyer acquires a controlling interest in the share capital of the target, usually greater than 50% of the shares or stocks of the target. Ownership control of the target company in turn conveys effective control over its assets. As the target company is acquired intact as a 'going concern', the buyer also assumes all of the active rights and liabilities accrued by that business over its past and all of the risks that the target faces in its future.

After the initial share valuation has been conducted by the financial advisors, a process of legal due diligence must be undertaken by the buyer's lawyers. As a share acquisition involves taking over the risks and liabilities of the target, the buyer should be sure to scrutinize the legal background and operations of the target thoroughly.

Legal due diligence investigations typically include all material aspects of corporate existence and operations. Due diligence can begin with identifying the legal and registered owners of the shares and confirming that they are not pledged to a third party. Buyers should also review the target's bylaws to appreciate and abide by any provisions governing the transfer of shares, confirm the validity and sufficiency of operating permits and trading licenses, identify agreements concluded with shareholders or directors of the company and whether or not they were executed at arms length, confirm asset ownership and confirm that the assets are substantially free from any encumbrances, analyzing any restrictions on change of control.

In addition the process would assess labour status including employee numbers, salaries, visa status, work permit validity, examine long term contractual obligations, commercial contracts and bank borrowings.

Once legal due diligence has been concluded and a purchase price has been agreed, a share purchase agreement will be negotiated, drafted and executed, followed by an amendment to the target's by laws to reflect the change in ownership and as a final step, reflecting the sale on the target's activity permit. In addition, due regard must be given to the minimum required local share ownership in the company under UAE law.

Asset acquisition

An asset acquisition involves a buyer purchasing all, or the substantial part of, the assets of the target company. The cash the target receives from the sale is typically paid back to its shareholders by dividend or through liquidation. This type of transaction gives the buyer control over the assets of the target and, if a sale of all the target's assets is contemplated, leaves the target company as an empty shell.

A buyer from outside the UAE may be inclined to structure the transaction as an asset purchase rather than a share purchase as this allows them to acquire the benefit of only those assets that it wants, while leaving out the liabilities that the target company may have accrued. This can be particularly important where foreseeable liabilities may include future, un-quantifiable damage awards, for example, litigation over defective products, employee benefits or terminations, or environmental damage.

Those familiar with UAE law will recognize however, that because trading licenses are non-transferrable in the case of an asset purchase acquisition, there can be drawbacks if the buyer intends to operate the target as a going concern.

The mechanism of acquiring assets is different to the acquisition of shares. The due diligence processes, valuation, and documentation are often not as comprehensive as the share acquisition. Whereas a share acquisition involves the purchase of the entire target company as a 'going concern', the asset purchase involves evaluation and subsequent transfer of ownership, and possibly related liabilities for specific items being movables (equipment or machinery) and/or immovables (land or buildings).

Both movables and immovables require valuation from specialized valuers to determine a fair market price, book value, durability, functionality, followed by a legal due diligence on each specific item to confirm proper ownership. In the case of a purchase of an immovable, legal due diligence requires a specific review of the registration of the land or building with the relevant land authorities, whether or not the land or building has proper and valid permits to undertake the activities of the target or the buyer, whether or not the land or building is fully paid for and, most importantly, whether or not it is encumbered by liens, pledges or mortgages.

When a price has been agreed upon, an asset sale and purchase agreement is negotiated, drafted and executed, typically detailing a list of all the purchased assets in an attached schedule, followed by amendments to the permits and licenses of that specific item to reflect change of ownership and, in the case of land purchase, proper registration with the land authorities.

For a list of companies offered for sale across the region and internationally visit AMEinfo.com's Businesses for sale section