If you are looking to undertake a transaction such as raising capital or selling your company, a lawyer will be a vital part of your team. This article will first describe the role that a lawyer will typically play in a transaction, then provide guidance on how to select a firm or individual who may best fulfill that role.

The lawyer’s role in a transaction

There are many legal dimensions to a transaction, including:

• Information disclosure to investors. The process of selling a company or raising capital involves an enormous amount of information transfer to investors – whether in the information memorandum, data room, or just questions answered informally. At a minimum, a lawyer should prepare or at least review all information disclosed to investors that is of a legal nature (e.g. information on ownership and clean title to real estate, assets, etc.; information about the regulatory environment in which your company operates; and information about litigation in which your company is involved, etc.) You may, as a matter of prudence, also wish to have your lawyer review all material information passed onto an investor.

• Deal structuring. Should the investor purchase assets or shares? Should the investment be by way of injection of fresh capital into the company? Is an “earn out” appropriate, and if so, how should it be structured? Skilled lawyers are experts on transaction structuring.

• Drafting legal agreements. There are numerous legal agreements which may be required in the course of a transaction: confidentiality agreements, term sheets, heads of agreement, employment agreements, shareholders’ agreements, non-compete agreements, and the sale and purchase agreement. Of these, the sale and purchase agreement is typically the most crucial and difficult, especially the portion pertaining to representations and warranties, and limitations to such liability, and implications of any breach. In other words, if the owner of a business sells all or a portion of the shares of a company, he or she will usually need to represent and warrant that the information provided was full, true and plain disclosure, and that there were no errors or omissions in the data room, and possibly in the information memorandum or other documents as well. The investor will typically reserve the right to claw back all or a significant portion of the purchase price in the event that there were material errors or omissions.

In other words, a significant portion of your purchase price depends on your lawyer. Select your lawyer carefully.

Selecting your lawyer

Your lawyer should be someone you know and feel that you can rely on – don’t hire a mercenary, but someone you can really trust, with sound judgment and advice. However, one of the most common mistakes a business owner may make is to select a lawyer with whom he or she may have a long-standing relationship (e.g. the company’s general commercial counsel) – who may have little or no transactional experience – to act on a transaction. This is no more appropriate than asking your commercial counsel to represent you in a divorce hearing.

The lawyer you select should have acted on at least half a dozen or a dozen transactions. Try to find out your lawyer’s track record with respect to those transactions. Did the transactions close successfully? Obtain some references.

Another important point: your transactional lawyer should be an excellent negotiator. Often the negotiation on representations and warranties is tougher and more challenging than negotiating price. All the legal knowledge in the world is of limited use unless your lawyer is a capable of projecting that knowledge and achieving positive results in negotiations.

Should you hire a sole practitioner or a law firm? Larger transactions definitely require an entire legal team, and hence require the services of a law firm. In such cases, you should select one lawyer within the firm and ensure that he or she personally has the requisite credentials, and that he or she will personally supervise all work and be present at important meetings.

It is important to find a lawyer who does not feel compelled to participate in or influence the commercial aspects of the deal – which should be left to the principals and their financial advisors – unless otherwise requested by the client. And your lawyer should not only point out the risks involved in any transaction, but be capable of offering solutions in risk management, for example through creative deal structuring.

In short, your lawyer can make a tremendous difference: between your transaction closing or not closing; between your becoming embroiled in litigation or not; and between a substantial portion of your purchase price being clawed back by the investor or not. Your choice of lawyer is one of the most important decisions you will make determining the success of your transaction.

Someone approaches you out of the blue – a multinational, a competitor, a financial investor, and wants to buy your business. They invite you to dinner, the chemistry is good, they talk about a valuation that seems more than fair. What should you do?

To start with, be realistic. It normally takes a company three to six months of preparation to have the information necessary to satisfy the information demands of an investor and, if possible, to find and fix those problems in the business that might lead to a diminished valuation. By entering into a negotiation on the basis of an unsolicited offer, you are attempting to short-circuit this preparation process. The potential for failure is enormous, particularly if the seller has never before engaged in a transaction. Whatever you do, you must not underestimate the amount of preparatory work required to carry out a transaction.

The following scenario has happened no doubt thousands of times: an unsolicited offer is made and the parties agree to a “back of the envelope” deal, subject to information to be provided by the seller, and a purchase and sale agreement. They shake hands and part company, confident that a deal will occur.

Then problems begin: the investor sends the seller a list of questions which is much longer and more detailed than the seller expected. The seller spends a great deal of time on the questions, tying down management resources, whilst the investor expresses dissatisfaction at the delays.

Eventually, the seller provides answers which the investor considers to be at best partial. This leads to a supplementary list of questions being submitted, and so it goes on, taking time that should be spent by the seller and management running their business. The investor eventually brings in lawyers, auditors, tax advisors, who have even more questions. The seller keeps providing information, increasingly frustrated by the depth and breadth of the inquiries and the huge amount of time involved. The investor often discovers inconsistencies in the information. It is quite likely that a number of surprises will be found, depressing value – perhaps a tax liability, negative market trend, lawsuit, or other factor that brings down price. The seller is then in the unenviable situation of having consumed considerable time providing a huge amount of confidential information, only to find that the valuation is much lower than anticipated.

So what should you do to avoid this kind of situation when you receive an unsolicited offer? Assuming you really do want to sell your business, if you are not fully prepared, ask for a few months of preparation time. Have your advisors assist you in preparing all of the necessary information. It helps to have an outsider, who knows the information demands of investors, to ask the hard questions and play the devil’s advocate. Every attempt should be made to identify the weaknesses of the business before an investor spots them – whether it’s slow inventory turns, aged receivables, or anything else – and, if possible, remedy those problems prior to taking the company to market.

Once you have the information fully prepared, you might consider whether to talk only to the one investor who approached you, or to open negotiations with multiple investors in a competitive process. Unless you open the process to competition, how will you know whether you have got the best deal possible on selling your business? Once you have properly prepared your information, running a competitive process is not that difficult. Negotiating with a single investor should really only be considered when the investor is offering an extremely attractive price, or you are reluctant to share information with too many potential rivals.

Owners of companies typically vastly underestimate the amount of preparation required to sell a business—particularly in satisfying the information requirements of investors. Being able to provide quality information at short notice is a sign of good management, vital for a good valuation. Investors will deduce the contrary if information provided is of poor quality, or takes too long to receive. The seller will not get a second chance to make a first impression. Bottom line: be prepared!