Legal issues in structuring a company acquisition – Part 1

A company acquisition is a complex M&A transaction. The buyer does not merely acquire isolated objects; the transaction may involve an economic structure consisting of assets, rights, contracts, business relationships, operational processes and commercial know-how.

Because the buyer is usually an outsider, its initial information about the target company is incomplete. Due diligence is intended to reduce this information gap and to support both the acquisition decision and a carefully structured acquisition agreement.

In short: A buyer should not assess only the purchase price and financial figures. The legal opportunities, risks and obligations connected with the target company are equally important.

1. The concept of a company under German law

German law does not contain one uniform statutory definition of a company. German case law describes a company as an organisation that functions institutionally and functionally as a company in the traditional sense.

From a legal and business perspective, a company is not merely one asset or one right. It is a combination of:

• assets and rights,
• factual relationships,
• commercial experience,
• organisational structures,
• contractual relationships, and
• entrepreneurial activities and processes.

Although there is no single statutory definition, companies can be objects of legal transactions. A company can therefore be bought and sold as a whole or through the transfer of substantially all of its relevant components.

2. A company acquisition as a purchase of an identified object

A company acquisition is classified as a purchase of an identified object within the meaning of Section 453(1) BGB. The rules governing sales of goods apply accordingly.

In practice, the transaction is usually structured as either:

• a share deal, involving the transfer of shares in the target company; or
• an asset deal, involving the transfer of selected assets, rights and potentially contractual positions.

The appropriate structure depends on the transaction objectives, the legal form, the assets and contracts involved, potential liabilities and the regulatory, tax and antitrust framework. It also determines the focus and scope of the due diligence.

3. Typical acquisition processes

No two companies are identical. The acquisition process therefore depends on the business model, industry, size and complexity of the target, the transaction objectives, the financing and the interests of the parties.

Two broad process types can be distinguished.

3.1 One-on-one negotiations

In a traditional acquisition process, the seller negotiates exclusively with one potential buyer. The parties can address the transaction structure, price, due diligence and acquisition agreement in a bilateral process.

3.2 Controlled or limited auction

In a controlled or limited auction, several potential buyers compete for the target. This process is common in larger transactions. In addition to the legal and financial issues, the process requires careful coordination of confidentiality, timetables, access to information and the treatment of competing bidders.

The less common open auction, used particularly in privatisation proceedings, is not covered here.

4. Preparing the acquisition

The management of the buyer usually defines the transaction objectives before instructing specialist advisers. Typical objectives may include growth, synergies, geographic expansion, diversification, an expanded product range or access to technology and management resources.

The M&A lawyer then assesses the feasibility of the transaction and the relevant legal framework. The review may include:

• the applicable areas of law,
• possible application of German or foreign law,
• corporate and transformation law,
• public-law requirements,
• tax and antitrust issues,
• change-of-control provisions,
• the share-deal or asset-deal structure,
• the possible use of an acquisition vehicle or SPV, and
• the steps required for signing and closing.

A transaction step plan can help coordinate the often demanding timetable.

5. What is due diligence?

Due diligence is a systematic review of the target company before the acquisition agreement is signed. The concept originates in the Anglo-American legal system and can be understood as the care reasonably expected in the circumstances when assessing a transaction object.

Due diligence may be carried out in both share deals and asset deals. Its scope depends on the target company, the transaction structure, the industry and the identified risk profile.

6. Why is due diligence important?

The buyer usually has less information about the target than the seller. Due diligence helps the buyer assess:

• opportunities and risks,
• strengths and weaknesses,
• the reliability of the seller’s information,
• the purchase-price expectations,
• the need for warranties and indemnities, and
• whether the acquisition should proceed.

The buyer may respond to the findings by adjusting the offer, demanding additional protection, renegotiating the price, adding closing conditions or abandoning the transaction.

Due diligence is not a guarantee that every risk will be discovered. It does, however, improve the information base and enables more conscious decision-making and more precise contract drafting.

7. Main functions of due diligence

Information and disclosure

Due diligence collects, structures and discloses information about the target company. It provides the buyer with a more reliable picture of the target and gives the seller an organised framework for presenting relevant information.

Risk identification

The review may identify issues involving ownership, contracts, financing, litigation, employment, environmental obligations, intellectual property, regulatory approvals or antitrust law.

Warranties and liability allocation

Risks identified in due diligence can be reflected in the acquisition agreement through warranties, indemnities, liability caps, baskets, specific limitation periods, closing conditions or other contractual mechanisms.

Purchase-price assessment

Due diligence findings may confirm or challenge the seller’s purchase-price expectations. The review is not a complete valuation, but it provides legal and factual information relevant to price negotiations and risk allocation.

Evidence preservation

The documents exchanged, questions asked, answers given and risks disclosed during the process may later assist in interpreting the acquisition agreement and assessing warranty or liability disputes.

Basis for the acquisition agreement

The overall objective is to enable the parties to allocate identified opportunities and risks in a clear and commercially appropriate manner.

8. Types of due diligence

A target company will generally undergo at least a legal due diligence. Depending on the transaction and industry, additional reviews may include:

• Financial due diligence: financial statements, finances and key performance indicators.
• Tax due diligence: tax compliance and tax risks.
• Commercial due diligence: market environment, business model and organisation.
• HR due diligence: management, employees, employment relationships and pensions.
• Technical due diligence: technologies and technical know-how.
• Intellectual property due diligence: trademarks, patents, copyright, software and other IP.
• Environmental due diligence: environmental and regulatory risks.
• Antitrust due diligence: competition-law and merger-control issues.

The review should be tailored to the target and should be risk-oriented rather than mechanically comprehensive.

9. Scope of legal due diligence

Legal due diligence examines the legal opportunities and risks arising from the target’s internal and external relationships. Typical areas include:

• corporate law,
• commercial contracts,
• financing,
• real estate,
• litigation,
• employment and pensions,
• subsidies and public-law matters,
• environmental law,
• intellectual property and IT, and
• antitrust law.

10. Corporate legal due diligence in a share deal

If shares in the target company are acquired, the review must establish that the shares exist, are held by the seller and can be validly transferred.

10.1 Chain of title

The buyer should review the chain of title from the original holder to the current seller. The review should address prior transfers, applicable formal requirements, third-party rights, restrictions on disposal and consistency between the articles, shareholder list and other corporate documents.

10.2 Shareholder list and good-faith acquisition

The shareholder list and its register and legitimising functions may be important for assessing ownership and the transferability of GmbH shares. Statutory rules on good-faith acquisition may support transactional certainty in certain circumstances, but they do not replace a careful review of the ownership history.

10.3 Corporate structure and management

The legal due diligence report should identify the target clearly and describe its legal structure, registered office, shareholders, directors, managing directors, powers of representation, authorised signatories, supervisory bodies, articles and shareholder resolutions.

This information is essential for signing and closing, including any planned changes to management or supervisory bodies.

10.4 Amendments and capital measures

The report should also cover past amendments and measures affecting the articles or capital, including conversions, capital measures, changes of name, changes of registered office and other amendments to the articles.

Any outstanding capital contribution obligations should be highlighted because they may affect the buyer after the acquisition.

10.5 Enterprise agreements

Existing enterprise agreements, such as domination and profit-transfer agreements, may materially affect the transaction. They should be identified and assessed, including whether they need to be terminated or amended as part of the transaction.

10.6 Subsidiaries and joint ventures

Subsidiaries and joint ventures should be included in the review to the extent relevant to the transaction. The review may address ownership, governance and control rights, transfer restrictions, financing, enterprise agreements and the importance of the entity to the target’s business.

11. Practical acquisition checklist

Transaction preparation

• Define the strategic objective.
• Select the intended transaction structure.
• Assess whether an acquisition vehicle is appropriate.
• Identify relevant laws, authorities and approvals.
• Review change-of-control provisions.
• Select the transaction process.

Due-diligence planning

• Determine the appropriate scope and depth.
• Involve the relevant specialist teams.
• Prepare document requests and issue lists.
• Record questions, answers and disclosures.
• Identify purchase-price-relevant risks.

Legal due diligence

• Confirm the corporate structure.
• Trace the chain of title.
• Verify corporate authorities and powers of representation.
• Review capital and constitutional measures.
• Identify enterprise agreements.
• Review subsidiaries and joint ventures.
• Assess contracts, financing, real estate, litigation and public-law matters.

Acquisition agreement

• Translate identified risks into warranties or indemnities.
• Decide which risks remain with the seller.
• Agree liability limits and limitation periods.
• Define closing conditions.
• Address disclosed information and its contractual effect.

Legal notice

This article provides general information based on the law and M&A practice as of 2018. It is not a substitute for reviewing the specific target company, transaction structure or acquisition agreement.