Startup M&A

Startup M&A usually unfolds in the following stages.

The transaction method is divided into share acquisition, merger, and business transfer, and the applicable legal procedures and risks differ greatly for each method.

Therefore, in startup M&A, the choice of transaction form itself has a direct impact on the outcome.

▶ The procedures and time frame are relatively short compared with an IPO

▶ The possibility of early cash recovery for founders and investors

▶ Less burden regarding company size and financial requirements

▶ The possibility of business expansion through a combination with a large company or a strategic investor

For these reasons, for startups whose listing is not realistic in terms of market size or growth potential, an M&A is often reviewed as the most practical exit strategy.

▶ Possible Gap Between the Acquisition Price and the Amount Actually Received

▶ Earn-out, Installment Payment, and Other Conditional Consideration Structure Risks

▶ Possible Loss of Management Control or Reduced Role After the Acquisition

▶ Reduced Founder Proceeds Due to Investor Preference Clauses

An M&A is also not a process that ends with the signing of the contract.

During the post-merger integration (PMI) process, various issues such as clashes in organizational culture, departure of personnel, and changes in business direction can arise, so advance structural design and legal review are critical.

In the end, a startup M&A can be seen as a deal in which the actual outcome is determined less by the sale amount and more by the structure, the conditions, and the counterparty involved.

A friendly M&A refers to a merger and acquisition in which the acquirer and the target company discuss the acquisition terms and structure in advance and proceed by mutual agreement.

Most startup M&As proceed on the premise of the consent of management and major shareholders, and the acquisition purpose, deal terms, and even the operating direction after the acquisition are coordinated through the negotiation process.

The main features of a friendly M&A are as follows.

For startups in particular, because technology, personnel, and the business model are core assets, an acquisition in which the founder and key personnel do not cooperate makes it difficult to secure real value.

This refers to a merger and acquisition that attempts to obtain management control by securing shares without the consent of the target company's management or board of directors.

A hostile M&A has the following features.

As a result, a hostile M&A is regarded in practice as a deal carrying high risk, because its chances of success are uncertain and it is highly likely to lead to disputes.

For startups in particular, shares are often concentrated among the founder and a small number of shareholders, and defensive arrangements often exist through shareholder agreements, so a hostile M&A is often difficult to complete in practice.

A share acquisition is the most commonly used method in startup M&A.

It takes the form of acquiring shares held by existing shareholders (existing shares), or acquiring newly issued shares of the company (new shares).

An acquisition of existing shares is a method in which existing shareholders sell the shares they hold, and it has the advantage that the founder and investors can recover cash immediately.

An acquisition of new shares is a structure in which the acquirer injects funds directly into the company, and although the company's capital increases, existing shareholders do not exit right away.

In practice, a structure that mixes existing shares and new shares is widely used.

The share acquisition method has the feature that only the ownership structure changes while the corporate entity is maintained, so the procedure is relatively simple.

A merger is a method of combining two or more companies into one, and a strict procedure applies under the Commercial Act.

There are two forms of merger.

When a merger takes place, the rights and obligations of the acquired company are comprehensively succeeded, and employment relationships, contracts, and debts are also transferred together.

The merger procedure must go through several legal stages, such as a special resolution of the general meeting of shareholders, a creditor protection procedure, and registration, so it requires relatively more time and cost.

However, if the requirements are met, it may also proceed as a simplified merger or a small-scale merger.

▶ Procedure

A business transfer is a method of selectively acquiring only specific operations or assets, without taking over the company's equity or corporate identity.

The most notable feature of this method is that, as a rule, the contingent liabilities of the acquired company are not assumed.

Because the acquirer can take on only the operations and assets it needs, this approach may be advantageous in terms of risk management.

However, when all or a material portion of the business is acquired, a special resolution of the shareholders' meeting is required, and matters such as whether employment relationships are succeeded and the scope of contract transfer should be specified in detail in the agreement.

In a business transfer, the completeness of the contract structure directly affects whether the transaction succeeds or fails.

A comprehensive share exchange is a method in which the shareholders of the acquired company transfer all of their shares to the acquiring company and, in return, receive shares of the acquiring company rather than cash.

For the acquiring company, this method has the advantage of placing less burden on cash outflow, and it allows the shareholders of the acquired company to be brought in as long-term stakeholders.

However, because the value and liquidity of the acquiring company's shares are important, this method is not used frequently in startup M&A practice.

It is mainly used on a limited basis within large corporations or holding company structures.

In startup M&A, legal due diligence goes beyond a simple procedural check and serves as a key process for assessing the stability of the transaction.

The equity structure and investment agreements, whether the major business contracts will remain in effect, the possibility of disputes, personnel and labor relations, and the status of intellectual property ownership are factors that can immediately turn into problems after the acquisition.

In particular, for technology- and platform-based startups, the intellectual property management system or compliance with personal information regulations often leads to adjustments in transaction terms or changes to the structure.

In M&A, how the funds are paid matters more than the size of the acquisition amount.

Depending on the transaction method, such as a share acquisition, cash payment, or a contingent payment structure, the tax and accounting effects and the actual amount received can vary considerably.

In particular, for a payment structure premised on meeting conditions, uncertainty can continue even after management control has been transferred, so specific standards need to be set at the contract stage.

Startup M&A may involve various regulations or reporting obligations depending on the characteristics of the industry.

Restrictions on foreign investment, fair trade regulations, and industry-specific licensing requirements directly affect the transaction schedule and structure.

If the transaction proceeds without a prior review, the possibility of a delayed closing or a failed transaction cannot be ruled out.

M&A is not a transaction that ends with the conclusion of a contract.

Unexpected conflicts may arise in the way the organization is operated after the acquisition, in whether personnel are retained, and in the process of adjusting the business direction.

If the risks in this integration process are not considered in advance, it can be difficult to achieve real results even when the transaction itself has succeeded.