Illinois Mergers & Aquisitions Law

Guide to
Illinois Law

Illinois Mergers & Acquisitions Law

Mergers & Acquisitions Law

Mergers & Acquisitions Law

Mergers and acquisitions are a small part of the virtually limitless world of corporate change. As to mergers alone, the United States Department of Justice (DOJ) has established and published guidelines for defining markets, classifying mergers, analyzing market impact and assessing proposed mergers. However, the DOJ is quick to warn that because the guidelines are applied to such a vast range of factual circumstances, each proposed corporate change is handled differently. Corporate change always has economic and legal implications. While many forms of corporate change have tax implications, it is possible to structure a tax-free reorganization. The area of corporate change is so complex and detailed that every proposal is a new challenge that is best handled by a professional familiar with the ramifications of any decision that might be made.

Forms of Corporate Change Compared

Mergers and acquisitions are an important part of corporate change. Some terms for corporate change are erroneously used interchangeably; the reality is that the subtle differences can have grave legal implications. The following is a brief list of terms relevant to corporate change and the appropriate definition for each.

Acquisition: An acquisition is the acquiring of control of one corporation by another. An acquisition may be by agreement or it may be the result of a hostile takeover. The acquisition may be in the form of cash, stock, or other assets.

Consolidation: Consolidation occurs when two or more organizations are combined into one new legal entity. Typically, a consolidation is a friendly, cooperative deal in which the new entity takes the "best" of the former corporations. Presumably, with consolidation, each former corporation enters the new venture on equal footing.

Divestiture: Divestiture is the disposition of all or part of a business. A divestiture may take the form of a sell-off (for cash) or a spin-off (for shares) and is often a tool used in creating a joint venture.

Hostile takeover: A hostile takeover develops when the directors of the target corporation concede that the target company's sale is inevitable. Hostile takeovers are regulated by the federal Williams Act, state takeover statutes and common law principles of target management duties.

Initial public offering: An initial public offering is the sale of newly issued stock to the public for the purpose of raising capital for future corporate development. Often, the initial public offering is the first stage of the creation of a new publicly held corporation.

Leveraged buyout: A leveraged buyout is the acquisition of a business through the use of borrowed funds, which are repaid later from the business profits or sale of assets. Usually there is a complete restructuring of the corporation's balance sheet with the transfer of ownership. The so-called "leveraging" of the corporation's balance sheet is what distinguishes a leveraged buyout from a traditional acquisition.

Liquidation: A liquidation is the conversion of assets into cash with the intent of paying off creditors and distributing the balance to corporate owners.

Merger: A merger is the combination of two or more entities by direct acquisition of all assets by one corporation. Typically, a merger includes the exchange of stock, resulting in a surviving corporation. A merger is distinguished from a consolidation in that one of the corporations survives the others.

Recapitalization: Recapitalization is the adjustment of a corporation's capital stock. For example, a corporation may exchange its stock for debt securities, resulting in a leverage against its capitalization.

Reorganization: A corporate reorganization is the adjustment of the corporation's capital structure. Often reorganization is used in conjunction with Chapter 11 bankruptcy to allow the corporation to stay in business.

Restructuring: A corporate restructuring is used to maximize corporate assets. Restructuring may occur in conjunction with divestiture, spin-off, recapitalization, or acquisition.

Classical Mergers

Generally speaking, a classical merger begins with an agreement between two corporations to merge together, resulting in the exchange of the transferor corporation's securities to the surviving corporation's control. Usually, after negotiations are completed, representatives from each corporation sign a preliminary agreement or letter of intent. If the merger is approved by the board and shareholders of each corporation, the articles of merger are filed with the Illinois Secretary of State. Upon acceptance of the filing, the surviving corporation has all the rights, privileges, franchises and assets of the transferor corporation. With some exceptions (such as the small-scale merger and the short-form merger), most classical mergers require approval by a two-thirds vote of the outstanding shares of each corporation as well as appraisal rights for the shareholders of each corporation. Upon completion of the merger, the transferor corporation loses its identity, which is fused into the surviving corporation.

Tax Considerations

The federal and state tax laws surrounding mergers and acquisitions and other corporate changes can be quite complex. This chapter cannot possibly provide information regarding all the possible pitfalls and obligations one must consider. Instead, this section will attempt to outline the major areas of concern for the parties to consider when initiating a merger, acquisition, or other such corporate change.

Federal Tax Issues Regarding Corporate Change

Federal tax liability varies greatly depending upon the structure of the corporate change. In general, however, the seller is taxed consistent with general principles of gain recognition, and the buyer is treated on the basis of acquired assets.

Typically, a buyer will want to allocate as much of the purchase price as possible to assets that provide an immediate or early tax benefit. Allocations to inventory, therefore, are favored because the inventory is immediately sold and, in turn, increases the cost-of-goods benefit. The second objective for a buyer is to allocate the purchase price to equipment and other tangible personal property that can be recovered quickly through depreciation deductions. Next most favorable is the allocation of assets like leases, service contracts, and other assets that can be amortized over 15 years. The least desirable classification to the buyer for tax purposes is any benefit that will only occur as a capital gain when the property is resold. The general tax principles of allocation of sale price with respect to the seller, discussed below, apply equally to the buyer in the purchase of assets.

The sale of a business, for the seller's tax purposes, is generally treated like the sale of any other asset. Assets are treated as having been disposed of in a taxable transaction unless a provision of the tax law exempts the resulting gain from being taxed. The taxable gain or loss is the difference between the amount realized on the sale (usually the sale price) and the adjusted tax basis of the property transferred (usually the amount it cost to acquire the property).

If the sale of the business is a tax-free reorganization, usually a substantial part of the sale includes the stock of the acquiring corporation. In such a case, the seller is only taxed on that portion of the transaction that exceeds the amount of stock received.

Besides the typical taxable gain or loss or the tax-free reorganization, it is important for a seller to consider the following issues for tax liability purposes: tax liability for sale of subsidiary stock; apportionment or allocation of gain; basis in targeted assets; sale of the target corporation's assets; net operating loss carryovers; tax effects of transfers, sales, and leases; property taxes; sales taxes; use taxes; and possible exemptions that can be claimed. An attorney experienced in corporate change issues can help identify taxable aspects of a transaction.

State Tax Issues Regarding Corporate Change

Generally, states assess taxes in one or more of the following categories: sales and use, gross receipts, corporate income, franchise, real property, and unemployment. Tax laws and related exemptions can be very complex. It is recommended that a business consult an attorney with knowledge and experience in the state tax codes.

Illinois imposes a retailer's occupation tax on those who sell retail tangible personal property, unless the sale is "isolated or occasional." A sale might be considered "isolated or occasional" if the property sold is not the type of property the business typically sells. Illinois also recognizes a sales and use tax exemption for the sale of manufacturing or assembling machinery for wholesale or retail sale or lease.

The buyer of assets must file a notice of sale with the Chicago Office of the Illinois Department of Revenue within ten days of the sale, if it includes the major part of (1) stock in the seller's goods, (2) the seller's furniture or fixtures, (3) the seller's machinery or equipment, or (4) the real property of a business subject to the retailer's occupation tax. If the notice is not filed, the buyer becomes liable for any outstanding sales taxes owed. Even with a timely filing, if the property has a valid lien in favor of the Department, the buyer may be liable for the amount of the lien, limited only by the value of the property. Therefore, if a buyer receives notice from the Department of an outstanding lien, the buyer may withhold that amount from the purchase price until the seller provides proof that the lien has been satisfied.

Avoiding Liability

One of the most common methods for avoiding liability during corporate change is to obtain regulatory approval. However, the time it takes to obtain regulatory approval can make or break a transaction. If it is necessary to obtain regulatory approval, businesses should contact and work with the regulators at the early stages of the transaction.

Being prepared and knowledgeable about a prospective transaction can go a long way toward achieving a liability-free transaction. Furthermore, it is imperative to deal with the regulators openly and honestly. Here is a checklist of tactics that can help a corporation be properly prepared:

Research the target organization.
Develop an acquisition structure designed to allow the purchaser to acquire the appropriate assets, but that avoids or minimizes complex regulatory approvals.
Schedule meetings with regulators early. Educate those who must be involved with the transaction so that when their approval is needed, there is no "down time."
Ask regulators early in the transaction what approval and filings are required.
Present the transaction to the regulators with balance. Let them know why both sides will benefit from the transaction. Address the regulator's anticipated concerns before the regulator is forced to make an inquiry.
Be prepared to be flexible and anticipate when you will need to negotiate with all parties as well as the regulators.
Wherever possible, obtain pre-approval of the proposal from the regulators.
Develop and adjust the detailed structure of the transaction.
Submit filings in a timely manner.
If possible, request an early decision from the regulators.

Be aware that different transactions require contact with various regulators. Some regulators that may need to be contacted regarding a corporate change transaction include:

Federal Authorities

Department of Justice
Federal Trade Commission
Securities and Exchange Commission
Health Care Financing Administration
Department of Defense

State Authorities

State Securities Regulators
Department of Insurance
Department of Health
Professional Licensing Groups
Medical Groups
HMO and Insurance Licensing Authorities

Due Diligence

In addition to concerns regarding proper filing of a corporate change, each party to a corporate change has a fiduciary obligation in the form of due diligence. This fiduciary obligation is owed to corporate shareholders and others affected by the business dealings of the corporation. Basically, the law imposes on each corporate director a general obligation of good faith and fair dealing based upon a reasonably informed judgment. There are some basic issues that, if addressed, can go a long way toward fulfilling the fiduciary obligation. For example:

Each party should be able to show that a majority of directors are not "interested parties" or that the board exercised due care in reaching its decision. The parties must show an intrinsic fairness to all parties to the transaction.
If the transaction involves sale of control, takeover response, or a change in the fundamental nature of the corporation, the parties must show that they acted in a way to maximize the value and fairness of the transaction.
Regardless of the nature of the transaction, the parties must be able to show that the transaction does not result in unreasonable harm to those who have an interest in the corporation, but who are not directly involved with the decisions that led to the corporate change.
A party must research the previous sales history of the other party to ensure that all tax liabilities are properly disclosed.

Conclusion

Stock or asset acquisitions, mergers, or other corporate changes entail an intricate mixture of economics, business, and law. Each transaction requires a great deal of investigation and valuation. It is important to structure any transaction in the best interest of the parties as well as within the confines of the law. After the terms of a corporate change have been negotiated, the regulators enter the scene to ensure that the interests of all parties are properly balanced. It is strongly recommended that business persons enter into any corporate change with the assistance of an experienced professional.

Resources

The following federal authorities may need to be contacted for information concerning, or regulatory approval of, corporate change.

Department of Justice
10th Street & Constitution Avenue NW
Washington, DC 20530
Phone: (202) 514-2007

Southeast Region, Department of Justice
523 McDonough Boulevard SE
Atlanta, GA 30315
Phone: (404) 624-5201

Federal Trade Commission
6th Street & Pennsylvania Avenue NW
Washington, DC 20580
Phone: (202) 326-2222

Atlanta Region, Federal Trade Commission
1718 Peachtree Road NW
Room 1000
Atlanta, GA 30309
Phone: (404) 347-4837

Securities and Exchange Commission
450 5th Street NW
Washington, DC 20549
Phone: (202) 942-8088
Phone: (202) 942-8938 (Filings and Information Services)

Health Care Financing Administration
200 Independence Avenue SW
Washington, DC 20201
Phone: (202) 690-6726

Health Care Financing Administration, Region IV, Atlanta
101 Marietta Tower
Atlanta, GA 30323
Phone: (404) 331-2329

Department of Defense
The Pentagon
Washington, D.C. 20301-1000
Phone: (703) 697-5131

These state authorities also may have information and regulatory requirements for corporate change.

Securities Department
Office of the Secretary of State
520 Second Street South, Suite 200
Springfield, IL 62701
Phone: (217) 782-2256
Phone: (800) 221-7790 (FAX)

Insurance Department
Bicentennial Building, Fourth Floor
320 West Washington Street
Springfield, IL 62767-0001
Phone: (217) 782-4515
Phone: (217) 782-5020 (FAX)

Attorney General
Jim Ryan
500 South Second Street
Springfield, IL 62706
Phone: (217) 782-1090
Phone: (217) 782-7046 (FAX)

Vital Records
Illinois Department of Public Health
605 West Jefferson Street
Springfield, IL 62702-5097
Phone: (217) 782-6553