410 12 Acquisition of Shares in a Privately-owned Company for Cash
A letter of intent can also exclude a party’s possible right to claim reimbursement
for damage for breach of pre-contractual duties in the event that the other party
decides to end talks. Legal background rules may, depending on the governing
law, provide for a duty to reimburse the other party for costs where a party is
deemed not to have negotiated in good faith (Volume II).^14
12.4 Ensuring Exclusivity, Deal Protection Devices
12.4.1 General Remarks
As stated above, a non-disclosure agreement and a letter of intent can protect the
target and the seller by increasing the likelihood of the conclusion of the contract
and mitigating the risk of abuse of the target’s confidential information. On the
other hand, the prospective acquirer wants protection as well, because the vendor
or its board may want to see whether a third party can offer better terms.
Acquirer’s costs. The prospective acquirer can incur substantial up-front costs
in making the offer: search costs entailed in identifying an appropriate target; fees
for legal, accounting, and financial advice; commitment and other financing fees;
and the cost of neglecting alternative acquisition opportunities.^15
The vendor can benefit from that investment in the production and exchange of
information if it has an option to seek out competing bids at no cost. The emer-
gence of a competing bid would reduce or eliminate the expected return on the
prospective acquirer’s sunk costs. In fact, second bidders often prevail.^16 Even
where the party prevailing is the initial bidder, the ultimate acquisition price can
be substantially higher than the initial bid because of increased competition.^17
For this reason, the prospective buyer will try to ensure exclusivity through
clauses discouraging competing bids, or through lock-ups.
Better terms and board duties. In contrast, the vendor, the target, or their boards
may prefer an option to choose an acquirer that offers better terms, and a “market
check”.^18
There are essentially two types of market checks. The first is a pre-agreement
market check where, prior to signing an agreement, a company attempts to iden-
tify interested acquirers and the best terms without initiating a formal auction. A
target company is bound to attract some interest if it becomes known that it is “in
play”.
The second type of market check is a post-agreement market check. As its
name implies, a transaction is agreed to, subject to public announcement of the
(^14) See Article 2:103 of the Acquis Principles.
(^15) Bainbridge SM, op cit, p 179.
(^16) Ibid.
(^17) See ibid, citing Bruback RS, Assessing Competition in the Market for Corporate Acqui-
sition, J Fin Econ 11 (1983) pp 141 and 147.
(^18) Cole J Jr, Kirman I, Takeover Law and Practice. In: PLI, Doing Deals 2008: Under-
standing the Nuts & Bolts of Transactional Practice. New York City (2008) pp 71–73.