Question
From: (redacted)
Sent: Friday, December 21, 2007 1:59 PM
To: Verne, B. Michael
Cc: (redacted)
Subject: HSR reportability question -- acquisition price in an LLCformation
Mike:
We are analyzing a proposed transaction (a partialmanagement buyout) that we believe is nonreportable under HSR, and we wouldlike to confirm with you that our analysis is correct.
Company A currently holds 100% of the membershipinterests in an investment management entity, Company B. Company A and CompanyC (an LLC recently formed by three of Company B's current managers in a nonreportabletransaction) plan to form a new LLC, Newco. Company A will contribute all ofits interests in Company B to Newco, so that Company B will be a wholly-ownedsubsidiary of Newco. Company C will contribute $1 million in cash to Newco.Although it nominally will acquire only 49% of the membership interests ofNewco, Company C will nevertheless control Newco because it will have the rightto more than 50% of the profits of Newco. Company C is controlled by individualD, one of the three managers who formed Company C. Individual D is Company C'sultimate parent entity.
The three managers who have formed Company C eachcurrently have employment contracts with Company A through which they areentitled to receive salary and a share of Company B's profits, and also areentitled to take part in a deferred compensation arrangement. In connectionwith the formation of Newco, the managers will sever their current employmentagreements with Company A, giving up their rights to a guaranteed minimumannual compensation. The managers will enter into new employment agreementswith Newco through which they will be entitled to salary for their continuedmanagement of Company B and which, when added to their rights under the limitedliability company agreement of Newco, will provide substantially equivalentcompensation, albeit without the guaranteed minimum.
For the formation of an LLC, we look to 801.50.Company C will be required to report its acquisition of control of Newco if thesize-of-transaction test is met and no exemption applies. (It appears that thesize-of-person test will be applicable and will be met.) Section 801.50(d)provides that a person acquiring control of the newly-formed entity determinesthe value of the acquisition in accordance with 801.10(d). Section 801.10(d)in turn provides that "the value of the non-corporate interests held as aresult of the acquisition is the sum of the acquisition price of the intereststo be acquired (provided the acquisition price has been determined), and thefair market value of any of the interests in the same unincorporated entityheld by the acquiring person prior to the acquisition; or, if the acquisitionprice has not been determined, the fair market value of interests held as aresult of the acquisition."
We believe that the acquisition price in this casehas been determined and that it is $1 million, the amount of the cashcontribution Company C will make to the formation of Newco.
It is our understanding thatthe value, if any, of the guaranteed annual minimum compensation that CompanyC's three co-owners would relinquish in connection with the formation of Newcoshould not be considered part of the consideration to be paid by Company C forthe acquisition of a controlling interest in Newco. In essence, in connectionwith Company C's acquisition of membership interests in Company B, acompensation obligation owed to Company C's owners by Company A is beingextinguished. Given the relationships among the parties involved in thistransaction, it appears to us, based on our reading of Informal Staff Opinion0406006, that this would not be considered the assumption by Company C of aliability of Company B, and thus it would not count towards the acquisitionprice to be paid by Company C even if this were an acquisition of assets.Further, because Company C is in fact acquiring LLC membership interests andnot assets, the guaranteed annual minimumcompensation that Company C's owners are relinquishing would not count towardsthe acquisition price even if the relinquishment of these interests wereconsidered the assumption of a liability (see ABA Premerger NotificationPractice Manual (4th ed.), Interpretations 91 and 102).