Our three-part series on government contractor M&A transactions provides an overview of key regulatory and industry-specific considerations that can impact all aspects of a deal. Part 1 is available here. It covers pre-transaction novation and affiliation issues. In Part 2, we move onto the transaction itself, diving into the potential for organizational conflicts of interest (OCI), regulatory compliance concerns, and the assignment of receivable rights. If ignored, these can impede the achievement of business objectives and lower the value of a deal.
Organizational Conflicts of Interest
Business and operations teams involved in a transaction often aim to leverage the target company’s experience, relationships, and past performance. OCI concerns arise when, because of a contractor’s relationship or circumstances, that contractor may (a) be unable to render impartial advice or assistance to the government, (b) be unable to objectively perform contract work, or (c) have an unfair competitive advantage. Identifying potential OCIs early will help parties determine the best method for mitigating those issues while still achieving business objectives.
At the outset of the diligence period, parties should consider whether a business combination could cause one of three types of OCI:
- unequal access to information,
- biased ground rule, and
- impaired objectivity.
When OCI risks are identified, a mitigation plan can be developed. It should be tailored to company capabilities, services performed, and the types of OCI associated with performance. Understanding OCI and developing effective mitigation and avoidance strategies can help ensure a contractor’s ability to compete and expand.
In a definitive agreement for the acquisition of a government contractor the representations and warranties relating to government contracting regulations and requirements will be extensive. Regulatory compliance is a critical source of value and potential liability for a buyer, so many buyers will push for government contract representations to be subject to longer survival periods and higher indemnification caps as compared to “general” representations.
Some important issues to address in government contracting representations and warranties include:
- verification of any preferential status (e.g., small business, veteran-owned, woman-owned, etc.);
- compliance with export control regulations, the Federal Acquisition Regulation, the Defense Federal Acquisition Regulation, the Foreign Corrupt Practices Act of 1977, and the Defense Base Act; and
- identification of any suspension or debarments of key principals or False Claims Act liabilities.
Additionally, applicable statutes of limitation for certain liabilities associated with the foregoing list tend to be lengthy, so the lookback period referenced in those representations (and in related diligence) should correspond with the periods for which liability remains open.
Assignment of Receivables
In transactions where accounts receivable will be assigned to a lender or other third party, the assignee may be unable to receive payments directly from the government on any U.S. government receivables or enforce its right to collect payment from the applicable agency. To mitigate this risk, the Assignment of Claims Act of 1940 (31 U.S.C. § 3727, 41 U.S.C. § 15) should be consulted.
The Assignment of Claims Act permits a government contractor to assign its right to receivables due under a federal contract only if certain conditions are met, including (1) that the contract does not prohibit the assignment and (2) that the parties must obtain a notice of assignment executed by an authorized representative of the applicable government agency. Depending on the number of government contracts and agencies involved, the process for obtaining the necessary assignment notices can be lengthy and frustrating, potentially delaying closing if the process is not initiated as early as practicable.
If you have questions regarding OCI, reps and warranties, or assigning receivable rights, please contact the authors of this blog, Kathryn Hickey or Dave Shafer, or a member of PilieroMazza’s Mergers & Acquisitions or Government Contracts practice groups.