In a lot of M&A cases, deal structure is nearly as important as the value of the company. Many times, structure impacts the after-tax cash to the seller and the risk allocated to the buyer. For those sellers that might transact with a private equity firm or one of their platform investments, a common structuring technique is called an “F Reorg” (or F Reorganization). Structuring a transaction involves balancing various considerations for both buyers and sellers. In the middle market, there is no one-size-fits-all structure, and multiple alternatives exist to achieve transactional goals. The F Reorg involves the target company becoming a QSub, which then converts into a single-member LLC. The entire process qualifies as a tax-free reorganization under Section 368(a)(1)(F) of the Internal Revenue Code.
A couple of the benefits to the seller include –
* Avoiding the rigidity of a 338(h)(10) election or 336(e) election, including the requirements on greater than or equal to 80% sale, taxing the entire gain and meeting the qualified stock purchase requirements,
* Providing for the deferral of gain recognition with respect to rollover equity.
And the buyer benefits from –
* Achieving a step-up in the basis of the seller’s assets,
* Retaining the seller’s Federal Employer Identification (FEIN) number,
* Possibly removing the risk associated with the validity of the seller’s S-Corporation election.
Before agreeing to an LOI, make sure you’ve thought about the deal structure and its impact.
