According to the M&A Advisor,[1] “often failures occur because of … the inability to retain key talent. So you need to make sure … the vision is aligned before you do the deal.” Mackinac Partners counsels its clients to spend significant up-front effort developing and negotiating an appropriate integration plan, including a transition services agreement as a key component. This article highlights buyer and seller concerns — subsequent to the closing of a §363 sale — relating to human resource matters from the unique perspective of a single restructuring firm representing both sides of the same transaction.
THE SITUATION
Diamond Resorts acquired substantially all of the operating assets of Pacific Monarch Resorts (PMR) through a § 363 sale process (C.D. Cal., 11-24720). As a turnaround and restructuring firm with significant experience in the hospitality and leisure industry, Mackinac was involved at both companies — as CRO and financial advisor for PMR, and as CFO and M&A advisor for Diamond. In an unorthodox twist (details to be the subject of a future article!), professionals from Mackinac were retained to represent both buyer and seller in this court-approved $50 million transaction.
Among other things, Mackinac’s responsibilities on both sides of the transaction included negotiating and implementing a transition services agreement and using an “ethical wall” to protect the interests of each team’s respective clients. After the closing, the Mackinac PMR team was responsible for the wind-down of the bankruptcy estate, and the Mackinac Diamond team was responsible for the integration of the acquisition and realization of synergies.
Primary Consideration
Point: Buyer
It is imperative that a buyer retain the intellectual capital that existed at the acquired company for some period subsequent to closing the transaction. These employees not only know where the proverbial skeletons are buried, but are key to a smooth transition of customer and vendor relationships, books and records, systems, and processes. Pre-transaction, the buyer and seller should collaboratively identify the tasks that will be required and the human resources that will be needed to carry out those tasks. While the buyer will be more influential in identifying the required tasks, the seller may be more influential in identifying the individuals most suited to carry out those tasks. In any case, honest and transparent discussions between a buyer and seller are critical to defining the transition plan.
Counterpoint: Seller
The primary goal of a seller in a § 363 sale process is to maximize recovery to the estate: maximizing the sales value of the assets and minimizing the costs of winding down the estate. To wind down a bankruptcy estate in the most efficient manner, it is important that the seller retain certain human resources. These resources are relied upon heavily to help the restructuring advisors. The seller still has to terminate leases and obligations, retain or eliminate corporate records, manage bankruptcy claims and distributions, and manage various administrative duties including ongoing human resources obligations with the transition team. A key challenge for the seller is its inability to proactively communicate employment status to employees until direction is provided by the buyer. Accordingly, the seller’s advisors, who still require significant support from the staff, must overcome their inability to motivate employees with the promise of continued employment. Due to the dynamic wherein the same employees are often demanded by both parties (definitely true for the PMR/Diamond transaction), the goals of maximizing the value of the assets and minimizing the cost of the wind-down are often at odds. The buyer and seller must work together closely on this issue.
The Human Element
Point: Seller
Interim executives (in this case acting as PMR’s CRO) and financial advisors managing a bankruptcy case build solid professional and personal relationships with the employees of the debtor. Thus, showing care and willingness to look out for the employees’ best interests while working with key managers on individual post-sale transition plans is natural. Fortunately, decisions made in this light are in alignment with the seller’s goal of maximizing output and productivity. The seller should address these matters early in the sale process, encouraging a fair retention plan to help retain and motivate the transitional employees.
Counterpoint: Buyer
Having yet to establish personal connections with the employees, the buyer still recognizes that the value of the business being acquired has largely been built by these individuals and that they are tied to it both financially and emotionally. Retention of certain of the seller’s employees should be contemplated during the structuring of the transaction. It may be possible to shift some value from the business itself (which accrues to the seller’s creditors) to the employees through an appropriately structured post-transaction retention bonus. To be effective, the retention bonus must be communicated as early as possible and guarantee the amount of time each employee must be employed to earn the bonus. In any case, always plan for some attrition.
Risk-Mitigation
Point: Buyer
The biggest risk for a buyer is the departure of transitional employees before the transition is completed, resulting in a loss of knowledge before it can be fully transferred to others. While this is at times unavoidable, there are certain strategies a buyer can employ to help mitigate this risk. First (building on a common theme), the buyer should communicate directly and transparently with the seller’s employees regarding what that employee will be doing and for how long. Second, a buyer should endeavor to retain certain of the seller’s employees who are the most capable of serving varying roles. It also may be advantageous to retain employees known to be more flexible with respect to timing — for example, employees intending to retire post-transaction. Finally, a buyer can mitigate additional risks by negotiating to leave the employees on the seller’s payroll or hire them as contractors.
Counterpoint: Seller
A seller will also want to ensure that the human resources needed to wind down the estate will be around to see it through. The considerations of the seller are very similar to the buyer at this juncture. The seller must articulate to the buyer the need to motivate the transitional employees to maximize their productivity during the wind-down. Additionally, assuming the seller retains transitional employees on its payroll and seeks reimbursement from the buyer, the seller should ensure that the transition agreement provides for the coverage of all costs of employment, including salary, benefits, insurance, payroll processing, expense reimbursement, and allocated management and other costs.
How Can Both Parties Be Successful?
The keys to both parties being successful are cooperation, transparency, concession, negotiation, collaboration and flexibility. While these have been seemingly easier in a transaction such as Diamond’s acquisition of PMR with Mackinac representing both buyer and seller, it is never easy. In fact, the co-authors of this article started speaking to one another again just last month! Mackinac’s success with both the acquisition and integration of PMR by Diamond and the wind-down of the PMR estate demonstrates that, while not easy to achieve, successfully managing human resources in a bankruptcy sale process is possible with careful planning and appropriate execution.
[1] Published by the M&A Advisor in 2016 in “Best Practices of the Best Dealmakers: Chapter 5, Making It Work.”