By Lisa Hollins, CEBS
A successful deal requires strategy and experience. The buyer wants certainty about what it is buying, a deal that is immediately accretive to earnings, a smooth integration and to maximize shareholder return. Employees are an important part of the assets, and retaining key employees may be a major factor in the deal valuation. If the deal strategy includes employees and talent from the beginning (e.g., identifying and evaluating targets) and throughout the process, the odds of success greatly improve.
This article describes lessons learned and focuses on areas related to employee matters that the buyer’s deal team should incorporate in its due diligence and planning. All business transactions are unique in nature, and it is impossible to describe conditions that will apply in every situation. There are, however, employee considerations that we commonly see when working with clients to evaluate and prepare for an asset purchase.
When we refer to an asset purchase, it is generally a transaction where the seller retains ownership of stock after the deal closes, and the liabilities assumed by the buyer are limited. The buyer creates a new entity or integrates with an existing one to assume specific assets and liabilities of the seller.
It is common with an asset purchase for the employees associated with the assets to terminate employment with the seller and be hired by the buyer coincident with the close of the deal. In most deals, the buyer wants to minimize employee disruption and set the tone for a positive and profitable work environment going forward.
The buyer’s transition requirements and ongoing obligations with respect to employee matters will vary based on the nature and structure of the deal, as well as the terms agreed upon in the purchase and sale agreement (PSA). As such, it is important for the senior HR executive to review the PSA with qualified advisors.
An asset purchase may take some time for development, but can move very quickly from a letter of intent to close. While these deals require less human resources/benefits due diligence than stock purchases do, you cannot assume a smooth transition without taking into account some important employee/employment situations.
The structure of the new organization will vary depending on your plan and objectives (whether you plan to operate the acquired assets separately, integrate the assets into existing operations or a division, etc.). While you may be obligated through the PSA to retain acquired employees for a certain amount of time, you typically will have some discretion in aligning roles and responsibilities within the new organization. You should confirm that you will have the flexibility to create the organization structure you need to realize the full deal value, and be prepared to quickly communicate the new organization structure. The acquired employees, as well as your existing employees, will be anxious to know about any changes in the organization and/or the reporting structure. You also need to have your people, particularly the top-level of the new organization, in place quickly. Communication from leadership reduces anxiety on both sides.
Compensation is always an area of concern for employees. Typically, a PSA will require that base pay not be less than that in effect on the close date for a period of time, usually 12 months. The treatment of short- and long-term incentives may need more development within the PSA, as you and the seller should agree on the methodology and responsibility for measuring against performance targets and paying incentives earned during the transition year, if any. In addition, you may need a specific retention strategy for key employees if stock-based incentives vest under change in control provisions and those employees receive large payments. In any situation, you will need a strategy for resetting and communicating performance programs post close.
Work schedules should also be evaluated as they relate to employee compensation. Finding efficiencies is often a priority when looking to maximize deal value. However, when employees are used to receiving a certain amount of overtime pay, a modification to work schedules eliminating overtime may create otherwise unforeseen retention issues. You need to understand all pay components for the acquired employees, including pay practices.
You must address the existence of any collective bargaining agreements and any successor employer obligations. If all or some of the acquired employees are part of a union, you may passively inherit some of the bargained obligations. You should review these agreements carefully.
In addition, you need to review any individual employment agreements and any change in control provisions that may be triggered and payable by the buyer.
Commitments for you to provide severance benefits to the acquired employees should be carefully considered as well. Severance plan documents should be reviewed if you are to provide a severance benefit under the same terms as under the seller’s plan. This type of language in the PSA may obligate you for a longer period than anticipated. In addition, some severance plans stipulate the trigger or payment of severance benefits upon a change in the employee’s reporting structure. You must fully understand your obligations under the PSA, and the PSA should reflect only the obligations you are comfortable complying with.
You should never agree to PSA terms that require you to provide the same benefits after the acquisition as were provided by the seller. It is very difficult and may be impossible for you to comply with this type of requirement. It is reasonable for you to agree to provide a comparable benefits program or similar benefits options. In some cases, you may be restricted from requiring a higher employee contribution for benefits for a specified period.
The treatment of employees who are not actively at work on the close date is one of the most important concerns that should be addressed in the PSA. Any employee who is hired, including through acquisition, must be actively at work on the hire date to be covered under the benefit plans. Further, an employee’s dependents (spouse and/or children) must also be considered non-confined on the date life insurance coverage is to be effective; otherwise, it becomes effective when the dependent is no longer under inpatient care or confined to the home by a physician.
The treatment of medical deductibles and out-of- pocket maximums that have been met for the current year are an important transition consideration. If you are willing and able to recognize these amounts under your medical plans, you must confirm that your plan administrator can accept the information and that the seller’s plan administrator can provide the information in an appropriate format. This can be complicated if your and the seller’s plans do not accumulate deductibles and out-of-pocket maximums on the same 12-month basis. Another frequently used approach is for the buyer to recognize the accumulated amounts, but require that the employees provide documentation to the plan administrator in the form of explanations of benefits (EOBs) from the seller’s plan. The EOB is the document the insurance company or claims administrator provides to the employee to explain the way his or her claims have been adjudicated under the medical plan.
Pre-existing condition exclusions under medical plans still need to be taken into consideration, at least until health care reform requirements are in full effect. You should obtain copies of Certificates of Creditable Coverage to credit employees for prior coverage. These are generally provided by the seller or its plan administrator for the entire transitioning population. If the acquired employees do not enroll within 31 days of the benefits effective date, late entrant exclusions may apply. Limitations on major dental services may apply to new participants under your dental plan as well.
Transition of medical care is another employee concern that needs to be addressed in early communications. You should confirm with your medical plan administrator that transition of care will be provided to new participants from the acquisition who are currently under treatment (e.g., pregnancy).
If employees will experience a major change in provider networks (e.g., Cigna to Aetna), you may want to conduct a geo-access analysis of the number of providers within a reasonable distance from the acquired employees’ homes under the new network. A disruption analysis may also be reviewed to identify physicians seen by acquired employees and not included in the new network. Depending on the size and nature of the acquisition, you may consider changing the plan for existing employees, as well as those acquired, to optimize it for the new population.
You should anticipate that there will be differences between your prescription drug plan and the seller’s that may create some disruption. All pharmacy benefit managers (PBMs) develop their own prescription drug formularies; therefore, copays for certain prescriptions may differ in nature (e.g., more expensive tier 3 versus less expensive tier 2 treatment for the same drug). In addition, acquired employees need to be informed that they will be required to provide new prescriptions from their doctors as new participants in your medical plan.
Most, if not all long-term disability plans include a pre- existing condition exclusion. This exclusion is applicable to all employees who become eligible for coverage under the plan, including employees hired through acquisitions. You may request that your long-term disability carrier waive the exclusion for an acquired population; however, proof of prior disability coverage is typically required before the underwriter will consider the request.
As part of the transition, you and the seller will need to address the treatment of health care flexible spending arrangements. There are permissible methods under which contributions and reimbursements can continue without interruption.
It is generally in your best interest to streamline the process for acquired employees to roll over 401(k) account balances from the seller’s plan to your plan. The employees’ termination from the seller typically constitutes a distributable event which initiates the employee payment options under the seller’s plan, as well as loan payment requirements. Buyers often amend their plans to permit the rollover of loans and loan payments for acquired participants that roll over their entire account balances. Your plan should accommodate this type of rollover.
Another retirement plan consideration is the determination and funding of any profit sharing contribution that would have been payable to employees, had it not been for the acquisition. Will the seller agree to make a mid-year contribution to its plan during the transition year for these employees? Will you be required to make a contribution to your plan? Keep in mind that you can only make a contribution to your plan based on earnings you have paid to employees; earnings paid by the seller cannot be included in the calculation under your plan.
Acquired employees will be very concerned about the transition of paid time off, vacation and/or sick leave, including banks of time that the seller may allow them to carry over. Understanding the differences in your and the seller’s leave policies and having a transition plan before the close date is critical to reducing employee disruption and managing expectations.
Tuition reimbursement is another transition that may require a management decision. It will be up to you to decide if you will reimburse acquired employees for courses that were approved under the seller’s tuition reimbursement policy prior to the close date and completed after close.
Aligning pay periods and pay dates can create disruption commensurate with the significance of the changes. Employees will need to understand what periods are included on each pay date and will want confirmation that the transition does not result in a loss of pay or overtime.
Prior to close, HR and/or payroll personnel will need to train acquired employees and supervisors on the methods used to track, report and approve time worked and leave time.
Finally, you may want to update your payroll system to monitor the combined (buyer and seller) year-to-date 401(k) contributions and earnings limits for acquired employees, to mitigate the need for refunds and to remove the reporting onus from the employees.
EBS has extensive experience supporting buyers and sellers with employee matters, compliance and culture development and integration during mergers, acquisitions, spin-offs, start-ups and many other types of business transactions. Please contact us at 713-629-9666 for more information.
EBS is one of the nation’s premier boutique human capital consulting firms. The company provides solutions in a variety of human capital-related fields, including health and welfare, human resources, global solutions, mergers and acquisitions, retirement, communications, business intelligence survey data, pharmacy, benefits administration and wellness. EBS specializes in developing programs that maximize clients’ return on human capital investment while enhancing their employees’ perception of benefit plans and the employment experience.