One of the biggest decisions that both buyer and seller have to make (ideally in concert with each other) when working on a transaction is when to tell employees. Too early and you risk your workforce being distracted unnecessarily and competitors positioning to take advantage of the uncertainty (and rumours). And what happens if the deal doesn’t close – there can be hard feelings and concerns over trust that need to be mended. On the flip side, if an owner waits until a day or so before closing, depending on the type of business (and the deal structure), it can be challenging for a buyer to complete their due diligence and ensure a smooth transition.
We typically recommend that no employees are told until an LOI and perhaps even an APA/PSA are signed to minimize the chances of a deal leak. Once the deal is agreed to, we work with vendors and buyers to identify who the key employees are and what role they may have in the deal. Ideally, it’s a small group (limited to a few key accounting, HR and operational team members) that are “brought in the tent” and they coordinate all diligence and integration activities until closing. In larger organizations where day to day roles are not likely to change, we don’t advocate telling employees until the day of or day after closing (if at all). We have done deals where only a few senior staff knew of the deal and because it was a corporate transaction, payroll and the like didn’t change. Employees only found out a year or so later when the new ownership began to take a more active role in the business.
All that being said, there are instances where a buyer would like to interview and discuss future plans with key operational staff that they view are critical to the business. In some cases, they want to offer and “lock-up” these employees with specific employment agreements and make this a condition of completing the deal. In many cases, these key employees are also owners (partial or full) which by its nature brings some alignment of interests. However, in the case of a non-owner, this becomes a delicate situation for sellers, as this gives the employee a tremendous amount of leverage with both buyer and seller because if they don’t agree, the deal could be in jeopardy. There are a few things we look at in these situations
- Is the employee being offered a compensation package at par or above what they are currently making?
- Is the employee being offered a promotion or increased responsibility?
- Is the employee’s core role being changed?
If it’s likely that the employee will view this transaction as a positive for their personal situation, then there is likely alignment between parties, but if the employee is disappointed with the new role, terms, ownership, etc., it can cause a sudden tri-party negotiation which increases deal risk.
We are going to take the sellers perspective on this scenario as they are the most exposed in this case. So what are a sellers options in a situation like this.
- The most proactive way to deal with this is for ownership (and their advisors) to identify this issue upfront and limit any sort of employment agreement to anyone with ownership interests. Relaying concerns to a buyer at the outset of a deal before emotions become amplified is often the best outcome for all parties. It’s very rare that an employee is so critical to the operations that a credible case can be made for their inclusion “or else” the deal is off, so we advocate hard for their exclusion and it’s usually during the early discussions that this can be easiest accomplished.
- If the buyer insists on an employee being included, then the most common solution is to “throw money at the problem”; meaning that both buyer and seller come to terms on an arrangement where the seller may subsidize an increase in salary, benefits, or bonus. The seller usually gives up a bit on overall purchase price (structures on this mechanic vary) and the vendor takes the risk that the new employee holds them hostage in any future negotiations based on their perceived value. It’s not an ideal situation for any party other than the employee but given most of these discussions are conducted under time pressures and are emotional, it’s the most common.
- Another common option is for ownership to have a hard discussion with the employee and their future with an organization pre-close. I want to pause to comment that these discussions are very delicate, and we strongly advise that ownership consult with HR and legal professionals when having these sorts of discussions. Legal responsibilities and employee rights vary between provincial and state jurisdictions and should always be considered so as not to inadvertently create a more difficult situation if the employee perceives they are being coerced or are at risk of being dismissed. This hard discussion will often outline the various scenarios of outcomes and explores the “what if” the deal falls through. The hard reality however is, especially if the transaction is an asset deal, that the employee can be let go (with appropriate severance) at close and sometimes all it takes is laying out the alternatives for an amicable resolution to occur.
The key terms to most employment agreements are fairly straight forward – wages and bonus’, benefits, vacation, etc. as well as standard behavioural clauses (e.g. confidentiality, IP considerations, termination clauses). One item that does come up that can be contentious and often misunderstood are non-compete clauses. For owner/operators, these can be quite lengthy (3-5 years post leaving the business), but for employees they become more nuanced. Ask five labour lawyers their thoughts on terms and enforceability of non-compete clauses and expect to get ten different opinions. The general rule we adhere to is the longer the clause, the less likely it can be enforced. Most Canadian and US labour lawyers agree that the general consensus of the courts on enforceability is that if you are asking for a non-compete, then there has to be reasonable compensation for that time away. Another way to look at it is an employee can’t (knowingly or not) “sign away” their right to earn a living. We have seen 6 month to 1 year agreements (with severance aligned to that period) for employees, but rarely longer. It’s an important item to discuss through with employees as they may need some time to really understand the implications of such clauses.
In summary, when looking at selling your business, take a brutally honest assessment of your business operations and who, if any, of your staff are truly irreplaceable. If you can identify that early, there may be mitigation tactics you can take to reduce any employee complications during a sales process.