BUSINESS ACQUISITIONS

PURPOSES FOR CASH OUT MERGERS • To “Freeze Out” Minority Shareholders • As a Follow-Up to a Tender Offer and Purchase of a Majority of the Target’s Stock • To Eliminate Recalcitrant Shareholders • In order to Eliminate the Necessity of Negotiating with Each Shareholder (and their Lawyers) in the Context of a Stock Acquisition

CASH MERGER TRANSACTIONS • The Target is merged with and into the Acquiror (or its subsidiary), with the Target’s Shareholders receiving cash (or other property, such as notes). (Forward Merger) • A subsidiary of the Acquiror merges with the Target, with the Target surviving, the Acquiror receiving stock of Target and the Target Shareholders getting cash (Reverse Subsidiary Merger)

FORWARD MERGER • In a Forward Merger, the Buyer (or the Buyer’s Subsidiary) is the Surviving Corporation to the Merger • The Assets & Liabilities of the Target are Transferred to the Buyer (as the Survivor to the Merger), and the Targets’ Shareholders get Cash. • For tax purposes, a Forward Cash-Out Merger is treated as a sale of the assets of the Target to the Buyer, followed by a liquidation of the Target (the same as an asset sale transaction)

S-H’s Cash Stock Buyer Target Merger Forward Merger

S-H’s $$$ Buyer Target’s Assets & Liabilities As a Result of the Merger, Target’s Assets & Liabilities are Absorbed within Buyer & Target Corporation Disappears

Buyer S-H’s Cash Stock Buyer Sub Target Merger Forward Merger Using Subsidiary

Buyer As a Result of the Merger, Target’s assets and liabilities are acquired by Subsidiary of Buyer SUBSIDIARY (all of the assets and Liabilities of Target) Forward Merger Using Subsidiary

REVERSE CASH-OUT MERGER • Target Merges with a Subsidiary of the Buyer, with the Target as the Surviving Corp. to the Merger • For tax purposes, treated as though stock was purchased for cash • Capital Gains Treatment for Target S-H’s • Buyer, through the Target Sub, acquires all tax attributes of the Target • No step-up in tax basis of Target’s assets • All assets and all liabilities of Target are now in wholly owned subsidiary of Buyer

S-H’s Stock Buyer Cash Cash Target SUB Merger Reverse Cash Merger

S-H’s $$$$ Buyer Stock Target As a Result of the Merger, Target is wholly owned sub of Buyer and the Acquisition Sub disappears.

TRIANGULAR MERGERS • Use of a Subsidiary of a Corporate Acquiring Parent Corporation • In the Context of a Reverse Cash-Out Merger, the Acquirer purchases the Stock of the Target, and the Target becomes a Subsidiary of the Parent.

FREEZE OUT MERGERS • To eliminate minority or recalcitrant shareholders • New corporation formed by continuing shareholders • Merger of old corporation with new corporation • Continuing Shareholders receive shares of stock in surviving corporation to the merger • Non-continuing shareholders receive cash payment equal to the "fair value" of their shares

DISSENTING SHAREHOLDER APPRAISAL RIGHTS • Under state law, Shareholders dissenting to the merger have the right to have their shares appraised in a court proceeding. • The shares are appraised at "fair value" • If the appraised fair value of the shares is higher than the merger consideration, the higher price is paid to the dissenting shareholders. • (e.g., DGCL §262, Mo.RevStat §351.455, MBCA §13.02)

CHOICE OF ENTITIES • Sole Proprietorship (a pass through entity) • C Corporation (a taxable entity) • General Partnership (a pass through entity) • Limited Partnership (a pass through entity) • Limited Liability Company (a pass through entity) • S Corporation (a pass through entity)

Limited Liability Company • A Limited Liability Company (LLC) May Choose to be Taxed as a Partnership • Unlike a Partnership, there is Limited Liability to its Equity Owners under State Law • A Partnership is a Pass-Through Entity • No Tax is Incurred at the Partnership (LLC) Level • The Partners (i.e., the LLC Members) Incur the Tax on the Sale of the LLC Assets.

Limited Liability Company NO TAX TAX MEMBERS Members are Taxed

AS A CONSEQUENCE • Upon Either a Sale of Assets of the LLC or a Sale of Membership Units of the LLC, there is no tax at the LLC level. • There is a tax incurred at the Member Level based upon individual tax rates (including capital gains rates for individuals) • Upon a purchase of the Assets of the LLC, the Buyer gets a Step-Up in the tax basis of the Assets it is purchasing.

LLC Target The Target Incurs No Tax Tax Consequences Passed Through to Members Members TAXED Tax Liabilities BUYER Step-Up In Purchased Assets TARGET LLC No Tax Assets PurchasePrice $$$

§754 Election • Allows Buyer to Purchase LLC Membership Units and Obtain Step Up in Assets • All of the Partners or Members Must Agree to the Election • Can be Used to Obtain Goodwill, Which can Be Amortized over 15 Years

Members TAXED Membership Units BUYER $$$$ TARGET LLC Step-Up Tax Basis of Assets

S Corporation • An S Corporation Generally Pays No Tax at the Corporate Level. • Shareholders Are Taxed on the Earnings of the Corporation. • No Tax on Dividend Distributions of Previously Taxed Income • If Corporate Assets Are Sold, There Is Usually Only One Tax, at the Shareholder Level.

S Corporation Requirements • Shareholders must be U.S. Resident Individuals or certain qualifying trusts (QSST’s). • Corporations and Partnerships do not qualify as shareholders of S Corp. • But a wholly owned subsidiary of S Corp can elect S status (QSS). • Election must be made by all shareholders • No more than 75 Shareholders • Corporation must have only one class of stock – voting and non-voting common stock

C CORPORATION Taxable Income Income Tax DIVIDEND Income Tax SHAREHOLDERS

S CORPORATION Taxable Income No Income Tax • Taxable Income Taxed to S-H’s • No tax on Dividend of Previously Taxed Income Taxable Income Income Tax SHAREHOLDERS

Shareholders TAXED Double Tax C Corp Target Liabilities BUYER TARGET C Corp. TAXED Assets Purchase Price

S Corp Target The Target Incurs No Tax Tax Consequences Passed Through to Shareholders Shareholders TAXED Tax Liabilities BUYER TARGET S Corp No Tax Assets Purchase Price

IMPORTANT EXCEPTION • If a S Corp elected S status within the “Recognition Period” preceding the sale, there is a built in gains tax (BIG) incurred on the difference between the value and the tax basis of the sold asset (determined at the time the Corp. converted to S status). • In general, the Recognition Period is ten years. • The 2009 Recovery Act temporarily reduced the recognition period to seven years for tax years 2009 and 2010 and • the 2010 SBJA provides that dispositions by an S-corporation in tax year 2011 will not be within the Recognition Period if the disposition is more than five years after the corporation became an S-corporation • The BIG tax does not apply if Corp. was an S Corp from inception • BIG tax is at highest corporate rate (35%). • In effect, it causes some “double tax” upon sale of business assets.

ANOTHER CONCEPT§338 Election • It allows Buyer and Target to Elect to Treat Stock Sale Transaction as an Asset Sale for Tax Purposes • Benefits Buyer because §338 election allows it to get “step-up” in tax basis of acquired assets (including goodwill) • Usually Bad for Selling C Corporation, because of Double Tax (at Corporate Level and Shareholder Level • May be accepted by Target if Target has large loss Carryforward (from current or prior years) that can shelter the tax gain.

Special §338(h)(10) Election • Can Be Used on Stock Sales by S Corporations and Sales of Subsidiaries in a Consolidated Group of Corporations • Allows Stock Sale, With Only One Tax at Shareholder Level, While the Buyer Gets a “Step-up” in the Tax Basis of the Acquired Assets • Does Not Escape BIG Tax for S Corporations, If Applicable

Shareholders Capital Gains Tax Purchaser $$$ Target Stock • Shareholders of Target S Corp. Sell Target Stock to Purchaser. §338(h)(10) Election Treats Stock Sale as Asset Purchase • Purchaser gets Stepped Up Basis • One Tax at Shareholder Level (Unless Big Applies) Target S Corporation No Tax (Unless BIG Applies)

Purchase of Subsidiary • If a Subsidiary Corporation of a Parent Corporation is Purchased, §338(h)(10) can be Used. • Buyer gets a Stepped-Up Tax Basis in the Assets (including Goodwill) of the Target Subsidiaries Assets. • There is Only One Tax On the Transaction for the Parent Corporation

ACQUIRING CORPORATION $$$ Subsidiary Target Stock §338(h)(10) Election Target Subsidiary Deemed Asset Sale Tax Incurred at Parent Level, Not at Target Level Subsidiary Target No Tax @ Target Level

ACQUIRING CORPORATION §338(h)(10) Election Target Subsidiary Deemed Asset Sale Tax Incurred at Parent Level, Not at Target Level Stepped-Up Tax Basis for Target’s Assets Subsidiary Target No Tax @ Target Level Step Up Tax Basis

INSTALLMENT SALE • In the context of a stock sale, Target’s shareholders can sell stock in exchange for a note, and report capital gains income proportionately as the note is paid. IRC §453(d) • In the context of an asset sale by Target, the Target’s shareholders will get similar installment sale tax treatment it the note is distributed in liquidation of Target. IRC §453(h)

Shareholders Asset Purchase Note Liabilities BUYER TARGET Liquidation Assets Installment Note Shareholders Receive Installment Tax Treatment

ISSUES REGARDING INSTALLMENT SALE • What Is the Security for the Note? • What Happens Upon a Default? • Is the Note Subordinate or Superior to Other Debt of the Purchaser? • But a Promissory Note Can Have the Advantage of Interest Earned on the Before Tax Portion of the Purchase Price. • Interest is charged by the IRS on the tax that would have been paid at the time of the sale. That interest must be paid regardless of whether cash payments are received in the taxable year.

Net Operating Loss Carryforwards • Net Operating Loss Carry Forwards (NOL’s) for Unused Losses prior to the Acquisition Continue in the Context of a Stock Purchase. • NOL’s may be Used to Offset Built-In-Gains and Gains on Account of the Sale of Assets • The Use of NOL’s for the Buyer of Stock to Offset Future Taxable Income is Limited to the Annual Amount of the Value of the Target Times The Long Term Tax Exempt Rate (Currently about 4.5%).

NOL Limitations • The Annual Limitations Apply • if there has been More than a 50% Increase in Ownership by One or More 5% Owners Over a Three Year Period or a 50% Increase by all Owners of Less than 5%, or • There Has been a Tax Free Acquisitive Reorganization (A, B or C) Causing a 50% change in Ownership • Pre-Acquisition Losses May Not be Used If the Acquirer does not Continue the Business of the Acquired Business

EXPENSES OF THE TRANSACTION • Generally, the Costs for the Buyer and the Target are Capital Expenses, Not Tax Deductible • Legal Costs • Due Diligence • Issues Arise Regarding Such Items as Employment Contracts, Severance Pay, …etc.

Dispositions of Small Business Stock by Individual Investors • Under prior law, non-corporate stockholders were generally permitted to exclude from recognition 50 percent of the capital gain from the sale of Qualified Small Business Stock (QSBS) provided the stock was acquired at original issue and held for at least five years • A temporary increase permitted the exclusion of 75 percent of the capital gain from the sale of QSBS acquired after February 17, 2009 and before January 1, 2011. • The 2010 SBJA increases the exclusion to 100 percent of the gain from the sale of QSBS, but only for QSBS acquired between September 27, 2010 and December 31, 2010

BUSINESS ACQUISITIONS