An M&A Must: A Pre-Sale Legal Audit Can Set Up A Successful Sale

Sellers of staffing firms have one chance to get it right. Getting the process wrong at best can reduce the value they get from the sale of their firm. At worst, getting it wrong can lead to the sale falling through, losing the seller millions of dollars.

Much like having your house inspected prior to putting it on the market, sellers are advised to conduct operational and financial audits of their firms ahead of putting their business on the market in order to address any shortcomings. In my last post, I discussed the often overlooked — but equally vital — legal audit. A seller’s legal audit prior to going to market identifies legal problems and vulnerabilities that may exist in its business and becomes a roadmap to fix those problems and reduce those vulnerabilities in advance of sale.

A presale legal audit should include the following inquiries:

1. A review of the seller’s onboarding systems with particular attention to having in its files properly completed and maintained Form I-9s for all employees; authorization forms and procedures that comply with the Federal Fair Credit Reporting Act and similar state and local laws; application forms that comply with federal, state and local discrimination laws, so-called “ban-the-box” laws, and a myriad of other regulatory requirements. Deficiencies in Form I-9 compliance and in Fair Credit Reporting Act compliance are major areas of legal exposure for many staffing firms.

2. If the seller uses independent contractors, is such use legally compliant? If the seller is an IT or engineering staffing firm, does it use best practices to assure that its corp-to-corp relationships are legally compliant? Misclassification audits and lawsuits (including class action lawsuits) are one of the areas of greatest legal exposure for many IT and engineering staffing firms.

3. Is the seller in compliance with U.S. immigration laws for all of its workers who are not US citizens?

4. Are the seller’s employees being paid in compliance with applicable wage and hour laws for the hours they work and is overtime being correctly calculated and paid to all employees that do not qualify for exemption from overtime? This includes both staff employees and billable temporary employees.

5. Does the seller have appropriate and enforceable intellectual property and employment agreements with its staff employees and billable temporary employees that protect, to the maximum extent permitted by law, the confidential information of its business and provide for restrictive covenants when employees leave or consulting assignments end?

6. Does the seller have well-crafted and enforceable management retention agreements with its key employees that comply with Internal Revenue Code Section 280G?

7. Does the seller have adequate security systems and policies in place to protect against the unauthorized downloading or destruction of its databases by employees, and to protect against malicious intrusions by third parties?

8. Are all of the seller’s customer contracts of sufficient quality to limit its liability and to sufficiently compensate the seller if a customer, MSP, or VMS hires one or more of the seller’s assigned temporary employees or transfers them to another staffing firm?

  • Does the seller have in place a high quality form customer contract?
  • Does the seller have in place standard negotiating points to use in response to overreaching customer contracts?

9. Does the seller have appropriate insurance in sufficient amounts to cover the risks of its business (including professional liability/E&O insurance, employment practices liability insurance, and cyber insurance), and all insurance required by any customer contracts?

10. Does the seller have a quality and legally compliant handbook and social media policy for its staff employees and billable temporary employees that has recently been updated? Handbooks need to be updated periodically as a result of frequent changes in federal, state, and local laws, and court decisions interpreting applicable laws.

11. Is the seller, and are the other contract parties, in compliance with all of the seller’s contracts?

12. Does the seller have ongoing litigation or threatened claims that can be settled on commercially reasonable terms? Are there outstanding judgments or liens against the seller’s business?

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13. Is the seller in compliance with federal, state, and local laws where its business is located, where its staff employees work, and where its billable temporary employees work? Does the seller have anti-discrimination and anti-sexual harassment policies and training programs to minimize the risk of claims, and do such policies and programs meet the requirements of applicable laws?

14. If the seller is in the light industrial space, does it have appropriate systems in place to minimize worker injuries and reduce its workers’ compensation experience rating?

15. Is the seller in compliance with its coverage and reporting obligations under the Affordable Care Act?

16. Is the seller qualified to do business in every state in which it has an office and in every state in which its billable temporary employees physically work? Does the seller have all required licenses and governmental approvals from any state or locality that requires its business to be licensed or approved?

17. If the seller is in the healthcare or homecare space, do its billable temporary employees have the valid licenses, registrations, and certifications they purport to possess and which are required for the work they are assigned to do?

18. Are all of the seller’s tax and corporate filings up to date? Has the seller paid all taxes that are due (including state and local taxes required by each jurisdiction in which it does business) and established adequate reserves for all accrued taxes that are not yet payable?

19. Does the seller have signed written contracts (and applicable extensions) with all of the customers with whom it does business?

20. Does the seller know which of its contracts require consent for their assignment to a buyer or to a “change of control” of the seller’s business, and whether such consent can readily be obtained?

21. Are the seller’s employee retirement/401(k) plans properly structured, fully funded, and legally compliant based on IRS rules regarding coverage and nondiscrimination?

Conclusion

Prospective buyers will be searching for problems in all of these areas, and more. When found, those problems can result in changes to the purchase price and payment terms, and may even result in the buyer walking away from the deal.

A legal audit will take time to conduct and corrective changes will take time to implement. If you are planning to sell your staffing firm, you should conduct a legal audit at least six months before bringing your business to market and, preferably, at least a year before going to market. Action today will put you in the best position to obtain maximum value for your business and to negotiate a more successful transaction tomorrow.

And, by the way, best practices suggest that staffing firm owners do periodic legal reviews of their businesses to manage day-to-day risk in today’s heavily regulated and litigious environment, even if a sale is not presently contemplated.

 

Paul Pincus

Paul Pincus
Paul H. Pincus is an M&A attorney and a partner with Ortoli | Rosenstadt LLP, where he concentrates on mergers & acquisitions, corporate law, contracts, and employment law for the staffing industry. He can be reached at php (at) orllp (dot) legal.

Paul Pincus

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