M & A watch — evaluating the ‘Virtual Merger’

Mergers and acquisitions are big business, not just for the companies involved in the transaction but for all the ancillary parties: investment banks, financial planners, accountants, mergers and acquisitions (M&A) consultants, and attorneys. The objectives of a merger are typically to cut costs, increase market share and boost profits.

Despite the best intentions of all parties, however, mergers frequently don’t go as planned. America Online’s purchase of Time Warner to form AOL Time Warner in 2001 is perhaps the most famous disaster, with a declared loss of 99 billion in the year following the transaction. Indeed, telecommunications and tech company mergers are particularly fraught, with the 35 billion dollar Sprint and Nextel acquisition another prominent example after mass layoffs and a 33 billion write off in the years following the purchase.

No surprise then that in the borderless and transient blockchain world some consider the traditional merger anachronistic and suggest a ‘virtual merger’ (VM) as a better option. Here two companies form a symbiotic relationship — aligning their businesses to more effectively achieve common objectives — while each company retains its own staff, IP and financial independence.

“The cost of implementation of our virtual merger is a tiny fraction of the legal and other fees associated with a traditional merger."
— Bob Reno, chairman, Optimal Outcome Solutions

“The term virtual merger describes the relatively recent phenomenon of independent entities entering into contractual arrangements that are functionally, but not legally, equivalent to actual mergers,” says Bob Reno, chairman of Texas-based high-end data analytics company Optimal Outcome Solutions (OOS), who are entering a VM with Romanian blockchain financial services company Tera Vera. “The cost of implementation of our virtual merger is a tiny fraction of the legal and other fees associated with a traditional merger.”

Dominique Michael Bellemans, Tera Vera CEO describes the deal as “all about two businesses combining just their best features and strengths, [and] making optimal use of the best minds from both to make up for shortfalls in the individual entities’ skill-sets.” He says the VM has seen the rapid development of new licensable financial insight tools aimed the professional investment sector, that neither company could easily have produced on their own. “It’s quick, dynamic and efficient,” says Bellemans.

To a casual observer, the VM appears to possess many of the attributes of a joint venture, with the main difference being that in a joint venture a new separate co-owned company is created while the two original companies continue to exist on their own. In a VM no new entity is created (and its associated overhead is avoided) and instead, management of both companies democratically set common benchmarks and interrelations —  integrating only the assets, operations, enabling technologies and know-how that are required to achieve their common goals.

A virtual merger between entities from different legal jurisdictions can also enable both to benefit from the specifics and advantages of each other’s jurisdictions. In the case of the Tera Vera/OOS VM for example, Belleman says Texas offers impressive facilities, benefits, and support for private placement operations, while Romania has an attractive tax regime for licensing revenues (taxed at only 1% up to 1 million Euros annually).

While there is no bright-line definition of a virtual merger, they usually involve the shared use of assets contributed by each of the companies. The two companies remain legally independent, each with its own directors, officers and shareholders. According to Stuart R Cohn of the University of Florida College of Law the conditions of a virtual merger typically involve:

• A significant portion of business operations of at least one of the two entities;
• Result in a joint management unit that directs the use of the assets contributed by each of the respective companies
• Permit either party to withdraw from the arrangement without penalty and
• Permit the parties, following withdrawal, to (i) reclaim their respectively contributed assets or (ii) effect a buyout of the withdrawing company’s interest, which would include the contributed assets.

In 2013, online travel agent Expedia’s agreement with rivals Travelocity was considered a virtual merger which saw Expedia provide all content and technology for the smaller company. At the time the companies termed it “a long-term marketing agreement”. The partnership gave Expedia control over half of the $40 billion US online travel bookings market, which, if the company had made an offer to take over Travelocity outright, might have been met with regulatory objection on grounds of competition. In 2015, however, Expedia did officially acquire Travelocity for $280 million.

Application in the blockchain industry

In the nascent blockchain industry where due diligence of companies and the viability of their products is difficult to gauge using traditional metrics, advocates of virtual mergers say that subsuming intellectual properties and operations makes more sense than trying to allocate a value and acquire them outright.

Because there is no transfer of ownership or shares between companies, virtual mergers preclude shareholder approval which, in the case of publicly listed companies, could lead to disgruntled shareholders unhappy with the deal selling their holdings and crashing the share price. In the unlisted world of blockchain companies this isn’t as big a concern.

So how does a virtual merger differ from a traditional merger?

• It is governed by contract without reference to statutorily determined procedures or consequences
• A VM does not result in the absorption of one company by another
• A VM does not result in cash-outs or exchanges with either shareholding group; where regular mergers are often contested and brought to court by significant shareholders

Reduced legal costs

While it would not be reasonable to say input from a lawyer is not required when undertaking a VM, it is fair to say the legal footprint of a VM deal is a much smaller one than would be apparent with a traditional merger, acquisition or joint venture. In terms of legal documents, most VMs could be wrapped up with a Letter Of Intent and/or a Memorandum of Understanding, (MOU) with specific attention to clauses relating to confidentiality, non-solicitation (of staff and clients) and intellectual property ownership.

What is important to remember for businesses considering a virtual merger, though, is that if things don’t work out, MOUs are legally ‘lite’.

While they do illustrate the shared intent of their signatories, they do not impose a strict legal commitment or liability on either party, and in general they are not enforceable in court. The bottom line being that parties should choose who they virtually merge with carefully, as in reality these deals can only work while there is mutual goodwill and shared objectives between the participants. Should any of those fundamentals change, there are few options for legal recourse for either party.

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The recent tidal wave of ICOs has seen billions raised but precious little so far in the way of products and services delivered. One reason for this may be that core devs are being sidetracked assembling all the components of a ‘real’ business — and losing focus on their grand vision.  One potential solution for these stalled projects, say some, is the ‘virtual merger’…