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How Negotiated State and Local Incentives Impact M&A Transactions

January 27, 2022

Mergers and acquisitions are happening in record numbers, and states and localities are working hard to encourage investments. Those two dynamics combined make state and local tax incentives a key factor in analyzing the net value of any prospective investment. When it comes to the acquisition or sale of a business, incentives can be easily overlooked in the many moving parts of a deal. But that could mean improperly assessing a company’s worth – for better or worse.

Incentives can come in many forms, including income tax credits, payroll tax credits, cash grants, free land, property tax abatements, or even infrastructure enhancements. A company’s investments that generate these incentives can also encompass a wide variety of activities. They can range from opening new facilities or relocating a headquarters to making equipment purchases and expanding payroll in new or existing markets. Investments generally will result in incentives of some sort, but they may be merely a footnote to any news release.

Incentives may require a formal agreement with a jurisdiction or simply be available as a matter of state statute. In either case, proper review of the supporting documents or laws should be completed during due diligence. Legal counsel should generally be consulted regarding the transferability or assignability of the incentives. And it should be determined whether an assignment notification to the respective jurisdiction is mandatory. If a buyer unknowingly moves jobs to another jurisdiction or shuts down a facility, the authorities may have the right to a clawback of some or all of the benefits that the business had received under the agreement. If the incentives weren’t addressed during due diligence and accounted for in the contract, then both parties could find themselves subject to unnecessary loss of benefits and potential litigation.

Many transaction advisors are adept at examining tax returns and accounting records to identify potential issues with sales, income, and property tax. However, incentives often require a different level of review. Here’s why:

  • The nature of incentives is that many are recorded in agreements with state or local authorities. These agreements and the resulting income, credits, grants, etc. may not show themselves on the face of typical filed forms, schedules, or financial statements, so it requires a deeper dive into the makeup of unspecified or miscellaneous accounts.
  • Multijurisdictional businesses often offer a level of autonomy to the management of different locations, which could result in each location negotiating incentives independently. These incentives may not be deemed substantial enough to report to headquarters.
  • Incentives are often tied to payroll, training, or other forms of personnel investment, making local human resource leaders some of the most knowledgeable resources a business may have on incentives. Given that M&A transactions tend to be negotiated by C-level executives, the local resources with the best insights on incentives may not hear about a transaction until after a deal is closed.

There are many complexities and considerations during the transaction of a business. Incentives rarely are the driver of a transaction, but they can either increase or diminish an acquirer’s return on investment. Whether it’s in preparation for a business being put on the market or on the buy side performing transactional due diligence, efforts should be made to identify all of the business’s incentives from a state or locality. The parties need to know how those incentives may benefit the acquiring business, what obligations will continue on with the incentives (including ongoing compliance), what applicable clawbacks may apply, and the penalties that will be incurred if the business fails to meet those obligations.

If you need help evaluating incentives in your deal or want to maximize your business’s potential for incentives, contact your KSM advisor or complete this form.

Jennifer Miller Partner, Transaction Advisory Services

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