The closing memorandum

The parties to an acquisition may want to revisit the terms of the agreement for several years after the deal has closed, if only to understand why certain terms were included in the agreement. However, a purchase agreement is essentially a collection of clauses involving such matters as payment terms and assertions – it does not provide a narrative regarding why certain clauses were included or excluded. Such additional documentation can be useful for interpreting the intent behind the wording used in the agreement.

This additional documentation can be assembled into a closing memorandum, which documents general background information on the transaction, including descriptions of any unusual issues that were addressed, decisions made, and why they were stated in a certain way in the purchase agreement.

 The closing memorandum is usually written by the attorneys working for the acquirer, since the acquirer usually controls updates to the purchase agreement. Thus, the memorandum is written from the perspective of the acquirer, not the seller. This viewpoint may exclude additional information that might have put a different slant on the statements made in the closing memorandum.

Following are sample notes that might be included in a closing memorandum, and which give some idea of the type of narrative to include in it:

Stock compensation provisions: The three owners of Armadillo Security Armor (“Armadillo”) were concerned about the variability of High Noon’s stock price, since changes in the price over the past three months could have altered the stock consideration paid to them by as much as 30%. The parties included the following features in the purchase agreement to allay these concerns:

- The number of shares issued on the purchase date was based on the weighted-average price of the stock during the 20 preceding business days.
- A true up provision was included, under which the number of shares would be adjusted upward as of six months after the effective date of the agreement, but only if the weighted average stock price for the five business days prior to the adjustment date was at least 10% lower than the price used for the initial issuance of stock. Thus, any change in the stock price of less than 10% would not trigger the true up provision.
- The owners of Armadillo were granted a put provision for 10% of their shares in High Noon, which they could exercise at any time after one year from the effective date of the agreement, which High Noon would have to purchase in cash, based on the weighted average share price for the five business days preceding the put date.

    Warrants: Armadillo had issued a large number of warrants to its suppliers, which it considered necessary in order to secure capacity during peak demand periods. The parties agreed to convert these warrants into High Noon warrants, using an exchange ratio of 3:1 (Armadillo warrants to High Noon warrants). The exercise price for each warrant was set at the weighted average market price of High Noon stock for the five business days immediately prior to the purchase date, which was $11.80.

    Representations and warranties: The owners of Armadillo refused to indemnify High Noon for the outcome of any legal proceedings, on the grounds that the three legal actions currently in progress were so recent that it was impossible to quantify their results. High Noon elected to proceed with the purchase agreement despite this issue.

    The closing memorandum can be included in the closing binder, along with the more formal purchase agreement; it is more readily accessible in that location. However, being adjacent to a formal legal agreement does not mean that the closing memorandum can be construed as a legal document that is in any way binding. Instead, it is only useful as a narrative that may be used as background information for an amicable settlement of differences over the interpretation of the purchase agreement. As such, the closing memorandum is not by any means a required part of the acquisition documents, but it can be useful.