Note...

Below, we have included commentary and a summary of the background knowledge needed to answer the case study questions in blue. Our model answers are then in black. We've included more detail than you would need to in a 45 minute case study, just to ensure we're also providing opportunities to consolidate your understanding of key technical/commercial topics. Don't worry if your attempt at the case study isn't as long/detailed.

The email from your supervisor neatly lays out the key questions that you must address in your presentation. Many law firms will structure their case study/exercises like this. 

1. Keep an eye out for questions throughout the case study/materials that you may need to address in your presentation. 
2. Also consider whether you might need to summarise back the facts and key issues (for the purposes of this case study, this isn't necessary).

You must remain flexible when approaching case study/presentation exercises. Questions may not be nicely laid out for you and they may be placed in an order that is intentionally challenging. Do not feel like you have to address the questions in order; you should create your own structure that allows you to address the questions in the most efficient and clear manner.

1. Reasons for and against the acquisition

The first question simply asks ‘should Panacead go ahead with the transaction? What are the reasons for and against?’. 

This question is testing your critical thinking skills and your judgement. Your task is to weigh up the commercial, legal, and financial advantages and disadvantages surrounding this transaction and come to a decision as to whether it is beneficial for the acquirer, Panacead. 

You must note that these reasons for and against the transaction will be relevant for your answer to question three as they will inform whether you will advise pursuing a sale purchase or an asset purchase. Consequently, although this commentary is written in answer to the questions in order, you may find it more practical to structure your presentation such that you answer questions one and three together.

Reasons for the transaction

The key reasons for the transaction are as follows:

Revenue synergies  

• The synergy between Panacead’s Permorbus and Krynoxi’s Introdisem as one packaged product.
• The opportunity for further synergies between Panacead’s future products and the Introdisem technology.
• The opportunity for Panacead to acquire the rights to Introdisem and sell the product to other pharmaceutical manufacturers.

Cost synergies 

Panacead will reduce its costs and save money in the long-run by purchasing Krynoxi outright as opposed to purchasing their product for each usage.

• Almost all M&A transactions include some potential cost synergies (e.g. savings by pooling resources and making redundancies where necessary to remove overlap between the two companies’ IT, human resources, finance, and legal functions). This is a boiler-plate point which you can invariably include in your assessment of potential synergies. 
• You should note that there may be public relations reasons why companies may not take advantage of the full scope of potential cost synergies because of the controversy that this may cause amongst their customer base. This is more likely to be the case for direct-to-consumer businesses (e.g. the proposed Sainsburys and Asda merger)

Summary of reasons in favour of the transaction  

Clearly, there are strong commercial and financial reasons for the transaction. As detailed in Panacead’s internal memorandum,  there are substantial synergies between Krynoxi’s Introdisem and Panacead’s Permorbus, most notably, the reduction of side-effects. 

Additionally, Andy Taft indicates in his emails to Karen Norris that the Introdisem equipment could be packaged and used in conjunction with some of Panacead’s other drugs, and that with future research and development, there could be wider applications for Introdisem technology.

Furthermore, this acquisition would give Panacead the exclusive rights to Introdisem’s manufacture and licencing. By Panacead manufacturing Introdisem themselves, they are likely to save money in the long-run because they can manufacture the product at cost price, rather than incorporating a margin in the price that Panaced pays to Krynoxi. 

There is scope to generate further revenue by selling Introdisem to other pharmaceutical companies, but we have not seen any data or evidence that demonstrates this in the materials provided.

Reasons against the transaction

The key reasons against the transaction are:

• The up-front cost of buying Krynoxi outright will presumably be quite expensive.
• The impending litigation against Krynoxi by its Chief Research and Development Officer, Ms Joanna Smith.
• The high likelihood of Ms Smith leaving Krynoxi, meaning that Panacead will lose out on important expertise.
• Krynoxi’s mines and factories in Mozambique which have been alleged to be engaging in bribery (with additional suggestions of unethical working practices).

The first point is an obvious one: any purchase of a successful drug manufacturing company will not be cheap. While certain financing may be arranged to help with the purchase, there is still a major cost to buying Krynoxi. 

Points 2 and 3 surround the alleged sexual discrimination in Krynoxi. The litigation poses a financial risk to Panacead, as, if they were to acquirer Krynoxi, they would be liable to paying the costs of the lawsuit as the new owner of Krynoxi. 

Additionally, and perhaps more importantly, it seems likely that Ms Smith would want to leave Krynoxi as a result of the alleged discrimination. This is problematic as it is likely that Panacead would want to retain Krynoxi’s employees for their expertise given that Panacead manufacturers drugs and not equipment. 

The fourth point is an issue because if Panacead acquirers Krynoxi, it will take on their liabilities and obligations (as with point 3). Consequently, if there are such illegal and unethical practices occurring, Panacead is taking on a large financial and reputational risk (and even potential criminal liability).  This is because anti-bribery legislation such as the UK’s Bribery Act 2010 have extra-territorial effect and will include offences committed overseas if a UK-based company is involved.

This commentary will explain these points in greater depth when addressing questions three and four and detail how the points against the transaction could be mitigated. You can stand out in assessment centres by identifying next steps that the company can take to mitigate disadvantages like this.

2. The choice of debt or equity financing

Importantly, a case study/presentation is a chance for interviewers to test your technical knowledge. Hence, knowing the advantages and disadvantages of debt and equity financing will be essential in many of your assessment centres. However, more crucially, you must also be able to analyse a commercial context and recognise whether debt or equity financing is most appropriate; in essence, you must be able to apply your theoretical knowledge in a practical scenario.

You will not be expected to know intricate details of the differences between debt and equity financing, but you are expected to have some basic knowledge about how the two work and their key differences. Below, we have set out some of the following main points to keep in mind. Debt v equity is covered in more detail in our Mergers and acquisitions course.

Aside from a few specific points, the table above summarises the generic advantages and disadvantages for debt and equity financing. To really stand out, it’s helpful (but not always necessary) to explain the specific types of debt and equity financing. In summary, for debt financing, you should have a decent knowledge of:

• Bank loans.
• Bond issuances.

For equity financing, you should know about:

• Initial public offerings (IPOs) and subsequent share issuances.
• Private equity investing.

Returning to the case study at hand, there are several indicators which provide evidence for (or against) the financing options listed above.

Debt financing: bank loan     

First, there are some suggestions that debt financing, in the form of a bank loan, can be a viable option. 

• In one of Karen’s emails to Jane, Karen brings up the question of financing the deal. She highlights that Panacead ‘has had some great relationships with the banks’ and has previously taken out bank loans. 
• This is a clear sign that Panacead has a good credit rating, reputation, and standing with the banks. Consequently, it is likely that Panacead will find it easier and cheaper to use a bank loan to finance this transaction. 
• You should bear in mind that the interest that banks charge to borrowers often reflects on how likely the bank thinks it is that the borrower will repay the money (i.e. companies with a low credit rating that are perceived as risky will pay a higher interest rate). Hence, it is reasonable to assume that because Panacead has always made their repayments on time and has a good relationship with the banks, Panacead will be offered a favourable interest rate.

Additionally, it would be worth addressing some of the other benefits of taking out a bank loan. The “leverage effect” refers to the impact of debt on the return on equity investment. Typically, using leverage in such an investment amplifies the garnered profits (and losses). 

Another key benefit of financing an acquisition with a bank loan is that the acquired assets may become the collateral for the loan. 

• Whilst needing to put up collateral is technically a disadvantage, this disadvantage is somewhat mitigated by the fact that the acquired business may act as its own collateral. 
• This means that should Panacead be unable to service the loan, the assets acquired in the transaction could be seized as opposed to Panacead losing some of its own original assets. 
• In this way, using a bank loan to finance the transaction lowers Panacead’s financial risk as (1) they have not used only their own money to buy the business (i.e. they will have used debt); and (2) the acquired assets could possibly act as the collateral for the debt.

Furthermore, using a loan to finance the transaction may be more tax efficient as interest is tax deductible. What this means is that the interest that is paid on bank loans may be deducted from the Panacead’s final profit or loss figure when it comes to calculating how much tax the company must pay. Simply put, Panacead’s net profits may not be as harshly impacted by having to make interest payments as, by making such payments, Panacead saves some money elsewhere by paying less tax.

Finally, unlike equity financing, by taking out a bank loan, Panacead does not further dilute the ownership of its business. The existing management of Panacead may be significant shareholders of the company, notwithstanding other public shareholders. Subsequently, taking out a loan (or even issuing bonds) means that Panacead’s management maintains their level of ownership in the business and proportion of profit (in the form of dividends, if paid).

Debt financing: bonds

Second, Karen also mentions to Jane that there is another debt financing option; however, she cannot remember it. This is a prompt for you to consider bond issuances as a potential way of raising finance. An additional prompt can also be found in the news article about Ms Jane Smith and Mr Lovewood where the article details how Mr Lovewood used bonds to build his businesses and amass his fortune.

Like bank loans, bonds have some similar advantages compared with equity financing options: issuing bonds would not dilute Panacead’s ownership and Panacead may benefit from the “leverage effect”. 

One of the key differences between bonds and loans is that it is usually easier to ask for waivers or favours with a bank than bondholders. 

• Commonly, a good relationship with a bank means that if you are going to miss an interest payment there will be some flexibility to agree to that. 
• With a bond issuance it is much harder and more formal, and usually requires the borrower negotiating with a trustee who acts on behalf of all bondholders. Since bonds are usually issued to a much wider base of investors (for example, to investors globally) than loans (usually to a bank or small syndicate of banks), the cost of borrowing is often cheaper when using a bond than a loan (although set-up costs for the bond can be more costly). 

In case you are asked, both bonds and loans can be secured (with collateral, and so on) or unsecured – the only difference is that the interest rate will be much higher if there is not an adequate security package to protect the lenders/bondholders.

Equity financing: share issuance 

Finally, Karen also mentions that Panacead is a public company which may give them another option to raise finance. This is a prompt for you to recognise that Panacead can engage in a share issuance to finance the transaction. Additionally, in the marketing material regarding Panacead and Permorbus, there is a short paragraph which indicates that equity financing is a potential option for Panacead and the current state of Panacead’s shareholding.

It is important for you to note that Panacead is already a public company, and so conducting an IPO does not make any sense ("IPO" stands for "Initial" Public Offering, meaning the first time a company offers shares publicly). 

Instead, Panacead could issue shares either to their existing shareholders (a ‘rights issue’) or to new shareholders. 

• From the given material, there is evidence to suggest that Panacead is in good standing with its shareholders (as it has consistently made dividend payments) and that Panacead is viewed as a lucrative investment opportunity (as Faithful Capital has recently acquired a large proportion of Panacead’s shares). 
• Consequently, it can be inferred that a share issuance would be received well and that there would be sufficient demand for such shares.

Naturally, however, share issuances come with several drawbacks. 

• First, it will further dilute Panacead’s ownership, meaning that any profits of the business will be divided between more shareholders. 
• Second, it may give Faithful Capital, who already has a large amount of control in the business (for one external shareholder), the opportunity to increase its shareholding and have greater influence over Panacead. 

Conclusion  

From the materials provided, it appears that debt financing in the form of a bank loan is the more preferable option. 

• Organising a bank loan as opposed to a bond issuance is a faster and simpler option, whilst the disadvantage of needing to provide collateral is mitigated somewhat by the fact that the acquired business could act as its own security. 
• Furthermore, Panacead seems to be in line to receive a favourable rate on any loans they take out, meaning that a bank loan, despite it requiring repayment, may seem more preferable than diluting ownership of the business through a share issuance.

Ultimately, it will be up to you as to which financing option you recommend. However, in your presentation, you must be prepared to systematically work through each option, its advantages, and its disadvantages. It is imperative that the interviewer is able to observe your thought process and judgement-forming ability. Regardless of the option that you may pick, be prepared for your interviewer to disagree with you or challenge your analysis. 

In your preparation, imagine that your interviewer tries to argue for the financing options you did not pick. Use the material above to understand what your interviewer’s arguments might be and how you could rebut them.

Finally, you may want to consider how your answer to question three impacts your recommendation for this question. If you recommend that Panacead pursues an asset purchase, the amount of finance needed to be raised may be lower than if Panacead wanted to purchase Krynoxi’s shares because the purchase price is likely to be reduced to reflect the fact that the buyer is not acquiring the whole of the business. 

Although the case study has questions on different topics, you should notice if and how they are interrelated. You are giving one coherent presentation and so your responses to each question should be congruent with each other; if not, you run the risk of not appropriately addressing the case study in its entirety.

3. The choice of a share or asset purchase

Much of this case study depends on the way that the purchase of Krynoxi will be structured. The two main ways to structure a transaction are via a share purchase agreement or via an asset purchase agreement. You should have a strong understanding of what they both entail, their positives, and their negatives. Some of the key advantages and disadvantages of a share purchase and an asset purchase are detailed in the table below. 

Arguments for a share purchase / against an asset purchase

First, it is unlikely that Krynoxi would agree to an asset purchase. 

• Introdisem appears to be Krynoxi’s main product, and, without the rights or equipment to manufacture it, their business would revert to being a generic equipment manufacturer. 
• This is something that Kryonxi almost certainly does not want, given their statement that they aspire ‘to become Europe’s advanced medical equipment pioneer’. 
• Hence, even if an asset purchase would be preferable for Panacead, it is worth noting that it is unlikely that Krynoxi would be willing to agree. 

One does not usually sell the ‘crown jewel’ of their business on its own. It can also be noted that an asset purchase usually leads to a more costly and complex negotiation process, which neither side may desire. 

Second, as mentioned by Andy in his email, Panacead would want to acquire some of Krynoxi’s employees. 

• You need to bear in mind the industry in which this case study is set – pharmaceuticals. The industry is very technical and many aspects of a pharmaceutical business require specialised knowledge to operate. 
• Consequently, given Krynoxi’s purported innovation, Panacead would want to acquire Krynoxi’s employees who have the expertise to operate and further advance the purchased technology. 
• The best way to acquire these employees would be with a share purchase, as, in effect, Panacead would get full ownership of Krynoxi and assume its intangible assets, including, employing Krynoxi’s current employees. 

In this case, these are two main arguments for pursuing a share purchase. 

• The first point is more of a strategic one; however, it should not be neglected. Your interviewing partner expects you to develop practical solutions and think about how a situation might evolve in reality. 
• The second point is equally crucial – although, as will be analysed further in the following section of this commentary, a share purchase involves Panacead assuming Krynoxi’s obligations and liabilities, it also comes with an important benefit: the employees and their knowledge. This seems crucial for the success of the post-acquisition company as, if Panacead was to just acquire some of Kryonxi’s assets, Panacead might not be able to utilise them properly and realise the full value of its investment.

Arguments for an asset purchase / against a share purchase

However, notwithstanding the substantial benefits of a share purchase, there are several drawbacks to acquiring full control of Krynoxi. 

• One of the obvious issues is the impending lawsuit levied by Ms Joanna Smith against Krynoxi. If Panacead assumes ownership over Krynoxi before the lawsuit is settled, Panacead will be responsible for paying the costs associated with the lawsuit. Nevertheless, this is an issue that could be easily mitigated via indemnification, which this commentary will discuss in more depth in the response to question four. 
• A final consideration would be that Ms Joanna Smith, Krynoxi’s CRO, has threatened to leave the business. This will impact the attractiveness of a share purchase, as the whole aim of a share purchase would be for Panacead to benefit from Krynoxi’s employees’ expertise.  

A further issue, however, is that in pursuing a share purchase, Panacead would be assuming all of Krynoxi’s liabilities and obligations. This may prove to be problematic given that Krynoxi has been alleged to have Mozambican mines and factories engaging in unethical and illegal activity. 

• If this is the case, and Panacead pursues a share purchase, Panacead would then find itself engaging in unethical and illegal activity and be responsible for weathering any consequences associated with such behaviour (even if it took place pre-acquisition). 
• Consequently, it may be in Panacead’s best interests to pursue an asset purchase instead, as this would allow Panacead to “cherry-pick” the assets that they want and avoid acquiring anything that could be damaging to the business.

Nonetheless, Panacead may still pursue a share purchase as there could be a solution to the Mozambique issue. 

• The first step would be for the legal counsel for Panacead to investigate these claims further as part of the due diligence process. 
• The second step would be for the share purchase to include representations and warranties that explicitly state that Krynoxi does not have such mines and factories, or, at the very least, such mines and factories (and the employees connected therewith) are not engaged in such criminal behaviour. This would give Panacead a degree of protection as if Krynoxi does have such an industrial base in Mozambique and/or they are engaged in unethical and illegal behaviour, Panacead can sue the sellers for misrepresentation or a breach of warranty, as appropriate. 
• However, this is not a perfect solution as there may be criminal liability for the operators of such mines/factories, which would Panacead would become post-sale. 

You should be aware that your interviewing partner will expect you to raise potential issues but then suggest a solution. Companies employ counsel to help them achieve their goals: lawyers are meant to be “deal-makers” and not “deal-breakers”.

Conclusion

Overall, this commentary would suggest that the acquisition, in light of current information, should proceed. 

Furthermore, if the transaction is to go ahead, this commentary suggests that a share purchase would be the best option. 

• As discussed, the main reasons against an asset purchase are that (1) Panacead would not acquirer Krynoxi’s employees and their expertise which Panacead would almost certainly require, and (2) Krynoxi is unlikely to agree to an asset purchase as it would “hollow out” their business and impede their future aspirations. Both of these points seem to make a share purchase the only viable option.
• Nevertheless, a share purchase comes with substantial difficulties. Crucially, a share purchase would result in Panacead dealing with a lawsuit and potentially acquiring some damaging assets. As mentioned, there are solutions to these problems; however, ultimately, it will be up to you as to what you determine is the best option and how you defend your answer. 
• It would then seem that with both a share purchase and an asset purchase, Panacead may not fully benefit from employees’ knowledge if Ms Joanna Smith leaves. Nevertheless, it could be argued that she may consider staying if Panacead acquired Krynoxi and dispatched with Mr Lovewood. Alternatively, even if Ms Joanna Smith did leave, Panacead would arguably still be able to benefit from the remaining employees’ knowledge. Again, this is another nuanced point that requires you to display ‘business intelligence’ and common sense beyond the law. 

In practice, case study exercises try to give you a range of possible answers to choose from. Whilst it would be unwise to say that there is no wrong answer, it is possible for candidates to develop different answers and still have a successful interview provided they are prepared to qualify and defend their arguments. You must be able to qualify your answers and demonstrate an appreciation for not only your answer’s merits but also its weaknesses. 

4. Protection against a lawsuit

The final question in your supervisor’s email concerns Ms Joanna Smith and her lawsuit against Krynoxi. Lawsuits are common in the pharmaceutical industry, especially those brought by consumers. Hence, it is important for lawyers to know how to protect their pharmaceutical clients in acquisitions, as, whilst their clients may not face ongoing lawsuits, the companies they wish to acquire certainly may. 

The main solution to protect Panacead from Ms Smith’s lawsuit is to incorporate an indemnification clause in the share purchase agreement with Krynoxi. 

• The indemnification can be broadly described as the sellers promising Panacead that they will pay any damages and/or costs associated with the lawsuit from Ms Smith. This will protect Panacead against any financial loss associated with the litigation. 
• Importantly, as discussed in question four, this is only necessary if a share purchase is going ahead. If Panacead is conducting an asset purchase, then Panacead will not be acquiring ownership of Krynoxi as a corporate entity and so will not be liable under the lawsuit. 
• The other (and probably less favoured option by the sellers) would be to agree a “price chip”, whereby the parties would estimate the value of the claim and just reduce the purchase price by such amount (for example, if the claim was for £100,000 and the business was being sold for £10m, the purchase price would be reduced to £9.9m). 

Whilst this is a simple answer, you can develop your answer further by describing how you would advise the indemnification clause to be structured. Here are some things you may wish to consider (although note that these are advanced concepts and you would not be expected to know how indemnities work in such great detail):

• A de minimis provision. This stipulates a minimum threshold that a single indemnification claim must exceed in order to be eligible for indemnification. For example, if the threshold was set at £50,000, a claim of £49,000 would not be paid out. This provision is to the seller’s benefit as it ensures that the seller is not pestered with minor claims.
• A ceiling provision. This stipulates a cap which limits the amount the indemnifier is required to pay for a given claim. For example, if the cap was set at £50,000, a claim for £60,000 would only have a pay out of £50,000. This provision is to the seller’s benefit as it reduces their liability.
• Escrow arrangement. Finally, you may wish to detail how you would give Panacead some guarantee that the indemnifiers would pay for the lawsuit. One solution is to have the sellers agree to the creation of an indemnification escrow account. This would have the sellers place funds in escrow for a certain amount of time. The amount of time is subject to negotiation; Panacead would want a longer period of time, whilst the sellers want as little time as possible. A reasonable time period is between 6-18 months post-completion of the sale. By placing the funds in escrow, Panacead is assured that if they were to claim for the costs of the lawsuit (within the allotted time period) there would be available and secure funds to claim. If no escrow facility is agreed, there is a residual risk that Panacead may not be able to enforce any subsequent judgment (for example, if the indemnifier becomes insolvent in the interim).

We hope that you have found the case study materials and this corresponding commentary helpful. The key to success in case study/presentation exercises is research and practice. You may find that this case study has touched on topics or concepts that you are unfamiliar with. We urge you to take the time to research these topics and build up your understanding. Once you feel more confident, you can always return to the case study to test yourself and corroborate what you have learnt. See our Mergers and acquisitions and Private equity courses for more information.