Navigating Labor and Employment Considerations in Mergers and Acquisitions

May 29, 2024

Mergers and acquisitions (M&A) transactions are complex endeavors that involve various legal, financial, and operational considerations. Among these considerations, labor and employment law and regulations play a crucial role in ensuring a smooth transition for both employers and employees involved in the transaction. Whether it’s an asset purchase, stock purchase, merger, or other form of M&A deal, understanding and addressing key labor and employment considerations is essential to mitigate risks. In this article, we will provide a brief overview of some of the key labor and employment considerations that employers and business owners (whether as the Seller or as the Buyer) should keep in mind.

Due Diligence

As part of any M&A transaction, all parties will want to perform thorough due diligence on each other. The due diligence process is often the longest and most time-consuming portion of the transaction. However, performing this work upfront is essential to identify potential labor and employment issues. Obtaining a deep understanding of both parties’ employment policies and practices allows all parties to operate efficiently during the deal, modify the structure of the deal, and impact the transition of employees and business operations pre- and post-closing. In addition to the below discussion, proper labor and employment due diligence would include (i) obtaining and reviewing any employment contracts, collective bargaining agreements, and employee handbooks, (ii) ensuring the Seller’s proprietary information, such as intellectual property and trade secrets are adequately documented, assigned, and protect, and (iii) obtaining sufficient information related to any pending or potential employment-related litigation. Understanding the workforce composition, employment policies and practices, and compliance history of the target company is crucial for assessing potential risks and liabilities.

Transfer of Employees

In M&A transactions, employees are often transferred from the target company (Seller) to the acquiring company (Buyer). Depending on the structure of the deal, i.e., whether the transaction is structured as an asset purchase, stock purchase, or merger, the transfer of employees may have different results.  In an asset purchase, the Buyer typically has the option to selectively hire employees from the Seller or hire no employees whatsoever. However, the results of the due diligence process described above may require the acquiring company to recognize the employment rights of transferred employees, including seniority, benefits, employment agreements, and collective bargaining agreements.

In a stock purchase, the employment relationships of the Seller’s employees are typically maintained, as there is no change in the legal employer. The Buyer typically assumes any existing liabilities related to employment law compliance. In a merger, the merging companies become one entity, and employees of both companies generally continue their employment without interruption. However, careful attention must be paid to harmonizing employment policies and practices to ensure consistency and compliance, as it is often the case that even though companies are merging, there can be redundant roles and tasks.

Furthermore, in many M&A transactions, the transfer of employees is heavily negotiated and can take a form that takes characteristics from each of the above. For instance, the parties may agree that although the Buyer is not required to hire or maintain all employees of the Seller, the Buyer may be required to hire and maintain “key” employees, such as those individuals in the “c-suite” of the Seller. An efficient M&A transaction will include thorough negotiations regarding the employment terms of the “key,” or very important employees  of the Seller during the due diligence process, as opposed to dealing with these issues post-closing.

Classification of Employees

Employee classification is a well-known and critical aspect of any business. Ensuring that each party to an M&A transaction is properly classifying their respective employees is critical to a smooth transaction and risk mitigation. As part of the due diligence process, the Seller will be required to disclose to the Buyer how the Seller is classifying each of its workers, ultimately confirming that such workers are properly classified as employees or independent contractors. Proper classification by the Seller prevents post-transaction liability claims from the Buyer.

The Buyer, on the other hand, not only wants to rely on the Seller’s disclosure relating to the classification of Seller’s workers, but also will want to perform its own analysis on those issues with respect to the workers the Buyer intends to retain. In order to determine what post-transaction liabilities a Buyer may have, the Buyer should (i) determine where each worker resides, (ii) review the applicable labor and employment laws that would apply to those workers, and (iii) review all agreements and other documents covering the worker’s work for the Seller.

The Buyer needs to avoid any misclassification issue arising out of the Seller’s activities, which can impose great liability on a Buyer, including, but not limited to, unpaid taxes, unpaid benefits, and various penalties from regulating authorities. Although a Buyer is likely to seek indemnification from the Seller, carefully reviewing and resolving these issues during the due diligence process is a must.

Pre- and Post-transaction Integration of Employees

A common misunderstanding of Buyers is that integration of workers only occurs after the transaction is completed. However, it is critical to ensure that the Buyer’s human resources and business teams are involved with the integration of the Seller’s employees as soon as possible. This would include (i) ensuring that all of the Seller’s employees have executed and delivered any necessary tax documents or employment agreements, (ii) reviewing the Seller’s existing policies for inconsistencies or impossibilities with the Buyer’s policies, and (iii) determining whether any compensation models or plans will need to be adjusted with the onboarding of the Seller’s workforce. The Buyer needs to be proactive in understanding any potential labor and employment issue early on in the due diligence process.

After the transaction is completed, employers must focus on integrating the workforce, systems, and cultures of the merged or acquired entities. This may involve aligning employment policies, integrating payroll and human resources systems, and providing training and support to employees during the transition period. Collaboration between human resources, legal, and business teams is essential to ensure a successful integration process.

Bottom Line

Buying and selling businesses are complex and detail-oriented matters, and labor and employment matters arising out of these deals can be deal breakers that potentially carry a lot of risk. Discussing these matters with an attorney who practices in the states or countries where the Buyer and Seller are located is necessary to ensure a smooth closing, transition of workers, and mitigation of potential risk.

This article, slightly modified to note recent updates, was featured online in the Wisconsin Employment Law Letter and published by BLR®—Business & Legal Resources. Reproduced here with the permission of BLR®—Business & Legal Resources.