Guide to Common Merger Structures in M&A Deals

Mergers and acquisitions can be structured in numerous ways depending on a variety of legal, tax, and business considerations. This article highlights some common M&A deal structures and their key features. Each M&A deal structure comes with unique tax advantages and implications, which will need to be considered in the broader context of the deal.

Direct Mergers

In a direct merger, the target company and buyer directly merge with each other. Direct mergers are often tax-free to the target company, the target company’s shareholders, and the buyer. However, in order for the target company’s shareholders to receive tax-free treatment, they must only receive stock in the acquiror and such stock must make up at least 40% of the overall deal consideration. Any cash received by the target company’s shareholders will be taxable. Similarly, any nonqualified preferred stock received will be taxable.

Triangular Mergers

In contrast with a direct merger, in an indirect merger, the target company will merge with a merger subsidiary of the buyer. Triangular mergers allow the buyer to acquire a target company without the buyer’s parent company entity having to participate in the merger. Instead, the buyer forms a merger subsidiary entity that will merge with the target company.

The key distinction between a forward triangular merger and a reverse triangular merger is which entity is the surviving corporation following the merger. A forward triangular merger is a type of indirect merger structure in which the buyer-created subsidiary survives the merger. A reverse triangular merger is a type of indirect merger structure in which the target company survives.

Forward Triangular Mergers

In a forward triangular merger, the target company merges with and into a merger subsidiary of the buyer. As a result, the merger subsidiary is the surviving entity.

In order to get tax-free treatment, a forward triangular merger must be structured so that no stock of the merger subsidiary is issued in the transaction. Additionally, the merger subsidiary must acquire “substantially all” of the target company’s assets. The Internal Revenue Service (IRS) generally interprets “substantially all” to mean at least 90% of the net assets and 70% of the gross assets.

Reverse Triangular Mergers

In a reverse triangular merger, the merger subsidiary of the buyer mergers with and into the target company. As a result, the target company is the surviving entity.

In order to get tax-free treatment, a reverse triangular merger must be structured so that the buyer acquires at least 80% of target’s voting stock and 80% of the target’s non-voting stock in exchange for the buyer’s voting stock. Additionally, the target company must retain “substantially all” of its assets following the merger.

Double Dummy Mergers

A double dummy merger involves combining two corporations by taking advantage of Section 351 of the Internal Revenue Code. Double dummy merger structures are particularly common when two similarly sized companies are merging. This is sometimes referred to as a merger of equals.

The first step involves the formation of a holding company by the target company and buyer. The holding company will then create two “dummy” subsidiaries for purposes of the merger, Merger Sub 1 and Merger Sub 2. Merger Sub 1 will merge with and into the acquiror, with the acquiror surviving. Merger Sub 2 will merge with and into the target company, with the target company surviving.

Each merger may qualify as a tax-free reverse triangular merger. Furthermore, a double dummy merger structure may qualify as a tax-free exchange under Section 351 of the Internal Revenue Code. Pursuant to Section 351, the shareholders of both the target company and the acquiror would receive shares of the holding company’s stock on a tax-free basis.