Dive Brief:
- Artificial intelligence has become a driving force in mergers and acquisitions this year, with many companies seeking to bolster their AI capabilities through purchases, according to M&A attorneys with Cooley LLP.
- Generative AI use by target companies creates additional due diligence for M&A transactions, including the use of more representations as “traditional intellectual property and privacy reps may be insufficient,” Erin Kirchner, a Cooley M&A partner, said Tuesday on a Legal Insights webinar the firm hosted.
- Contingent consideration payments, or earnouts, have become more popular in recent M&A transactions as buyers and sellers turn to these provisions to bridge valuation gaps, said Nick Davis, a Cooley partner in Seattle. About 21% of M&A deals had an earnout in 2023, up from 15% in 2015, according to data Cooley presented.
Dive Insight
While GenAI has become critical to many companies, especially in technology, these new capabilities require greater diligence for in-house and external counsel as they present additional risks, said Kirchner, who works in Cooley’s Chicago office. “Almost any target you’re considering today is using AI in some form or fashion in its business,” she said.
Some critical areas for diligence include:
- Privacy policies for AI use.
- High-risk scenarios, such as automated decisions in employment.
- Biometric data: Does the AI use it?
- Jurisdiction: Where does a target company use AI given new state-specific laws?
If a seller has a proprietary AI model, that warrants additional inquiries into what types of data are used for training the model and the consent and disclosure associated with that data.
Lawyers will also want to learn about the AI’s training and whether it has been tested for bias or discrimination, she said.
Earnout payments
More than 90% of M&A transactions in the biotech and pharmaceutical industries contain earnout provisions, according to data from SRS Acquiom, an M&A services company.
“For buyers, the assumption is if you’re building in an earnout you may have to pay it,” said Davis, who specializes in M&A. “For sellers, you should assume you may not receive it.”
Earnouts can benefit both buyers and sellers, as these can keep critical employees of the acquired firm incentivized and engaged in their work. However, Davis noted, these milestones can leave sellers with a vested interest after closing in controlling how a buyer operates the business.
“Both parties should benefit from achieving the earnouts post-close but that’s not always the case,” he said.
Disputes over earnouts often lead to litigation, with recent court decisions finding against buyers, “although courts emphasize situation-specific agreement language and factual context, making outcomes highly uncertain,” according to Cooley’s presentation.
