An Introduction to NDAs

The first step when a buyer expresses interest in your business is to request that they sign a confidentiality agreement. Many critical issues are addressed in a properly drafted non-disclosure agreement (NDA), including non-solicitation and other “sales process” issues. It’s tempting to assume that all NDAs are boilerplate, but a mistake at the stages of negotiating and signing an NDA can close off critical options later in the process. In extreme cases, leaks can destroy your business. 

A properly drafted confidentiality agreement also sets expectations and signals buyers that you are well-represented. This means buyers will be less likely to use negotiating tactics that are unlikely to work on a sophisticated seller who is properly represented.

In nearly every M&A transaction, a confidentiality agreement (CA) is executed, but a CA is only one of many tools in your arsenal you can use to maintain confidentiality during the sale process. This section explains strategies you can use in combination with a properly drafted CA before and during the sale to offer a high level of control over your sensitive information.

Topics Covered in an NDA

At a minimum, an NDA will usually cover the following topics:

  • Definition of confidential information
  • Restrictions on use of the confidential information
  • Obligations of the recipient
  • Standards of care
  • Term
  • Remedies
  • Permitted disclosures
  • Return of confidential information
  • Disclosure period
  • No obligation to proceed
  • No grant of IP rights
  • Enforcement
  • Law and jurisdiction
  • Dispute resolution

With regard to the confidential information, the NDA should obligate the buyer to:

  • Use the information only for purposes described in the agreement.
  • Disclose the information only to persons with a need to know the information for purposes of evaluating the transaction.
  • Use appropriate or reasonable efforts to keep the information secure.
  • Ensure that anyone to whom the information is disclosed further abides by obligations restricting use, restricting disclosure, and ensuring security at least as protective as the agreement.
  • Not share the information with third parties, unless required to by law, for a minimum period of time, typically one to five years.
  • Safeguard the information they receive with reasonable precautions that are at least as stringent as the safeguards they use to protect their own information.
  • Not reverse engineer or decompile the information.
  • Notify the disclosing party of any leaks of the disclosed information.
  • Comply with all government rules and regulations, including export and import laws.
  • Cease use of the information and return it to the disclosing party upon termination of the NDA.
The first step when a buyer expresses interest in your business is to request that they sign a confidentiality agreement.

The Importance of a Properly Drafted NDA

The language in M&A confidentiality agreements has evolved over the years and is no longer restricted to language that only addresses confidentiality. Despite the implication of the name “confidentiality agreement,” many additional critical issues are addressed, such as intellectual property rights.

If an investment banker or M&A advisor represents you, expect your advisor to have a template. Because most M&A advisors represent sellers, their template should be seller-friendly. 

If your situation is unique, consult with your attorney to draft a custom NDA. In most cases, buyers will make few requests to the language contained in your NDA, but be prepared to negotiate the terms of the agreement as requests are highly varied based on who the buyer is.

In practice, most NDAs are drafted by the disclosing party, which is usually the seller in M&A transactions. Sellers negotiate with multiple buyers, and maintaining consistent language across the agreements simplifies the process for the seller. Most NDAs never make it past the first stage of selling a business, which is signing an NDA and reviewing the offering memorandum. You will likely end up executing dozens of non-disclosure agreements with potential buyers during the sale process, 99% of which you will never look at again.

The Process

For transactions in the middle market, most intermediaries first provide a teaser profile to the prospective buyer before requesting that the buyer sign a non-disclosure agreement. Most buyers in the middle market prefer to see if the business is a good fit before committing to the terms of an NDA. The teaser profile allows the buyer the opportunity to determine if the company may be a good fit before they execute an NDA. 

The teaser profile and NDA are often contained in the same document, and the buyer is asked to sign the NDA if they would like to access the confidential information memorandum (CIM) on the business. 

Timing the Execution of a Confidentiality Agreement or NDA

The non-disclosure agreement is the first document to be signed in a transaction and sets the tone for the negotiations, making it a critical component of the sale process. Depending on the type of business being sold, the name and location of the business can be highly sensitive. A seller may want to protect that information until they know the buyer is genuine and sincere.

The goal of the intermediary representing the seller is to protect their client’s sensitive and confidential information while providing enough information to a potential buyer so the buyer can decide whether to pursue the business. Needless to say, this is a delicate balancing act. 

If the business is being sold through a broker or M&A intermediary, the NDA will usually be executed before the business’s name is disclosed. If the owner has been approached by a competitor directly, then an NDA is often signed before substantive discussions take place or before the seller shares confidential information with the buyer.

Buyer’s Benefits for Signing an NDA

Many buyers view an NDA as one-sided for the sole benefit of the seller. This is initially true, though the buyer will also benefit from the protections afforded in the NDA. Potential buyers who did not end up purchasing the business but who may be the business’s competitors will still have signed an NDA before accessing confidential company information, thus protecting the future of the business.

The fact that a business is for sale may, for example, cause a significant customer to reconsider their relationship with the company. A non-disclosure agreement helps prevent this and therefore benefits the future owner of the business.

By signing the NDA, the buyer is letting the seller know they’re serious about buying a business. A seller is unlikely to share highly sensitive and critical information about their company without a signed NDA. Most sellers refuse to have further discussions with a buyer who is unwilling to sign a confidentiality agreement. Sellers become more cooperative in relation to the degree to which the buyer is cooperative. 

Differences in Buyer Groups

How commonly are confidentiality agreements negotiated? 

It’s rare for parties to refuse to negotiate the terms of an NDA. The first draft is always negotiable, but the degree to which the parties negotiate depends on their individual bargaining strength. Every buyer, whether a corporate or financial buyer, has their own idiosyncrasies in terms of the language they look for in a confidentiality agreement, based on the history of their past transactions and what may have gone wrong. In practice, a minority of buyers request changes to a confidentiality agreement. But, the later you request an NDA from a buyer, the more prone a buyer is to attempt to negotiate the terms of a CA or NDA.

What is the role of my attorney and M&A advisor? 

Every M&A advisor will have a template they use. Your attorney should become involved if you have unique needs to be addressed, such as trade secrets that need to be protected or non-solicitation of key employees, or if your marketing strategy includes approaching competitors.

Do advisors sign NDAs? 

Private equity firms nearly always sign an NDA when scouting for acquisitions, though few venture capitalists will sign an NDA. Most M&A advisors and investment bankers will sign a non-disclosure agreement, but some will view the request as naive due to their implied duty of confidentiality. Professionals such as PE firms, venture capitalists, M&A advisors, and investment bankers wouldn’t be in business for long if they were in the business of stealing ideas. Attorneys and accountants will sometimes sign an NDA if the situation is unique, such as if they are part-owners in a competitive firm. However, they are bound by an implied duty of confidentiality, so requesting them to sign an NDA is considered unnecessary in most situations.

There is no such thing as a “standard” NDA. Always have the NDA reviewed by your attorney before signing.

What if the buyer offers a “standard” NDA? 

If a buyer approaches you to potentially buy your company and asks you to sign their “standard” NDA, there are a few things you need to keep in mind. There is no such thing as a “standard” NDA. Always have the NDA reviewed by your attorney before signing. Any company with a legitimate interest will be willing to negotiate the terms of their NDA.

What’s signed after the NDA? 

A “letter of interest” or “letter of intent” (LOI) is customarily signed after the parties have exchanged information and the buyer has expressed an interest in moving forward into due diligence. After due diligence is completed, the parties then replace the LOI with a purchase agreement, which is signed at closing to consummate the transaction.

Can the buyer disclose the transaction terms after the CA expires? 

Yes, unless the NDA specifically prohibits this. An alternative is to remove the expiration date altogether, though a majority of buyers will argue that it may be difficult to monitor compliance with the agreement long-term if it lacks an expiration date. Some jurisdictions may also not allow a perpetual term. Therefore, an expiration date is recommended in most situations.

Key Points

  • Understanding a few basic points concerning confidentiality agreements ensures that the critical purpose they serve won’t be defeated by ambiguities or ignorance of the meaning of terms used in the agreement.
  • As with any agreement, there is no “one size fits all” approach, and you should consider professional advice before taking action. To best assure the NDA is enforceable, careful consideration should be given to the above factors – especially since the protection of ideas and trade secrets is inherently difficult.