This time around we're going to be covering the definitive agreement, which is a key part of any M&A process, any M&A deal, at least any M&A process that results in an actual closed deal.

And to go through it, we're going to be looking at a case study, or a mini case study really, of this $10.4 billion Amgen Onyx deal in the pharmaceutical industry.

So I have up on screen a link to the actual agreement.

They call this agreement a plan of merger, but really it is a definitive agreement between Onyx, the seller, and then Amgen, the buyer.

So we're going to be using that as our case study.

Now just to remind you, why does this matter?

What is important about this?

Well, the definitive agreement spells out the finalized key deal terms.

So the price, the form of transaction, if there's cash involved versus stock, if there is cash versus debt, if it's a cash deal, what the treatment of options is, what the treatment of RSUs, restricted stock units, is.

So it spells out all those key terms and it directly impacts the effective purchase price of the deal.

Now the reason why you have to care about this, if you're going into investment banking or private equity or something else where you're buying and selling entire companies, is that often you will have to create summaries that get passed around to your team that summarizes these key deal terms and keep everyone in the loop.

Also if you are running a merger model or a valuation of a deal, for example, you need to look at the agreement and look at the exact share counts, the treatment of options and RSUs in the agreement in order to get all the numbers accurate.

So it is important.

Lawyers do handle a lot of it, but even if you are on the finance side, you still need to understand these types of agreements, how to read them, and how to extract the key information.

Now how do you read a definitive agreement?

What do you do?

Where do you find them?

Well, for U.S. based companies, you can go to the EDGAR site, so I have a link in this Excel file, and if you go here you can just search by company name and bring up filings for companies.

Now what I've already done here is in a separate window, I've already brought up all the filings for Onyx Pharmaceuticals, and what you want to do here is look for anything that is labeled 8K for U.S. based companies, and the 8K filings will be the ones that actually contain the definitive agreement in most cases.

So there are a bunch of other filings whenever a company announces an acquisition, but that's usually the one that you want to be looking for.

For non-U.S. based companies, you'll have to go to the investor relations section of their site and look there for these types of agreements.

Now when you actually get the agreement, so after you've gone through this, you've clicked on a couple of these links, checked out the 8Ks, and actually found the one that contains the definitive agreement, sometimes it takes a bit of guesswork because you might see something like this pop up, and it's not immediately clear from this if this one actually has the definitive agreement or not.

So it takes a bit of trial and error, but you can find it without too much effort if you look for 8Ks issued around the date of the deal announcement, so usually a day or two after that.

So once you've brought up the definitive agreement here, how do you actually read through it?

Now as you can see, it's pretty massive.

If you turn this into a PDF, it is about 100 pages, and if you just go to the table of contents, you can see it's around 74 pages here.

So the last thing you want to do is actually try to read through all this from beginning to end, unless you secretly want to be a lawyer or you are really bored and you actually like this type of exercise.

It's pretty mind-numbing.

A lot of this is very much boilerplate language taken from other templates, so there are not that many sections that are actually relevant to what you do in the finance industry.

So let's go through this, and what I'm going to do here is in the accompanying blog post to this video tutorial, I have a lot of the key terms that you see in the definitive agreement laid out and explained, and what we're going to do in this mini case study is just go through this and show how they apply to this particular deal.

So the first piece of important information, the buyer, the seller, the price, the type of transaction, this is almost always listed in the beginning in the section that says the offer right here.

So let's just scroll down quickly and take a look at this.

And by the way, as we go through this, we're going to be using CTRL-F or CMD-F on the Mac to find things in this agreement easily.

We're also going to be making use of this table of contents to more quickly locate information.

So let's go take a look down, and you can see here that they spell out the parent, that's the buyer, and then the company, that stands for the seller, Onyx Pharmaceuticals.

And then you can see here that they are acquiring all of the outstanding shares of the company's stock for $125 per share of company common stock.

So this is telling you a couple important things just in the single line.

First off, it is a deal for 100% of another public company.

They're acquiring all the common stock.

It is a stock purchase as opposed to an asset purchase because they're not just acquiring selected assets and assuming certain liabilities.

They're acquiring everything, including on balance sheet and off balance sheet assets, liabilities, and other obligations.

They're paying $125 per share in cash for that.

And above this, they mention that it is a cash tender offer, meaning that essentially the shareholders all vote on it and they submit the information.

And once a sufficient number vote in favor of it, then the deal goes through.

So just that one paragraph is already telling you a lot of important information.

And in terms of other things here, sometimes you see things like earnouts, callers, exchange rates, but in this case, it's just a 100% cash deal.

So you don't have anything like that.

It gets more interesting when you have private sellers or when you're using stock to fund the deal.

Now, one thing that's interesting to note here is that although they say $125 per share of company common stock, they're not telling us whether Amgen is using cash on hand or debt to finance this deal.

So it's going to take some more digging through the filings to figure that out.

So that's just one interesting point to note here that they may not tell you everything that you need to know upfront like that.

They only have certain pieces of information in the very beginning.

Let's keep going.

So treatment of outstanding options, shares, RSUs, other dilutive securities.

So for this one, the easiest way to find it rather than scrolling through, what we want to do is go up to the top and look for terms like shares, options.

We have conversions of shares right here that looks promising.

And then as we go down, let's take a look.

So I could just do this smart way and search for options.

And sure enough, we see right there, company options, RSUs.

So those are the two relevant sections there, and I found them just by looking for shares and options.

So let's look at conversion of shares first.

And they have it right here.

So I just did a control F find to find this.

And this is really not saying anything too interesting.

This is just saying that all the shares get canceled and each shareholder receives $125, the offer price in cash instead.

Now the more interesting part is what happens to options.

So let's go take a look at that.

And what I want to do is find that.

Okay, here we go.

So company options, RSUs, let's take that, do a control F to find that.

And sure enough, here we go.

Section 6.2.

Now this is a lot of dense language, but basically what it's saying is that all the options, whether they are vested or unvested or exercisable or unexercisable, will effectively be cashed out.

Because look at this.

They'll be canceled and converted into the right to receive an amount in cash equal to the excess of the offer price over the exercise price of the company option.

So any in-the-money option, in other words, is going to be cashed out.

So if the strike prices on the options are $8 or $100, let's say, and the offer price is $125, well, each option holder there gets $25 in cash.

That's really all it's saying.

And they have some other terms for other things here.

Basically the long short of it is that any options that are not already vested will vest by December 15th, 2013, and they'll be paid out in cash by the end of 2013.

So a lot of dense looking language here, but that's the quick version of what this is saying.

And then as you go down for the RSUs, restricted stock units, for other forms of equity awards here, basically all that's happening is they're all getting swapped out and replaced and paid out.

And each award holder, each stockholder here is getting the $125 in cash is what all this language here is saying.

So this one is important to note because this is one of the terms, one of the few terms in the agreement that actually impacts your work as an analyst or associate or someone else in finance.

Because if options are cashed out, that's going to increase the effective cash purchase price for the company.

Whereas if they're assumed, in other words, if they're converted into options on the buyer's stock or into buyer shares or something else like that, well, that's going to reduce the cash purchase price, but now they're going to have additional shares outstanding or additional options outstanding.

So it's important to just get this right, because if you want to be very precise with your merger model or with looking at this transaction in the future, and instead of transaction comps, for example, you need to know this kind of information because it's going to affect all the numbers.

There are also convertibles here, which I'm kind of skipping over because this is less interesting to look at, but to show you that really quickly, I'm just going to do a search for convertible senior notes.

And you can see here, they're saying 5.8 million shares, 4% convertible senior notes worth about 230 million.

And with this one, they're not actually directly telling us here what happens, but they're saying on one of the supporting schedules here, they spell out the conversion price of those shares.

So we need to look at that.

They spelled the conversion price of those convertible notes.

So we would need to look at that to get all the information for that one.

Now represent representations and warranties, covenants.

So a few quick things to point out here.

This is these sections are less relevant to what you do as an analyst or associate, but I do want to still go through a few things.

Let's go up to the top and go through the table of contents again.

And you can see right here, representations and warranties of the company.

So for the seller, and then for the parent and purchaser, this section is a lot shorter for the parent and purchaser.

I'm not even going to show you what it looks like because this is really all legal boilerplate language.

But essentially the parent and purchaser has to agree that they represent themselves properly, that they have the funding to do the deal and so on and so forth.

And then the seller has to represent and warrant a whole lot more here.

So they have to say that they're in compliance with the SEC, with their accounting, with taxes, with legal requirements, and so on and so forth.

So you can go look at this yourself.

This is not particularly interesting, so I'm going to skip over this part of this agreement.

Now for the covenants, this gets a little bit more interesting.

I'm going to show you a few quick things here.

So certain covenants of the company, section five.

Let's break it down and see what this has.

So in this part, this first part, they're just saying that they'll provide proper access to conduct due diligence for the buyer in case anything else comes up.

And then here, what's interesting to note here is that you might expect that they have to agree to certain things, such as the fact that they'll continue operating the business.

But look at this.

They're also restricting the dividends that they can issue, any stock issuances, repurchases, stock splits, things like that.

And then also, if you keep scrolling down here, take a look at this.

They're even restricting the capital expenditures the company can make.

So isn't this interesting?

They've already agreed in advance the capital expenditures.

They have them on schedule.

It's not directly in the definitive agreement, but it is somewhere else.

It's on one of the supporting schedules.

And they're actually limiting the amount of CapEx that the seller can spend in this case.

So you can see some of the numbers here.

Just interesting to look at because this is often something that you'll see in debt covenants if a company is raising debt.

But here you also see it in the definitive agreement.

So this could come up because, for example, if your financial model shows CapEx above a certain level for the combined company or for the seller, well, if it's in violation of this term of the agreement, you probably need to go back and rethink your assumptions there.

Next thing to go through here, the solicitation clause.

So let's go up.

Now, when a buyer acquires a seller, of course, they don't want to be outbid.

They want their price to be the best and final price for the deal.