In most purchase and sale transactions, the purchase agreement is accompanied by and incorporates disclosure schedules that include certain relevant information to the transaction. In the rush of negotiations, diligence, and transition planning, it is easy to overlook the importance of the disclosure schedules. However, these schedules are much more than a mere compilation of information meaningful only to the lawyers who drafted the corresponding provisions of the purchase agreement. In fact, the disclosure schedules are a vital part of any transaction, helping to inform the buyer of the nature of the asset(s) being acquired and to define or limit certain rights of the transaction parties. Failure to adequately prepare or review the disclosure schedules may have significant consequences for sellers and buyers. For instance, a seller that fails to provide adequate disclosures may jeopardize the closing or at least risk post-closing indemnification obligations. On the other hand, a buyer that has devoted only negligible resources to reviewing the disclosure schedules may find itself with unexpected liabilities post-closing and no recourse to seek indemnification.
In particular, the disclosure schedules play two important roles:
- providing important information to the buyer regarding the seller's business and assets; and
- listing exceptions to or completing the representations and warranties contained in the purchase agreement.
In many ways, the disclosure schedules serve to facilitate due diligence as well as to organize and aggregate much of the significant data exchanged during diligence. For instance, a buyer may want to complete a thorough due diligence review of all of the seller's physician contracts. The process for this review can be expedited and improved by the purposeful drafting of the purchase agreement—specifically, the disclosure schedules to the representations and warranties. During negotiations, buyer's counsel may insist that the purchase agreement include a representation that the seller has disclosed all of its physician agreements on a schedule. This provides the buyer with a single list of relevant agreements for its review and can help it confirm that it has been presented with and completed its due diligence review of physician contracts. This disclosure schedule could also serve as a reference point for the purpose of identifying the obligations of the parties in obtaining any required third party consents.
The same example demonstrates a way in which the disclosure schedules frequently define or limit the rights of the parties. In the above example, if the seller fails to list a physician agreement, it will have breached a representation and warranty in the purchase agreement. If the seller's failure resulted in damages (e.g., due to compliance risk, the buyer cannot bill for services provided under the agreement) then the buyer may have an indemnifible claim against the seller for a breach of a representation and warranty.
General Tips for Preparing and Reviewing Disclosure Schedules
- Maintain constant communication between your legal and business teams. This is particularly important for the seller, whose management and employees are best positioned to provide responsive information. It is incumbent on the party's legal counsel to interpret the purchase agreement to ensure the business team understands what disclosures are required (particularly because required disclosures may evolve as the purchase agreement is negotiated). Maintaining a clear line of communication helps the teams to focus, which is often particularly critical for the business team which is simultaneously occupied with the day-to-day operations of the hospital.
- Ensure continuity among reviewers / teams. Ideally, those key employees with oversight of the operations related to the disclosures (both on the seller's and the buyer's side) will serve as part of the diligence team and will later review the relevant disclosure schedules. Similarly, legal advisors who helped to negotiate and draft the corresponding representation and warranty should provide advice as to the specifics and scope of the required disclosures.
- Resolve inconsistencies between the schedules and disclosures made during diligence. As noted above, the disclosure schedules serve a dual purpose of providing / eliciting information about the assets and identifying exceptions to the representations and warranties. Both sides should confirm that material posted to the data room or otherwise disclosed during due diligence is consistent with the disclosure schedules. If the schedules contain a disclosure previously unknown to the buyer, the buyer will typically conduct additional due diligence to ensure it understands the underlying facts and magnitude of the issue. Unfortunately, this reconciliation is frequently a tedious task. However, both parties are likely to benefit greatly from spending the time and resources at this stage to avoid subsequent indemnification claims, assumption of unknown liabilities, or worse, a failure
A Few Takeaways
Sellers should take care to ensure all of its representations and warranties are qualified as appropriate, whether such qualifications are in the form of exceptions identified in the purchase agreement (e.g., by materiality or "knowledge" qualifiers) or the disclosure schedules. The seller should also focus particularly on the line of communication between its business and legal teams to ensure changes to its contracts, permits, condition of assets, or other operations are incorporated appropriately into the disclosure schedules.
Buyers should feel comfortable with the final set of disclosure schedules and that the other terms of the purchase agreement (e.g., purchase price and indemnification limitations) remain reasonable in light the seller's disclosures. When reviewing the disclosure schedules, buyers should remember to consider the disclosures in conjunction with the representations and warranties and their corresponding function in the agreement. For example, the buyer will likely have some protection if the seller breaches a representation and warranty by failing to disclose an issue (e.g., the buyer may not be obligated to close or may have an indemnifiable claim post-closing). However, the buyer has no claim against the seller with respect to those issues disclosed in the schedules. Accordingly, the buyer should be wary of broadly-drafted or ambiguous disclosures and should work with counsel to ensure that, as drafted, the schedules accurately capture only those issues vetted during diligence.