Termination Fee Clause
(Change in Board Recommendation)

Summary

This clause contains a termination fee (or break-up fee) payable by the seller if a transaction is terminated following a change in recommendation by the target company's board of directors. This clause includes practical guidance, drafting notes, and alternate clauses. Most acquisition agreements contain a covenant by the target's board of directors to recommend that the target's shareholders approve the transaction. However, many acquisition agreements also contain a provision permitting the board of directors to rescind that recommendation if they determine that doing so is required to fulfill their fiduciary duties. See Fiduciary Duties and Director Approvals in M&A Deals (DE). Most commonly, this occurs if there has been a competing proposal to acquire the target that is deemed superior to that contemplated in the acquisition agreement or if there has been an unforeseen intervening event or change in circumstances of the target that makes the proposed acquisition no longer as financially favorable to the shareholders (known as "gold in the backyard"). This provision frequently appears in conjunction with Termination Fee Clause (Alternative Acquisition Proposal). A termination fee is a fee paid by the seller in the event the transaction does not close due to the seller's termination of the agreement for a more attractive deal or other specified circumstances. A termination fee provision is a type of a deal protection mechanism and, if structured properly, incentivizes the seller to close the transaction while providing the buyer with some degree of recovery of expenses, investment of time, and opportunity cost if the transaction does not close. Break-up fee provisions, however, must be evaluated in the context of the fiduciary duties of the seller's board which, in Delaware under Revlon duties, require the board to maximize shareholder value in a change of control transaction. Delaware courts have generally upheld the validity of break-up fee provisions in M&A agreements, as long as they do not preclude potential competing bidders from making an offer that may provide greater value to the target company's shareholders or coerce the target stockholders into voting to approve the transaction. The accepted range for break-up fees that have been upheld by Delaware courts generally is 2%–4% of the transaction value. Break-up fees at or above 4% of the transaction value have been upheld in transactions of smaller size. Delaware courts have noted that the determination as to whether a break-up fee is preclusive or not is a fact-specific inquiry and depends on numerous factors (e.g., expense reimbursement, circumstances triggering payment of break-up fee, deal history) and not on a simple mathematical formula. For additional examples of termination fee clauses, see Termination Fee Clause (Alternative Acquisition Proposal) and Termination Fee/Expense Reimbursement Clause (Failure to Obtain Stockholder Approval). A break-up fee provision typically relies heavily on cross-referencing other relevant provisions of the agreement, such as termination rights of the parties and specific closing conditions and requires thorough understanding of the mechanics of these provisions taken together. For further discussion of the circumstances under which the parties may terminate an M&A agreement, see Termination Triggering Events in M&A Transaction Agreements, Termination Provisions in M&A Transaction Agreements and Termination Rights and Fees in Acquisition Agreements. Break-Up Fee Precedents Click here to see recent examples of termination fees in Market Standards, the searchable database of publicly filed M&A deals from Practical Guidance that enables users to search, compare, and analyze its comprehensive database of transactions using over 150 detailed deal points to filter search results. You can customize this search to your needs by adding filters or modifying the search criteria.