Termination Provisions
(M&A Transaction)

Summary

This clause provides four types of termination rights: (1) termination by mutual written consent of the parties; (2) grounds for termination by either the parent/buyer or the target company/seller; (3) grounds for termination by the parent/buyer only; and (4) grounds for termination by the target company/seller only. This clause includes practical guidance and drafting notes. Termination rights and corresponding fees are highly negotiated provisions. The target company/seller is typically balancing the desire for certainty of closing with the flexibility to exit the transaction if a superior proposal comes along so that it can honor its duty to maximize value for its stockholders. The buyer is seeking to preserve the transaction while also maximizing its own flexibility if circumstances change in a way that adversely affects the deal or the value of the target company. Overall deal dynamics, the specific facts relevant to the parties, whether the transaction is competitive, and the relative bargaining power of the parties will all influence the outcome of the negotiation of these provisions. While the chief consequence of termination is that the principal transaction agreement becomes void and of no further force or effect (except as otherwise expressly provided), there are a number of other items for the parties to consider. The most heavily negotiated item will be the amount of any termination fees or other post-termination payables as well as the triggering events for payment, since not all termination provisions will lead to payment of a termination fee. In addition, certain provisions of the agreement will survive termination and the parties will also need to specify any limitations of liability or, alternatively, whether any liability for pre-termination events will continue to apply notwithstanding termination. Finally, termination may impact other agreements or arrangements then in place between the parties. Surviving Provisions As noted above, once a party has validly exercised a termination right the transaction agreement will be voided and will be of no further force or effect except with respect to the provisions that the parties have specifically agreed will survive termination. The provisions that generally survive termination of the principal transaction agreement in an M&A transaction include the following: • Confidentiality or Similar Obligations. In order to protect the confidentiality of information relating to the transaction, as well as any information the parties exchanged in connection with the deal, it is important to specify in the acquisition agreement that confidentiality provisions or similar obligations survive termination. This is especially critical because the non-disclosure agreement entered into by the parties in the early stages of the transaction will usually have been superseded by the confidentiality provisions of the principal transaction agreement; absent the survival of this provision there will no longer be any legally binding arrangement between the parties to keep such information confidential. The parties may specify a time period after which these confidentiality obligations will no longer apply (generally a few years), although it is common for these provisions to survive indefinitely (which, practically speaking, is really until the protected information becomes stale). • Guarantees or Similar Protections. These protections are generally only relevant when the buyer is a newly formed shell entity and the target company or seller has obtained a guarantee of the buyer's obligations under the agreement by one or more parent entities that are sufficiently capitalized to stand behind such obligations. It is important for any such guarantee to survive termination in the event the buyer has any post-termination liability or other obligations to the seller, since absent this protection the target company or seller may be unable to enforce such obligations or collect on any corresponding claims. • Non-Compete, Non-Solicit and Similar Restrictive Covenants. If the principal transaction agreement includes any restrictive covenants that would have applied if the closing had occurred, such as a non-competition agreement preventing one or more parties from operating a competing business in a particular industry or jurisdiction, or a non-solicit relating to the other party's employees, the parties should consider whether it is appropriate for any such provisions to remain in effect if the agreement is instead terminated prior to closing. If so, the parties can evaluate whether any modifications to such provisions should apply, such as a shorter survival period than would have otherwise applied. Both parties, and the seller in particular, should be mindful of the impact of any such provisions on the ability to seek an alternative transaction following termination, and should be careful that such limitations do not conflict with their fiduciary duties. • Covenants Relating to Payment of Termination Fees or Other Expenses. By definition, termination fees are payable following termination and therefore the corresponding obligations will typically survive until satisfied in full. • Governing Law and Dispute Resolution Provisions. It is important for these provisions to survive termination in order to regulate any dispute resolution that may be necessary following termination, whether in connection with the termination itself or with respect to any of the other provisions that survive. Similarly, these provisions will regulate any dispute resolution associated with any claims that arise after termination but relate to a breach or fraudulent act that occurred prior to termination. • Notices Provisions. The parties will likely have various reasons to continue to communicate with each other following termination, and each party should notify the other party if there are any changes to its contact information. • Provisions Relevant to How the Agreement Should be Interpreted. These provisions, often referred to as "boilerplate" or "miscellaneous" provisions, describe how the agreement should be interpreted and the general rules of engagement between the parties for purposes of the agreement. These include items such as severability, entire agreements, and no third-party beneficiaries, and such provisions may continue to be relevant in the event of any post-termination disputes or questions. Limitation of Liability / Release of Claims Termination will typically not relieve either party of liability for any breach (or, as a more limited variation, intentional breach) by such party of the agreement or for any fraudulent acts by such party that occurred in connection with the transaction prior to termination. However, liability for any such breaches may be relieved if a termination fee is payable and is specified as the sole and exclusive remedy for the party receiving such fee, particularly if the party receiving such fee agrees to a release of claims. Fraud cannot generally be avoided by contract, so the parties will still have recourse in the event of any fraud committed by the other party, notwithstanding any limitation of liability or release. Cross-Termination In some cases, the parties may enter into agreements in addition to the principal transaction agreement at the time of signing. These additional agreements will often be conditioned on the closing of the transaction and may not even become effective until the closing has occurred. An alternative formulation is to include a cross-termination provision, whereby the agreement will automatically terminate if the principal transaction agreement is terminated. The parties may have other agreements or arrangements unrelated to the transaction that contain similar cross-termination provisions, and the impact of the termination of such agreements should be taken into account when negotiating the termination rights under the principal transaction agreement. Break-Up Fees Break-up fees are fees paid by the target company to the buyer if the seller or target company terminates the agreement and are generally only payable if the triggering event for termination was something within the seller's or target company's control. For example, the seller or target would typically have to pay a break-up fee if it: (1) exercised its fiduciary out to allow the target company to pursue a superior transaction or terminate the agreement due to an intervening event; (2) terminated the agreement due to a change in the target company's board recommendation and other related triggering events; or (3) breached the no-shop provision. However, break-up fees may also apply if the agreement is terminated due to the failure of the target company's stockholders to approve the transaction, or if termination is due to a breach of the agreement by the target company or seller, and in some cases can also apply if termination is due to failure to satisfy the closing conditions by the drop-dead date. Termination events that are outside the control of both parties (such as legal or regulatory restrictions on consummating the transaction) generally do not result in the payment of any termination fee. Some key points to consider include the following: • Amount. The amount of these fees can be significant (typically around 3% of the enterprise value), as they are designed to not only compensate the buyer for the time, resources and other costs associated with the transaction, but to also act as a deterrent to potential competing deals (within reason). • Tail. In some cases, the obligation to pay a break-up fee will be subject to a "tail", whereby the fee may be payable at a later date (typically for up to one year after termination, but can be as long as three years) even if not payable at the time of termination. For example, if termination was due to a failure to obtain a required stockholder vote, and the target company enters into an alternative transaction during such period. • Sole Remedy. Break-up fees (or if applicable, reverse break-up fees) and any other corresponding payments will generally be the non-terminating party's sole remedy in the event of termination. In that case, the termination fee provisions should include a release of other claims/liability and should expressly exclude specific performance remedies to avoid any conflict between the termination provisions and specific performance provisions of the agreement. In a Market Standards survey of 139 public target mergers announced between January 1, 2022 and December 31, 2022, with deal values in excess of $100 million, 115 (83%) deals contained a termination fee payable by the seller/target. Relative to deal size, the proportion of deals that contained a termination fee payable by the target increased with deal size. Source: Market Standards Of the 115 surveyed deals with termination fees, the fees ranged from 0.001% to 5% of the deal size, with an average of 3% as a proportion of deal size. The average termination fee size as a proportion of deal size ranged from 2.4% for the largest deals to 3.5% for the smallest deals. Source: Market Standards Seventy-five percent of the surveyed deals contained a termination fee payable by the target in the event it terminated the deal for a superior proposal; an even greater proportion of deals (82% of deals in the sample) contained a termination fee payable if the target's board made a recommendation to the target's stockholders that was adverse to the acquirer, and 81% of deals had a termination fee if the target accepted a competing proposal within a tail period. Source: Market Standards For more details on the survey, see Market Trends 2022: Termination Fees. For further information about break-up fees, see Break-Up Fees Provisions. Reverse Break-Up Fees Reverse break-up fees are fees paid by the buyer to the seller or to the target company, and generally apply in the event the agreement is terminated because the buyer was unable to obtain the third party financing necessary to pay the purchase price and other transaction consideration and consummate the deal. A reverse break-up fee may also apply if the termination is for: (1) failure of the buyer's stockholders to approve the transaction; (2) breach of the agreement by the buyer, and in some cases, (3) failure to satisfy the closing conditions by the drop-dead date. For more details about reverse break-up fees, see Break-Up Fees Provisions and Market Trends 2022: Termination Fees. Reimbursement of Expenses In some cases, the party responsible for the payment of any termination fees may be required to also reimburse the other party for some or all of the expenses incurred by such party in connection with the transaction. The parties should specify that any such reimbursement will apply to reasonable and documented expenses only, and it may even be desirable to negotiate a cap on the amount payable to avoid such amount becoming a de facto termination fee. The obligation to reimburse the other party for its expenses may be in addition to an obligation to pay a termination fee, or may apply even when no termination fee is payable. Retention / Return of Deposit While rare in the context of M&A transactions, in some transactions the buyer may be required to pay a deposit towards the purchase price at the time of signing. Such amount will typically be retained in an escrow account pending the closing, and so the seller will not have access to such funds until the closing. If such a deposit is paid, the amount payable by the buyer to the seller at closing will be correspondingly reduced. If the agreement is terminated prior to closing, the parties will need to address what happens to the deposit. The most common formulation is to allow the seller to retain the deposit if the transaction failed to close because of an action (or failure to act) by the buyer, and to return the deposit to the buyer if an action (or failure to act) by the seller was the cause of termination, or if the triggering event was outside of the control of all parties. Interest In order to deter any unnecessary delays in the payment of any termination fees, expenses or other amounts payable as a result of termination, the parties may want to provide that interest will accrue on any amounts that are not paid when due. For an in-depth analysis of termination provisions, see Termination Provisions in M&A Transaction Agreements and Termination Triggering Events in M&A Transaction Agreements. For a discussion of break-up fees associated with termination, see Break-Up Fees Provisions. For a full listing of related stock acquisition content, see Stock Acquisition Resource Kit.