Complex mergers often involve substantial breakup fees that offset some of the risk of an unconsummated deal. Recently, “reverse” termination fees have become de rigueur in deals, posing meaningful antitrust risk as a way to protect sellers against the risk and inconvenience of obtaining regulatory approvals. These fees are typically triggered when a deal either cannot close, or cannot close by a date certain, as a result of scrutiny from competition authorities in the United States and/or abroad, requiring the buyer to compensate the seller. Carefully drafted provisions can offer sellers significant protection, but can also impose real burdens upon the seller during the diligence process; buyers, meanwhile, must be aware of the level of commitment they are making to close the deal, in some instances requiring the buyer to go forward with any and all remedies dictated by the agencies to permit the deal to close.
A. Explanation of US Agency Scrutiny
The Federal Trade Commission (“FTC”) and U.S. Department of Justice (“DOJ”) (collectively, the “Agencies”) are responsible for enforcing the antitrust and competition laws of the United States, including the Sherman Act, the Clayton Act, the RobinsonPatman Act, the Hart-Scott Rodino Antitrust Improvements Act (“HSR Act”), and the Federal Trade Commission Act. This includes overseeing mergers that may result in a lessening of competition. The HSR Act requires that mergers between competing firms that meet certain minimum thresholds be affirmatively reported to the Agencies for clearance prior to the merger’s consummation. This review typically lasts at least a month, and may extend to a period of many months. While in some instances the Agencies will approve even a merger of competitors with no conditions, the Agencies may also dictate terms to permit the merger to go forward while offsetting anticompetitive risks, such as divestiture of certain business lines or geographic markets. The Agencies may also ask a court to block the merger if the anticompetitive risk is determined to be irremediable.
B. Reverse Termination Fees, Generally
To address the risk related to potentially lengthy regulatory scrutiny and the uncertainty of regulatory approval, buyers and sellers negotiate antitrust risk shifting provisions in merger agreements. Given that a seller faces challenges in the continued operation of its business following public announcement of the transaction, sellers favor provisions in the merger agreement facilitating a quick closing following public announcement of the transaction. In contrast, buyers generally prefer to avoid contractual obligations to continue with the merger should the Agencies require divestitures or other remedies to address competition concerns that the buyer may find unfavorable. One means of bridging this gap is to negotiate a reverse termination fee provision, which requires the buyer to pay the seller a fee in the event the buyer terminates the merger agreement and abandons the transaction for certain reasons, including failure to obtain antitrust clearance by a specified date. Where a traditional termination fee would be paid by a target that abandons a deal in favor of a better offer, a reverse termination free is paid to a target when the deal fails to close by a date certain.
C. Considerations in Negotiating Reverse Termination Fee Provisions
Reverse termination fees are used and negotiated in coordination with other typical provisions included in merger agreements subject to antitrust scrutiny. To inform the amount of the reverse termination fee—that is, the dollar value of the risk associated with failure to consummate the transaction by an outside date as a result of antitrust scrutiny— care should be taken to negotiate the scope of each party’s obligations and the nature of their relationship relating to the post-signing process of obtaining antitrust clearance. Keep in mind that the Agencies can invoke a number of statutory bases for withholding “antitrust clearance.” The termination fee provisions should reference not only the HSR Act, but also the Sherman, Clayton, and FTC Acts, lest the Agency invoke a statute that is not covered by the provision, potentially requiring the termination fee be paid despite an Agency’s denial of clearance. Proposed mergers involving multinational companies may further implicate antitrust clearance requirements abroad, which should also be considered in drafting a termination provision.
1. Cooperation Provision
One relevant provision to include in a deal with a reverse termination fee is the cooperation clause, which outlines the nature of the relationship between buyer and seller and the terms of their cooperation efforts to obtain regulatory approval. Specifically, the provision contemplates cooperation relating to communications with antitrust regulators, the drafting and review of submissions to the Agencies and participation in meetings with Agency officials with respect to proceedings, inquiries and investigations involving the merger. A seller’s failure to cooperate in the face of a cooperation provision may vitiate his right to recover the termination fee.
2. Obligation to Satisfy Closing Conditions
Another negotiated covenant relating to the antitrust clearance process is the “best efforts” clause, which outlines each party’s obligations to satisfy closing conditions, including the condition of obtaining antitrust approval. While these provisions typically reference vague standards of “commercially reasonable efforts,” “reasonable best efforts,” or “best efforts,” buyers and sellers should consider also including specific parameters for the potential outcomes of regulatory scrutiny, including covenants for notice, review and consultation with respect to communications with competition authorities, attendance of meetings with competition authorities, defense of litigation challenging the proposed merger and the control of strategy and tactics thereof. Given that these provisions can obligate a buyer to divest certain assets if required by regulators as a condition to obtaining antitrust clearance, the specificity regarding which assets a buyer will commit to divesting (i.e. non-material assets or any asset so required by regulators) is the subject of significant negotiation. Some buyers ultimately agree to a “hell-or-high-water” provision, which obligates the buyer to take any and all action to obtain antitrust approval, including the divestiture of any of the assets subject to review and litigation. Because failure to comply with this negotiated provision can result in a buyer owing a hefty termination fee, a buyer must holistically evaluate the potential obligations of such negotiated provisions and termination fees with the overall economics of the proposed transaction.
3. Termination Rights
While merger agreements typically include termination provisions to provide an outside date for the satisfaction of closing conditions, agreements subject to antitrust clearance should contemplate those circumstances that warrant termination in light of the regulatory process. Perhaps the biggest consideration for termination provisions is the timing of the outside date, and whether and how the outside date can be extended in the event that the only closing condition yet to be satisfied is antitrust clearance. In circumstances where a buyer must take an affirmative step to extend the outside date solely for the satisfaction of antitrust clearance (i.e. provide written notice), buyers are advised to clearly articulate the scenarios that would trigger a seller’s right to a reverse termination fee. In one recent case, for example, Rent-A-Center Inc., as seller, demanded a $126.5 million reverse-termination fee from prospective buyer Vintage Capital Management LLC, following the buyer’s failure to formally document its option to extend the deadline for obtaining antitrust approval for its proposed $1.4 billion deal—despite the buyer’s ongoing desire to consummate the deal. (Whether Rent-A-Center would have been successful in securing that fee was openly questioned by the Vice Chancellor in Delaware Chancery Court overseeing the dispute, before the parties ultimately stipulated to dismissal without resolving the fee dispute on the record.) Buyer and seller may also provide that a party’s uncured failure to comply with the cooperation obligations described above may trigger a termination right for the nonbreaching party.
4. Size of the Reverse Termination Fee: Deal trends
In an annual survey conducted by Practical Law of 77 leveraged public company M&A deals in 2017 with a value of $100 million or more, 31 agreements (40 percent) contained reverse termination fees. Of the deals identified in the survey, the average size of the reverse termination fee was 6.76% of the transaction value. According to the same survey, the average size of reverse termination fees as a percentage of transaction value has generally hovered around 6% over the last five years. The typical size of reverse termination fees as a percentage of transaction value varies greatly, however, with the size of the deal. For instance, in transactions valued at $10 billion or more over a similar time period, reverse termination fees as a percentage of transaction value typically ranged from less than 1% to nearly 4%. Notable outliers exist, including Broadcom Ltd.’s proposed $8 billion termination fee in its ultimately rejected takeover offer for Qualcomm Inc., which represented 6.8% of total transaction value (well outside typical range of 1-4% for transactions valued at $10 billion or more), and the 15.75% fee agreed to in the Rent-A-Center/Vintage Capital Management merger agreement.
D. Timing Issues
When competing firms subject to the HSR Act decide to move forward with a merger, they must submit an HSR filing to both Agencies. After submission, the Agencies have thirty days to determine whether the information submitted with the initial filing is sufficient to permit the deal to go forward, or whether additional information is required. Without further Agency action, the waiting period will automatically expire at midnight on the thirtieth day, permitting closing to go forward as soon as the next day. The Agencies may also jointly elect, if requested, to grant early termination to the parties. Early termination is communicated by the Agencies to the merging parties in writing on or before the last day of the waiting period. It has the effect of immediately terminating the waiting period, permitting closing to occur as soon as that same day
In cases in which the Agency scrutinizing the deal has concerns about the effect the deal may have on competition, the Agency may issue a request for additional information to the parties, commonly referred to as a “second request.” This can be a lengthy process of document review and production on the part of the parties to the deal. Once the parties have certified substantial completion of their responses to the second request, the Agency has another thirty-day window to review the submissions and determine whether it will permit the deal to move forward.
A typical second request period lasts four to six months. If the parties to a deal anticipate regulatory scrutiny that may lead to a second request, they need to take that into consideration in drafting their termination fee provision. If Agency clearance could take six months, a well-drafted termination fee provision will not be triggered until after that time period has expired.
If the termination fee provision does not provide sufficient time to receive Agency clearance, but the parties remain interested in moving forward with the deal, there is the possibility of extending the time for closing. In doing so, it is important to explicitly extend the terms under the applicable termination fee provision, to ensure that it is clear which party will be liable for any termination fee that may arise if the deal does not close, and when that liability will arise.