Role reversal

Recent economic turmoil has changed the M&A playing field. With credit markets frozen and the wild and often downward swings of a volatile stock market, sellers are now finding the world is no longer a friendly place. The overall pace of merger and acquisition activity for 2008 has slowed significantly, and other traditional alternatives for businesses such as debt financing, leveraged private equity transactions or public offerings of debt or equity have all but shut down due to the current economic crisis. As a result, sellers are left with few alternatives, and the lack of options can be particularly acute when sellers find themselves in distress.

As a consequence of this shift in leverage, sellers can no longer expect multiple bidder auctions, limited closing conditions and limited post-closing exposure. Rather, buyers are now in the driver's seat and have been using their advantage to strike favorable deals. Buyers are seeking maximum flexibility and are negotiating acquisition agreements with favorable terms and conditions to ensure that ultimately, they are not stuck in a bad deal. Sellers can now expect to see the more frequent appearance of the following provisions and structures in acquisition documents:

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• Asset Sales. Given the change of bargaining positions, buyers will be able to dictate the form of acquisition and will often press for asset sales to avoid assuming undesirable liabilities.
  
• Reverse Termination Fees. While making an appearance in some transactions in recent years, reverse termination fees were less common when sellers had better leverage. But with the uncertainties in the credit markets and the overall business landscape, buyers are motivated to mitigate their risk as much as possible. Sellers should expect to see acquirers increasingly request reverse termination fees to provide an escape hatch if the condition of the overall market or the target company deteriorates.
  
• Increase in Breakup Fees. While more common than a reverse termination fee, breakup fees usually have not exceeded a few percentage points of the overall deal value. However, with the shift in leverage, sellers should expect to see buyers seek to increase breakup fees in an effort to further lock up the deal and prevent the seller from walking away.
  
• Financing Outs. Because financing outs can become a convenient escape route for buyers, sellers ordinarily do not want such provisions included as a condition to closing. With the current market instability, sellers should expect to see these sorts of clauses more often.
  
• Due Diligence Conditions. Generally, sellers will object to due diligence provisions because they can be overbroad and can provide the buyer with an option to terminate that could be difficult to challenge, but with current market conditions, buyers will likely demand such rights are included in acquisition agreements.
• Material Adverse Effect Clauses. In light of the recent seller's market, material adverse effect clauses were generally drafted narrowly and were often limited in scope. With the shift in leverage in favor of buyers, sellers should expect acquirers to demand more contingencies be included in MAE clauses and for such clauses to be much broader in scope.
  
• Required Shareholder Vote Provisions. As sellers lose leverage, they can expect buyers will seek to force them to bring a transaction to their shareholders. The effect of including this sort of buyer-favorable protection is that it could render the seller less appealing to other potential suitors and therefore increase the certainty of the transaction closing.
  
• No-Shop Provisions/Fiduciary Outs. Although they are normally coupled with a fiduciary out to protect the seller in certain circumstances if a better deal comes along, sellers can expect no-shop provisions to have a significant duration and scope and substantially limit a seller's ability to seek alternative transactions. Despite the shift in leverage, sellers should take appropriate steps to ensure they can comply with their fiduciary obligations, which may require the seller's board of directors to obtain the most favorable price and terms for shareholders. 
• Topping/Matching Competing Offers. With a provision that allows for bettering or matching competing offers, a chilling effect may occur, preventing rival offers and effectively locking up the deal for the buyer. Such a provision gives the buyer an added measure of security and sellers should anticipate buyers negotiating for such protections.

While these provisions are among the more common protections that buyers may seek in deals, varying transaction dynamics and economic circumstances could result in buyers seeking other unique restrictions and conditions to help provide additional deal flexibility.

Ultimately, unless the credit markets loosen quickly and overall market conditions improve dramatically, sellers need to expect buyers to drive a hard bargain and negotiate for more flexibility and control than they have achieved during the economic boom of the last few years. As long as economic uncertainty continues, buyers will employ a variety of strategies to ensure they can escape from a deal if necessary while at the same time strengthening their deal grip on the seller.

Michael J. Delaney is a partner in the corporate department in Kilpatrick Stockton LLP's Atlanta office.

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