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What Is Acquired Break Fee?
An acquired break fee, often referred to simply as a breakup fee or termination fee, is a contractual provision in a merger agreement that requires one party to pay a predetermined amount to the other if the acquisition transaction is not completed under certain specified circumstances. This type of fee falls under the broader financial category of corporate finance, specifically within mergers and acquisitions (M&A). The primary purpose of an acquired break fee is to compensate the aggrieved party for the time, effort, and expenses incurred during the negotiation and due diligence process37. It also acts as a deterrent against a party backing out of a deal without a valid reason or pursuing a superior offer after an agreement has been reached.
History and Origin
The use of termination fees in securities transactions, including acquired break fees, gained prominence in the 1980s as a mechanism to protect parties from the inherent risks of M&A transactions36. Over time, these fees have become a standard feature in many merger and acquisition agreements, with their usage expanding significantly in the 1990s and 2000s35. The evolution of acquired break fees has been influenced by market conditions, regulatory developments, and judicial decisions34. These provisions aim to provide a degree of certainty and predictability, enabling parties to negotiate and structure transactions with greater confidence33. For instance, in the high-profile acquisition attempt of Activision Blizzard by Microsoft, Activision Blizzard's SEC filings revealed a potential $3 billion payment from Microsoft if the deal failed to materialize under certain conditions31, 32.
Key Takeaways
- An acquired break fee is a payment made by one party to another if a merger or acquisition deal is terminated under specified circumstances.
- It serves to compensate the non-terminating party for expenses and lost opportunities.
- These fees are a common feature in M&A agreements, particularly in public takeovers.
- Acquired break fees also provide a form of deal protection, making it more expensive for competing bidders to emerge30.
- The typical range for an acquired break fee is generally 1% to 3% of the deal's total value, though it can vary27, 28, 29.
Formula and Calculation
An acquired break fee is typically a fixed amount or a percentage of the total transaction value. There is no universal formula, as it is a negotiated term. However, it can be expressed as:
Alternatively, it can be a specific, agreed-upon lump sum. For example, a merger agreement might stipulate a fixed fee or a percentage. The valuation of the target company and the expected costs incurred by the acquirer during the negotiation process are key factors in determining this amount.
Interpreting the Acquired Break Fee
The interpretation of an acquired break fee largely depends on the context of the M&A deal. From the perspective of the acquirer, the fee represents a form of compensation for the resources invested, such as legal fees, advisory fees, and the opportunity cost of pursuing other deals. It also acts as a deterrent to the target company from seeking or accepting a superior offer from another party, thus providing a degree of deal protection25, 26. For the target company, agreeing to an acquired break fee acknowledges the commitment made to the initial acquirer and the costs they might incur if the deal falls through. The size of the fee can signal the seriousness of the bidder's intent and the level of difficulty expected in achieving regulatory approval.
Hypothetical Example
Imagine "TechInnovate Inc." (the acquirer) proposes to acquire "NextGen Solutions Corp." (the target) for $500 million. As part of the merger agreement, they include an acquired break fee clause. This clause states that if NextGen Solutions Corp. terminates the agreement to accept a superior offer from another company, they must pay TechInnovate Inc. a break fee of $15 million.
Several months into the process, after extensive due diligence by TechInnovate, "Global Dynamics Group" makes an unsolicited offer to acquire NextGen Solutions for $550 million. After careful consideration and fulfilling their fiduciary duty to shareholders, NextGen Solutions' board decides to accept Global Dynamics Group's offer. Consequently, NextGen Solutions Corp. would be obligated to pay TechInnovate Inc. the $15 million acquired break fee as outlined in their initial agreement. This payment compensates TechInnovate for its expenses and the lost opportunity.
Practical Applications
Acquired break fees are widely used in various M&A scenarios. They are particularly prevalent in public takeovers where the target company's board has a fiduciary duty to maximize shareholder value and might be compelled to consider unsolicited higher bids24. The fees provide protection for the initial bidder against "deal jumping" or "topping bids" by rival acquirers23.
These provisions appear in contexts such as:
- Strategic acquisitions: A strategic buyer often incurs significant costs in identifying potential synergies and integrating operations. An acquired break fee helps mitigate these costs if the deal fails.
- Highly regulated industries: Deals in sectors requiring extensive regulatory approval, such as telecommunications or pharmaceuticals, often include these fees to compensate for prolonged review processes.
- Protection against competing bids: The fee increases the cost for a third-party purchaser attempting a hostile takeover22.
For instance, the proposed acquisition of Activision Blizzard by Microsoft included provisions for significant termination fees, reflecting the complexity and regulatory scrutiny of such a large transaction18, 19, 20, 21. According to a study, the highest termination fee in dollar terms in 2022 was observed in Microsoft Corporation's proposed acquisition of Activision Blizzard17.
Limitations and Criticisms
While acquired break fees serve important purposes, they are not without limitations and criticisms. One common critique is that they can deter competitive bidding, potentially limiting the opportunities for shareholders to receive a higher offer16. Regulators, such as the Federal Trade Commission (FTC), sometimes scrutinize these fees, particularly in the context of antitrust law, as they can be perceived as anti-competitive by making it more expensive for rival bidders to emerge and for deals to fall through due to regulatory challenges13, 14, 15. There is concern that an overly large acquired break fee could be seen as an impediment to competition, effectively locking out other potential suitors11, 12.
Another limitation is that even with an acquired break fee, the compensation may not fully cover all the intangible costs associated with a failed deal, such as reputational damage or missed strategic opportunities. Furthermore, the enforceability of these clauses can sometimes be challenged in court, particularly if the fee is deemed an excessive penalty rather than a reasonable estimation of liquidated damages.
Acquired Break Fee vs. Reverse Breakup Fee
An acquired break fee, or breakup fee, is typically a payment from the seller (target company) to the buyer (acquirer) if the deal does not close due to specific reasons, such as the seller accepting a superior offer10. This fee compensates the buyer for costs incurred and provides deal protection.
In contrast, a reverse breakup fee is a payment made by the buyer to the seller if the transaction is not completed due to certain actions or inactions of the buyer, such as failure to obtain acquisition financing or regulatory approval8, 9. This protects the seller from the buyer backing out and ensures buyer commitment. While both are termination fees, the direction of the payment and the triggering events differ significantly.
FAQs
What triggers an acquired break fee?
An acquired break fee is triggered by specific events outlined in the merger agreement, such as the target company accepting a competing offer, a material breach of the agreement by the target, or the target's shareholders failing to approve the deal under certain conditions6, 7.
Are acquired break fees legal?
Yes, acquired break fees are generally legal and are a common component of M&A contracts. However, their size and the circumstances under which they are triggered are subject to legal scrutiny and may be challenged if deemed excessive or anti-competitive5.
How are acquired break fees determined?
Acquired break fees are determined through negotiation between the buyer and seller. Factors considered include the size and complexity of the deal, the estimated expenses incurred during due diligence and negotiation, and the need to provide reasonable deal protection without unduly deterring other potential bidders4.
Do all M&A deals include an acquired break fee?
No, not all M&A deals include an acquired break fee. While common, particularly in public takeovers, they are less frequent in mid-market transactions for privately held businesses3. The inclusion and terms of the fee depend on the specific circumstances and negotiations between the parties involved.
How does an acquired break fee benefit the buyer?
An acquired break fee benefits the buyer by compensating them for the significant time, effort, and financial resources expended during the pursuit of the acquisition, including legal, advisory, and due diligence costs, if the deal fails1, 2. It also serves as a disincentive for the target company to entertain or accept alternative offers once an agreement is in place.