Deal terms diverge across Atlantic

US-based GPs are agreeing to more earn-out provisions and material adverse change clauses relative to their EU counterparts, according to recent research.

Variations in merger and acquisition deal structures across international markets have been uncovered by research from law and tax advisers CMS Corporate. The study highlights underscore the approach needed by GPs in order to successfully strike deals across borders.   

The analysis shows a reinstatement of seller-friendly standards using provisions such as lower liability caps and a reasonably generous de minimis, said Thomas Meyding, head of CMS Corporate, in a statement.

“2011 was a good year for sellers. The fact that there are a few more buyers looking to do deals, and particularly private equity houses with funds to invest, means that sellers can be more robust in their negotiations,” added Meyding

The seller-friendly conditions were also shown with more locked box deals – a mechanism that represents the “true” value of a company by moving from enterprise value to equity value based on the historical balance sheet where all items of debt, cash and working capital are known at the date of signing.

The acceptance of warranty and indemnity insurance aimed at providing more protection against downside risk also point to seller power in 2011.

The review, CMS’ fourth annual M&A study, took into account 1,350 deals completed between 2007-2011 in Europe and the US. 

It shows that earn-out components are more popular in the US with 38 percent of the US deals in the study having an earn-out structure. These components, in which a seller gets additional compensation based on the business achieving future goals, often lead to difficult negotiations and subsequent disputes.

Just 14 percent of European deals used earn-out components and the purchase price gap was more commonly bridged by vendor loans or option arrangements.

US buyers are also far more cautious with 93 percent using Material Adverse Change clauses – enabling a buyer to refuse to purchase if the target suffers a market changing setback. 

Last August New York-based private equity firm Cerberus Capital Management and Chatham Lodging Trust terminated a $1.1 billion agreement to acquire stakes in scores of hotels owned by Innkeepers USA Trust.

A working capital adjustment is the most frequently used method in adjusting the purchase price in the US. It was used in 77 percent of deals, compared to a modest 26 percent in Europe, where the deal made a purchase price adjustment.

There are also indemnity differences between the US and Europe with the US using baskets more frequently. The basis of recovery was also different with just 28 percent of European deals based on “excess only” recovery compared to the US’ 59 percent.

Basket thresholds also tend to be higher in Europe with 55 percent of deals having a threshold lower than 1 percent. In the US 88 percent of the basket thresholds were less than 1 percent.