Classification: Deal Driver
Negotiation Time: Minimal
Transaction Costs: Intermediate to Expensive
Major Impact: Risk Management and Transaction Completion
What is This? The lack of an important governmental approval or third-party consent can kill a deal despite the Buyer and Seller both wanting to move forward. To avoid that situation, the parties list out the necessary consents and approvals and split up the work in a way that makes sense for both sides. They also use this covenant to set boundaries around how far they must go in order to obtain a consent or approval.
The Middle Ground: This covenant requires both the Buyer and Seller to make all filings necessary to consummate the transaction, and to use their reasonable best efforts to obtain all the requisite consents from governmental authorities and third parties (e.g. customers and suppliers). It then lists out specific actions that the parties must carry out or avoid in order to obtain the necessary consents, such as litigating any order blocking the transaction, again modified by a reasonable best efforts standard. It also requires the parties to share certain information regarding communications with Governmental Authorities. Lastly, it expressly states that the Buyer is not required to sell off any part of its business or change the terms and conditions of the transaction to appease a Governmental Authority seeking to halt the transaction based on antitrust concerns.
Purpose: Once a potential deal reaches the exclusivity stage, it’s unlikely that a third party will prevent it from going through unless that third party is the government or has an important contract with the Seller and won’t consent to a change of control. This covenant seeks to deal with those two threats by allocating the serious risks they present between the parties.
Buyer Preference: The Buyer’s main concern with this clause is the application of the “reasonable best efforts” standard. The Buyer wants the standard included, but in defining what it means the Buyer needs to be aware of what it is willing (and unwilling) to do to close the transaction. For anything that it is unwilling to do, the Buyer will want an express statement to that effect included in the definition of reasonable best efforts. Given that the Seller will be the one that has the pre-existing relationships with important third parties other than the government, the Buyer generally wants the risk of not obtaining a third-party consent to fall on the Seller, with the risk of not obtaining Governmental Approval shared equally.
Seller Preference: The Seller wants to place the risk of not obtaining necessary Governmental Approvals on the Buyer, and it can do so by replacing the reasonable best efforts standard with a more demanding one. The Seller’s main concern is avoiding governmental interference with the deal, so it wants to place the burden relating to any such interference on the Buyer. The Seller can allocate that risk to the Buyer by requiring the Buyer to either divest assets to satisfy regulators or litigate any Governmental Order blocking the transaction. If the Buyer objects, the Seller can suggest putting caps on the amount of assets the Buyer must divest or that the parties list out specifically which assets would be subject to divestiture.
Differences in a Stock Sale Transaction Structure: None.
We want The Middle Ground to be an ongoing dialogue for and resource to the lower middle market M&A community. The outline above is generally applicable, but there is always specific case law and nuance around certain industries that can be useful in helping buyers and sellers come together. If you are a lawyer or deal professional, we encourage you to add your perspective below.