Although not all M&A deals have them, breakup fees are commonly thought of as fees that a party has to pay, under the circumstances that are delineated, in the event that the party does not follow through and close the transaction.
For example, they’re documented by way of language such as this: “As a result of the Company’s refusal to consummate the transactions contemplated hereby which refusal is not permitted by Section 14, a breakup fee of $1,500,000 shall be paid within three business days following termination by the Company to AcqCo.”
In that situation, breakup fees can be seen as a form of expense recoupment or of liquidated damages, and they also involve, depending on the circumstances, a degree of dissuasion or deterrence.
But there’s another less common or even “off label” use for breakup fees: A fee paid to undo the deal after it’s already closed. Although I’ll give an initial example from the M&A context, the concept can be applied in other domains as well.
In the M&A context, consider a deal in which your medical group has sold its practice to “Buyer X”, which could be a PE firm, a hospital, a strategic buyer expanding its existing operations, or anyone else.
As a part of the deal, your partners and you have remained with the practice pursuant to employment agreements. What if, say, 6 months post-closing, the deal just isn’t working out for you, not in the sense of Buyer X’s breach of any agreement, but in the sense that you and your former partners aren’t happy with the deal. For example, it could be a standard PE deal in which Buyer X painted a picture of post-closing Kumbaya when what actually resulted was post-closing to-the-bone cost cutting.
As a result, you want out. If a breakup provision, i.e., a “deal divorce” provision, had been negotiated into the acquisition agreement, it would provide a right, including a deadline for its election, a process, and a price for undoing the deal. There are many ways to structure a breakup provision of this sort and there are many related issues.
Breaking up might be hard, but at least it will be easier to do if you think about the process up front in the manner of a deal “prenup”. Might it be a bad strategy in some contexts? Absolutely. As is always the case, the devil is in the details.
