Reverse break-up fees emerge in response to deal terminations

Lockdowns in 2020 brought a large uptick in terminated deals—and although broken deal rates have slowed, there has been a renewed focus from deal parties on how to protect themselves in the event of a deal termination.

There were more than 100 deal terminations recorded globally in Q2 2020, the highest quarterly total since 2018, according to Bloomberg Law. High-profile deals that were called off as a result of the pandemic included Ally Financial canceling its US$2.65 billion acquisition of CardWorks after a mutual agreement and real estate mall investor Simon Property Group initially abandoning plans to buy Taubman Centers for US$3.6 billion before agreeing to go ahead after agreeing a lower valuation.

Levels have since stabilized to 70 terminated deals in Q1 2021, but dealmakers continue to monitor broken deal risk closely.

Termination protection

Parties are moving to protect themselves from deal termination risk by negotiating for clear termination fee provisions in merger agreements. The inclusion of reverse break-up fees, which were relatively rare pre-pandemic, has become more common.

Reverse break-up fees are the result of negotiations. Some buyers may be more inclined than others to agree to pay such fees if, for example, there is regulatory approval required for the merger. Payment of a break-up fee, however, depends on the facts and circumstances of each deal.

White & Case, for example, advised healthcare and insurance provider Anthem following its terminated deal with Cigna. Cigna claimed that it was automatically entitled to a US$1.85 billion reverse break-up fee if the merger failed to obtain regulatory approval, unless Cigna caused the failure. But the Delaware Chancery Court and Delaware Supreme Court determined that Anthem was not obligated to pay the reverse break-up fee because Anthem terminated based on Cigna's breaches and did not have to prove Cigna caused the merger's failure.

The pandemic did not, however, trigger the anticipated deluge of broken deal litigation over the triggering of material adverse change (MAC) and material adverse effect (MAE) clauses. Although parties did pay close attention to whether MAE and MAC clauses were triggered in the market uncertainty following the first lockdown and whether there was cause of litigation, a desire to consummate transactions fast seemed to prevail in most cases.

SPACs and private equity firms with large sums of dry powder and demanding deployment schedules have pushed for deals to close, rather than pulling out of transactions as many expected.

But there could still be an unexpected flow of lawsuits alleging sponsor or director conflicts of interest and inadequate due diligence if any of these deals fail to deliver to expectations.

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