Key Takeaways

  • A merger and acquisition contract (M&A agreement) defines the legal, financial, and operational terms of a business combination.
  • Negotiations should cover liability, employment, IP, taxes, business operations, and other due diligence items.
  • Price and consideration terms can include cash, stock, promissory notes, working capital adjustments, and earnouts.
  • Escrow or holdback provisions protect buyers against post-closing risks, sometimes replaced with representations and warranties insurance.
  • Representations and warranties outline the seller’s business condition and protect buyers from misrepresentation.
  • Additional critical terms include covenants, closing conditions, termination rights, and dispute resolution methods.
  • Understanding types of mergers (horizontal, vertical, conglomerate) helps explain deal structure and valuation strategies.

Negotiating a Merger Agreement

When negotiating a merger and acquisition (M&A) agreement for a private company, it's important to consider a range of issues, including but not limited to:

  • Liability
  • Employment
  • Intellectual property (IP)
  • Tax
  • Legal
  • Business operations

Failure to conduct due diligence about these items during the negotiation period can result in high risk to the shareholders and increase the possibility of indemnification liability after closing.

Factors that determine success in negotiating an M&A agreement include:

  • The skill of your attorney and negotiating team.
  • Whether you're competing against others for the purchase.
  • Whether you are open to risks when it comes to liability exposure and closing conditions.
  • Whether the price and key terms were reached during the letter of intent state.
  • The amount of leverage each party has.

Key Components of a Merger and Acquisition Contract

A merger and acquisition contract typically contains several essential provisions that establish the framework of the deal:

  • Definitions and Structure – Clarifies whether the transaction is a merger, stock purchase, or asset purchase. This distinction impacts liability, tax consequences, and regulatory approvals.
  • Covenants – Outline what each party must do or refrain from doing between signing and closing. Examples include non-compete obligations, maintaining business operations, or obtaining third-party consents.
  • Closing Conditions – Specify the conditions that must be satisfied before the transaction can be finalized, such as regulatory approvals, absence of material adverse changes, or shareholder votes.
  • Termination Rights – Establish when and how either party may walk away, including “drop-dead” dates, breach of covenant, or failure to secure financing.
  • Dispute Resolution – Some contracts include arbitration clauses, governing law, or forum selection provisions to handle potential conflicts.

Including these elements ensures both sides understand their rights and obligations, reducing the risk of disputes post-closing.

Price and Consideration

Ideally, price and consideration for an M&A contract should be addressed in the letter of intent. Issues to resolve include whether cash upfront will be required for the entire purchase price, whether consideration will consist entirely or in part of buyer stock, if the stock in question is common or preferred, redemption and dividend, liquidation preferences, voting rights, board rights and responsibilities, registration rights, and transferability restrictions. For public companies, think about whether stock will be valued at closing or signing and if you need to take steps to limit downside and upside risks.

For promissory notes, you'll need to negotiate principal and interest payments, whether the note in question is unsecured or secured, if third-party guarantee is required, events that constitute default, and whether payment can be accelerated if the note's terms are breached.

The parties must negotiate between equity and enterprise value. The latter means that price is calculated at closing on a cash and indebtedness-free basis. With the former, the buyer exchanges the seller's cash for its indebtedness.

In some cases, the purchase price will receive a working capital adjustment and you must agree on how this will be determined. The working capital adjustment clause should be drafted carefully to avoid a significant price adjustment at the end of the process.

When earnout is included in consideration, you must negotiate the terms of the earnout including milestones and associated payments, seller protections, and inspection and information rights. Because earnouts are so complicated, they often result in post-closing litigation. For this reason, careful drafting of earnout provisions is essential.

Types of Mergers and Deal Structures

Merger and acquisition contracts vary depending on the type of transaction and how the deal is structured:

  • Horizontal Mergers – Between competitors in the same industry, often focused on market share expansion.
  • Vertical Mergers – Between companies in different stages of the supply chain, designed to increase efficiency.
  • Conglomerate Mergers – Between unrelated businesses, usually to diversify revenue streams.
  • Market-Extension and Product-Extension Mergers – Expand a company’s geographic presence or product lines.

The chosen structure—whether asset purchase, stock purchase, or statutory merger—affects valuation, tax treatment, and integration planning. For example, asset purchases allow buyers to exclude unwanted liabilities, while stock purchases preserve continuity but assume risks.

Holdback or Escrow

The holdback or escrow clause protects the buyer from the breach on behalf of the seller. A second escrow may be implemented to protect against a post-closing price decrease because of the working capital adjustment.

Some transactions may require escrow for specific situations such as litigation. In rare cases, no escrow is required, such as when no post-closing indemnities exist on an as-is sale. The amount of holdback for indemnification is usually between 5 and 15 percent and must be held by a third party for nine to 18 months.

Many private equity bid transactions have replaced the escrow system with a provision that requires the buyer or seller to buy representations and warranties insurance to protect against indemnification claims after closing. This is rare among strategic acquirer deals, however.

In M&A agreements involving large companies with many shareholders, a shareholder representative should be present in negotiations to represent their interest. This could be one of the majority shareholders or it could be a professional firm hired for this purpose.

Risk Mitigation and Insurance Tools

Beyond escrow and holdbacks, parties often rely on additional mechanisms to manage risk:

  • Representations and Warranties (R&W) Insurance – Transfers post-closing risk to an insurer, reducing the need for large escrow funds.
  • Indemnification Caps and Baskets – Limit the seller’s liability by setting thresholds and maximum payout amounts.
  • Material Adverse Change (MAC) Clauses – Protect buyers by allowing termination if significant negative events occur before closing.
  • Integration Planning – Some contracts include detailed post-closing obligations, such as transition services agreements, to ensure smooth operational handover.

Representations and Warranties

This part of the agreement can cover everything involving the seller's business operations, including but not limited to corporate authorization, contracts, employee matters, compliance, financial statements, liabilities, and asset titles. Intellectual property is also a critical matter, particularly for tech companies.

Representations and warranties serve buyer interests in three main ways. This section confirms the buyer's due diligence research, prevents the buyer from having to complete the acquisition if any representations and warranties are untrue, and may indemnify the buyer from any damages that result from misrepresentation.

Only the selling company should make representations that are included in the contract.

Case Example and Practical Considerations

A notable example of merger agreement negotiation is the AT&T and Time Warner merger, where regulators scrutinized antitrust risks. This illustrates how covenants, regulatory conditions, and representations play a critical role in high-profile deals.

For smaller private company transactions, practical considerations often include:

  • Employee Retention and Benefits – Addressing how existing staff and executives will be treated post-closing.
  • Intellectual Property Ownership – Ensuring that patents, copyrights, and trademarks are properly transferred.
  • Confidentiality and Non-Solicitation – Protecting trade secrets and client relationships during and after the transaction.

Each of these factors must be clearly documented in the merger and acquisition contract to avoid disputes and preserve deal value.

Frequently Asked Questions

  1. What is a merger and acquisition contract?
    It is a legally binding agreement that sets out the terms of a business merger or acquisition, covering price, liabilities, and obligations of both parties.
  2. What are the main components of an M&A agreement?
    Key components include definitions, price and consideration, covenants, closing conditions, termination rights, representations and warranties, and dispute resolution.
  3. Why are representations and warranties important?
    They confirm the seller’s disclosures, protect buyers from hidden liabilities, and provide grounds for indemnification if statements are inaccurate.
  4. How do escrows and holdbacks work in mergers?
    They reserve a portion of the purchase price to cover post-closing risks, such as indemnification claims or working capital adjustments.
  5. What types of mergers exist?
    Common types include horizontal, vertical, conglomerate, market-extension, and product-extension mergers, each with unique strategic purposes.

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