Identifying international market practice for equity value adjustments and Sale and Purchase Agreements.
With high values at stake, difficulties in reaching agreement on the completion mechanism and Sale and Purchase Agreements (SPAs) can frustrate and sometimes derail an otherwise successful transaction.
Without definitive rules or standards on completion mechanisms, parties to a transaction often cite ‘market practice’ when negotiating how the initial offer price is converted into the final equity value paid for a business. However, there isn’t much data to determine what is meant by ‘market practice’.
As part of helping shape a vibrant economy, we are leading the way to establish and improve market best practice in SPA Agreements. We authored the Best Practice Guideline: Completion Mechanisms Determining the Equity Value in Transactions, published by the Institute of Chartered Accountants in England and Wales (ICAEW) and we published a UK market survey, .
This year we expanded our research to identify market best practice around the world, obtaining the views of over 550 respondents from 400 different organisations in 13 countries.
We believe there is a smarter way to get deals done, where parties take closer starting positions on non-contentious areas and tackle contentious areas openly earlier in the deal process.
Our key findings this year include:
- The usage of the locked box mechanism has increased in the past five years (some 64% of respondents reported a rise – 70% in Europe, 45% in APAC, 43% in North America) and as advisors become increasingly familiar with the mechanism, we anticipate it will become more popular.
- Negotiating the value accrual differs internationally, with the ‘Cash Profits’ method being most popular in Europe. 71% of respondents agree that some form of ‘value accrual’ or ‘ticker’ adjustment is appropriate to compensate the seller for the time lag between the locked box date and completion, but there is no observed consensus on the conceptual basis or appropriate method for calculating this adjustment. In North America and APAC there is sometimes no value accrual applied.
- Deferred income is still the most contentious balance sheet item. North America and APAC respondents were more likely to consider deferred income a working capital item (roughly 40% of respondents, compared to under 30% in Europe) rather than debt.
- Earn-outs are being used in around 40% of deals. The percentage was lowest in North America with earn-outs only used on around 30% of deals, and highest in APAC where earn-outs are used on almost half of deals. 76% of respondents reported that ‘Earnings Before Interest, Tax, Depreciation, and Amortisation’ (EBITDA) is the most common measurement basis for earn-outs.
- Completion accounts mechanisms and earn-out clauses take the longest time to negotiate and are the most common areas of post-deal dispute, with 23% of completion accounts mechanisms resulting in a dispute (formal or otherwise).