What is the No Shop Provision?
A No Shop Provision is a clause included in an agreement between the seller and the buyer that prevents the seller from soliciting purchase proposals from other parties for a given duration of time. In essence, the provision limits the seller from seeking other potential buyers of the business or asset after the signing of the Letter of Intent. The goal of the clause is to protect the interested buyer from losing the business because there are other interested parties who may offer a higher bid. This provision is common in M&A transactions.
A no shop provision provides for the following:
- That the target company stops all discussions with other interested buyers.
- That the target company ceases from providing any information to third parties concerning the original buyer’s proposal.
- That the target company provides information about any unsolicited bids from third parties.
While the no shop provision limits the seller’s ability to get better offers, the sellers protect themselves by limiting the provision to a given period, for example, 40-60 days. The clause is usually invoked by powerful companies in high-stakes negotiations. Typically, the interest of a dominant buyer may in itself drive up the valuation of the business and attract competition from other large buyers. In such cases, the buyer introduces the no shop provision to reduce competition, increase the certainty of closing the deal, and protect their investments in terms of money, time, and resources committed to the transaction.
Exceptions to a No Shop Provision
Although a seller and a buyer opt to include a no shop provision in their agreement, some exceptions allow the seller to receive bids from third parties. This is most common during the sale of a public company where the directors owe a fiduciary duty to the shareholders to find the highest possible bid for the company. Therefore, even if directors agree on a no shop provision with a buyer, they still possess the right to accept better proposals without being limited by the deal-protection mechanisms that are already in place. Exceptions include:
Go-shop provisions allow the board of a company to actively seek and receive alternative bids from third parties within a specified period, e.g., 30-60 days after the signing of the agreement. The provision applies when the target company did not conduct an auction before signing an agreement with a buyer, as required by the law.
The window shop exception to the no shop provision allows the target company to talk with third parties who are interested in buying the company to see if they can get a better offer than they already have. However, the window shop exceptions occur only in specific circumstances.
A fiduciary out allows the board of a company to change its recommendations contained in the agreement with the buyer if there are concerns that continuing with the agreement as it is would breach the board’s duty of care to stockholders. Therefore, the board’s fiduciary responsibility provides it with an “out” even if the board has agreed to a no shop provision. The fiduciary out must be included in the signed agreement between the seller and the buyer.
Example of a No Shop Provision
One of the high-stakes transactions that included a no shop provision was the acquisition of LinkedIn by Microsoft in 2016. In a press release, Microsoft disclosed that there was a $725 million breakup fee if LinkedIn consummated a deal with another buyer. This meant that, if LinkedIn terminated the merger agreement with Microsoft in order to accept a superior proposal, then it would have to pay Microsoft a $725 million termination fee. The no shop provision was contained on page 56 of the Microsoft-LinkedIn Merger Agreement that outlined LinkedIn’s obligations in the contract.
Microsoft introduced the no shop provision to keep its main competitor, Salesforce, from getting involved in the deal. Although the no shop provision was upheld during the negotiations, it did not prevent Salesforce from showing its interest in LinkedIn by placing a higher unsolicited bid. Microsoft was forced to raise its bid since LinkedIn had a duty of care to its stockholders to get the best offer possible for the company.
Other Deal Protection Mechanisms
Sometimes, parties to a transaction may combine several deal protection mechanisms to safeguard their bids. In addition to no shop provisions, the parties may employ break-up fees, lock-ups, stock options, and recommendation agreements.
Break-up fees are fees that the seller may be required to pay the buyer if the transaction is not consummated. The break-up fees prevent the target company from selling the business or asset to a third party who places a higher bid than the main buyer’s proposal. If the seller accepts the bid from a third party, then they will have to pay the original buyer a fee equivalent to the breakup fee. If the breakup fee does not exceed 3%-4% of the total value of the sale, then the provision is likely to be upheld by the courts.
A lock-up is an agreement where the buyer has the option of acquiring a portion of the target company’s stock or taking ownership of vital assets in the target company. This means that the buyer will have a competitive advantage over other competitors in the transaction since they already have part-ownership in the target company. However, lock-ups should not be used to intimidate the board or coerce the shareholders to approve the transaction.
Stock options allow the acquirer to buy a certain number of shares in the target company if a particular pre-agreed event occurs. This deal protection mechanism benefits the buyer in two ways. First, the company’s stock price increases due to higher demand, and secondly, it raises the acquirer’s stake in the company. The acquirer may exercise its stock options and use the funds to acquire a larger stock interest in the target company that gives them more control.
Recommendation agreements are reached between the buyer and the board of directors of the target company. They require the board of directors to recommend the transaction to the company’s shareholders. In such scenarios, the law requires that any recommendation agreements must be accompanied by a fiduciary out clause.
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