The business world is filled with complexities and nuances, especially when it comes to mergers and acquisitions (M&A). Amidst so many variables, an essential legal provision stands out as a contractual risk allocation to potential uncertainties: the break-up fee clause. This mechanism aims to predetermine losses and damages caused by the failure of the conclusion of an M&A transaction in the occurrence of specific situations described in the transaction agreement.
The break-up fee, expressly stipulated in the Brazilian Civil Code, is a punitive clause that provides for the payment of a compensatory fine in case of the occurrence of certain factual situations described in the agreement[1].
Apart from pre-determining losses and damages which can be an advantage to the parties in the context of their agreement, the use of a break-up fee provision in an M&A transaction grants security and discourages the parties to terminate the potential deal without a relevant and agreed cause.
Since the parties involved in an M&A transaction incur in several costs, such as financial advisors and lawyers’ fees, among others, the break-up fee is usually seen and accepted in M&A transactions as a mechanism to reimburse one party of such and other related costs in the event of an agreement termination without cause.
Unlike the advance payment — the main purpose of which is to demonstrate the buyer's intention to proceed with the transaction — the break-up fee clause is designed to discourage the other party from terminating the deal without a valid reason or even encourage the fulfillment of the conditions precedent agreed between the parties, as the case may be. Therefore, these two mechanisms should not be treated as similar.
The most common events that trigger the payment of a break-up fee include, but are not limited to, the agreement termination without cause, the non-approval of the transaction by the board of directors or general shareholders meeting of one of the parties involved in the deal, breach of representations and warranties set forth in the transaction agreement, and breach of the exclusivity clause.
When discussing the break-up fee, some legal restrictions must be considered, such as (i) the beneficiary can only claim additional compensation that exceeds the amount of the losses and damages previously established by the break-up fee if expressly provided for in the agreement; and (ii) the value of the break-up fee cannot exceed the amount of the main obligation, which, in M&A transactions, is generally the purchase price. It is important to mention that there is no rule imposing the percentage to be set as a break-up fee in M&A agreements pursuant to the Brazilian applicable legislation.
However, former court decisions issued by the Brazilian Federal Supreme Court (STF)[2] state that the amount imposed as a break-up fee should be between ten percent (10%) and twenty-five percent (25%) of the transaction’s total amount. On the other hand, the Brazilian Superior Court of Justice (STJ)[3], considers amounts above twenty percent (20%) of the total transaction value to be abusive. Considering such court precedents, it is advisable that the parties consider a safe percentage of up to twenty percent (20%) of the total transaction value.
Therefore, a break-up fee clause stands out as a crucial element in merger and acquisition agreements, offering security and protection for the parties involved. By incorporating this provision into the transaction agreement, the parties expressly commit to the M&A process, minimizing uncertainties and effectively allocating risks.
In a business environment where trust and commitment are vital, the use of the break-up fee clause becomes a crucial safeguard against potential issues, minimizing conflicts and promoting successful and mutually beneficial transactions.
[1] NONATO, Orosimbo. Curso de Obrigações. Rio de Janeiro: Forense, 1959, v. II, p. 305. WALD, Arnoldo. Direito Civil. 22. ed. São Paulo: Saraiva, 2015. v. 2, p. 192-193; WALD, Arnoldo. Curso de Direito Civil: direito das obrigações e teoria geral dos contratos. 22. ed. São Paulo: Saraiva, 2015. v.2, passim.
LARENZ, Karl. Derecho de obligaciones. T.I. Trad.: Jaime Santos Briz. Madrid: Revista de Derecho Privado, 1958, p. 369. PEREIRA, Caio Mario da Silva. Instituições de Direito Civil. Vol. II – Obrigações. 24. ed. Rio de Janeiro: Forense, 2011, p.141.
[2] STJ, 2nd Session, Motion for Clarification (EAG) 1138183/PE, Reporting Justice Sidnei Beneti, judged on June 27, 2012; in this same sense: STJ, 2nd Session, Special Appeal (REsp) 1723519/SP, Reporting Justice Maria Isabel Gallotti, judged on August 28, 2019; STJ, 2nd Session, Special Appeal (REsp) 1631485) DF, Reporting Justice Luís Felipe Salomão, judged on May 22, 2019. STJ, 3rd Panel, Internal Appeal in Interlocutory Appeal in Special Appeal (AgInt in AREsp) 1140299/SP, Reporting Justice Marco Aurélio Bellizze, judged on May 12, 2017: "The precedents of this Superior Court is oriented towards allowing the retention of a percentage between 10% and 25% of the amounts paid when there is a termination of the purchase and sale agreement due to the fault of the buyer, as well as prohibiting the revision of the amount established in this circumstance, as it implies a re-examination of the facts and evidence 2 STJ, 4th Session, Internal Appeal in Interlocutory Appeal in Special Appeal (Agint in BDel in AREsp) 1383437/PR, Reporting Justice Antonio Carlos
[3] Fusões e Aquisições – Pareceres – Organização Carlos Portugal Gouvêa, Mariana Pargendler e Maurizio Levi-Minzi – Capítulo 1 – A Break up fee e o business judgment rule na incorporação ou mudança de controle de S.A. – Arnold Wald e Marina Gaensly Blattner.