Break Fee

What Is a Break Fee?

A break fee is a fee paid to a party as compensation for a broken deal or contract disappointment. Two common situations where a break fee could apply is if a mergers and acquisitions (M&A) deal proposal is ended for pre-specified reasons and on the off chance that a contract is ended before its expiration.

How Break Fees Work

In a merger or acquisition transaction, a break fee is constantly negotiated and set to give some incentive to a target company to complete a deal and to promise monetary compensation to the acquirer on the off chance that it is not completed. The amount of the break fee is associated with an estimate of due diligence costs, and management and director time to survey and arrange the deal.

A break fee will apply on the off chance that there is a breach in a no-shop clause or on the other hand in the event that the target company accepts a bid from another party. An outside reason might even trigger a break fee — for instance, inability to receive regulatory endorsement, which might crop up in industries with somewhat high degrees of concentration. Break fees (and what specifically would cause them) are disclosed in Form S-4, a filing with the Securities and Exchange Commission (SEC) for matters connected with a merger or acquisition.

Common in lease agreements, break fees are penalties charged against parties who leave or return equipment before lease expiration dates. This is to shield lessors from losses they would cause from the early termination of leases. Break fees may also be written into different types of business transaction contracts to discourage non-performance and compensate a party on the off chance that there is non-performance.

In certain derivatives contracts, such as swap agreements, a break fee might be remembered for the form of a termination clause that describes the procedures and remedies for one of the counterparties if the other counterparty defaults or otherwise ends the contract. This includes, however is not necessarily limited to, the payment of damages to the harmed counterparty. At the point when a swap terminates early, the two players will cease making the contractually agreed upon payments and the to blame party will be required to remediate.

Deal Break Fee Example

Rockwell Collins Inc. recorded a Form S-4 related to a proxy filing dated December 11, 2017, to describe exhaustively the proposed takeover of the company by United Technologies Corporation (UTC). The break fee clause in the filing stipulates that Rockwell Collins will pay to UTC $695 million assuming one of the accompanying events happen:

1. UTC terminates the merger agreement pursuant to the breach termination right on the basis of a breach of a covenant or agreement contained in the merger agreement.
2. Either party terminates the agreement pursuant to the end date termination right or disappointment of Rockwell Collins to get shareholder endorsement.
3. Rockwell Collins completes a [alternative] acquisition proposal or enters into a definitive agreement with respect to a[n alternative] proposal.

Highlights

• Break fees are commonly remembered for mergers and acquisitions deals yet may also be found in common lease agreements and might be written into derivatives like swap contracts.
• The amount of the break fee is associated with an estimate of due diligence costs, management and director time to audit and arrange the deal, and any economic loss that might be incurred due to the deal-breaking.
• A break fee is a penalty a paid by a party deal or agreement to the next party included.