The price of walking away

As tightening credit throws hurdles in front of pending buyouts, it's worth taking a look at reverse break-up fees.

By Grace Wong, staff writer

LONDON ( -- The trio of private-equity firms buying Home Depot's wholesale supply unit decided to stay with the deal, but they could have walked away from the negotiations - for a modest fee.

If Carlyle Group, Bain Capital and Clayton Dubilier & Rice had backed out of buying the Home Depot supply unit, they would have been required to pay the home-improvement retail chain $310 million, according to a filing Home Depot (Charts, Fortune 500) made about the deal with the Securities and Exchange Commission in June.

Pay and walk away?
During the buyout boom, more private equity firms agreed to pay reverse break-up fees. But the price of walking away from a deal is still fairly small.
Target Deal value (excluding debt) Reverse break-up fee
TXU Corp. $31.8 billion $1 billion
First Data $25.6 billiion $700 million
Alltel Corp. $24.7 billiion $625 million
SLM Corp. $24.6 billion $900 million
Source:FactSet MergerMetrics

In recent years, private-equity firms have been more willing to agree to what's known as a reverse break-up fee. This provision calls for buyers to pay a fee to takeover targets if they walk away from a deal before it's completed.

Historically, break-up fees have been paid by the targets to prospective buyers if, for example, the seller walks away from the original deal and accepts a competing higher offer.

But now, reverse break-up fees have become much more common. Some 77 percent of take-private deals this year included a reverse break-up fee provision, up from 17 percent in 2005, according to data compiled by FactSet MergerMetrics. Only deals where a public firm was acquired were considered in this study.

While the increasing popularity of reverse break-up fees reflects the stronger position that target companies had gained in recent years - until the recent credit crunch staunched the flow of deals - these fees are still relatively small. They generally run about 3 percent of the deal's value.

Still, in raw dollars the amounts are anything but small.

The buyers of wireless-service provider Alltel (Charts, Fortune 500) would be required to pay $625 million if they backed out of that deal. The group acquiring Texas utility TXU Corp. (Charts, Fortune 500), the largest pending U.S. buyout, would be on the hook for $1 billion, according to FactSet MergerMetrics.

As the credit crunch adds more pressure on pending deals, will buyout firms stick it out through tough negotiations? Or could they be tempted to just pay a fee and walk away?

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