Completion Mechanisms in M&A Transactions: Completion Accounts vs Locked Box

Purpose of Completion Mechanisms

Completion mechanisms in M&A transactions determine the final acquisition price that the buyer pays to acquire the target company's shares. Two widely accepted mechanisms are Completion Accounts and Locked Box.

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Completion Accounts Mechanism

• Definition: The initial acquisition price is specified in the signed Share Purchase Agreement (SPA), but the final acquisition price is based on the actual balance sheet of the target entity at the completion date.
• Components: Includes a closing balance sheet and a profit and loss account showing results from the latest financial accounts to the completion date.
• Preparation: The SPA outlines the principles for preparing the Completion Accounts, the responsible party (usually the buyer), and the timeframes for preparation and validation.
• Advantages: Adjusts the acquisition price on a Dollar-for-Dollar basis, reflecting the actual financial state at completion.
• Disadvantages: Can lead to time-consuming disputes and uncertainty about the final price.

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Locked Box Mechanism

• Definition: The final equity value adjustments are based on a balance sheet prepared at a date prior to completion (the "locked box date"), with no value allowed to leave the business between this date and completion.
• Components: Ensures no "leakage" (unauthorized extractions of value) occurs between the locked box date and completion, with protections against leakage included in the SPA. Permitted leakage (pre-agreed extractions) is also documented.
• Value Accrual: Adjustments may be made for the value movement due to trading between the locked box date and the completion date, often based on the cash flow generated or an interest-based return.
• Advantages: Provides high certainty of the acquisition price early in the transaction process, saving time and effort.
• Disadvantages: Limited scope for price adjustments if discrepancies are found during due diligence.

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Key Differences: Closing Accounts vs Locked Box Mechanism

Key Insights

The choice between Completion Accounts and Locked Box mechanisms significantly impacts the dynamics of M&A transactions, with each method offering distinct advantages and disadvantages. Here are some key insights:

1. Regional Preferences:

Europe: The Locked Box method is favored for its simplicity and certainty. It provides a fixed price early in the transaction process, which can be appealing in multi-bidder sales and competitive environments.

United States: Completion Accounts are preferred for their detailed and accurate financial adjustments. This method allows for adjustments based on the actual financial state at the completion date, providing a precise reflection of the company's value.?

2. Impact on Transaction Dynamics:

Completion Accounts: This method requires detailed financial scrutiny and can lead to time-consuming discussions and potential disputes. However, it ensures that the final purchase price reflects the actual financial condition at the completion date.

Locked Box: Provides high certainty regarding the acquisition price and avoids lengthy post-completion adjustments. However, it requires comprehensive and detailed due diligence before the locked box date to mitigate risks of financial discrepancies.

3. Consideration of Local Practices and Regulatory Environments:

Business owners must consider local M&A practices, regulatory environments, and the specifics of their transaction when choosing the appropriate completion mechanism.

In regions where financial transparency and frequent changes are common, like Southeast Asia, the Completion Accounts method might be more suitable.

Conversely, in stable financial environments where simplicity and certainty are valued, the Locked Box method can be beneficial.

4. Due Diligence Requirements:

Completion Accounts: Requires ongoing financial review up to the completion date to ensure all changes are accurately captured and adjusted.

Locked Box: Demands comprehensive and detailed due diligence before the locked box date to ensure the accuracy of the financial statements and to prevent any potential leakage.

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Conclusion

Understanding the differences between Completion Accounts and Locked Box mechanisms is crucial for successful M&A transactions. Each method offers unique benefits and challenges, and the choice should align with the transaction's goals and regional practices. By selecting the right completion mechanism, parties can ensure a fair and transparent process, ultimately leading to successful deal outcomes.