Quick Answer
Deal-protection provisions lock both parties in during the gap period while preserving the target board's fiduciary duties. Key components are the no-shop covenant (no soliciting other bidders), the fiduciary out (board may respond to a Superior Proposal), the break fee (target pays the buyer if it walks for a better deal, typically 1% to 4% of equity value), and the reverse termination fee (buyer pays the target if financing fails or regulators block the deal, typically 5% to 10% or more of equity value).
Now that you understand what conditions must be met to close, the next layer is what happens if either side wants out before closing. Deal-protection clauses govern that scenario.
No-Shop Covenant
The target agrees NOT to actively shop the deal once the merger agreement is signed.
- Target agrees NOT to solicit, encourage, or initiate alternative acquisition proposals from third parties
- Target must terminate any existing discussions with other potential buyers
- Target generally must not provide non-public information to third parties absent the fiduciary out
- The no-shop lasts from signing until closing (or earlier termination)
The no-shop protects the buyer's negotiated price by stopping the target from running a new auction after signing.
Exam Tip: Gotchas
- The no-shop blocks active solicitation, not just acceptance. The target cannot reach out to other bidders or share confidential information after signing absent the fiduciary out.
Fiduciary Out
The fiduciary out is the carve-out from the no-shop that the target board must keep to satisfy its Delaware fiduciary duties.
- Allows the target's board to respond to an unsolicited bona fide written acquisition proposal that is, or could reasonably be expected to lead to, a Superior Proposal
- "Superior Proposal" is typically defined as a proposal more favorable to target stockholders from a financial point of view (and otherwise capable of being completed)
- Process: target gives the original buyer notice, allows a matching period (typically 3 to 5 business days), and only then may terminate the agreement to accept the Superior Proposal
- The matching right preserves the original buyer's ability to compete instead of being cut out
Think of it this way: The no-shop puts the deal in a locked box. The fiduciary out is a small window that opens only when an unsolicited better bid arrives. The matching period gives the original buyer first crack at improving its offer to retain the deal.
Exam Tip: Gotchas
- The fiduciary out lets the board CONSIDER unsolicited Superior Proposals; it does NOT allow active solicitation. The target's banker and counsel screen inbound inquiries during the gap period against the Superior Proposal standard. Active shopping after signing breaches the no-shop.
- The matching period is short (3 to 5 business days). Once an unsolicited Superior Proposal arrives, the original buyer must move fast to improve its offer. The matching right is real but time-limited.
Break Fee (Target-Pays Termination Fee)
Payable by the target when the deal terminates in defined circumstances.
| Trigger | Description |
|---|---|
| Superior Proposal accepted | Target's board takes a better offer (the most common trigger) |
| Board recommendation change | Target's board switches its recommendation to "against" |
| Stockholder rejection plus competing bid | Target shareholders vote down the deal AND a competing proposal had been made during the gap period |
- Typical size: 1% to 4% of equity value (3% is a frequent benchmark)
- Purpose: reimburse the buyer for sunk costs and discourage interlopers who would otherwise free-ride on the original buyer's diligence and negotiation work
Exam Tip: Gotchas
- Break fee is target-pays. Despite the name, the "break" is paid by the target when it accepts a better offer or otherwise walks. Trap answers may suggest the buyer pays the break fee.
Reverse Termination Fee (Buyer-Pays)
Payable by the buyer when the deal terminates in defined circumstances.
| Trigger | Description |
|---|---|
| Financing failure | Most common in private-equity (PE) and leveraged buyout (LBO) deals; debt financing falls through |
| Regulatory denial | Antitrust block or sector regulator denial after both parties used reasonable best efforts |
| Buyer breach | Buyer otherwise breaches and refuses to close |
- Sized higher than the target break fee in financing-failure cases (often 5% to 10% of equity value or higher) to protect the target from being left at the altar
- Common in PE deals where the equity sponsor wants to cap its downside if the LBO financing falls through
Exam Tip: Gotchas
- Reverse termination fees are most common in PE deals. PE sponsors negotiate them to cap downside if the debt-financing piece falls through. Strategic acquirers usually carry less downside risk because they fund with their own balance sheets.
Side-by-Side Comparison
| Provision | Who Pays | Common Trigger | Typical Size |
|---|---|---|---|
| Break fee | Target | Target accepts a Superior Proposal | 1% to 4% of equity value |
| Reverse termination fee | Buyer | Financing failure or regulatory denial | 5% to 10%+ of equity value |
| Expense reimbursement | Either | "No-vote" termination without a competing bid | US$5 million to US$25 million typical cap |
The asymmetry reflects different risks. The target pays a break fee to compensate the buyer for sunk costs (a sum the buyer can re-deploy). The buyer pays a reverse termination fee to compensate the target for being left without a deal at all, which is a much larger commercial blow.
Exam Tip: Gotchas
- Break fee and reverse termination fee are NOT symmetric. Buyer fees are typically MUCH larger (5% to 10%+ vs 1% to 4%) because they protect against financing-failure or antitrust-block downside, not just sunk costs. Trap answer choices often assume the fees are mirror-image.