Predicting a Software M&A Frenzy: Are You Ready Contractually? Change of Control Clauses and Beyond

Given the fact that we often get involved in M&A strategy and the occasional transaction in the sector here with one of our affiliates companies at Spend Matters, we have a bit of a privileged view into the universe of potential activity likely around the corner in coming quarters. Our current analysis suggests that the pace of M&A activity that began in earnest in Q4 2010 is likely to continue throughout 2011. For this reason, we think it's imperative that procurement, legal and IT organizations prepare themselves for the chance that their current vendors might be acquired (some of our past advice and observations on the subject can be found here, here, here and here). Aside from coming up with the right general strategies and preparations for the potential takeover of the owners of your licensed (or rented) application assets, it pays, as my friend and colleague Brian Sommer recently pointed out, to look specifically at the opportunity that material change of control clauses present to reduce potential risks to your business and provide some reward based on your contributions to a vendor's success at selling itself.

In the above-linked post, Brian asks the question: "should you be insisting on a material change of control clause in your contract/license? The answer is absolutely YES." Essentially, Brian suggests, one structure for these clauses is to "require the vendor to refund monies based on how soon the firm was sold. The theory behind such a clause is like a sinking bond fund requirement: the longer you get to use and get value out of your software 'investment', then the lower your liquidated damages are. If the vendor is sold after ten years, for example, you may get nothing for damages as you got full value for your investment. However, if the vendor is sold within the first year of your licensing, shouldn't you get something for all of those implementation fees, license fees and maintenance monies paid to get this now obsolete solution partially installed?"

Brian notes that vendors "absolutely hate these clauses...they believe that if too many of their contracts contain language that a potential acquirer would find economically challenging, then the value of their firm is adversely affected." Of course software providers are most likely to push back when they encounter additional considerations in these clauses that extend beyond the outright company sale. For example, a clause might "also cover the loss of key software executives."

Regardless of how onerous you want to get with vendors in negotiation, you'll have far more leverage in larger suite deals than one-off module situations (my experience in this sector suggests that it's hard to get vendors to budge when a total deal is
Incidentally, folks like Brian Sommer and fellow Enterprise Irregular Vinnie Mirchandani are specialists in helping negotiate general software licensing agreements and terms and can be an invaluable resource to turn in areas such as material change of control clauses.

- Jason Busch