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Employee rewards in M&A transactions: Comparability provisions

Mergers and Acquisitions
Mergers and Acquisitions

By Dean Kepraios | January 11, 2021

M&A deals often promise to protect employees, their rewards and the benefits they receive. What do buyers promise — and why?

Companies enter into M&A deals for a range of reasons, but how employees are treated once a deal closes depends largely on the buyer’s deal strategy. Often the buyer signs a deal under the promise that the acquired business’s employees will continue to receive rewards at deal close that are comparable to those they received before, at least for a specified period of time. But why include such comparability provisions in deal terms given that they appear to restrict the buyer? What do these provisions typically cover? And what are best practices?

We worked with four law firms with leading M&A advisory teams — Baker McKenzie and Freshfields Bruckhaus Deringer from the U.K., along with McDermott Will & Emory and Weil, Gotshal & Manges LLP from the U.S. — to dig into the answers.

The practice to include comparability provisions started in Europe due to its strong legal and business environment and clear focus on employee protection.

Why include comparability provisions?

The practice of including comparability for employee rewards in deal terms originated in Europe, with its strong legal and business environment and clear focus on employee protection. By making buyers sign up to a comparability promise, sellers were better able to launch the consultation exercises that are commonly required in Europe before a deal can move forward.

The sellers could point to the protections they had secured for the transferring employees in the deal agreement, leading to a smoother consultation period and a faster deal close. Explained Freshfields, “Employees want to know that the buyer will respect the culture and values of the business they are buying. Sellers, therefore, want to be able to highlight the commitments they have asked the buyer to make.”

European buyers were originally happy to agree to these provisions. Although the contractual language would generally restrict buyers from making material changes in a target business, the restrictions were typically time limited and, in practice, often did not add much that was meaningful on top of existing European legislation requirements, specifically the Acquired Rights Directive (ARD).

“As lawyers, we found ourselves educating clients on the nature of ARD rules and their purpose, particularly for global deals where the buyer may not be European-based,” noted McDermott.

These provisions have now become more common and are often applied much more widely than simply in Europe, driven largely by the following:

  • Sellers. A company selling a business is typically very keen to ensure that the employees of the business being sold remain engaged and feel valued.

    Highlighting the protections secured for employees and obligations placed on the buyer reassures employees, makes the pre-close consultation process significantly easier and can speed up deal close.

    It also reassures other employees of the seller that their employer cares about how their colleagues are treated within deals; this is important in of itself and also makes it easier for the seller to consider other transactions in the future.

Serial deal makers understand that how they treat people in one deal is a benchmark for how people expect to be treated in the next deal.

  • Employees. Specifically unions and representative bodies. These groups are very aware of how people are treated within deals. Serial deal makers understand that how they treat people in one deal is a benchmark for how people expect to be treated in the next deal.

    According to McDermott, “Sellers are very keen to maintain a good reputation for their remaining workforce and want to be able to demonstrate that they take care of employees.”

  • Buyers. Buyers are generally pragmatic and rarely acquire a business with the express intention of changing reward structures immediately; they often have a long list of other priority items (possibly up to and including material operating model and head count changes) to address first.

    Agreeing to a comparability provision that is not too onerous is often a small price to pay for helping the seller move faster through its pre-close consultation and for the buyer to acquire a business with an employee population that feels listened to and valued. As Baker put it, “Buyers want to show that they respect the culture and talent of the business they are buying.”

Since these provisions were first introduced, they have become increasingly common and are now standard practice in corporate deals. A corporate buyer being unwilling to engage in a discussion around such provisions would be a significant red flag for many sellers concerned about the potential treatment of their employees.

In private equity deals, these provisions are less common. Several of the legal teams we talked with highlighted that private equity investors might not have the infrastructure in place to deliver on these promises unless they are broadly worded. This can be particularly true in a carveout situation where the business being bought needs support to become a stand-alone entity. “Buyers will have a particular focus on ensuring that they can administer the programs and deliver on the promises being made,” said Weil.

What do these comparability provisions typically cover?

Generally, the first draft of these provisions is shared very early in the deal process. Typically, the seller includes suggested wording during the initial drafting phase of the purchase agreement. Once a draft is shared, the deal negotiations commence as the parties come to a compromise that they can all live with.

Comparability provisions will aim to cover Total Rewards in some manner and will include annual salary, paid time off and other benefit programs.

In general, comparability provisions will aim to cover Total Rewards in some manner. This will often not be clearly defined but include such items as annual salary; annual incentive opportunity; paid time off; health, life and disability insurance; and retirement and other benefit programs.

On the whole, deal makers will not look to mandate comparability on a program-by-program basis. Recognizing that different companies can have very different approaches, deals will often see language regarding the same annual salary and annual incentive opportunity plus broad wording around benefit programs.

The more complex a deal is, with multiple countries and a mixture of share and asset purchases, the more pressure there will be to have broad-based language. According to Weil, “The aim is to set out the principles and avoid getting into the details of every plan and every country.”

In practice, the details are where it gets complex, and certain sensitive elements must be considered:

  1. 01

    Long-term incentive, equity and other stock-based compensation.

    These are often excluded from comparability provisions. Many buyers have policies around equity compensation that are clearly defined. Changes to the nature of equity awards within the target population are generally a key sensitivity, particularly at leadership levels. Buyers will often include these considerations within their key talent retention structures and explicitly exclude them from any broad-based comparability discussions.

  2. 02

    Pensions.

    While not excluded completely, McDermott noted, “Buyers almost always push back on anything that might require them to establish a defined benefit pension plan.” This generally leaves consideration of pension to be around value or consistency with the buyer’s existing employees.

  3. 03

    Other benefits.

    Multicountry deals can often see a range of benefits coming out of the woodwork once a deal is agreed upon, including significant cash allowances for things like housing or transport, and low-cost but high-engagement-value benefits, such as cafeteria provision and onsite gyms. These are often covered in the deal agreement by phrases such as “materially comparable in the aggregate,” leaving implementation teams to address the details down the line.

  4. 04

    Cars.

Car-related benefits can be one of the most challenging, and sometimes most emotional, components of Total Rewards. It can be hard to determine which cars exist, whether they are a benefit or a work tool, and the nature and value of any benefit — and in practice even harder to change the provision of cars. While car-related benefits are generally not explicitly called out in the legal drafting, they consistently come up as a pain point in the implementation of deals.

  1. 05

    Severance.

    The buyer will often commit to either continuing the seller’s plan for a period, covering acquired employees under buyer’s plan, or matching the greater of the buyer’s or seller’s plan.

  2. 06

    Employment protection.

    While it would be very rare to see a deal agreement guaranteeing that the buyer will not terminate employees, in certain circumstances, such an agreement can be considered if limited in time, particularly if the business being sold is expected to provide ongoing services to the former parent business.

While how these comparability provisions are applied can become extremely complicated, there is a broad agreement that keeping legal language high-level and principles-based is more productive overall. Noted Baker, “A guiding rule of these provisions is generally not to give the transferring employees more protections than they would have had if they had stayed with the seller.”

Similarly, many sellers will recognize that local legislation will grant protections on an individual basis; therefore, deal agreements will often be structured at the aggregate transferring population level to avoid adding unnecessary levels of complication.

While many sellers initially propose that comparability provisions last two to three years post-close, this is generally an area for negotiation.

While many sellers initially propose that comparability provisions last two to three years post-close (one lawyer recalled a seller asking for a five-year promise), this is generally an area for negotiation. Many buyers end up agreeing to a one-year commitment, recognizing that many reward elements, such as bonus plans and benefit structures, operate on an annual basis. So unless the closing date for a deal happens to fall near the plan year-end, no changes will be made until the second plan anniversary after closing.

In practice, very few buyers would try to make changes to reward plans shortly after close, as they will have a list of other more immediate priorities for the business. Buyers are therefore often comfortable committing to making no changes in this period, but as ever this depends on the deal logic. As Freshfields noted, “With the exception of big companies buying small start-ups where we may see a rapid move to the buyer’s plans and programs, generally buyers are willing to agree to protect key reward terms for a year or two post-close.”

Finally, it is notable that for all of the effort that goes into the drafting and negotiation of these provisions and the work that buyers put into complying, it is rare for sellers to test compliance with the provisions and whether comparability has been achieved in practice. Further, when a public company sells its entire business, following closing there is no independent entity remaining to assert a breach.

Once a deal nears closing, employees and their representatives take an active interest in how the buyer intends to treat the transferring population.

Once a deal nears closing, employees and their representatives, such as unions and works councils, take an active interest in how the buyer intends to treat the transferring population; however, the seller generally does not become involved unless a dispute arises. In the U.S. for example, purchase agreements typically provide that employees will not be third-party beneficiaries of the contract; therefore, employees and their representatives are not able to bring claims for enforcement or damages under comparability provisions.

Comparability provision best practices

  1. 01

    Involve the HR team on both sides early.

    The HR team best understands the complexities of the workforce and the nature of the relationship between the company and employee representatives. Bringing HR teams, with appropriate additional expertise as needed, to the discussion very early in the deal negotiations allows the legal drafting to reflect what matters to the seller and anticipate the buyer’s intentions.

    “There are deal teams that involve HR early, having a seat at the table in discussions,” said Freshfields. “It might take longer to discuss, but it makes the discussion authentic, improving the parties’ understanding of the complexity of what is being undertaken and the priorities of both the buyer and the seller.”

  2. 02

    Have a handle on data.

    “One issue that is a constant thorn for these provisions is accurate data,” explained Baker. “Often, deal teams do not have a clear view of what provisions are in force in each country and the source of each benefit (for example, contractual, part of a collective bargaining agreement, discretionary and so on) and the offerings for each employee group. This level of granularity often has to be uncovered at a plan-by-plan and country-by-country level in the period between signing and closing and can be a significant hurdle in global deals.”

    While deal agreements are often drawn up to be broad-brush and principles-based, the reality is that the treatment of each individual employee needs to reflect his or her specific circumstance. The countdown to the close of an M&A transaction is a difficult time to have to dig into exactly which employee is covered by which reward program, but this is often the situation many employers leave themselves in. The best deal makers anticipate this and make sure that they understand early on how their reward provisions apply, so they are not left scrambling as deal deadlines approach.

  3. 03

    Be pragmatic.

    The legal teams are universal on not wanting as many schedules as there are countries included in the deal. “The general aim is to be principles-based rather than granular and avoid the details of addressing every plan and every country,” explained Weil. The most successful negotiations happen when both sides understand what each party wants, and the language gives the seller the protections it needs to ensure employees are treated fairly without putting unnecessary restrictions on the buyer.

    Freshfields highlighted the additional challenges of single-country deals. “In multicountry deals, there is often not enough time to get into details of every plan in every country, and pragmatism is needed. With a single-country deal, there may be more time to get into granular, sometimes employee-level detail or the nature of each term and condition. What is possible in a single-country deal will look different to what can be done in a multicountry deal. This can sometimes lead to over-analysis.”

Comparability provisions need to work for both seller and buyer. The provisions are rooted in the intent to treat employees fairly and to make it easier for a seller to navigate employee consultation and communication without overcomplicating the deal agreement and placing unnecessary constraints on the buyer’s ability to run the business. Involving HR — from both the buyer and seller sides of negotiations — early in the process, having strong data analytics capabilities and being pragmatic are the keys to any successful M&A transition.

Common mistakes

  1. 01

    Being over-eager as a buyer.

    In a bidding situation, some buyers will be willing to agree to a seller’s draft provision without considering how this will be met in practice. This can lead to buyers having to set up complex administrative structures post-close. Said McDermott, “Some buyers may unwittingly dig holes for themselves and then find they have to build themselves a ladder later."

  2. 02

    Being too granular.

    “Where we see 1,000 different calculations for 1,000 different employees and 1,000 different employee letters, that is a sign this has gone too far,” said Weil. “These provisions should not create an industry.”

  3. 03

    Relying on materiality.

    “It is not the big-ticket items that upset employees — deals will typically address those — but the smaller items that talk to culture of the company,” noted Freshfields. “Buyers need to remember that things like canteens, gym memberships and bicycle plans carry weight beyond their costs.”

  4. 04

    Going too far.

    “Deal agreements should be not be set up to give employees greater protection than they would have had if the deal had never happened and they had stayed with the seller,” remarked Baker.


We extend our gratitude to the attorneys who contributed to this article:

  • Baker McKenzie: Carl Richards, Jonathan Sharp
  • Freshfields Bruckhaus Deringer: Kathleen Healy
  • McDermott Will & Emory: Carole Spink
  • Weil, Gotshal & Manges LLP: Paul Wessel, Matthew Gilroy, Craig Olshan

Unless referenced otherwise, the views presented in this article are those of Willis Towers Watson. Nothing in this article should be taken as legal advice.

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Senior Director – Mergers and Acquisitions

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