This week, Atlassian publicly released The Atlassian Term Sheet, which sets out the key terms the software unicorn proposes to use for kicking-off future M&A transactions.
Atlassian has said that this was "a global first and should put downward pressure on transaction fees" and "will make it easier to get transactions done" as there will be more transparency with vendors at the front end of the process. Atlassian also said "we have looked at hundreds of deals which has allowed us to push the terms to be a lot more seller-favourable".1
It's not surprising that an innovative company such as Atlassian was the first to take up this approach. It signals to the market that Atlassian is focussed on acquisitions, and will almost certainly lead to more knocks on Atlassian's door from potential target companies. The Term Sheet establishes a positive and user-friendly framework for discussions with potential targets, encourages business integration and seeks to ensure deal terms are reasonable for the vendors.
While Atlassian is not seeking to set an industry standard M&A template, in many ways its move replicates attempts in the start-up community to simplify the seed fundraising process with standardised documents.
Realistically, however, a term sheet is usually at the simpler and cheaper end of the scale of required documents and is often introduced prior to lawyers becoming involved. In this context, the risk with using a light touch term sheet is that you kick difficult issues down the road until the target company is further committed.
One challenge for Atlassian may be that it will be looking at acquisitions in many different jurisdictions. M&A practice differs between markets, which makes a 'one size fits all' approach more difficult.
In our view, the foundation for success in standardised documentation is that the documents need to:
- be seen by both sides as fair (i.e. not favouring the buyer or the seller, having regard to local market practice); and
- fast-track final long-form documentation without significant negotiations.
In terms of fairness, when compared to our own data points on private M&A sale agreements, we think that overall, Atlassian has struck a reasonably balanced 'middle ground' approach. There are aspects of the Atlassian Term Sheet that we would consider to be seller-favourable, such as a relatively low cap for general warranties. However, there are also aspects which are, in our view, buyer-friendly compared to market norms in Australia, for example:
- all target shareholders are required to give a back-to-back indemnity for any breach of warranties and covenants given by the target company – this places a significant burden on the initial shareholders who may be founders, friends or family;
- employee severance payments and other termination payments are deducted from the purchase price, even where the decision to terminate is made by Atlassian; and
- the exclusivity provisions are very wide, binding a range of target stakeholders and not containing any carve-outs for compliance with legal obligations.
The Atlassian Term Sheet is certainly a useful starting point for the long-form sale agreement, but there are a number of gaps which in our experience can be the most negotiated parts of sale agreements in Australian M&A transactions, for example:
- it states that the definitive agreements "would contain representations and warranties, covenants, closing conditions, indemnities and other typical provisions for a transaction of this nature" but these are not specified in more detail in the term sheet and are effectively parked for later negotiation and
- there is no reference to typical warranty limitations which apply in Australian M&A transactions, such as disclosures made by the target during due diligence. While this may be a given, approaches to limitations can vary by jurisdiction and if it is not raised upfront you may have disconnect down the track.
Atlassian also said that while escrow amounts are typically 10-20% of the purchase price, under the term sheet it will now offer a 5% escrow for 15 months, or a 1% escrow if the vendor buys a warranty insurance (W&I) policy to cover the remaining 4%. This is again relatively buyer-friendly, although we query whether the costs of an escrow agent and W&I insurance outweigh the benefits from this relatively small holdback amount. In particular, W&I policies have minimum policy limits and require that fairly detailed diligence has been undertaken.
Further, while general warranties (e.g. IP, privacy and other business warranties) are capped at the escrow amount, which is very buyer friendly, fundamental warranties (defined as slightly wider than the usual authority and title and including tax and compliance matters) and covenant breaches (including restraints and other breaches of the agreement) are capped at 100% of the purchase price. This means that some key risk areas, tax in particular, would not be wholly covered by the W&I policy to provide a completely "clean exit".
While some aspects of the Atlassian Term Sheet do not line up with our expectations of a seller-friendly position in the Australian market, overall, its release is a smart move by Atlassian. It cements Atlassian as an innovator in the M&A space, and sends a positive message for potential targets of a balanced and reasonable approach to M&A. This is particularly important in high-growth technology sectors, where keeping the founders onside and invested in the business post completion is often critical. It's a hard enough sell for founders to accept that they have a boss calling the shots post-deal without having additional friction caused by unreasonable opening positions.
We expect that other serial acquirers may follow suit with streamlined and balanced term sheets. Ultimately, however, a non-binding term sheet can only go part of the way – sellers still need good, independent advice to understand what they're getting into.
1 'Atlassian lays out new M&A blueprint to smooth future deals', James Eyers, Australian Financial Review, 17 June 2019
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