This article is the third part of our private M&A deal study series which comprises six articles where we highlight guidance provided by the American Bar Association’s 2025 private M&A deal point study and dig into some key aspects of a private M&A deal in Canada.
In this article, we dig into the process of negotiating transaction documents for a private M&A deal in Canada.
American Bar Association’s 2025 study
The American Bar Association has recently released its 2025 study which analyzes 83 acquisition agreements signed in 2020, 2021 and 2022 (being years associated with the Covid-19 pandemic) for the sale and purchase of private Canadian entities. The study (the latest since 2018) is widely recognized as a leading resource in shedding light on the question ‘what is market?’ with respect to deal terms in private M&A transactions governed by Canadian law.
The M&A transaction – negotiating transaction documents
Conditions precedent
92 percent (up from 87 percent in the 2018 study) of the sample transactions in the 2025 study included a condition precedent giving the buyer the right to walk away from the deal post signing if the target entity’s business suffers a material adverse effect (‘MAE’) to financial performance including, for example, anticipated future financial performance.
What constitutes a ‘material adverse effect’ is often subject to focused negotiations. Future prospects of the target entity’s business was a feature of 32 percent (down from 35 percent in the 2018 study) of MAE definitions in the 2025 study. 89 percent (up from 78 percent in the 2018 study) of the MAE definitions included carve outs from what is a ‘material adverse effect’ relating to, for example, any changes in applicable laws or accounting rules, and changes in domestic or international economic conditions. However, in response to carve outs, in 68 percent (down from 75 percent in the 2018 study) of the sample transactions in the 2025 study, the buyer successfully negotiated a qualification to at least one carve out event that such event does not have a ‘substantially disproportionate’ effect on the target entity’s business.
The Covid-19 pandemic presented challenges for parties where buyers sought to rely on ‘material adverse effect’ conditions to cancel agreements due to the economic impacts experienced (or at the relevant time likely to be experienced) as a result of the pandemic. However, this latest study reported no special closing conditions specifically related to Covid-19.
Key regulatory approvals that may be required for a transaction include approval of foreign investment under the Investment Canada Act (Canada), and clearance of potentially anti-competitive arrangements under the Competition Act (Canada). Only 16 percent (no comparison data from the 2018 study) of the sample transactions in the 2025 study required regulatory approvals. If regulatory approvals are required, the parties will need to coordinate on preparing information required to secure approvals, and sale and purchase agreements should make this a mutual covenant applying to buyer and seller.
Determining purchase price
Share-based or mixed (shares and cash) consideration featured in 67 percent (up from 51 percent in the 2018 study) of the sample transactions in the 2025 study. This large number of deals likely reflects the fact that public companies are involved as a party and shares in public companies are easily traded. For transactions where shares are issued in private companies as a component of consideration, a separate shareholders’ agreement relating to the issuer company should be negotiated as part of the transaction. The shareholders’ agreement sets out the terms and conditions governing the relationship between the shareholders and the company, and between the shareholder themselves.
Only a simple majority – 54 percent (down from 79 percent in the 2018 study) of the sample transactions in the 2025 study – included a purchase price adjustment. Such adjustments often require the preparation and review of, and potential dispute over, completion accounts for the target entity following completion of the transaction, which is an expense some parties prefer to avoid. 87 percent (up from 79 percent in the 2018 study) of transactions which included purchase price adjustments had an adjustment mechanism based on working capital rather than net debt.
Earnout mechanisms
Use of earnout mechanisms is on the rise as compared to previous years. These mechanisms provide a way for sellers to prove a higher transaction value and obtain additional deferred consideration from buyers skeptical as to the future profitability of the target entity. 31 percent (up from 16 percent in the 2018 study) of the sample transactions in the 2025 study included an earnout component to aggregate purchase price. As with the 2018 study, in the 2025 study the most common earnout period for sample transactions which included earnouts was between 18 and 24 months following the transaction completion date.
A key issue with earnouts is what restrictions apply to the buyer controlling the business during the earnout period. The seller’s interest is to receive the greatest possible earnout payment, but this interest could potentially be compromised by the buyer’s actions post completion of the transaction. For example, the buyer may wish to restructure the target entity’s business in a way that reduces its capacity to generate revenues. Only 23 percent (down from 29 percent in the 2018 study) of the sample transactions included terms allowing the buyer to operate in the buyer’s discretion during the earnout period.
Escrow/holdback arrangements
Use of escrows is also on the rise with 56 percent (up from 34 percent in the 2018 study) of the sample transactions in the 2025 study, which transactions also included a purchase price adjustment, including this feature. The purpose of the escrow fund being a source of money to cover representation and warranty/indemnity claims and purchase price adjustments. This is particularly important for buyers if the seller is likely to spend the transaction proceeds soon after completion or, in the case of an asset deal, distribute the proceeds and wind up soon after completion.
It is common for the escrow amount to be 10 percent or some lower percentage of the aggregate purchase price. The average escrow/holdback amount was 4.56 percent (down from 10.85 percent in the 2018 study) of transaction value for the sample transactions in the 2025 study. The usual approach is for the escrow period to match the limitation period on representation and warranty/indemnity claims negotiated by the parties in the sale and purchase agreement.
However, it is important to note escrow arrangements present an added cost for the parties to the transaction through the negotiation of a separate escrow agreement between the parties and a third-party escrow agent. Accordingly, some parties agree holdback arrangements pursuant to which money is held back by the buyer and not held by a third-party escrow agent on behalf of the buyer and seller.
For assistance with your M&A deal, please contact any member of our M&A group for legal assistance.
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Liam Phipps Legal Consultant | Business Law Vancouver |
This article is intended to be an overview of the law and is for informational purposes only. Readers are cautioned that this article does not constitute legal or professional advice and should not be relied on as such. Rather, readers should obtain specific legal advice in relation to the issues they are facing.