Change of control provisions

In business, the only constant is change. Transformative events, like mergers and acquisitions, often trigger a cascade of legal considerations, one of which is the change of control provision. In this article we discuss what change of control is and what to look out for in your contracts.

What is a change of control?

This encompasses scenarios that result in a transfer of controlling interest in a company, including changes in ownership, mergers & acquisitions, reorganizations and consolidations.

The change of control clause in your contracts should clearly define what constitutes a “change of control” event.

What is a change of control clause?

A contract provision that defines the rights and obligations of parties in the event of a significant change in the ownership or control of one of the contracting parties. This clause is designed to minimize the impact of changes in management, ownership structure, or decision-making authority on the ongoing relationship and obligations specified in the agreement.

What triggers a change of control provision?

Triggering events should be defined in the event of a change of control. This is crucial to determine when the provision comes into effect. The standard definition includes certain circumstances, like the sale of a certain percentage of company stock or mergers.

While the specific language may vary, here are common triggers for a change of control provision:

  1. Change in ownership or control: mergers & acquisitions, consolidations, substantial changes in the ownership structure.
  2. Sale of assets: sale or disposition of assets which alters the nature of the business or results in a change in control.
  3. Change in board of directors: if the new board composition impacts the overall direction and decision-making authority of the company.
  4. Threshold ownership percentage: a specified percentage of the company’s stock is sold or transferred to new owners.
  5. Corporate restructuring: reorganizations, spin-offs, or divestitures, if they result in a significant change in ownership or control.
  6. Bankruptcy or Insolvency: financial distress events can lead to changes in ownership or control as part of the restructuring process.
  7. Hostile takeover: acquisition of a significant stake in the employer’s stock by an external entity.
  8. Consolidation and reorganizations: whether it’s a merger resulting in a new entity or a restructuring of business divisions.
  9. Management buyout: internal transaction resulting in a change in the controlling ownership held by the existing management team.
  10. Leveraged buyout: if a significant portion of the acquisition is financed with debt, may result in a change in control.
  11. Contractual triggers: these could be tailored to the specific circumstances and nature of the employer’s business.

It’s important for parties to understand the triggering events outlined in their contracts. The language used in the provision is critical, and legal advice should be sought to ensure clarity. Use our free widget today to locate change of control provisions in your contracts!

How do change of control provisions operate?

Change of Control provisions define the rights, obligations, and consequences for contractual parties when a significant change in ownership or control occurs. These provisions vary based on the language and terms included in the agreement. Here’s a general overview of how they typically operate:

  1. Define change of control: outline the triggering events (such as changes in ownership, mergers and acquisitions, or other transformative transactions).
  2. Notice requirements: inform the other party about the upcoming change and initiate the process outlined in the change of control provisions.
  3. Consent and Approval: obtain consent or approval from the unaffected party before the change of control event takes place.
  4. Impact on contractual obligations: includes changes in management responsibilities, performance obligations, financial terms, or other relevant provisions.
  5. Termination rights: provides an exit opportunity for parties that no longer wish to continue the contractual relationship under the new ownership or control structure.
  6. Continuation of rights and obligations: Alternatively, the agreement may continue to be binding after a change of control. In this case specify how the rights and obligations will be shared among the original and new entities.
  7. Aggregate asset values and liquidation: provisions related to aggregate value and liquidation outline how assets and liabilities will be assessed and distributed among the parties involved.
  8. Financial considerations: essential where the financial stability of the parties is critical to the agreement’s purpose.
  9. Default and remedies: specify if a change of control event constitutes an event of default, with associated remedies like the right to terminate, seek damages, or exercise other rights.
  10. Negotiation and customization: you can negotiate the definition of change of control events, conditions for obtaining consent, and consequences of termination, among other things.

Why include a change of control clause in a commercial contract?

Change of control clauses serve several important purposes; providing clarity, protection, and a framework to navigate disruptions caused by significant changes in ownership or control. Here are some other benefits to including a change of control clause in your commercial contracts:

Preserves relationship intent

Commercial contracts outline the relationship between the parties involved. A change of control clause helps preserve the initial intent by addressing how the contract will be affected if there is a change in the ownership or control of one of the parties.

Protects against unforeseen events

Including a change of control clause protects both parties in the event triggering events (mergers and acquisitions, changes in leadership, etc.) and provides a framework to address the consequences of such events.

Consent and approval requirements also allow parties to assess the impact on the contractual relationship and provide an exit strategy if the parties no longer wish to continue the relationship.

Ensures continued performance

A change of control may impact a contracting party’s ability to fulfill its obligations. In this case, the clause can specify how performance obligations will continue or be modified to ensure continuity.

Protects sensitive information

In contractual relationships where sensitive information is shared, a change of control clause should include provisions to safeguard against unauthorized disclosure or use of such information by the acquiring company.

Due diligence in change of control

Due diligence is crucial to assess risks and liabilities associated with a change of control event. This involves examining the target company's financial, legal, and operational health. Acquirers and target companies should navigate this phase carefully to ensure a smooth transition and minimize post-change disruptions. To find out more, read our article on due diligence in mergers and acquisitions.

Arbitration and legal advice

Disputes arising from change of control events are not rare. Change of control provisions frequently include arbitration clauses, designating a specific method for dispute resolution (outside the courtroom). Legal advice is crucial during these times. Law firms specializing in corporate law can guide companies through the intricacies of change of control provisions.

Voting securities and stockholders

Voting securities and stockholders are critical components of a company's ownership structure. Change of Control Provisions often outline the treatment of stockholders' interests and their voting power during triggering events. Whether through a merger or acquisition, these provisions aim to balance the rights of stockholders with the strategic objectives of the acquirer and the target company.

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