Atlassian made a splash in the tech M&A world recently by publishing their term sheet for strategic acquisitions.

So why has Atlassian gone public with its terms, when acquisition terms are generally a closely guarded secret?  Atlassian’s stated aim is to make the M&A process fairer and more efficient, and less painful for sellers.

We suspect another driver behind the unusual (but refreshing) step of letting the world take a look behind its acquisition curtain was to position Atlassian up as a seller-friendly buyer in the hyper-competitive tech M&A marketplace.

So has Atlassian achieved its goal(s)?

The Aussie tech legend scores brownie points for transparency.  The traditional approach of keeping acquisition terms hidden allows buyers to claim their term sheets are market standard.  This chestnut makes it hard for first-time founders to negotiate, as there is no easy way to judge whether particular terms are standard or harsh (or where on that continuum a term falls).

As Atlassian notes in its blog, making information in available to prospective sellers in the public domain – should make the negotiation process easier to navigate.

Atlassian also scores brownie points for putting forward some seller-friendly terms.

Here’s our rundown of things we like in the term sheet and things that make us go hmmmmm.

three things we like:

  • Favourable escrow terms: It’s common for us to see buyers holding back 10-20% of the purchase price in M&A deals against warranty claims for up to 2 years post-closing.  This is called escrow).Atlassian’s terms mean more money in sellers’ pockets upfront when the deal closes.  Its maximum ask is a 5% escrow (if your deal is under $50m – if it’s over $50m you can choose between a 5% escrow, or a 1% escrow and footing the bill for Atlassian’s reps and warranties insurance covering up to 4% of the purchase price).  In either scenario, Atlassian’s comfortable with a 15-month escrow period.

    Atlassian’s escrow terms are substantially more attractive than those commonly offered in tech transactions, and we hope this motivates other acquirers to move in the same directon.

  • A practical approach to general warranties: For general warranties about the target company (including IP and privacy breach warranties), Atlassian caps the sellers’ liability at the escrow amount, with a 15-month claim period.  We’ve seen warranty liability capped at anywhere between 25%-100% of the total purchase price, and claim periods between 12-24 months.Atlassian’s terms are pretty friendly to sellers, and again we hope other acquirers follow suit.
  • ESOPs covered upfront: The term sheet explains how Atlassian treats existing ESOPs.  Generally speaking, vested equity is cashed out, and unvested equity terminated and substituted for an Atlassian scheme.  We’re happy to see Atlassian raising this upfront – share scheme details can sometimes be inadvertently left out at the term sheet stage, causing problems down the track.

things that make us go hmmmm (for sellers):

  • Exposure outside the scope of general warranties: Liability for anything outside the scope of the general warranties is pretty tough – capped at 100% of the purchase price and subject to a claims period of the statutory limitation period, or 6 years (whichever is longer).This special basket includes tax warranties and indemnities dealing with specific issues picked up in due diligence.  In the NZ context at least, 6+ years isn’t unusual for tax claims but is a long claims period for any other issues, which we think will be unattractive to many founders and sellers.
  • Restrictions for core employees: Core Employees (typically founders) identified in the term sheet will receive a percentage of their purchase price in Atlassian shares that vest quarterly with a 1-year cliff, and are required to enter into non-compete and non-solicit undertakings.Hard-baking payments in stock subject to future vesting is potentially pretty touch for founders who have long been fully vested.

    However, this may not be a big concern if only a small percentage of the purchase price to be paid in stock – Atlassian has left this silent in the term sheet for now.

  • Waive goodbye (maybe) to benefits: Atlassian reserves the right to require team members to waive existing vesting acceleration rights, change-in-control payments, severance compensation, or other payments that might be triggered by the acquisition.This isn’t common in NZ M&A transactions but does sometimes need to be negotiated.  It is more common internationally.
  • Tipping basket: Atlassian expects to be able to bring warranty claims once the total minimum value of all warranty claims hits 0.5% of the purchase price (known as the tipping basket in the U.S. and as the aggregate de minimis in NZ).  5% seems a bit low to us but to be honest, while lawyers likely to argue about these thresholds we’ve never seen a deal fall over on this point.
  • Reverse triangular what?: The term sheet assumes the transaction will be structured as a reverse triangular merger – a structure popular in the US for tax and other reasons.Reverse triangular mergers are not something to be attempted without adult supervision.  Expect to spend some money on tax and legal advisers if you need to get your head around this.

It’s great to see such an open discussion by Atlassian of their term sheet and process, and we look forward to seeing whether other tech acquirers follow suit.

by , 4 July 2019