A closer look at the locked-box, the new M&A trend

A closer look at the locked-box, the new M&A trend

The "locked-box" mechanism has become increasingly popular in the M&A world in the last few years. It is a device used in the final stages of a transaction to negotiate the closing. The "locked-box" is a tool that enables the amount of the transaction to be fixed upstream, rather than at the time of closing. In this article, we explain in detail how the "locked box" works!

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What is a "locked box"?

How do you explain a "locked box"? The mechanism of the "locked box" consists in bringing forward the moment of payment for the transaction, and therefore the transfer of ownership. In a "classic" M&A transaction, the financial transaction takes place at the "closing", i.e. the final stage of the deal, when the assets and properties are being transferred for the agreed upon price. Conversely, with the "locked box", the transaction takes place during the "signing" stage, which can be seen as the preliminary sales agreement. 

In this way, the amount of the transaction is determined on the basis of the company's historical accounts. From the moment of signing, the acquirer becomes the owner of the cash flows generated by the company, and the amount agreed between the two parties is set aside in a "locked box", to be unlocked at closing. 



What are the advantages of the locked box?

The "locked box" has gained in popularity in recent years. According to a 2020 study by law firm DLA Piper, 50% of M&A transactions used a locked box in 2020, compared with just 36% in 2018. To what can we attribute this growing appeal of the "locked box"? The main advantages of the "locked box" are:

  • Speed of transaction: with the price fixed, negotiations are reduced and can no longer influence the price. As a result, all the costs associated with due diligence audits or revisions to the transaction amount to adjust it to the company's latest performance are no longer taken into account.
  • Better protection for the seller, since the price is fixed and can no longer vary (except in the case of suspensive or specific clauses), even if the performance of the purchased company declines.
  • Saving money, since the external and internal resources required during the last negotiations are no longer necessary. 


It should be noted, however, that the "locked box" mechanism is fairly asymmetrical, since if the seller has a significant advantage, the buyer may find itself in a slower growth period that could not have been foreseen at the time of due diligence.



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When is a "locked box" used?

As you can see, the "locked box" is used to facilitate a M&A transaction. This type of mechanism is particularly useful in highly competitive environments. Indeed, when there are many potential buyers, everyone wants to be the one to make the best offer, so as to gain the upper hand over their direct competitors. In this context, using the "locked box" to determine the price in advance is particularly useful and effective. 

Conversely, in a less competitive sector, if there are only one or two potential buyers, the "locked box" is less necessary and the risks become too great for buyers. In such cases, they prefer to take more time to carry out due diligence and analyze the latest accounts. 



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