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How to structure an effective transition service agreement for M&A

February 7, 2022

A robust transition service agreement (TSA) and well-established governance process ensures the provision of services, billing and exit are efficient and effective.
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About the M&A transition services agreement blog series

The M&A transition services agreement (TSA) three-part blog series by Barbara Carmichael, SPHR, CMHR, explains why a TSA is important, and how to structure an effective TSA.

In the first entry in the series, I addressed why a buyer would seek a transition service agreement (TSA):

  • Allow the deal to close sooner
  • Ensure that each party can continue to operate at close
  • Permit appropriate time for the parties to set up the services required to operate independently

If you’ve determined that your M&A deal requires a TSA, most often when you are buying part of a company, the next step is to draft a thorough and effective  agreement with supporting schedules.

A TSA lays out a framework

A TSA is a legal document that references the sale and purchase agreement and defines the parties and their roles as service providers and service recipients. A TSA will provide the framework under which the agreed upon services will be provided.

A TSA will reference the following:

  • Parties, duties and responsibilities
  • Exclusions
  • Performance standards
  • Information access, data privacy and data ownership
  • Access to premises
  • Cooperation
  • Notification requirements
  • Fees
  • Term and termination, including notification
  • Process for modifications and extensions
  • Personnel to support services
  • Confidentiality
  • Liability, indemnity and disclaimer
  • Intellectual property
  • Compliance with applicable law
  • Several other provisions customary for inclusion in a legal agreement

Transaction counsel will typically take the lead on drafting a TSA. Generally, an M&A practitioner and/or functional subject matter experts will support the drafting of a TSA by providing input and reviewing interim drafts.

A TSA’s schedule provides the details

A TSA will also reference a schedule or schedules that document the detail of each resource, support, process or technology that the service provider will deliver to the service recipient.

It is also important to note that the buyer and the seller can be both a service provider and a service recipient, which means that there may be more than one TSA schedule.

The schedule where the buyer is the service provider and provides services to the seller is referred to as a reverse TSA (rTSA).The development of the TSA schedule typically requires M&A practitioners to take the lead, working with functional experts to define each service to be provided under the TSA.

The TSA schedule is often arranged by function and will contain the following information:

  • An identifier, often a functional character and number combination, (for example, the first HR related TSA item may be identified as HR-001)
  • A detailed description of services to be provided
  • An interdependency reference to identify any other TSA item that has a dependency
  • Cost, which will correspond to the billing frequency. For example, if the billing frequency is monthly the costs will be shown as a monthly amount
  • Owner, which is often the individual most knowledgeable about the TSA item
  • Expected duration the TSA item will be provided

The best approach is to provide as many specific details as possible when drafting each item included in the TSA schedule(s) in order to minimize questions or concerns raised during the TSA period due to a lack of clarity or understanding.

Consideration if you’re a seller

A seller is most often the dominant service provider under a TSA. Therefore, a seller must understand the detail of each service to ensure that it can be continued. To illustrate this point, consider a service that is provided by a third-party vendor. The agreement between the seller and the third-party vendor may govern whether a contracted service can be provided to the buyer through a TSA or it may limit the duration. If the agreement is silent, the vendor’s consent may be required to proceed.

Also, there may be services that must be excluded because a seller cannot legally provide the support (i.e. accounting support for an unrelated entity in certain eastern European countries) or may not be willing to provide (i.e. legal support).

It is imperative that a seller identify or appoint the resources that will provide the TSA services and support the billing. Some serial acquirers have a team of resources that own and support TSA services, but most sellers do not.

If a TSA is not made a priority for a seller, then it is likely that the TSA services provided will be executed poorly as it is seen as a lower priority and probably given less resources than other responsibilities.

Sellers must also understand:

  • The cost of the TSA items
  • How they are billed and if the same methodology will be used to charge the buyer for the support under the TSA

An additional consideration that a seller may want to explore is the use of a cost escalator. Such a provision will clearly state when costs increase at certain dates. A cost escalator can provide an incentive for the buyer to remain on track to exit the TSA in a timely fashion. 

It is also important for a seller to understand the interdependencies between TSA items. A few interdependency examples include:

  • The linkage between the HR information system (HRIS) and payroll and benefits: A TSA for payroll and benefits may require that the employees receiving their payroll and benefits through the TSA be included and maintained in the HRIS system. Consequently, there is an interdependency between these distinct TSA items that requires that the HRIS TSA item duration must be at least as long as the duration of the payroll and benefits TSA items.
  • The linkage between the system that supports single sign-on (SSO) authentication and all IT systems access: A TSA for an IT system may require that the employees receiving this access through the TSA be included and maintained in the SSO authentication system. Consequently, there is an interdependency between these distinct IT systems’ TSA items that requires that the SSO TSA (which may also be dependent upon the HRIS TSA) duration must be at least as long as the duration of each individual IT system TSA item.
Considerations if you’re a buyer

A buyer must understand the detail of each TSA item to ensure that there are no gaps or exclusions that prevent the business from operating during the TSA period.

The buyer also must understand the cost methodology that is applied to each TSA item and if it deviates from the approach used to charge the target business when it was part of the seller’s organization. At times, sellers will apply a costing approach that deviates from the historical cost for these services that can impact the cost structure of the target business.

Finally, the buyer needs to ensure that the timelines for its plans to exit the TSA and to set up the stand-alone infrastructure to replace the TSA services align. If these timelines are not meticulously managed it can result in the need to extend TSA services beyond the anticipated duration, which can result in negotiations where the buyer is at the mercy of the seller.

A TSA requires robust governance

The TSA will outline many aspects of the governance process including identifying

  • Main contacts (TSA manager) for each party
  • Notification requirements
  • Termination notification
  • Billing process
  • Terms for modification and extension

Appointing a TSA manager is an important step to ensure that each party understands who they must coordinate with. It is critical not to underestimate the time it takes to effectively manage a TSA and the associated billing. Typically, parties to the TSA have regular communication and scheduled meetings to address questions or concerns and to proactively plan the TSA exit timing for each item.

Final thoughts

A TSA offers both a seller and buyer the opportunity to close a deal quickly and help manage business continuity for the acquired business. The agreement and supporting schedule(s) provide the framework and document the detail of the TSA services to be provided. A robust TSA governance process ensures the provision of services, billing and exit are efficient and effective.

In the final part of this series, I will discuss possible alternatives when a TSA cannot be leveraged.


Managing Director, Global M&A Leader

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