The Definition of TSA Agreement
A Transition Services Agreement (also known as "TSA Agreement") is a contract that outlines the terms under which a seller will provide certain services to a buyer after closing. It typically relates to the transition of day-to-day business operations and can involve matters such as employee transition, technology support, inventory and stock availability, data gathering, and other necessary sales or deliveries prior to winding down the relationship. The scope of work under a TSA Agreement varies according to the parties’ needs and negotiations.
TSA Agreements are common in many types of business transference scenarios, including mergers & acquisitions, spin-offs, and public mergers . They become relevant in a range of situations including a business transition involving one involved party’s divestiture of a portion of their assets; one party’s sale of a division, asset, or subsidiary to another party; and upon the acquisition of a business by a larger publicly-traded entity. TSAs can be relatively simple agreements pertaining to only minor operations transferring between two parties. Alternatively, some TSAs can be massive undertakings that somewhat resemble outsourcing deals because a company transitions entire departments, divisions, or operations to another company. The need to closely scrutinize and negotiate a local or state-level TSA Agreement increases for large transactions as they can sometimes yield unexpected results and complications depending on what the parties need from one another post-transaction.
Elements of a TSA Agreement
The key components of a TSA agreement include scope of services, duration, fees, performance standards and termination clauses. In this section, we will define each of those components in greater detail.
Scope of Services. The scope of services should detail all services that the seller will provide to the buyer. It is best to have this section be a list of "covered services" as well as a list of services that are excluded from coverage (known as "excluded services"). This will allow the parties to have some flexibility by avoiding having to list every conceivable service that may, or may not, be delivered during the term of the TSA agreement.
Duration. The TSA agreement should clearly state what the TSA agreement means to cover. That is to say, the TSA agreement should make clear what dates the services will start and what dates the services will end. It should also make clear when services can be terminated prior to the expiration date of the TSA agreement, if at all.
Fees. The fees, methods of payment, payment calculations and cost increases, if any, should be contained in the TSA agreement. In addition, the TSA agreement should specify how the fees will be treated and what effect the fees will have on the purchase price, if at all.
Performance Standards. The TSA agreement should set forth the following performance standards for seller: (a) fidelity; (b) adherence to laws, regulations and policies; (c) technology; (d) personnel; (e) confidentiality; (f) principal management; and (g) communications and reports. The TSA agreement should also set forth the following performance standards for the parties: (a) performance of services; (b) deliveries; (c) notices; (d) involvement and involvement deadlines; and (e) audits.
Termination. The TSA agreement should set forth the following termination provisions: (a) termination, including facilitation of transfers; (b) procedures upon termination; and (c) post-termination obligations.
Advantages of TSA Agreements
The primary benefit of transition service agreements is that it allows the parties to manage the period of shifting responsibility for target assets and the related services without the risks of commercial disruption and the associated costs required to establish a new system. Most transactions require some transition period to implement the buyer’s or seller’s operating platform. Until such time as new systems have been implemented, a seller will not have access to assets purchased by the buyer while a buyer will not be able to sell assets until the buyer is able to adapt the company’s operating system to new corporate requirements. This delay can result in lost sales, lost customers, lost supply and distribution opportunities and other problems such as employees moving to competitor companies. Such service interruption can lead to loss of competitive advantage either to the target or to buyers without TSAs. These agreements are a means for the parties to meet obligations to customers, suppliers, and other business associates during the transition period.
Issues with Common TSA Agreements
A TSA also poses inherent risks to both the seller and the buyer. The most common challenge is unresolved conflicts between the seller and buyer regarding transition service terms and conditions. Potential conflicts can arise, for example, on issues related to service levels, resources, and costs. Where a business unit or function is split among multiple operations or geographic locations, implementing a transition service agreement can be difficult.
There is also a greater service dependency risk to the seller. If a seller is dependent on the buyer’s quality of service under the TSA for certain critical business processes, then the seller may need to take steps to mitigate its risk of such a dependency. For instance, if the buyer is responsible under the TSA for providing certain IT or back office services, and a critical failure of such impacted system would disrupt the seller’s ability to conduct its ongoing operations, the seller may wish to reduce its exposure by in-sourcing at least some of the functions covered by the TSA.
Thus, there remains an important ongoing need for the seller and buyer to communicate with each other throughout the process and be prepared to come to resolution in the event of a conflict.
Negotiating a TSA Agreement
Effective TSA agreements are a critical part of any M&A transaction. Often, however, this key element of the overall deal is put on the backburner until the end of the transaction timetable, resulting in one or both parties feeling that they got the short end of the stick. The to-do list and deal timetable are extremely fluid elements of an M&A transaction. We often see parties prepared to sign off on a TSA before they are actually prepared to do so, and will often agree to initial drafts very early in the transaction timetable knowing that they will have time to revisit the subject later.
One strategy that parties can use for negotiating an effective TSA is to start early and be precise with timelines, e.g., by specifying the date by which certain actions must be taken or a service provided, and identifying the party responsible for such delivery or action . Also, focus on defining precise service levels for the least-complex provision of the agreement, such as data backup. Too often, we see parties negotiate just how many copies of the hard drive will be produced but skimp on language concerning a bare-bones service level for data backup.
When drafting and negotiating the terms of any TSA, it is critically important that the parties understand and agree not only to the specific services that will be provided but also to the underlying intent and scope of those services. It is often unclear whether the TSA is designed to assist the buyer in ongoing operations or simply to help the seller wind down its operations.
Capable counsel well understand the need to balance creative problem-solving with defined metrics that will hold both parties accountable. A solid TSA reflects the intent of the parties and provides the parties with clearly defined expectations.
Legal Issues Associated with TSA Agreements
While many of the terms commonly included in a typical TSA Agreement are fairly standard, there are legal requirements associated with TSA Agreements that require consideration. First, a TSA Agreement is highly integrated with and subject to the financial covenants and reporting requirements of the parties to the transaction. Significant events under the TSA Agreement may be required to be reported to the Bankruptcy Court under the Bankruptcy Code (e.g., regulations affecting the operation of the business, pricing of gas in the spot market and customer complaints and resolutions). Failure to comply with applicable Bankruptcy Court rules and procedures may result in adverse consequences for the parties.
Second, in order to ensure uniform enforcement of a TSA Agreement, the subject matter jurisdiction and venue of the Bankruptcy Court overseeing the bankruptcy proceeding should be provided. In this regard, a TSA Agreement may be interpreted by the Bankruptcy Court or any court with subject matter jurisdiction and proper jurisdiction over the parties to the TSA Agreement. Similarly, the laws under which the TSA Agreement is interpreted should be the laws of the State of New York.
Third, a TSA Agreement should contain a waiver of jurisdiction and venue by and on behalf of the receiving party. However, the waiver of venue may be problematic in circumstances where there are consecutive TSAs and the immediate parent of the shipper is not in bankruptcy such that such receiving party has rights to a shipper’s recourse.
Finally, a TSA Agreement should provide for the notice and cure periods that may be required to be provided to the parties in the event of alleged breaches. The requirement of notice and cure periods ensures that parties are given the opportunity to remedy their breaches prior to more severe consequences under the law or the TSA Agreement.
TSA Agreement Examples
Third-party storage and administrative service providers commonly use TSAs in many different contexts across a spectrum of services. One common example is between a data user and cloud storage providers. These TSAs define the data access and use of data by and through cloud storage and define other rights and obligations regarding the use of such cloud storage platforms.
For instance, the Internal Revenue Service ("IRS") leverages a TSA between itself and Desydey Cloud Solutions covering Desydey’s Documate services. The IRS uses Documate’s document and content management solutions for tax return documents. The terms of the TSA are quite comprehensive, covering topics such as standards and professional responsibilities, confidentiality provisions, data requirements, security requirements, record retention requirements, payment terms, and other contracting terms. In this case, the IRS uses a Cloud Service Provider ("CSP") for the storage and maintenance of its data, and a TSA is necessary to address these issues and provide a contractual basis to protect the IRS’s interests related to the data that is being stored on the platform.
Another real-world example using a TSA is in the context of corporate acquisitions . A TSA is often used to allow the transferor of assets to provide certain services to the transferee of the acquisition afterwards. A technology or data company, for instance, may need continued service support from the seller’s legacy IT service provider for a transition period from the close of an acquisition. The TSA in that instance may provide interim services with respect to computing services and infrastructure (e.g., data center, help desk, email/office products, security, Cloud-related services, middleware, etc.) for a limited period, ranging anywhere between few weeks to several months.
Another prevalent use is in the context of long-term commercial arrangements. A TSA may be used to provide critical spare part supply (i.e., after-market parts) for a significant period of time after an equipment sale. For example, notice that several major manufacturers in various fields (e.g., telecommunications equipment, gas turbine engines, etc.) have generated additional revenue by offering these after-market services. The TSA defines the obligations of the parties with respect to the sourcing, pricing, discounts, warranties, etc. of such parts.