Knowing when TSAs make sense

By: Janea Schaeffer, Henning Buchholz and Chelsea Gorr

When an organization is planning for a divestiture or an integration, leadership will often work hard to avoid transition service agreements (TSAs). So often, in fact, that it may be worthwhile to remember the opposite: There may be good reasons for TSAs, which can help to smooth transitions, show proper care for stakeholders, and preserve value on both sides of a deal.

Yes, we agree that TSAs have in some ways earned their bad name. A buyer may end up paying a high price for services unnecessarily and delaying changes that are needed to achieve integration value. Sellers may not get the clean break that they need in order to focus on the new organization’s future. These are legitimate points.

But our goal here is to explore the real reasons buyers and sellers may want to enter into TSAs: sometimes, they can reduce transaction costs, and at other times, they are absolutely necessary. To that end, we will walk through how sellers and buyers can make smart (rather than oversimplified) decisions about when TSAs are appropriate.

For the buyer

Many key decisions for the buyer revolve around knowledge transfer and business continuity. This leads to discrete questions about the people, data, and systems that come along with the acquired business (or don’t).

When systems and data are being transferred along with the people who know how to make it all work, there may be little cause for concern about the transition. On the other hand, if the people, not the systems, are coming along, or vice versa, the desire for TSAs may be greater.

When critical business functions are outsourced, there still will be similar concerns to take into account. Are you taking over an existing contract with a third party that already handles a process? In that case, there are fewer places to go wrong. But if you are shifting a process to a new provider, it may be more likely that you will want a TSA.

It matters how similar or different the acquired operations and business critical processes are to things your company already does. When there are new or drastically different processes, TSAs may help the combined organization better plan for and execute on the desired end state rather than simply supporting a suboptimal, interim state. A buyer should also consider how thoroughly the standard operating procedures (SOPs) for the acquired business are documented and whether this documentation is available for review prior to day one.

The level of interaction prior to the deal’s closing is an important measure of readiness. Often, information-sharing may be limited due to antitrust concerns, which is merited, but if you are unable to test and validate systems or data or review SOPs prior to day one, you can’t be certain you have what you need. Data needs to be shared and validated ahead of the close, and there should be a process to remediate data errors or get additional data if you discover something important is missing.

For the seller

The concerns we have discussed for buyers provide a road map for sellers to help them avoid unnecessary TSAs and understand those situations where they might be needed. A seller that does a good job coordinating early knowledge transfer—helping to set up systems, provide data, and allow for validation and testing—creates the conditions for a successful transition.

A smooth transition should be every seller’s goal. Whenever a company divests a significant business, there is still some reputational risk tied to how well the divested operations perform under their new owners.

There will typically be shared stakeholders, including customers and suppliers, that a seller should consider. Customers that have a poor experience through the transition or experience business disruption may put some of the blame on the seller. It’s also not unusual for a seller to have ongoing relationships with suppliers that serve both the seller and the carved-out business. Both seller and buyer should consider processes that affect those stakeholders and how to best maintain business continuity. With this in mind, when TSAs buy time for planning and implementing transition strategies to help mitigate stakeholder impacts or reduce uncompensated one-time separation costs for the seller, they may benefit all involved.

There are a number of other ways in which a good transition can help both seller and buyer realize or exceed the full value they expect from a deal. Purchase price contingencies give the seller a direct incentive, of course, but a smooth transfer to the new owner might also speed up implementation of a new strategy, which might have been the reason for the divestiture of the business in the first place.

Leading practices

To be sure, there are competing arguments for and against TSAs in every transaction, and no two transactions are alike. With that in mind, however, here are four considerations that can help buyers and sellers make better decisions about when a TSA is right for the circumstances:

1. Know the minimum you need for day one (to pay your vendors and employees, accept orders, and so on) and prioritize the data, systems, and processes to get this done. If there is uncertainty around what is coming for those processes, TSAs may be appropriate.

2. Know your showstoppers, and understand when you reach the point of no return for a key process or need to have a TSA.

3. Talk to each other so that buyer and seller each know what the other desires in terms of TSAs and non-negotiable targets that need to be met, striving for early alignment and visibility.

4. Develop a detailed exit plan that sets the timeline for the end of any TSA to ensure that there won’t be slippage.