Not hard to do, breaking up is just a cost of deal-making

Breakup fees have been on my mind lately, and I'm not referring to what it may cost the Governator to end his marriage to Maria Shriver.

Breakup fees, which in legalese are termination fees, are a part of many corporate acquisitions. They're the price for walking away from a deal.

You can see why buyers and sellers want them. Who wants to spend all that time evaluating and negotiating a deal if the buyer can't close it or the seller opts for a better offer from someone else?

Because mergers and acquisitions have picked up significantly this year, I couldn't help noticing the size of breakup fees that are being written into the legal documents.

For example, Stryker Corp. agreed to buy Malvern's Orthovita Inc. for $316 million, or $3.85 a share. Should the deal, which is expected to close by June 30, not happen, Orthovita would be required to fork over $9,891,604.

That seems like a peculiar number until you realize that termination fees are usually determined by a percentage of the overall transaction value. Simple division tells us the breakup fee is 3.1 percent of transaction value of the pending purchase of biomaterials-maker Orthovita.

According to the investment banking firm Houlihan Lokey, which annually studies termination fees, the average breakup fee was 3.5 percent in 2009. Breakup fees ranged from 0.7 percent to 7.6 percent during that year, the most recent the firm studied.

So the bigger the deal, the bigger the breakup fee.

Johnson & Johnson announced in late April that it would gobble up Synthes Inc. for $21.3 billion in cash and stock. The breakup fee that was negotiated is $650 million, or 3 percent of the transaction value.

Teva Pharmaceutical Industries Ltd. is buying Frazer's Cephalon Inc. for $6.8 billion, or $81.50 a share. That breakup fee is $275 million, or 4 percent of the deal value. The higher percentage is probably warranted given that Cephalon was fleeing an unwanted suitor in Valeant Pharmaceuticals International.

The other big-ticket local deal this year is eBay Inc.'s pending $2.4 billion purchase of King of Prussia's GSI Commerce Inc. The $74 million breakup fee is 3.1 percent of the deal value.

In April, debt-strained Tasty Baking Co. found its rescuer in Flowers Foods Inc., which agreed to buy the Philadelphia snack-foods baker for $34.5 million. A normal 3 percent breakup fee would be $1.04 million. But a desperate Tasty Baking would pay $3.8 million, or a whopping 11 percent of the transaction value.

I don't know why breakup fees intrigue me. The money rarely changes hands. Of the 99 transactions Houlihan Lokey reviewed in 2009, only nine deals did not close. Of those, only five involved the payment of breakup fees.

Sometimes, that payoff can be quite large. In 2008, Penn National Gaming Inc. received $225 million from private-equity firms that dropped plans for a buyout of the Wyomissing, Pa., operator of racinos and casinos. Penn National also got what amounted to a $1.25 billion interest-free loan from those nonbuyers.

What were the odds of hitting that jackpot?