What is a transition service agreement?
A transition service agreement (TSA) is a contract whereby a seller agrees to provide certain services to a purchasing company during a transition period after the acquisition.
|Transition service agreement example: Imagine that one IT giant X buys a product of another software company Y. As part of the transaction, they may conclude a transition service agreement, under which the selling company Y provides TSA services such as data migration, IT support, accounting, or marketing to company X. During this period, company X is preparing to take over operations.|
For instance, here is the TSA agreement between Expedia and TripAdvisor.
Notably, the transition might involve several transition service agreements. For example, for such services as human resources, information technology, and accounting, there may also be a master services agreement. It consists of overarching principles for service provision, billing terms, and a general termination procedure.
Benefits of transition service agreements
A carefully and properly prepared TSA can be a very valuable tool. However, some companies fail to manage the TSA successfully. Below are a few reasons why preparing for a TSA is crucial:
- Maximized transaction price. A seller can offer a commercially reasonable TSA when marketing its asset, so it will be more attractive to potential buyers — they know the transition will be easier with such service and access to the seller’s resources.
- Quicker closings. Without a TSA, buyers should be ready to take over the acquired processes right after the deal is signed. If there is no further support from the seller, it will take more time for the buyer to prepare for the transaction.
- Smoother transition. Both the buyer and the seller want to finish the process quickly and return to their operations. Therefore, a TSA nails down transition details, provides a clear transition roadmap, and helps avoid misunderstandings.
- Reduced transition costs. With a well-managed TSA, a buyer avoids expensive errors during the integration.
- Better end-state solutions. A TSA facilitates discussions and outlines any adjustment, and regulates what both the buyer and seller are to achieve by the end of the transition.
- Clean separation. The buyer limits liabilities or risks inherited from the purchased business. On the other hand, the seller helps to protect their reputation.
Forward vs. Reverse TSA
A forward TSA is exactly what we discussed above, where the seller’s company provides services to the buyer’s company. This type of transition services agreement is more common.
In the case of a reverse TSA, the opposite is true — buyers deliver transition services to sellers. For example, a seller needs such services under a transitional service agreement when critical company assets now belong to the purchasing company. This may include data centers or systems used by both buyers and sellers.
Effective TSAs: From drafting to delivery and exit
Below, we provide a checklist to highlight key considerations that should be negotiated and what to include in a transition service agreement.
|TSA process stage||Buyer — service receiver activities||Seller — service provider activities|
|Identification||Corresponding industry experts from the buyer side identify necessary services; how much time they need to find a contractor or integrate the operations into their own processes.||Provides a buyer with any necessary information about the operations of the sold division.|
|Negotiation||Determines and discusses the exit strategy, e.g., if they want to keep the service function in-house, terminate or outsource.||Identifies service pricing and associated costs. Addresses which party is responsible for such costs with the buyer.|
|Drafting||Both sides collaboratively write and edit the legal document.|
|Legal review||Legal teams correct and finalize the service agreement TSA.|
|Signing the transition service agreement|
|Monitoring||The buyer TSA manager tracks performance and communicates any issues and concerns to the seller TSA manager.||The seller’s TSA manager monitors their team to deliver services properly, controls billing, and timely notifies the buyer’s company about any issues.|
|Status updates, step downs||The buyer TSA manager notifies the seller when they are ready to take on certain operations.||The seller’s team makes requested changes in the services they provide.|
|Fees collected||Timely pays for the services.||Regularly sends invoices.|
|Termination notices||When the buyer is ready to terminate services, they send a notice within a defined period.||The seller accepts the termination and communicates the termination fees and unpaid service costs. Additionally, a service provider finishes any knowledge transfer and cleans up left activities related to the sold division.|
Challenges of transition services agreements
A TSA is signed to speed up and simplify the post-close transition. If not properly addressed, however, the initiative hinders instead of aids the process.
Review the following key points to learn what to pay special attention to.
Challenges for both parties
- Incorrect cost calculations. Transition services include such expenses as salaries, hourly rates, as well as third party and unforeseen costs. Failure to properly account for these costs can lead to TSA value loss.
- Business continuity and customer experience issues. This happens when parties try to speed up the transition rather than make it efficient.
- A failure to identify third party consents. It’s important to begin outreach to third-party vendors early. Working with them can add time to a tight schedule. Furthermore, there might be third-party consent fees to consider.
Challenges for a service receiver
- Sellers aren’t motivated to support a transition. Let’s face it, a TSA is beneficial for the buyer because it strengthens their position, but not so clearly beneficial for a seller. Based on the Mercer report, 49% of buyers say sellers do not agree to provide post-closing services. Sellers treat service agreements more as a burden. As a result, problems can arise at any time during the transition process.
This main challenge can lead to the seller trying to terminate their obligations as quickly as possible and return to their main business. In some cases, buyers may find themselves dealing with unexpected service costs and struggling to capture integration synergies.
- Sellers might incorrectly assess services needed. This may lead to a time-consuming transition, excessive costs, and not receiving the expected value from the agreement.
Challenges for a service provider
- Disruption of operations. If not planned properly, a TSA may lead to the seller’s team losing productivity. The employees in key roles might be disproportionately involved in delivering services vs. running a seller’s business. That, in turn, may lead to losing customers and financial losses.
- Reputational damage. The sold part of the business is still associated with the seller’s company but is not fully under its control anymore. So transition after an acquisition is followed by risks of data breaches, service quality degradation, compliance issues, unexpected liability, etc.
7 tips for the successful management of a TSA
Now, let’s consider some of the best practices to make the TSA management process smooth for both the buyer and the seller.
1. Treat a TSA as a strategic project
Consider a transition services agreement as a long-term value for both the buyer and seller, not just a box-ticking exercise. Such a strategy allows two parties to improve capabilities and processes for future success, while avoiding costly pitfalls.
This approach makes the services agreements beneficial for both parties. For a seller, the benefits might be a higher deal price and clients’ satisfaction with a smooth transition.
2. Involve experts in drafting a TSA
Engaging industry experts who work with the provided service fields is a must to define accurate costs, the scope of services, and reasonable timing.
These individuals may be both internal and external. External SMEs might be those who already have experience with executing TSAs. They offer a proper process and the necessary tools for each case.
3. Clearly fix the scope of services delivered (it’s very important!)
The scope of the services should be properly defined in as much detail as possible. Break down the general service into smaller service packages. It will be easier to define accurate costs. The practice also facilitates a faster transition. The buyer can gradually move away from the seller’s services — “step down” from individual services. It is also a good idea to fix the step-down procedure in a transitional services agreement.
The text and entire agreement should be concise and clear for both parties involved.
4. Have a TSA manager for both sides
To control and move the transition forward, assign a transitional manager for both sides. These employees don’t execute services or the integration but manage process owners from each side. Their responsibility is monitoring the services delivered under the TSA and keeping its separation activities on schedule.
5. Maintain the normal service standards
The buyer needs to receive a proper service level, while the seller needs to maintain business continuity. The balance is to keep up with the processes’ quality level before the deal.
Do not focus too much on service quality. The primary goal is to finish the transition as soon as possible.
6. Establish an exit strategy
Both parties need an exit strategy to complete the transition in the agreed time frame. Additionally, having a clear exit strategy makes it easier to track transition progress.
To create an exit strategy, a buyer should understand their end-solution goals and prepare the TSA accordingly. For example, the buyer should know whether they want to maintain a service function internally, outsource it to a third party, or terminate it.
The buyer’s team is to analyze how the acquired new company will affect current operations as well as future performance goals. Based on the analysis, the buyer develops a step-by-step transition plan. It may include updating processes, training employees, implementing systems and tools, etc. They should consider the resources, skills, and capabilities needed to ensure a successful transition.
Sellers structure their services based on the buyer’s needs and goals.
7. Carefully calculate the timing
The time to integrate a purchased business should be calculated realistically. Otherwise, the buyer might not be ready to inherit the processes, while the seller is prepared to terminate the relationship.
A buyer needs to plan their transition backward. A seller should appreciate the buyer’s critical needs but realistically avoid excessive set period extensions. However, both businesses should be flexible. For example, it’s impossible to predict unforeseen events and acts of God.
Let’s walk through the key considerations for negotiating an agreement and what to implement during service provisions.
- Define the parties: Who are the service provider and service receiver?; Are you entering into services agreements with just the seller, or are there third parties who will provide services to a seller?
- Identify the employees and resources involved in service provision
- Define a clear scope of service(s) for parties to agree to; list what services aren’t provided; the price and potential extra charges
- Consider the service level and performance standards
- Calculate and fix the time necessary for a buyer to finish the transition properly
- Agree on the approximate duration, exit procedure, and options for extending and providing additional services
- Fix the billing procedure: flat rate, by user, monthly, quarterly; invoicing details
- Discuss the dispute resolution procedure
- Define each party’s liability
- Agree on the buyer’s and seller’s ability to access each other’s information and methodologies
- Consider if there will be personally identifiable or other sensitive or confidential information involved in the service provision; implement appropriate safeguards if applicable.
Streamline TSA management with a VDR
In a virtual data room (VDR), both the sellers and buyers can securely access confidential documents and information related to the M&A or divestiture transaction, ensuring seamless due diligence and transition processes.
Here’s how VDR facilitates TSA management:
- Securely share and discuss knowledge/documents related to sold company operations and provided services.
- Update documents in real-time, so the other party can track the process.
- Easily manage access so only authorized users can view needed documents.
- Generate activity reports so either party can monitor the progress.