There is a considerable amount of economic research on optimal contract solutions, but relatively little on the way in which this knowledge is applied in practice. Karsten has addressed this gap by studying 151 private acquisition contracts made available by a large Dutch law firm and looking at whether the contracts primarily reflected the economic deal circumstances or the influence of the individual lawyer. 

Expertise brings advantages

Karsten showed that differences in expertise among lawyers in an acquisition process always works to the advantage of the party with the best lawyer. ‘It appears that when lawyers are drafting acquisition contracts, they don’t limit themselves to codifying the legal elements of the economic circumstances of the deal. Their personal style and character traits – such as their willingness to take risks – appear to greatly influence the final agreement in terms of its form and the number and type of warranties and covenants. This can even influence the acquisition price. The more expertise a lawyer has compared to the counterparty, the greater the advantage for his or her client’, says Karsten.

More protection, more warranties

The research spanned three components. First, Karsten analysed the contracts based on economic factors and their influence. These factors appear to explain one-third of the variation in the number of warranties and covenants. The style of the law firm drafting the agreement also has an influence, as do the individual lawyers. Karsten then looked at whether there is a relationship between the content of the contracts and the premium, or price paid. ‘Greater risk protection means more warranties in the contract and that means a higher price’, Karsten explains.

More expertise, more protection

The final part of the research shows the influence of the expertise and experience of individual lawyers. ‘The lawyer with the greatest expertise can introduce extra protection without higher costs, thanks to a stronger initial negotiating position. This lawyer will often submit the first draft contract with stipulations that favour his client. When representing the buyer, a more experienced lawyer will accelerate the process; conversely, they will slow it down for the benefit of a seller. Either way, the lawyer can influence the acquisition price for the benefit of their own client.'

Oddly enough, Karsten found a negative correlation between a lawyer’s willingness to take risks and the number of warranties in their contracts. So the more risk averse a lawyer is, the fewer warranties there are. An explanation for this, suggested by lawyers, is that cautious lawyers are also less likely to add new clauses to draft contracts.

Doctorate details

Ms C.G.J. Karsten, The Law and Finance of M&A Contracts. Supervisors: Prof. F. López de Silanes and Prof. J. W. Winter.

Time and venue

The doctoral thesis defence ceremony will be held on Wednesday, 6 November at 14:00.

Location: Agnietenkapel, Oudezijds Voorburgwal 231, Amsterdam.