The Use of Escrow Contracts in Acquisition Agreements

Abstract

A large fraction of acquisition deals for private firm and subsidiary targets include an escrow contract giving the bidder the opportunity to lay claim on escrow account funds if subsequent to the acquisition the seller fails to meet specific acquisition agreement terms. The likelihood of using an escrow contract is higher when buyer or seller transaction risk is larger. Also, the use of escrow contracts (i) helps to reduce bidders’ due diligence costs, (ii) enables sellers to obtain a higher sale price, and (iii) raises the extent to which an acquisition leads to an increase in bidder firm shareholder value.