Deal-Contingent Hedge: a Worked Example

An acquisition is priced on the day the sale agreement is signed and paid for on the day it completes, and the months between are spent on conditions. Some are regulatory. Australia has required notification of acquisitions above its thresholds since 1 January 2026, and the parties must wait for the competition regulator's approval before proceeding. Foreign buyers may need consent from New Zealand's Overseas Investment Office or clearance through Australia's foreign investment regime. In the UK, an acquisition that must be notified under the national security regime, broadly a change of control in one of the sensitive sectors its regulations list, is void if it completes without approval. Others are commercial: a shareholder vote, a landlord's consent, the financing.

Two prices can move meanwhile. If the purchase price is in a foreign currency, the exchange rate decides what the deal costs the buyer. If the deal is funded with floating-rate debt, the interest rate decides whether the cash flows the lenders sized the debt on will service it. The buyer is in a bind. Hedge now with an ordinary contract, and a failed deal leaves it holding a hedge with nothing to hedge, to be closed at market value. Wait, and it carries the rate risk until completion. Buy an option, and it pays a premium whether or not the deal goes ahead.

The trigger is completion of a named acquisition under a named sale agreement by a long-stop date. If the agreement terminates, or the long-stop passes, the hedge falls away without payment. Providers commonly require their consent to amendments or waivers of the conditions that could change the odds of completion, and they read the purchase agreement as closely as the buyer's lawyers do. On completion, the contract becomes an ordinary swap or forward, often with a bank that is also a lender in the acquisition financing. A currency forward then settles as the price is paid; a swap runs on beside the loans and is usually secured with them.

The bank hedges its own side in the market with ordinary contracts. If the deal fails after rates have moved against that position, the bank is left with the loss, and there is no traded market in which to pass the deal risk on. It prices the contingency into the rate it offers, according to its view of how likely the deal is to fail and how far rates could move before completion. More conditions and a longer time to completion make it dearer. The premium is paid only through the rate, so only if the deal completes.

A pet-food manufacturer, constructed for this page like every figure in it, signs to buy a competitor and will fund it partly with a US$60m floating-rate term loan over five years. Completion awaits competition approval, expected in four to six months. The buyer wants 70% of the loan, US$42m, fixed for five years from completion. The rates are the example's, not a market quote:

Three things can happen before completion:

The 4.6 is the example's annuity factor: five years of annual payments, discounted. The buyer is paying up to about US$378,000 over five years to remove a US$1.39m bill in the case where the deal fails as rates fall. Whether that is worth it turns on the same two questions the bank asked when it priced the contingency: how likely is failure, and how far could rates move in the meantime.

Its nearest neighbour is an option on the same hedge: a swaption for the interest rate, or a currency option for a foreign price. An option costs a premium up front, paid whether the deal completes or not, and it keeps the upside: if rates fall, the buyer lets it lapse and borrows at the lower rate. A deal-contingent hedge costs nothing if the deal fails and has no upside if it completes: the buyer is fixed at the agreed rate. An ordinary forward-starting hedge has the best rate of the three and the full close-out risk.

The hedge also sits beside the debt commitment. Lenders in acquisitions often commit on a certain funds basis so that the seller knows the money will be there; the deal-contingent hedge adds certainty about what that money will cost. A buyer with both, plus its equity contribution in place, knows its funding and its rate before it completes.

DEFINED IN ONE PARAGRAPH → · CERTAIN FUNDS → · CORPORATE LENDING →

For the bank writing it, the hedge is two credit decisions. One is the ordinary one: the exposure on the swap after completion, approved against a derivative credit limit like any hedge. The other is a judgement on the deal itself, which a credit officer does not usually make: the strength of each condition, the regulator's timetable, the length of the long-stop and the buyer's freedom to walk away. A long-stop extended or a condition waived without the bank's consent changes the risk it priced.

For the acquisition lenders, the hedge fixes the interest cost in the base case from the first day, and the rate premium belongs in that base case. For the buyer, the definitions are the risk. The sale agreement, the facility agreement and the hedge confirmation should describe completion in the same way, so that the hedge starts on the deal that actually closes.

SWAP MARK-TO-MARKET → · THE ISDA SCHEDULE → · INTEREST RATE SWAP, DEFINED →