Provisional TSA & Costing
About the play
Once the decision to divest is made, business and technology teams begin evaluating the path to separate the targeted business unit from the remaining organization. Transition services agreements (TSAs) become a practical option when there is a conflict on how quickly the deal can close versus how quickly the organizations can separate.
TSAs are service agreements between buyer and seller companies (or divested entities) in which one entity provides services and support (i.e., IT, finance, HR, real estate, payroll, etc.) to another after the closure of a divestiture to ensure business continuity.
Often, TSAs serve as mechanisms to de-risk a transaction while enabling business continuity in the face of aggressive separation timelines. In general, TSAs are viewed as a necessary overhead, and their use should be minimized. The seller company is usually not in the business of providing services to third-party organizations and would like to avoid becoming a service provider for the divested entity. Additionally, the strategic road maps of the seller company and the divested entity diverge rapidly post-transaction close, making long-term TSAs problematic.
Like any other critical commercial agreements, TSAs have significant operational, legal, and financial implications for both the seller and the buyer companies involved in a divestiture. Setting up effective TSAs could prove to be highly complex and time-consuming with multiple stakeholders from both business and IT involved. Particular emphasis should be given to documenting these agreements with a high degree of accuracy and quality in order to help ensure clear understanding by all entities involved in the transaction. Since IT is always central to the continuity of business activities, the finalization of TSAs demands time and data from personnel across all areas of IT.
Preparation
People
Executive sponsor, separation manager and deal team
Difficulty
Medium
Materials
Meeting Agenda, Whiteboard, Strategy Documents
Time
Spend one day or more to prepare materials for a two hour play.
Running the Play:
Define What Services Would be Required to Manage Business Continuity from Day One
This can be a challenging task for IT teams, in particular, to define services for a TSA due to the complexities inherent in a shared IT environment. To get around these issues, it’s common to bundle IT services for a TSA. Beware when bundling services; while this simplifies TSA costing, it may create complexities later if the buyer attempts to remove a TSA service independently of another.
Also, consider if TSAs need to play a role when the divested business unit retains IT assets and services required by the seller. In such a scenario, a reverse TSA where the transitionary services are provided by the divested business back to the seller.
Finally, make sure service details are written with simple and direct language to describe services unambiguously. Key performance metrics (KPIs) to measure service levels may allow the service provider to technically abide by the TSA, but not provide the service level needed by the receiver. Using terms such as “reasonable,” “commercially reasonable,” or “best commercial efforts” can lead to such scenarios.
Check if the Scope of Services is Appropriate
To provide a clear understanding of the services to be delivered, the service description section should specify the services that are both in scope and not in scope. The scope of a TSA should be constructed based on individual service elements that may get phased out at different milestones throughout the TSA duration. This allows TSA service costs to ramp down for the buyer as individual services are exited before others. The TSA should also list discrete services (e.g., infrastructure and application support) and their costs, as well as the SLA requirements for each of the identified service elements.
Define Measurable and Auditable Service Levels
Documented SLAs help mitigate a common root cause of discord between service providers and receivers regarding the quality of services delivered. Adequate metrics and a practical measurement approach should be specified to help ensure the appropriate expectations are set before service commencement, as well as enable transparency in audit and reporting of service performance during the TSA period.
Define the Duration of Services
Both the divested entity and the seller company should establish the expected duration for each of the services plus an overall limit for TSA duration. Allowances for limited-term request-based extensions may be added to provide flexibility for the continuity of a small subset of transitionary services for a longer duration than others.
Check for Regulatory and Compliance Issues
In large divestitures involving multiple countries, the regulatory environment in each country becomes a critical factor in determining the scope and duration of TSA services. Lack of country-specific legal guidance during the scoping of TSAs can lead to regulatory risk exposure post-Day 1. Embedding legal counsel with business and IT teams driving the TSA effort will help avoid this risk before it is too late.
Confirm for Potential Contractual Issues with IT Vendors
Typically, third-party IT vendors may have little to no incentive to support the provisioning of transition services for the service provider. The lack of explicit rights secured from vendors in support of TSA services may result in a contractual risk for the service provider. Both the buyer and seller organizations should review their contractual obligations and put the wheels in motion to negotiate and obtain sufficient TSA rights from third-party IT vendors early on in the TSA documentation process.
Prepare Indicative Costing of TSA Services
TSA service costs are often a source of disagreement and dispute between the buyer and seller organizations during the TSA planning phase and TSA execution. Usage of ambiguous cost metrics or lack of knowledge about the cost components and assumptions used to calculate cost estimates may lead to poorly defined service costs. Key cost elements often overlooked:
- One-time costs to setup TSA services
- One-time costs to exit from TSA services
- Markup costs for TSA extensions
Sometimes it’s hard to determine what the baseline costs for services are. In such scenarios, the TSA documentation should include a detailed costing methodology that identifies key metrics, benchmarks, and calculations used to identify actual service costs during service execution.
It’s common for parties to agree to a cost mark-up on services. The mark-up can be set to increase over time, in order to encourage the buyer to move off the TSA. The mark up on services may start at 5–7% and then to 15–25% over time.
The list below provides a comprehensive overview of the elements driving the cost:
- Personnel costs: fully-loaded salary, including pension costs, bonus, and holiday pay.
- Cost of allocated office space and utilities.
- Cost of third party services: allocation of a percentage of license fees, allocation of a percentage of monthly maintenance costs.
- Cost of internal services: IT support, HR support, etc.
Note that restrictions are usually imposed by third-party service providers, specifically on the use of software as a service to others than the Parent company. The license agreements for ERP or HR tools do now allow the user to provide services to users outside of the company. Some software providers will allow for a grace period, but then require the Buyer to buy its own license.
Outline How Governance Would Work Post-Close
TSA documentation should be standardized and provide comprehensive details on every aspect of the services to be provided. In particular, a governance model needs to be agreed upon upfront. Typically this involves TSA owners for each of the services reporting to a TSA manager. The TSA manager has overall responsibility for the services provided to the seller.
A transition committee with representatives from the buyer and the seller would also meet on an agreed basis to monitor the execution of the TSA.
