From deadlock to deal: Expert determination in M&A

What is expert determination?

Expert determination is a consensual process where an independent expert decides an issue between the parties. The parties agree the process in advance, including whether or not they will be bound by the decision of the expert. It provides a less formal, speedy and effective way of resolving disputes, particularly those of a specific technical character or specialised kind. Unlike arbitration, expert determination is contractual and not governed by legislation.

When is expert determination appropriate?

The use of expert determination for completion accounts is a well-trodden path for a reason - expert determination is best suited to disputes grounded in technical or accounting matters where a swift, commercial outcome is preferred to formal litigation or arbitration. Expert determination can also be effective for valuations, earn-outs and price adjustments where methodology is agreed and the dispute concerns inputs or calculations, rather than witness credibility.

The lure of a swift outcome, without involvement of the courts, can lead parties to consider expanding the use of expert determination into other matters, for example:

• whether or not there has been leakage under a locked box structure; or
• whether conduct of business obligations have been breached.

Expert determination may not be suitable for these situations, as it does not work well for disputes turning on contested facts, third party disclosure, legal interpretation affecting the parties' ongoing rights. In those cases, the absence of powers to compel evidence or cross examine witnesses can undermine confidence in the outcome. In addition, the requirement to go through the time and expense of litigation is sometimes the incentive which parties need to settle a dispute pragmatically.

Sometimes we also see expert determination proposed as a way to resolve deadlocks, for example under reserved matter regimes in shareholders' agreements. While there may be a role for an expert to play in settling technical issues which are relevant for such decisions, as a general matter it is not effective for parties to outsource matters of commercial judgment to a third party.

We suggest thinking twice before expanding the scope of what can be settled by expert determination.

Key considerations for expert determination provisions

The drafting of the expert determination clause is critical. Ambiguity in scope or procedure is a common source of challenge and delay. Clauses should be precise, enforceable, and aligned to the transaction’s completion dynamics.

• Scope and binding effect: Where resolving a technical question may require the expert to engage in contractual interpretation, for example, how a price adjustment formula operates, consider whether to either (a) expressly state that the interpretation and application of specific clauses integral to the expert's task is binding to reduce the ability of the determination being set aside, or (b) carve out questions of broader legal and contractual construction for a legal expert (for example, a pre-agreed senior counsel). However, be mindful that it may not always be desirable for contractual interpretation decisions made by the expert to be binding. For example, should the parties be bound by an incorrect interpretation of the contract by a valuer tasked with the function of determining an accounting or valuation issue? The desire for a timely, final outcome must be weighed against the risk of being bound by an incorrect legal or contractual interpretation, particularly where the interpretation is outside the expert’s expertise or affects the parties' rights beyond the determination.
• Exceptions: Consider whether the expert determination will be final and binding, subject to exceptions. Common exceptions include "manifest error" or determinations exceeding a specified monetary value. Define “manifest error” with precision so the exception does not become a backdoor to re litigate the expert's judgement; for example, an obvious mistake on its face without investigation or one that is arithmetical or clerical. If using a monetary threshold, tie it to the pleaded claim value rather than the outcome to avoid the unintended consequence that large determinations become unchallengeable simply because the result falls below the threshold. Couple this with a short notice period for any challenge and a specified forum.
• Expert selection: A common mistake with appointment clauses is the assumption that a particular institute or professional body will make the appointment. Some of these bodies regard the appointment of an expert as outside their charter and will decline such requests, so it is important to check and to include a practical back-stop. If the dispute may involve discrete legal interpretation, consider a dual expert model or empower the expert to obtain an opinion from pre agreed senior counsel.
• Procedure: Either incorporate a reputable set of expert determination rules (stating they apply except to the extent inconsistent with the clause) or tailor a procedure covering submissions, evidentiary materials, timetable, confidentiality and the expert’s investigative powers. Minimum procedural standards should ensure each party has a fair opportunity to be heard, while preserving flexibility for the expert to proceed as they think fit and to conduct investigations, including requesting documents and conducting interviews. Missed deadlines can undermine speed and efficiency. Consider whether the expert may proceed in default of missed deadlines, or be provided with a limited right to extend deadlines to avoid tactical delay while preserving pace.
• Time limits: Consider whether there are any strict time limits and whether the expert process should pause or satisfy those limits, including interaction with any applicable notice requirements.
• Reasons: Consider whether to require written reasons sufficient to understand the determination, verify that the correct issues were addressed and confirm adherence to the agreed methodology. Be mindful that reasons will be scrutinised by the unsuccessful party for grounds to challenge.

Recommendations for structuring the expert determination process

• Design the process to fit the transaction and reduce scope for procedural challenge. A well structured process makes outcomes more predictable and implementation smoother. Simple things such as including a timeframe by which the parties are to agree the expert can facilitate the overall process.
• Consider whether to expressly state in any pre‑appointment correspondence or expert determination agreement that the terms only apply to the extent they are consistent with the SPA to avoid the unintended consequence of varying or waiving any rights under the SPA.
• Define the scope of the expert's authority to ensure the expert only considers and makes a determination on those matters that are in dispute.
• In respect of disputes on adjustment mechanisms, clarify that the expert's determination must be within the range of values put forward by the parties. If the expert's determination assigns a value outside that range, the value proposed by either party that is closer will be used.
• Set a realistic determination date that reflects completion pressures without compromising the determination. Where price adjustment mechanics depend on the determination, ensure the timetable dovetails with payment triggers.
• Provide the expert with the ability to obtain documents and interview relevant people. Include a duty of cooperation obliging each party to provide information and access reasonably required for the process. Address data security and privilege protocols upfront.
• If the determination is binding subject to manifest error, define the threshold with precision and consider a short, defined window for raising challenges to avoid open ended uncertainty.