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<xTITLE>I Can Still Hear You Without the Hear-ing</xTITLE>

I Can Still Hear You Without the Hear-ing

by Frank Lazzara, MaryEllen Redmond
June 2020

Arbitration is a form of alternative dispute resolution (“ADR”) touted as a cost-effective and expeditious alternative to litigation.  Ad hoc arbitration is used for disputes ranging from a FINRA proceeding to a consumer debt matter or to resolve a post-closing M&A party dispute over the transferred amount of working capital or the achievement of earnout metrics. M&A dispute arbitrations will typically include the following steps: 


The conspicuous absence of a “Hearing” from the preceding diagram is not an oversight.  In fact, when one considers the lack of detail within most M&A purchase and sale agreements (“PSA”), this list of procedures can seem quite fulsome. The typical PSA specifications regarding the resolution method for any post-closing dispute, often provides no more than a brief sentence directing the parties to seek an Independent Accountant after a 30-day resolution period.

A review of the typical participants and their motivations in an M&A transaction may help to answer “What happened to the hearing?”.  One common profile consists of a non-investor seller, often the founders and management of a start-up target, whose motivation is to sell the business they launched from nothing. Their counterpart buyer, who has been courting them for months is anxious to begin integration, and initiatives to maximize their newly acquired value. Another deal profile comprises both buyer and seller as Private Equity (“PE”) with their own strategic plans for maximizing the value of their acquisitions or deploying the recently generated capital.

Irrespective of the position of the party to an M&A post-closing, there is rarely any interest for a protracted dispute resolution process to bring to conclusion, yet again, the deal they entered into months or in the case of an earnout, years, earlier. Return on investment is important to all parties and therefore, so is efficiency and expediency in finalizing on the transaction.

Many arbitration hearings are necessitated by questions of fact, testimony from both fact and expert witnesses, evidence that has to be presented and validated, and the list goes on.  This reads like the description of a litigation because the arbitration hearing is often as far as you’ll get from the objective of ADR and a return to the traditional courtroom litigation.  

Agreeing to an arbitration hearing requires a number of procedural questions to be answered and mutually accepted by the parties regarding the conduct of the hearing. Below is a list of just a few such questions:

  • Fact witnesses – how many should be permitted? Which side presents first? Will cross-examination be permitted and for how long?
  • Expert witnesses – will they present at the hearing? What is the proposed timing of their expert reports and will they be subject to cross-examination?
  • Will the hearing be video-taped?
  • Will a court reporter be utilized?
  • Where will the hearing be held?

This listing merely scratches the surface of questions and issues to be addressed in order to conduct an arbitration hearing, and demonstrates the complexities of the hearing and begs the question, is there a need to conduct a hearing at all?  Commercial disputes concerning purchase price determination after an M&A close are unique because much of the documentary evidence needed by the arbitrator accountant is generated by and customarily part of an M&A transaction close. An analysis of such documentation may help illustrate how one can get to the bottom of a dispute without a live hearing.

M&A transactions are generally accompanied by several transactional documents that specify the deal terms and the financial statements of the target. The following are critical in a post-closing dispute:

  • PSA - details the terms of the transaction, including the determination of the purchase price and the basis of preparation (e.g. GAAP) for the underlying closing financial statements such as the balance sheet for working capital determination and the income statement for earnout calculations;
  • Closing statement – is typically prepared by the Seller on the closing date. It is used to derive the transaction’s closing cash, which includes estimates of closing working capital.  In the case of an earnout, the closing statement equivalent is an income statement-focused document that is prepared by the Buyer and includes a preliminary calculation of the earnout as compared against the PSA-specified targets;
  • True-up statement –is typically prepared by the Buyer 30 to 90 days post-closing. This calculation seeks to revise the Seller-prepared estimate of closing working capital;

The above documents are essential evidence to an accounting arbitration because they provide a synopsis of the M&A deal pre and post-closing. They provide background into the structure of the deal at closing as well as any post-closing calculations, i.e. closing working capital or earnout metrics, and the requirements for said calculations. These transactional documents are often sufficient, when combined with an arbitrator’s initial joint party call, to advance most matters to the development of a proposed procedural timeline to specify the dispute resolution process without necessitating a live hearing.

To be clear, the arbitration parties can demand and, neutral accountants will accommodate the inclusion of a live hearing in certain cases. Two examples come to mind where the seller plaintiffs demanded a hearing and the accountant arbitrator granted their request. The subject matter of both disputes was the earnout achievement and the seller plaintiffs were founders of the targets that were both sold to strategic acquirors. The hearings lasted several days, with each side having their own counsel, financial experts, and fact witnesses. However, in the end, the ruling came down to what was readily available in the PSA, closing, and true-up statements; documents that could have been reviewed by the arbitrators without the time and expense of a live hearing.

To further illustrate the absence of any added utility that a live hearing contributes to the resolution of a post-closing purchase price dispute whose transaction terms are documented in a mutually executed PSA, we mustn’t forget that the added cost of the hearing is often borne by the non-prevailing party and as was the case in the examples discussed above, the seller plaintiffs were stuck with the hearing tab.


Frank Lazzara

Frank A. Lazzara is a managing director in the Disputes Consulting practice of Duff & Phelps, based in New York. Frank provides dispute resolution, investigative and accounting expertise to attorneys in litigation and arbitration. He has more than 30 years of experience in forensics, financial operations consulting, public accounting, internal audit, and private industry.  Mr. Lazzara holds a B.B.A. in public accounting (magna cum laude) from Pace University’s Lubin School of Business. He’s a Certified Public Accountant in New York, is Accredited in Business Valuations, holds a Certification in Financial Forensics, is a Certified Fraud Examiner and is a member of the American Institute of CPAs and the New York State Society of CPAs.

MaryEllen Redmond is a Director at Duff & Phelps, based in Washington, DC.  She has extensive experience in litigation support, forensic accounting, and family law.  She holds a Masters in Forensic Studies with a Concentration in Accounting from Stevenson University, and is a CPA, a CFE (Certified Forensic Examiner), CVA (Certified Valuation Analyst), MAFF (Master Analyst in Financial Forensics), and a CDFA (Certified Divorce Financial Analyst).