The current COVID-19 crisis has impacted the M&A market both domestically and internationally as buyers and sellers try to grapple with this new environment. Despite the current crisis, it is possible that deals can be done, and in many cases they should continue, provided that the correct advice has been sought (and followed) and all key risks are given adequate consideration. Despite the effects of COVID-19 potentially being protracted, it is creating opportunities for businesses to become creative, innovative and develop new ways of doing business and servicing their customers.
We believe that there is opportunity for investment in businesses which are coping well amid this COVID-19 crisis and/or were solid businesses prior to the lockdown with good prospects of recovery as the country re-opens. In such cases there is no reason to avoid transactions during this time. In progressing with any M&A activity, buyers and sellers should ensure their considerations include the following:
In order for a buyer to be able to adequately undertake a comprehensive due diligence investigation and for the seller to be able to comply with a buyer’s due diligence requests, it is likely that due diligence periods will need to be extended beyond commonly used timeframes. COVID-19 will create additional hurdles in due diligence investigations such as the inability to access documents or allow physical inspections due to the restrictions in place. Engagement with employees, senior personnel or management teams may also be limited and alternative means such as videoconferencing may need to be considered. The focus of due diligence will also inevitably change, with buyers wanting to more thoroughly investigate and understand the actual impact of COVID-19 on the business and the resilience of the business to any further such events.
For a buyer, seeking the inclusion of a material adverse change (MAC) clause is important given the uncertainty around COVID-19. A MAC clause means that if a sufficiently adverse change or event occurs, the buyer can cancel the agreement and walk away. These clauses are often heavily negotiated and ones which sellers are often hesitant to agree to (given the ability for a buyer to cancel the deal after both parties having devoted significant resources toward it). In the current market, MAC clauses will need to be carefully drafted and what is considered a “change” will need to be given serious consideration on the basis that COVID-19 is an existing issue. From a seller’s perspective, if you find yourself facing such a clause, you may wish to seek carve-outs for any epidemics, pandemics or diseases (or similar), including COVID-19, as well as any further Government enforced lockdowns.
If you are relying upon external finance to complete the deal, then a robust financing condition should be included in any sale and purchase documentation to cover risks associated with the availability of financing amidst the uncertainties of COVID-19. Banks or other lenders may be hesitant to lend during this time or may have additional requirements in order to obtain approval. Where there has been a decline in a company’s performance or a breach of its banking covenants, lenders will also have rights to decline funding or the ability to access overdrafts. Approved finance may also include its own MAC clause that could be triggered at any time.
Given the market uncertainty, and that trading partners that are there today may not be there tomorrow, buyers should consider what is crucial to the value of the business. They may wish to seek to include conditions in the sale and purchase agreement relating to retention of key customers/suppliers, or key employees, such that they can be confident these arrangements will still be in place at settlement.
It is common to include ‘interim obligations’ which the seller has to comply with, generally for the period from the agreement signing to settlement. In light of COVID-19, the seller may require adequate flexibility to adapt to and deal with the changing landscape. Imposing obligations on the seller to operate the business “in the ordinary course of business” may not be appropriate nor in either party’s interests. A seller will want to retain the ability to be proactive to ensure compliance with COVID-19 restrictions and regulations and it may not be desirable to need to obtain the consent of the buyer before taking such action. Practically speaking, buyers and sellers will need to maintain open the lines of communication in order to allow sellers to react appropriately to developments in the Covid-19 crisis and give the buyer certainty that it is doing all that it can to preserve the value of the business.
Sellers are unlikely to agree to warranties which either directly or indirectly concern COVID-19 on the basis that some loss attributable to COVID-19 may not be known for some time. In negotiating warranties, the seller should seek to adopt appropriate materiality and awareness qualifications for their specific situation. In doing this, sellers can mitigate their exposure to potential warranty claims down the track. On the other hand, due to the uncertainty created by COVID-19, buyers should insist on warranties being repeated at settlement and ensure the scope of warranties covers its key risks. As always, negotiation of the warranty regime is an allocation of risk between the parties, and it is up to the parties to find a balance acceptable to them both, and agree a price that reflects that balance.
Unprecedented times often call for a different approach. This may become evident in M&A transactions by parties proposing different approaches to pricing calculations, such as earn-outs, claw backs and deferred payment mechanisms. We expect also to see more potential buyers investing in businesses and acquiring a majority or minority stake rather than a full acquisition (with or without an option to later increase the ownership interest). This can allow the business the funding to get back on its feet and for sellers to realise further value following the recovery.
Despite the uncertainty in the current climate, we do not consider that its ‘pens down’ per se in the M&A space and believe that there are deals to be done, albeit that they need to be negotiated and documented appropriately to avoid both the seller and the buyer being faced with undue risk.
If you are considering proceeding with an M&A transaction, whether as buyer or seller, it is more important than ever that you seek legal, tax and accounting advice. We would be more than happy to guide you through this process so please do not hesitate to get in touch.
For further relevant information, see also our recent article on contracting through uncertainty, which provides tips for negotiating contracts in these uncertain times.
If you are looking at distressed sale opportunities in the current market or may need to arrange a sale of a financially distressed business, then please sign up for our upcoming webinar.
Business Law team
Gerard Dale, Claire Evans, Graeme Crombie, Evelyn Jones, Anna Ryan, Joelle Grace, Peter Orpin, Ellen Sewell, Matt Tolan, Carlo Wan, Kristina Sutherland, Jacob Nutt, Whitney Moore, Alex Stone, Ben Cooper, Lisa Catto