M&A deals in the time of the coronavirus
As a result of the uncertainty associated with COVID-19, a BigLaw firm is predicting M&A deals will fall over entirely or need to be repriced.
Although it is too early to determine the full impact of COVID-19, or coronavirus, on deals in the mergers and acquisitions (M&A) market, Corrs Chambers Westgarth said it is clear that dealmakers will need to reconsider transactions through a new lens which reflect all “potential ramifications of the pandemic”, both nationally and internationally.
“M&A deals will become more difficult at all stages of the transaction execution process,” wrote solicitors Sandy Mak, Jonathan Farrer and Gaynor Tracey. “Parties involved in the transactions at the early stages will need to consider how to address COVID-19 issues in their due diligence and documentation.”
Corrs added that buyers on M&A transactions, which signed prior to the outbreak, will be carefully reviewing their agreements to see if they need to be terminated or repriced.
In the public market space, many company boards will struggle to recommend transaction in circumstances where share prices are highly volatile. Some businesses will be exposed more than others, with only a few seeing a short-term sales uplift from COVID-19.
In terms of private market space, Corrs predicted withdrawals from deals, but bold buyers may find opportunities. For deals which don’t fall over, the firm expects to see an increase in deferred consideration structures to “bridge valuation gaps” between all parties.
“In particular deferred consideration mechanisms which minimise exposure to COVID-19-related volatility (for example, by linking deferred payments to the achievement of medium long-term earnings forecast) could be attractive to sellers,” the solicitors wrote.
When it comes to due diligence, the focus area should “now include understanding how the target company is exposed to COVID-19” and what risk mitigation had taken place.
Target companies and their advisers should be prepared for these questions, Corrs said. In most cases, these are issues the target company should already be considering.
While considering due diligence, dealmakers should also take into account the company relationships with stakeholders, such as suppliers and customers, and the conditions that relate to change of control provisions in material contracts, which take a new dynamic.
“Stakeholder relationships are more likely to be strained in this environment with some of the contractual counterparties using change of control as an excuse for early termination of their contract with their target company,” Corrs wrote. “This may, in turn, reduce value of the target’s business and could lead to the buyer walking or seeking to renegotiate.”
Off this, buyers may seek specific warranties and indemnities (W&I) relating to the virus. Corrs has predicted that about 30 per cent of Australian private M&A deals will now have a new W&I insurance policy to manage the consequences of COVID-19.
“We have already advised on transactions where insurers have excluded losses related to COVID-19 from their policies, although this position may change as buyers focus more on COVID-19 issues during their due diligence,” Corrs said.
“In circumstances where COVID-19 issues are excluded from the policy, buyers will need to consider whether they are agreeable to the W&I policy being their sole recourse, or on whether they push for warranties and indemnities from the sellers for COVID-19 issues.”