Episode 3: Transaction documents – how the structuring of the transaction may be affected?
It goes without saying that the most common concerns with regard to an M&A deal ongoing these days will be in relation to the target’s ability to overcome the consequences of the outbreak, which may further impact the valuation that purchasers will be willing to put forward. On the other hand, sellers may see a high potential grow opportunity for the target in the near future and, in such context, they may wish to include in the transaction documentation a mechanism to capitalize such growth. In today’s episode, we will focus on potential structuring measures that may be implemented to address these points.
Management continuity. Among the few certainties the business environment has these days is the fact that it is involved in continuous changes. In this context, the continuity of management of the target may be crucial in order to ensure the target’s ability to adapt very fast to the changing environment and to avoid any delays triggered by the need of a new management team to get used with the specifics of the target’s business. As such, we would expect to come across more M&A deals in which purchasers insist on keeping/ having management part of the shareholding structure post transaction, either by purchasing only a majority stake (if management is already involved in the shareholding structure) along with (in some cases) a put/ call option exercisable in the future in relation to the remaining stake, or by implementing different types of management incentive packages through which a stake in the target is given to management (subject to vesting provisions and fulfilment of certain KPIs).
Price mechanism. What becomes very clear these days is that no one can really anticipate the evolution of the Covid-19 outbreak. Hence, in order to ensure that any adjustments of the valuation are kept to a minimum so that both sellers and purchasers to still be willing to do the deal, certain types of price mechanisms may become more attractive during this period, allowing sellers to receive a higher valuation if things go well, but also protecting purchasers in case things go south. Firstly, when referring to the mechanism for determining the completion payment, most deals will switch probably to completion accounts instead of locked box. There will still be for sure some very competitive deals in which, in order to gain an advantage, certain bidders will undertake the risk between signing and closing and accept a locked box mechanism, but as a general rule we would expect for a hard push-back from purchasers on any locked box structure.
Earn-out. And still, the above-mentioned structures will only deal with financial changes occurred between signing and closing. With regard to dealing with potential post-closing changes, pricing formulas involving earn-out mechanisms or other forms of post-closing adjustments depending on the future results of the target are expected to capture the parties’ attention. Any such provisions will need to be very carefully negotiated to ensure the right balance between purchasers’ right to decide the future conduct of the target and the need to protect sellers’ interest and avoid any loopholes that purchasers may use to artificially influence the value of the earn-out/ price adjustment.
Aside from the structuring and the valuation of an M&A deal, the uncertainty brought to the table by Covid-19 might be expected to also influence the parties’ focus on other sections of the transaction documents, such as conditions precedent and in particular MAC clauses, which will be dealt with in the next episodes. Stay tuned.
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