MANAGING RISK AND CREATING VALUE IN M&A DEALS
RC: In broad terms, what are some of the major risks associated with undertaking M&A transactions? What particular issues are prominent in the current market?
Larkman: By executing an M&A transaction, a party can more quickly acquire an asset or market position than if had they done so organically. However, M&A is not a risk-free strategy as buyers can acquire unintended and potentially very damaging liabilities together with the target business or assets. Such unforeseen liabilities, if not properly mitigated, can undermine the commercial rationale underpinning the deal. A buyer should, therefore, combine thorough due diligence together with a well drafted sale agreement containing appropriate warranties and indemnities to mitigate these risks. In addition to these business risks, counterparty risk can also be an issue. This may mean that, in the absence of warranty and indemnity insurance (W&I), following a transaction a buyer cannot recover amounts it is owed for claims made under warranties in the sale agreement. This may be because a seller has become insolvent or because it is a private equity fund that has returned the proceeds of sale its investors.
Benloulou: For sellers, the major risk is typically closing certainty. To announce a deal that doesn’t close can be disastrous; it can unsettle the workforce – especially in a sale to a strategic buyer – and create significant concerns for customers, suppliers and other business partners. On the buyside, an oft-present risk is overpaying, particularly for PE buyers, who typically don’t do an M&A deal for many of the less ‘price-sensitive’ reasons a strategic may, such as entering new markets or creating cost synergies. In this market, the valuation risk has become more acute, as we’re seeing more ‘locked box’ deals, where the purchase price is set at signing and commonplace purchase price adjustments – such as for a normalised level of working capital – are foregone, never mind earnouts or other contingent payments. All of this increases the pressure on PE buyers to stress test, in a serious way, all key model assumptions.
Apr-Jun 2014 Issue
King & Spalding
Proskauer Rose LLP