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Saturday, 27th April 2024 |
| M&A: the kind of market it is going to be in 2009 |
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Deal valuations in the M&A market have continued to drop - according to the NCB Corporate Finance M&A Tracker, survey valuations in the third quarter of 2008 were down 77 per cent on the same period last year. However, activity levels, as measured by the volume of deals, have remained resilient throughout 2008. This supports the view that those businesses that can adapt to a different market and approach the financing of transactions with flexibility should be able to capitalise on acquisition opportunities offering real value.
Optimising opportunities
In challenging economic conditions, there is a tendency for companies to retreat to core product lines and businesses that they know best and trust will deliver certain revenue. As a result, profitable non-core assets/businesses will offer up good opportunities, particularly for trade players.  | | David Baxter |
Companies with strong balance sheets or existing credit lines are well placed in this environment. Trade players, who perhaps in recent years were marginalised by the success of private equity houses, should be able to take advantage of acquisitions opportunities at discounted prices. The highly leveraged private equity model is likely to be less ubiquitous in the current economic climate.
Know your vendor
In addition to the market seeing non-core assets being off-loaded, equally there will be a higher level of distressed sales of both companies and assets. Some of these sales will occur via insolvency processes. It is important for potential purchasers to know the rules when buying out of such processes e.g. don’t expect to get reps & warranties from receivers & liquidators.
The dynamic at play for purchasers is different to a normal M&A transaction. For example, in examinerships (Ireland’s formal corporate recovery process), while existing asset value, revenue projections, etc. feed into pricing, there are 2 key components that will impact on the amount an investor has to inject into the ailing company. Firstly, the level of cash required to fund payments to crammed-down creditors. Secondly, the cash injection into the business required to satisfy the examiner that the company has sufficient working capital to trade on successfully.
In these acquisitions, time is often of the essence. Purchasers need to move quickly and assess risk on an informed basis early on. To that extent, those purchasers looking to acquire assets or companies which they know well and where due diligence can be carried out promptly, will have an advantage.
Assessing financing alternatives
With fresh credit harder to arrange, many purchasers will need to explore non-traditional methods to finance deals. Deferred earn-outs and other performance-based payment mechanisms should be considered. While the leasing market is also under pressure, sale and leaseback opportunities should be explored. Rights issues (for public companies) in the current volatile market should be avoided.
Expect to see an uplift in the use of auctions - this sale method allows vendors to reduce negotiation levels and assess the execution risk of the potential purchasers. Where the regulatory complexity of the purchaser may previously have been considered the most challenging execution risk factor, such purchasers may be able to offset that risk if their financing is in place.
Outsourcing - back in vogue
In an environment where cost management is paramount, outsourcing is likely to be used by businesses seeking cost efficiencies. Key to ensuring that this process works for a business is ensuring that the governing contract is strong, flexible and clearly identifies and addresses the management and legal issues that arise at each stage during the life of the relationship. The critical components to a successful outsourcing deal tend to be:
• Scope of services: the outsourcing supplier will want to define scope of the services tightly; the customer wants flexibility so that the services are adaptable to business changes. It is possible to reach accommodation via change control procedures
• Pricing reviews: Many outsourcing agreements are fixed price although often with the option for the supplier to vary prices in line with inflation/ changes in the scope of the services. The parties need to agree how a change to the price may be tweaked if the scope of the services changes.
• Employees: If a business is transferring, under EU and Irish law, employees will generally have the right to transfer their employment to the new service provider. The parties need to determine whether or not the outsourcing of any core business function amounts to an actual business transfer. If so, they
should negotiate the appropriate contractual protections.
• Ownership of IP: this often takes up a large part of negotiations. The customer wants ownership of the IP developed because it has funded the development; the supplier wants to protect its service offering to improve the delivery of its services to other customers. There is no one solution to this issue but there are compromises that can be agreed - often involving complex cross licensing arrangements. Joint ownership of intellectual property is not recommended.
• Exit mechanism: The parties need to provide what happens at the end of the contract. A detailed Exit Plan should form part of the contract. If this is left to the end of the contract term, there may be a lack of incentive to accommodate each other, particularly if a customer is moving to a service provider’s competitor.
Post-deal planning
Finally - acquisitions can successfully close, but then fail, due to a lack of planning having been put into post-completion integration plans. This can operate in a wide range of areas of HR, brand, IT platforms where the demonstrable achievement of real cost savings can make a difference to costs and cash management. The current climate, more than ever, requires businesses to do their homework on these fronts in advance. Aligned with that is the need to put strong financial and reporting systems in place so that the acquired business can be rapidly integrated and monitored. |
David Baxter is a partner in A&L Goodbody’s Litigation and Dispute Resolution Department and is Head of the Firm’s Corporate Restructuring and Insolvency Group.
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