Helen Rodwell of CMS -
Although the first three quarters of 2013 still showed a drop in M&A activity across Europe, towards the end of the year the overall mood among M&A practitioners seemed to be improving. Not only did the fourth quarter see a healthy stream of transactions, market rumours and public announcements seemed to indicate a promising pipeline for 2014. This cautious optimism is supported by the European M&A Outlook, a study published by CMS in cooperation with Mergermarket, which gauged the expectations of 225 Europe-based corporate executives about their experiences in the continent's M&A and economic climate, along with their expectations for the future.
Executives in Central and Eastern Europe are particularly upbeat, with 64% expecting an increase in M&A activity in the 12 months ahead. And indeed, Europe-wide CEE was mentioned as the second most promising region in this respect, only just behind the Nordics. Investors from German-speaking countries are expected to be the most active in cross-border acquisitions, and the economies in CEE closely linked to those countries - such as the Czech Republic and Poland - are likely to benefit from this.
On the buy-side, deal-flow in CEE is expected to be driven by increased appetite from foreign acquirers, followed by the availability of undervalued targets and private equity buyouts. On the sell-side, the biggest catalysts to deals will be non-core asset sales and distressed M&A. In the mid-market, succession issues are a sale-side driver which is characteristic for many CEE markets. However, despite the appetite for transactions, it is still not uncommon for the buyers and sellers to struggle to reach agreement either on price or the assumption of risks arising from conservative buy side due diligence.
Moreover, the profile of buyers in Europe has changed. Strategic investors with strong balance sheets are active in the mid-market, particularly with bolt-on acquisitions. Asia-Pacific based companies, particularly Chinese and Korean, are aiming to expand internationally and are increasingly turning to Europe. In Central Europe, there has been a retreat by foreign investors from certain markets due to the general market conditions as well as the sluggishness of regulatory and other legal reforms and consequential compliance risks. Central European buyers are now more often than not local buyers. In addition to strategic investors such as CEZ or MOL that have been investing outside their home markets for some time, a number of regional financial and private equity type investors have become frequent bidders on big tickets transactions in CEE.
The changed circumstances, both in terms of the economic environment as well as a new roster of bidders, have also affected the legal terms of most transactions. M&A practitioners across Europe - whether lawyers, private equity investors or strategic investors - are having to accommodate some new preferences in order to successfully market assets to the current pool of buyers.
New market standards in M&A transactions
Buyers, and the financing banks supporting them, are increasingly risk averse. Any troubling due diligence findings prior to the signing of a transaction can mean the end of a deal. Risks that would have been priced and then swallowed in the pre-crisis market, are now often deemed to be untenable for buyers and absolutely need to be remedied if the deal is to go ahead.
Potential buyers also require a greater depth of understanding of the target business before going ahead with the acquisition. The level and extent of information required to be disclosed as part of pre-signing due diligence is more extensive than before and unanswered questions or undisclosed documents can stall or undermine the success of a signing. The buyer process, specifically internal decision making and corporate approval, is more time consuming than before.
Sellers have become increasingly aware of the profile of the new buyers and tend to accommodate their preferences. Timelines for auction processes tend to be more generous, particularly for the due diligence phase and buy-side approvals.
A vendor due diligence is typically followed by a period in which findings of non-compliance or imperfection are remedied by the target, thereby reducing the number of possible buy-side findings and concerns from due diligence. Both parties work towards due diligence issues being eradicated prior to signing, and the risk of not closing is therefore minimised. Additionally, warranty and indemnity insurance is an increasingly common tool used by sellers to increase the level of warranty cover offered to buyers. It is not uncommon for sellers in auction processes to offer an insurance policy as part of the warranty package to increase the chances for a deal going ahead. In these instances, the benefit of the insurance is for the buyer and the premium is paid by the seller.
Sellers are alive to cultural differences in negotiating and contracting with non-European investors. The standard contracting terms in the US differ, at least in part, to what is standard in the European market. This will often be reflected in a US buyer's mark-up of transaction documents (for example, more use of MAC clauses, earn outs and purchase price adjustments based on working capital criteria). Chinese investors often require regulatory approvals at home which can be time consuming and create some uncertainty around closing. Russian investors are commercially focused and more often leave the contractual details to the lawyers.
Return of a level playing field
The new modus operandi in the pre-signing phase has tended to result in the return of a level playing field with regards to the negotiation of contracting terms. Having dealt with any identified risks pre-signing - either by walking away from the deal or remedying the issue - parties are contracting on a more equal footing. After the peak in "buyer-friendly" market conditions in 2007-2008, contracting terms have largely returned to the pre-crisis norms - particularly in terms of the limitation of liability of sellers and the use of earn out clauses. The locked box, favoured by financial investors, continues to be an attractive alternative to a purchase price adjustment and is gaining popularity with strategic investors.
The moral of this story is that, more than ever, sellers will need to plan well and prepare fully for any asset disposal. For owner investors, vendor due diligence can be invaluable in ensuring that an asset is presented to the market at its best. One of the main obstacles to M&A going forward identified by the statistics is the discrepancy between buyers' and sellers' price expectations. As a seller, if you want to ask for, and receive, the premium, the valuation must be backed up by quality and highly detailed information which will allow the buyer to justify the price you expect. A remedial approach to any existing issues of non-compliance or imperfection pre-sale will be appreciated by the buyer pool and a generous pre-signing timeline will help to manage sell-side expectations.
Helen Rodwell is Head of CEE Corporate for the law firm CMS
Jason Corcoran in Moscow - Russian banks are disappearing at the fastest rate ever as the country's deepening recession makes it easier for the central bank to expose money laundering, dodgy lending ... more
bne IntelliNews - The Kremlin supported by national sports authorities has brushed aside "groundless" allegations of a mass doping scam involving Russian athletes after the World Anti-Doping Agency ... more
Jason Corcoran in Moscow - Revelations and mysticism may have been the stock-in-trade of Nikolai Tsvetkov’s management style, but ultimately they didn’t help him to hold on to his ... more