27 May How M&A Will Change in the Post-Pandemic World
Markets around the world have tanked, showing the worst performance since the financial crisis of 2008. Here is an overview of how COVID-19 may change deal-making in the coming months.
Material and Adverse Change Clauses
The pandemic will inevitably shape the negotiation of MAC clauses. These provisions empower a buyer to walk away if certain detrimental events occur between signing and closing. Parties typically spend a lot of time negotiating these clauses. Broad definitions typically favor buyers, allowing them to leave for virtually any adverse change. Narrower scopes favor sellers, and may specifically exclude macroeconomic calamities.
The sudden, unexpected turmoil of COVID-19 may mean these clauses become even more important. Sellers may seek more specific carve-outs to prevent catastrophes like coronavirus from killing deals. Conversely, buyers may seek the option to walk away in these scenarios.
The M&A process always entails some degree of due diligence to assess for risks that could undermine the health of the company or the viability of the deal. The intensity of the process depends on the deal value, industry, and buyer and seller idiosyncrasies. In a post-pandemic world, buyers will likely demand much more detailed due diligence, and request extensive documentation of every claim the seller makes. This may mean the deal takes longer, and may require more expert assistance on the sell-side team.
Purchase Price Adjustments and Valuation
All M&A transactions must address the possibility of valuation shifts during the transaction. Parties usually use one of two approaches: purchase price adjustments, and lock-box mechanisms. With a price adjustment, the post-closing price is determined by accounts leading up to the closing date, so risk falls to the buyer only at closing. A locked-box approach, typically considered more seller-friendly, the purchase price depends on a set of management accounts. Risk passes to the buyer earlier because final value is determined before closing. The parties must then negotiate terms that prevent sellers from extracting value from the accounts.
There’s no way to know whether either mechanism will gain preference in the post-pandemic world. However, the negotiation of these provisions will become more critical, since many M&A transactions saw significant declines in value overnight in the wake of M&A, and a few—such as those in healthcare—may have seen value increases.
One thing the pandemic has taught us all is that there is no possibility of predicting all factors that can affect a deal. Even the best advisors are not psychics. However, quality advisors can look to the future and make intelligent predictions. In January, the best advisors were already predicting that the pandemic could affect deals. So both buyers and sellers must work with a skilled team, and pay attention to market conditions. Negotiate the most favorable possible terms that give your side more flexibility. Coronavirus has taught us that final price is just one component of the deal. Other deal terms may determine whether the sale even happens, and at what cost to both parties.