Lexology GTDT Market Intelligence provides a unique perspective on evolving legal and regulatory landscapes. This interview is taken from the M&A volume featuring discussion and analysis of legal developments, keynote deals as well as an insight into typical transactions within key jurisdictions worldwide.
1 What trends are you seeing in overall activity levels for mergers and acquisitions in your jurisdiction during the past year or so?
In 2020, the US M&A market declined drastically due to the covid-19 pandemic and related social distancing measures enacted across the country and world. Activity in the first half of the year fell by 72.4 per cent compared to the first half of 2019, with only 2,139 deals worth US$274.5 billion, according to Mergermarket. In particular, high value deals of US$1 billion or more dwindled from 126 in the first half of 2019 to 56 in the first half of 2020. There were many deal terminations and withdrawals through to May 2020, totalling about US$73 billion for 53 total deals. There remains hope that some of these terminated or paused deals may be opened back up as the market warms back up in third quarter 2020. Strategic acquisitions were hit the hardest in 2020 and there was a 75 per cent decline in strategic acquisitions in the first half of 2020 compared to a 54 per cent decline in leveraged buyouts (Mergermarket). Interestingly, the United States has seen an increase in deals involving special purpose acquisition companies (SPACs) as an alternative to public equity markets, raising US$23.9 billion so far in 2020, a 70 per cent increase over 2019 levels. It remains to be seen how the second half of 2020 will develop. There was a strong turnaround in the technology sector in May and June, especially with respect to virtual healthcare services and food delivery and online ordering platforms, which may be an indication for the recovery of the broader market. Refinitiv monthly data shows that the markets are rebounding as there was US$300 billion in M&A activity in both June and July, whereas May and June had only US$230 billion combined overall M&A activity. Activity levels for the remainder of 2020 remain difficult to predict given the effects of covid-19 and as we head forward into the November presidential election.
2 Which sectors have been particularly active or stagnant? What are the underlying reasons for these activity levels? What size are typical transactions?
The single busiest sector in the United States for transactions through the first half of 2020 was consumer non-cyclical, accounting for approximately US$73.2 billion of deal value announced, with technology coming behind at US$53.9 billion of deal value announced, according to Bloomberg. The largest deal of 2020 was the announced acquisition of Willis Towers Watson PLC by Aon PLC for US$31.4 billion. In the first half of 2020, there were 506 deals announced in the technology sector worth about US$73.5 billion, most notably the acquisition of Grubhub Inc by Just Eat Takeaway.com NV for US$7.126 billion, due in part to the high demand in the online restaurant delivery space during the pandemic. The energy sector was the second busiest area of deal activity in the first half of 2019, but was down 87.4 per cent over 2019 and accounted for only US$18.6 billion in deal value. Nearly all sectors were down considerably, including communications by 62.4 per cent, utilities down 86 per cent and industrials down 80.8 per cent. This general pattern of certain sectors being in favour and then cycling out, and of other sectors increasing in activity, has been the case for the past several years in the United States. The average transaction size in the United States for the first half of 2020 was US$46.3 million, which is much lower than the 2019 average of US$300 million.
3 What were the recent keynote deals? What made them so significant?
Keynote deals in the United States in 2020 include the spin-off of Otis Worldwide Corporation by United Technologies Corporation worth US$18.9 billion. In a separate transaction, United Technologies Corporation also spun off Carrier Global Corporation for US$11.9 billion. Following closely behind the Otis deal was the acquisition of ETrade Financial Corporation by Morgan Stanley, valued at US$13 billion. In the technology industry, the keynote deals were Intuit Inc’s acquisition of Credit Karma for US$7.1 billion and Just Eat Takeaway.com’s acquisition of Grubhub Inc for US$7 billion. These two deals, along with a larger volume of activity in the technology sector, including deals over US$1 billion by Amazon, Panasonic, Blue Yonder Group and Cisco, give hope that this sector is showing early signs of a rebound and may be indicative of a broader market turnaround. The lack of significant activity in the industrials sector in the first half of 2020 is emblematic of the uncertainty that has pervaded the M&A market during this time.
4 In your experience, what consideration do shareholders in a target tend to prefer? Are mergers and acquisitions in your jurisdiction primarily cash or share transactions? Are shareholders generally willing to accept shares issued by a foreign acquirer?
In the United States, consideration can be composed of either stock, cash or a combination of both. For a target’s shareholders, obtaining shares as a portion of the consideration allows them to benefit from the synergies resulting from the transaction. Additionally, if a majority of the consideration is composed of shares, then the receipt of shares may be free of taxes. However, acquisitions by non-US buyers of US public companies are generally entirely for cash. In situations where the non-US buyer is truly under non-US control, US shareholders may be reluctant or even not permitted by their investment guidelines to hold shares of non-US entities. Furthermore, under the US federal securities laws, public company shareholders in the United States may only receive shares as consideration for their existing shares that are issued by a company registered with the Securities and Exchange Commission (SEC) and that are publicly tradable. This means that a non-US company that is not already a SEC-registrant must become registered prior to the closing of a purchase of a US public company if shares are used as part of its consideration. The time and expense of this process is a limitation on the ability and desire of non-US purchasers to use shares as consideration for purchasing a US public company.
5 How has the legal and regulatory landscape for mergers and acquisitions changed during the past few years in your jurisdiction?
Key legal and regulatory developments in the United States in the past few years include:
- the increase in scrutiny of non-US buyers by the Committee on Foreign Investment in the United States (CFIUS) as to whether a potential purchase of a US company by a non-US company creates any concerns from a potential US national security perspective, with the full expansion of the scope of CFIUS now being implemented following a pilot programme during 2019;
- US antitrust authorities’ increase in their level of scrutiny of certain kinds of corporate combinations and the increased willingness of US regulators to challenge transactions in court;
- changes to US corporate tax law, which make it far more acceptable for a US corporation to be the corporate parent of a global enterprise, which introduces greater flexibility into structuring cross-border transactions; and
- a recent case in Delaware, the state where a majority of US public companies are incorporated, where the Delaware Chancery Court found for the first time that a buyer was justified in the termination a public company merger agreement due to the occurrence of a ‘material adverse effect’.
6 Describe recent developments in the commercial landscape. Are buyers from outside your jurisdiction common?
Buyers from outside the United States have typically been an important part of the US M&A market. The amount of inbound activity decreased in the first half of 2020 to US$50.4 billion, the lowest activity in the United States since 2013 according to Merger Market. Of the top 10 worldwide deals announced so far this year, only four were US targets. Chinese buyers, who by 2015 had become an important participant in the US M&A market, have stepped back almost entirely from the US market due to increasing restrictions imposed by the Chinese government on acquisitions by Chinese companies and due to the increasing level of scrutiny by US regulators of Chinese buyers. It is safe to assume that there is a tension on the part of potential non-US buyers coming into the United States between, on the one hand, general uncertainty around the political and regulatory climate in the United States and, on the other hand, an American economy, which remains relatively stronger than those economies in other regions such as Europe. The significant uncertainty around US trade and foreign investment policy, among other things, has no doubt deterred some degree of M&A activity in the United States and inbound cross-border M&A activity in particular.
7 Are shareholder activists part of the corporate scene? How have they influenced M&A?
Shareholder activism in 2020 continues to be a regular part of the corporate world in both the United States and the rest of the world, with over 100 companies being subject to activist demands for board representation in 2020 so far, though this is down 10 per cent compared to the first half of 2019. Additionally, a record number of companies adopted poison pills in the first half of 2020 to protect companies against opportunistic activists and other investors. Shareholder activists are becoming increasingly sophisticated in their approach to board composition, with many proposing high-quality nominees to their slate of board directors. Further, as institutional investors continue to adopt explicit qualifications for diversity in board representation, whether through skill, ethnic or gender diversity, shareholder activists are provided with an opportunity to enhance the quality of a board’s composition through diverse nominee selections using networks not accessible or otherwise not efficiently utilised by companies.
One regular aspect of activist campaigns is the urging of companies to put themselves up for sale or to put up for sale portions of their business. This focus on M&A by activists has had an important role in supporting the US M&A market in recent years. In addition to the transactions directly stimulated by activists, many companies have engaged in transactions even before an activist has acquired a stake in that company to forestall such an appearance by an activist.
8 Take us through the typical stages of a transaction in your jurisdiction.
First contact regarding a possible transaction can either take place between intermediaries or from CEO to CEO. Who makes the initial approach really depends on the particular situation, the nature of the industry and whether there is a pre-existing relationship between executives of the two companies involved. Diligence of non-public information is permissible if a confidentiality agreement is entered into between the parties. Under US law, no disclosure of discussions regarding a possible transaction needs to be made until a definitive agreement with respect to a transaction is executed by the parties, so long as the parties have maintained a position of not making any public comment about a possible transaction while negotiations were taking place.
One issue that typically arises at the state of entering into a confidentiality agreement is whether the potential seller will agree to grant to a prospective buyer the exclusive rights to negotiate for a period of time. Legally, US sellers have the right to grant a period of exclusive negotiations. However, as a legal matter, the board of directors of a public company being sold must also show that they engaged in an appropriate process intended to obtain the highest price reasonably available for that company. Some kind of check of the market by the prospective seller is necessary to truly fulfil that duty. Thus, there is a tension between granting an exclusive right of negotiation and being able to fully assess the market for potential purchasers.
Any potential purchaser of a US public company needs to be aware that lawsuits are frequently filed in connection with acquisitions of US public companies. These lawsuits can be filed in the court of the state where US company is incorporated to allege either that the target company’s board of directors has violated their fiduciary duties in connection with agreeing to a sale of the company or file for an appraisal action if the shareholder has not voted for the sale of the company at a shareholders meeting in connection with the approval of the transaction or tendered their shares if the form of the transaction is a tender offer. Alternatively, a lawsuit can be filed in a federal court alleging inadequate or misleading disclosure in the documents concerning transactions that have been filed with the SEC. The majority of US companies are incorporated in the state of Delaware and the Delaware courts have been trying to severely limit the number of suits filed making specious claims that directors have violated their fiduciary duties. The overwhelming number of these suits were simply nuisance suits. Appraisal claims have risen sharply in recent years, but recent Delaware court decisions are similarly trying to curb such suits.
9 Are there any legal or commercial changes anticipated in the near future that will materially affect practice or activity in your jurisdiction?
Currently, it is unclear if there will be legal changes that may have a material effect on M&A practice or activity in the United States. The Trump administration has continued its aggressive stance towards foreign investment policy in the United States by implementing a pilot programme by CFIUS in late 2019. The focus of this programme is the protection of national security from existing and emerging risks through the expansion and strengthening of CFIUS. Venture capitalists and start-ups are likely to be hit the hardest by the programme, as their unfamiliarity with CFIUS may cause them to be at risk of unintentionally failing to comply with the interim rules. The risks are heightened by a civil monetary fine of US dollars to the value of the transaction. Such unfamiliarity may further lead to regulatory delay and a marked decline in investment from foreign limited partners that would want to avoid the hassles of heightened scrutiny, as the pilot programme will require foreign investors to submit declarations notifying CFIUS of their intentions when making a bid. Under the expanded scope of the pilot programme, non-controlling investments in 27 critical technologies, ranging from semiconductors to aircraft engines, will be subject to national security evaluations provided certain benchmarks are satisfied.
Further areas of regulation that may come under significant revision are the regulations with respect to banks and other financial services firms as significant changes are considered to the regulations promulgated under the Dodd-Frank Act, which was enacted following the 2008 financial crisis, and changes to SEC regulations governing public disclosure by US public companies in connection with shareholder votes and takeovers. Both areas of regulation are undergoing substantial review by the current administration, as they are also doing with respect to federal environmental regulation and regulation of telecommunications, approval of new drugs, and health and safety regulation. There is no real certainty as to the timing and scope of any changes that may be implemented, which makes it difficult to assess either the financial impact such changes might have on the valuation of US companies or the changes that might take place in the process or timing of carrying out the acquisition of a US company.
10 What does the future hold? What activity levels do you expect for the next year? Which sectors will be the most active? Do you foresee any particular geopolitical or macroeconomic developments that will affect deal sizes and activity?
In recent years, the fourth quarter of a year has tended to be particularly strong. With the uncertainty of the pandemic recovery and the upcoming 2020 election, we do not know if 2020 will show the strength that prior years has shown in this regard. It is very hard, at this time, to predict how activity levels will look in the remainder of 2020 and into 2021. Factors that should encourage M&A activity are debt remaining cheap and confidence in the equity and debt markets remaining high. Sectors in which there should be significant amounts of activity include:
- financial institutions, as consolidation in the insurance and payments areas continues and the potential easing of the Dodd-Frank rules lets pent-up demand for consolidation among regional and local bank finally take place;
- healthcare, including hospitals, outpatient facilities, medical device manufacturers and pharmaceutical companies all continuing the ongoing consolidation and convergence in those fields;
- energy, mining and utilities, continuing this sector’s current run of activity;
- consumer retail, which will increasingly need to consolidate to stave off the long collapse that was initially set off by the Great Recession and now continues due to the online competition and the consequences of the disruption caused by the pandemic; and
- industrials and technology, in large part because of the quickly ramping up convergence between those areas, as industrial companies want to integrate with technology companies and vice versa.
To consider what geopolitical or macroeconomic developments could have an effect on M&A activity is to engage in utter speculation. The potential list of developments ranges from the continued threat of covid-19, social demonstrations and unrest, threats of nuclear war not seen for the past 25 years since the end of the Cold War, ongoing and pernicious threats of terrorism, fears about the impact of higher interest rates on the economy and a prolonged US–China trade war, as well as additional natural disasters such as major hurricanes recently hitting the US and massive forest fires in California. Lastly, 2020 is a presidential election year in the United States. Even in the most predictable of US election years, there is often a pause in M&A activity in the latter part of the year. As 2020 progresses, the uncertainty around the political outcomes in the US could grow, thus leading to a more prolonged slowdown in M&A activity. Thus, any crystal ball as to future events and their impact remains cloudy.
The Inside Track
What factors make mergers and acquisitions practice in your jurisdiction unique?
The size and complexity of many transactions in the US market, together with the highly developed corporate law governing changes of control of US companies, make the M&A market here unique. Helping boards of directors properly fulfil their fiduciary obligations in connection with a sale of a company is challenging in the litigious environment of the United States.
What three things should a client consider when choosing counsel for a complex transaction in your jurisdiction?
First, does the counsel listen and communicate well with the client? Second, is there a complete team of specialists and colleagues who work together seamlessly to help the client achieve its goals? Third, does the counsel have deep expertise with the kind of transaction under discussion? Successfully guiding complex multinational transactions is not for a novice.
What is the most interesting or unusual matter you have recently worked on, and why?
I have been fortunate over the past year to have worked on a wide range of transactions that are each examples of the kinds of transformations taking place in a variety of industries. Among them have been Waste Management, Inc’s announced amended agreement under which a subsidiary of Waste Management will acquire all outstanding shares of Advanced Disposal Services, Inc for US$30.30 per share in cash, representing a total enterprise value of US$4.6 billion, reducing the purchase price that was agreed prior to the pandemic by about 10 per cent and the related US$835 million sale of certain assets and equity interests of Waste Management and Advanced Disposal to GFL Environmental in order to satisfy requirements of US antitrust regulators. Successfully renegotiating a transaction while simultaneously negotiating the divestitures required by the antitrust regulators was truly complex.