The increasing activity in the private equity marketplace materially changed the nature of mergers and acquisitions over the last two years, giving more bargaining power to asset sellers, according to Nixon Peabody LLP’s Sixth Annual MAC Survey, released last week.
Growth in the amount of private equity money chasing deals forced buyers to offer top dollar and agree to more generous terms in order to complete transactions, said the survey, which examined 413 asset and stock purchases, and merger agreements signed between June 1, 2006 and May 31, 2007. The size of the deals, details of which were all available in information submitted to the U.S. Securities and Exchange Commission, ranged from $100 million to $32.9 billion.
The survey looked at MAC (material adverse change) and MAE (material adverse effect) clauses, which can serve to insulate the buyer from previous contracts that may have a negative effect on the acquisition target, or which can be used to create more circumstances in which deals can be cancelled without penalty. On the flip side, MAC exceptions, as they are known, delineate very specifically circumstances for which the buyer cannot back out of the deal.
The increase in private equity interests attempting to close deals forced a lot of heavy negotiation between buyers and sellers over these issues, with the outcomes tending to favor sellers much more than buyers.
For example, the survey noted that 51 percent of M&A deals included a MAC exception for “changes in securities markets,” while 36 percent included an exception for “changes in trading price or trading volume of target’s stock.” The effect of these clauses is to keep the original agreement in place even if the market has taken a dim view of the transactions, thus driving up the premium that the acquirer is paying to gain control of the asset.
In fact, the survey showed that 24 percent of deals had MAC elements in the transaction language that have an effect on the ability of the purchaser to close the deal.
The survey reflects “a growing concern about market volatility, at least on the part of sellers – a concern that has proven warranted,” said Philip Taub, partner and practice group leader of Nixon Peabody’s Private Company Transactions group, in the firm’s survey.
Further MAC exception increases underscore the point:
• Eighty-five percent have exceptions that relate to “Change in the economy or business in general.”
• Seventy-five percent have exceptions that connect with “Change in general conditions of the specific industry.”
• Seventeen percent contained language concerning “Change in interest rates.”
Interestingly, the survey was completed before the summer’s credit crunch, and Taub, for one, expects that the pendulum will have swumg back toward the buyer by the time the next survey is done.
“We expect the recent market activity to have a chilling effect on large transactions as private equity liquidity dries up and deal terms must be refashioned to be more buyer-friendly.”
In addition, researchers expect that already negotiated deals will undergo extra scrutiny, as buyers look to use MAC exceptions to renegotiate terms of the deal at closing. The question that sellers who now find themselves in slightly less advantageous circumstances must ask is, “Will it be better off to take a slightly reduced price in order to guarantee that the deal is consummated?”
Sellers reached well beyond the standard financial terms to make better deals in the last year, however. MAC exceptions related to acts of terrorism increased to 61 percent of M&A agreements, from the 2005-06 level of 35 percent. Exceptions related to “Acts of God” (weather and natural disasters) grew to 23 percent of all deals, compared with 10 percent in the previous period.
Other exceptions included:
• “Acts of war or major hostilities” – 60 percent of deals.
• “Changes in political conditions” – 37 percent of deals.
• “National calamity” – 12 percent of deals.
Changes in legal developments also showed up in increasing MAC exceptions, according to the survey. “Changes in laws or regulations” increased 34 percent over the last two years, and stood at 59 percent of all transactions (79 percent of the largest 100 deals included such language).
Exceptions for “changes in interpretation of laws by courts or government entities” grew 22 percent in the latest survey from the 2004-05 research, reaching 32 percent of deals in the 2006-07 period.
In an interesting side note, survey results for the largest 100 deals showed that “sellers have slightly greater negotiating power in larger transactions,” noting that “MAC exceptions appeared with greater frequency when compared to last year’s stop 100 reviewed deals, suggesting that the acquisition climate remains increasingly seller friendly, especially for deals greater than $1 billion.”
And finally, there were a number of MAC exceptions that showed up in significant amounts that didn’t fit in with the more standard business risk categories.
• “Effect of announcement of transaction,” showed up in 71 percent of M&A agreements.
• “Changes in [Generally Accepted Accounting Principles],” 65 percent.
• “Changes caused by the taking of any action required or permitted or in any way resulting from or arising in connection with the agreement,” 56 percent.
• “Failure by the target to meet revenue or earnings projections,” 32 percent.
• “Employee attrition,” 18 percent.
• “Litigation resulting from any law relating to the agreement or the transactions contemplated,” 16 percent. •
