With all the uncertainty businesses have faced since the start of the COVID-19 pandemic and with profit outlooks hazy at best, mergers and acquisitions activity has slowed considerably.
Recently stats show that total U.S. M&A activity has declined by nearly 30% (908 transactions) in September 2020 compared the same time last year (1,295 transactions).
Most companies are still trying to map out their finances to understand the impact of COVID-19 on long-term business viability. Here, we will discuss some of the concerns and considerations affecting past, present, and future merger and acquisition agreements.
Acquisitions Completed Pre-COVID
Most transactions that were closed in prior to COVID-19 and that included contingent contractual terms based on the acquired business’ upcoming financial performance have been quite damaging for the buyer.
Acquisition contingencies are typically tied to business revenue, profitability and/or customer retention, all of which has likely seen a significant decrease since April 2020. The failure to achieve these expected targets is a common issue. As such, discussions around modifications to these contingency provisions are currently quite popular. These discussions will play out over next few months and may lead to a significant number of unique and non-monetary agreement changes. Common actions when a business’ outlook is not panning out as anticipated at the time of acquisition are:
- Renegotiation of terms regarding payment provisions. This can be in the form of an extension to the amount of time permitted for payout, in an effort to allow the purchased business time to recover.
- Re-examination of pre-acquisition financials for accuracy in projections
- Potential for litigation in the context of “frustration of purpose”
- Recission of the acquisition all together. Note, recission is highly unlikely barring fraud, as the purchasing party is tasked with doing their own due diligence in evaluating the business prior to purchase.
In most pre-COVID transactions your best bet is to renegotiate terms with the buyer if they are amenable, as courts are reluctant to rescind or change the terms of the transaction barring explicit and purposeful fraud.
Acquisitions Currently Being Negotiated
If you been evaluating an acquisition and are nearly at point of closing, you’ll want to:
- Verify that no material adverse change (MAC) has occurred between the time of evaluation and closing
- Have one last in-depth review of the business’ finances and consider requesting purchase price reductions if you notice a deterioration
- Have a professional go over a variety financial projections and scenarios; including those where pre-COVID normalcy does not return for several months or years.
Though you may be in the thick of your purchase, remember that you are free to pull out before closing. As such, you should be sure to conduct thorough due diligence, negotiate terms you are comfortable with and be prepared to walk away should you be unable to reach a satisfactory agreement with the buyer.
As you consider business’ you would be interested in purchasing in the future, make sure your evaluations and agreements are all encompassing; including key provisions in sections that discuss payment terms, termination, and renegotiation. Some specific areas to scrutinize in your valuation and agreement terms are:
- Risk Reduction: Correctly apportion risk arising from the COVID-19 pandemic. While future projections are important, you should give the most weight in your estimation and valuation to risk potential on the current state of the business.
- Industry-Specific Negotiations: Renegotiating the transaction purchase price may be more of a necessity for businesses in industries disproportionately affected by the pandemic, such as hospitality and entertainment.
- Draft a thorough MAC provisions – A typical MAC definition in a purchase agreement will look something like the following: “Material Adverse Change” means any event, change, or occurrence that, individually or together with any other event, change, or occurrence, is or could be reasonably expected to be materially adverse to the Seller, its Business, assets, operations or prospects (financial or otherwise).”
- Public Health Carve-Out – Include carve-outs for adverse effects related to COVID-19 or future public health issues. For example, “Except as arising from, related, or in connection with, directly or indirectly, the COVID-19 pandemic….”
Employing these tactics and agreement terms will allow you to feel protected and secure as you approach a business purchase.
Amid the disruption and economic uncertainty of the pandemic, the future of acquisitions is sure to see some changes. Transactions that have been recently closed, that are currently being negotiated, and that may be contemplated in the future all require increase scrutiny and more specific agreement provisions.
Though you may have initial uncertainty, if you conduct a thorough evaluation of your purchase and work closely with your attorney, you should feel confident in new acquisition opportunities. Contact Capital Partners Law for guidance on your acquisition.
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This article is for informational purposes only. It does not create an attorney-client relationship with any reader nor should it be construed as legal advice. If you need legal advice, please contact our firm.