M&A in times of COVID-19, where are we 8 months later?

By: Maxime Cloutier

When COVID-19 hit us last Spring, everyone in the M&A market wondered what would happen in the upcoming months, years. The first months were not easy. However, while some contemplated deals aborted and some purchase agreements were terminated, everyone acknowledged that the situation, although not perfect, was not as bad for the M&A world as the 2008 financial crisis was.

Since then, although we do not hear anyone speak about a full recovery of the M&A market, we have seen very encouraging signs and are happy to report that our clients have resumed their M&A activities.

So what has changed? Here are few pointers of what we see in our deals and what we hear from our colleagues.

1. Deals Take Time to Unfold

While the appetite to do deals is present, it is no secret that private M&A transactions take longer to close today than they did pre-COVID. Purchasers are more prudent and conduct thorough due diligence. Sellers require more assurances about deal terms before signing a non-binding LOI. Because of increase in the valuation gap (see below), purchase price provisions are more complex and take more time to negotiate.

2. Banks Still Finance But…

One of the biggest differences between the COVID era and the 2008 financial crisis era is that capital remains available for buyers. However, it does not mean that securing financing is easy for all buyers these days. We have seen several deals where financial institutions tightened their credit conditions from the preliminary informal discussions, to the term sheet and the commitment letter. Buyers must be aware of this fact and they have to sensitize their sellers to this new reality. Expectations of certain sellers must be adjusted to conform with terms that are satisfactory to the financial institutions.

3. Valuation Gap Increases

Sellers are understandably trying to minimize the weight of 2020’s below-average performance in the valuation of their business.  Buyers are more reluctant to base their valuation on future performance given the uncertainty ahead. Gaps in valuation can be resolved through various mechanisms, such as earnouts, balance of sale, and sellers’ retained equity, to name a few. But they are not easy to negotiate as they create more uncertainty as to the outcome of the deal. The consequence is that deals payable 100% in cash at closing are quite rare.

4. Due Diligence Becomes More Important

Buyers are more prudent in conducting their due diligence investigations and are worried of COVID-19 impacts on the target business. Material contracts are examined to analyze how can they be affected by COVID-19 circumstances. Insurance policies are also scrutinized to see if the business is covered for COVID-19 adverse consequences. As many businesses had to make temporary lay-offs, compliance with employment laws is carefully reviewed.

5. Legal Deal Terms Are Changing

Buyers want to make sure that the sellers are not affected disproportionately by COVID-19 versus other companies in the same industry. They also want to know that sellers’ landlords, customers and suppliers are continuing to operate in the ordinary course despite COVID. They also want to ensure that sellers will continue to operate in accordance with their past or current practices between signing and closing. Sellers want to make sure that Buyers will not use COVID-19 as an excuse to walk away from a deal. All these legitimate preoccupations translate in new definitions, representations, warranties and covenants that must be integrated in purchase agreements.

The foregoing are just a few key points on what is happening now in the legal M&A landscape. KRB has a full team of M&A practitioners that can help you successfully close your M&A deals, from the initial structure to the flawless completion of your transaction. Do not hesitate to reach out to any of us.