In October 2019, research and consultancy firm Oxford Economics expected the number of mergers and acquisitions (M&A) transactions in Malaysia to increase up to 221 deals in 2020, from an expected 218 deals in 2019. It was also observed and anticipated that Malaysia may be a beneficiary of the change in supply chains arising from the trade tensions between the US and China due to Malaysia’s open trading economy.
However, that was a few months ago before the outbreak of the coronavirus (COVID-19) around the world. Since then, analysts have forecasted a slowed growth for China due to the outbreak – 3.5% in the first quarter of 2020 as compared to 6% in the fourth quarter of 2019.
The present situation is uncharted waters, and the outbreak has resulted in economic disruption in Malaysia. Most businesses are suffering due to their inability to operate as usual and its overhead running. It is too early to tell whether the M&A outlook in Malaysia is still as bright as analysed before the outbreak. Around the world, there are deals that have been aborted due to the outbreak of COVID-19.
Outside of Malaysia, Xerox withdrew its $34 billion hostile takeover bid for HP Inc. due to market unrest caused by the COVID-19 outbreak, Warner Music Group Inc. temporarily postponed its planned IPO due to the outbreak and several airlines in the US and the UK have collapsed due to travel restrictions as a result of the outbreak. In Malaysia, the airlines too are hit hard by the outbreak and it has been reported (in a local newspaper based on information provided by someone who asked not to be identified due to the confidentiality of this issue) that the government is considering encouraging mergers between some of the carriers. It has also been reported that talks between Axiata Group’s biggest shareholder, Khazanah Nasional Berhad and Norwegian operator Telenor ASA that were re-opened earlier this year have come to a standstill due to many factors, with the outbreak reported to have added to the uncertainties around the deal.
In this unprecedented situation, there will be many entities that will not be able to meet their financial commitments, and if the aid from the government does not come on time, we may see the giants acquiring some smaller entities at a lower price. On the other hand, we may also see some businesses which are riding high in this economic downturn being offered/acquired at a high price when this unrest is settled.
Some companies may already be finding for opportunities for an M&A in this challenging time. In this article, we highlight some issues that will now be considered in a different light by the parties in negotiating M&A deals after this outbreak.
1. Purchase Price
In a typical M&A transaction, the purchase consideration is fixed when the definitive agreement is signed.
|COVID-19 Situation||Material Change
|Seller’s Position||Can I increase my selling price?
In this situation, a seller who intends to dispose its asset would think that it should be getting more from the purchaser, if, on the day of the completion, the target company is valued 2 times more than when the agreement was signed.
|What to Do||Negotiate this event from the beginning
A seller in an M&A transaction should negotiate for the right to initiate a purchase price adjustment based on parameters agreed with the purchaser should the value of the target company increase between the time of signing until the completion due to pandemic/epidemic outbreak, lockdown, restriction of movement and the like. This is not an easy point to negotiate but if the parties have an equal bargaining power, as a concession, the seller may wish to consider allowing for a purchase price reduction based on parameters agreed with the purchaser should the value of the target company decrease due to a not temporary MAE which includes a pandemic outbreak.
|Alert||Intention must be clear
Though parties are free to contract this term to increase the purchase price, the intention of the parties must be clearly worded and reflected in the agreement. If the language to allow for the adjustment upward is not clear and parties bring this dispute to the court to decide, the seller may be seen by the court as trying to gain unjust enrichment in this situation.
2. Ordinary Course of Business
|Usual Practice||Business must be operated as usual
|COVID-19 Situation||Consent will disrupt business
|What to Do||Good emergency plan must be in place
|Alert||Review the usual terms in a different light
All terms under the M&A that may seem as “usual term” or “just a boilerplate” must now be looked at differently with a fine toothcomb.
3. Insurance policy
|Usual Practice||Minimum requirement
Usually, the purchaser will be satisfied with the insurances maintained by the target company if the properties, assets and employees of the target company are well covered by insurances up to the completion date. The purchaser will not usually go beyond these 3 in its due diligence exercise in deciding whether to proceed with the M&A.
|COVID-19 Situation||Businesses are fragile
The present situation will make people realise how fragile a business is and that things can change overnight. Just because a business is running good today, there is no guarantee that it won’t suddenly be not in operation tomorrow.
|What to Do||Minimum may now be more
In this situation where businesses and supply chains are disrupted, the purchaser should consider requiring the target company to take additional insurances in anticipation of this situation, for example, business interruption insurance, especially when the target company doesn’t have a comfortable level of gun powder to cushion the impact of the present situation.
|Alert||Exclusion clause is crucial
Purchaser must go through the exclusion clause in the insurance policy carefully. The insurance policy must not exclude pandemics and related events or change of shareholders from its coverage.
The points highlighted above are just some of the key issues that will have to be considered differently in an M&A transaction post-COVID-19. Certainly, COVID-19 has already affected the way M&A transactions are being looked at, from the initial due diligence stage until its completion. The usual due diligence checklist is now no longer good enough and must be expanded and the sellers will be more cautious than usual when providing representations and warranties (R&Ws) as they will, as much as possible, try to carve out COVID-19 related effects from the R&Ws. This is just the beginning of a new development in M&A transactions and until the vaccine is found, we will see many more issues which are usually considered as “non-deal breakers” to be now considered as points of importance.
Azmi & Associates has set up Azmilaw Task Force to look into all issues arising from COVID-19 and MCO. Clients are welcomed to contact their usual Partner who will bring their issues to Azmilaw Task Force for our further action.
Nur Farahin Abd Manaf (Senior Associate 2) firstname.lastname@example.org