Stephen Solursh
OPTrust Pension Plan, Toronto
ssolursh@oprust.com

Report on a session of the IBA Corporate and M&A Law Committee at the 19th Annual Mergers & Acquisitions Conference

Wednesday 15 June 2022

Moderators

Olivier Assant Bredin Prat, Paris

Katherine Krause Simpson Thacher & Bartlett, New York

Speakers

Sascha Leske Noerr, Berlin & New York

Ryo Okubo Nagashima Ohno & Tsunematsu, New York; Membership Officer – North America, IBA Insolvency Section

Kevin Schmidt Debevoise & Plimpton, New York

Cyril Shroff Cyril Amarchand Mangaldas, Mumbai

Piero Venturini Legance, New York

Commentator

David Thomas Deputy General Counsel, The Goldman Sachs Group, New York

Introduction

This very interesting panel discussion covered a number of current and timely topics, which included:

• current global private equity market activities;
• take private transactions and associated considerations;
• the evolving regulatory landscape;
• environmental, social and governance (ESG) considerations;
• alternate exit transactions; and
• special purpose acquisition company (SPAC) market disruptions.

Below is a short summary of some of the key messages and learnings shared on each of these topics.

Current global private equity market activities

Katherine Krause introduced the topic by speaking to 2021 and early 2022 trends and noted that 2021 saw global private equity volume achieve new highs with approximately $1.1tn (all figures USD) of private equity investments completed globally, which was double the $557bn in 2020.

Oliver Assant, however, noted that 2022 is showing signs of a slowdown in deal making and has seen a more conservative approach to transactions, including valuations. Both the number of completed deals and deal value dropped meaningfully in Q1 2022 against Q1 2021. Causes for caution cited include: inflation; rising interest rates; inability to predict growth; sanctions; continued Covid-19 lockdowns; and a more challenging and volatile macroeconomic environment.

Assant expressed the view that due to the slowdown in the debt markets, particularly the high yield market, we will likely continue to see less deal making in 2022 in contrast to recent years, in large part due to the increased cost of debt financing.

Take private transactions and associated considerations

In contrast to the general slowdown in global private equity transactions, Krause highlighted the meaningful increase in take-private transactions in the year to date, particularly in the technology sector. According to the Wall Street Journal, the value of these deals has also materially increased to the highest level year to date since 2007. She did, however, also share her view that the syndicated financing market has been close to exhausted at this point.

Sascha Leske spoke to the recent German experience and noted that in the past couple of years, initial public offerings (IPOs) in Germany have not been a big success and therefore alternative exit routes have become much more popular. In fact, Leske noted that in Germany, the 2020 trend of targeting companies with a public offer in order to then delist has in fact accelerated in 2021. Ryo Okubo commented that a similar trend has been seen in Japan and shared that approximately 50 per cent of such going private transactions were management buyouts typically backed by private equity sponsors. With respect to Italy, Piero Venturini said there is a similar trend with six going private transactions already completed in 2022 versus seven in all of 2021, plus three more that are active and ongoing, including potentially Europe’s largest ever such transaction.

Kevin Schmidt then instigated an interesting discussion among the panellists with respect to jurisdiction-specific considerations when considering a going private transaction. Some points of learning include:

1. being mindful of Section 13 group and Section 16 disclosure as well as fiduciary duty considerations in the United States;

2. the limited success of take privates in India in part due to pricing rules and a lack of effective minority squeeze-out rules;

3. the Fair M&A Guidelines in Japan which set forth procedural best practices including requirements with respect to special committees, fairness opinions and majority of the minority voting requirements; and

4. requirements in France including establishing an ad hoc committee of the Board, independent experts, fiduciary duty and disclosure requirements and re-investment by certain founders/managers and equity of treatment.

David Thomas shared some practical tips, including being conscious of inadvertently forming a ‘group’ where a limited partner (LP) in a fund may own public shares.

Evolving regulatory landscape

Foreign direct investment

The panel next discussed the evolving regulatory landscape with the primary take-away highlighted by Assant being that the list of countries with new foreign direct investment (FDI) approval regimes has been increasing with each passing year, and that for those with existing FDI rules, reviews are tightening, and regulators are becoming more active in their monitoring, overseeing and approval of FDI transactions.

In particular, the panel spoke about these trends as observed at the US Committee on Foreign Investment (CIFIUS), the Australian Foreign Investment Review Board (FIRB), the Foreign Exchange and Foreign Trade Act (FEFTA) in Japan, the UK National Security and Investment Act (NSIA), India (Press Note 3), Italy and France. The panel also noted that new FDI regimes are under consideration in Ireland, the Netherlands, and South Africa. As an example of the increased vigour with which regulators have been reviewing such transactions, Cyril Shroff, Venturini, and Leske provided recent examples from India, Italy, and Germany, respectively.

From a transactional perspective, these increased regulations combined with more proactive review and enforcement has, in many cases, provided some uncertainty with respect to deal approval, and more commonly, has resulted in material delays to transaction timelines and closing. The panellists advised that FDI approval should not be taken for granted and that lawyers need to draft documents that contemplate a potentially longer than usual period to obtain any such required approvals, particularly where approvals may be needed in multiple jurisdictions and where the transaction may be unusually complex, whether that be due to the nature of the industry of the target company, particularly in sensitive sectors, and/or the makeup of the foreign investor base.

An interesting new trend is the increased focus on minority investments (or investors) that can trigger FDI filings. For example, shareholdings as low at ten per cent in France, Germany, India, Italy, Japan, Spain, and the US with thresholds can be as low as one per cent in certain sensitive sectors. The panellists also spoke about how more countries are now ‘looking through’ to LPs and their rights, particularly as they might suggest ‘joint control’ or a ‘significant influence’. Thomas and Schmidt both commented that in the US, there was an increasing focus by regulators, particularly with respect to CIFIUS, on aspects that one previously might have thought were benign, for example a certain LP sitting on a limited partner advisory committee (LPAC).

The panellists recommended that transactional lawyers pay particular attention to FDI regimes potentially being triggered by foreign subsidiaries or plans of a sponsor to syndicate equity or seek co-investors, which could increase the risk of obtaining transaction approval or result in a significant closing delay. Shroff noted that this is something he has been seeing in India which may disadvantage private equity sponsors who typically seek to differentiate themselves from other buyers through their ability to quickly transact and close in a competitive process. Thomas stated that this uncertainty is becoming increasingly problematic and that both investors and sponsors need to pay attention to the LP group as a fund is being established and think about how the make up of this group might affect future transactional activity.

Antitrust

The panellists then went on to discuss the increased antitrust scrutiny that they have been observing over the past 18 months, particularly in the US. Krause highlighted recent comments from both the Federal Trade Commission (FTC) Chair and the head of the Antitrust unit of the Department of Justice (DOJ) that each demonstrated this increased focus and potential heightened risk to transactional timing and approval; including commenting on the scrutiny of certain transactions that are below the HSR filing threshold and the issuance of what are referred to as ‘close at your own risk’ letters following expiration of the HSR waiting period (under the Hart-Scott-Rodino Antitrust Improvements Act of 1976). Venturini, Shroff and Thomas all emphasised the need to work out what jurisdictions you may need to file in, early in a transaction.

ESG considerations

In large part due to pressure from LPs, environmental, social and governance (ESG) considerations continue to have an impact on private equity sponsors. Krause provided a few statistics from a recent study jointly conducted by Bain and Institutional Limited Partners Association (ILPA), which illustrates the current LP focus on ESG initiatives by highlighting that:

1. Seventy per cent of LPs surveyed have investment policies that include an ESG approval;

2. Eighty-five per cent of such LPs have a fully or partially implemented ESG policy for private equity investments; and

3. Ninety-three per cent of LPs said they would walk away from an investment if it posed an ESG concern.

The panellists commented that while ESG requirements have traditionally been seen as ‘soft law’, more and more requirements are becoming legally codified, and they provided several examples. The panellists also provided examples including in the European Union and US with respect to increased compliance with sustainable finance disclosure during fundraising, investment practices and reporting, all of which are only expected to increase further as LPs, lawmakers and regulators focus more on ESG related matters than previously.

Finally on this sub-topic, the panel noted that to address and comply with LP requirements and fund mandates, sponsor best practices with respect to ESG now includes: 1. engaging ESG specialists to conduct ESG-specific due diligence; 2. engaging third-parties to assess ESG performance by, and provide sustainability rankings for, individual companies and their supply chains; and 3. making concrete ESG-related commitments in respect to controlled companies and tracking them.

Thomas brought the conversation back to the evolving regulatory landscape to remind the audience that providing certain ESG-related rights or controls to LPs could create an unanticipated FDI or antitrust filing or issue.

Alternative exit transactions

Krause discussed the fact that recent volatility and other economic concerns have resulted in IPOs being a less viable exit path for sponsors in 2022. As a result, Schmidt noted that sponsors are understandably looking to alternative types of transactions to monetise their investments, including most commonly, partial realisations, preferred equity investments and general partner (GP)-led secondaries, including continuation funds.

The panellists advised practitioners to be aware of a few different things in connection with these alternative exit transactions, including evaluating:

1. whether the negotiated governance rights might implicate ‘joint control’ filings in non-US jurisdictions;

2. monetisation opportunities by one sponsor may create a difference in alignment of interest with respect to investment horizon and exit rights; and

3. with respect to continuation funds in particular, whether investors will demand that the sponsor commit a meaningful amount of GP capital (both co-investment and carry) to the fund to ensure alignment of interests. It was also highlighted that in Q1 2022, the Securities and Exchange Commission (SEC) proposed new rules that would require fairness opinions in continuation fund transactions.

SPAC market disruptions

The session concluded with a discussion about the new rules proposed by the SEC on 31 March 2022 ‘intended to enhance investor protections in IPOs by special purpose acquisition companies (SPACs) and in subsequent business combination transactions between SPACs and private operating companies.’

These rules contemplate meaningful new regulations including enhanced disclosure requirements for SPACs, additional guidance with respect to the use of projections and potential underwriter liability for financial advisers in connection with de-SPAC transactions.

Interestingly, following the SEC’s March announcement, the panel noted that several significant firms have either publicly or privately moved away from the SPAC space; however, even before the announcement, the SPAC market had already begun to cool because of additional challenges and reasons including market scepticism with respect to pricing and terms. This followed concerns regarding sponsor economics and underperformance by many companies following de-SPAC transactions, as evidenced by the SPAC last 12 months initial public offering proceeds having fallen from a high of $11.8bn in November 2021 to $1bn in May 2022.