Advisory Board

  • Cai Hongbin
  • Peking University Guanghua School of Management
  • Peter Clarke
  • Barry Diller
  • IAC/InterActiveCorp
  • Fu Chengyu
  • China National Petrochemical Corporation (Sinopec Group)
  • Richard J. Gnodde
  • Goldman Sachs International
  • Lodewijk Hijmans van den Bergh
  • De Brauw Blackstone Westbroek N.V.
  • Jiang Jianqing
  • Industrial and Commercial Bank of China, Ltd. (ICBC)
  • Handel Lee
  • King & Wood Mallesons
  • Richard Li
  • PCCW Limited
  • Pacific Century Group
  • Liew Mun Leong
  • Changi Airport Group
  • Martin Lipton
  • New York University
  • Wachtell, Lipton, Rosen & Katz
  • Liu Mingkang
  • China Banking Regulatory Commission (CBRC)
  • Dinesh C. Paliwal
  • Harman International Industries
  • Leon Pasternak
  • BCC Partners
  • Tim Payne
  • Brunswick Group
  • Joseph R. Perella
  • Perella Weinberg Partners
  • Baron David de Rothschild
  • N M Rothschild & Sons Limited
  • Dilhan Pillay Sandrasegara
  • Temasek International Pte. Ltd.
  • Shao Ning
  • State-owned Assets Supervision and Administration Commission of the State Council of China (SASAC)
  • John W. Snow
  • Cerberus Capital Management, L.P.
  • Former U.S. Secretary of Treasury
  • Bharat Vasani
  • Tata Group
  • Wang Junfeng
  • King & Wood Mallesons
  • Wang Kejin
  • China Banking Regulatory Commission (CBRC)
  • Wei Jiafu
  • Kazakhstan Potash Corporation Limited
  • Yang Chao
  • China Life Insurance Co. Ltd.
  • Zhu Min
  • International Monetary Fund

Legal Roundtable

  • Dimitry Afanasiev
  • Egorov Puginsky Afanasiev and Partners (Moscow)
  • William T. Allen
  • NYU Stern School of Business
  • Wachtell, Lipton, Rosen & Katz (New York)
  • Johan Aalto
  • Hannes Snellman Attorneys Ltd (Finland)
  • Nigel P. G. Boardman
  • Slaughter and May (London)
  • Willem J.L. Calkoen
  • NautaDutilh N.V. (Rotterdam)
  • Peter Callens
  • Loyens & Loeff (Brussels)
  • Bertrand Cardi
  • Darrois Villey Maillot & Brochier (Paris)
  • Santiago Carregal
  • Marval, O’Farrell & Mairal (Buenos Aires)
  • Martín Carrizosa
  • Philippi Prietocarrizosa & Uría (Bogotá)
  • Carlos G. Cordero G.
  • Aleman, Cordero, Galindo & Lee (Panama)
  • Ewen Crouch
  • Allens (Sydney)
  • Adam O. Emmerich
  • Wachtell, Lipton, Rosen & Katz (New York)
  • Rachel Eng
  • WongPartnership (Singapore)
  • Sergio Erede
  • BonelliErede (Milan)
  • Kenichi Fujinawa
  • Nagashima Ohno & Tsunematsu (Tokyo)
  • Manuel Galicia Romero
  • Galicia Abogados (Mexico City)
  • Danny Gilbert
  • Gilbert + Tobin (Sydney)
  • Vladimíra Glatzová
  • Glatzová & Co. (Prague)
  • Juan Miguel Goenechea
  • Uría Menéndez (Madrid)
  • Andrey A. Goltsblat
  • Goltsblat BLP (Moscow)
  • Juan Francisco Gutiérrez I.
  • Philippi Prietocarrizosa & Uría (Santiago)
  • Fang He
  • Jun He Law Offices (Beijing)
  • Christian Herbst
  • Schönherr (Vienna)
  • Lodewijk Hijmans van den Bergh
  • De Brauw Blackstone Westbroek N.V. (Amsterdam)
  • Hein Hooghoudt
  • NautaDutilh N.V. (Amsterdam)
  • Sameer Huda
  • Hadef & Partners (Dubai)
  • Masakazu Iwakura
  • TMI Associates (Tokyo)
  • Christof Jäckle
  • Hengeler Mueller (Frankfurt)
  • Michael Mervyn Katz
  • Edward Nathan Sonnenbergs (Johannesburg)
  • Handel Lee
  • King & Wood Mallesons (Beijing)
  • Martin Lipton
  • Wachtell, Lipton, Rosen & Katz (New York)
  • Alain Maillot
  • Darrois Villey Maillot Brochier (Paris)
  • Antônio Corrêa Meyer
  • Machado, Meyer, Sendacz e Opice (São Paulo)
  • Sergio Michelsen Jaramillo
  • Brigard & Urrutia (Bogotá)
  • Zia Mody
  • AZB & Partners (Mumbai)
  • Christopher Murray
  • Osler (Toronto)
  • Francisco Antunes Maciel Müssnich
  • Barbosa, Müssnich & Aragão (Rio de Janeiro)
  • I. Berl Nadler
  • Davies Ward Phillips & Vineberg LLP (Toronto)
  • Umberto Nicodano
  • BonelliErede (Milan)
  • Brian O'Gorman
  • Arthur Cox (Dublin)
  • Robin Panovka
  • Wachtell, Lipton, Rosen & Katz (New York)
  • Sang-Yeol Park
  • Park & Partners (Seoul)
  • José Antonio Payet Puccio
  • Payet Rey Cauvi (Lima)
  • Kees Peijster
  • COFRA Holding AG (Zug)
  • Juan Martín Perrotto
  • Uría & Menéndez (Madrid/Beijing)
  • Philip Podzebenko
  • Herbert Smith Freehills (Sydney)
  • Geert Potjewijd
  • De Brauw Blackstone Westbroek (Amsterdam/Beijing)
  • Qi Adam Li
  • Jun He Law Offices (Shanghai)
  • Biörn Riese
  • Jurie Advokat AB (Sweden)
  • Mark Rigotti
  • Herbert Smith Freehills (Sydney)
  • Rafael Robles Miaja
  • Robles Miaja (Mexico City)
  • Alberto Saravalle
  • BonelliErede (Milan)
  • Maximilian Schiessl
  • Hengeler Mueller (Düsseldorf)
  • Cyril S. Shroff
  • Cyril Amarchand Mangaldas (Mumbai)
  • Shardul S. Shroff
  • Shardul Amarchand Mangaldas & Co.(New Delhi)
  • Klaus Søgaard
  • Gorrissen Federspiel (Denmark)
  • Ezekiel Solomon
  • Allens (Sydney)
  • Emanuel P. Strehle
  • Hengeler Mueller (Munich)
  • David E. Tadmor
  • Tadmor & Co. (Tel Aviv)
  • Kevin J. Thomson
  • Barrick Gold Corporation (Toronto)
  • Yu Wakae
  • Nagashima Ohno & Tsunematsu (Tokyo)
  • Wang Junfeng
  • King & Wood Mallesons (Beijing)
  • Tomasz Wardynski
  • Wardynski & Partners (Warsaw)
  • Rolf Watter
  • Bär & Karrer AG (Zürich)
  • Xiao Wei
  • Jun He Law Offices (Beijing)
  • Xu Ping
  • King & Wood Mallesons (Beijing)
  • Shuji Yanase
  • OK Corporation (Tokyo)
  • Alvin Yeo
  • WongPartnership LLP (Singapore)

Founding Directors

  • William T. Allen
  • NYU Stern School of Business
  • Wachtell, Lipton, Rosen & Katz
  • Nigel P.G. Boardman
  • Slaughter and May
  • Cai Hongbin
  • Peking University Guanghua School of Management
  • Adam O. Emmerich
  • Wachtell, Lipton, Rosen & Katz
  • Robin Panovka
  • Wachtell, Lipton, Rosen & Katz
  • Peter Williamson
  • Cambridge Judge Business School
  • Franny Yao
  • Ernst & Young

Monthly Archives: January 2012

SPANISH UPDATE – Trends and Prospects in Spanish M&A

Editors’ Note:  This paper was contributed by Juan Miguel Goenechea, a partner at Uría Menéndez in Madrid and a member of XBMA’s Legal Roundtable.  As one of Spain’s leading M&A experts, Mr. Goenechea has broad expertise in complex corporate, banking, finance and securities transactions at the top end of the market.  Javier Ruiz-Cámara, of counsel at Uría Menéndez, authored this article.   Mr. Ruiz-Cámara’s practice focuses mainly on M&A, financings and restructurings in Europe and Latin America.

Highlights:

  • One of the key drivers of the M&A sector in Spain in 2011 was the restructuring of the Spanish financial sector.  This process is still ongoing and represents an opportunity for foreign investors interested in acquiring strategic interests in the Spanish banking sector, entering the market on a stand-alone basis through asset purchases or acquiring non-core assets of banks and savings banks.
  • There are also large privatizations in the pipeline that might be re-activated if both the markets and the political and macroeconomic environment become more stable.
  • We also anticipate opportunistic and “defensive” M&A deals, corporate consolidations, along with private equity transactions (divestment of highly-leveraged acquisitions completed in the boom years of 2006 and 2007).

MAIN ARTICLE

OVERVIEW OF 2011:

Financial services M&A – financial sector restructuring

In 2011, some of the largest transactions were driven by the effects of the global financial turmoil affecting Europe and especially Spain.

As the first step of the “Basel III” financial sector restructuring in Spain, in 2010 and 2011, several regulations were enacted to facilitate the capitalisation of savings banks (cajas de ahorros) by enabling them to form an Institutional Protection Scheme (“SIP”), also known as a “cold merger”. A “cold merger” is a contractual arrangement whereby members of a group undertake to support each other in terms of liquidity and solvency. Each savings bank maintains its own brand and part of its workforce, balance sheet and branch network, but there is a single management structure. Part of the activities and business of the savings banks and some shared functions (such as the management of liquidity) are centralized.

Eventually most of the “cold mergers” led to full integration of the banking business into newly formed banks. Some of them launched initial public offerings (IPOs) which have stirred interest from investors, including sovereign wealth funds and foreign banks.

Bankia and Banca Cívica, two Spanish banks forged from “cold mergers” of several savings banks, respectively raised more than 3 billion euros and 600 million euros in two IPOs in July 2011. Both Bankia and Banca Cívica priced their shares at a strong discount to draw in shareholders amid market doubts over the health of Spain’s financial system following the collapse of the real estate industry. Bankia’s IPO was a test for the new bank and for the confidence in the Spanish economy, as well as an important step to reforming Spain’s damaged banking sector.

Also during 2011, in a very innovative corporate reorganization, the Spanish savings bank “la Caixa” transferred its banking business into its already listed industrial holding company (Criteria), while shifting real estate assets and some of its stock holdings, including stakes in Abertis and Gas Natural, into an unlisted company. This move, announced in January 2011, allowed “Caixabank” going public in July 2011 without launching an IPO.

(Failed) privatisation processes

In the second semester of 2011, Spain launched two large-scale privatisation programmes to cut deficit and to preserve market faith in turnaround plans, namely the privatisation process of the Spanish airport operator (AENA) and the Spanish lottery operator (LAE), in what would have been the largest IPOs in Spanish history. Both privatisation processes were eventually paralyzed by the Government, mainly due to the market instability and the lack of political consensus on the processes.

On top of AENA and LAE processes, there is another large privatisation programme on-hold that might be picked-up at some point in 2012 or 2013: the partial privatisation of the entity that manages the public water services in the region of Madrid, Canal de Isabel II (CYII), which was approved in 2008 but has however faced political and popular opposition since then.

Other notable M&A deals

Additionally, the following are some of the most relevant inbound M&A deals that were either announced or completed in the first semester of 2011 in Spain:

  • In February 2011, a public takeover was announced for Spanish oil refinery CEPSA by IPIC, a sovereign wealth fund and investment company established by the Abu Dhabi government for €3.9 billion, one of the largest deals in 2011 so far.
  • In March 2011, Qatar Holding LLC, the sovereign investment fund of the Emirate of Qatar, acquired a 6.16% stake in Iberdrola via a capital increase and the acquisition of treasury stock (€2 billion).
  • In May 2011, the Brazilian Companhia Siderurgica Nacional (CSN), a worldwide leader in the steel and mining sectors listed in Sao Paulo and New York, announced an agreement for the acquisition of several steel plants in Spain and Germany from Spanish Grupo Gallardo (USD1.35 billion).
  • Also in May 2011 Schneider Electric announced a tender offer on Telvent, the Spanish global technology company listed on NASDAQ (USD 1.4 billion).

In the last months we have also seen encouraging sign of the potential symbiotic relationship between cash-rich Chinese corporates and Spanish corporations with strong presence in Latin America, namely the alliance of Repsol YPF and the Sinopec in Brazil and the enhancement of the strategic alliance between the telecommunication companies Telefonica and China Unicom. On the flip side, due to the market’s volatility, the Chinese state-backed company HNA recently withdrew from a deal to buy a stake in the indebted Spanish hotel chain NH that is facing difficult negotiations with its lenders.

TRENDS AND PROSPECTS:

  • The ongoing restructuring process of the Spanish financial sector (including but not limited to savings banks) will continue being essential to understand the M&A environment of the following months: banks and savings banks consolidations will continue, both as a way to meet the strict capital requirements recently set for Spanish banks, and also in order for the Spanish banks to survive in a growingly competitive environment (in which, for instance, mid-sized Banco Pastor was recently taken over by Banco Popular).

    Also, it cannot be disregarded that the Spain-based restructuring and rescue fund (FROB), controlled by the Bank of Spain, may be forced to take over more banks in trouble and subsequently offer them to private investors options (as it has been recently the case of Caja de Ahorros del Mediterráneo (CAM), eventually acquired in an auction by Banco Sabadell with partial protection from the Bank of Spain against toxic real estate assets in the balance sheet of CAM).

  • On the sell-side, many Spanish banks and corporations are looking to divest non-essential assets, focus on their core businesses, strengthen their margins and rebuild their balance sheets, creating a range of M&A investment opportunities.

    A good example of this strategy is Banco Santander, whose moves often anticipate future market trends: in contrast with the shopping spree of the first semester of 2010, when Santander acquired Bank Zachodni WBK SA, the listed Poland based bank (€4.3 billion), and the remaining 24.9% stake it did not already own in Grupo Financiero Santander Serfin, the Mexico based commercial and private banking group (USD 2.5 billion), in the last months of 2011 Santander has sold its business in Colombia and a 7.8% stake of its Chilean subsidiary, and is reportedly in the process of selling a 8% stake of its Brazilian subsidiary.

  • The financial distress of some companies and the continuing uncertainties over the global economy will likely pop up the deal volume in Spain, helping to bridge the valuation gap between the sellers and the purchasers.
  • On the buy-side, well-capitalized acquirers may be one of the principal buy-side forces in 2012. In particular, we have already seen a number of inbound M&A investments in Spain coming from emerging countries, sovereign wealth funds and state-owned enterprises.
  • Private equity firms can also be a relevant player in Spain in 2012, as some of them are coming under increasing pressure to invest the funds raised in the recent years. By the same token, other private equity funds will also be under pressure to exit portfolio companies and redistribute capital to investors as they approach the end of their divestment horizon (i.e., ending of LBO structures implemented in the “golden years” of 2006 and 2007). By way of example, the apparel retailer Cortefiel, the telecom company Ono, the amusement-park operator Parques Reunidos and the manufacturer of railway vehicles Talgo are reported to be up for sale.

    On top of this, the divestment of portfolio companies becomes a must for some private equity funds as we approach the so-called “2012 wall of debt”, i.e., maturity of the loans and bonds issued to finance the highly-leveraged deals that preceded the crisis (in addition to many other companies, whose debt matured in 2009 and 2010, but were able to extend their loans until 2012 and 2013).

    Similar difficulties have arisen for other companies which, during the same “golden years”, financed ambitious recaps out of new subordinated bank facilities. The base cases, which assumed constant growth, have been breached due to the deep crisis, and the companies are now unable to service their debt. We have even witnessed large and medium-size private equity firms that have failed to support their vehicles, leaving the financing banks with the dilemma of whether to look for a new purchaser, to swap their debt into equity, or to apply for the insolvency of the company.

  • In our view, the main deal constraints for M&A transactions in 2012 will be the credit draught that the Spanish economy has been suffering over the last years, the instability of the global economy and the sovereign debt crisis.
  • Finally, the privatization processes currently on-hold (AENA, LAE, CYII and maybe others) may also play an important role in the M&A activity in 2012 and 2013.
The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA or any of the editors of XBMA Forum, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

AUSTRALIAN UPDATE – Australian Regulatory Response to Chinese Investment Opportunities and Challenges

Editors’ Note:  This paper was co-authored by Jeremy Low, Partner, and Andrew Wong, Senior Associate, at Allens Arthur Robinson.  Mr. Low specialises in mergers and acquisitions, corporate restructurings and corporate governance.  Mr. Low was based in the Allens Shanghai office from 2002 to 2006.  It was contributed by Ezekiel Solomon and Guy Alexander of Allens.  Mr. Solomon, who is a member of XBMA’s Legal Roundtable, has long-ranging global M&A experience and his expertise is in high demand from Australian, United States, Korean and Japanese corporations seeking his advice on the structuring, negotiation, financing and documenting of major energy and resource development projects, joint ventures and acquisitions, as well as negotiations with governments in Australia and Asia.  Mr. Alexander is the National Co-Head of Allens’ M&A and Equity Capital Markets practice and has been a member of the Takeovers Panel (established under Australian corporations and securities law to consider disputes in relation to takeovers and other acquisitions of substantial interests in, Australian companies) since 2004.

Highlights:

  • Chinese state owned enterprise investment into Australia’s resources sector is helping create unprecedented high-levels of M&A activity.
  • In recent years, Australia’s Foreign Investment Review Board has taken steps to balance the benefits and risks created by this influx by successive revisions or elaborations of the foreign investment policy, amendments to the regulatory framework and the attachment of conditions to particular investment approvals.
  • Feedback from some Chinese SOEs suggest that they view these policy changes and the foreign investment review process as confusing and discriminatory.
  • The record, however, suggests that China’s SOEs have adapted to the foreign investment process and policy by changing their approach to investment and being prepared to engage with the Government earlier in the investment process.
  • China is likely to continue to be a significant source of investment in Australian energy and resources, and increasingly in other areas, especially agriculture and food.

Article

In the past decade Australia has enjoyed unprecedented high rates of foreign investment.  This has been driven by a once-in-a-generation boom in investment in the country’s resources sector.  In large part, this boom has been due to the activities of China and Chinese state owned enterprises (SOEs) eager to secure reliable sources of iron ore, coal and other commodities.

This trend has presented both opportunities and challenges for Australia.  The influx of foreign capital confers obvious economic benefits.  However, for Australia’s Foreign Investment Review Board, the challenge is to balance these obvious benefits against national interest considerations.

Over the last three years, Australia’s foreign investment policy has evolved in response to this trend.  This evolution has not been smooth.  At times Chinese SOEs have referred to Australian investment policy as discriminatory, citing highly publicised rejections of deals and confusing policy and process.  Over the last twelve months, FIRB has made steps to make the process more transparent and Chinese SOEs have changed the way they look to invest to avoid some of the issues.

This dialogue may be about to begin again.  Recent media quote the Australian Government Treasurer Wayne Swan on his plans to impose a two-stage foreign approval process for investment in resource exploration and mining.[1]  This would require foreign-government-related entity investors to obtain approval from FIRB to acquire an exploration business and, if a viable discovery is made, to re-apply for permission to develop the resource.  If introduced, this would create greater uncertainty for SOE investment in new projects to add to the claims that the Australian investment regime already makes things difficult.

At this point, it is important to look back at the history of the recent evolution of Australia’s foreign investment policy to:

  • provide an overview of the regime and how it applies to Chinese and other SOEs;
  • examine the perception and reality behind the Government’s track record in relation to Chinese investment proposals; and
  • outline the strategies that Chinese SOEs have employed to maximise their chances of obtaining foreign investment approval./li>

A closer look provides hope that while the debate rages, there are signs that the dialogue involved in the Australian foreign investment regime policy and process is shaping the structure of investment to serve the demands of investors and regulators.

Overview of Australia’s foreign investment regime

Foreign investment in Australia is regulated by a combination of legislation (the Foreign Acquisitions and Takeovers Act 1975 (Cth) (FATA)) and published government policy (the Policy).

In general terms, the FATA obliges foreign persons to notify the Australian government and obtain prior approval for the following types of proposals:

  • any proposal whereby a foreign person will acquire an interest of 15% or more in an Australian business or company that is valued, or has gross assets, above A$231 million[2]; and
  • any proposal whereby a foreign person will acquire an interest in certain types of Australian real estate.

In addition to the FATA, the Policy requires foreign governments and their related entities[3] to notify the Australian Government and obtain prior approval for any proposal whereby the foreign government or related entity will acquire:

  • an interest of 10% or more in an Australian business or company irrespective of the value or gross assets of that business or company; or
  • an interest of less than 10% in an Australian business or company irrespective of the value or gross assets of that business or company, where the foreign government or related entity will obtain special voting rights, the ability to appoint directors or contractual rights.

The aspect of the Policy regarding foreign government investment was first introduced in February 2008.

All proposals must be notified to the Foreign Investment Review Board (FIRB), which is an advisory body that examines proposed foreign investments and makes recommendations to the Australian Treasurer on whether to prohibit or approve proposals.  The Australian Treasurer is empowered to prohibit a proposed investment if it is “contrary to the national interest”.

The ‘national interest’ test

The Act does not define the concept of “national interest” nor provide any guidelines on how it is to be assessed.  However, the Policy states that FIRB reviews foreign investment proposals on a case-by-case basis with national interest considerations given to a broad range of factors.  These considerations include:

  • national security – the extent to which foreign investments affect Australia’s ability to protect its strategic and security interests;
  • competition – the effect that foreign investment will have on the diversity of ownership within Australian industries and sectors to promote healthy competition;
  • other Australian Government policies – including the impact on Australian tax revenues and environmental objectives;
  • impact on the economy and the community – including the impact on: plans to restructure the target entity, the nature of investment funding arrangements, the level of Australian participation in the target entity following the transaction and obtaining a fair return for the Australian people; and
  • character of the foreign investor – the extent to which the foreign investor operates on a transparent commercial basis and is subject to adequate and transparent regulation and supervision.

The ‘national interest’ test is broadly similar to Canada’s ‘net benefit’ criteria, and both are broader than the US’ focus on security considerations.[4]

Considerations specific to SOEs

In addition to the above, the Policy contains the following considerations for SOEs:

  • whether the nature of the investment is commercial and at arm’s length;
  • the extent of actual or potential foreign government control, including through lending arrangements embedded in the source of the investor’s funding;
  • the nature of any part-privatisation; and
  • mitigating factors which may assist the Government in determining that the investment proposal is “not contrary to the national interest”, including:
  • existence of external/private partners or shareholders in the investment;
  • level of non-associated ownership interests;[5]
  • governance arrangements;[6]
  • ongoing arrangements to protect Australian interests from non-commercial dealings;[7] and
  • whether the target will be listed on the Australian Securities Exchange (ASX).[8]

Observations regarding the Policy

On first read, the Policy appears to make the approval process more onerous for SOEs than for other investors.  It imposes more stringent approval thresholds (ie. approval is required irrespective of the size of the target company or business), it expands FIRB’s review power beyond that under the FATA, and applications for approval made solely under the Policy need not be dealt within in a particular time frame (whereas applications under the FATA need to be assessed by the Government within 30 days, unless extended by FIRB by an additional 90 days).

The current Policy (in place since June 2010) does represent, however, a significant improvement for SOEs compared to the previous policy.  Under the previous policy, all investments by SOEs were be subject to FIRB review, even if the proposed acquisition amounted to less than 10% of interest in an Australian company.  The current policy exempts acquisitions of less than 10% unless the SOE acquirer obtains special voting or other rights.

In addition, it needs to be recognised that most of the ‘additional’ requirements and national interest considerations are not ‘new’ in the sense that they were not previously applied to SOE investors.  The national interest considerations which FIRB may take into account are not exhaustive and were never limited to those in the previous Policy.  This was again made clear by the Australian Treasurer’s recent decision in rejecting the proposed merger between the ASX and Singapore Exchange (May 2011).

Arguably, the current Policy merely codifies some of the considerations that had already been applied to SOEs, and provides a degree of additional guidance to foreign investors.

Sentiment towards investments from China: perception vs reality

The Australian Government has consistently stated, both in its Policy and on many occasions, that it welcomes foreign investment.  This enthusiasm has been reciprocated by Chinese investors: as of July 2011, China has invested a total of A$39 billion in Australia, making it the largest national target of Chinese outbound investment ahead of the US and Brazil.[9]  While large SOEs continue to dominate China’s outward investment by volume, the SOE share has dropped from 94% in 2010 to 89% in the first half of 2011.[10]

Given these impressive investment statistics, it can be surprising to learn that some Chinese investors (mostly SOEs) view Australia’s foreign investment approval process and its administration by FIRB to be a major hurdle to the success of their investment.[11]  The following points have been raised as ‘evidence’ supporting the perceived discrimination.

  • Sensitive cases of Chinese investment – These include the widely publicised collapse of the A$24 billion Chinalco / Rio Tinto deal (2008), China Minmetals’ reduced bid for Oz Minerals (2009) and the withdrawal of China Nonferrous Metal’s offer for Lynas (2009).
  • Informal FIRB position – In 2009, a FIRB representative made unofficial comments about FIRB ‘guidelines’ restricting foreign SOEs to minority equity ownership in Australian companies.[12]  The context suggested that the statement was directed at Chinese SOEs.
  • Change in FIRB Policy – Whilst the current Policy applies equally to all SOE’s, it has been viewed as targeting China rather than state-backed foreign direct investments in general.
  • Negative press – Chinese investors and officials have viewed the Australian media as playing a negative role in influencing popular opinion and FIRB decision-making regarding Chinese investment.  For instance, recent media attention on China’s food security concerns and its growing investment in Australia’s food and agribusiness sectors preceded the current Senate inquiries into FIRB’s handling of foreign interest in agricultural industries and rural land.
  • Delays in approvals – According to policy the review process typically takes a 40 day initial review period, but it is common practice for FIRB, if their review is not completed within that time, to ask Chinese applicants to withdraw and re-submit their proposal.  Anecdotally, it is not unusual for FIRB applications for Chinese investment to take longer than the usual 30 day statutory period.  FIRB either extends the period of review for an additional 90 days as it is empowered to under FATA or requests that applicants withdraw and resubmit their applications so as to restart the statutory timeframe.

However, such ‘evidence’ of discrimination does not – to put it candidly – stack up against the evidence.  What the evidence in fact reveals is that the Australian Government has, for the most part, approved Chinese investment proposals.  In 2009-10, 1,766 approvals were granted to Chinese proposals, consistent with the 1,761 approvals in 2007-08 prior to the global financial crisis.  Where approvals were granted, FIRB has on occasions imposed conditions to ensure that the investment would comply with the ‘national interest’ test – though it is true that certain FIRB conditions (e.g. ownership caps) have had the effect of altering or blocking the proposed acquisition.[13] The table in the Schedule outlines the FIRB review outcome for major Chinese investment proposals in the last three years.

The evidence also reveals that there has been no noticeable slowdown in Chinese investments proposals since the Policy was first amended in February 2008 to refer specifically to investments from SOEs.

In many instances, the withdrawal or non-approval of Chinese SOE investment proposals have related to commercial reasons (eg. concerns about overpaying, or potentially overpaying, for a target company[14]) or reasons that are not specific to the nature of the investor (eg. two major proposals which did not receive FIRB approval in 2009 sought to acquire assets located in the Woomera Prohibited Area which is reserved for national defence purposes[15]).

Finally, it would be misguided to believe that the Australian Government is more likely to approve, or to approve on an unconditional basis, investment proposals from private enterprise than SOEs.  The Government has recently given unconditional approval to COFCO in its 100% acquisition of Tully Sugar (May 2011), and reportedly also to Bright Food’s proposed acquisition of a 75% stake in Manassen foods (August 2011).[16]  It may represent the beginning of a trend as Chinese SOEs and other investors increasingly expand their targets beyond the resources sector.

A few strategies for dealing with Australia’s foreign investment regime

FIRB decisions and experience have provided some clues as to how Chinese investors, SOEs in particular, can (if commercially feasible) structure their investment strategically important or potentially sensitive projects to maximise the chances of receiving FIRB approval.  These strategies include:

  • seek minority rather than controlling interests – aim for smaller, non-controlling stakes (eg. various share placements in ASX-listed companies of less than 20%);
  • partner up with a non-Chinese investor – seek JV arrangements between Chinese and non-Australian companies to invest in Australia (eg. the acquisition of Arrow by the PetroChina/Shell JV);
  • selling to the public/listing – as in Yanzhou Coal’s undertaking to sell down to 70% by 2012 and list the operating company on the ASX; and
  • appropriate governance arrangements to ensure transactions are conducted on arms’ length / commercial terms.

In a recent example, two of China’s largest State-owned renewable energy businesses, China Datang Renewable Power Co and Baoding Tianwei Baobian Electric Co formed a renewable energy joint venture, called AusChina Energy Group, with Australian listed company CBD Energy Limited.  Datang Renewable is a major wind farm developer and operator.  Baoding Tianwei Baobian is the main operating company of the Baoding Tianwei Group, the largest electrical supplier in China and a producer of wind turbines and other alternative energy technology.

The new AusChina Energy Group is an important opportunity that will enable both Chinese SOEs and their Australian joint-venture counterpart to work towards a development target of approximately $6 billion worth of renewable energy projects over eight years, which would represent one third of Australia’s wind energy market.  Obviously, there are a number of commercial reasons for the joint-venture, but it highlights a successful path towards foreign investment for Chinese SOEs.

As well as an opportunity to maximise the chances of FIRB approval, this strategy could have commercial advantage for SOE investment.  With the price of acquiring Australian resources businesses at an all-time high, it is likely, going forward, that SOEs will look beyond the acquisition of operating Australian miners towards investment in exploration and development.  Joint-venture arrangements often have commercial advantages for exploration companies looking for capital and investors looking to take a more speculative investment.  It remains to be seen how the Treasurer’s recent statements about potential FIRB policy changes will impact on this investment strategy in the future.

Schedule – Regulatory Outcome of Chinese Investment Proposals

Date

Acquirer

Target

Commodity

Value
(A$ b)

Approval

Conditions / Reasons for refusal
May  2011

COFCO

(SOE)

Tully Sugar

Sugar

0.136

Yes

Unconditional.
Apr  2010

PetroChina / Shell

(JV)

Arrow Energy

Coal seam gas

3.5

Yes

Unconditional.
Nov 2009

Hanlong Mining (private)

Moly Mines

Molybdenum, Iron ore

0.2

Yes

Unconditional.
Oct 2009

China Baosteel

(SOE)

Aquila Resources

Coal, Iron ore, Manganese

0.286

Yes

Limited to 19.99% holding.
Oct 2009

Yanzhou Coal

(SOE)

Felix Resources

Coal

3.5

Yes

Sell down to <70% by 2012; operate using an Australian incorporated, headquartered and managed company; list operating company on ASX by 2013; off take arrangements on arms’ length basis.
Sept 2009

Wuhan Iron & Steel

(SOE)

Western Plains Resources

Iron ore

0.45

No (Dept of Defence)

National security concerns associated with the Hawk Nest magnetite site located within the Woomera Prohibited Area.
Sept 2009

China Nonferrous
(SOE)

Lynas

Rare earths

0.5

Yes

Limited to 49.9% holding.
May 2009

Ansteel

(SOE)

Gindalbie Metals

Iron ore

0.162

Yes

Limited to 36.28% holding; support the development of Oakajee Port and Rail Project; not alter the 50/50 ownership of pellet plant without Government approval.
Apr 2009

China Minmetals

(SOE)

Oz Minerals

Copper

1.2

Yes (2nd proposal)

Sensitive assets excluded; arms’ length off take pricing; operations headquartered and managed in Australia; compliance with Australian industrial relations laws.
Mar 2009

Hunan Valin Steel

(SOE)

Fortescue

Iron ore

0.636

Yes

Compliance with Fortescue Directors’ Code of Conduct and the information segregation arrangements agreed between Fortescue and Hunan Valin.
Feb 2009

China Minmetals

(SOE)

Oz Minerals

Copper

2.6

No (1st proposal)

National security concerns associated with Prominent Hill, which is located within the Woomera Prohibited Area.
Sept 2008

Sinosteel

(SOE)

Murchison Metals

Iron ore

N/a

Yes

Limited to 49.9% ownership to maintain diversity of ownership in the Mid-West region.
Aug 2008

Chinalco

(SOE)

Rio Tinto

Iron ore

24

Yes

Limited to 14.99% ownership and not to seek to appoint a director to Rio Tinto without fresh approval.
Jan 2008

Sinosteel

(SOE)

Midwest Corp

Iron ore

1.48

Yes

Unconditional.

 


[1]  China warns of boycott, John Garnaut, Sydney Morning Herald, 12 September 2011.

[2] This threshold is subject to indexation each year.  A threshold of A$1,005 million applies in respect of US investors, except in certain industries (including media, telecommunications, transport, military and uranium) where the standard A$231 million threshold applies.

[3] Entities in which foreign governments have control or have more than 15% interest are considered to be “related” to the foreign government.

[4] See The Foreign Direct Investment Process in Canada and Other Countries, Parliament of Canada, 19 September 2007.

[5] For example, the approval of the Shell/PetroChina bid for Arrow Energy (April 2010) without conditions.

[6] For example, the approval of Yanzhou Coal’s investment in Felix Resources (October 2009) on conditions that: 1) Yanzhou operate its Australian mines through an Australian company, headquartered and managed in Australia, with its CEO and CFO principally residing in Australia; and 2) the Australian operating company have at least two directors principally residing in Australia, one of whom must be independent.

[7] For example, the approval of Hunan Valin’s investment in Fortescue Metals subject to Hunan Valin undertaking that its nominee directors will comply with: 1) Fortescue’s Directors’ Code of Conduct, and 2) the information segregation arrangements agreed between Fortescue and Hunan Valin.

[8] For example, the approval of Yanzhou Coal’s investment in Felix Resources (October 2009) on conditions that 1) the Australian operating company list on the ASX by the end of 2012, and 2) by that time Yanzhou will have reduced its ownership level to 70%.

[9] Heritage Foundation, ‘Chinese Outward Investment: More Opportunity Than Danger’ 13 July 2011.

[10] Heritage Foundation, ‘Chinese Outward Investment: More Opportunity Than Danger’ 13 July 2011.

[11] See John Larum, ‘Chinese Perspectives on Investing in Australia’, Lowy Institute for International Policy, June 2011.

[12] Speech delivered by then-FIRB director Patrick Colmer to an Australia-China investment forum on 24 September 2009.

[13] FIRB’s cap on majority holdings caused Chinese acquirers to terminate their takeover proposals – China Nonferrous Metal’s plans for Lynas (2009) and Sinosteel’s initial proposal for Murchison (2008).

[14] Minmetals’ bid for Equinox Minerals (April 2011) and Yanzhou Coal’s bid for Whitehaven Coal (May 2011).

[15] Wuhan Iron & Steel’s bid for Western Plains Resources (2009) and China Minmetal’s first proposal for Oz Minerals (2009).  Woomera Prohibited Area is the weapons testing range operated by the Royal Australian Air Force.

[16] Reported by China Daily on 29 August 2011.


The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA or any of the editors of XBMA Forum, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

U.S. UPDATE – Mergers and Acquisitions – 2012

Editors’ Note:  This article was co-authored by Andrew R. Brownstein, Steven A. Rosenblum, Adam O. Emmerich, Mark Gordon, Gordon S. Moodie and Daniella Genet, of Wachtell, Lipton, Rosen & Katz.

Highlights: 

  • As we enter 2012 and as the U.S. economy continues to stabilize, there appears to be a growing sense of optimism about further recovery in the M&A market.  Greater perseverance and transactional creativity and sophistication will continue in 2012 as parties seek to manage and allocate risks in a structured manner in an environment of continued uncertainty.  At the same time, high levels of shareholder activism along with the ever-increasing prospect of litigation and judicial review of transaction processes underscore the crucial importance of the basics – above all, that the board of directors be actively involved in M&A planning generally as well as in overseeing any specific transaction process.
  • Though current conditions make it difficult to gauge the size and nature of the M&A market in 2012, a number of factors suggest the possibility of increased deal activity in the coming year.  The continuing, post-recession/post-financial-crisis emphasis on deleveraging and strengthening of corporate balance sheets makes cost-saving M&A synergies particularly valuable, especially as many companies have already exhausted their own cost-cutting opportunities.  Global market pressures, economic volatility and industry-specific factors across a wide array of industries put pressure on corporations to increase scale, diversify their asset base and/or spread R&D costs across larger platforms.
  • Heightened economic, tax and regulatory uncertainties have caused players in the M&A market to approach transactions with greater care and caution.  The implications of the European financial crisis for the U.S. economy and financing markets remain unclear.  Stock market volatility, uncertainty about changes to the U.S. corporate tax rate, increasingly aggressive U.S. antitrust enforcement, and the looming U.S. presidential election also contribute to a lack of forecasting visibility, which in turn significantly impacts the willingness of CEOs and boards of directors to engage in M&A activity. Facing these uncertainties and risks, but also anticipating greater incentives or greater industry-imperatives to merge and acquire, M&A participants are approaching transactions with greater determination and creativity, and M&A transaction structures have trended toward greater complexity and sophistication.

MAIN ARTICLE

As we enter 2012 and as the U.S. economy continues to stabilize, there appears to be a growing sense of optimism about further recovery in the M&A market.  During the first half of 2011, the M&A market continued a resurgence that began in the latter part of 2010, with higher aggregate deal value than had been seen since before the financial crisis.  Though worldwide M&A activity declined in the second half of 2011, reflecting uncertainties regarding the volatile global financial climate, it has continued at a relatively strong pace, and a number of significant transactions have recently been announced, including Kinder Morgan’s $38 billion acquisition of El Paso, United Technologies’ $18 billion acquisition of Goodrich, and Gilead’s $11 billion acquisition of Pharmasset.

Though current conditions make it difficult to gauge the size and nature of the M&A market in 2012, a number of factors suggest the possibility of increased deal activity in the coming year.  The continuing, post-recession/post-financial-crisis emphasis on deleveraging and strengthening of corporate balance sheets makes cost-saving M&A synergies particularly valuable, especially as many companies have already exhausted their own cost-cutting opportunities.  Global market pressures, economic volatility and industry-specific factors across a wide array of industries put pressure on corporations to increase scale, diversify their asset base and/or spread R&D costs across larger platforms.  These trends were particularly apparent – and can be expected to continue – in the technology, health care and energy sectors, with transactions such as Google’s announced $12.5 billion acquisition of Motorola Mobility, Express Scripts’ announced $29.1 billion acquisition of Medco Health Solutions, and BHP’s completed $12.1 billion acquisition of Petrohawk.  In addition, although debt markets have been volatile, financing has been and continues to be available for strategic acquirors with strong credit and for well-established private equity firms.  LBO activity was high in 2011 compared to 2008-2010, with transactions such as the $6.1 billion acquisition of Kinetic Concepts by a group led by Apax Partners, the $3 billion acquisition of Emdeon Inc. by Blackstone, and the $2.8 billion acquisition of BJ’s Wholesale Club by Leonard Green & Partners and CVC Capital Partners.

Heightened economic, tax and regulatory uncertainties have, however, caused players in the M&A market to approach transactions with greater care and caution.  The implications of the European financial crisis for the U.S. economy and financing markets remain unclear.  Stock market volatility, uncertainty about changes to the U.S. corporate tax rate, increasingly aggressive U.S. antitrust enforcement, and the looming U.S. presidential election also contribute to a lack of forecasting visibility, which in turn significantly impacts the willingness of CEOs and boards of directors to engage in M&A activity. Facing these uncertainties and risks, but also anticipating greater incentives or greater industry-imperatives to merge and acquire, M&A participants are approaching transactions with greater determination and creativity, and M&A transaction structures have trended toward greater complexity and sophistication.  Most deals today are taking longer to incubate and execute than in the 2004-2007 period.  But some deals that would have died on the drawing board during 2008-2010 are now getting done, due largely to the greater perseverance and problem-solving attitude of transaction participants.

Looking ahead to 2012, we believe that these trends towards greater perseverance and transactional creativity and sophistication will continue as parties seek to manage and allocate risks in a structured manner in an environment of continued uncertainty.  At the same time, high levels of shareholder activism along with the ever-increasing prospect of litigation and judicial review of transaction processes underscore the crucial importance of the basics – above all, that the board of directors be actively involved in M&A planning generally as well as in overseeing any specific transaction process.

Below, we review a few trends from 2011 that we expect to continue in 2012.

Bridging Valuation Gaps

The financial crisis and resulting uncertainty in the U.S. and global economies has made it difficult for companies to predict future performance (their own, or their target’s) or to forecast synergies and other transaction benefits with the same level of confidence seen in the past.  As a result, acquirors and targets have developed transaction structures that are aimed at bridging gaps in their respective assessments of valuation and risk.  For example, following Kinder Morgan’s decrease in its offer price for El Paso, the parties negotiated the addition of warrants to the consideration mix, giving El Paso shareholders the right to buy additional Kinder Morgan stock within five years at a specified price.  In a comparable context, in an effort to address more specific valuation risks relating to future performance, Sanofi-Aventis included the largest offering to date of contingent value rights in its consideration mix for Genzyme, entitling Genzyme shareholders to receive additional cash payments if specified milestones related to certain drugs are achieved over time.  Likewise, in the acquisition of Clinical Data by Forest Laboratories, Forest agreed to pay shareholders of Clinical Data $30 per share in cash plus contingent consideration of up to $6 per share upon achievement of certain commercial milestones related to a particular drug.

Contingent value rights and similar deferred consideration structures not only bridge valuation gaps, but can also increase deal certainty by addressing risks that would otherwise be managed through closing conditions.  In addition, their use reduces purchase price risk for acquirors and can lower up-front financing requirements while at the same time offering sellers the opportunity to achieve their price expectations.  While the deals cited above are recent high profile examples of partially deferred and conditional consideration, such an approach can be used in deals of any size and with private or public parties.

Regulatory Uncertainty

In light of a heightening emphasis in the United States on antitrust enforcement, greater attention is required to the antitrust-related provisions of merger agreements, including the so-called “efforts” clauses, cooperation obligations and reverse termination fees.  Reverse termination fees – originally found almost exclusively in transactions with financial buyers – have become significantly more common in strategic transactions as a means of allocating antitrust risk.  An antitrust-related reverse termination fee is generally payable by an acquiror to a seller if a transaction is terminated as a result of a failure to obtain antitrust clearance, either because the relevant governmental authority declined to clear the transaction or because the acquiror refused to commit to divestitures or conduct restrictions beyond a pre-agreed limit.  In many cases, use of a reverse break-up fee may appeal to both parties:  to the seller because the fee provides partial compensation in the event of antitrust failure and creates a strong incentive for the buyer to obtain clearance; and to the buyer because the fee establishes a clear limit to the buyer’s risk, assuming compliance with its contractual efforts covenants.  In our experience, efforts covenants generally do not impact the government’s substantive antitrust assessment of proposed mergers – i.e., the agencies don’t demand more simply because the contract has a higher efforts standard.  While courts have expressed concern that large termination fees payable by a seller to an acquiror may prevent a competitive bidding process, reverse termination fees do not create the same concerns and therefore may be significantly larger as a percentage of deal value than standard termination fees.

Examples of antitrust- or regulatory-related reverse termination fees include the Google – Motorola Mobility transaction ($2.5 billion fee – approximately 21% of the equity value of the transaction) and the Texas Instruments – National Semiconductor transaction ($350 million fee – approximately 5.7% of the equity value of the transaction).  The reverse termination concept may also include more than just a fee.  In AT&T’s recently terminated deal to acquire T-Mobile from Deutsche Telekom, AT&T paid to Deutsche Telekom a termination fee consisting of $3 billion in cash (7.7% of the equity value of the transaction) and spectrum rights with a book value of $1 billion and was moreover required to enter into a roaming agreement with Deutsche Telekom, with the aggregate market value of the break-up package a publicly estimated $6 billion (15.4% of the equity value of the transaction).

The perception of stiffened antitrust enforcement has also encouraged greater use of specifically crafted “limit of regulatory pain” provisions as opposed to reliance upon the traditional “material adverse affect” concept.  In the AT&T – T-Mobile transaction, for example, the acquiror was not required to take any actions (such as agreeing to divestitures or conduct restrictions) that would have an adverse effect greater than a specified dollar amount, and the merger agreement included complex provisions for calculating the value of any such adverse effects.

In addition to the size of the fee, there are a number of other important issues to consider in developing a reverse termination structure and fee that is tailored to a particular transaction, including the nature and extent of efforts that must be used by the parties to obtain antitrust clearance before the agreement may be terminated and the fee paid, and whether control of the approval-seeking process will be joint, or led by the buyer.  As with contingent value rights, parties can and should be flexible and creative in developing an approach suited to the particular circumstances and risks at hand.

Changing Litigation Landscape

The M&A plaintiffs’ bar has become increasingly aggressive over the past decade – with lawsuits filed against 85% of deals in 2010 compared to 12% in 1999 – and the response of the Delaware courts to this trend and in specific cases, particularly over the past 12 months, is affecting M&A practice, process and planning.

Three 2011 Delaware Chancery Court developments, in particular, should affect M&A in 2012.

  • Greater board-level oversight of financial advisor role and of sale process tactics. In the Del Monte Foods case, the court stopped the vote of Del Monte’s shareholders in a sale to a consortium led by KKR based on concern that members of the buying group had been permitted to team-up without advance knowledge of the Del Monte board, and that Del Monte’s financial advisor, which was also providing stapled financing to the acquirors, was conflicted.  The case provided several important reminders:  that the terms of confidentiality agreements, including tactical terms such as anti-teaming provisions, must be fully thought-through and entirely respected; that there must be board-level consideration of the role and mandate of the company’s financial advisors, especially (but not exclusively) in situations where stapled financing may be offered; that bankers should receive and follow clear instructions from target boards; and that bankers should ensure that any conflicts of interest are disclosed in advance, with specificity, to the target board of directors.  It is important to note that Delaware courts have long recognized that stapled financing offered by sell-side advisors can be permissible as long as there is good reason, close oversight by the board, and benefit to the company.  Del Monte does not change this.
  • Greater Care in Controlling-Shareholder Transactions.  The Southern Peru Copper Corp. case – where the court ruled that a transaction between a company and its controlling shareholder was not entirely fair and awarded $1.26 billion in damages –constitutes a timely reminder on the importance of careful special committee processes.  Following Southern Peru, the mandate and focus of each special committee will need to be considered with greater care, as will the valuation methodologies and assumptions to be used, especially in circumstances where customary valuation methodologies may not be fully appropriate or applicable.
  • More Intensive, Aggressive Shareholder Litigation Due to Fewer Settlements Based Solely on Revised Public Disclosure.  Historically, companies have often been able to settle deal-related shareholder lawsuits by revising the deal-related proxy disclosures and paying plaintiffs’ attorneys’ fees.  In comments and rulings over the past 15 months, the Delaware Chancery Court has indicated that these forms of settlements are not favored.  While in some cases this hardened attitude may deter the plaintiffs from suing in the first place, in other cases it has had and will have the effect of leading the plaintiffs’ bar to engage in more aggressive behavior, making it harder to close deals and requiring greater sophistication in the drafting of merger agreement closing conditions and allocation of closing risks.

On the positive side, the decision in Air Products & Chemicals Inc. v. Airgas Inc. serves as a welcome reminder that – despite the increase in deal-related shareholder lawsuits – well-functioning, well-informed and well-advised boards are empowered to think and act like businesspeople, to make-judgments and take considered risks without fear of legal liability.  The conduct of the Airgas board in the face of an unsolicited takeover bid, the Delaware Chancery Court wrote, “serves as a quintessential example” of these fundamental principles:  if directors act “in good faith and in accordance with their fiduciary duties,” the Delaware courts will continue to respect a board’s “reasonably exercised managerial discretion.”

Shareholder Activism and Hostile Takeover Activity

In the first half of 2011, favorable market conditions and recent changes in corporate governance produced a substantial increase in hostile takeover activity and shareholder activism, especially in the form of activist shareholders themselves putting companies in play by making stalking horse bids.  There were a number of particularly large unsolicited bids made by activist shareholders in 2011, including Carl Icahn’s $10.7 billion bid for Clorox and $1.9 billion bid for Mentor Graphics, and Trian Fund Management’s $7.6 billion proposed acquisition of Family Dollar.  While these bids do not necessarily result in a sale of the company, they do put pressure on the board of directors.  This blueprint may well be copied by other activists in 2012.  All companies, regardless of size, should have up-to-date plans for dealing with activists and hostile acquirors, including annual strategic, board-level reviews focused on understanding the company’s business and legal defenses and vulnerabilities and anticipating the nature of the arguments the activists or raiders might make.

The continued legitimacy of takeover defenses was acknowledged in February 2011, when the Delaware Court of Chancery rejected the broadest challenge to the poison pill in many years and reaffirmed the primacy of the board of directors to determine matters of corporate control. The decision in Air Products & Chemicals Inc. v. Airgas Inc. upheld the validity of the poison pill to protect a company against a hostile approach and rejected the idea that a poison pill should have an expiration date.  So long as directors act in good faith, on an informed basis and not in their personal interest, their business judgment decisions will be upheld in Delaware, and they may feel confident in acting to protect companies from opportunistic, hostile bids.  Being pro-active in M&A planning and in a company’s own strategic initiatives will also typically help support a strategy of continued independence.

Committee on Foreign Investment in the United States

Following the financial crisis, M&A activity rebounded in Asia more quickly than in other regions, and Asian participants are expected to become increasingly active in cross-border M&A.  In January 2011, the China National Offshore Oil Corporation (CNOOC) agreed to buy into several shale oil and gas leases in the United States owned by Chesapeake Energy for $570 million and to fund an additional $697 million to cover two-thirds of Chesapeake’s drilling and completion expenses.  This deal followed a similar CNOOC – Chesapeake agreement in October 2010 under which CNOOC purchased one-third of a shale oil and gas project from Chesapeake for $1 billion.  Similarly, in 2010, Temasek, a Singapore state-owned company, invested $500 million in Chesapeake Energy.  In addition, in April 2011, China Huaneng Group, a large Chinese state-owned electricity producer, completed its acquisition of a 50% interest in Intergen for $1.2 billion, and in June 2011, Aditya Birla Group, an Indian company, completed its $875 million acquisition of Columbian Chemicals Company.  Even though foreign investment in the U.S. remains generally well received, parties have abandoned transactions in the face of CFIUS opposition – including Huawei’s proposed minority investment in 3Com in 2008 and Tangshan Caofeidian Investment Corporation’s proposed acquisition of 60% of Emcore’s fiber optics business in 2010.  Prospective non-U.S. acquirors of U.S. businesses should undertake a comprehensive analysis of U.S. political and regulatory implications well in advance of any acquisition proposal or program, particularly if the target company operates in a sensitive industry or if the acquiror is sponsored or financed by a foreign government (see our memo “Cross-Border M&A – Checklist for Successful Acquisitions in the U.S.”, January 3, 2012).

Spinoffs and Divestitures

Spinoff activity increased substantially in 2011, reaching an aggregate of $230 billion in transaction value (six times the level in 2010) and 8% of global deal activity.  In an uncertain environment where business-unit dispositions may be difficult to execute or result in unacceptable tax leakage, spinoffs offer companies an internally-driven transaction alternative that can unlock value and/or separate higher-multiple from lower-multiple businesses.  Significant spin-off and similar break-up transaction activity in 2011 was seen in a broad range of industry sectors, with high-profile examples including Tyco International’s three-way split off of its ADT North America residential security business and its flow control businesses, ConocoPhillips’ plan to spin off its refining and marketing business, Kraft’s split off of its North American grocery business, McGraw-Hill’s split into two public companies, ITT’s split into three public companies, Abbott Laboratories’ plan to spin off its branded drug business and become two separate companies, Expedia’s completed spinoff of TripAdvisor and Covidien’s announced spinoff of its pharmaceutical business.

Under appropriate circumstances, the so-called “reverse Morris Trust” structure can be used by large companies to spin off a business unit and merge it with another company or business in a tax-efficient manner.  This structure requires that the merger partner be smaller than the spun-off business.  For example, in the recently-announced Acco Brands – MeadWestvaco transaction, MeadWestvaco will spin off its consumer and office products business and the new entity will then merge into a unit of Acco Brands so that MeadWestvaco shareholders will ultimately hold 50.5 percent of the combined entity.  Favorable tax treatment of these transactions, as well as any other M&A activity occurring close in time to a spinoff, is available under the tax laws only under limited conditions, and sophisticated planning and analysis is required.  Companies should also carefully consider the impact of the announcement of an intended spinoff.  Such announcements can result in the spinning company, the spun-off company, or both, becoming the subject of acquisition interest from other companies or private equity firms.

*          *          *

Whether the promise of the new year brings a significant round of new merger activity or simply a continued steady pace of deal activity, mergers and acquisitions remain a fixture of the corporate landscape.  Successful execution of M&A in this environment requires the creativity to address uncertainty and transaction-specific risks but also the discipline and foresight to adhere scrupulously to enduring principles of active board involvement and procedural integrity.

The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA or any of the editors of XBMA Forum, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

GLOBAL M&A STATISTICAL UPDATE – XBMA Annual Review for 2011

Editors’ Note:  The XBMA Review is published on a quarterly basis using consistent metrics and sources of data in order to facilitate a deeper understanding of trends and developments.  We welcome feedback and suggestions for improving the Review or for interpreting the data.

Click here to see the Review

Executive Summary/Highlights: 

  • During the first half of 2011, global M&A continued the resurgence that began in the second half of 2010, but markets cooled in the second half of 2011, resulting in aggregate volume of US$2.38 trillion in 2011 (down 7% compared to 2010).
  • Stock market volatility, fear of a “double dip,” concerns over European sovereign debt and the future of the Euro zone, and regulatory uncertainty in the United States and Europe have created uncertainty in the market and put a number of deals on hold; however, would-be acquirers’ considerable cash stockpiles, strengthened balance sheets, access to attractive financing (for many investment grade borrowers), and need to expand into new markets are continuing to drive acquisitions.
  • Cross-border transactions have increased since 2009 but remain well below the 2007 high water mark, perhaps due to uncertainty regarding Europe and other markets.  In the United States, acquisitions by non-US acquirors totaled US$145 billion, down 34% from 2010, with European acquirors sitting on the sidelines, Asian acquirors focusing largely on regional consolidation and emerging market opportunities, and other emerging market players’ enthusiasm for US deals also dampening.
  • “Megadeals” returned in force in 2011, particularly in the energy and pharmaceutical industries; nine deals exceeded US$15 billion in value, compared to just four during all of 2010.
  • Spinoff activity also increased dramatically in 2011, as companies sought ways to streamline balance sheets and create shareholder value in volatile markets.
  • Energy & Power was the most active sector for both domestic and cross-border transactions in 2011, rebounding in Q4 following two previous quarters of declining volume.  The Materials and Financial sectors followed, although volume in these sectors declined steadily over the course of 2011.
  • The United States and Europe continued to drive global M&A, accounting for two-thirds of deal activity in 2011.  European deal volume rebounded slightly in Q4 following a sharp drop earlier in the year, although volume still declined 7% from 2010 to 2011.  The United States and Japan were the only regions to experience M&A growth in 2011 compared to 2010, with the 10 largest global deals involving a US or Japanese acquiror and eight of those 10 deals involving both a US acquiror and US target.

Click here to see the Review

The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA or any of the editors of XBMA Forum, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

RUSSIAN UPDATE – English Law Still Dominates in Russian M&A Transactions; a Comparison Shows Why…

Editors’ Note: This paper was co-authored by Goltsblat BLP (the Russian practice of Berwin Leighton Paisner) partners Ian Ivory and Anton Rogoza. Mr. Ivory is Head of English Law – Corporate Finance at Goltsblat BLP, where he and Mr. Rogoza focus on mergers and acquisitions, private equity, joint ventures and corporate restructuring projects. They often represent international companies in connection with their investments in Russia. This paper is a summary of a report entitled “Use of English law in Russian transactions – a comparative review” which was recently published by the authors.

This paper is the first in a series of papers on the choice of law in international M&A transactions. We invite further papers on this topic.

Highlights:

  • Despite developments in Russian corporate legislation, the mergers and acquisitions and international finance markets in Russia still heavily rely on English law.
  • Business partners in Russia often choose to enter English law governed shareholders’ agreements because English law gives them the flexibility to structure an agreement in exactly the way they want, and English law has an established use of a number of key provisions which are often invaluable in shareholders’ agreements. These key provisions include concepts such as put and call options, rights of veto, restrictive covenants, drag along and tag along provisions, good leaver and bad leaver provisions, step-in rights, share ratchets and deadlock mechanisms, which Goltsblat BLP regularly advise clients on.

MAIN ARTICLE

The following summary table comparing English and Russian law positions demonstrates why many parties in Russian deals rely on English law:

Legal concept and summary English law position Russian law position
Assignment
Transfer of rights in a contract from one party to a new third party. Use is well established. Use is well established.
Call options

The right for one party to require another party to sell its shares.

Use is well established.

Use is not well established.

Performance is often secured through the grant of a power of attorney. Irrevocable power of attorney not permitted.
Completion accounts
Mechanism for carrying out a completion date audit of the company, to facilitate an adjustment to the purchase price. Use is well established. Theoretically possible but not tested in the courts.
Conditions precedent
Provisions stating that the contract (or certain parts of the contract) will only come into force if and when agreed conditions are met. Use is well established. Only permitted if the whole contract is conditional.Conditions must be outside of the control of the parties.
Covenants and veto rights
Contractual promise to do, or not do, something, or to stop something from happening. Use is well established. Positive covenants permitted.Negative covenants and rights of veto are unlikely to be enforceable.
Damages for breach of contract
Financial compensation payable to an innocent party for breach of contract by the other party, to compensate for loss suffered from the breach. Use is well established.Subject to rules on causation, remoteness and mitigation.Damages for loss of profit and consequential loss are possible.Grossing-up provisions permitted. Two main options available:- unwind transaction and return purchase price (without costs, etc.);or- seek price reduction to reflect actual state of the asset.
Damages for loss of profit and consequential loss are possible but can be difficult to prove.
Grossing-up provisions not recognised.
Deadlock mechanisms
Contractual provisions used to break a deadlocked decision between the parties, often leading to the buy-out of one of the parties. Use is well established. Theoretically possible but not tested in the courts.
Deferred consideration
Payments of part of the purchase price at intervals after completion, often linked to agreed performance targets. Use is well established. Use is well established.
Dispute resolution and jurisdiction clauses
The process agreed for resolving disputes under the contract and the jurisdiction of the dispute hearing. Use is well established. Use is well established.
Drag along
Mechanism allowing a majority shareholder selling its shares to force the minority shareholders to sell their shares at the same time. Use is well established. Theoretically possible but not tested in the courts.Irrevocable power of attorney not permitted.
Earn-outs
Deferred consideration based on achievement of agreed financial targets for an agreed period after completion. Use is well established.Contract frequently includes covenants restricting conduct of the business during the earn‑out period. Theoretically possible but not tested in the courts.Negative covenants and rights of veto during the earn-out period are unlikely to be enforceable.
Escrow arrangements
Arrangement to deposit title documents and/or completion monies with a third party escrow agent, who then releases them once the completion conditions have been satisfied. Use is well established. Escrow arrangements are not currently recognised.
Good leaver/bad leaver provisions
Contractual mechanism obliging employee shareholders to sell their shares when they leave the company, for a set price depending on the circumstances of their departure. Use is well established. Theoretically possible but not tested in the courts.Irrevocable power of attorney not permitted.
Linking “bad” leaver events to the restrictive covenants would not be enforceable.
Indemnities
Contractual undertakings to compensate for a particular loss or liability. Use is well established. Not currently recognised.
Joint and several liability
All parties are each liable for the full amount of the claim and must agree contributions amongst themselves. Use is well established. Use is well established.
Limitations on liability

Provisions restricting the ability of one party to bring a claim against the other.

Use is well established.

Possible but with certain limitations.

Attempts to exclude liability for fraud or dishonesty are void and unenforceable.
Limitation periods (for breach of contract)
Time periods for issuing legal proceedings for breach of contract claims. 6 years from the date of breach. 12 years for contracts executed as a deed. (Generally) 3 years from the date the innocent party learns (or should have learned) of the breach.
Can be reduced by agreement. Cannot be reduced or increased by agreement.
Limited recourse liability
Limits the contractual liability of one party to another, generally by restricting recourse to the enforcement of security over a specific asset only. Use is well established. Not currently recognised.
Penalties

Obligation to pay a sum of money in the event that a contract is breached that is higher than the loss suffered.

Penalties are void and unenforceable.

An obligation to pay a sum that is no higher than a genuine pre-estimate of the loss (i.e. liquidated damages) is enforceable. Permitted but amounts need to be reasonable.
Preferential share rights
Rights for one class of (i.e. preference) shares to receive greater or prior ranking economic rights than other shares (e.g. in respect of dividends/returns of capital). Use is well established. Not available for LLCs.Basic preference shares available for JSCs.
Put options
The right for one party to require another party to purchase its shares. Use is well established. Use is not well established.
Reasonable and best endeavours
The efforts that a party must go to in order to ensure that something outside of its direct control is done. Use is well established. Not recognised under Russian law.
Representations
Statements which induce a party to enter into a contract. Use is well established.Often expressly excluded on M&A transactions (other than for fraud). Representations outside of the contract not recognised.
Restrictive covenants
Non-compete undertakings given in relation to the protection of the business. Use is well established, and is generally enforceable so long as the restrictions are reasonable in scope and duration. Risk of being deemed illegal and non-enforceable.
Retention accounts
An account jointly controlled by a seller and buyer, holding part of the purchase price, to be released to seller on the satisfaction of agreed conditions or to buyer to settle warranty claims. Use is well established. Retention accounts are theoretically possible but not tested in the courts.
Share ratchets
Mechanism to increase/decrease the number of shares and/or amount of sale proceeds a shareholder receives, based on a performance formula. Use is well established; less popular now, often due to tax issues. Theoretically possible but not tested in the courts.
Step-in rights
Mechanism allowing one party to “step-in” and take voting control of the board and/or shareholder meetings. Use is well established. Theoretically possible but not tested in the courts.
Right is triggered by agreed events of default.
Tag along
Mechanism allowing minority shareholders to sell their shares at the same time as the majority shareholder sells its shares. Use is well established. Theoretically possible but not tested in the courts.
Third party rights
Third party who is not a signatory to the contract may still enforce provisions beneficial to it. Use is well established. Use is well established; the third parties must be expressly named.
Warranties
Statements or promises in a contract that confirm particular facts or circumstances. Use is well established.Can cover a wide range of topics, including on the purchase of the shares in a company, the underlying business and assets of that company. Basic warranties only, implied by law. Cannot be amended or extended.Do not apply to the underlying business and assets if buying shares. The absence of liabilities cannot be warranted.

To see the full report, Use of English Law in Russian Transactions, a Comparative Review, please click Report

The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA or any of the editors of XBMA Forum, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

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