This memorandum describes the procedure and effects of a cross-border merger pursuant to Directive 2005/56/EC of the European Parliament and of the Council of 26 October 2005 on cross-border mergers of limited liability companies (the “Cross-Border Merger Directive”), as transposed into French law. We focus on the French corporate law aspects of such a transaction but refer to analogous principles in other European jurisdictions (in particular, the Netherlands and the United Kingdom).
This year will mark the official tenth anniversary of the transposition of the Cross-Border Merger Directive into the national law of most if not all Member States.
The Cross-Border Merger Directive has generally been regarded as a success, facilitating corporate mobility and permitting enterprises to more fully benefit from the right of free establishment and free movement throughout the EU. This increased corporate mobility within Europe has promoted increased deal synergies, supporting regulatory competition among Member States and more generally reducing organizational costs.
As we describe below, implementing a cross-border merger under the Cross-Border Merger Directive remains complex and cumbersome even relative to other sophisticated transaction structures. Reforms are currently under consideration to streamline the process, as well as to put in place a European regime for cross-border spin-offs, but remain at an early stage.
Despite uncertainties within the European Union, cross-border deal activity remains strong, including transactions structured as cross-border mergers. For example, the TechnipFMC transaction which completed in January 2017 under a UK incorporated holding company represents the largest arm’s length cross-border merger under the Directive to date. It remains to be seen whether Brexit-driven transactions will be a significant (although perhaps circumscribed) additional source of cross-border mergers in Europe in the coming years.
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Executive Summary: Canada’s new takeover bid regime got its first serious test with Hecla Mining’s attempted hostile takeover of Dolly Varden Silver. Under the new takeover bid rules, poison pills as a bid defence may soon be a thing of the past, to be replaced by private placements as the defensive tactic of choice for many targets. The joint decision of the Ontario and British Columbia securities commissions in Hecla v Dolly Varden articulates the definitive code for determining when a target company’s private placement will be deemed an illegal defensive tactic.
Our article recently published in Listed magazine explains the four-stage analysis for determining whether your private placement will survive regulatory scrutiny and, more importantly, how to structure your private placement in a way that will protect it from a Dolly-Varden-type challenge.
A version of this article originally appeared in Listed Magazine.
Consider this: a cash-strapped junior resource company listed on the TSX Venture Exchange is looking for ways to continue its exploration program for the coming year. With only $200,000 in its bank account, a $2-million loan from a significant shareholder that’s coming due, and an expected burn of $4 to $5 million for its drilling plans for the next year, financing is top of the agenda for both the board and management. Sound familiar?
The company considers extending the existing loan, but the lender refuses to commit to an extension until closer to renewal. Wanting certainty, the company decides to pursue a $6-million private placement, which it plans to use to pay off the existing loan and continue drilling. However, immediately after talks break down with the lender over loan amendments, the lender announces its intention to launch a hostile bid at a 55% premium over the market price. A week later, the company announces a private placement that would dilute existing equity by 43%, and the lender runs to the securities regulators demanding that they intervene by cease-trading the private placement. Should the securities commissions intervene?
This is exactly what happened in Hecla Mining’s unsolicited takeover bid for Dolly Varden Silver Corp. (TSX-V:DV) in July 2016. The Ontario and B.C. securities commissions refused to intervene and in October released a rare joint decision, explaining why. Simply put, they found that the company made the private placement for non-defensive business purposes. They noted that the company was contemplating an equity financing well before the offer was announced, the size of the private placement was reasonable, and it had not changed in size or scope after the bid surfaced. The commissions also explicitly recognized the market reality in Canada that junior listed companies often have to engage in dilutive equity transactions for legitimate business purposes.
Dolly Varden was the first contested transaction since Canada’s new takeover bid regime came into effect in Canada in May 2016. Different from the principles underlying takeover legislation in the United States, where boards can “just say no,” Canada’s takeover bid framework is premised on the principle that shareholders should ultimately decide whether to accept or reject a takeover bid. The new rules change the balance of power between target boards and target shareholders, and between target boards and hostile bidders. Here, we’ve compiled a list of six implications of the new takeover code and the new approach to the regulation of defensive tactics in the post-poison-pill era.
- Hostile bids will be more difficult to complete successfully. The 105-day time period that a bid must now remain open means that a hostile bidder will incur greater costs and uncertainty. It will bear the risk of changed market conditions, volatility in underlying prices and changes to the target’s business. Other competing bidders might step in, and the initial bidder’s efforts in uncovering the opportunity may be all for nothing. This will, no doubt, make some potential bidders pause and think twice about bidding at all.
- Target boards have more time. Target boards now have more time to evaluate a bid, look for white knights, pursue alternatives and/or make a strong case to shareholders to reject the bid. A target board and its advisers can establish a strategic process with some greater certainty on timing (as opposed to the shorter, more variable periods that securities commissions have historically allowed for poison pills).
- Target boards have more leverage. Interested bidders are more likely to negotiate directly with target boards. Bidders who negotiate a friendly deal directly with the target’s board can have the target reduce the 105-day bid period to 35 days. This clearly gives the target’s board some negotiating leverage.
- Bids cannot succeed without the support of a majority of shareholders. The new requirement for a 50% minimum tender means that shareholders won’t be able to tender their shares to the bidder if the bid isn’t supported by a majority of the target’s shareholders. Under the old regime, bidders would often reserve the right to waive their own self-imposed minimum tender condition. This meant that even if a bidder was unsuccessful in achieving a majority of the target’s shares, it might have seized the opportunity to become a significant minority shareholder (e.g., 30% owner) by waiving its minimum tender condition and achieving a blocking position. Not possible anymore.
- Poison pills as a bid defence will be a thing of the past. The new regime is silent on shareholder rights plans but, given the significant extension of the minimum bid period and the codification of the minimum tender condition and 10-day bid extension typically required by rights plans, we see fewer companies adopting rights plans. And we don’t expect that regulators will allow issuers to use rights plans to further postpone takeup by hostile bidders beyond the 105 days.
That said, depending on their circumstances, some issuers may want to maintain rights plans so that they can have some protection against “creeping bids.” Creeping bids involve the practice of assembling positions over time greater than 20% of a company’s outstanding shares through acquisitions (like private placements and market purchases) that are exempt from the takeover bid rules.
- Other defence tactics will emerge and be scrutinized by regulators. Although poison pills (and the usual pill hearings at which they were challenged as an illegal defensive tactic) are likely a thing of the past, target boards are going to be more carefully scrutinized on other defensive tactics, including private placements. This is where the fine print of the commissions’ decision in Dolly Varden is important.
Here’s their analysis in four simple stages (see accompanying diagram).
A: Threshold Question. Can the bidder show that the private placement has a material impact on the bid? For example, is there significant dilution? Or will it make it impossible for the bidder to satisfy the mandatory 50% tender condition? If yes, then go to stage B. If the answer is no, the commission won’t intervene.
B: Preliminary Analysis. Can the target board show that the private placement was not a defensive tactic designed to alter the dynamics of the bid process? This question looks at intention and purpose, not effect. At this step, the target is responsible to provide evidence of the following:
- it had a serious and immediate need for the financing;
- it had a bona fide business strategy involving equity financing by way of private placement;
- the private placement was not planned or modified in response to, or in anticipation of, a bid.
If the answer is yes, then the commission won’t intervene. If the answer is no or maybe, then go to the next stage.
C: Full-Blown Analysis. If the private placement is (or might be) a defensive tactic, then securities commissions must do a more extensive analysis to decide if they should intervene, focusing on their investor protection mandate but taking into account that corporate law defers to a large extent to board decision-making. In addition to the factors set out in the previous step, they’ll also consider the following:
- Does the private placement benefit shareholders by, for example, allowing the target to continue its operations through the term of the bid? Or in allowing the board to engage in an auction process without unduly impairing the bid?
- To what extent does the private placement alter the preexisting bid dynamics, for example, by depriving shareholders of the ability to tender to the bid?
- Are investors in the private placement related parties to the target? Or is there other evidence that some or all of them will act in such a way as to enable the target’s board to “just say no” to the bid or a competing bid?
- Is there is any information available that indicates the views of the target shareholders with respect to the takeover bid and/or the private placement?
- Did the target’s board appropriately consider the interplay between the private placement and the bid, including the effect of the resulting dilution on the bid and the need for financing?
D: Final Stage. Is there any other policy reason to interfere with the private placement under the commissions’ public interest power?
In the 105 days it will now take to consummate a hostile bid, target boards will likely struggle more with how to meet their financing needs during that lengthy period. This will be especially true for junior resource companies whose only source of financing is typically equity. Hostile bidders can be expected to heavily scrutinize these financing transactions and challenge them routinely.
Takeaways: For companies contemplating a financing and wanting to protect it from a Dolly- Varden-like challenge, here are some things to think about:
- Make sure you document in board minutes your earliest considerations of a possible financing, plus the need for and the intended use of proceeds, so that the record establishes that your plan was under consideration before any bid was announced.
- Make sure the private placement is “right-sized,” i.e., no bigger than necessary to meet the demonstrable financing need.
- Don’t increase or otherwise tinker with a private placement in the face of or in anticipation of a bid.
- Make sure board minutes reflect the board’s consideration of the impact of the private placement on the bid.
- Ensure that some of your key shareholders are supportive of the private placement in case you need their support at a defensive tactics hearing.
- Avoid placing the securities in the hands of related parties or others known to be supportive of the target and likely opposed to the bid.
- Consider offering the bidder the opportunity to participate in the private placement.
- Avoid structuring the private placement so that the bidder’s failure to meet the required 50% minimum condition is inevitable.
- Consider pre-emptively applying to the securities commission for an order excluding the newly issued securities from the required minimum tender condition.
Promoting Long-Term Value Creation – The Launch of the Investor Stewardship Group (ISG) and ISG’s Framework for U.S. Stewardship and Governance
A long-running, two-year effort by the senior corporate governance heads of major U.S. investors to develop the first stewardship code for the U.S. market culminated today in the launch of the Investor Stewardship Group (ISG) and ISG’s associated Framework for U.S. Stewardship and Governance. Investor co-founders and signatories include U.S. Asset Managers (BlackRock; MFS; State Street Global Advisors; TIAA Investments; T. Rowe Price; Vanguard; ValueAct Capital; Wellington Management); U.S. Asset Owners (CalSTRS; Florida State Board of Administration (SBA); Washington State Investment Board); and non-U.S. Asset Owners/Managers (GIC Private Limited (Singapore’s Sovereign Wealth Fund); Legal and General Investment Management; MN Netherlands; PGGM; Royal Bank of Canada (Asset Management)).
Focused explicitly on combating short-termism, providing a “framework for promoting long-term value creation for U.S. companies and the broader U.S. economy” and promoting “responsible” engagement, the principles are designed to be independent of proxy advisory firm guidelines and may help disintermediate the proxy advisory firms, traditional activist hedge funds and short-term pressures from dictating corporate governance and corporate strategy.
Importantly, the ISG Framework would operate to hold investors, and not just public companies, to a higher standard, rejecting the scorched-earth activist pressure tactics to which public companies have often been subject, and instead requiring investors to “address and attempt to resolve differences with companies in a constructive and pragmatic manner.” In addition, the ISG Framework emphasizes that asset managers and owners are responsible to their ultimate long-term beneficiaries, especially the millions of individual investors whose retirement and long-term savings are held by these funds, and that proxy voting and engagement guidelines of investors should be designed to protect the interests of these long-term clients and beneficiaries. While the ISG Framework is not intended to be prescriptive or comprehensive in nature, with companies and investors being free to apply it in a manner they deem appropriate, it is intended to provide guidance and clarity as to the expectations that an increasingly large number of investors will have not only of public companies, but also of each other.
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- Global M&A activity had a slow start and a strong finish in 2016, totaling nearly US$3.7 trillion, posting the second strongest year since the financial crisis (lower only than 2015).
- 2016 also accounted for the second highest cross-border deal volume (US$1.4 trillion) since the financial crisis, with cross-border deals announced in 2016 accounting for six out of the 10 largest deals of the year.
- 2016 had its share of “megadeals,” albeit trailing 2015 levels, with 45 deals over $10 billion (compared to 69 in 2015) and four deals over $50 billion (compared to 10 in 2015).
- Drivers of the robust activity – including large cross-border transactions – included consolidation in several sectors, increasingly scarce opportunities for organic growth, high acquirer stock prices, and the continued availability of low-cost acquisition financing. The slower pace relative to 2015 may have been attributable to political uncertainty arising from the U.S. elections, the near-term possibility of U.S. interest rate increases from their prolonged and historical lows, uncertainty about the economic impact of Brexit on the United Kingdom and the European Union, and the record volume of deals that were withdrawn or terminated due to regulatory issues.
- The Technology sector’s share of deal volume has surged since 2012, approaching levels (nearly 15%) last seen in 2000. Technology drove a much larger share of cross-border deal-making in 2016 relative to prior years, jumping from approximately 5% to over 10%, and including such notable deals as SoftBank/ARM.
- Q4 2016 was the second most active quarter since the financial crisis, with more than US$1.2 trillion in deals announced, including six of the ten largest deals of 2016, and two of the three largest deals of 2016. Interestingly and unpredictably, Q4 represented a nearly 50% surge over Q3 deal volume. Through the first three quarters of 2016, annualized M&A volume was trending lower than each of 2008 and 2014, before overtaking them in Q4 and transforming 2016 from a relatively moderate post-crisis year to the second most active.
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- Global M&A volume in 2016 continued to be robust, reaching $3.7 trillion, approximately 40% of which involved cross-border deals, as compared to one-third in 2015. Five out of the ten largest deals of the year were cross-border transactions. The pace of deals grew during the second half of the year, especially in the U.S., and there are many signals pointing to a continued strong pace of transactions. The big wild card, of course, is the extent to which recent political upheaval both in the U.S. and around the world will translate into increased protectionism or other upheaval in taxation, regulation or finance. So far, the deal market is largely unfazed, and rising U.S. equity valuations provide plenty of dry powder for stock deals.
- U.S. targets accounted for approximately $1.7 trillion of last year’s deal volume, with approximately 30% of U.S. deals involving non-U.S. acquirors.
- We would be surprised, even in the face of significant change and uncertainty, were robust levels of cross-border M&A not to continue to be a prominent feature of the international business landscape. Both U.S. sellers and non-U.S. buyers will remain interested in the opportunities presented by investment in the U.S., and perhaps more so in a world where economic nationalism is on the rise.
- This post updates our checklist of issues that should be carefully considered in advance of an acquisition or strategic investment in the U.S.
Global M&A volume in 2016 continued to be robust, reaching $3.7 trillion, approximately 40% of which involved cross-border deals, as compared to one-third in 2015. Five out of the ten largest deals of the year were cross-border transactions. The pace of deals grew during the second half of the year, especially in the U.S., and there are many signals pointing to a continued strong pace of transactions. The big wild card, of course, is the extent to which recent political upheaval both in the U.S. and around the world will translate into increased protectionism or other upheaval in taxation, regulation or finance. So far, the deal market is largely unfazed, and rising U.S. equity valuations provide plenty of dry powder for stock deals.
U.S. targets accounted for approximately $1.7 trillion of last year’s deal volume, with approximately 30% of U.S. deals involving non-U.S. acquirors. German, French, Canadian, Japanese and U.K. buyers accounted for approximately 65% of the volume of cross-border acquisitions into the U.S., and acquirors from China, India and other emerging economies accounted for approximately 15%. Cross-border deals involving U.S. target companies included a number of noteworthy transactions, including Bayer AG’s $66 billion acquisition of Monsanto, the $28 billion merger between Enbridge and Spectra Energy, Danone S.A.’s $12.5 billion acquisition of Whitewave Foods, and Samsung’s $8 billion acquisition of Harman International.
Predictions – as has been famously and variously attributed to Niels Bohr, Yogi Berra and others – are tough, especially about the future. What we can expect in 2017, as a Trump administration takes up the reins of power in the U.S., the U.K. inches and lurches toward Brexit, Italy regroups, France and Germany hold elections, and Chinese signals on outbound investment (which surged more than 350% for 2016 U.S. deals as compared to 2015 levels) and outbound capital movement are both mixed and opaque, is beyond our powers of prediction, however ex-cited the U.S. equity markets may currently be.
That said, we would be surprised, even in the face of significant change and uncertainty, were robust levels of cross-border M&A not to continue to be a prominent feature of the international business landscape. Both U.S. sellers and non-U.S. buyers will remain interested in the opportunities presented by investment in the U.S., and perhaps more so in a world where economic nationalism is on the rise.
What won’t change is that advance preparation, strategic implementation and sophisticated deal structures that anticipate likely concerns will continue to be critical to successful acquisitions in the U.S. It will remain the case that cross-border deals involving investment into the U.S. are more likely to fail because of poor analysis, planning and execution than fundamental legal or political restrictions.
The following is our updated checklist of issues that should be carefully considered in advance of an acquisition or strategic investment in the U.S. Because each cross-border deal is unique, the relative significance of the issues discussed below will depend upon the specific facts, circumstances and dynamics of each particular situation.
- Political and Regulatory Considerations. Even if investment into the U.S. remains mostly well-received and generally not politicized or made a pawn in broader global economic and other confrontations (an assumption that will be monitored very closely in M&A circles and more broadly), prospective non-U.S. acquirors of U.S. businesses or assets should undertake a thoughtful 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, if post-transaction business plans contemplate major changes in investment, employment or business strategy, or if the acquiror is sponsored or financed by a foreign government, or organized in a jurisdiction where a high level of government involvement in business is generally understood to exist. It is imperative that the likely concerns of federal, state and local government agencies, employees, customers, suppliers, communities and other interested parties be thoroughly considered and, if possible, addressed prior to any acquisition or investment proposal becoming public. It is also essential that a comprehensive communications plan, focusing not only on public investors but also on all these core constituencies, be in place prior to the announcement of a transaction so that all of the relevant constituencies can be addressed with the appropriate messages. It will often be useful, if not essential, to involve experienced public relations firms at an early stage in the planning process. Similarly, potential regulatory hurdles require sophisticated advance planning. In addition to securities and antitrust regulations, acquisitions may be subject to CFIUS review (discussed below), and acquisitions in regulated industries (e.g., energy, public utilities, gaming, insurance, telecommunications and media, financial institutions, transportation and defense contracting) may be subject to an additional layer of regulatory approvals. Regulation in these areas is often complex, and political opponents, reluctant targets and competitors may seize on perceived weaknesses in an acquiror’s ability to clear regulatory obstacles. High-profile transactions may also result in political scrutiny by Congress, state and local officials.
Finally, depending on the industry involved and the geographic distribution of the work-force, labor unions will continue to play an active role during the review process. Pre-announcement communications plans must take account of all of these interests.
- Transaction Structures. Non-U.S. acquirors should be willing to consider a variety of potential transaction structures, especially in strategically or politically sensitive transactions. Structures that may be helpful in sensitive situations include no-governance and low-governance investments, minority positions or joint ventures, possibly with the right to increase ownership or governance over time; partnering with a U.S. company or management team or collaborating with a U.S. source of financing or co-investor (such as a private equity firm); utilizing a controlled or partly controlled U.S. acquisition vehicle, possibly with a board of directors having a substantial number of U.S. citizens and prominent U.S. citizens in high-profile roles; or implementing bespoke governance structures (such as a U.S. proxy board) with respect to specific sensitive subsidiaries or businesses of the target company. Use of debt or preferred securities (rather than ordinary common stock) should also be considered. Even more modest social issues, such as the name of the continuing enterprise and its corporate location or headquarters, or the choice of the nominal legal acquiror in a merger, can affect the perspective of government and labor officials.
- CFIUS. Under current U.S. federal law, the Committee on Foreign Investment in the United States (CFIUS) – a multi-agency governmental body chaired by the Secretary of the Treasury, the recommendations of which the President of the United States has personal authority to accept or reject – has discretion to review transactions in which non-U.S. acquirors could obtain “control” of a U.S. business or in which a non-U.S. acquiror invests in U.S. infrastructure, technology or energy assets. That authority was notably used in 2016 to block the Aixtron and Lumileds transactions. Although filings with CFIUS are voluntary, CFIUS also has the ability to investigate transactions at its discretion, including after the transaction has closed. While it is not clear if and how CFIUS’s review of cross-border transactions will change in a Trump administration, we believe three useful rules of thumb in dealing with CFIUS will continue to be useful:
- first, in general it is prudent to make a voluntary filing with CFIUS if the likelihood of an investigation is reasonably high or if competing bidders are likely to take advantage of the uncertainty of a potential investigation;
- second, it is often best to take the initiative and suggest methods of mitigation early in the review process in order to help shape any remedial measures and avoid delay or potential disapproval; and
- third, it is often a mistake to make a CFIUS filing prior to initiating discussions with the U.S. Department of the Treasury and other officials and relevant parties. In some cases, it may even be prudent to make the initial contact prior to the pub-lic announcement of the transaction. CFIUS is not as mysterious or unpredictable as some fear – consultation with Treasury and other officials (who – to date – have generally been supportive of investment in the U.S. economy) and CFIUS specialists will generally provide a good sense of what it will take to clear the process. Retaining advisors with significant CFIUS expertise and experience is often crucial to successful navigation of the CFIUS process. Transactions that may require a CFIUS filing should have a carefully crafted communications plan in place prior to any public announcement or disclosure. In addition, given that CFIUS will require a draft filing in advance of the official filing, building in sufficient lead time is essential.
While still an evolving product, in the past year some insurers have begun offering insurance coverage for CFIUS-related non-consummation risk, covering payment of the re-verse break fee in the event a transaction does not close due to CFIUS review, at a cost of approximately 10-15% of the reverse break fee.
- Acquisition Currency. While cash remains a common form of consideration in cross-border deals into the U.S., non-U.S. acquirors should think creatively about potential avenues for offering U.S. target shareholders a security that allows them to participate in the resulting global enterprise. For example, publicly listed acquirors may consider offering existing common stock or depositary receipts (e.g., ADRs) or special securities (e.g., contingent value rights). When U.S. target shareholders obtain a continuing interest in a surviving corporation that had not already been publicly listed in the U.S., expect heightened focus on the corporate governance and other ownership and structural arrangements of the non-U.S. acquiror, including as to the presence of any controlling or large shareholders, and heightened scrutiny placed on any de facto controllers or promoters. Creative structures, such as the issuance of non-voting stock or other special securities of a non-U.S. acquiror, may minimize or mitigate the issues raised by U.S. corporate governance concerns. As we have said previously, the world’s equity markets have never been more globalized, and the interest of investors in major capital markets to invest in non-local business never greater; equity consideration, or equity issuance to support a transaction, should be considered in appropriate circumstances.
- M&A Practice. It is essential to understand the custom and practice of U.S. M&A trans-actions. For instance, understanding when to respect – and when to challenge – a target’s sale “process” may be critical. Knowing how and at what price level to enter the discussions will often determine the success or failure of a proposal; in some situations it is prudent to start with an offer on the low side, while in other situations offering a full price at the outset may be essential to achieving a negotiated deal and discouraging competitors, including those who might raise political or regulatory issues. In strategically or politically sensitive transactions, hostile maneuvers may be imprudent; in other cases, unsolicited pressure might be the only way to force a transaction. Takeover regulations in the U.S. differ in many significant respects from those in non-U.S. jurisdictions; for example, the mandatory bid concept common in Europe, India and other countries is not present in U.S. practice. Permissible deal protection structures, pricing requirements and defensive measures available to U.S. targets will also likely differ in meaningful ways from what non-U.S. acquirors are accustomed to in deals in their home countries. Sensitivity must also be given to the distinct contours of the target board’s fiduciary duties and decision-making obligations under state law. Finally, often overlooked in cross-border situations is how subtle differences in language, communication expectations and the role of different transaction participants can impact transactions and discussions; advance preparation and ongoing engagement during a transaction must take this into account.
- U.S. Board Practice and Custom. Where the target is a U.S. public company, the customs and formalities surrounding board of director participation in the M&A process, including the participation of legal and financial advisors, the provision of customary fairness opinions and the inquiry and analysis surrounding the activities of the board and the financial advisors, can be unfamiliar and potentially confusing to non-U.S. transaction participants and can lead to misunderstandings that threaten to upset delicate transaction negotiations. Non-U.S. participants need to be well-advised as to the role of U.S. public company boards and the legal, regulatory and litigation framework and risks that can constrain or prescribe board action. These factors can impact both tactics and timing of M&A processes and the nature of communications with the target company.
- Distressed Acquisitions. Distressed M&A is a well-developed specialty in the U.S., with its own subculture of sophisticated investors, lawyers and financial advisors. The U.S. continues to be a popular destination for restructurings of multinational corporations, including those with few assets or operations in the country, because of its debtor-friendly reorganization laws. Recently, this trend has been most evident in the bankruptcy filings of non-U.S. based companies in the energy and shipping sectors. Among other ad-vantages, the U.S. bankruptcy system has expansive jurisdiction (such as a world-wide stay of actions against a debtor’s property and liberal filing requirements), provides relative predictability in outcomes and allows for the imposition of debt restructurings on non-consenting creditors, making reorganizations more feasible. In recent years, court-supervised “Section 363” auctions of a debtor’s assets (as opposed to the more traditional Chapter 11 plan of reorganization) have become more common, in part because they can be completed comparatively quickly, efficiently and cheaply. Additionally, large foreign companies have increasingly turned to Chapter 15 of the U.S. Bankruptcy Code, which accords debtors that are already in foreign insolvency proceedings key protections from creditors in the U.S. and has facilitated restructurings and asset sales approved abroad. Firms evaluating a potential acquisition of a distressed target based in the U.S. should consider the full array of tools that the U.S. bankruptcy process makes available, including acquisition of the target’s fulcrum debt securities that are expected to be converted in-to equity through an out-of-court restructuring or plan of reorganization, acting as a plan investor or sponsor in connection with a plan of reorganization, backstopping a plan-related rights offering or participating as a bidder in a “Section 363” auction. Transaction certainty is of critical importance to success in a transaction in bankruptcy, and non-U.S. participants accordingly need to plan carefully (especially with respect to transactions that might be subject to CFIUS review, as discussed above) to ensure that they will be on a relatively level playing field with U.S. bidders. Acquirors also need to be aware that they will likely need to address the numerous constituencies involved in a bankruptcy case, each with its own interests and often conflicting agendas, including bank lenders, bondholders, distressed-focused hedge funds and holders of structured debt securities and credit default protection, as well as landlords and trade creditors.
- Financing. Heading into 2017, recent trends that have influenced acquisition financing may be reversing. Rising interest rates deserve a moment of reflection, including in terms of the still-available opportunity to lock in long-term fixed rates to finance acquisitions, and in the challenges to de-lever post-acquisition so as to best position the company for future refinancings that may be in a higher-rate environment. On the other hand, the U.S. regulatory oversight of banks that led to leveraged lending constraints may be relaxed by the new administration, allowing banks more flexibility to finance acquisitions at higher leverage levels. Moreover, acquisition financing commitments that had been constrained, particularly for acquisitions requiring long regulatory approval periods be-tween signing and closing, may become less so. Additionally, if tax-related costs to repatriate offshore cash of U.S. corporations are reduced, the result may be new tax-efficient structures for financing deals. None of this is assured, of course, and therefore careful consideration of financing-related market trends and developments is more important than ever in planning acquisitions.
Important questions to ask when considering a transaction that requires debt financing include: what is the appropriate leverage level for the resulting business; where financing with the most favorable costs, terms and conditions is available; what currencies the financing should be raised in; and how fluctuations in currency exchange rates can affect costs, repayment and covenant compliance; how committed the financing is or should be; which lenders have the best understanding of the acquiror’s and target’s businesses; whether there are transaction structures that can minimize financing and refinancing requirements; and how comfortable a target will feel with the terms and conditions of the financing.
- Litigation. Stockholder litigation accompanies many transactions involving a U.S. public company but generally is not a cause for concern. Excluding situations involving competing bids – where litigation may play a direct role in the contest – and going-private or other “conflict” transactions initiated by controlling shareholders or management – which form a separate category requiring special care and planning – there are very few examples of major acquisitions of U.S. public companies being blocked or prevented due to shareholder litigation or of materially increased costs being imposed on arm’s-length acquirors. In most cases, where a transaction has been properly planned and implemented with the benefit of appropriate legal and investment banking advice on both sides, such litigation can be dismissed or settled for relatively small amounts or other concessions. Moreover, the rate of such litigation (and the average number of lawsuits per deal) declined in 2015 and 2016, due in part to a seminal case in a key jurisdiction for such litigation (Delaware) that reduced the incentives for the stockholder plaintiffs’ attorneys to bring such suits by signaling that disclosure-only settlements (and the attorneys’ fees they generated) would face significantly more scrutiny. Some, but not all, other courts have followed Delaware’s lead in this regard. In any event, sophisticated counsel can usually predict the likely range of litigation outcomes or settlement costs, which should be viewed as a cost of the deal.
While well-advised parties can substantially reduce the risk of U.S. stockholder litigation, the reverse is also true – the conduct of the parties during negotiations can create “bad facts” that in turn may both encourage stockholder litigation and provoke judicial rebuke, including significant monetary judgments. Sophisticated litigation counsel should be included in key stages of the deal negotiation process. In all cases, the acquiror, its directors, shareholders and offshore reporters and regulators should be conditioned in advance (to the extent possible) to expect litigation and not to view it as a sign of trouble. In addition, it is important to understand the U.S. discovery process in litigation is significantly different than the process in other jurisdictions and, even in the context of a settlement, will require the acquiror to provide responsive information and documents (including emails) to the plaintiffs.
- Tax Considerations. With Republicans in control of the White House, the Senate and the House of Representatives, comprehensive tax reform is likely to be enacted in 2017. It is anticipated that such reform will be based on the House GOP plan and the Trump plan which, despite their differences, are aligned on a number of key issues, including significant reduction in tax rates, deduction of capital expenditures, potential limitations on the deductibility of interest expense, and repatriation relief. While the specific outcome of this process remains to be seen, such tax reform is anticipated to increase the attractiveness of investing in the U.S.
U.S. tax issues affecting target shareholders or the combined group may be critical to structuring a cross-border transaction. In transactions involving the receipt by U.S. target shareholders of non-U.S. acquiror stock, the potential application of so-called “anti-inversion” rules, which could render an otherwise tax-free transaction taxable to exchanging U.S. target shareholders and also result in potentially significant adverse U.S. tax consequences to the combined group, must be carefully evaluated. Non-U.S. acquirors frequently will need to consider whether to invest directly from their home jurisdiction or through U.S. or non-U.S. subsidiaries, the impact of the transaction on tax at-tributes of the U.S. target (e.g., loss carryforwards), the deductibility of interest expense incurred on acquisition indebtedness and eligibility for reduced rates of withholding on cross-border payments of interest, dividends and royalties under applicable U.S. tax treaties. In particular, non-U.S. acquirors should carefully review the impact of recently finalized debt/equity regulations on related-party financing transactions. Because the U.S. presently does not have a “participation exemption” regime that exempts dividend in-come from non-U.S. subsidiaries, a non-U.S. acquiror of a U.S. target with non-U.S. sub-sidiaries should analyze the tax cost of extracting such subsidiaries from the U.S. group. Parties to a potential transaction should carefully monitor how their transaction may be affected by U.S. tax reform.
- Disclosure Obligations. How and when an acquiror’s interest in the target is publicly disclosed should be carefully controlled and considered, keeping in mind the various ownership thresholds that trigger mandatory disclosure on a Schedule 13D under the federal securities laws and under regulatory agency rules such as those of the Federal Re-serve Board, the Federal Energy Regulatory Commission (FERC) and the Federal Communications Commission (FCC). While the Hart-Scott-Rodino Antitrust Improvements Act (HSR) does not require disclosure to the general public, the HSR rules do require disclosure to the target before relatively low ownership thresholds can be crossed. Non-U.S. acquirors have to be mindful of disclosure norms and timing requirements relating to home country requirements with respect to cross-border investment and acquisition activity. In many cases, the U.S. disclosure regime is subject to greater judgment and analysis than the strict requirements of other jurisdictions. Treatment of derivative securities and other pecuniary interests in a target other than common stock holdings can also vary by jurisdiction.
- Shareholder Approval. Because few U.S. public companies have one or more controlling shareholders, obtaining public shareholder approval is typically a key consideration in U.S. transactions. Understanding in advance the roles of arbitrageurs, hedge funds, institutional investors, private equity funds, proxy voting advisors and other market players – and their likely views of the anticipated acquisition attempt as well as when they appear and disappear from the scene – can be pivotal to the success or failure of the transaction. It is advisable to retain an experienced proxy solicitation firm well in advance of the shareholder meeting to vote on the transaction (and sometimes prior to the announcement of a deal) to implement an effective strategy to obtain shareholder approval.
- Integration Planning. One of the reasons deals sometimes fail is poor post-acquisition integration, particularly in cross-border deals where multiple cultures, languages and historic business methods may create friction. If possible, the executives and consultants who will be responsible for integration should be involved in the early stages of the deal so that they can help formulate and “own” the plans that they will be expected to execute. Too often, a separation between the deal team and the integration/execution teams invites slippage in execution of a plan that in hindsight is labeled by the new team as unrealistic or overly ambitious. However, integration planning needs to be carefully phased in as implementation cannot occur prior to the receipt of certain regulatory approvals.
- Corporate Governance and Securities Law. Current U.S. securities and corporate governance rules can be troublesome for non-U.S. acquirors who will be issuing securities that will become publicly traded in the U.S. as a result of an acquisition. SEC rules, the Sarbanes-Oxley and Dodd-Frank Acts and stock exchange requirements should be evaluated to ensure compatibility with home country rules and to be certain that the non-U.S. acquiror will be able to comply. Rules relating to director independence, internal control reports and loans to officers and directors, among others, can frequently raise issues for non-U.S. companies listing in the U.S. Non-U.S. acquirors should also be mindful that U.S. securities regulations may apply to acquisitions and other business combination activities involving non-U.S. target companies with U.S. security holders. Whether the Trump administration, Congress and a new chairman of the U.S. Securities and Exchange Commission will significantly alter the regulatory landscape for public companies and transactions will be a subject of keen interest not only to non-U.S. acquirors, but to all public companies, acquirors and investors. Sweeping change has been promised and may be delivered.
- Antitrust Issues. To the extent that a non-U.S. acquiror directly or indirectly competes or holds an interest in a company that competes in the same industry as the target company, antitrust concerns may arise either at the federal agency or state attorneys general level. Although less typical, concerns can also arise if the foreign acquiror competes either in an upstream or downstream market of the target. As noted above, pre-closing integration efforts should also be conducted with sensitivity to antitrust requirements that can be limiting. Home country or other foreign competition laws may raise their own sets of issues that should be carefully analyzed with counsel. The administration of the antitrust laws in the U.S. is carried out by highly professional agencies relying on well-established analytical frameworks. The outcomes of the vast majority of transactions can be easily predicted. In borderline cases, while the outcome of any particular proposed transaction cannot be known with certainty, the likelihood of a proposed transaction being viewed by the agencies as raising substantive antitrust concerns and the degree of difficulty in over-coming those concerns can be. In situations presenting actual or potential substantive is-sues, careful planning is imperative and a proactive approach to engagement with the agencies is generally advisable.
- Due Diligence. Wholesale application of the acquiror’s domestic due diligence standards to the target’s jurisdiction can cause delay, waste time and resources or result in missing a problem. Due diligence methods must take account of the target jurisdiction’s legal re-gime and, particularly important in a competitive auction situation, local norms. Many due diligence requests are best channeled through legal or financial intermediaries as op-posed to being made directly to the target company. Making due diligence requests that appear to the target as particularly unusual or unreasonable (not uncommon in cross-border deals) can easily create friction or cause a bidder to lose credibility. Similarly, missing a significant local issue for lack of local knowledge can be highly problematic and costly. Prospective acquirors should also be familiar with the legal and regulatory context in the U.S. for diligence areas of increasing focus, including cybersecurity, data privacy and protection, Foreign Corrupt Practices Act (FCPA) compliance and other matters. In some cases, a potential acquiror may wish to investigate obtaining representation and warranty insurance in connection with a potential transaction, which has been used with increasing frequency as a tool to offset losses resulting from certain breaches of representations and warranties.
- Collaboration. More so than ever in the face of the current U.S. and global uncertainties, most obstacles to a deal are best addressed in partnership with local players whose interests are aligned with those of the acquiror. If possible, relationships with the target company’s management and other local forces should be established well in advance so that political and other concerns can be addressed together, and so that all politicians, regulators and other stakeholders can be approached by the whole group in a consistent, collaborative and cooperative fashion.
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As always in global M&A, results, highpoints and lowpoints for 2017 are likely to include many surprises, and sophisticated market participants will need to continually refine their strategies and tactics as the global and local environment develops. However, the rules of the road for successful M&A transactions in the U.S. remain well understood and eminently capable of being mastered by well-prepared and well-advised acquirors from all parts of the globe.