European legal and tax services provider CMS has launched the CMS European M&A Study 2011, which analyses data compiled from more than 1,000 contracts of its own M&A deals since 2007, including some 300 deals in 2010 alone. The Study shows a clear shift back toward sellers, following a significant swing toward buyers in 2008 and 2009.
“During 2010, we saw a definite increase in the overall pace of M&A transactions, which is continuing into early 2011,” said Thomas Meyding, Head of the CMS Corporate Group. “The shift of contractual risks back to buyers is unlikely to reach the levels of 2007, before the financial crisis, but there are certainly swings back to a sellers’ market, as more investors are keen to do business.”
The Study reports on key trends from 2010, including purchase price adjustments, locked box mechanisms, earn-outs, de minimis and basket provisions, liability caps and limitation periods. The Study also tracks trends over the four-year period 2007-2010. Some of the key findings include:
* A reduction of the number of purchase price adjustments, down a further 13% in 2010 from 2009, and greater use in Continental Europe of locked box mechanisms, in which by definition no further change is made to the purchase price after completion of the transaction;
* Earn-out periods became shorter, indicating that sellers are banking on a quicker return;
* The number of transactions with a de minimis threshold for initiating a claim due to infringement of a warranty dropped slightly;
* Conversely, the number of transactions in which only a basket was used (a certain amount in claims that must first be collected before damages can be claimed due to infringement of warranties) rose. Furthermore, it is increasingly agreed that upon filling the basket only the difference (excess only) is eligible for compensation by sellers, as is also usual in the United States;
* The percentage of transactions where the liability cap for sellers exceeded 50% of the purchase price has declined when measured against the peak of the last two quarters of 2009;
* The number of deals with a general warranty limitation period exceeding 24 months has generally flatlined at around 27%, and declined notably in the last quarter of 2010;
* A decline in the use of arbitration as the dispute resolution mechanism with just 32% of 2010 deals featuring an arbitration clause as against 40% in 2009.
While these observations seem to signal an overall trend toward seller-friendly provisions in Europe generally, there are significant regional differences highlighted by the Study. In the Netherlands, the general guarantee periods have become longer relative to 2009, while the use of ‘MAC clauses’ (provisions in which the buyers are permitted to back out of a transaction if, for example, there is considerable deterioration of the financial position of the enterprise that forms the object of the transaction) has decreased considerably. “Although MAC clauses were certainly not part of every transaction in the crisis years, the fact that they have declined is a clear indication that buyers do have more trust in the market and the economy in general,” says Roman Tarlavski, partner in the Corporate practice of CMS Derks Star Busmann. According to Tarlavski, the longer warranty periods are a clear indication that buyers are increasingly able to leave the risks with sellers for a longer period of time.
The Study also highlights significant cultural differences between Europe and the United States. Chiefly, the comparison shows:
a) A major difference in the use of MAC clauses: 80% of deals in the US include such provisions compared to just 16% of deals in Europe;
b) Basket thresholds for warranty claims are much more prevalent in the US, while the basis of recovery differs. Excess only is more popular in the US but is less common in Europe, where the principle that the full damage must be compensated in that case (first dollar) is prevalent;
c) Basket thresholds tend to be lower in the US with 89% being less than 1% of the purchase price compared with 49% in Europe;
d) Purchase price adjustments with working capital as a basis continue to be by far the most frequently used method in the US.