Acquisition

Timing and Certainty of Completion

92% of all deals required a split exchange and completion.

It is very common for transactions to require a split exchange and completion due to funding / drawdown requirements, with longer periods often required on transactions involving debt funding from credit funds which have relatively long drawdown periods compared with banks.

However, the number of transactions conditional on funding requirements was almost matched this year by transactions which required some form of merger control or foreign direct investment (FDI) approval, whether that be under anti-trust legislation, legislation (e.g. CFIUS in the USA and FIRB in Australia), the UK National Security and Investment (NSI) Act or the EU’s Foreign Subsidies Regulation (FSR). The ever-increasing international scope of asset managers’ portfolios, combined with low filing thresholds in a number of jurisdictions, has meant that mandatory anti-trust and FDI filings are becoming increasingly common, even in jurisdictions where there is only a limited nexus to the transaction involved or an asset manager’s wider portfolio. The NSI Act also has no de minimis exemptions and buyers have taken a relatively cautious approach on making voluntary filings under the regime, so it has captured transactions at all deal value levels.

The impact of these regimes on the M&A market is attracting the attention of governments and regulators. In late 2023, the UK government issued a Call for Evidence on the NSI Act, in which they stated they wanted the NSI Act to be “as pro-business and pro-investment as possible”. At an EU level, a legislative proposal on the existing EU FDI Screening Regulation was published by the European Commission in early 2024, although the initial proposal does not propose a centralised review of FDI filings by the European Commission, so does not remove the potential for investors to have to make multiple FDI notifications in the EU.

SPLIT EXCHANGE AND COMPLETION

Walk-away rights between exchange and completion other than for non-satisfaction of a condition precedent remain very rare in the UK. Where agreed, these are typically linked only to specific business risks rather than for general material adverse change.

19% of transactions had business warranties repeated on completion, although on none of these transactions could a buyer walk away or renegotiate terms if matters were disclosed. Repetition of warranties was therefore typically only sought on transactions with relatively long gap periods between signing and completion as a means to drive disclosure of any material events in the gap period and to provide additional protection under the W&I insurance for non-disclosed warranty breaches that occurred during the gap period. However, in most cases, buyers still take the view there is not significant value to be gained from a risk allocation perspective of getting warranties repeated on completion and they take on business risk with effect from signing of the SPA.

Process Structure and Timing

2023 saw 65% of processes run as auctions, a slight increase on 2022 and reflecting the post-COVID return to more typical transaction timelines. However, we are increasingly seeing auction processes being run in two phases, particularly for high quality assets. In the first phase, a small and targeted pool of bidders who have deep knowledge of the sector and often know the management team well are invited to express their interest, before a wider pool of potential bidders are approached in the second phase. In many cases, this results in a transaction being executed before it comes to the attention of the wider market and demonstrates the importance of building relationships with management teams of high quality assets, even where an exit is not immediately on the horizon.

This softer approach to launch has also proved useful in the ongoing challenging market, allowing processes to be postponed or slowed down without any need to formally terminate.

AUCTION PROCESSES

Exclusivity was granted on 50% of auction processes, relatively static with processes in 2022, but a decrease from 57% in 2021. During the last two years, auction processes have tended to become more elongated than in 2020 and 2021, resulting in bidders being able to carry out large amounts of due diligence in the pre-exclusivity phase. As a result, a period of exclusivity has not always been required to finalise due diligence and execute transaction documents. Exclusivity periods have therefore tended to be for more complex transactions or bilateral transactions, which is borne out in an increase in the average initial exclusivity period from 16.8 days in 2022 to 18.2 days in 2023.

Pricing Structure

Locked box remained the most common pricing mechanism, with 92% of transactions using this structure, which is a significant increase from lows of 79% in 2021. Whilst this may seem surprising in more challenging market conditions with investors seeking out more challenging investment opportunities such as carve outs, it reflects the increasing acceptance of locked box mechanisms by those who were traditionally sceptical, such as trade buyers and US financial sponsors. Completion accounts pricing mechanisms are increasingly only reserved for transactions where there are no accounts that can be used for locked box purposes – typically carve outs from large corporates or smaller bolt-on transactions where the financial records are not sufficiently robust.

On deals using a locked box pricing mechanism, 67% featured an equity ticker, a slight decrease on 2022’s figure of 71%, although there is no indication yet that this will become a long-term downwards trend after many years of equity tickers becoming increasingly prevalent.

Restrictive covenants are typically included in sale agreements, shareholders’ agreements and service contracts. To be enforceable, restrictive covenants must be reasonable in their scope and duration.

In the UK and Europe, unless there are compelling reasons to justify a longer period (e.g. in IP heavy businesses where the covenantor would have the ability to seriously harm the business of the target by competing with it), 24 months is generally the longest period that is enforceable in a sale agreement. 24 months was the most common duration seen in 2023, but both 12 and 18 months were also common and this is one of the items most commonly negotiated in SPAs at present. It remains uncommon for financial sponsors to agree to comprehensive restrictive covenants, although we have seen some financial sponsors willing to give non-solicitation restrictive covenants in sale agreements in respect of key members of executive management. The scope of these is fairly deal specific, but rarely covers more than a handful of key individuals.