The new Coronavirus («COVID-19») continues to dominate the headlines. By 15 April 2020, the swiss authorities have reported 26’000 confirmed cases of the disease. Factories, schools and offices have been closed on a global scale, travel and transport restrictions have been introduced and extensive measures have been taken to limit the physical contact between individuals. These actions are significantly impacting companies in all industries by lowering consumer spending, disturbing supply chains and production lines and limiting the productivity of the workforce. While the scale of the effects that COVID-19 has on global M&A activity will remain unclear for some time to come, it is already possible to estimate the immediate effects it will have on valuation, due diligence and closing processes.
Valuation:
On February 19, 2020, the global equity indices (MSCI World, S&P 500, STOXX Europe 600) reached historically high water marks. While the spreading of COVID-19 accelerated worldwide, the aforementioned indices lost up to 35% of their market value by the end of March 2020, at the same time the VIX volatility index reached 83% on 16 March 2020, a level last seen after the collapse of Lehman Brothers in 2008. From the perspective of the real economy, the outbreak of the pandemic is having a negative impact on sales and earnings forecasts in almost all sectors. Since enterprise value is calculated on the basis of sales or earnings forecasts, buyers could try to take advantage of the situation and acquire companies based on these adjusted forecasts. On the other hand, the effects of the pandemic are not yet foreseeable and might not have a permanent influence on many companies outlooks. This could lead sellers to believe that the effects and duration of the pandemic are both atypical and do not fundamentally affect business and should thus be classified as “one-time” or “non-recurring effects”. It is not yet possible to predict how price negotiations will develop in these times due to the fact, that this is heavily influenced by the situation individual firms find themselves in. Similarly, uncertain factors such as the duration, extent and scope of the pandemic significantly influence the balance of power between the negotiating parties and therefore have an impact on pricing now and in the near future.
Due Diligence:
Thanks to the prevalence of virtual data rooms, due diligence processes are currently only peripherally affected and management presentations as well as question rounds can take place via video conferencing. This flexibility would have been unthinkable 10 or 15 years ago. However, many offices and “non-essential” factories remain largely closed or are only partially operational. This, combined with travel restrictions and quarantine measures, makes site visits difficult or even impossible. The parties to the transaction must adjust their expectations and schedules accordingly. Also, sellers should now adjust to the increased sensitivity of the buyers and prepare for a longer or more extensive due diligence if necessary. To this end, information regarding the current and expected effects of COVID-19 on the company and on the appropriate measures to mitigate them, should be provided proactively.
Closing:
Until the closing of a transaction, it is customary that the seller continues to run the business as usual and maintains the company value until the handover. It is often agreed that buyers must be involved in extraordinary business decisions and transactions. However, especially in uncertain times, the management’s ability to act swiftly and decidedly should not be restricted. The company must still be able to react to threats such as COVID-19, protect its employees, comply with legal and health regulations and orders, and take other measures that are deemed necessary or appropriate in this context.
Material Adverse Change clauses:
Material Adverse Change (“MAC”) clauses allow buyers to withdraw from the purchase agreement in the event of a predefined, unforeseen and material adverse change in the target company or its market environment between its conclusion and execution. If MAC clauses are included in the sale and purchase agreement, buyers could possibly withdraw from an agreed transaction. Since risks from COVID-19 should be well known to market participants, the success of such withdrawal considerations is uncertain.
Conclusion:
Every crisis also offers opportunities. The current situation can be used to make strategic acquisitions with less competition and possibly at a more advantageous price.
