M&A Trends in the Opportunity Economy
The M&A market is at a record pace in 2021, with a variety of factors (a thriving stock market, available debt, vaccines fueling a pandemic recovery, low interest rates, etc.) driving this growth.
Representations and warranties insurance is increasingly important, and allows buyers and sellers to focus on bigger-picture M&A issues.
The renewed federal push on antitrust compliance and a tight talent market are potential challenges, but the M&A market looks to remain hot going into 2022.
No doubt about it—mergers and acquisitions are taking place at a feverish pace, going back to the second half of 2020. A recent Refinitiv report found that the U.S. has reported $2.14 trillion in M&A activity already in 2021, and the year is on pace to be the biggest in history. According to a S&P Global Market's Intelligence report, Q2 2021 was the third straight quarter where total global M&A value surpassed $1 trillion—the first time this has ever happened in three consecutive quarters.
Womble Bond Dickinson polled its LinkedIn contacts and asked what, in their opinion, is driving this boom, with the choices being: 1. Tax changes; 2. Increased economic activity; 3. Regulatory structure changes; or 4. Other factors. The second choice—increased overall activity—was the overwhelming winner.
“Over the course of my 35 years, I’ve never seen anything like this,” Rutley said. “I personally thought COVID in March and April of 2020 would be a huge dampener on M&A activity, but unlike previous events, like the economic crisis in 2008-2009, the hit to M&A by COVID proved to be temporary. Instead of seeing a decline in my M&A practice, I’ve had my largest year of M&A deal volume and deal value in my entire 35-year career. It’s not unusual for my teams to currently have 9-12 deals going at once.”
And while he agrees that increased economic activity is the primary reason, he said that category is broad. Drilling down a bit deeper, Rutley points to a healthy stock market, the availability of cheap debt, low interest rates, and upbeat forecasts in such sectors as technology, healthcare and financial services.
The COVID-19 pandemic absolutely slowed down initially what had been a robust corporate transactions market in early 2020. But Rutley and Anderson both said the pandemic forced buyers and sellers to adapt—and they learned that some of these changes actually were for the better.
“Rapid digitalization is underpinning the M&A recovery and enabling the white-hot market we’re seeing today,” Rutley said. “Stakeholders are adapting to virtual due diligence and deal-closing. The pandemic forced this, but we found we could do deals faster and more easily.”
“Activity has been super-heavy. I was expecting a more prolonged slowdown, but I would characterize it more as a hiccup. Once people got comfortable with virtual connections, the volume picked right back up,” Anderson said.
Representations and Warranties Insurance and Other M&A Trends
Representations and warranties insurance has become an increasingly important aspect of M&A deals in the past 10 years, Anderson said.
In a deal, parties give reps and warranties about the company—statements of fact that are supposed to be true and accurate. Anderson explained that reps and warranties insurance is “an underwriting process in which the insurer takes the risks that the seller is being accurate on the reps and warranties. Chances are, there might be something inaccurate. Instead of having the buyer and seller fight over those terms, one side or the other will buy a policy that underwrites the whole thing.” He said most deals of $20 million or more now are covered under such policies.
Because reps and warranties insurance has become so important, it, too, has become a hot commodity in the booming M&A market.
Reps and warranties insurance changes the disclosure burden. Sellers now have to meet the insurer’s standards, rather than the buyer’s.
“It often accelerates the deal, because you take a contentious piece between the buyer and seller and makes it a little smoother,” Anderson said. “You can focus on the deal side—the bigger points—and take this equally critical piece and let someone else moderate it.”
But because reps and warranties insurance has become so important, it, too, has become a hot commodity in the booming M&A market.
“We’ve found the costs are increasing. It’s definitely a sellers’ market for companies selling reps and warranties insurance products,” Rutley said, adding that insurers are quicker to decline offering policies if the transaction doesn’t meet their terms.
“The insurance companies say they have a line outside their door,” he said. “The hot market has caused insurance companies to have the upper hand in what they are offering.”
Rutley also cautioned that reps and warranties insurance only covers the unknown. Insurance companies won’t insure known deal risks. So Rutley said an in-depth due diligence process is just as important as ever, even if the deal is covered by reps and warranties insurance.
“It has benefit, but only for the things nobody thought of on either side,” he said.
Preparation Meeting Opportunity: How to Give Your M&A Deal the Best Chance to Succeed
So what are the biggest stumbling blocks to closing M&A transactions? Anderson said employee classification issues are at the top of the list of headaches for buyers and sellers alike.
“The areas we see coming up time and time again are employee classification (exempt or non-exempt) and contractor classification (whether individuals are properly classified as employees or independent contractors),” he said.
Other potential issues of concern include:
- Disputes or confusion about the ownership of intellectual property;
- Data security concerns;
- The use of offshore contractors, creating regulatory compliance problems; and
- State and local tax compliance.
Anderson and Rutley agree that advance preparation and due diligence are the best defenses against a deal falling apart. This advice holds true for both buyers and sellers.
“My father always said, ‘Success is when preparation meets opportunity,’ and that’s true in M&A. That means being willing to move fast and efficiently, but being prepared beforehand,” Rutley said.
Advance preparation and due diligence are the best defenses against a deal falling apart. This advice holds true for both buyers and sellers.
“Doing internal homework is essential to the process for the seller’s in-house counsel. You don’t want the buyer to come in and find something you weren’t aware of,” Anderson said. “When the seller has the luxury of time, if they can start 12-18 months to get things in order, that is best. It’s like selling your house—you don’t wait until the house is on the market to start cleaning out the garage.”
On the buy side, Rutley said company leaders should “Know what you what to buy, why you want to buy it and how integration will be done. And don’t cheat due diligence—it may be the most mundane part of M&A, but the battle is won or lost on due diligence. You want to know as much about the target as you can.”
Thankfully, early pandemic fears that travel restrictions could hinder integration plans proved not to be a problem. Companies found they still could integrate new acquisitions even in a virtual environment.
So what do corporate leaders need to be aware of in the last quarter of 2021 and the first half of 2022? Will the white-hot M&A market continue to burn?
Anderson said the Biden Administration’s strong antitrust push could be the biggest factor shaping the market in the next few quarters.
“We’re already seeing scrutiny not just of the biggest deals, but also the middle market, run-of-the-mill deals,” he said. “It’s not that the Department of Justice is saying these deals couldn’t close, but it’s just the specter of additional regulation and the time it requires to meet those requirements.”
Rutley, however, noted that deals in the $10-50 million range may fall below the radar of federal antitrust scrutiny.
While antitrust may be an area of increasing concern, Anderson believes the prospects of a massive tax law overhaul “are probably more remote by the day” and such discussions are unlikely to happen in the near future.
The tight talent market also remains an issue, both for in-house counsel and outside corporate attorneys. Some firms are aggressively hiring talent just to keep up with the deluge of current work, an issue American Lawyer examined in a recent article.
“The war for talent is definitely there, and the grass is not always greener on the other side of the hill. But it’s a perfect storm for professional talent,” Anderson said.
“Money is certainly important – you have to be able to pay the mortgage and the bills. But it becomes more important to listen to people about what they want from their career. COVID has exposed the flexibility in the market and if we, as employers, are willing to provide that in the form of flex time, off hours, working from home etc., I think that’s what the up-and-coming generation of leaders is looking for. We’re not in a one-size-fits-all environment anymore.”
In general, Rutley expects the M&A market to remain hot for the near future. Even if the pace slows somewhat, the market for the rest of 2021 and early 2022 looks to be plenty busy.
“The Ouija board says forget retirement—there’s too much work on the table!” he joked.