A material adverse change (“MAC”) clause (also sometimes referred to as a material adverse event or material adverse effect clause) is a provision commonly found in M&A and lending agreements that aims to give the buyer (or funder) the right to withdraw from the transaction upon the occurrence of certain events which are detrimental to the target company (or borrower).
MAC clauses often feature in public and private M&A transactions. In the context of a public M&A transaction a MAC clause will usually seek to enable a bidder to withdraw its bid if a material adverse change occurs to the business, assets or profits of the target company prior to the bidder announcing its offer and such offer being declared unconditional. In a private M&A transaction a MAC clause will seek to allow the buyer to walk away from the acquisition of the target company if certain events occur which are detrimental to the business, assets or profits of the target company.
MAC clauses tend to receive a great deal of attention in the aftermath of significant events affecting the economy at large or a particular industry. For example, the events following 11th September 2001 and the recent financial crisis saw a discernable increase in buyers/bidders invoking MAC clauses in agreements that were signed before that period.
The form and content of a MAC clause will vary from transaction to transaction and market practice in the relevant jurisdiction. However, this article briefly considers the key issues to consider from a buyers/bidders and target company’s perspective in relation to the inclusion of MAC clauses in the context of public and private M&A transactions.
Public M&A transactions
As mentioned above, a MAC clause in a public bid aims to enable a bidder to withdraw its bid where there is a material adverse change in the business, assets or profits of the target company prior to the bidder announcing its offer and such offer becoming unconditional.
The City Code on Takeovers and Mergers (the “Code”), which regulates bids for public companies in the UK, requires that a takeover offer must not normally be subject to conditions or pre-conditions which depend solely on subjective judgements by the directors of the bidder or the fulfilment of which is in their hands (Rule 13). A bidder is therefore prevented from invoking conditions (other than acceptance and regulatory conditions) which would cause their offer to lapse unless the events giving rise to the right enforce such conditions are materially significant to the bidder’s offer.
WPP / Tempus Panel decision
The Takeover Panel’s (the “Panel”) decision in respect of WPP Group plc’s (“WPP”) attempted withdrawal of its offer to takeover Tempus Group PLC (“Tempus”) in 2001 has raised certain concerns over when a MAC clause may be invoked by a bidder. WPP, a global communications services group, had tried to withdraw its offer for Tempus and sought to do so by relying on a MAC clause which stated that it’s offer was conditional on “no material adverse change or deterioration having occurred in the business, assets, financial or trading position or profits or prospects of any member of the wider Tempus Group”. WPP believed that there had been a material adverse change in the prospects of Tempus following the events of 11 September 2001. The Panel ruled that the MAC clause in question did not meet it’s material significance test (as set out in Rule 13 of the Code). This has led some commentators to argue that such clause can only be used in the most extreme situations.
Points for consideration from a bidder’s perspective
Even though the Panel’s decision has underlined the difficulty of a bidder relying on a MAC clause to withdraw from a takeover, practitioners agree that such a clause should still be included in the bidder’s offer document.
A bidder seeking to rely on a MAC clause may wish to specify in the offer document what issues are material so that it is easier at the outset to demonstrate what issues are materially significant in the context of its offer. The bidder may also wish to obtain the target company’s agreement to a condition that it’s offer will lapse upon the occurrence of certain specified events. In such circumstances, the Panel should allow such an offer to lapse even though the materiality threshold in Rule 13 of the Code is not reached.
A bidder may still be able to pull out of a takeover without invoking a MAC clause. One option may be for the bidder to invoke the acceptance condition, which provided it remains unsatisfied at a closing date, will allow the bidder to withdraw from the takeover. The other option may be to delay a vote of the bidder’s shareholder until later in the offer process. This would enable the bidder to reconsider proceeding with the transaction in light of changed circumstances. The Panel accepts that the directors of the bidder must have regard to their general duties in deciding whether or not to recommend its shareholders vote in favour of the offer.
Points for consideration for a target company
When negotiating a MAC clause a target company should ensure that all information provided to the bidder prior to the announcement of the bidder’s offer is excluded from the MAC clause. In such circumstances the target company may wish to agree a list of information provided with the bidder. In addition, the target should consider making general economic circumstances exceptions from the definition of what is a MAC. Finally, the target should consider the relationship between a MAC clause and any agreement with regard to break fees.
Private M&A transactions
in the context of a private M&A transaction MAC clauses are only relevant where there is a gap between exchange and completion. This may to be obtain relevant regulatory or other approvals. The decision on whether or not a sale and purchase agreement (“SPA”) ought to contain a MAC clause will depend on (i) the negotiating position of the parties and in particular the party the responsible for the gap between exchange and completion, (ii) whether or not the buyer is using external finance to fund the acquisition of the target company and (iii) the nature of the target company’s business. Most SPAs will, however, usually contain a MAC clause in some form.
MAC clauses are usually expressed as warranties which the buyer will usually insist are repeated on completion of the transaction. The SPA will contain a condition or provision granting the buyer a right of termination of the agreement if the warranty is untrue when repeated on completion.
MAC clauses under English law are interpreted in accordance with contract law. There is very little case law, however, on the interpretation of such clauses under English law.
A recent US case decided under New York law may provide guidance on how the UK courts may approach a similar case. In this case the courts held that a broadly drafted MAC clause should be read as a measure protecting the buyer from unknown events substantially threatening the overall long-term earnings potential of the target company. The court further held that materiality in the context of a particular MAC clause should also consider the long term effect on earning power over a reasonable period of time measured in years as opposed to months. The court also highlighted the difficulty of relying on a MAC clause as a measure to protect the buyer from problems arising from matters which are disclosed to it. The court held that in such circumstances, the onus was on the buyer to consider the consequences of such disclosure since it was treated as being on notice of all reasonably foreseeable consequences that may flow from matters disclosed to it.
Points for consideration for a buyer
A MAC clause will usually take the form of a condition to completion of the SPA or a warranty that a MAC has ocurred since a specified date (usually the date of the target company’s last audited accounts).
When drafting and negotiating a MAC clause in a SPA the buyer should consider the following points:
- Whether to have a general MAC clause or whether to have clause to cover specific concerns that the buyer may have. If the buyer wishes to have a general MAC clause they will need to be careful about including a definition of what constitutes a MAC since this may cause the courts to interpret the general MAC clause narrowly.
- Where a general MAC clause is included in the SPA, the buyer should consider such a clause in the context of the agreement as a whole since the courts will interpret the intentions of the parties by looking at the contract as a whole.
- If the buyer is funding the acquisition using external finance, it will need to ensure that any MAC clause in the SPA is consistent with and matches the MAC clause the lender may have inserted in the facility agreement.
- If the seller successfully negotiates general markets events as being an exception to what constitutes a MAC, the buyer should consider incorporating wording into the SPA that would still trigger the MAC clause if: (i) the target company is affected comparatively worse to other companies in its industry or (ii) the industry in which the target industry operates is disproportionately affected when compared to other industries.
- Consider what other protections may be available to the Buyer, for example obtaining undertakings from the seller as to the way the target company is to be run in the period leading up to completion of the transaction or negotiating for the warranties given by the seller to be repeated at completion of the transaction.
Points for consideration for a seller
The seller may wish to consider the following when reviewing and negotiating a MAC clause:
- Depending on the negotiating power of the seller, it may wish to resist a MAC clause altogather particularly if the buyer is responsible for the delay between exchange and completion of the transaction. In such circumstances the seller may be able to argue that the risk should pass to the buyer and remain there from exchange.
- If the seller is responsible for the delay between exchange and completion it should, where possible try and reduce that period in order to minimise the period at which it may be risk.
- If seller accepts the inclusion of a MAC clause in the SPA, it should insist that general market events and problems arising from matters disclosed to the buyer should be exceptions to what constitutes a MAC.