The British public voted to leave the European Union on Thursday 23 June. What happens next is far from certain. The implications for global M&A markets are, accordingly, equally far from certain. The volume of M&A transactions undertaken in the UK for the six month period prior to the Brexit vote was down almost 70%. Against this back drop, the only certainty is uncertainty, at least for the short term.
Below we set out our analysis of what the implications may be in certain major M&A markets.
Expected Key Impacts
- A continued drop off in M&A activity in the UK as the climate of uncertainty continues
- Likely changes to the UK’s interaction with the EU regulatory framework relating to capital markets
- Potential increase in US listings of European companies
- Weakness of the Pound Sterling (and potentially the Euro) making UK/EU targets more attractive to overseas bidders
- Increased regulatory hurdles (for instance in relation to antitrust approvals) in pan-European deals with a UK element
- Impact on M&A Activity - Market participants and commentators expect that the general and political “what now” uncertainty will be reflected in the M&A markets. Most expect a continued downturn in M&A deal activity in the UK (particularly involving non-UK investors and buyers), at least until the shape of the arrangements (including the exact timetable and terms) for the UK’s exit from the EU has been established. The level and duration of any such downturn in M&A deal activity is, at this stage, no more than (educated) guesswork. It is easy to see how the prevailing uncertainty is likely to affect confidence, and for that lack of confidence to suppress deal appetite, resulting in a hiatus in M&A activity. Likewise, it is sensible to predict that potential buyers/investors (as well as sellers) will pause to understand the impact of Brexit on individual businesses or sectors before proceeding. For example, simply modelling a transaction in this time of economic, political and regulatory uncertainty has become a real challenge. Undoubtedly, there will be continuing activity in certain areas: distressed sales and domestic UK deals, particularly mid-market or below, being examples (with cross-border transactions being equally likely, at the opposite end of the spectrum, to be put on hold). For so long as this mood of uncertainty prevails (i.e. until there is either clarity on the terms of the UK’s departure or participants accept the “new normal”), it would be sensible to expect challenges from Paris, Frankfurt and elsewhere in the EU to London’s leading role in the European financial and financial services markets; and for international/global banks and corporates to be encouraged to review their historic London-centric focus within Europe.
- Impact on Capital Markets - Most of UK (technically divided into three: English & Welsh, Scottish and Northern Irish) law relating to capital markets derives from EU law (principally the Prospectus, Transparency, Market Abuse and Takeovers Directives). It remains to be seen whether or not the UK seeks to maintain the current regime, although it would be sensible to anticipate that it would not make any material changes. The UK Government will be keen for the UK to remain an attractive listing destination. Balancing the “Leave” campaign’s desire to demonstrate sovereignty/self-governance, suggests that whilst there may be some amendments, these are likely to be in order to remove perceived EU “red tape”. One particular issue that will have to be addressed is the “passporting” of prospectuses: currently, a prospectus for an issuer which has been approved by the FCA in the UK may be used as a passport to facilitate public offers of shares in other EU member states (and vice versa). Unless the UK negotiates alternative arrangements (or “equivalence” is granted by the EU to the FCA in the UK), then the UK would not be able to use this passporting facility when Brexit becomes effective. One further issue relates to the Takeover Directive. After more than 15 years of negotiations the Takeover Directive established the principle of determination of a single authority to supervise a tender offer where a target has multiple EU listings in the EU or does not have its registered office and its listing place in the same member state. This framework enables cross-border takeovers and provides a clear set of common rules (including mandatory takeovers and squeeze outs) which apply throughout the EU. In the absence of any further agreement to the contrary, Brexit will take the market back to the pre-Takeover directive situation and create uncertainties in determining the competent authority to supervise a cross-border offer involving the UK. This may effect acquisitions or combinations with European companies registered and/or listed in the UK.
- Impact on Transaction Terms - There will, inevitably, be some changes in the law in due course. While the scope of these changes is unknown, it is unlikely they will materially affect contractual terms going forward (and so, for example, they are unlikely to have a significant impact on the legal terms of private M&A transactions or commercial contracts), other than in exceptional circumstances such as contract terms relating directly to the EU itself (or its member states). Existing contracts will, in general terms, remain in force and be unaffected, although certain provisions (for example, material adverse change, force majeure and territorial restrictions) may need to be carefully considered (although in the case of material adverse change it is probably the case that the adverse change has already occurred!). Going forward, there should be no immediate requirement to consider a change in governing law clauses solely as a result of Brexit.
- Impact on Sectors - Certain industries and sectors will be impacted by Brexit more than others, most likely those which: currently have significant EU regulation (such as financial services and life sciences); rely on data and/or intellectual property (such as insurance and media); and depend on trade across UK borders (such as automotive, consumer goods and others with international supply/distribution chains).
- Impact on The Special Relationship - Britain is the US’s closest ally. The two countries have had one of the longest, most stable relationships between two countries in history. US companies are drawn to doing business in the UK for many reasons: common language; common values; common legal systems and respect for the rule of law; credible and transparent institutions; a talented workforce; wealthy consumers; and a gateway to the rest of Europe (US companies with a branch or subsidiary in the UK, are allowed to operate anywhere in the EU). This interconnectedness could be in jeopardy as Brexit means the UK will not participate in the Transatlantic Trade and Investment Partnership agreement the US is negotiating with the EU (although it should be borne in mind that the parties have been engaged in such discussions for over two years with little progress being made). Although some, such as the Chancellor of the Exchequer Osborne, believe the special relationship between the UK and the US will lead to a bilateral trade deal with the US, President Obama has warned that the UK would be at the back of the queue for a bilateral trade deal.
- Impact on M&A Activity - In the short term, uncertainty deters investment. In a recent Duke University/CFO Global Business Outlook survey of more than 1,200 US CFOs, almost 50% of the CFOs said that political uncertainty was causing their companies to reduce hiring or spending plans. In a recent British American Business survey of 127 US companies operating in the UK, 70% responded that Brexit would have a negative or strongly negative impact on future investment. With a UK base no longer a passport into the rest of Europe and without uniformity of regulations, multinationals would have to deal with changing rules for trade, immigration and labour-flows across borders. Complexity can deter investment, reduce sales and increase expense. However, the continued weakness in the Pound Sterling, which could spread to the Euro, may make potential targets for US companies in both the UK and Europe more attractive for those pursing an M&A strategy.
- Impact on Capital Markets - In recent years there has been a general trend of EU incorporated businesses listing on the NASDAQ or the NYSE rather than on exchanges in their own country (or indeed the LSE). With the increased volatility in European capital markets it is likely that the United States will continue to benefit from increased capital market activity driven by EU companies.
- Impact on Sectors - Many US companies are exposed to credit risk from UK trading partners. Damage to the UK economy could lead to defaults by UK firms that could hurt US companies. On the other hand, the extent of the impact is hard to predict. Some commentators believe that even if the UK is no longer a gateway to the rest of Europe, many of the factors that make it an attractive place for US companies to do business will continue to draw US companies post Brexit.
Other European jurisdictions
- Impact on M&A Activity - The current uncertainty will undoubtedly have a knock-on effect on M&A markets in Europe and beyond, but the extent of such effect will only become clear in time.
- Impact on Capital Markets - Post Brexit there may be a shift of trading activities from London to stock exchanges like Euronext Paris, the Frankfurt Stock Exchange and other Euronext venues in Continental Europe, as well as to the NASDAQ and the NYSE.
- Impact on Sectors - Companies with a material exposure to UK sales are likely to suffer a fall in revenues as the Pound Sterling becomes weaker. The financing of private companies backed by private equity sponsors may suffer as financial covenants of the acquisition finance are breached.
- Impact on Financial Institutions - London's role as a key global hub for Investment Banking, Trading, Private Equity and Re-Insurance is under scrutiny. This could result in reallocations of such financial services not only by continental European headquartered financial institutions such as Deutsche Bank, Axa and the like, but as importantly, private equity, debt and real estate fund managers.
- Impact on Antitrust Clearance - Acquisitions of companies which operate in several member states currently require (subject to meeting certain thresholds) antitrust clearance only from the European Commission (“one-stop-shop” principle). Post Brexit, separate antitrust filings to the UK Competition and Markets Authority might be necessary or advisable if the parties have significant UK operations. The involvement of two competition authorities could significantly complicate crafting remedies or otherwise add closing uncertainty.
- Impact on Foreign Investment Authorization - Under French law, for example, an acquisition by a non-French entity of businesses in “sensitive” areas (activities likely to impact public safety or national defense interests such as e.g. arms manufacturing or cryptology systems) requires a prior authorization from the French Minister of Economy. French law makes a distinction between EU investors and non-EU investors, for which the scope of “sensitive” activities subject to prior authorization is significantly broader. Post Brexit, UK investors (including UK-based PE funds) will no longer qualify as EU investors for the foreign investment regulations and, in the absence of further agreement, will be subject to a more stringent pre-authorisation regime. This may prejudice UK bidders in open bid processes.