As COVID-19 continues to spread across the globe, we look at how organisations can protect themselves from associated risks in on-going M&A deals.
The impact of the continued spread of COVID-19 on the operations of the target company will need to be considered by both the seller and the buyer. In particular, there should be a focus on:
- The likely impact on revenues
- The ability of employees to work remotely (if applicable) should travel be restricted and any related contingency plans
- The likely impact of the virus on the ability of key suppliers of the target to perform
- The extent to which any termination provisions or rights of any material contracts of the target would be triggered – see article from our Commercial Contracts & Sourcing team on force majeure clauses here
Buyers should also look at the extent to which any COVID-19 related risks identified during the course of due diligence will be covered, or indeed excluded, under any of the target’s insurance policies.
Travel restrictions are also likely to pose obstacles to the successful conclusion of due diligence. If it is impossible to meet in person, this will hinder substantially the ability to conduct management presentations and physical site inspections.
Material Adverse Change (MAC) clauses
To the extent that the inclusion of a MAC clause has already been agreed or conceded, a seller should seek to include a specific carve-out for any COVID-19 related changes in the target’s business. A buyer however may wish to expressly include COVID-19 related risks in the MAC clause, for example, the termination of a material contract, material loss in revenues etc.
For deals that are at the stage between signing and closing, buyers may now wish to consider and take advice on their ability to exercise any MAC-related termination rights. The extent to which a buyer will be able to successfully invoke a MAC clause will come down to the specific wording used in the contract and whether it was drafted in buyer-friendly terms.
Warranties and indemnities
Buyers should consider seeking warranties on any COVID-19 related plans or assessments prepared by the seller and provided during the course of due diligence. Specific indemnities are likely to be appropriate where significant risks have been identified. For sellers, they should look carefully at any warranties being sought and make appropriate COVID-19 related disclosures or perhaps, depending on bargaining strength, seek to include a general exclusion of liability for COVID-19 related risks.
For deals that have already signed, a buyer may have a claim under any warranties which were due to be repeated on completion where such warranties no longer are true due to the impact of COVID-19 on the target’s business.
Warranty and Indemnity (W&I) insurance
If the target has significant operations or supply chain in China or other significantly affected jurisdictions, W&I insurers will be expecting to see that the deal parties have proactively assessed potential losses. For example, the insurer will likely expect to see specific disclosure from the seller on the impact that the outbreak has had on the target business, including an assessment of financial losses, potential disputes, termination rights in contracts, and/or events triggered in lending arrangements. The insurer will also be likely to test the adequacy of the buyer’s and its advisers’ investigation into the impact of the outbreak on the target business. Further, it would be reasonable to expect it to want to hear how the parties are addressing the risk of the impact worsening between signing and closing of the transaction. Deal parties should be prepared with detailed assessment and analysis of these changes.
Until the global outbreak of the COVID-19 is contained, it is likely to pose a challenge for all M&A transactions. Both buyers and sellers need to be fully aware of all associated risks and seek to address these appropriately with their counterparties at the earliest opportunity.