Cross-border acquisitions are becoming ever more popular, as US companies seek to enter overseas markets quickly and without the delay and logistical hurdles of building organically. Europe in particular has been a destination of choice where markets are mature, talent is readily available, IP can be protected, taxes are predictable and business cultural is familiar. What therefore could possibly go wrong?
The answer is that assuming the right diligence has been completed on the target and local advice has been sought, risks can be minimized and management time focused on integration and growth. Regrettably the failure rate remains unacceptably high, in the most part because not enough time or attention is given to the cross-border nature of the transaction.
Lots of laws in the mix
The overseas acquisition process has a number of unfamiliar aspects for US buyers which can be further complicated when inconsistent terms are applied to the deal. Most often the inconsistency comes in the shape of the acquisition agreement being governed by a law which is not that of the target’s location. Whether acquiring shares or assets, the laws which apply to the operations of that target business, its people, IP and disputes will be the jurisdiction in which it is located. When foreign laws are applied to the transaction (and most often for US buyers, that means a US state law), the result can be a mixture of laws relevant to the structure and interpretation of the document which sets out the deal and the laws which apply to the business itself.
The risk with assuming that local US laws work overseas is that both parties may come at an issue from a completely different perspective. This can not only mean protracted negotiations where a simple issue becomes a material roadblock purely because each side is misunderstanding the other party’s position, but in a later dispute the interpretation of a breach may be ruled in a different way through a court’s (mis)understanding of the issue in question.
However, many large serial acquirers insist on using their form agreements and have the negotiating power to insist on their local governing laws. Most willing sellers will accept the position and this is often agreed at an early stage perhaps before lawyers have been instructed.
Tailoring reps and warranties to the target’s legal environment
Irrespective of governing laws, it’s important for reps and warranties to be drafted appropriate to the target business. For European deals, warranties related to employment are likely to span many pages due to the enhanced employee rights in the region. Using the wrong terminology or misunderstanding the scope of those laws may lead to significant gaps in protection if a buyer subsequently needs to bring a claim. European employment issues are always an obvious example to highlight, but issues around stock options, tax, real estate, IP and even company structure and transfer of ownership (of shares or assets) mechanisms can be different.
“Hidden” deal terms and completion formalities
Civil law jurisdictions will often imply many terms into the deal which means that, whilst agreements can sometimes appear shorter and more straightforward than their US equivalents, there are “hidden” terms, something which can be unsettling for US buyers who expect the deal documentation to set out the totality of the contractual relationship between the parties. Execution of the transaction may often include additional formalities (eg notarization) which would not usually be part of the closing process in the US. Indeed, closing itself is often simultaneous with signing (particularly in the UK for private company acquisitions) and so MAC clauses are rarely needed.
Recovery under reps and warranties
Recovery under reps and warranties should not be assumed to always be on a full indemnity basis (certainly in the UK indemnity-basis recovery is the exception rather than the rule and generally the preserve of the buyer in a very strong negotiating position) and disclosures will often apply to all warranties given – provided such disclosure is reasonable. Escrows are not automatically assumed to be a part of every deal and in many cases retention accounts are held between law firms rather than escrow agents. It is rare for UK lawyers to accept “representations” (which gives access to a restitutionary measure of damages to put the buyer in the position they would have been in had the breach not occurred), preferring solely “warranties” (where the measure of damages is to put the buyer in the position they would have been in had the contract been performed). On the flip side, vendor protections are in some respects more generous to the buyer in Europe – often leaving all consideration at risk, versus a limited proportion in the US (although this is moving toward US convention in parallel with a move to increased escrow coverage). Warranty insurance is becoming more popular across the EU, as parties seek to retain or protect their consideration and to fill shortfalls when institutional selling shareholders refuse or limit their liability.
Bridging the deal culture gap
As with all aspects of doing deals, every transaction is different and cross-border deals often includes aspects of deal shape from both jurisdictions. This can often be an emotional issue where an overseas target and their lawyers receive a first draft SPA which looks like a US agreement (and is often drafted on an extremely buyer-friendly basis rather than more balanced starting point). The shape and feel of the document can often cause friction and is often the first point at which the governing law issue comes up. Appreciating what market standard looks like in each jurisdiction is often a useful conversation to have before any drafting is started. Similarly, negotiation style, the integration process and the cultural aspects of a deal will not be covered in the term sheet, but can easily make or break the deal. Indeed, if there are plans to re-organize the target post-closing, thought should be given to how achievable and in what timeframe such adjustments can be made.
There are many more issues which can be covered and the purpose of this article is simply to highlight that there are multiple differences in doing domestic deals versus cross-border. My experience is focused on US to EU but the list of issues multiplies when considering deals being done in other regions and once a target has been identified, thought should be given to how best to approach the deal and almost more importantly, how the target company will enhance the buyer’s business. Globalization is part of most business’ strategy and M&A is an efficient method to achieve those objectives – but of course, that is only if it is implemented in the right way.
Compliments of Osborne Clarke – a member of the EACCNY