Takeovers in uncertain times
Uncertainty is usually a killer for M&A – especially large public takeovers. Thanks to COVID-19 we have multiple layers of uncertainty, locally and globally. Is takeover activity dead for some time? My predictions are that takeover activity will return well before the uncertainty resolves and the way in which takeovers are undertaken in Australia will need to change as a result.
The first prediction is easier to explain. In the last few years we have become accustomed to greater uncertainty and global threats. Trade wars and Brexit did not have the impact on M&A they would have had in the first few years after the GFC. It may take a while for potential bidders to work out what they think is the path ahead. But some will pursue it well before the fog of uncertainty lifts. A higher level of uncertainty will be part of the “new normal”.
Those with the capacity to make well-timed acquisitions may not have much option. In the past, potential bidders have paused major acquisitions due to global/macro threats because waiting was lower risk. However, the changes triggered by the COVID-19 mean deferring action, for some, will be more risky. For those that need to pivot, the right acquisition may be the quickest and cheapest path.
The focus of my second prediction is much narrower. It concerns the high-stakes game of listed company takeovers, which won’t be a focus for many. COVID-19 will create many less risky opportunities to acquire assets/businesses privately from distressed sellers. In some cases, however, the scale and transformational impact of a public takeover will offer irresistible benefits. There might not be many takeovers but the most successful may be the most dramatic and effective pivots of all.
However, to allow the best prospects of success, we will need to adjust the tactics and methods of takeovers to better suit the challenges. The typical approaches of recent times were developed for a different era. They are not ideal for the “new normal” outlined above.
For more than a decade, schemes of arrangement have usually been preferred over takeover bids in takeovers of Australian incorporated companies, especially in larger deals. Schemes offer targets a more central role in the process. For bidders/acquirers they give an all or nothing outcome, lower threshold (usually) to obtain 100% and greater structuring flexibility. Those advantages are usually more than enough to persuade bidders to give up their greater control of timing/process and tactical flexibility under a takeover bid.
However, the impact of COVID-19 may change that for some bidders. Timing, process, and flexibility will now be much more important. That is likely, for example, where a bidder:
believes a significant opportunity will only be available for a short period
believes holders of a significant proportion of the target’s shares are under pressure to sell quickly or
can offer cash, and wishes to use it to make a “well timed” acquisition.
Uncertainty about further “waves” of COVID-19, and the speed and shape of economic recovery, increases the importance of timing. Regardless of the aggregated position in the overall economy, I think the speed and shape of change at the level of specific industries and businesses will be extremely variable. If so, some bidders may need to move quickly even if economic recovery as a whole is slow.
Generally, there is not much difference in the time it takes to complete a scheme as compared with a takeover bid. However takeover bids still offer meaningful timing advantages for a bidder in some cases:
Shorter time to minimal risk A bidder may be able to reach a minimal level of risk in a much shorter time with a takeover bid than under a scheme. That’s because a bidder’s success in a takeover bid is progressive throughout the process – not all or nothing. Once a bid is unconditional and the bidder has 50%, the risk of not obtaining 100% is relatively low. Once the bidder has 90% it is very low. It is usually difficult for a bidder to reach 50% unless the bid is unconditional or recommended by the target. There are several tactics available to bidders to encourage acceptance, but bidders are generally reluctant to “stare down” shareholders wanting an increase and force them to make a decision. In the current circumstances however, the attraction of cash (and a careful analysis of the share register) may give bidders greater confidence.
Public risk for less time in agreed deals In agreed deals, we may see more use of off-market bids where targets agree to early dispatch of the bidder’s statement. If carefully executed, this allows dispatch of both bidder’s statement and target’s statement together, on the day of announcement. With the use of measures to encourage early acceptance, the bid can then close just one month after announcement. This means the period during which the bidder’s risk is public will be shorter than under a scheme.
Quicker from “go to woe/joy” – at a price If time is measured from the outset, rather than when deal becomes public, a takeover bid can be considerably quicker than a scheme. But there is a significant price to pay – the bidder will not have due diligence and the bid will not be recommended at announcement. The bid will be “hostile” – made without target board support – which is possible for a takeover but not a scheme. Hostile bids have been unusual in large value deals for more than a decade, and for good reason. They rarely succeed without a target recommendation, and the target will first do its best to entice a competing bid with a break fee. However, for the brave bidder, current circumstances may make some hostile bids easier. Target shareholders desperate for cash may accept quickly. A cash premium may be attractive, even at a substantial discount to the 12 month VWAP. A bidder can minimize the target’s chances of finding a “white knight” by giving no advance notice of the bid. Potential competing bidders that are foreign may struggle to get FIRB approval in time and may be distracted by their own COVID-19 challenges.
Process and tactical flexibility
Relative to schemes, takeover bids offer two main advantages regarding process:
control – the bidder is in driving seat and
flexibility – the vehicle is more manoeuvrable.
The target is usually the scheme company and that necessarily gives it a central role in a scheme. The bidder will try to ensure that the Scheme Implementation Agreement gives the bidder as much control and protection as possible. In the current circumstances, however, that has its limitations. Negotiating the tightest requirements will probably mean more delay. And going too far on deal protection may only allow a competing bidder to ignore the requirements because the Takeovers Panel would consider them “unacceptable”. Also, bidders need to consider how likely they would be to enforce the agreement if breached (noting an undertaking for damages to obtain an interlocutory injunction may be prohibitive) as well as the likely capacity of the target to pay any break fee or damages.
Schemes give bidders more flexibility than a bid in structuring, but the opposite is true as far as process and tactics are concerned. In the current climate, the latter may be most important. It’s hard to see many deals with complex consideration/structure getting up. For most, cash will be king and the quicker and simpler the path to it, the better. Unlike a scheme, which requires target acquiescence and court approval for material changes, a takeover bid allows the bidder to monitor developments and adjust its strategy as the offer proceeds. The bidder can quickly and easily waive conditions, extend the offer period and increase the offer. It can also make other more nuanced tweaks with “truth in takeovers” statements.
If I am right about this change in approach and tactics, advisers may need to go back a decade or two and revisit learnings forgotten during the era of scheme dominance.
If my predictions are right, what should Australian listed companies do?
The implications can most usefully be addressed once a company has formed views on what is likely to lie ahead for its business and industry. Currently there will probably be a high degree of uncertainty about those views and key assumptions. If that does not ease, at some point, decisions may need to be made regardless.
Companies should consider what relevance, if any, takeover activity may have for them, both as potential acquirers/ bidders and as potential targets. Some will not have capacity to bid and some will be unlikely to be targets. But given the extent to which the world has changed, it’s worth revisiting assumptions for those conclusions.
Potential bidders should evaluate their M&A options without ruling out potential targets whose support is highly unlikely. All options need to be considered on a risk-adjusted basis. An agreed merger effected by scheme may still be preferred to a hostile takeover, other things being equal. But inevitably there will be greater uncertainty about the response to any approach. The risk that an approach will undermine the prospects of a viable takeover bid must also be considered. In the new normal, the risk-adjusted benefits of a well executed hostile bid may not be excessive relative to other options. Where the potential benefits justify it, those risks should be properly assessed following careful consideration of the target share register and outcomes at various acceptance levels.
Potential targets should carefully consider their own share registers and points of vulnerability. Some companies that would have been hunters may now be the quarry. They should consider their tactics if approached or pursued.
Many larger companies will already have a takeover response manual. They should update it and consider what COVID-19 may have changed.
For other companies, here are some initial things to do/consider:
ensure adequate and timely monitoring of media regarding the company
analyse recent changes to the company’s share register and monitor further changes closely
engage with substantial shareholders
consider the company’s disclosure and whether there is information within the continuous disclosure “carve-outs” that should be disclosed
prepare an action list (and draft announcements) to respond to a hostile bid (noting that the company may not learn of it before the market)
consider what advisers to engage (and obtain their best contact details)
consider who might be likely to bid for the company and how the company would respond.
The world is much more uncertain and unpredictable than it was six months ago. Hopefully that will ease in time, but we need to factor it into our planning until it does.