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M&A deals still flowing but in a buyer's market

|Written By Robert Todd

Merger and acquisition lawyers say deals are still flowing in the midst of tight credit markets, but buyers now have the advantage and are calling on counsel to make sure agreements are airtight.

Sharon Geraghty

"I think there's been a real shift to a buyer's market," says Torys M&A partner Sharon Geraghty. "We will see that even more in the year ahead."

Torys recently published its "Top 10 Trends for 2009," which envisages an M&A market that, in many ways, has been turned on its head.

Aaron Emes, another Torys M&A partner, says during the height of the easy-lending markets, a target company that received an offer or decided it would seek acquisition, would conduct an auction process and play bidders off one another to get the best possible offer, with the buyer taking on the bulk of the financing risk.

But the recent financial downturn, says Emes, has seen a deterioration of credit markets, which has made it tougher for private equity firms - which previously fuelled deals and squeezed out strategic buyers - to borrow money. That's caused many purchases, like the now-defunct $32-billion BCE Inc. deal, to cave in, he says.

"As people started seeing these deals shifting, and realized they couldn't get easy financing anymore, there started to be a shift in the M&A market," says Emes. "Certainly the pendulum is now shifting to a market that is favourable to buyers now as opposed to sellers."

With the bulk of deals coming from strategic buyers, Torys sees a number of trends emerging in 2009:

•    buyers will look to widen the scope of material-adverse-effect outs. For example, even if the company itself isn't threatened, clauses may be created to quash the deal based on general problems within the industry;

•    buyers will insist their loan agreements are completely tied up upon signing a binding purchase agreement to ensure banks don't walk away before closing;

•    buyers are likely to seek stronger deal-protection terms. For example, forcing the seller to enforce standstills established during the auction process; and

•    buyers will require more forceful asset lockups, such as guaranteed controlling shares, to keep other buyers from coming into the picture.

Emes adds to that list an expectation that buyers will seek exclusive negotiation agreements, and sellers that previously would have laughed off such requests will be more amenable.

These factors, notes Geraghty, beg the obvious question: why sell?

"The sellers will be sellers that have to sell," she says. "That could be companies in distress . . . and distress could come about in a number of ways. One way I think we will see is with companies with debt that they have to refinance, for example, that want to restructure their debt and just aren't able to get refinancing."

In the past such quagmires often led to massive, court-protected restructurings, but that can't happen without some new money coming into the picture, notes Geraghty. It's getting much harder to get financing under those circumstances, she says, which means they may have to sell assets under a tough negotiating position.

Geraghty also expects an influx of income trusts will come up for sale nearing the end of 2009, with tax breaks for such entities ending in 2011. The Torys lawyers also expect M&A activity to arise as governments spend public funds on infrastructure projects to prop up the ailing economy, while at the same time selling off assets to replenish coffers.

Well-capitalized strategic buyers also will view the current economic situation as a good time to buy, she says. Emes adds that such buyers will benefit from the ability to offer shares when making purchases, and shareholders are likely to prefer stakes in a stronger company.

So while there was unease among M&A lawyers as the capital markets shut down, says Geraghty, deals have not evaporated. She's confident that law firms can continue to gain meaningful revenue from mergers and acquisitions.

"I'm always an optimist, so I'm probably in a sense not always the right person to ask, but I . . . see M&A shifting in nature," she says. "I do think there will be less, let's be frank, there's less, and I see that continuing into 2009 for sure."

The shift to a buyers' market will force lawyers to change their approach. The Torys lawyers say an immediate consequence of parties trying to back out of deals has been heightened attention to the wording of agreements.

"As M&A lawyers, one of the things everyone - not that they didn't spend time on it before, but maybe focusing even more on - are the dispute resolution provisions in these agreements," says Emes.

Geraghty says clients have a new interest in these issues during negotiations.

"I think lawyers will find clients are going to be asking a lot more questions about 'what if,' and wanting their lawyers to be sure that they are protected in the way that they thought they would be if the deal goes a certain way," she says.

"Nobody wants to be involved in litigation, so I think that avoiding the courtroom, it was always in our mindset, but I think now clients have seen that deals have ended up in the courtroom, and they don't want to be one of those deals. They want us to really make sure their documents are much tighter."

Geraghty is optimistic the market will recover in time for 2010, while Emes suggests it will be a lot longer - if ever - before things return to their 2007 levels. But regardless, says Geraghty, this is a great time for M&A lawyers to gain knowledge.

"This is going to be a time of great learning for lawyers, and for bankers, because a difficult market is always an incredibly interesting market to learn in," she says. "And you will never forget it once you've been through a difficult market.

You will never forget that deals can go sour, and that the markets can close down, and so learning that when you're young is great."

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