Private equity investment shaped by coronavirus crisis

Ed Stead of Pinsent Masons, the law firm behind Out-Law, was commenting after Pinsent Masons published an annual review into deal terms and trends in the M&A and private equity markets. The report provides insights gleaned from 190 UK-led transactions that Pinsent Masons, Howden M&A and Arrowpoint Advisory advised on in 2019, which together were worth a total of £12.5 billion.

"The advent of the Covid-19 virus and what looks like a potentially difficult post-Brexit trade negotiation with the EU means buyers and sellers will continue to face significant uncertainty and deal volumes are likely to be suppressed," Stead said.

"In the short term, private equity funders will focus their attentions on managing their existing portfolio companies particularly as they navigate their way out of lockdown, but later this year we anticipate private equity will look to take advantage of pricing adjustments borne out of the current economic crisis by targeting both P2P transactions and private company acquisitions. Where activity is currently continuing, this is typically in what are perceived to be more robust/less impacted sectors such as IT and infrastructure where companies are more resilient to the impact of the Covid-19 crisis," he said.

The new report found that despite "testing" economic conditions, and political uncertainty arising out of Brexit and international trade tensions, "there were strong levels of M&A activity, particularly by private equity houses or private equity backed companies" in 2019.

"Our experiences in 2019 indicate that a strong asset in the right sector will attract the attention of hungry private equity and trade bidders," the report said. "Private equity bidders in particular showed a strong appetite to compete, and pay full prices, for the right assets, demonstrating that they are willing to take a strategic and longer term view on asset selection. We anticipate that, once we are through the current deal-making hiatus, these trends will continue during 2020, though clearly we may also see a number of supressed valuations which could attract distressed and special situations funds."

The report highlighted growth in the proportion of deals using warranty and indemnity (W&I) insurance – 93% of all private equity buy-outs surveyed and 55% of all deals involving private equity more broadly. It also identified a decline in the popularity of 'material adverse change' (MAC) clauses in sale agreements. MAC clauses commonly provide leeway to buyers to reduce the amount they must pay to acquire target companies where events come to light that negatively impact on the target company's financial position or prospects.

Ed Stead of Pinsent Masons said the reduced popularity of MAC clauses "is not particularly surprising": "MAC clauses present significant transaction uncertainty and where there is any degree of competitive tension in a sale negotiation, the sellers have typically managed to resist them. As debt lenders re-assess their approach to equivalent clauses in their lending agreements in light of Covid-19, it will be interesting to see whether they also become prominent in sale transactions during the course of 2020."

According to the report, 35% of private equity transactions analysed involved staggered payments in some form – "an element of deferred consideration". Most deferrals were typically for six or 12 months where they applied to private equity deals.

Stead said: "Whilst we do need to remember that our survey counts bolt-on acquisitions as private equity transactions, this does indicate that private equity bidders are prepared to supplement the potential offer of equity in their buyer group with consideration structures which drive appropriate behaviours and bridge gaps in price expectations."

Review of deal terms and trends in the M&A and private equity markets