Edward D. Herlihy is partner at Wachtell, Lipton, Rosen & Katz. This post is based on a Wachtell memorandum by Mr. Herlihy and Jacob A. Kling. Related research from the Program on Corporate Governance includes Are M&A Contract Clauses Value Relevant to Target and Bidder Shareholders? by John C. Coates, Darius Palia, and Ge Wu (discussed on the Forum here); Allocating Risk Through Contract: Evidence from M&A and Policy Implications by John C. Coates, IV (discussed on the Forum here); The New Look of Deal Protection by Fernan Restrepo and Guhan Subramanian (discussed on the Forum here); and Deals in the Time of Pandemic, by Guhan Subramanian and Caley Petrucci (discussed on the Forum here).
Significant volatility continues to disrupt the equity markets, with the major stock indexes swinging multiple percentage points often on a daily basis. Inflation, rising interest rates, the Ukraine crisis, continuing effects of Covid-19, lasting supply chain issues, a difficult regulatory environment, and uncertainty regarding the global and U.S. economies have had an undeniable impact on the pace of M&A activity so far in 2022. While the opening months of 2022 have witnessed a number of significant transactions despite these headwinds, most have been all-cash deals, with only a handful of large stock or cash and stock mergers announced to date, among them the Take-Two / Zynga cash and stock transaction and, most recently, Intercontinental Exchange’s $16 billion acquisition of Black Knight announced last week. Many M&A professionals have seen at least one, and in some cases multiple, potential transactions fall victim during the negotiation stage to the effects of economic uncertainty and market volatility over the past few months, and overall M&A is down roughly 25% globally in 2022 as compared to 2021.
These issues are compounded by the increased scrutiny of and potential regulatory opposition to large scale M&A from the antitrust agencies, and the resulting extension of the interim period between transaction signing and closing. This additional regulatory delay means that transactions, and in particular deals involving stock consideration, are increasingly vulnerable to market risk over a longer time horizon. We outline below certain transaction structures that can be deployed to shift or address certain of these risks to account for the greater volatility in the current market environment. Which structure makes sense in any given transaction will depend on the parties’ objectives, the perception of the relative risks in the particular transaction, and bargaining power. Traditional fixed exchange ratio deals remain by far the most common pricing structure for all or part stock transactions, but as this period of economic, regulatory and market uncertainty persists, we expect that transaction participants may increasingly consider certain variations as possible alternatives to shift or address market risk and volatility during a protracted sign to close period.
