The moribund credit markets have stalled financing for more than a year and staunched the flow of merger and acquisition deals, but some intrepid lawyers are using extraordinary deal structures and creative financing to close deals.
Lawyers say the deals still happening are between motivated buyers and sellers willing to think outside the box while at the negotiation table.
“We’ve definitely come across a couple of strange ones in the last couple of months,” said Stephen Boyko, a Boston corporate partner and co-head of the junior capital group at New York-based Proskauer Rose.
In one recent example involving a strategic merger of two companies, the rare, two-pronged merger agreement called for the buyer to issue cash and stock to the target’s shareholders. Alternatively, the buyer could give the target’s shareholders secured notes for some of the cash portion of the deal if the buyer couldn’t raise cash through third-party financing.
In other deals, the acquiring company gives the target company’s stockholders some notes and equity in the newly combined company as part of the payment, a departure from traditional leveraged buyout payments of cash.
Some deals recently funded by private equity companies’ debt funds, or special investment companies, now have unusually strict deal terms requiring the funder to come through with the financing if the seller holds up its end of the deal.
In the shrinking investment banking sector, the swift acquisition of The Bear Stearns Cos. Inc. by JPMorgan Chase & Co. sailed through without a standard shareholder protection allowing the buyer to back out if the seller’s business suffered a material adverse change.
Scarce credit has dampened M&A activity in the first half of the year, according to Thomson Financial data. Total completed deal volume fell by 29.4% worldwide to nearly $1.3 trillion, compared with $1.84 trillion in the first half of 2007. In the Americas, completed deal volume dipped by 49.7% to about $488 billion, from more than $970 billion in the first half of 2007. The total number of deals in the Americas slid to 4,973, compared to 6,080 in the first half of last year.
Many completed deals aren’t cookie-cutter M&As. The shaky banking and investment banking sector, for example, spawned a structurally unusual deal when JPMorgan bought Bear Stearns in a stock-for-stock buyout deal in May, said Nick Demmo, a corporate partner at New York’s Wachtell, Lipton, Rosen & Katz who worked on JPMorgan’s advisory team.
The deal was done under duress, with guarantees for up to $29 billion in Federal Reserve financing, and without much worry about shareholder approval or common protections.
About a week after the deal announcement in March, for example, the companies entered into an agreement for JPMorgan to buy newly issued Bear Stearns shares that resulted in JPMorgan owning 39.5% of Bear Stearns’ stock.
Although JPMorgan bought additional shares on the market, it was never the majority shareholder, Demmo said.
The deal sailed through shareholder voting despite the ownership issue and lack of a clause requiring that the seller hadn’t experienced a material adverse change in its business, Demmo said.
“It was very unusual and shows it was not a typical situation,” Demmo said.
Show the money
Beyond the Wall Street crisis, companies are doing more deals with strategic partners in their own industry, but those that opt for a private equity deal are “requiring some showing from the private equity sponsor that the money is going to be there,” Boyko said.
A concept called the “certain funds provision,” which is fairly common in United Kingdom deals, has recently surfaced in U.S. mergers and acquisitions involving private equity credit funds, said Boyko. The provisions require the parties providing the financing to fund the deal unless there’s a breach of the seller’s representations in the acquisition agreement.
According to Boyko, all lenders were subject to a certain-funds provision in the Sept. 12 acquisition of The Weather Channel Cos. by a consortium including NBC Universal and the credit affiliates of private equity firms Blackstone Group L.P. and Bain Capital LLC. Boyko represented Bain’s credit affiliate Sankaty Advisors LLC, which was one of the mezzanine lenders for the deal.
“We’ve seen sellers getting antsy about financing,” Boyko said. “They want to see that the money is there before they sign up exclusively with someone.”
The certain-funds provision is also being used in much smaller deals involving private-equity credit funds, Boyko said, including acquisitions with financing in the $50 million to $100 million range.
Some companies are negotiating the deal they want and a just-in-case option if bank money drives up.
When online retailer United Online Inc. wanted to buy floral retailer FTD Group Inc. earlier this year, for example, both parties agreed to two possible deal options as United Online scrambled to nail down bank funding for some of the purchase price. United Online ultimately bought FTD for $754 million in cash and stock in August, but the alternative deal involved cash, stock and United Online senior secured notes in case United Online’s bank financing fell through.
FTD’s lead lawyer, Howard A. Sobel, a New York corporate partner at Latham & Watkins, called the deal one of the more complicated deal structures he’s worked on in about 30 years. “The proxy statement prospectus covered the United notes [option] in case those had to be issued,” Sobel said. “We put in place all sorts of toggles to ensure that the cash would be there, and if not, we would have plenty of time to issue the notes.”
Everyone involved truly wanted to close the deal, but financing became harder and harder “particularly in the dark days of March,” said United Online’s lead lawyer, Brian J. McCarthy, a Los Angeles corporate partner at New York-based Skadden, Arps, Slate, Meagher & Flom.
“But for everyone saying we need to get creative here, there just wouldn’t be a deal,” McCarthy said.
In other cases, buyers are giving equity back to the acquisition target as a portion of the deal price.
Ethan A. Klingsberg, a partner at New York’s Cleary Gottlieb Steen & Hamilton, cited a deal involving the acquisition of one of his client’s subsidiaries that returned some equity back to the seller, because the private equity’s portfolio company couldn’t gather enough cash from other financing sources.
“The seller, in effect, acted as one of the financing sources,” Klingsberg said. “That’s a creative way of getting around the fact that the banks are not there. You basically use seller financing.”
Cerberus Capital Management L.P.’s portfolio company, paper manufacturer NewPage Corp., bought the North America subsidiary of paper and packing maker Stora Enso Oyj in December for more than $2.5 billion, including giving Stora Enso 19.9% of the new company’s shares. Klingsberg represented Stora Enso. Cerberus Capital referred questions to NewPage, which did not return a call for comment.