M&A Trends with Regards to COVID-19 in Russia
By Kristina Ikayeva, Nektorov, Saveliev & Partners
The COVID-19 pandemic and the unprecedented restrictive measures introduced by the Russian government to combat the virus have had, and continue to have, a significant impact on various aspects of business. M&A transactions are certainly not an exception to this.
The first quarter of 2020 did not fully reflect the crisis caused by the pandemic in the M&A market. Statistics show that in the first quarter the M&A market showed an increase in activity compared to the same period of the last year. However, this was most likely due to the agreements of the parties to M&A transactions on their closing dates, the implementation of which occurred in the first quarter of 2020. Later, the COVID-19 pandemic caused business to make adjustments, and since the beginning of the period of restrictive measures (quarantine), introduced by the executive Order of the President of Russia on 02 April 2020, there has been a significant decrease in the number of M&A transactions, and this tendency is expected to remain till the end of this year.
Meanwhile, active growth in M&A transactions is expected in those industries that maintained business activity during the period of quarantine: industries such as medicine/pharmaceuticals, online services, and IT. A rise in M&A activity is also expected in those industries and for those companies that require redistribution of property due to financial diffculties caused by restrictive measures. Several key trends that will determine M&A activity in 2020 in connection with the pandemic should be highlighted.
First, the variety of sectors of the economy in which M&A transactions are concluded has been reduced and will continue to be. This trend will increase as investors are less interested in the industries that suffered during the period of quarantine. Nevertheless, M&A activity should increase in industries that are able to actively work and develop during the period of quarantine. Second, foreign participation in M&A transactions will be in decline. This is due not only to the negative consequences of quarantine, but also to continuing sanctions against Russia. It is expected that the United States and European Union will impose tougher sanctions and Western and European investors will be extremely cautious about getting involved with Russian business. At the same time, sanctions open access to the Russian market for other investors, for example, from Asia (subject to limitations associated with the US secondary sanctions).
Third, a change in the structure of M&A transactions is expected. M&A transactions are usually structured as a sale of company shares (share deal) when the buyer acquires an active business with its assets and liabilities. As a result of quarantine and the crisis, it is expected that M&A transactions will be structured as a sale of assets (asset deal), and not as a sale of shares (share deal). The buyer will seek to acquire only the needed assets that bring benefits. Thus, uncollectible receivables, disputed payables, fines, litigation, and other liabilities will remain with the company itself and will not be transferred to the buyer.
Fourth, the conditions for closing transactions will be tightened. This trend is already actively in place, and not only in relation to M&A transactions. The conditions for concluding a transaction are dependent on issues that are studied as part of the due diligence of the target company. The buyer seeks to assess the degree of negative consequences for the target in connection with the crisis, including the following issues: risks of nonfulfilment or termination of key agreements, bad receivables with poor possibility of collection, debts, and disputed accounts payable.
The buyer should also determine whether the target company belongs to the sectors affected by the COVID-19 pandemic, since the government provides support for recovery and development for such companies. Also, special attention should be paid to the conditions of exclusion and limitation of liability, and the representations of the seller and the target company as for the consequences of restrictive measures affecting the financial condition of the target.
Fifth, there will be a change in the procedure for evaluating a business and, accordingly, determining the value of a transaction. When determining the value of a business, mechanisms for adjusting the price of a business will be more actively used based on the financial condition of the company at the closing date of the transaction, and not, for example, at the date of the latest reporting. Such an evaluation of the business will most realistically reflect the financial condition of the target and will ensure the interests of the buyer in terms of the fair value of the acquired business.
It is evident that negative consequences of restrictive measures and the ongoing crisis will push sellers to look for sources of investment capital to prevent the undesirable ramifications. Many companies have seen their financial indicators abruptly worsen, so multiple transactions will be of a forced nature. Therefore, sellers will be interested in merging with the major players in the relevant markets, including on unfavourable conditions, in order to save their businesses. Otherwise, sellers will have to sell a non-core business, at a below-market price, so that the proceeds of the sale are used as urgent support for the main business.
As for potential business acquirers, the falling price of the assets will certainly create new possibilities for them. Investors who are ready to take on increased risks in a situation where the target business is in a situation of uncertainty, due to the consequences of restrictive measures, will be able to purchase the asset at a low cost.
Kristina IkayevaGGI member firm
Nektorov, Saveliev & Partners
Law Firm Services
Moscow, Russian Federation
T: +7 495 646 81 76
Published: GGI Insider, No. 108, July 2020 l Photo: Sergey - stock.adobe.com