Last week, we posted an article summarizing the key findings in the American Bar Association’s (ABA) recently published 2014 Canadian Private Target M&A Deal Points Study regarding financial provisions and pervasive qualifiers.
As previously noted, the study analyzed 60 acquisition agreements of private targets by public companies, covering transactions that were signed in 2012 and 2013.
In this post, we have summarized the study’s key findings in respect of conditions of closing and indemnification. These results offer valuable information and benchmarks for transactions involving a private target and provide useful comparative data points demonstrating notable trends from pervious iterations of the study as well as valuable comparisons against similar data points in the ABA’s 2013 U.S. Private Target M&A Deal Points Study.
Conditions to closing
- For transactions with a deferred closing, 74% of deals required the target’s representations and warranties to be true at closing only (down from 82% in 2012 but consistent with the 2010 study at 71%). 25% of transactions surveyed required the representations to be true both at the time of signing and at the time of closing, and only 1% required the representations and warranties to be true only at the time of signing.
- The most common standard of accuracy for the target’s representations and warranties at the time of signing were that they be true in all material respects (67%). By contrast, at closing, the most common bring down standard was that the seller’s representations and warranties are accurate, except where the inaccuracies would not reasonably be expected to have an MAE at 43%, followed by “accurate in all material respects” at 36%. The following table summarizes the 2014 study’s findings with respect to the standard of accuracy of the target’s representations and warranties:
|Standard at signing||Bringdown standard
|“Accurate in all material respects”||67%||36%|
|“Accurate in all respects”||13%||23%|
|“Accurate, except where inaccuracies would not reasonably be expected to have a MAE”||20%||43%|
- One significant cross-border difference between transactions surveyed the 2014 Canadian Deal Point Study and the ABA’s 2013 U.S. based counterpart relates to the “double materiality scrape”. In the Canadian study, only 18% of transactions surveyed contain language carving out double materiality qualifiers. In the U.S., that proportion is reversed, with 86% of transactions carving out double materiality qualifiers in the bringdown.
- The requirement to deliver a legal opinion (non-tax) was less prevalent in recent transactions with only 40% of deals requiring such an opinion (compared to 55% in 2012 and 56% in 2010).
Indemnification periods have been decreasing
- There appears to be a trend towards shortening the survival period of representations and warranties and the timeframes within which general claims may be asserted. The most common survival period across deals surveyed is now 18 months (29%), which increased significantly in frequency over the 2012 (12%) and 2010 (14%) deal studies. The next most common survival period is 24 months (23%), which was the most common survival period in the 2012 (47%) and 2010 (31%) deal studies. Following closely is the 12 month survival period (21%), which shows a slight increase from 2012 (17%) and 2010 (18%).
- The most common carve outs to survival/time to assert claims continue to be in respect of taxes (76%), fraud (66%), due authority (55%) and due organization (51%).
Sandbagging – the Canadian experience continues to differ from the U.S.
- Canadian transactions continue to be significantly less likely than their U.S. counterparts to contemplate “sandbagging” provisions, wherein a claimant specifically is not (pro-sandbagging) or specifically is (anti-sandbagging) precluded from indemnification or other remedy based on a representation, warranty, covenant or obligation which the claiming party knew to be untrue or breached prior to the closing date. Only 29% of Canadian transactions studied contemplated “sandbagging”, (whether pro -or anti), with the remaining 71% silent on the matter. These proportions are largely consistent with the 2012 and 2010 deal point studies (at 67% and 69% respectively). Of transactions that did contemplate sandbagging language, the proportion of pro and anti-sandbagging clauses were roughly split down the middle, with 15% containing pro sandbagging language and 14% containing anti-sandbagging language.
- By contrast, the ABA’s U.S. 2013 deal points study indicated that sandbagging provisions were included in just over half of the deals studied (51%), of which the large majority, 41% contained pro sandbagging provisions, and only 10% contained anti-sandbagging provisions.
Indemnification baskets remain common, but there is a trend towards more carve-outs
- The use of indemnification baskets continued to be prevalent in the 2014 study. 50% of all transactions surveyed contained a “first dollar” basket which was triggered once a certain threshold was passed (down from 59% in 2012, but higher than the 40% in the 2010 study). A further 36% contained a deductible concept (up from 14% in 2014 and 29% in 2010). 6% of all deals had a combination of “first dollar” and a deductible, while 8% had no indemnification basket whatsoever.
- Fewer transactions in the 2014 study had a deductible or “first dollar” threshold below 0.5% of the transaction value. 42% of baskets were 0.5% or less of the transaction value in 2014, which was down from 52% in the 2012 study and 50% in the 2010 study. The mean deductible as a percentage of transaction size was 0.73% in the 2014 study (compared with 1.0% in 2012 and 1.76% in 2010), and the mean “first dollar” threshold as a percentage of transaction value was 0.96% (compared with 0.43% in 2012 and 0.75% in 2010). 72% of all transactions surveyed had a first dollar or deductible basket value of 1% of transaction value or lower.
- The 2014 report shows a continuing trend towards the use of carve outs from the liability baskets. The most common carve outs are for the seller’s fraud (48%), breach of representations related to due authority (32%), due organization (30%) and taxes (30%). Increases were in the order of 10-15% over the 2012 study in each case.
Liability caps continue to decrease but remain significantly higher than in the U.S.
- 90% of the transactions surveyed in the 2014 study had some form of overall cap on liabilities. Notably, the overall amount of the cap continues to decline. In 2014 only 25% of the transactions with a determinable cap had a liability cap equal to the purchase price (compared to 40% in 2012 and 45% in 2010. The mean and median amount of the liability caps were 49% and 40% respectively. Despite this declining trend, as compared to the 2013 U.S. private target deal point study, the average cap amount (as a percentage of transaction value) remains considerably higher in Canada. Whereas in the U.S. 89% of deals had a cap of 15% or lower, with the most frequent range being less than 10%, in Canada, only 23% of transactions had a cap of 15% or lower, and 42% of transactions had a liability cap between 50% and 100% of the purchase price.
Two of Norton Rose Fulbright’s Toronto partners helped produce the 2014 ABA study. Troy Ungerman, co-chair of Norton Rose Fulbright’s Canadian mergers and acquisitions team, was an Issue Group Leader and Michael Caruso was a member of the Working Group. The study, which analyzes publicly available acquisition agreements for transactions signed in 2012 and 2013 is available to ABA members on the Market Trends Subcommittee webpage.