In the first half of 2017, the value of cross-border M&A deals rose to $32,458m, more than double the $14,629m reported in the first half of 2016. Deal volumes fell slightly from 452 deals in the first half of 2016 to 435 in the equivalent period in 2017.
It is notable that M&A values have risen in spite of what Paul Lupton, head of UK advisory at Deloitte, described as the “fundamental uncertainty arising from Brexit”. It appears that low interest rates and, for inward M&A, a fall in the value of sterling (from around €1.35 in January 2016 to €1.15 in June 2017) have proved to be powerful countervailing factors.
Brexit as a stimulus?
In some cases, the prospect of Brexit may have been a stimulus to cross-border M&A. European law currently provides for freedom of establishment, meaning UK companies have the right to set up and manage business, and establish branches, in other EU countries, just as European companies have the right to do so in the UK.
After Brexit, freedom of establishment will no longer apply as far as the UK is concerned. Some of the cross-border M&A activity recently reported may have been prompted by a desire to mitigate this risk.
As an alternative to buying a European company, a UK company seeking to protect its position in Europe could consider a cross-border merger.
European law provides a statutory procedure whereby a company incorporated in one country within the European Economic Area (the EU, Norway, Iceland and Liechtenstein) can be absorbed into a company incorporated in another EEA country. As was mentioned in our recent article on reverse mergers, this process has been used by Formenta, a UK company absorbed by its Italian subsidiary.
This option may not be available after Brexit. Since a cross-border merger can be a lengthy process, including in some cases employee participation rights, companies considering this option should take advice soon.
An EU subsidiary
A UK company with operations in Europe could also consider establishing a European subsidiary. This may be helpful for several reasons, especially if the UK company does most of its business in an EU country in which it is a requirement that a company must be incorporated under the law of the country where its principal management decisions are made.
Establishing a subsidiary under the law of the EU country in question will enable continuity of operations when the UK ceases to benefit from the principle of freedom of establishment.
Brexit considerations for M&A deals
Of course, most cross-border acquisitions will be carried out primarily for commercial, rather than legal, reasons. In general, the effect of EU law on such transactions is limited, but the impact of Brexit should nonetheless be considered, for example in relation to the following:
• The buyer of a company with a European dimension to its business should carry out careful due diligence in relation to the target company’s supply chain, key customers and other commercial contracts. Are there risks to the company’s business from the possibility of tariffs for UK–EU trade or non-tariff barriers such as diverging regulatory standards?
• Once such risks have been identified, they can be mitigated by negotiating an element of conditional consideration, such as an earn-out, whereby part of the purchase price is payable only if the company’s future financial performance meets certain specified targets.
• The parties should ensure that the clause in the share purchase agreement specifying the law and jurisdiction applicable to any disputes is drafted so as to provide certainty and enable enforcement once the UK is no longer a member of the EU.
While the nature of the UK’s future relationship with the EU has not yet been determined, the two-year period allowed for negotiations has already begun. Whether or not an acquisition is in prospect, therefore, company directors with a European dimension to their business should consider now what steps they should take to enable successful operation in the post-Brexit environment.
Andrew Betteridge is a partner and head of corporate and commercial at Ashfords LLP
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