Making Private M&A Transactions Happen in a Challenging Economic Market

Private Lending

Private lending commonly refers to loans made by debt funds or other non-financial institution lenders.  Large private equity players such as Blackstone, Apollo, Oaktree, Carlyle, among others, have established dedicated debt funds and taken a larger share of the lending market in the last decade, typically in transactions where traditional bank financing is not available due to tightening lending standards, industry sensitivities or structural complexity. For example, traditional lenders may be less willing to offer junior or mezzanine debt financing which is subject to prior ranking senior debt, or where the nature of the business or the collateral package may increase enforcement and realization risk beyond the tolerance of commercial banks. Private lenders can often create bespoke structures that meet a buyer’s specific needs for a particular transaction and provide additional flexibility. Though loans from private lenders can be more expensive than traditional bank loans, buyers have nevertheless chosen this option where regulatory, capital, and other constraints have reduced the ability of banks to provide sufficient debt on optimal terms.

Business Division and Asset Carve-Outs

Where the valuation and/or funding deadlock cannot be broken through the methods mentioned above, parties may consider excluding from a transaction certain assets that present the largest points of contention over appraisal. Specific business divisions or assets that are difficult to value given market uncertainty are increasingly being excluded from transactions and/or sold to secondary buyers to avoid pricing disputes. For example, in connection with a sale to a financial buyer, a seller may choose to divest one or more business divisions to a strategic buyer that can realize certain synergies in future operations. Pursuing these alternatives allows buyers and sellers to avoid protracted negotiations over asset valuation or purchase price multiples concerning the excluded assets. This solution also allows sellers to realize ongoing value and recurring revenues from carved-out assets while waiting for the market to stabilize and valuations to crystalize. In some instances, where the excluded assets are utilized by the target business, this mechanism further may align the interests of buyers and sellers through ongoing commercial relationships (e.g., where a business continues operations on retained real estate that is leased to the target post-closing). Before executing a carve-out transaction, parties should consider the additional complexity and costs, including any transitional services arrangements required to support the target business post-closing.

Partial Acquisitions, Equity Rollovers and Buyer Exit Participation

Where a valuation gap or other deal challenges persist, a buyer may agree to acquire less than 100% of a target business. A partial acquisition is sometimes coupled with a put and/or call option allowing the buyer to acquire the remaining stake in the business at a later date and at a price based on a formula agreed to by the parties at closing. As with earn-outs, buyers require less upfront capital, allowing for deferred financing costs where the transaction is being financed by debt and mitigating the current high-interest rate environment. When coupled with a put/call for the remaining stake, partial acquisitions further connect the purchase price with actual results and provide optionality. While sellers do not receive the same level of return up front as they would selling the entire business, they are provided partial liquidity and the opportunity to participate in the upside of the business following closing. Partial acquisitions can also further align the parties where sellers retain a management role after closing.

The put/call structure allows parties to negotiate a formula to determine the appropriate price at which the remainder of the business will be acquired. The key metrics used to determine the remaining purchase price (e.g., earnings, revenue, sales, EBITDA), the period in which such options can be exercised and other terms of the put/call structure will be specific to the transaction and will often require significant negotiation. Given the performance of the target will generally determine the ultimate purchase price for the remaining stake, the parties should ensure that an appropriate governance structure is in place after the initial closing. This may include minority interest protections such as board nomination rights, consent rights over material decisions, and other operational controls.