Editor: Please describe your M&A practices. On which industries do you focus?
Papa: My practice is based on the representation of companies (rather than private equity sponsors), significantly weighted towards cross-border M&A, although not exclusively. In my practice, cross-border largely means representation of French companies doing acquisitions that are either inbound to the U.S. or truly multijurisdictional. I have concentrated on industrial deals, including specialty chemicals and related industries, telecom equipment, technology and financial data services.
Horwitz: I am a general M&A corporate and securities lawyer, representing the full range of both strategic and financial buyers. In recent years, while continuing to do deals in other industries, I have focused more on businesses that are related to real estate – from the lodging and gaming industry to real estate in a broad sense, including warehousing, industrial, office, retail and the like. I head our private equity real estate practice.
Editor: After a slow period, M&A activity seems to have picked up. In which industries are you seeing increased activity?
Horwitz: Certainly the real estate side has been booming as can be seen in the volume of REIT mergers that we have been involved with. One of our clients, American Realty Capital, has been one of the most acquisitive buyers, having just signed an $11.1 billion merger that we handled for them. Many investors think of real estate as a separate asset class, and there has been a shift to that class in terms of activity, particularly with interest rates remaining so low.
Sovereign wealth funds are some of the biggest investors in the real estate space. We represent a number of them, including some of the very largest. Their appetite is robust, and I expect their rate of acquisitions to continue, as is indicated by the new construction in which they are engaged. We have done deals for these clients in office, retail, residential and especially hospitality. They are always in the market because they have so much to invest.
We are seeing technology transactions also on the rise, but not at the same feverish pace.
We just handled the acquisition by a Spanish-based pharmaceutical company of a division of Novartis. This transaction is reflective of the types of cross-border transactions that we are seeing: complex transactions in the cross-border context, particularly with management teams that do not have huge teams in the United States or elsewhere.
Editor: What is the breakdown among strategic buyers vs. financial buyers from your own observation?
Papa: We see a mix of sponsor and strategic deals, both in our practice and in the market generally. While deal count is down over the hard-charging markets of pre-2008, there is a lot of activity in the form of auctions that attract many bidders. This drives plenty of activity on the sponsor side. By the same token, there is activity on the strategic side, but it is not trend-based as such – it is much more opportunistic.
Horwitz: One of the things that we have seen as the private equity business matures is a very different sense of who the players are in private equity. Sometimes private equity is really masquerading as debt. We have mezzanine and junior multitranche lenders taking over the equity role, operating the business for a couple of years and then selling it. In many deals where there is a strategic participant, there is likely to also be a private equity player. Sometimes the private equity players are below the level of the strategic buyer in the corporate structure, meaning they have invested in the strategic buyer, but they are no longer the controlling party. The penetration of private equity into our corporate structures is such that it is rare that you have a deal, even with strategics on both sides, that does not have some private equity component.
Editor: Jeff, tell us about some of your recent deals. What is the outlook for continued private equity investment in real estate?
Horwitz: Robust. While interest rates remain historically low – real estate is acutely related to financing costs – people are going to continue to do deals in the sort of office-net-lease business. American Realty Capital has been very aggressive in mining assets because bigger platforms are better to operate for these types of businesses. We are seeing this in all classes, including hotel-related REITS. There are a number of hotel companies in play. Blackstone has the Hilton IPO in process, having just priced the Extended Stay IPO; they have La Quinta going down a double path of sale and IPO. There is a tremendous amount of capital rushing to all forms of real estate. Even Sam Zell, who is sometimes as bearish as anybody, stated at a conference this week that hospitality has his greatest attention right now.
Editor: Following a transaction’s close, how often do you see a buyer accuse the seller of common law fraud?
Papa: In fact, deal challenges are not that common – from a statistical point of view there just have not been many challenges. We have not seen the common law fraud claim being made on our deals. Having said that, there have been challenges on this basis, including a couple resulting in recent Delaware court decisions, and so it is a major practice issue that is addressed in all of our negotiations and a current topic on the minds of all M&A lawyers.
Editor: Are there any other types of challenges to transactions once they are completed or in process?
Horwitz: With respect to completed transactions, the most common disputes are around matters involving calculating the proper working capital adjustment, how are liabilities allocated, and now and again misrepresentations – these are the more customary ones. With deals in process, the challenges are totally different. In process, you have all of the areas of what we call “specialization” that lead to potential difficulties such as regulatory approvals, e.g., antitrust, comporting employee benefit issues, other complicated labor or legislative issues, especially any issues having to do with class actions. But again, the market and its participants are relatively sophisticated, so I do not see any of these as particularly troublesome in a general sense.
Editor: What type of financing arrangements are you seeing most often?
Papa: It depends on the deal and where you are in the market. On some of the largest deals, you may see bank debt to bridge to a refinancing with a combination of bank debt and bonds. In some deals you will see a combination, moving up and down the balance sheet – equity, mezzanine, senior, unitranche, etc. In many deals, you will see a mix of bank and high yield debt. Our finance teams – particularly with the pickup in M&A, but even before that – have been seeing all of these variations in recent deals.
Editor: Ron, tell us about some of your deals in specialty chemicals and energy involving French and other European countries. What are your thoughts on the M&A outlook for 2014?
Papa: A couple of recent deals were for European chemical companies, including a multijurisdictional inbound acquisition primarily of U.S. assets with some South American components, and a sale of a primarily U.S. business with European and Asia components.
As for the outlook for 2014, although I could not prove it empirically, my sense is that many of the strategic buyers have already tuned up their portfolios, but the opportunistic ones will still be in the market. As always, you see disposals of non-core businesses and opportunistic pickups, as well as some regulatory-driven divestitures.
Editor: With the depressed conditions in Europe, have you seen more distressed- asset type deals that become available to U.S. companies?
Papa: There are plenty of such deals, but not necessarily as a trend. The trouble with depressed conditions, as we saw after 2008, is that while in theory there should be buyers and sellers in a down market, the reality is that the overall depressed conditions prevent any confidence in valuation levels. That makes both buyers and sellers hesitate. They are looking for more clarity in the market. And uncertainty creates some paralysis.
Editor: When counseling on cross-border transactions, what are some of the key considerations that are absent from U.S. deals?
Papa: My number one consideration is to “think globally, but act locally.” When you are doing a large cross-border or multijurisdictional deal, you cannot address everything at the macro level. You are working with local counsel and need to take into account local culture. Big deals, in particular, can become a series of difficult, very complicated small deals, requiring a lot of consideration – in planning, in structuring, taking into account how one jurisdiction affects overall timing. Second, of course, there are different regulatory regimes in areas such as antitrust and environmental. Because of regulatory processes, different countries may be on different timelines, forcing you to examine whether you need to slow the deal pace to the slowest common denominator or whether you can stage your acquisition as a piecemeal acquisition if it can withstand the risk, which is often not the case. These are only a few of the considerations.
Horwitz: I would just amplify what Ron has said in two regards. One is that the tax aspects are obviously significant and can drive the deal process. One thing that often gets forgotten is the role of the accountants and the cooperation between the lawyers and the accountants.
The second point is that integration of an acquisition is an important task – thinking as a business person rather than as a lawyer. It is not enough to identify the value of some profit-making enterprise, whether it is a factory or a group of people, thinking it will enhance the business. Integrating it, not just physically but also intellectually – whether it is the technology, how benefits are handled or how employees are managed – is key.
Often deal participants focus on the insurance aspects at the very end of the deal, but you cannot wait until two months after the closing to figure out the insurance ramifications. It is not a question of a claim between one and the other of the participants; it is more a question of how to transition a business that used to be owned by somebody else into a different business that is part of a new system, especially when we are talking about cross-border transactions where the new system might literally be foreign to the old system.
All of those things are very much in the minds of the global players and can affect both the diligence and the structure of the enterprise. The more aware you are that your client is not just doing a deal on paper but is really acquiring an operating business that it has to integrate with its other operations, the more successful you can be in not only avoiding problems between seller and buyer, but problems for the buyer once it has the business.