Wednesday April 27, 2022
Following on from Part 1 of our three-part series on what 2022 holds for disputes, in this part of the series we look into the impact of M&A and private equity activity on post-deal disputes, along with the impact of the recent changes to borrowing rates.
Despite the pandemic’s dramatic impact on economies, the average value of M&A deals in the UK increased between January and late September 2021 with overall deal value in that nine-month period only 2 per cent behind the whole of 2020. This was driven by a variety of reasons including private equity houses’ desire to invest ‘dry powder’ reserves built up in the early stages of the pandemic and interest rates remaining at historically low levels. When combined with the ongoing uncertainty over how long Business Asset Disposal Relief will last under capital gains tax rules, momentum for bidding wars on high-asset value deals has been building, including deals instigated by private equity houses and also private equity houses selling portfolio companies to their peers on the secondary market.
December 2021, however, saw the Bank of England raise its base rate for the first time in over three years, an increase which some are anticipating as being the first of several during 2022. Whether this slows the pace for large deals due to increased borrowing rates or drives transactional activity ahead of further increases remains to be seen. For now, from our experience, the deals market appears to be remaining buoyant.
An initial increase in private equity due diligence activity, reflecting caution as the pandemic took hold, appeared to have been replaced by a lighter touch approach mid-way through 2021. Combined with the competitiveness of the transactions market and risk reduction offered by Warranty & Indemnity insurance, which is now becoming more commonplace, increasingly complex due diligence exercises are being pushed into shorter timeframes, potentially giving rise to claims arising from disputes where the business acquired does not meet expectations pre-deal. As the pandemic phase of COVID-19 appears to be coming towards a conclusion, business performance may not revert to pre-pandemic levels, potentially giving rise to disputes if there is an expectation gap when transactions are priced on an earnout basis over several years.
Furthermore, Solomonic data analysed by BCLP reveals that the increase in M&A-related litigation seen through 2020 continued through 2021, with total M&A claims in the period January 2021 to Q3 2021 12 per cent ahead of total claims in 2020. Given the natural time lag between changes in the economic cycle and disputes arising thereon, we would not expect the number of new post-transaction disputes being pursued to drop away in the short term.
A significant regulatory change in 2022 in response to the global financial crisis, is expected to have a significant impact on businesses in the months and years ahead. The manipulation of the London Inter Bank Offered Rate (LIBOR), which came to light in 2011, has led regulators to decide to adopt a risk-free rate which is less susceptible to manipulation: the Sterling Over Night Index Average (SONIA). While LIBOR provided some predictability on interest payments from the start of a contractual relationship, the backward-looking nature of SONIA means interest rates cannot be determined until the end of the contractual period, increasing uncertainty for borrowers.
With a huge volume and diversity of contracts, from consumer mortgages to complex derivatives arrangements having to transition from LIBOR to SONIA, corporates and lenders alike have had to plan and establish strategies to navigate the transition with as little impact as possible on their operations and treasury. However, it is as yet difficult to predict all areas of business activity which will be affected by the change, and all challenges which might arise, from an operational and treasury, as well as a commercial, perspective. The transition could also give rise to future litigation around the transition from LIBOR to SONIA – for example in regard to whether new rules are implemented fairly for borrowers in debt markets, and quantum aspects thereon in respect of how this transition has impacted them financially.
In the third and final part of our series, we will explore the growing importance of Environmental, Social and Governance (ESG) issues and litigation funding on the disputes market.