Creative dealmaking has always been an antidote to market volatility and challenges requiring a little flexibility to get a merger or acquisition past the finish line. But the past 24 months have pulled novel M&A to the forefront. PIPEs and SPACs (to the uninitiated, that’s abbreviated shorthand for “private investment in public equity” and “special purpose acquisition company”) have become colloquial and headline-worthy, propelled forward by big-name plays like Virgin Galactic’s 2019 SPAC merger. But behind the hype, a stack of creative deal structures are being employed by M&A advisors to skirt practical roadblocks to the deal flow.
According to a recent paper for the Harvard Law School Forum of Corporate Governance, 59% of the 150 US corporates and private equity firms surveyed said they have been involved in at least one creative deal structure in the past 24 months. That number shot up to 79% of respondents in the private equity category versus 39% of corporates, but what’s more telling is that nearly half (47%) of respondents who opted not to use creative deal structures still considered novel ideas before opting to follow a traditional path.
Certainly, the pandemic played a massive role, but it’s the underlying conditions – risk, inefficiency and market hurdles – exacerbated by COVID-19, that have really fuelled the rise in creativity. “Many respondents anticipated increased appetite for risk-sharing in dealmaking, with joint ventures and club deals, for example, rising in popularity,” write the authors of the report. “A predicted increase in the number of deals involving equity clawbacks or contingent consideration also signals a more defensive view of the M&A market, with buyers seeking to build protection into transactions.”
PIPEs have also proven to be an effective way for investors to make their purchases at a discounted price, while sellers can expedite the fundraising process.
But going forward, respondents to the survey anticipate a greater role for creative deal structures, with 63% of those already using novel dealmaking saying “more of their most recent deals have incorporated such mechanisms than has historically been the case.”
We’ve pulled together a primer on the trendiest of the creative deal structure sphere.
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When we covered SPACs a few years ago, the world was a different place and the strategy of forming a shell company to fundraise and acquire, or merge with another business to take it public, felt like a fringe strategy. In 2020, SPACs raised $83 billion – around six times as much as the previous year – according to SPAC Research, with high-profile SPAC mergers including digital sports entertainment and gaming company DraftKings, Volkswagen-backed battery company QuantumScape, and satellite company Iridium.
But this past April, there was a shift in momentum. The Securities and Exchange Commission started cracking down on SPAC accounting practices and looking to classify the warrants as liabilities instead of equity instruments. According to S&P Global Market Intelligence, SPAC IPOs fell from $91.4B in Q1 2021 to $11.7B in Q2 2021, with the number of deals plunging from 275 to just 52. But is it the end of SPACs or just a pause amidst a regulatory shuffle?
“The US Federal Reserve [is] signalling that interest rates will stay at ultra-low levels until at least 2025, given the need to support the economy post-pandemic,” according to the authors of the Harvard Law post. “That has left investors anxious about where they will find new sources of return – and happy to support SPAC founders with a compelling value proposition and a strong track record. Those founders argue that having money in the bank enables them to move quickly in volatile market conditions as opportunities emerge.”
PIPE – private investor, public equity – deals take place when an institutional or accredited investor buys stock directly from a public company. It’s usually done below market price and with less stringent regulatory requirements than a public offering, so the seller gets funds quickly (usually within a few weeks) and without the red tape. The strategy is popular in times of economic volatility. In 2008, public companies used PIPE deals to raise $123 billion which amounted to an 86% increase over 2007, according to PrivateRaise. Last year, there were 1,055 PIPEs, raising over $53 billion.
“PIPEs have allowed difficult credits to find liquidity in urgent and creative ways, particularly in light of the unanticipated need for capital and limited availability of credit at key times during 2020,” Paul Tiger, a partner at Freshfields Bruckhaus Deringer US LLP, told Financier Worldwide in March. “PIPEs offer issuers a potentially faster path to fundraising, especially where they involve only a bilateral negotiation with a single investor.”
Since 2019, former Facebook exec Chamath Palihapitiya has been on a SPAC spree, launching and participating in 12 SPACs so far (he says he has reserved tickers “from IPOA to IPOZ”) six of which have been PIPE deals ranging from rare earth metals and 3D printing, to electric buses and pay-per-mile insurance.
Not quite risky business
While blank checks and private investors have stolen the shine over the past two years, deals structured around risk-sharing have also seen a rise. Joint ventures and minority investments, (deals where several investors pool their resources) and club deals (a strategy where two or more private equity firms or investors jointly purchase a business) have also been a choice creative strategy.
In May, Francisco Partners and TPG Capital banded together in a club deal to acquire Boomi, a provider of cloud-based integration services owned by Dell Technologies. The cash transaction, valued at $4 billion, is expected to close by the end of 2021. According to Pitchbook, the deal sits in line with private equity firms amassing around $721 billion in dry powder as of June 30, 2020.
But it’s not just about the amount of dry powder sitting around – some are taking a more defensive view of the M&A market, according to the Harvard Law School survey. Deals are making use of equity clawbacks, a provision that gives the seller benefits if the buyer turns around and sells the business. These look like convertible debt investments, which use debt securities with equity conversion rights; and contingent consideration/earn-outs, additional payments that can go to the seller if the sold business hits agreed-upon performance targets or other criteria. It’s about building protection into the transactions themselves and eliminating some elements of risk.
Back to basics
Of course, the creative dealmaking emergence wouldn’t be much of a movement without some pushback. SPACs are still feeling some SEC heat but that doesn’t necessarily mean an end to the strategy. And if SPACs stay trendy, PIPEs will be right there beside them. “For SPACs, PIPE transactions have proven to be essential in order to mitigate the risks associated with potential shareholder redemptions,” Anna Pinedo, a partner at Mayer Brown LLP told Financier Worldwide. “As a result, it is fair to say that PIPE transactions are here to stay.”
As for club deals, there have been antitrust concerns in the past. But let’s not forget, these creative dealmaking structures may be trendy amidst market volatility, but they aren’t new.
“Many of the strategies employed by dealmakers over the past 12 months are tried, tested and largely trusted,” write the authors of the Harvard Law School study. “This is to be welcomed – in challenging conditions, dealmakers need solutions they know they can fall back on in order to participate in the market.”
It’s a new world out there and that requires a creative approach. Even if that means reviving old tricks.
Illustration by Christy Lundy