M&A Outlook for 2022

2021 was a historic year for mergers and acquisitions activity. While some reversion to the mean may be in store, we expect robust dealmaking to continue in 2022. As boards of directors and management teams seek opportunities in this competitive market, they will need to navigate a dynamic regulatory landscape and should expect investors and other stakeholders to focus on ESG metrics in the evaluation of M&A transactions to a greater extent than before.       

Market Overview: Will the Boom Continue?

Attitudes among corporate executives, investment professionals and their advisors reveal a general optimism about the prospects for M&A in 2022. And who could blame them? 2021 was a historic year for M&A, with a record $5.8 trillion in global announced transactions.

There are headwinds brewing, some of which are not new but have yet to fully play out: projected interest rate increases, enhanced scrutiny of transactions from antitrust and foreign investment authorities, potential tax law changes, the recurrence of new COVID-19 variants and various macroeconomic uncertainties. In addition, some tailwinds (particularly government stimulus) are weakening.

Overall, however, the supply and demand for transactions remains strong. Strategic operators continue to seek repositioning and scale (through transformative acquisitions) and focus (through divestitures of non-core or other segments). Corporate cash remains at record levels. Private equity firms, whose 2021 acquisition spending accounted for a record 24% of global transaction value, have replenished their coffers through a torrid fundraising spree and continue to have record levels of dry powder to deploy. And more than 570 SPACs are on the hunt for a business combination partner.

Almost two years into the COVID-19 pandemic, companies and dealmakers alike also have greater comfort operating in an environment in which uncertainty abounds. And as the competition for assets has intensified, private equity buyers in particular have been willing to further limit closing conditionality and assume financing risk and have learned to move even faster and more efficiently in diligence and negotiation. In short, it’s hard to bet against the view that 2022 will remain strong for dealmaking, albeit likely not to the same extent as 2021.

Antitrust and Regulatory Enforcement

The trend of increased scrutiny of transactions from competition and foreign investment regulators continued across the globe in 2021. We expect this to continue, and likely accelerate, in 2022.

In the U.S., Biden administration appointments to senior positions in the Federal Trade Commission (FTC) and the Antitrust Division of the U.S. Department Justice (DOJ), along with other executive and agency action (including a number of rule changes and policy statements at the FTC), have signaled a heightened focus on merger review. (See U.S. & EU Antitrust: Developments and Outlook in 2022 in this memo.) While an uptick in merger enforcement actions (relative to the final year of the Trump administration) has not yet followed, last year saw a number of such challenges, including suits by the FTC or DOJ to block Nvidia’s acquisition of Arm, Penguin Random House’s proposed acquisition of Simon & Schuster and Aon’s proposed acquisition of Willis Towers Watson. The FTC in particular has been more likely to engage in prolonged merger investigations with a different scope and in different circumstances than traditionally seen, and the agencies’ ongoing refusal to grant early termination of the initial HSR waiting period continues to delay consummation of many transactions with no competitive significance.  

In the United Kingdom, the Competition and Markets Authority has emerged post-Brexit as an active competition watchdog, independent of the European Commission. The latter continues to exert robust merger review, particularly in pharma and tech transactions.

The trend of increased competition scrutiny will have important implications for transaction agreements. These will obviously apply most to transactions that raise competitive sensitivity as traditionally understood, particularly in key industries of focus such as health care, pharma and tech; as the scope of merger scrutiny expands, however, a broader spectrum of buyers and sellers will need to think more carefully about regulatory approval covenants in their transaction agreements and how these interact with other considerations. And as more deals are scrutinized, cracks in the traditional architecture of antitrust provisions may begin to show. In particular:

• Sellers or target companies that believe they are well-protected by a buyer’s strong regulatory commitments may need to re-think whether “hell-or-high-water” provides the absolute commitment they expect, as they may find it can be difficult to specifically enforce those covenants.
  • It is not always easy to establish sufficiently early on that the buyer is not taking adequate steps to obtain approval or that it is unlikely approval will be obtained by the outside date, absent judicial intervention.
  • As a practical matter, it may be challenging for a buyer and seller to present a unified front in their efforts to obtain regulatory clearance (particularly if that includes litigation with regulators) while waging a separate battle over whether the buyer has breached the transaction agreement.
  • We expect target companies to continue to focus on seeking reverse termination fees from buyers as the principal remedy for failing to obtain the required antitrust approvals.
• Having a thoughtful strategy for obtaining antitrust approval that is calibrated to the current enforcement environment, and controlling the timetable for complying with second requests and the regulatory process more generally, will be more important than ever.
  • Parties will need to think more carefully about pre-packaged remedies and divestiture commitments.
  • Buyers in particular should consider crafting antitrust covenants in a manner that does not require them to accept restrictions on future M&A strategy, in light of recent changes to FTC policy (under which, in consent orders to settle contested transactions, the FTC will now routinely require merging parties to obtain prior approval of future transactions in relevant markets).
• Outside dates will get longer in order to accommodate extended review periods and preserve the ability to litigate with enforcement authorities. Parties will need to consider the impact of these longer outside dates on financing, employee retention, interim operating covenants, communications, synergies realization and other matters.

Historically, transactions with private equity buyers have received less scrutiny (outside of portfolio company transactions with significant overlaps). But recent FTC guidance and investigations have shown an increased attention on private equity. Private equity buyers and their counterparties should understand that antitrust agencies are more likely to issue second requests and conduct lengthier investigations of private equity acquisitions, particularly in sensitive industries like health care, pharma, data and tech, even when traditional competitive concerns may seem less prevalent.

ESG in M&A

At this point, most public company boards of directors are well-attuned to the increasing focus of investors on ESG metrics. (See The Materiality Debate and ESG Disclosure: Investors May Have the Last Word and Navigating a World Where Almost Everyone Is an Activist in this memo.) While ESG themes featured significantly in many recent activist campaigns, including M&A-focused campaigns, the role of ESG in M&A more broadly has been less pronounced. That has begun to change, however, and we expect the increasing focus on ESG metrics in M&A transactions to be a significant trend in 2022 and beyond.

When ESG has figured prominently in M&A, often it has been with emphasis on the “E.” Particularly as it relates to the impact of environmental and sustainability issues on terminal values and valuation multiples, ESG metrics are playing a greater role in the selection and valuation of acquisition targets or merger partners. (In this respect, ESG is just a different label for concerns that have always driven M&A activity.) Going forward, we expect this to continue and to be joined by an increasing focus on other ESG themes, especially social issues such as labor and human capital management, particularly as employees become more vocal in M&A communications.

As in other contexts, use of ESG buzzwords won’t be enough to convince investors and other stakeholders that the purported ESG merits of a transaction are more than just window-dressing. Acquirors will need to incorporate more robust ESG due diligence into their transaction planning as they confirm the investment thesis and implications for existing ESG commitments. Proactively communicating the ESG benefits of a transaction (which is often a process that will begin before a transaction is announced) will also be critical as acquirors seek to convince investors and other stakeholders of the strategic benefits of the transaction.

This article was republished by the Harvard Law School Forum on Corporate Governance and Financial Regulation.