Overview and Key Takeaways
In an important development for Canadian dealmakers, the American Bar Association (ABA) released its new Canadian Private Target M&A Deal Point Study (the Study) this week. The Study analyzes deals signed in 2020, 2021 and 2022 and is the first ABA Canadian private M&A deal point study in almost seven years and since the 2018 edition.[1] The release of the Study has been eagerly anticipated, particularly because the ABA studies are a leading resource in answering a basic deal question: what’s market?
Our key takeaways from the Study include:
- Smaller deals can be a big deal in Canada. The Study sample is more skewed toward smaller deals than the previous three ABA Canadian private M&A deal point studies and the potential impact of this should be weighed in connection with each data point.
- The Study sample timeframe coincides closely with that of the Covid-19 pandemic. Deals featuring “entrepreneurial” sellers played a markedly larger role than in previous studies. In addition to average deal size, the Study’s findings should be viewed through these lenses.
- The Study includes many new data points and is more than 30% longer than the 2018 edition, confirming the ever-growing complexity of private M&A. Devising a comprehensive and coordinated negotiation strategy is more important than ever.
- On certain fronts convergence with U.S. market practice continued. However, notable differences between Canadian and U.S. market practice remain and in some cases have widened.
Given the Study’s extensive detail, we make only select comments and analysis. Seven of the Fasken co-authors of this update contributed to the Study’s preparation and can provide additional insight.[2] For more Fasken M&A thought leadership, visit our M&A Knowledge Centre.
The Potential Impact of Average Deal Size
The Study sample is more skewed toward smaller deals than the previous three ABA Canadian private M&A deal point studies. Whereas deals ranging from $5 million to $50 million represented 48% of the 2018 sample, deals within this range represent 67% of the Study sample. Only 12% of the deals in the Study sample ranged between $200 million and $500 million, while 29% of the deals in the 2018 sample fell within this range.
Given the Study sample is limited to deals where a private target is acquired or sold by a Canadian public company,[3] the smaller average deal size means the Study sample is more weighted towards deals involving TSXV issuers (as opposed to TSX issuers) than has previously been the case. It is also notable that the Study sample featured a significantly higher percentage of “entrepreneurial” sellers (40% of deals) than the three previous ABA Canadian private M&A studies (each at only 17%).[4]
Smaller average deal size may impact numerous deal points. For example, it may partly explain why 76% of deals did not include any express mention of a representation and warranty (RWI) policy (i.e. because smaller deals are generally less likely to include RWI).[5] Other deal points that were likely impacted to some degree by the smaller average deal size include those relating to indemnities (e.g., the lowest percentage of deals (15%) among the four ABA Canadian private M&A studies featuring an eligible claim threshold).
The Potential Impact of the Pandemic
The significant majority of the Study sample is comprised of deals signed in 2021 and 2022, and thus well into the pandemic and its impact on dealmaking. Among other things, the pandemic compromised the ability of buyers to due diligence targets, contributed to a higher incidence of valuation gaps between deal parties, and aggravated economic uncertainty looking forward.
While we can only speculate as to which deal points were more impacted by pandemic-related considerations than others, reasonable candidates include:
- earnouts,
- separate escrows for purchase price adjustments, and
- damages caps as a percentage of transaction value,
each of which hit percentages well above those seen in each of the three previous ABA Canadian private M&A studies.
Other material deal points likely impacted by the pandemic include:
- the seller’s ordinary course of business covenant, and
- the definition of material adverse effect (MAE).
The former saw the highest percentage (86%) of ordinary course covenants not qualified by an “efforts” standard, well above the previous marks of 67% (2018), 55% (2016) and 59% (2014). The latter saw the lowest incidence of five of eight types of MAE definition carve outs and the second lowest incidence of two of eight types of MAE carve outs.
Notable Developments in Market Practice
The Study features numerous other deals points which departed significantly from earlier market practice as evidenced by the three previous ABA Canadian private M&A studies.
Regarding interim period covenants, the Study saw the:
- highest percentage of deals (80%) expressly requiring the target to notify the buyer of any breached representations, warranties or covenants, and
- highest percentage of deals (82%) including a No Shop / No Talk clause.
Regarding conditions to closing, the Study saw the:
- highest percentage of deals (58%) featuring a standalone MAE condition only, and
- the lowest percentage of deals (57%) including a “no legal proceedings challenging the transaction” closing condition.
Regarding indemnification, the Study saw the:
- highest percentage of deals (82%) going silent on sandbagging,[6]
- the lowest percentage of deals (18%) that included an express non-reliance statement by the buyer,[7]
- the highest percentage of deals (46%) including a deductible basket, and
- the lowest percentage of deals (33%) including a first dollar basket.
Notable New Study Data Points
The Study is significantly expanded in size and scope as compared to its predecessors. Many new data points have been included. Regarding the target’s representations and warranties, these include new data points addressing cybersecurity and privacy.
Regarding the target’s interim period covenants, these include new data points addressing:
- Competition Act approval,
- Investment Canada Act (foreign ownership) approval,
- non-solicitation and non-competition covenants, and
- shareholder approval.
Three areas in particular feature a significant number of new data points. These are:
- “Me Too” representations,
- the updating of the target’s disclosure schedules post-execution and prior to closing and the corresponding impact on the buyer’s rights and seller’s liability, and
- RWI.
Given that RWI has become much more common in private M&A, the 11 new RWI data points and their evolution going forward will be of special interest to dealmakers.
Notable Comparisons With U.S. Market Practice
The M&A market trends illustrated by the ABA’s U.S. deal point studies can often forecast where Canadian M&A practice may go in the future. However, this does not always follow.
Convergence of Canadian and U.S. Market Practice
Canadian private M&A practice has been steadily moving toward U.S. practice regarding when the target’s representations and warranties must be accurate, i.e., not only at closing but also “when made”. Whereas U.S. practice since 2013 has consistently seen over 60% of deals including the “when made” stipulation, the frequency of this stipulation in Canada has progressively grown from 26% in 2014 to 51% in the Study.
Other examples of convergence include:
- the percentage of deals that expressly define an MAE, and
- the percentage of deals that include a “No Shop / No Talk” provision.
The former has, for the first time and after steady progress, matched the U.S. at 95% of deals. The latter has, in a significant jump to 82% of deals, for the first time come within 20% of the U.S. mark, which has hovered around 90% of deals.
Variation of Canadian and U.S. Market Practice
Regarding divergences between Canadian and U.S. market practice, the Study confirms the persistence of the more common inclusion historically of “prospects” within MAE definitions in Canada than in the U.S. (32% vs 10%). Similarly, the Study confirms that numerous MAE carve-outs continue to be notably less common in Canada than in the U.S.
The inclusion of “Full Disclosure” and/or “10b-5” representations has been trending steadily downward in U.S. private M&A, from 36% of deals in 2013 to only 6% of deals in 2023. Conversely, the inclusion of these representations has been relatively constant in Canada since 2014, hovering around the 40% mark.
There is a wide and growing gulf between U.S. and Canadian practice regarding the inclusion of an express non-reliance statement by the buyer. While the frequency of this clause in the U.S. has steadily grown from 43% of deals in 2013 to 74% of deals in 2023, the frequency of this clause in Canada has steadily declined from 43% of deals in 2014 to only 18% of deals in the Study.
Concluding Comments
The Study, its predecessors, and their U.S. and European counterparts are valuable dealmaking resources. This is particularly true of the Study given the lengthy gap since the previous Canadian edition and the Study’s many new data points.
That said, it must still be appreciated that the Study and others like it remain general guidance and that many deal points are best resolved by discussion of the underlying reasonableness of the parties’ respective positions in the particular circumstances. In other cases, asymmetry in negotiating leverage or the skill and experience of the deal professionals involved may be more likely to drive the ultimate outcome.
The many new data points included in the Study illustrate the ever-growing complexity of private M&A deals and highlight the importance of (1) a complete understanding of all agreement terms and their interaction, and (2) devising a comprehensive, coordinated and internally consistent negotiation strategy.
Regarding comparing Canadian and U.S. market practice, these convergences and divergences should be considered on a case by case basis and recognizing the potential impact of (1) differences in applicable law, and (2) the larger minimum deal size, larger average deal size, and larger deal samples informing the U.S. studies.
