Dealmakers seek protection as disputes rise

This article is an extract from the European M&A Outlook 2023: Boom & Gloom? For the full report, follow the link at the bottom of this page.

M&A disputes are on the rise. In the last couple of years, we have seen a notable increase in M&A claims all across Europe and we predict this growth will continue given the significant challenges faced by businesses throughout the region.

In particular, disagreements over adjustments to the purchase price have risen, as buyers seek to realise more value post-acquisition. We saw clues to what is driving this in the CMS European M&A Study 2022 which showed a significant increase in the use of earn-out structures in European M&A deals. With the flexibility that such structures offer comes the risk of disputes arising if things do not turn out quite as expected. Deferred consideration mechanisms, completion accounts and warranties are all commonly used by disgruntled buyers to seek to reduce the consideration payable – perhaps one reason why we have seen an inexorable rise in the number of M&A deals being insured by warranty and indemnity (W&I) policies.

Growth of arbitration in M&A dispute resolution

One particularly interesting development is the increase we have seen in recourse to arbitration as a dispute resolution mechanism. This is particularly true for larger transactions, with our 2022 M&A Study revealing that parties to higher value transactions often negotiate arbitration clauses into the relevant documents.

Parties agree to arbitrate to avoid court claims in jurisdictions where proceedings are time consuming and the outcome unpredictable, as well as to maintain confidentiality. Large international (and listed) companies prefer their proceedings to stay out of the public eye where possible. Another factor is the need for an award that is enforceable in multiple jurisdictions, notwithstanding concerns about the ease of doing so in practice.

Arbitration also offers parties the freedom to choose the rules governing their arbitration proceedings, which could be national or international (e.g. UNCITRAL or ICC Rules). In 2021, the use of national rules to govern arbitration (68%) increased in popularity over the use of international rules. This might be caused by the result of the pandemic and the stronger focus on national interests.

Force majeure/hardship and MAC clauses

Force majeure clauses (or equivalent) have also been under the spotlight and, when it comes to the treatment of such clauses by courts, England and France offer good examples.

This year saw the first major cases in the English High Court on the validity of invoking force majeure clauses where performance of a party’s obligations was hindered by the COVID-19 pandemic. We have also been advising on the application of force majeure and material adverse change (MAC) clauses in relation to Brexit and sanctions imposed following Russia’s invasion of Ukraine.

The Court has upheld the validity of a party’s declaration of force majeure due to US sanctions imposed on the counterparty’s parent company. The general principles remain that (i) the force majeure event in question should be explicitly referred to in the relevant clause, and (ii) the occurrence of the event must have prevented the party from fulfilling its obligations (and not just delay or inconvenience it – an increase in cost is insufficient).

In France, case law has recognised that that the COVID-19 pandemic could be considered as a force majeure event, even though the High Court (Cour de cassation) considers that force majeure cannot in principle exempt debtors of money obligations from their performance. Although a force majeure event may cause a purchaser’s project to lose financial viability, it is unlikely to actually prevent the purchaser from fulfilling its payment obligation. There are therefore certain risks borne by the parties, which parties may seek to address via hardship and MAC clauses.

Given these issues, parties are rightly placing increased focus on the wording and negotiation of force majeure and MAC clauses when entering into contracts, including expressly considering the possibility of a pandemic and its effects on contractual obligations, as such an event should no longer be considered unforeseeable after the COVID-19 crisis.

ESG-related claims in M&A will increase

Although still in its nascent stages in the context of litigation, ESG issues will without doubt have a huge impact on M&A in the near future. Nine in ten respondents to this year’s M&A Outlook survey expected ESG scrutiny to increase over the next three years, while 92% expect M&A due diligence to include more scrutiny of ESG factors.

Consequently, we predict an increase in misrepresentation or breach of warranty claims, as well as claims grounded in MAC clauses in the ESG context. Such claims may also relate to parties’ compliance with the Corporate Sustainability Reporting Directive. The UK Supreme Court has held in two decisions that there is a ‘good arguable case’ that parent companies owe a duty of care in connection to statements published by them on their non-UK subsidiaries’ ESG credentials. Other areas that may impact M&A parties include greenwashing claims and shareholder activism in relation to ESG credentials.

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