Global enforcement outlook
Authorities around the globe have long emphasised that cross-border M&A presents compliance-related risks for acquirers.
Purchasers typically face risks relating to, among others, bribery, corruption, money laundering, sanctions and fraud. These can lead to not only misconduct, such as improper payments made to obtain contracts or other opportunities, but also illegally obtained funds flowing up to the acquiring entity.
As any company that has lived through a government investigation knows, such conduct issues can lead to significant costs that may overwhelm the benefit of the investment and undermine the company’s ability to focus its energies on accomplishing its strategic objectives.
Novel post-pandemic M&A risks
As Freshfields’ Q4 2020 M&A monitor noted, the second half of 2020 saw a 79 per cent increase in cross-border M&A from the first six months of the year – the biggest half-year jump on record.
This suggests that, as the global economy begins to rebound from COVID-19, pent-up demand is creating more opportunities for deals.
In some sectors, this may lead to a sellers’ market, with curtailed deal schedules and less time to conduct diligence. Other combinations may turn on strategic factors and not be subject to the same time pressure.
But whatever the level of competition for assets, successful bidders may be taking on compliance risks that were relatively uncommon before the pandemic struck. Against this background, it is important for every acquirer engaging in cross-border M&A to develop a strategy towards assessing and addressing compliance risk through a combination of pre-signing diligence and post-closing risk assessment and integration efforts.
In a post-pandemic rebound, pent-up demand will create new opportunities, and there may be pressure to get deals done quickly in some markets or sectors. This means deal diligence and post-closing integration efforts will take on new significance, and some compliance risks may look different than they did before the pandemic.
No two deals are the same of course, so the risk profile of the target will inevitably vary. For instance, many deals will raise bribery and corruption risks, while money-laundering diligence will most likely affect financial services targets (especially electronic payment providers).
Enforcers, courts and regulators in alignment
There is no doubt the authorities are alert to M&A-related compliance failures. For example, in October 2020, the US Department of Justice entered into a $19m enforcement action against US-based spirits producer Beam Suntory, which was deemed to have failed to carry out thorough anti-bribery and corruption due diligence before acquiring a new subsidiary in India.
Similarly, in 2019 and 2020, the US Department of the Treasury’s Office of Foreign Assets Control assessed several multimillion-dollar penalties against companies for failing to detect or prevent dealings with sanctioned jurisdictions during due diligence in international M&A transactions. These trends are likely to continue in the coming years.
In Europe, the Criminal Division of France’s Supreme Court ruled in November 2020 that acquirers may be held criminally responsible for the acts of an acquired subsidiary. This means that the acquirer could be subject to fines and confiscation penalties for the subsidiary’s pre-acquisition conduct regarding offences committed in France without any kind of corporate law mechanism being able to prevent this.
With the French Supreme Court’s ruling marking a major shift in French jurisprudence in this area (albeit in limited circumstances), reviewing a target’s compliance with environmental, tax and other economic crime law has become even more pressing.
Meanwhile, authorities in Germany are considering their country’s first-ever corporate criminal liability regime. Under the proposed law, acquirers may be held responsible for an acquired subsidiary’s actions and penalties can be applied to a guilty corporation’s legal successor.
If the German draft Corporate Sanctions Act becomes law, even the acquisition of a small target can potentially cause severe problems for the entire group as the sanction (in many cases) will be computed based on the turnover of not only the target, but the worldwide group taken as a whole.
What about contractual protections?
Transaction documents often provide purchasers with remedies if misconduct by a target exposes the buyer to investigations or regulatory penalties. However, these contractual protections may not adequately address regulatory expectations for the successor entity and may be difficult to enforce.
So regardless of the level of protection, an acquirer will best meet its strategic and financial objectives for a deal by:
- assessing compliance risks via pre-signing diligence and post-closing risk assessment; and
- incorporating the costs and impact of remediation into its decision-making, deal negotiation and integration processes.
Where this is not possible, the combined company may, like Beam Suntory, end up managing a lot more than it bargained for.
Due diligence and post-closing integration efforts should not ignore the impact of company culture. Economic crime risks can arise through acquiring entities with weak cultures of compliance, where employees and representatives have absorbed the message that working within the law is not a priority.