M&A activity in TMT and across other sectors more broadly has defied expectations, with 2020 a record year and 2021 set to equal or perhaps surpass it. When the pandemic set in, there were fears that activity would dry up or become a litany of distressed emergency deals – but the reality has been quite the reverse.
TMT has led the way – it was the most active sector globally last year with a staggering half a trillion dollars’ worth of deals according to Mergermarket. Some of this was driven by high-cap deals like Discovery/Warner but volumes have held up across the piece. TMT has been red-hot.
But despite all this opportunity, there are nevertheless a number of changing dynamics across tax, legal and accounting that both buyers and sellers need to be aware of and factor into their planning – which were the subject of our latest ‘Future of’ session for TMT.
Firstly, tax. Tax may not usually head the list of an M&A checklist, but there are some momentous changes afoot in the form of BEPS 2.0. This is a key initiative in the OECD’s ongoing programme to reform the international tax framework, and has two main pillars. The first is that the largest organisations (those with revenues exceeding EUR 20 billion) will now be taxed according to its market presence in a country rather than solely on the basis of its historical taxable presence. This is particularly relevant to TMT because it will catch those digital, tech-enabled businesses that operate across borders with customers in many jurisdictions . The second pillar is the introduction of a global minimum corporate tax rate of 15 percent. If a business operates in a country that taxes at a rate less than this, the jurisdiction where the parent company is based will be able to apply a top-up levy to bring the overall tax bill to 15 percent. The OECD is expected to publish a further paper on this soon, with the measures likely to come into effect from 2023.
As James Sia, Deal Advisory partner at KPMG, said: “This marks a huge shift in how the tax system operates and multinational groups will have to carefully consider these changes when managing their tax affairs. It will be hugely relevant to M&A activity and to TMT deals as the changes will need to be factored into any acquisition model, to ensure the tax implications align with the commercials of a deal.”
Legal and regulatory barriers – going up
There are also a number of significant shifts taking place in terms of legal and regulatory requirements. The broad theme here is that barriers to cross-border and foreign direct investment have been going up in recent years, rather than coming down. TMT is one of the sectors this is particularly relevant to, because of the sensitivity of national media assets, national communication infrastructure, and the sensitivity of some leading edge technologies such as quantum computing, advanced cryptography, and AI.
In the UK, we have the new National Security and Investment Act, which applies to any deal concluded since 12 November 2021. The actual filing and approval regime finally enters into force in just a few weeks, on 4 January 2022. There is a general power for BEIS to intervene in any deal where they think there might be a national security risk, and an obligation for buyers to notify deals to BEIS and get their approval in 17 specific sectors, including areas relevant to the TMT sector including communications, satellite and space technology, and data infrastructure. In addition to this ‘mandatory regime’ of notification, there is a voluntary regime where buyers can get BEIS approval upfront.
As Richard Woods, Director (Solicitor) at KPMG Law, observed: “This will be a factor to consider on many transactions, given the very serious consequences of getting it wrong. Buyers will need to do a deeper dive into the product offering of UK targets (remembering that there is no financial materiality threshold here), and anyone thinking about selling a UK asset will need to think about this too particularly when selling to an overseas buyer, although the Act is neutral on where the buyer is from.”
In addition, the CMA is becoming more interventionist, using its powers in the Enterprise Act. We saw this recently when it ordered Facebook to sell off Giphy. There’s also the consultation on the new Digital Markets Unit which includes proposals for a new merger controls regime involving companies with “strategic market status”.
And it’s not just the UK raising the bar in various ways. Across the US, the EU and significant markets like Australia and India, regulatory barriers are being erected rather than dismantled.
All of this means that legal due diligence for buyers needs to shift from being largely ‘confirmatory’ – verifying key information – to taking a greater focus on the regulatory landscape in a client’s target market or jurisdiction. Meanwhile if you’re selling, you’ll need to think carefully with your advisors about the buyer population and whether their execution risk could be higher because of FDI regimes, and the implications of that.
Accounting for the numbers
There are some potentially important moves afoot around accounting too. In the UK, BEIS is considering some new rules that could increase transparency of distributable reserves. In their current form, the proposals would require a UK parent company to disclose its distributable reserves on a company level. In addition, groups may need to provide estimates of distributable reserves across the group. This could mean assessing reserves against local company law in every jurisdiction a group operates in, which could be a significant effort. The proposals could be good news for buyers, but more work for sellers.
Another accounting theme arises out of ESG – particularly climate.
As Kelly Martin, Director in Accounting Advisory Services at KPMG said: “As a buyer, it’s crucial to understand what your target’s ESG strategy is and how that’s aligned to your own. For example, say a buyer has made a net zero 2030 commitment. If it’s looking at a target with a 2040 commitment this could mean higher post-deal costs for things like improving the energy efficiency of data centres or replacing dirty fuel with renewable energy. Without undertaking proper ESG financial diligence this could result in additional liabilities arising post-deal or impairment of assets, potentially impacting distributable reserves and earnings per share.”
Planning for success
In short, there are plenty of aspects – and some barriers - for both buyers and sellers to think about. But this shouldn’t distract from the positives. The TMT M&A market remains extremely buoyant and there are huge opportunities out there. The key thing is to embed tax, legal and accounting issues into the deal planning from the outset so that they don’t become blockers but instead dovetail with the commercial objectives and help achieve the right outcomes.
2021 will probably prove to be a record year for TMT M&A – and I’m sure there is plenty more to come in 2022!