South Korea ready for post Covid-19 M&A expansion

We spoke with Howard Lee, Partner and Head of Seoul at BDA Partners, who discussed the outlook of the M&A activities in South Korea, the impressive growth of the Korean private equity market and the role of a great financial advisor.

What are the latest trends in the M&A inbound and outbound market in South Korea?

Inbound acquisitions of Korean assets by foreign investors have been inactive over the past year. It is largely related to the impact of Covid-19 on overseas buyers. For example, when I talked to potential buyers in the US or China about Korean assets, the general feedback was, under the Covid situation, we were unable to organize ourselves to seriously look at the asset. The Korean inbound market will be more active when the Covid situation improves globally during 2021.

Also, overseas acquisitions by Korean companies in the US and European market have not been particularly active over the last decade. Only few top conglomerates in Korea, like Samsung, LG and SK, tend to execute such M&A transactions. In general, most Korean companies tend to take a conservative stance when it comes to allocating considerable resources for cross-border M&A transactions. The problem resides in their limited exposure to cross-border M&A as well as in post transaction steps such as PMI (Post-Merger Integration). Thus, in order to penetrate overseas market through M&A strategy, it is important that they approach and confront the deal confidently but with proper preparation. Secondly, out of those major conglomerates, their hands are tied up by regulations. So, even though they would intend to go out looking at M&A opportunities, there are sometimes issues at the corporate level or sometimes at the level of key individuals.

What are the key factors to the rising presence of financial sponsors in the Korean market?

Korean financial sponsors are quite capable, in terms of sourcing capital and executing transactions. Most Korean financial sponsors are supported by large limited partners such as the National Pension Service, the largest public pension fund in South Korea. As private equity funds continue growing in Korea, they are pressured to invest capital and make investments. Moreover, the Korean private equity market is relatively mature compared to other Asian countries and the private equity professionals are very capable and intelligent, exerting high level of professionalism in sourcing high quality assets and undertaking extensive due diligence.

The growth of Korean private equity has quite a unique story. In Korea, conglomerates divest certain affiliates every year. However, for various cultural reasons, transaction between corporates in Korea is very rare. For example, if Samsung sells one of its affiliates to LG, it would be considered exactly a kind of betrayal to employees. So, rather than directly selling the affiliate to another corporate, they would likely have an indirect discussion and sell it first to a private equity fund. A few years later under private equity ownership, the fund would then sell the asset to another conglomerate. This is a pretty typical process in Korea, and that is why financial sponsors are very active in acquiring assets, without many challenges divesting to corporates a few years later.

Korean M&A market is expected to face an unprecedented boom in 2021. What are your views for the Korea M&A market in 2021?

The expected booming M&A activities in 2021 will be largely driven by the pent-up in transactions. Many private equity funds had good assets ready to be divested in 2020 but the M&A process was disrupted by Covid-19. These funds are now looking to resume these M&A processes in 2021. We will likely see a number of large assets come to the market in 2021. In the case of corporates, their outbound investments in the US, Japan and European markets have also been put on hold because of Covid. As we were seeing the light at the end of the tunnel by the end of 2020, these activities are also likely to resume during 2021.

As far as my knowledge goes, the market has already begun its process to rejuvenate M&A activities. A number of advisors/bankers are already in the process of developing deals and we can soon expect the market to be flooded with deals.

How have chaebols (large local conglomerates) changed over the last few years and what do you expect going forward?

In my perspective, each chaebol has been focusing on building up their internal taskforce in 2020 looking to identify and resolve potential in-house issues related to liquidity, financial performance, etc. As a result, there were no significant transactions in 2020, other than SK Hynix’s acquisition of Intel’s NAND memory business for US$10bn.

For the past few years, chaebols were not active about overseas M&A. However, they now realize the future depends on their capabilities in AI, semiconductor, data, platform business, etc. As evidenced by Hyundai Motors’ recent investment in a global robotics company in the US, I think that these kinds of investment and acquisition by chaebols will be flourishing going forward.

What are the most attractive sectors in Korea for M&A over the next five years and why?

One of the most attractive sectors in M&A over the next five years will be the industrials sector as it needs to be consolidated or restructured. Large industrials companies in Korea such as Samsung, LG and SK will need to complete some consolidation or restructuring, whether it is acquiring a competitor or exiting this sector soon in preparation for the ESG era. Based on the expected market dynamics as mentioned above, there will be a myriad of acquisition opportunities of legacy business under the consolidation or ESG preparation.

In addition, other attractive sector to look out for is the tech-driven industry which Korean chaebols and conglomerates are focusing on at the moment. Businesses related to AI, data, cloud computing, semiconductor are the ones that the conglomerates not only have strong fundamental on but also heavily investing in as well.

How do you think the role of M&A financial advisory will evolve under such fierce competition?

Over the past decade, I think the top five or six conglomerates in Korea accounted for more than 80% of the fees paid to M&A financial advisors. That is because those conglomerates have sizable revenues and there are many M&A deals being sourced from them. In recent years, the private equity sector has been growing fast, contributing more and more to the financial advisory business across Korea.

Therefore, an advisor needs to focus on these two client types, and be able to deliver what they require. Corporate clients value the advisory firm’s network in both domestic and global markets. Private equity clients tend to look at each individual banker, their capabilities and track record for instance. So, I think M&A financial advisory needs to be built up in these two ways. Any advisory firm that is successful in building extensive local and global networks, and continuing to hire great professionals, will end up in a better position compared to the competition.

Another perspective here is the M&A financial advisory firms need to act like a bridge between corporates and private equity funds. If we build up a private pipeline between the two, we can arrange the one-on-one deal between private fund and corporate.

BDA has an edge in our unparalleled local Korean and global networks, extended experience in sell-side process, and seamless execution by the global team of professional bankers. Going forward, BDA Seoul will keep hiring highly competent people and delivering bigger transactions.

In this light, BDA Seoul is currently in discussion with a U.S. law firm to help Korean corporates elevate their knowledge of rules and practices to be considered when acquiring U.S. publicly-listed companies and will hold a session in March where all M&A staffs from most of major corporates in Korea will be invited. I believe this will greatly improve our reputation in the Korean market and strengthen our relationship with the potential clients.

About BDA Partners

BDA Partners is the global investment banking advisor for Asia. We are a premium provider of Asia-related advice to sophisticated clients globally, with 25 years’ experience advising on cross-border M&A, capital raising, and financial restructuring. We provide global reach with our teams in New York and London, and true regional depth through our seven Asian offices in Mumbai, Singapore, Ho Chi Minh City, Hong Kong, Shanghai, Seoul and Tokyo. BDA has deep expertise in the Chemicals, Consumer & Retail, Health, Industrials, Services and Technology sectors. We work relentlessly to earn our clients’ trust by delivering insightful advice and outstanding outcomes. BDA Partners has strategic partnerships with William Blair, a premier global investment banking business, and with DBJ (Development Bank of Japan), a Japanese government-owned bank with US$150bn of assets.

US securities transactions are performed by BDA Partners’ affiliate, BDA Advisors Inc., a broker-dealer registered with the Securities and Exchange Commission (SEC). BDA Advisors Inc. is a member of the Financial Industry Regulatory Authority (FINRA) and SIPC. In the UK, BDA Partners is authorised and regulated by the Financial Conduct Authority (FCA). In Hong Kong, BDA Partners (HK) Ltd. is licensed and regulated by the Securities & Futures Commission (SFC) to conduct Type 1 and Type 4 regulated activities to professional investors. www.bdapartners.com

Euan Rellie, Co-Founder and Senior Managing Director of BDA, in New York, recently joined a webinar International Business Briefing: What is the Future of the China Market, hosted by the US-China Business Council and Faegre Drinker.

Euan shared insights on M&A trends in China and Asia:

China M&A Overview
- In 2019, China-related M&A transactions slumped significantly, reaching the lowest transaction value since 2013
- Major drivers were: Drop in outbound M&A (dropped 37% in value) and Drop in Private equity deals (dropped 22%)
- Outbound deals have been discouraged by increased scrutiny of CFIUS review in the US; national security review in Europe; Beijing’s controls on outbound capital flows
- Inbound transactions reached US$20bn in 2019, representing a 5.6% growth YoY
China as a market for US companies: Large inbound acquisitions in China have always been rare; acquisitions by US companies have mostly been small/medium sized
Impact of the trade war: Punitive actions against China will continue. Even if Trump loses in November, investors don’t expect a significant change in the US approach to China. The tone and tactics will change
Developments during the pandemic: China becomes a refuge for US companies after overcoming COVID-19. China’s economy is slowly recovering, growing by 3.2% in Q2 2020 as retail and luxury sales experience a strong rebound. The recovery is unbalanced, which has widened the wealth gap
Hong Kong isn’t over for foreign investors, despite the National Security Law: Hong Kong will remain the hub for inbound and outbound mainland investments
China M&A going forward:
- In the short term, Chinese investors will be focused on domestic consolidation and less active in outbound M&A. Growth in inbound deals is expected, but a red-hot IPO market and high valuations in China could prevent this from growing fast
- In the medium/long term, we expect frequent sales of family-owned businesses. As China faces rising tension with the US, the PRC Government work to ease regulations on inbound M&A

If you want a copy of the slides, or would like to discuss any of these topics, please contact us.

About BDA Partners

BDA Partners is the global investment banking advisor for Asia. We are a premium provider of Asia-related advice to sophisticated clients globally, with over 24 years’ experience advising on cross-border M&A, capital raising, and financial restructuring. We provide global reach with our teams in New York and London, and true regional depth through our seven Asian offices in Mumbai, Singapore, Ho Chi Minh City, Hong Kong, Shanghai, Seoul and Tokyo. BDA has deep expertise in the Chemicals, Consumer & Retail, Health, Industrials, Services and Technology sectors. We work relentlessly to earn our clients’ trust by delivering insightful advice and outstanding outcomes.

BDA Partners has strategic partnerships with William Blair, a premier global investment banking business, and with DBJ (Development Bank of Japan), a Japanese government-owned bank with US$150bn of assets.

We spoke to Huong Trinh, Managing Director and Head of the BDA Partners Ho Chi Minh City office, about the latest exciting developments in M&A in Vietnam.

You worked on the largest inbound private sector industrial transaction in Vietnam in the last three years, the sale of Thipha & Dovina to Stark Corporation, for US$240m. Why were Thipha & Dovina such an attractive investment opportunity for an international buyer?

Thipha & Dovina are a leading electric cable and non-ferrous metal group with a 30-year history. The companies grew revenues at an average 20% per annum for the period 2015-2019, and revenue exceeded US$500m.

This asset offers direct exposure to Vietnam’s economic growth. Vietnam has been emerging as a manufacturing hub in the region given its relatively low labor cost and strategic location. In 2019, Vietnam recorded GDP growth of ~7%, and is expected to remain a regional outperformer. Significant investment in infrastructure is underway. The government and business led spending will drive demand for cable and wiring for the foreseeable future.

Thai buyers are consistently interested in Vietnamese assets, and have made several significant investments in Vietnam over the last few years.[1]

Do you think there will continue to be inbound interest in Vietnamese companies from the rest of Asia and further afield in the future? If so, what are the key reasons?

Obviously yes, as we have received lots of indications of interest for high-quality industrial assets, as well as other sectors, from both global and regional buyers. We believe the strong inbound interest is mostly driven by the following factors:

Vietnam’s economy is driven by consumer spending, which accounts for close to 70% of its GDP. With the third largest population in ASEAN, and the expansion of upper and middle-income earners, the economy is expected to grow further. Despite the disruption from COVID-19, Vietnam is expected to still enjoy ~3% economic growth this year and is expected to bounce back to 6% growth in 2021[2]
Vietnam will benefit from recently signed Free Trade Agreements (CPTPP & EVFTA), which encourage more foreign direct investment into the country and put in place lower tariff structures. This is also an indicator of strong EU-Vietnam relations
Vietnam has been emerging as a manufacturing hub in the region given its relatively low labor cost, but with increasing quality and a strategic location with many seaports nationwide. Global companies started shifting operation to Vietnam in 2010, and this trend has been accelerated by the ongoing US-China trade tensions

Are there opportunities in Vietnam for BDA to sell founder owned businesses in the future?

We believe there are still many more opportunities in Vietnam to advise founders on the sale of their businesses in the short term. There are still a lot of sizable and high-quality assets in the market that have grown into market leaders over the course of several decades and which have undergone different phases of development. They may need a new “growth engine” or investment to remain competitive and in some cases the founders are simply looking to exit and step back from the company they founded.

In addition, improved legal framework and corporate governance are making it easier and more transparent for foreign investors, giving them greater confidence to acquire majority stakes.

We are currently mandated on a number of projects thanks to: (i) a combination of our strong relationship with both strategic and financial sponsor buyers because of our global network; (ii) a senior team on the ground in Vietnam (especially important during COVID-19); and (iii) excellent execution capabilities which are laser-focused on delivering the best outcome for our clients.

Which will be the most attractive sectors in Vietnam for M&A in the post COVID-19 environment and why?

Internet-related businesses have been growing rapidly during COVID-19. Online, or online-to-offline, products and services have seen significant growth. This is not just a short-term effect; consumer behaviour is changing, and this is a long-term sustainable shift in consumer dynamics. Average order value on e-commerce sites rose by over 35 percent year-on-year in the first half of this year.

People are still spending money on shopping, a good sign given the fears that demand would fall during the COVID-19. The best performer was the groceries and fresh food, following by household supplies, homecare and healthcare products. Shopping malls are now packed with people like COVID-19 was never here.

For the industrials sector, COVID-19 has been certainly a catalyst for business owners to consider a transaction. The underlying reason was the fundamental change in the economic outlook domestically and globally, which has urged a number of investors to look for a more stable and “safer” destination whilst business owners see the benefits of having a “big brother” who is financially strong together with them to grow the business, especially during the unstable periods.

Healthcare is another attractive sector for investors. Some of the healthcare sub-sectors are performing well during COVID-19, while some are not. The sector will likely see lower cash flow in 2020 compared to 2019. Hospitals face a huge negative impact on revenue as they have had to cancel many profitable surgeries and procedures, while spending more on staffing and getting extra protection equipment for work. In contrast, personal protective equipment companies are seeing significant revenue growth, and the pharmaceutical sector will continue to grow strongly post pandemic.

Industrial real estate and logistics will also grow, thanks to multinational companies shifting their manufacturing base from China, and the requirement for logistics and supply chains to keep up.

Sectors that have been temporarily hit by COVID-19, such as food & beverage, hospitality and discretionary retailing, present opportunities at attractive valuations for buyers who are confident of a strong bounce back after COVID-19.

Do you see any changes in perception towards M&A processes in Vietnam? Have handshake deals been completely replaced by more structured processes?

Compared to a decade ago, the perception towards M&A has been changed drastically among business owners, government agencies and investors/buyers in a positive way. As Vietnam’s economy has opened up, we have witnessed more and more large deals that have brought positive growth to the target companies and benefits to all stakeholders. As awareness of the positive benefits of M&A has grown, shareholders are now more open to adding M&A as a strategic option in their growth trajectory and strategy. Sellers are becoming more educated in terms of an M&A process and key concepts. I still remember 15 years ago, it took me a lot of time to explain to the business owners how investors would value a business, which was not only based on how many land use rights the company held or how famous their company was.

For small deals, or deals between two domestic parties, handshake deals are still common, with all the decisions being made quickly, top down. However, we see people are taking a much more structured approach for medium and large domestic deals or cross-border deals. These deals will involve a variety of advisors as shareholders see the benefits of having an official process and professional advice: (i) better positioning the company; (ii) consistent and organised approach; (iii) a more competitive process will result in better equity valuation and terms; and (iv) increase the certainty of the deal completing and reduce the associate deal risks.

As BDA has a local team in Vietnam, we are happy to be trusted by local business owners to give them advice and help them to run a structured M&A process.

How do you see international investors completing transactions with Vietnam’s borders still shut?

BDA has signed and/or completed three transactions so far in 2020 without the buyers coming into Vietnam for the closing/signing.

This was a key concern when COVID-19 started, but as things have progressed, it is really a matter of how much both sides like the deal and how we, as the advisor, add value. We have been very creative with our sale processes. For example, helping the investor hire a local advisor to do the site visit/management meeting on the ground in Vietnam; arranging for the seller to take high-quality videos of the factories and assets, and so on. These creative approaches help to get deals done.

According to the AVCJ, 2019 was a record year for the number of PE / VC investments in Vietnam. Do you expect to see a rise in domestic and international private equity investment in Vietnam continuing in 2020 and 2021?

From a macro level value creation process perspective, Vietnam will continue to enjoy: (i) stable, unparalleled economic growth compared to other Southeast Asia countries, especially amid the COVID-19 situation; (ii) an influx of advantages from the recent free trade agreements; and (iii) strong government push to privatize state-owned enterprises. From a micro-level perspective, Vietnamese companies are getting more professional with stronger management teams and better corporate governance. They are more open to foreign investors as they see the different values that both strategic and financial investors can bring to the companies.

There is increasing demand for growth capital in 2020-2021. The private sector in Vietnam, with its strong momentum, will need more capital to pursue transformational changes and achieve further growth. The start-up ecosystem is seeing robust expansion, with internet related companies as the most attractive sector.

We, at the BDA Partners Ho Chi Minh City office, are seeing strong demand for growth capital and exits from both founder-backed and private equity owned companies. This is visible from our numerous live deals and strong pipeline/opportunities for 2021.

[1] In 2014, Berli Jucker Pcl announced a US$879m transaction to acquire Metro Cash & Carry Vietnam. In 2015, Central Group through its subsidiaries, Power Buy, bought 49% stake in Nguyen Kim Trading Company. In 2016, Central Group acquired Big C Vietnam, a supermarket chain, with a transaction value of US$1.0bn. In 2017, ThaiBev Group, through its subsidiary Vietnam Beverage, has acquired majority stake in Sabeco, Vietnam’s largest brewery company, with a deal size of US$4.8bn. SCG, a Thailand conglomerate, has done a number of transactions in construction materials and packaging in Vietnam.

[2] HSBC research shows Vietnam enjoying very strong internal domestic demand even during COVID-19. Nielsen research indicated that Vietnamese consumers remain 2^nd in ASEAN in terms of being positive.

About BDA Partners

Unparalleled economic disruption, a resurgence in COVID-19 cases and heightened trade tensions are stealing newspaper headlines but also mask fundamental developments in trade and investment. In this piece, we examine some of the latest market trends that are taking place in Asia and globally against a backdrop of increased economic uncertainty and geopolitical tension.

The Asian Century
The rise of Asia remains undisputed and will continue to power global GDP growth going forward. A brief glance shows unparalleled milestones:
– 50% of world GDP is expected to be Asian by 2024, and drive 40% of the world’s consumption
– 21 of the top 30 largest cities are now in Asia
– From 2000 to 2019, China increased its GDP from just over US$1trillion to US$14trillion

While 2021 will see some rebound in western economies as they emerge from COVID, this economic growth is likely to be lacklustre compared with mid and long-term growth rates in Asia.

In our latest piece, Shifting sands: changes in trade and investment in an uncertain world, the BDA team examined some of the latest market trends that are taking place in Asia and globally against a backdrop of increased economic uncertainty and geopolitical tension. We look forward to helping you make sense of these changes and navigate through uncharted waters.

Download the report

We hope you find it helpful. If you would like to discuss, please contact us:

Jonathan Aiken, Managing Director, London: jaiken@bdapartners.com

Simon Kavanagh, Managing Director, Hong Kong: s kavanagh@bdapartners.com

About BDA Partners

BDA Co-Founder and Senior Managing Director Charlie Maynard talks about opportunities in the Asian M&A market and how BDA runs an excellent sellside process and delivers the best results for clients.

In this working-from-home chat with BDA senior leadership, we talked to Charlie Maynard. Charlie co-founded BDA Partners with Euan Rellie 24 years ago in Singapore and New York. He has spent many, many years in different countries in Asia before and after founding BDA. We talked about the opportunities he sees in the Asia M&A market, and how BDA runs excellent sellside processes and delivers the best results for clients.

What opportunities did you see in the Asian market when setting up BDA in 1996?

We realised that there was a gap in the market, because the big banks were talking about being interested in global M&A and how important Asia was to them, but in reality they were much more focused on Western M&A and Chinese IPOs, where the big bucks were. While we understood that Asian M&A was a tough market, but we reckoned we could build a business by entirely focusing on it.

How has BDA evolved over the years?

When we started out in 1996, we were largely a buyside shop, working for large, primarily Western MNCs looking to acquire in Asia. The buyside work was very useful in terms of helping us understand sectors and what clients wanted. For the first ten years of BDA, the sellside market and particularly the private equity buyout based sellside market didn’t really exist. But around 2006-2007 there were signs that it was beginning to take off, and that was when we made the switch to focus on the sellside which is 80% or more of our business today.

The other two big changes were a few years back when we started both to build out and focus on our six core sector expertise including Industrials, Chemicals, Health, Technology, Consumer & Retail and Services as well as to set up a dedicated financial sponsors group coverage team which would focus full time on our relationships with sponsors.

How are BDA set up to deliver the best results for clients?

To run excellent sellside deals, you need to have global reach in order to access all buyers and be agnostic as to where the buyer comes from. There are very few parties that can really access all relevant buyers, regardless of geography, and why this business that we’re selling is attractive. We are one of the very few M&A advisories who can do that.

You also need to have the sellside process nailed. We are very, very process oriented. We systemize and automate the basic bits of a sellside process, which are normally repetitive, so we can focus on the difficult, critical bits which are specific to individual transactions and help our clients as fully as possible by adding real value. This is another key differentiator that we have in terms of systems and processes compared to our peers and competitors.

What can we expect from BDA Partners for the next five years?

If you do M&A, you want to be doing sellside M&A. The growth in the buyout market over the last 5- 10 years has been enormous in Asia. And if you look at the capital that has been raised over the last 1-3 years, it’s clear what we have seen to date is only a fraction of what we are going to see in the future. It’s a huge and rapidly growing market, but because of the complexity and global reach required, there are very few advisors that can effectively service this market. Sellside M&A advisory will remain our core business and we’ll continue to focus on raising our deal size.

Beyond that, we started to get involved in debt advisory and restructuring by a partnership with Zerobridge, as well as trying out principal investing with BDA Capital Partners. There are quite a lot of exciting opportunities for other avenues of growth in addition to the core M&A business.

What have been the biggest challenges in BDA’s journey so far?

The hardest challenge has been creating the global network we have today, where each person in each office can deliver much more than they are able to do individually. This has taken a lot of time and it is completely and utterly about the people inside BDA. It’s ever evolving and must always be improving and progressing through our team efforts. Keeping the team moving forward and focused across nine different offices and 12 different time zones will always be challenging.

What are you most proud of about BDA?

It is the team that has created this seamless global network that allows us to deliver the best results for our clients. I love our team and I love our team spirit. Very, very few organisations have as diverse and international a team which truly works together in a fast, coordinated and intelligent way. I love the fact that we have so many people from so many countries liking each other and enjoying working as a team – and that this teamwork delivers great results.

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Latest insights from BDA

About BDA Partners

BDA Partners has a long track record of completing complex cross-border carve-outs. As one of the most active M&A advisors in Asia, we complete several carve-outs for clients each year. We share our insights below on how to complete a cross border M&A carve-out transaction successfully.

Carve-outs are a growing feature in the current M&A deal market for multi-national corporations (“MNCs”) and financial sponsor-backed companies, particularly as CEOs and shareholders assess non-core segments and assets and look to improve financial return metrics.

Acquiring a carved-out business is attractive. Significant value can often be created through margin improvements and revenue / cost / operational synergies with the new owner. Carve-out transactions require buyers who are experienced with reviewing, diligencing and identifying the value-add opportunities, and have an experienced investment team to implement changes from day one. These criteria make financial sponsors ideal acquirers of carved-out businesses. The growth in dry powder with private equity funds, estimated at US$830 billion for buyout funds at December 2019[1], is increasing deal volumes and competition between private equity funds searching for acquisitions to put committed equity to work. This in turn is having a positive impact on the valuations MNCs can realise.

During the current COVID-19 pandemic, we see management teams and shareholders using this time to identify any non-core segments and assets which could be carved out in the future; either to raise cash to improve liquidity; or as part of a wider restructuring of the Group. If the potential carve-out is not urgent due to a distressed financial position, this time during the COVID-19 pandemic is being used to assess and plan for future carve-out transactions when local and global economies begin to recover.

Carve-outs are not for the faint of heart. They present the seller with a range of complex, time consuming and potentially challenging deal hurdles from day one. Deal complexity arises from company business operations including international subsidiaries, logistics, procurement, HR, back office functions and IT systems, resulting in an array of deal challenges. No carve-out deal is the same, which means customised solutions will be needed to bridge the needs of the buyer and seller of each deal. Early preparation with an experienced financial advisor is critical in order to avoid potential pitfalls.

Being poorly prepared for a carve-out can have a major impact on the chances for success. Poor preparation or neglect of key areas may jeopardise the transaction itself, and will certainly:

Increase scope and time of buyer due diligence
Lead to value mismatch between the shareholders and the buyer
Damage potential post deal synergies
Impair post transaction relationship with the seller where Transitional Service Agreements (“TSAs”) are required

We believe there are a number of common themes and actions which can be considered to help address these risks and challenges of completing a carve-out transaction, and ultimately increase the likelihood of successfully completing the transaction.

Appoint experienced external advisors as early as possible

Areas of deep complexity and risk include standalone financials, legal risk and integration planning / implementation with the new owner, employee transfer and shared IT/compliance. In advance of a process we recommend appointing a financial advisor and other sell-side advisors to help manage the process in a disciplined approach. This would include a Big 4 accountancy firm and a legal firm as a bare minimum, but IT and HR advisors may also be needed. Advisors who have past experience in carve-outs will help maximise value and provide confidence to buyers about the carved-out business they want to acquire.

Identify the carve-out business senior management team early

The senior management team of the carve-out business needs to be identified and aligned with the carve-out transaction and strategy early in the process. The potential buyers will need to meet and hear the management team discuss the business early in the process and give the buyer confidence about the carved-out business they are looking to acquire, including the short-to-medium term strategy and growth opportunities.

To ensure the management team are aligned and motivated, the seller should ensure there are transaction and retention bonuses in place as part of the sale process. This will motivate the senior management team to get the deal done, but also provide confidence to the buyer they will inherit a senior management team that knows the business inside out and will drive the integration and growth plans from day one.

To the extent there are full time employee (“FTE”) gaps in the senior management team being carved-out, it is best to be upfront and communicate this early in the process to the buyer, so they are aware the positions which need to be filled on day one. However, the costs for such unstaffed positions, should always be included in the historical and forecast financials.

Finally, if needed, the seller should bring in dedicated cross departmental support as part of the sale process to help buyers understand a particular area if not covered by the senior management team. For example, the seller may have a Group Head of IT who is not transferring with the carve-out transaction, but they will be important for educating the potential buyers on the IT framework / systems in place.

Prepare a “what’s in, what’s out” analysis

Early in the sale process, the seller along with external advisors should prepare a detailed “what’s in, what’s out” analysis setting out all the assets including real estate, contracts, back office / IT services and people by entity / location that will be included in the transaction perimeter. This exercise is fundamental to complete early in the sale process as it will dictate how you approach preparations of the historical / forecast financials and how you sell the equity story to potential buyers as you take the carved-out business to market. If this analysis is detailed, thorough and well thought through, it will give buyers confidence about the business they want to acquire. This analysis will help identify any services such as IT, finance, procurement, contracting, etc. that might need to be covered by a TSA on day one.

Prepare the standalone financials

Once the “what’s in, what’s out” analysis is completed, the preparation of the financials will be somewhat easier. To the extent possible, the financials should be prepared and presented with the buyer and its due diligence in mind. For example, the financials should be split by key segment, geography and even a customer / products / services / SKU level, if possible.

You should ensure that the carved-out financials have all the costs required to run the business on a standalone basis from day one, post carve-out. For example, if a sales or finance person previously spent 50% of their time working for both the carved-out business and the parent group, then you should include the costs for one full FTE and not a half FTE in the carved-out financials. This will be a key focus of due diligence for a buyer, so it is important standalone costs are detailed and well thought through.

In the current COVID-19 environment, forecasting the financial performance of the carved-out business will be inherently challenging and difficult to set out accurate and reliable assumptions. Time should be taken to assess the impact of financial forecasting under COVID-19, and if needed, you should delay the process until the financial forecasts can be modelled accurately with solid underlying assumptions, and when the local / global economies have stabilised.

In our experience, the carve-out financials and operating model are certainly the areas where clients believe there would be significant room for improvement if they could start the sale process again.

While this may appear straightforward, accumulated habit and internal company shared resources may give a false impression of true standalone costs and requirements. Deep review and analysis are required to verify the completeness and accuracy of the standalone accounts.

Prepare the equity value add story for a new owner

There will be a fundamental reason why the MNC or private equity fund wants to divest the carve-out business, and this could include being a non-core business, lack of senior management focus, lack of investment, better management of asset portfolio, or struggling financial performance in the face of market competition. It is critical to tell the equity story to the buyers as to why it is a great business to own and how under the right owners, the business has great growth opportunities and can create significant value for the new owner. This could be achieved through investments in new plant & equipment, geographical growth, product development, or from positive market forecasts. If required, consider engaging commercial due diligence providers to prepare a report to help tell the market story.

Legal, tax and jurisdiction complexities

The legal aspects of a carve-out transaction tend to be one of the more complicated areas. This is largely associated with how to separate the in-scope legal entities (or assets) from the wider Group, along with how to legally separate customer & supplier contracts, IP, fixed assets and employment contracts. Critical assets or employees may fall out of the perimeter of the carve-out and may need to be re-assigned to the carved-out entity before or on closing. There may also be change of control clauses in customer, supplier or lender contracts which need to be communicated. Furthermore, there may also be tax implications for the seller or the carved-out business from the carve-out, and if so, internal or external tax advisors should be consulted.

As the business is being carved-out from a wider Group, it is likely there could be legacy issues or provisions from the prior owner or day-to-day operations, such as legal or environmental provisions. Assessing these legacy issues early in the process can help to prevent further value erosion from material debt-like items.

For a successful outcome of the transaction, to preserve value and provide protection to the seller, it is crucial that the Sale and Purchase Agreement (“SPA”) is prepared early and sufficient time is provided for sell-side and buy-side lawyers, consultants, and investment professionals to negotiate and share the mark-ups back and forth. Furthermore, schedules to the SPA should be added which set out the assets, customer & supplier contracts, and IP for example, that will be included in the transaction perimeter.

Finally, it is crucial to have the TSA designed, planned and fully costed for immediate implementation. Drafting should begin early, with a draft TSA in the dataroom, as part of the buyer’s due diligence will be understanding how quickly and challenging the separation transition period will be, and what the associated costs, penalties, services provided, and performance reporting are. There will be significant additional one-time start up transitionary costs to be borne by the buyer and seller in preparation and implementation of the TSA.

Despite rigorous preparation for a corporate carve-out, flexibility is needed by both buyer and seller to arrive at an agreement. TSAs may include sharing of commercially sensitive information, IT infrastructure, expose the seller’s customers to a new party in the form of a buyer, and lead to potential legal ramifications if handled poorly. A well-designed and managed process will build trust which is the essential ingredient to achieve agreement.

If you would like to discuss carve-outs further, or if you are considering a carve-out transaction, please reach out to any of the BDA Partners team members listed below.

Jonathan Aiken, Managing Director, London: jaiken@bdapartners.com

Ruari Sinclair, Vice President, London: rsinclair@bdapartners.com

[1] Bain Global Private Equity Report 2020

About BDA Partners

The COVID-19 pandemic has already caused significant damage to the global economy. All markets and sectors have been affected. Asian countries are working with some success to revive their economies, and to begin to loosen lockdowns across the region, although we have seen numerous setbacks.

The pattern today feels like two steps forward, one step back.

Technology and the practices developed in past pandemics have enabled governments to track potential infection cases, trace their close contacts, and quarantine all affected individuals to stop the virus from spreading in the community. Singapore’s contact tracing application, TraceTogether, uses Bluetooth technology, as does Australia’s COVIDSafe app. South Korea’s drive-through testing centres have enabled testing for large sections of the population. In China, the government has used a combination of QR codes, colour-coding, and the ubiquitous Alipay and WeChat apps to track and permit healthy travellers.

Several Asian countries, including China and South Korea, have experienced an uptick in cases sometime after restrictions were eased. In several instances, authorities have re-imposed measures to restrict interactions between citizens, to fight secondary spread of the virus.

For most of the past month, China has reported very small numbers of daily new cases, most of which were “imported”. In recent days, the Chinese government has found new local clusters in cities including Wuhan and Shulan. The global press has been sceptical as to the true number of China cases, but the country has taken dramatic and extensive steps to regulate and monitor all its citizens so businesses can largely return to work. Businesspeople are now able to travel around the country via cars, trains, buses, aeroplanes, etc.

South Korea managed to lower the number of new cases without fully locking down its economy. Instead, the South Korean government responded quickly to ramp up testing capacity and aggressively trace and isolate every potential case.

In Japan, Prime Minister Shinzo Abe has extended the nationwide state of emergency to 31^st May. Japan’s Economy Minister Yasutoshi Nishimura has said the declaration will be lifted in many regions outside Tokyo, this week.

Singapore’s citizens will soon be able to get a haircut and visit bakeries, as the government loosens restrictions slightly. Despite an upsurge in cases due to an outbreak among foreign construction workers in crowded dormitories, transmission in the local community has dropped. Singapore has reported 26,000 infections, the most in Asia, after China, India, Pakistan and Qatar. But it has a low fatality rate, with only 21 deaths.

As of 12^th May, Vietnam has, according to official statistics, still suffered no deaths from the virus, and has limited total infections to just 312, despite its shared border with China, and its role as a popular regional holiday destination. Vietnam has managed a rigorous pandemic control strategy including extensive structures of control and tracking via mobile phones.

Despite rising numbers of COVID-19 cases, both India and Pakistan are loosening their strict lockdowns, hoping that deaths will remain low and their hospitals will be able to cope with the serious cases. The surprisingly low level of South Asian deaths so far, may signal a milder pattern to the disease outbreak, which has convinced authorities the economic harm of extended lockdown is not justified when set alongside the apparently manageable health risks. Official statistics in both countries show a relatively low level of infections to date, but analysts suggest that a growing number of infections may be lurking undiagnosed.

We see many bright spots in key BDA markets.

Financial sponsors have been resilient and quick to act. Initially they performed triage on their existing portfolios, but already they are beginning to explore new growth opportunities including looking at prospective acquisitions. Global sponsors have been particularly aggressive in Japan, with local government support. Notably, Bain Capital has acquired Showa Aircraft Industry and Nichii Gakkan. Private equity firms are increasingly looking at take-privates and PIPE transactions.

As in all downturns, we see the strongest and best capitalised, most differentiated players, as benefitting and often growing market share aggressively. Tech-enabled businesses, and those which sell online, have become markedly more successful.

We see some price dislocation, slowing the progress of deals: sellers do not want to accept a significantly lower price, but buyers are looking for bargains. Realism is seeping through, and the most sophisticated players are looking beyond the crisis. Stock markets have bounced to some extent off their low.

We are seeing some distressed seller activity, and evidence of business groups looking to sell certain assets via carve-outs to generate cash or refinance existing debt facilities.

Life goes on, for now, in the new abnormal.

Notwithstanding lockdowns and social distancing, BDA is succeeding in helping clients to close transactions. Buyers are hiring third parties to carry out site visits, to be their eyes on the ground, when the buyer is unable to travel. Management presentations are being done virtually as video conferences with Microsoft Teams and Zoom. BDA is proud to have advised on transactions involving India, Vietnam, Thailand, China, Germany and the US in the last two months:

We have been monitoring each sector and geography, working to provide timely insights to help our clients understand and weather the storm.

We have published the following reports which you may find useful:

BDA has a track record of providing high-quality M&A advice, over 24 years. We have built scale, focus and connectivity between sellers and buyers across Asia, and worldwide. We will continue providing premium, Asia-related advice to clients globally, to achieve the best transaction outcomes – including walking away from deals which don’t make sense.

We are available at short notice to discuss what we are seeing, and how we can assist with your strategies and potential transactions.

We trust that you and your families are staying safe and healthy. We are operating well, across all our offices, and from our homes. We are confident we are well placed to help our clients achieve their goals during the rest of this year and beyond.

Please let us, or our senior colleagues, know if we can help you in any way.

Euan Rellie, Charlie Maynard, Andrew Huntley and Paul DiGiacomo

Senior Managing Directors
BDA Partners