M&A vs IPO—the dual-track process

Corporate analysis: Will we see an increase in the number of M&A/IPO dual-track processes in 2015? George Swan, a corporate partner at Freshfields Bruckhaus Deringer LLP, gives an overview of what is involved in the process and the benefits and pitfalls practitioners should consider.

What is a dual-track IPO/M&A process?

A dual-track involves running an M&A sale track alongside an IPO track, so the owner company only has to make a final decision on its preferred exit strategy late in the process.

It is sometimes run simultaneously with a third refinancing track, for example through a high yield bond—this is referred to as a triple-track process.

What are the benefits for owner companies?

Potential benefits include:

• owner companies can use the IPO markets to flush out potential bidders
• the process can help maximise exit proceeds by increasing competition on an M&A sale
• owner companies that want to participate in future profits can maintain some ownership if the IPO track goes ahead
• there is an increase in transaction certainty for the seller, because owner companies wishing to exit are not entirely reliant on third party bidders
• owner companies can hedge their bets and leave the final exit decision as late as possible
• sophisticated sellers can use a triple track to maintain competitive tension in the disposal process independent of equity markets

What are the main challenges in pursuing a dual-track process?

The key challenges are that:

• although running both tracks simultaneously will produce some synergies, it is more costly and requires a greater use of management bandwidth than a pure sale or IPO process
• selecting an IPO at the end of the process is unlikely to lead to a full exit
• the process often takes longer than a pure sale
• there are additional challenges involved in co-ordinating the tracks and it is harder to target an IPO market ‘window’

Where is the dual track process popular?

In many ways, 2014 has seen the dual-track become the preferred exit strategy, especially for private equity exits.

Geographically, dual-tracks are popular in London and New York. They have also been seen in Japan but are less common elsewhere in Asia, where strong capital markets have traditionally provided better returns via IPOs than M&A exits. They are sometimes seen on bigger deals in parts of Europe, but regulatory constraints make dual-tracks challenging to implement in France.

What are the key factors for practitioners to consider?

Timing

This is potentially a much longer process, including regulatory reviews of IPO documentation, so it will usually require more practitioner hours and more input from practitioners’ specialist teams.

Advisers

It is market practice to use different banks and advisers for each track, so the relationships with third party advisers will be more complicated.

Disclosure

The public disclosure requirements for IPOs mean that it is essential to monitor the extent of the M&A track disclosure closely and be prepared for short notice disclosures. It may also be necessary to put standstill agreements in place with bidders.

Due diligence

The IPO track means that it may be possible to substitute the prospectus and financial long-form reports for legal and financial vendor due diligence, although usually on a modified or non-reliance basis.

Representations and warranties

The dual-track requires fairly extensive business warranties in the underwriting agreement as there is no post-closing recourse to the owner company on an IPO. The M&A track may use modified underwriting agreement warranties with the draft prospectus as its disclosure letter.

Why have dual-tracks been increasing in popularity in 2014, and will this continue into 2015?

Mitigating volatility in the equity markets

Equity markets in 2014 have seen a lot of volatility. When market conditions change suddenly, this can adversely impact an IPO’s execution and/or pricing. There were numerous examples in the UK in 2014 of IPOs being pulled. Given this volatility, and the subsequent uncertainty over timing, we anticipate that dual-track processes will gain momentum more widely in 2015 for businesses that historically would have focused solely on an IPO.

Responding to the more selective needs of investors

Investors were more selective in the second half of 2014. In response to factors such as mixed after-market trading performance by a number of companies listed in 2014, some aborted IPOs, macro-economic events and investors’ own need to manage new portfolios. The competitive tension created through a dual-track process can mitigate some of the effects of this to support higher exit pricing.

Maximising returns

In 2014 we saw a significant number of exits supported by a separate, often informal, sale process. The majority of dual track processes by value ended in IPOs.

We will continue to see dual-track processes being used in 2015, with an increasing percentage of deals beginning as IPO/M&A dual-track processes, both by number and by value.

George Swan is a financial services partner specialising in domestic and cross-border mergers and acquisitions, joint ventures and other corporate advisory and transactional work with a particular focus on the insurance and banking sectors.

Interviewed by Jenisa Altink-Thumbadoo.

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

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