“Ten, maybe 20 years ago, when a prospective buyer wanted to acquire a company, they would conduct an actual real due diligence process,” said Claro & Cía partner Felipe Ossa. “Those were simpler times because now everybody is in a hurry,” Ossa added, claiming that due diligence has been reduced to “just reviewing a few documents in a virtual data room.” This is because many companies are trying to gain an edge over their competition by using the valuations provided in the reps and warranties documents to rush the due diligence process and will then dispute the value later, he said.
The popularity of reps and warranties insurance may be encouraging this practice. “Reps and warranties insurance is no longer a mysterious product, but an everyday component of many transactions of this kind,” said Ossa, noting a correlation between the product and an increase in disputes.
Anil Shivdasani, professor of finance at the University of North Carolina’s Kenan-Flagler Business School, agreed that reps and warranties have become an inherent part of the M&A process and that the interpretation of reps and warranties has become more contentious, but argued that lawyers must adapt to this new norm. “There’s a bigger issue here: how do you design a robust process for relying on and getting comfortable with reps and warranties in any situation, even when you have time to do due diligence, because there’s only so much you can frankly uncover in what is typically an expedited timeframe,” he said.
Legal challenges made to the purchase price in deals may also be more common because of the subjective nature of any asset valuation. While a typical M&A deal involves bankers or advisers working with the buyers to determine a value, there are multiple ways to calculate an asset’s worth – some more justifiable than others – and this creates an opening for disputes, said Shivdasani. “What’s got lost in this process – which I don’t think courts and tribunals have fully appreciated – is that valuation is as much a science as it is an art,” he noted. “I think that sense of judgement is getting lost in this very scientific approach and we are completely losing track of the art of valuation.”
Paula Forgioni, a professor of commercial law at the University of Sao Paulo, agreed. “People told us in the last decade that [evaluating a company] is a science, but this is not the truth,” she said. “Everybody that works with M&As in Brazil, Latin America, Europe or America knows that it is very difficult to get.”
When a serious valuation disagreement does arise, Baker McKenzie LLP partner Grant Hanessian suggested lawyers choose their chair wisely. “Decide if you want a sophisticated or a less-sophisticated chair,” he said. “It is very important in trying to separate the art from the science.”
Beside reps and warranties and valuations, panelists identified several other factors which heighten the chance of M&A disputes in Latin America. These include more complex corporate ownership structures; more exposure to commodity price fluctuations; more volatile exchange rates; and greater political risk.
Ossa had several suggestions for companies that want to reduce the chance of an M&A dispute. “Do your homework: conduct a proper due diligence process; define terms clearly and agree on the accounting standards that are going to apply,” he said. “You can use mechanisms such as the ‘locked box’ where you fix the price of the company at the date of the last audited financial statement and agree on methodologies of valuation.”
Richard Lorenzo, a partner at Hogan Lovells LLP’s Miami office, moderated the panel. Latin Lawyer’s coverage of the event will continue over the coming weeks. A previous report assessed the use of statues when enforcing arbitral awards against non-signatories.