Chapter 3 of Gilbert + Tobin’s 2022 Takeovers and Schemes Review (below) explores transaction structures used in public mergers and acquisitions in 2021.
Schemes of arrangement return as the preferred transaction structure
In 2021, normal service was resumed with schemes of arrangement returning as the strongly preferred transaction structure for deals over $50 million, with 79% of transactions using this structure. This means that the results from 2020, where there was an almost 50:50 split between takeovers and schemes, were an outlier rather than a reversal of a five year trend which has seen schemes become the preferred transaction structure for Australian public M&A.
In 2021, the shift away from takeovers and back to schemes was driven by a number of factors: the stock market turmoil of early 2020 (causing at times a cavernous bid-ask spread between buyers and sellers) was long gone, the prevalence of mergers of equals using scrip consideration, rising share market valuations and clarity around valuation as the impacts of the pandemic were better understood. All of these ingredients resulted in a greater willingness of bidders to pay a strong price to succeed and target boards to contemplate friendly transactions which inevitably led to an increase in the use of schemes.
Schemes v takeovers ($50m+)
For transactions valued over $1 billion, schemes of arrangement remained the dominant structure in 2021 (94%). Only one transaction in this category proceeded by way of a takeover, namely, the bid by Seven Group for Boral, a transaction that was never designed to result in 100% ownership and in which the bidder already started with a 23% shareholding (meaning the overall consideration to buy-out the minorities was significantly less than the headline deal value). This predominant use of schemes to implement large transactions is consistent with market practice over many years and is referrable to a strong desire for transaction certainty in the context of “bet the farm” transactions, the need for due diligence and greater complexity of third party financing which is inevitably required for transactions of that size.
Schemes v takeovers ($1b+)
Pre-bid stakes in takeovers and schemes of arrangement
Pre-bid stakes were not as common in 2021 (39% of deals included some form of pre-bid compared with 48% in 2020).
Pre-bid stakes were much more prevalent in takeovers (62%) than in schemes of arrangement (33%). Where a pre-bid stake was present, the type of pre-bid used was broadly consistent with previous years:
- pre-bid agreements with shareholders were entered into in 33% of deals in 2021 (down from 40% in 2020);
- an existing shareholding was present in 71% of 2021 transactions (up from 65% in 2020); and
- the use of equity derivatives remained low at 4% (compared to 5% in 2020).
In a significant change from 2020, the preferred form of pre-bid stake in 2021 was the same whether the transaction was structured as a scheme of arrangement or a takeover. A physical pre-bid shareholding was in place in 75% of takeovers and 69% of schemes in which there was a pre-bid stake. In the past, it has been more common for pre-bid stakes where a scheme has been used to favour the use of pre-bid agreements (either an option or voting commitment) to avoid the fact that shares owned by a bidder cannot be voted in the same class as other shareholders voting on scheme proposals. This change from 2021 is likely, at least in part, to have been driven by the increased levels of competition in M+A causing bidders to want to secure a physical shareholding to deter competitors and provide a “second prize”, by way of profit on the stake if it is sold into a higher competing bid.
Hostile bids decline
Friendly v Hostile
Hostile transactions reduced from 26% of all transactions in 2020 to 13% in 2021. In our view, 2020 was the outlier in this regard. The steep decline of stock market and asset prices in early 2020 caused a significant gap in the bid-ask spread between buyers and sellers resulting in more acquirers taking opportunistic takeover bids straight to shareholders rather than seeking target board approval. 2021 saw increasing stock prices and renewed confidence in deal making and deal doing resulting in a return to more normal levels which helps explain the pivot back to schemes as the preferred transaction structure.
The most notable hostile or unsolicited bid was the Seven Group’s $9 billion off-market takeover bid for Boral, which was made at a narrow premium to allow Seven Group to increase its shareholding from 23% to 69.6% to consolidate control and gain a greater share in expected improvements in the performance of Boral in the years to come. Despite remaining hostile and not recommended by the Boral board, the bid was more successful than expected, delivering Seven Group majority control.
Whether a transaction was friendly or hostile had a significant impact on the chances of success in 2021, with 90% of friendly transactions being successful and only 43% of hostile transactions achieving success. Rising equity markets and the narrowing of the bid-ask spread meant that hostile transactions, often dominated by opportunistic bids when prices are depressed for a particular reason, were not only less common in 2021, they were much harder to complete successfully when they did eventuate.
On-market bids remain rare
Of the 62 transactions valued at over $50 million in the Australian market in 2021, only three were on-market takeover bids (being Gallin’s bid for McPhersons, Somers’ bid for Thorn Group and Samuel Terry Absolute Return Active Fund’s bid for Kangaroo Island Plantation Timbers). All three of these transactions were unsuccessful.
Perhaps Gallin’s takeover for McPherson’s was the most interesting as the target board chose to recommend that shareholders not accept the bid in reliance on future strategic plans lacking definition and a potential rival bid at a higher price. Following the close of Gallin’s bid, the potential rival bid did not eventuate (after that potential bidder conducted due diligence) and McPherson’s struggled in its financial performance. The McPherson’s share price is now 35% below the Gallin bid price, leaving significant questions about the judgement of the target directors’ recommendation not to accept the Gallin bid.