We have highlighted below key considerations in current deals as we approach the second anniversary of the pandemic:
Enhanced Due Diligence
Diligence request lists include additional items related to COVID-19 considerations, including any PPP application and forgiveness materials (many buyers perform a PPP audit), documentation of work-from-home data security, a description of how the business has been affected by COVID-19, including supply chain disruptions, and a copy of the target company’s business continuity plan. Additionally, the buyer’s advisors will review detailed information relating to the company’s workforce, such as employment policies and procedures, including vaccination and leave policies, ongoing or potential accommodation requirements, health and safety measures adopted in response to COVID-19, and employee complaints, “whistleblowing” or alleged retaliation.
Representation and Warranty Insurance
Parties may obtain representation and warranty insurance to shift some of the financial risk of a transaction to an insurer in exchange for payment of the policy premium, which serves as the buyer’s primary source of recovery for the representations and warranties made by the seller by replacing all or a substantial portion of the indemnity that would otherwise come from the seller. If the transaction involves representation and warranty insurance, the transaction will involve additional diligence related to the underwriting process. The underwriter’s diligence will include review of the transaction agreements, financial statements, materials in the data room, legal, financial and environmental reports, and a diligence call that occurs prior to closing.
Buyers will want to make sure that the representations and warranties are drafted broadly enough to capture the impact of COVID-19 on the target company’s relationships with its employees, customers, vendors and suppliers. Additionally, close attention should be paid to the definition of “Material Adverse Effect” and the impact COVID-19 may have on it and the covenants in the purchase agreement. If the transaction involves representation and warranty insurance, these provisions will be drafted broadly to ensure the full scope of coverage under the policy. The insurer will focus on qualifiers to representations and warranties, including knowledge and materiality qualifiers.
If the target company obtained a PPP loan, buyers will request a PPP escrow if the loan is not forgiven or may request a separate escrow if the loan amount is above certain financial thresholds (i.e., $2 million) that may subject the loan to later audit or higher scrutiny. The purchase agreement should include representations relating to the company’s eligibility for the loan, loan forgiveness and performance of its obligations under the loan.
For a more in-depth discussion on this topic, we encourage you to view “M&A in a Post-COVID-19 World,” a webinar presented by Matthew McDonald, Patrick Murphy and Elizabeth Webb Bucilla on November 17, 2021.
Co-Authors Matthew McDonald and Patrick Murphy are partners and Elizabeth Webb Bucilla is an associate in the Corporate and Securities Department at Klehr Harrison.