Global M&A activity was on fire in 2021. Deal volumes and sizes were strong all over the world, and the latest research shows that the pace is unlikely to slow down soon. How has this new environment changed how M&A practice is carried out? Specifically, how have due diligence processes been impacted by the growth in M&A? Those issues were the subject of a recent Litera webinar that featured a trio of M&A veterans from some of the world’s leading law firms.
M&A Due Diligence: Global Trends was hosted by Litera’s Valerie Pennacchio, who manages Litera’s Practice Advisor team in its Workflow business. Noah Waisberg, who co-founded the AI-based contract analysis software company Kira Systems, which is now part of Litera, moderated the event. Waisberg’s panelists were:
- Rita-Anne O’Neill, Partner & Co-Head, Global Private Equity, Sullivan & Cromwell LLP
- Dr. Holger Hofmeister, Partner at Skadden, Arps, Slate, Meagher & Flom LLP and Affiliates
- Michael Francies, Managing Partner at Weil, Gotshal & Manges LLP
Year in Review: Unprecedented M&A Activity
Pennacchio kicked off the webinar with a review of just how active M&A markets were in 2021. The number of announced deals exceeded 62,000 globally in 2021, up an unprecedented 24% from 2020. Publicly disclosed deal values reached all-time highs of $5.1 trillion — including 130 megadeals with a deal value greater than $5 billion — a whopping 57% higher than 2020 and smashing the previous record of $4.2 trillion set in 2007.
Europe, the Middle East and Africa (EMEA) showed the greatest growth in deal volumes over the prior year, with an increase of 34%, followed by the Americas with 22%, and Asia-Pacific with 17%. Although the volume of deals in 2021 was approximately the same across the three regions, deal value was more heavily weighted towards the Americas, with over 50% of deal value and approximately 60% of megadeals.
According to a Deloitte survey, 48% of M&A professionals believed that deal volume will increase even more in 2022, and another 27% believe it will at least stay at current levels.
Amplified Risk – and The Use of Technology to Counter It
Those deal volumes, in a market already stressed by the pandemic and other factors, have raised consciousness of the risks that M&A activity entails. The risks have been compounded by the compressed timelines of many deals; the underlying market uncertainty; the expanded scope of review of factors such as HR, Cybersecurity, Tax, IP, Covid preparedness, Environment, Social and Governance issues; and the stresses of the “Great Resignation,” with law firms struggling to recruit and retain people to do the work.
One approach to dealing with those amplified risks is to leverage technology. Pennacchio cited a 2018 Datasite survey that found just 22% of respondents thought that technology was driving the most change. While not the same survey or the same respondents, a 2022 Future of M&A Trends survey from Deloitte show how much those attitudes have changed in the intervening years. 69% of respondents were currently using data analytics in their work, and another 27% were looking into it. Much of the growth is due to the working conditions imposed by the pandemic; 57% of respondents were now using remote technology to handle due diligence, and 58% were using remote technology on most transactional execution processes.
How Has M&A Changed?
The rest of the webinar was devoted to the question of whether M&A practice has been substantially transformed by the onslaught of deals and the injection of new technologies into the mix.
The initial reactions of the panel were, perhaps surprisingly, “not necessarily.” O’Neill thought that while diligence practices have changed somewhat with the introduction of representation and warranty insurance as a supplement to the diligence process, good diligence hasn’t really changed. “It is still paramount to focus on the most material provisions, and to understand what the client sees as the most important risks to look for.”
Hofmeister agreed: “The smartest diligence is the diligence you coordinate with the client,” he said. The key is preparation and finding the specific focus for each deal. Francies added that “we’ve gotten away from the kitchen sink approach” to diligence. No longer is it about simply throwing resources at diligence, but rather clients are looking for their outside counsels’ judgment. That tends to require more senior people, not just more junior lawyer resources.
How Do You Know What You Don’t Know?
Waisberg played devil’s advocate for a bit with the idea that clients or firms always know what to look for. With all the risks already mentioned – litigation, environmental, regulatory actions, etc. – how do you know which contracts are material without reviewing them first?
Francies’ response was that the best way to identify which contracts are material is to know the businesses. Some contracts are material simply because of their size, but it’s also important to simply know how a business works. Again, added O’Neill, holding a dialog with clients is key here.
Hofmeister acknowledged that, while traditional diligence gets firms quite far if they prepare, legal teams representing a buyer should talk to the target company, and consult industry advisors; they do want to ask the question “what are we missing?” There may be things that are embedded in contracts considered to be not as important that could raise risks. He recounted an example of a huge diligence project involving a corporate reorganization that encompassed over 4 million documents. With technology, that kind of review is now possible. The review yielded a few risks that might have otherwise been overlooked, but he noted that the primary benefit of the exercise was that everyone slept well, knowing that no stones were left unturned.
The panel generally agreed that the use of AI in document review, which is definitely on the upswing and an increasingly important aspect of M&A practice, was not seeing the same degree of adoption as the use of AI in eDiscovery on the litigation side, for example.
The rise of representations and warranties insurance seems to have become more and more ubiquitous, but it doesn’t seem to have had too much of an impact on the volume or nature of the diligence being done. “Now the diligence is a central part of getting the insurance,” said Hofmeister, but it still must be done with or without the insurance.
O’Neill noted that insurers have become more specific about exclusions and contract language based on their claims experience, and parties seeking to complete deals in certain industries are finding it harder to get insurance. “We are seeing more types of exclusions. We are prepared to use indemnities to backstop some of those issues, and even using escrows to avoid the claims process. That being said, reps and warranties insurance is still everywhere, and in terms of how it’s changed diligence, I think as Holger said, diligence helps to find things that are going to be exclusions, and you are also using it to identify the bigger issues that might not be covered by insurance, such as major environmental, anti-bribery, and other issues that can cause reputational harm.”
Is Technology a Solution for the Great Resignation?
Waisberg asked the panel whether diligence has been impacted in firms that have seen so many lawyers disappear through attrition. How has diligence changed in the face of those strains?
Both O’Neill and Hofmeister acknowledged that capacity has been strained, and that their firms are more open to bringing in other firms, local counsel, their day-to-day corporate practice, or even the client staff to fill in gaps. “We play nice with other counsel,” said O’Neill. She also acknowledged that technology is an appealing way to effectively tackle diligence, but that sometimes it is hard to get clients to adopt it.
Francies added that it’s not just AI document review technology that can help with workloads – other software is available to manage document flow and processes, and that’s a big help.
Finally, all the panelists acknowledged the role that technology can play in creating better reporting of diligence finding. Clients no longer want a big data dump – they want the key findings succinctly presented and more focused on the key issues, and technology can help with that.
The Future of AI in Legal Practice
All of the panelists anticipate that AI will continue to expand its influence on M&A practice, both in due diligence but also in areas like deal term studies. Waisberg, ever the AI advocate, believes that the use of technology in document review will become ubiquitous, but ultimately the changes to come will be driven not by changes in the technology itself, but in the evolution of law firms’ approach. “It’s more about behavioral than technological change.”
View the full webinar here.