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The M&A Perspective - III/2015

23 December 2015

U.S. Department of Justice "Swiss Bank Program": A Path to Certainty for M&A Deals in 2016?

In March 2015, the first Swiss bank reached an agreement under the program of the U.S. Department of Justice (DOJ), which provides a path for Swiss banks to resolve potential criminal liabilities in the U.S. (Swiss Bank Program). Until today, 68 Swiss banks have entered into a non-prosecution agreement under the program. It is estimated that in total 90 banks are eligible to participate in the program.

In The M&A Perspective I/2014, we wondered whether a regulatory flood will provoke a wave of asset deals in the Swiss finance industry. So far, the regulatory flood materialized and there has been substantial activity in this sector, but not many deals involved Swiss banks. This relative inactivity in Switzerland was often explained by the fact that the unresolved potential US criminal liability rendered Swiss deals unattractive and too risky. If that had been true, we would now be up for a change in 2016. Now that many banks seem to have done away with the obstacle of unresolved U.S. criminal matters and the cost of compliance with many new laws and regulations continues to increase, a further market consolidation seems likely. We will stay tuned and keep you posted in 2016.

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European Safe Harbor Ruling: Does it Matter in Swiss M&A Deals?

With judgment of 6 October 2015, the European Court of Justice (ECJ) invalidated the existing Safe Harbor regime for transfers of personal data from the EU to the U.S. Switzerland has a similar Safe Harbor regime with the U.S. in place. Since Switzerland is not bound by the ECJ decision, one might take the position that the Swiss Safe Harbor regime is not affected by the judgment. However, many uncertainties are surrounding this position, in particular since the Swiss Federal Data Protection and Information Commissioner (FDPIC) took the view that in light of the ECJ decision the Swiss Safe Harbor regime can no longer be considered as sufficient legal basis to transfer personal data to the U.S.; he therefore recommended implementing additional data transfer agreements. Although the opinion of the FDPIC is not binding, it does carry some weight. Moreover, there is a risk that data protection authorities in EU member states may start considering data transfers from the EU to Switzerland problematic, if Swiss companies still transfer personal data to the U.S. based solely on its Safe Harbor regime. From this it follows that the ECJ decision definitely also matters to Swiss companies and, therefore, to Swiss M&A deals.

For the time being, many uncertainties remain although additional data transfer agreements may for the short term mitigate the situation to some extent. Data protection compliance is already a due diligence topic today, but given the current situation, developments in this area in 2016, in particular the announced arrival of the "Safe Harbor 2.0" regime, have to be monitored constantly and more carefully to be able to reassess the situation and quickly adapt practices if need be.

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Currency Risks and Interest Rates: Continuing Challenges for Contract Drafters

The sudden weakness of the Argentinian peso is only the last of many currency turmoils in the recent past. We shed some light on currency challenges in the M&A context in The M&A Perspective I/2015. These challenges will stay with us in the foreseeable future. Another financial defiance is the occurrence of negative and diverging interest rates. While the European Central Bank (ECB) decided that the interest rate on the deposit facility will be decreased by 10 basis points to -0.30%, the Swiss National Bank (SNB) confirmed the target range for 3-month LIBOR CHF to be -1.25% to -0.25 % and the interest rate on sight deposits to remain at -0.75%. Contrary to the developments in Europe, the U.S. Federal Reserve (Fed) initiated a "liftoff" and decided to raise the target range for the federal funds rate by 0.25%, bringing it to a range of 0.25% to 0.5 %. Monetary policy is expected to further diverge; certain professionals expect the Fed to increase interest rates to 1.25-1.50% by the end of 2016.

The odd interest situation also raises unfamiliar questions in the M&A process. For instance, in a locked box price mechanism, typically the purchase price should bear interest from the locked box date until closing. The argument is that the buyer receives the benefit of the target business' cash flows from the locked box date until closing, whereas the seller receives the purchase price only at closing. Deal point studies show that in roughly 20% of all locked box M&A deals, the seller is compensated for such "value accrual". In cross-border deals, this raises the question which interest rate is the right one: The interest rate applicable to the seller as only this compensates him fully for his (internal) financing cost? Or the interest rate applicable to the buyer as only this correlates to buyer's benefit to "pay the purchase price late"? Or should it be the interest rate applicable to the target company as this is the interest rate which most closely relates to the target company's cash flows? Or should it be a calculation of return on investment (ROI) within the target company as this is the most appropriate equivalent to what the buyer gets? What should apply if the most appropriate reference interest rate is below zero? Although it is obvious that in such a case a seller will vigorously fight a deduction from the purchase price, there is no magic formula and no standard which is suitable for every deal. As with many deal terms, it is up to the negotiation and the negotiation leverage of the parties to define the appropriate compensation for the buyer's value accrual. Just one thing is clear: The Parties are well advised to agree on an appropriate interest level for late payments under the contract. For if they do not explicitly provide for such a rate, Swiss statutory law foresees as fallback solution default interest on late payment to be a hefty 5% p.a. (Article 104 Swiss Code of Obligations).

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