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The recent Melrose-GKN deal demonstrates how post-offer undertakings became the new norm

18 Jun 2018
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UK

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The bid by private equity firm Melrose for UK-based advanced manufacturer GKN attracted substantial interest from politicians from both of Britain’s largest political parties. Conservative MPs were concerned that Britain’s clout in the international defence market would be harmed by the piecemeal sale of important parts of GKN’s business. Labour MPs sought to avoid any significant job losses in their political strongholds in the UK Midlands and elsewhere.

Melrose ultimately decided to exfiltrate itself from the pressure applied by Westminster and the media through the use of the UK’s relatively new post-offer undertakings system. In doing so, it offered some lessons on how the UK’s Takeover Code has evolved in recent years. It also offers some indications of what it implies for future deals. 

Ever since the 2009 Kraft-Cadbury takeover – which saw broken promises over job losses and factory closures – politicians in the UK have been determined to enhance the consideration of the public interest in the UK’s takeover regime. At the start of Theresa May’s premiership, she provided strong indications that the UK’s takeover regime would be drastically overhauled to give ministers wide-ranging powers to safeguard the interests of the UK economy and labour market. Her lacklustre performance in the 2017 election, however, curtailed this ambition.

Nonetheless, this January her business secretary, Greg Clark, successfully pushed the UK Takeover Panel to strengthen the Takeover Code. Specifically, the Panel agreed to amend the Code to mandate firms to state intentions with respect to the future business of the target company in the UK (including R&D), employment and the balance of skills, the location of the company’s headquarters and what consideration has been given in relation to pension scheme(s). In addition to stating these ‘intentions’, parties can now give ‘undertakings’ to carry them out, something the Code classifies as legally binding.

Whilst the new Code imposes no obligation to give post-offer undertakings, rising political scrutiny may make it increasingly difficult not to. The Melrose-GKN merger was the first case in point. The deal was the first major transaction since the reforms in January and politicians pushed hard to ensure that Melrose’s intentions for GKN were converted into legally binding undertakings. Parliamentary committees and senior members of the Cabinet created an intense degree of media scrutiny for Melrose, something the company thought it could only defuse by using the new legally binding post-offer undertakings system.

Melrose undertook that the new Melrose-GKN entity would: 1) continue to be headquartered in the UK, 2) remain listed on the London Stock Exchange, 3) not sell off GNK’s aerospace business and 4) maintain the previously agreed R&D expenditure for half a decade. Under the new system, Melrose could be taken to court or censured for market abuse if it fails to meet the commitments it was pressed into making.

This deal offers some important lessons for large cap acquirers and targets. This new landscape for M&A in the UK will require them to know whether and which public interest powers are relevant to their transaction and pre-empt whether politicians will expect them to use the new post-offer undertakings system. They will also need to consider how parliamentary committees and relevant ministers might interpret any intentions and whether, like Melrose, they will be pressured into giving substantial undertakings.

Above all, the point at which intentions or undertakings are given will require careful thought and calculation. How acquirers and targets describe how a business is to be managed or structured is now part of a set of linked political tests and – under the new regime – once political opinions crystallise and undertakings are given, they cannot be altered. When these undertakings are given, and in what context, is likely to be key to managing political pressure and maximising the assurance value they bring. This discipline of corporate diplomacy is likely to be one closely-scrutinised acquirers and sensitive targets have to master and get used to.

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