M&A Amid Trade Uncertainty: Negotiation, Drafting And Strategy

1. Overview

Shifts in North American and global trade dynamics triggered by the United States' evolving trade policies are raising multifaceted questions for M&A. Traderelated issues can vary widely and impact different targets and transactions in various ways. The task for buyers, sellers and their counsel is whether and how to adjust their negotiation, deal structure and risk allocation strategies amid these relatively novel circumstances.

While we cannot yet meaningfully assess trends in prevailing market practice, we can canvass those deal points that may warrant closer consideration in the context of trade-specific issues, from due diligence to interim period covenants to closing conditions. Nor should it be forgotten that M&A has previously endured numerous other significant macro-economic disruptions, including, in more recent times, the 2008 financial crisis and the Covid-19 pandemic. Many lessons learned in the past carry forward and can provide guidance in navigating trade uncertainty.

With well-advised negotiation, drafting and strategy, risks can be mitigated and opportunities can be seized. Business goes on, and dealmaking continues.

2. Valuation and Due Diligence

The relevance and potential risks of trade-related issues will vary from deal to deal. The most prudent and efficient means of conducting due diligence of trade-related matters will therefore be deal-specific. Deciding the appropriate approach may also require consultation with financial and other transaction advisors. For example, as the impacts of tariffs may not appear in historical financial statements, valuation of the target may be more challenging.

Trade-related matters will be of greatest weight where the target business involves supply chains that cross international borders, e.g., consumer goods, industrial manufacturing, pharmaceuticals, chemicals, automotive, oil and gas, and agricultural products. The target's exposure to tariffs can be both direct and indirect. Due diligence should include review of supply chain contracts, compliance with import/export laws, and adequate protocols to ensure continued compliance amid a dynamic trade environment. While due diligence of these matters is relatively standard, trade-related issues may warrant a much deeper dive. For example, greater scrutiny of key supplier and customer relationships that goes beyond contractual notices of dispute or declining purchase order volumes. Additional matters for closer inquiry may include (1) country of origin classifications, (2) inventory levels, and/or (3) potential exposure to retaliatory tariffs.

While other targets may not face direct exposure to tariffs, they may face indirect exposure via the potential for decreased demand because of unusual market conditions resulting from increased tariffs or trade uncertainty generally. Further, tariffs may lead to higher overall costs for the target. A detailed review of customer contracts to address the degree to which these costs can be passed on to customers may be important.1 Here any prudent legal due diligence will again be highly deal and/or industryspecific, and may again warrant consultation with the buyer's financial or other advisors. Overall, commercial and legal workstreams should be aligned and may require cross-functional coordination both upstream and downstream of the target. Potential examples include building a trade risk matrix and/ or valuation simulations that include multiple pricing scenarios.

3. Supply Chain Contracts

Where the target's business involves cross-border trade, either on the supply or demand side, its related contracts will be of acute importance. As relate to trade, key terms for due diligence include:

• Financial terms: Supply chain contracts often expressly address responsibility for import taxes, duties or fees, including direct reference to tariffs (e.g., by stipulating delivery price is inclusive of all taxes and duties). These contracts can also provide for automatic price adjustments tied to specified events. Change in law provisions with financial implications can also be triggered by tariffs. The focus should be on determining which party is obligated to absorb tariff-related costs. To the extent a contract is not clear on who is responsible for increased tariffs and other trade related costs, the parties may want to address this separately in the purchase agreement or an applicable ancillary agreement to limit future disputes.
• Termination: Common termination provisions in supply chain contracts include termination (1) for convenience, (2) for cause, and (3) upon the occurrence of specified events. The applicable terms and conditions can vary widely. Termination for convenience may be subject to an express minimum notice period. However, even where no notice period is stipulated, the common law may impose reasonable advance notice. This is a fact-specific inquiry dependant on the particular arrangement, e.g., the parties' business history and/or any established industry practice. Termination for cause or the occurrence of a specified event may require careful consideration of whether tariffs, changing market conditions, and/or the counterparty's response to such developments satisfy the requisite grounds to terminate.
• Force majeure: The key terms of force majeure clauses can vary significantly, including regarding (1) defining events, (2) foreseeability, (3) mitigation efforts, and (4) exclusions. This necessitates a clause-by-clause analysis. The party seeking to avoid performance will generally have to establish both that the clause is triggered by the circumstances and that performance has been significantly impeded. A high standard is often applied and increased expense, even if significant, may be insufficient. Whether a mere reference to "government action" captures a newly imposed tariff may be unclear.

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The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.