A recent survey of private equity professionals, senior corporate executives and lawyers shows that a large majority of respondents from both sides of the Atlantic believe that solvency opinions will have a bigger impact on the terms or completion of a transaction over the next year.
A solvency opinion is a financial opinion issued typically at the close of a transaction that addresses certain financial tests of solvency, and is often required by boards or lenders as additional protection in the case of a subsequent fraudulent conveyance claim. Such an opinion was one of the factors behind the cancellation last December of a deal to acquire Canadian telecoms company BCE by a private equity consortium including Providence Equity Partners, Madison Dearborn Partners and Merrill Lynch Global Private Equity.
The consortium halted what would have been a record-setting C$52 billion ($48 million; €32 million) buyout after auditor KPMG determined the company would emerge insolvent from the buyout. “Receipt of a solvency opinion from a nationally recognised valuation firm,” was one of the conditions of the original sale agreement, the buyout group said when it cancelled the deal.
A study conducted by mergermarket, in association with Houlihan Lokey, in the third quarter of 2009 showed that an overwhelming number of respondents – 86 percent in Europe and 82 percent in North America – believed that M&A professionals have become more aware of solvency and fraudulent conveyance issues over the past two years, most likely due to the sudden appearance of the solvency opinion in business headlines. Meanwhile, 78 percent of respondents said that the valuation process has been directly impacted by poor economic conditions, with the availability of financing and volatility in the equity markets cited as two variables that have a strong influence on the process.
However, while a lower number of European respondents said they had been involved in a transaction involving a solvency opinion over the last three years compared with their US counterparts, three-quarters of them expect demand for solvency opinions to increase in their region. This indicates that Europeans can expect to be hearing more about solvency and solvency opinions in the coming months, the study said.
“While concepts of solvency and viability vary across the EU, we’re seeing a convergence around heightened concerns over solvency issues, both in and out of the transaction context,” EW Purcell, managing director and co-head of Houlihan Lokey’s Financial Advisory Services in Europe, said in a statement. “The regime varies across jurisdictions. For example, in France, the legal framework for solvency is still under development, while in Germany, directors of companies are obligated to file for insolvency if the company cannot pass the 'cash flow test' (liquidity) projected over the next 24 months. Accordingly, directors will often hire an independent advisor to determine whether the company in question has in fact entered the 'zone of insolvency'.”