M&A in 2010: Principles and Processes With International Environmental M&A Due Diligence. Thursday, October 21, 2010

Transcription

1 M&A in 2010: Principles and Processes With International Environmental M&A Due Diligence Thursday, October 21, 2010 When You Think M&A, Think Fulbright. TM

2 Today s Presenters Sey Zimmerman Environmental Partner Fulbright & Jaworski L.L.P. Jeff Flanzenbaum Senior Project Manager age ERM 2

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4 International Environmental Due Diligence Typical Approaches ASTM E Phase I ESA Limited Environmental Compliance Review Limited it H&S Compliance Review Other Add-Ons: Social Due Diligence; ARO Assessment Most-Likely Case (MLC) & Reasonable Worst-Case (RWC) Liability Cost Estimates (e.g., Monte Carlo Analysis) Portfolio Site Reviews Data Room Review/Summary ew/su Property & Compliance Issues Selected Site Visits with Summary of Findings ASTM E Protocol 4

5 International Environmental Due Diligence Client Focus Varies Corporate Lead Due Diligence Historical Liabilities and Associated Cost Estimate / Reserves Regulatory Compliance/ Operational CapEx Reputational Risk Facility Integration: EH&S, Management Systems, Training Private Equity Lead Due Diligence Historical Liability Cost Estimates /Reserves Short-Term ( ~ 5 year) Cash Flow Reputational Risk Financial Institution Lead Due Diligence Historical Liability Cost Estimates /Reserves Environmental and Social Risks Equator Principles / IFC Performance Standards Reputational Risk 5

6 Environmental & Social Due Diligence Compliance & Operations Risk Compliance Assurance License to Operate Enforcement issues: consent orders, fines, project delays Health & Safety; Process Safety Restricted Materials Corporate v. local standards Expansion Potential Sustainability Risks Climate and carbon risks Water Resources Biodiversity and natural resources Energy Supply chains Life cycle of products, goods and services Backward Looking Present Looking Forward Looking Contamination Liability Active sites Heritage sites Manage Cash Flow 3rd Party Claims Reserves Financial Reporting Asset Retirement Obligations Legacy Risks Social License to Operate Skills and local expertise Social issues / Indigenous peoples Cultural heritage Resettlement t Stakeholder and community engagement Social & Community Risk

7 Example: Diligence Affecting Project Development Outcome 520-MW Natural Gas Power Plant (2004 ongoing) US company acquires greenfield asset in emerging market Company conducts standard diligence through law firm (2007) Diligence fails to identify critical E&S risks: EIA approval (2004) Project opposition Social commitments made (risks) Government scrutiny Diligence flaws translate into material E&S risks that impact business outcome (2010) Delays in securing financing ($ M): Lenders identify Environmental & Social Risks Financing limited higher risk investors Delays in revenue generation: Delayed construction start-up Stand-by costs for equipment Natural gas contracts Government s involvement: Cumulative impacts and planning Fines (due to delayed generation contract schedule) New regulations passed and enforced Permit renewal required Company s reputation: Increased public visibility and scrutiny Social license to operate Ability to access financing for other projects 7

8 Non-Technical Risk - Projects ERM analysis of 190 oil & gas projects globally Very few projects (<10%) were delivered on time Types of project delays experienced related to: 73% of delays were due to sustainability risks, e.g., external affairs, social & community, environment related the remaining delays were related to technical/contract risks Business estimates of cost of delays ranged from $100m to greater than $1b, depending on how they valued impact (delayed revenue, reputation losses) Similar industries Renewable energy Mining Infrastructure Food, Beverage & Agriculture Transportation 8

9 Breakdowns in cross-border transactions What we find Poor internal business process and communications around EHS due diligence Multiple internal stakeholders priorities not always aligned Transactional concerns differ from integration and operational needs The transactional momentum overrides judgment What the deal team bought versus what EH&S gets Strategic acquisitions are done at a high level of materiality $1 million here, $5 million there and pretty soon you re talking real money Adjustments/indemnifications don t always make it into strategic plan for the business Liabilities i can be managed contractually via price or indemnifications Disconnect between Purchase Agreement and operating business Increased burden on businesses with out commensurate increase in resources 9

10 Elements of what has worked What we find Transaction Issues Prescribed corporate M&A process EH&S is integrated in Business Development team EH&S participation with Ops, legal, affected business EH&S required to sign-off on the proposed deal Using due diligence to inform future integration Integration Issues Formalized integration blueprint Auditable standards Parachute EH&S professionals into acquired assets during transition 10

11 Applying Standards Globally What Standards Must be Met? Regulatory (Local Compliance) International Best Practices (e.g., IFC Performance Stds) Corporate Global Standards How to reconcile the varying standards? Uniform globally applied reflecting Company s values Compatible/Flexible local/regional applied reflecting applicable regs 11

12 The Equator Principles A framework that can be used to reduce Social & Environmental risks associated with investments in emerging markets Established in June 2003 by 10 banks and updated in July > 65 Financial Institutions today Social & Environmental risks and impacts assessed against policies and guidelines of the International Finance Corporation (IFC) 12

13 IFC s Performance Standards on Social & Environmental Sustainability Framework to help manage non-technical c risk throughout the life of an investment Developed in 2006; renewal in 2011 Eight (8) environmental and social performance standards Most comprehensive set of social standards for the private sector global benchmark Each Performance Standard has a set of corresponding Guidance Notes Additional explanations; reference materials Suggested practices & procedures Performance-based approach - Not rule-based Substantial credit is given for forward motion towards the goal (i.e., continuous improvement) 13

14 IFC Performance Standards al tems onmenta ent Syst Enviro nageme ial and t & Man S1: Soci essment PS Asse PS2 PS3 PS4 PS5 PS6 PS7 PS8 Labor and Working Conditions Pollution Prevention and Abatement Community, Health, Safety and Security Land Acquisition and Involuntary Resettlement Biodiversity Conservation and Sustainable Natural Resource Management Indigenous Peoples Cultural Heritage 14

15 Background and Context Link Between EPs and IFC PS Equator Principles 1. Review & Categorization 2. Social & Environmental Assessment 3. Applicable Social & Environmental Standards 4. Action Plan & Management System EPs 3. Applicable Social and Environmental Standards IFC PS 5. Consultation & Disclosure 6. Grievance Mechanism 7. Independent Review 8. Covenants 9. Independent Monitoring & Reporting 10. EPFI Reporting IFC Performance Standards PS1 S&E Assessment & Management System PS2 Labour & Working Conditions PS3 Pollution Prevention & Abatement PS4 Community Health, Safety & Security PS5 Land Acquisition & Involuntary Resettlement PS6 Biodiversity Conservation & Sustainable NRM PS7 Indigenous Peoples PS8 Cultural Heritage EHS Guidelines WBG EHS General General EHS EHS Guidelines Guidelines - Environmental -OHS - Community H & S - Construction & Decommissioning Industry Specific Guidelines 15

16 Today s Challenge The Transactional Moment FASB Asset Retirement Obligations Carbon Due Diligence / GHG REACH in the EU Product Stewardship Social Due Diligence Equator Principle Obligations for Financial Institutions Regulatory Uncertainty Project Investments 16

17 Life Cycle and Supply Chains How is product stewardship relevant in transactional settings? 17

18 Product Stewardship 18

19 Environmental & Social Due Diligence Compliance & Operations Risk Compliance Assurance License to Operate Enforcement issues: consent orders, fines, project delays Health & Safety Process Safety Restricted Materials Corporate v. local standards Sustainability Risks Climate and carbon risks Water Resources Biodiversity and natural resources Energy Supply chains Life cycle of products, goods and services Backward Looking Present Looking Forward Looking Contamination Liability Active sites Heritage sites Manage Cash Flow 3rd Party Claims Reserves Financial Reporting Asset Retirement Obligations Legacy Risks Social License to Operate Skills and local expertise Social issues / Indigenous peoples Cultural heritage Resettlement t Stakeholder and community engagement Social & Community Risk

20 Take Home Due diligence should not be a one size fits all process. To achieve the most cost-effective outcome, the process should be tailored to the specific transaction. Through development of a specific due diligence strategy at the transactional moment, we can achieve better business outcomes through environmental and social risk management. 20

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22 Scope of Due Diligence: What Are the Risks We Must Worry About? Risks of Permit Failure (e.g. expiration, government enforcement) Risks of Permit Transfer Ban Risks of Remediation Costs Risks of Personal Injury Property Damage from Exposure On-Site Off-Site The List not dissimilar from a list for a U.S. only transaction though the risks associated with Permits more complicated 22

23 Due Diligence: Standards for Evaluation of Environmental Impacts of Operations National Standard for country where assets located (where discernible) or Company Policy (e.g. Buyer home country standard, U.S. standards, financial institution standard) where Buyer thinks national standard for company are inadequate or U.S. Standards EU Standard (where national standard not discernible) In instances where future expanded operations or the use of international financing are anticipated by Buyer Due Diligence might cover other issues like cultural resources, impact on Indigenous Peoples, etc. 23

24 Scope of Due Diligence: What Will Financing i Agencies / Banks Require? Generally not dissimilar from that experienced in United States with one noted exception: Where the transactions will involve the assets that are in third world countries a broader scope maybe required: cultural resource; impacts on Indigenous Peoples; impacts on National Resources, etc. 24

25 Due Diligence: Permit Transfer Permit Failure Risk For Signature Assets permit risks requires detailed investigation: Is Permit Assignable? Does Assignment require government approval and if so what required to obtain approval? In some instances it will not be clear whether you have a permit that properly covers the ongoing activities In many countries the rules for (i) permit assignment and for (ii) permit enforcement will be uncertain Need to evaluate Permit Renewal where Permit near end of term. What will it take to renew? 25

26 Responses to Permit Risk Role for local counsel Need to consider backup where there is expected to be uncertainty as to permit transfer on transaction date Asset Deal: Transition Agreement with Seller to continue to operate Types of Transition Agreements 1. Product Supply Agreements 2. Services Agreement Issues Issues with Transition Agreements How long will the agreement remain in effect? Incentives to achieve transfer. Financial obligations Indemnification obligations Tax and Human Resource Implications Stock Deal: Continue operations in Seller s name 26

27 Contract Provisions Responding to Remediation Issues Discovered During Due Diligence Where Problems are at Identified at Closing For Post- Closing Remediation i or Identified d later and subject to Indemnification. There are common problems: Who will control remediation? Often Buyer must control clean-up since Seller will have no more incountry operations Rik Risks to Seller Sll that thtbuyer will not tbe vigilant iil tin cost containment ti t (Chevy Cleanup v. Cadillac Cleanup) Need for cost sharing mechanism to encourage Buyer moderation (e.g. deductibles, d declining i tranches, etc.) 27

28 Contract Provisions Responding to Remediation Issues Discovered During Due Diligence What will be deemed adequate remediation? Definition of a standard (e.g. legal standard from an advanced nation or technical / engineering standard) Risk of changing standards When will remediation obligation be deemed completed? Certification by independent expert or deemed completed governmental approval (if practically available) Use of independent expert assures timely resolution for Seller but deprives Buyer of certainty of no additional effort required Reliance on governmental approval makes resolution time highly uncertain for Seller but maximizes opportunity reimbursement for Buyer Principles applicable to remediation are equally applicable to other regulatory compliance issues (e.g., emissions compliance) 28

29 Other Issues Bearing on Environmental Risk Management A. Indemnification. Often Not Easy and Usually not Prompt Use of Caps, De Minimis Amounts and Baskets Use of Escrows Special Concerns for Third-Party Claims B. Consideration of Currency Exchange Risk in Setting Caps and De Minimis Amounts. C. Survival va Periods Given the various statue of limitations and the variety of rules on when claim is deemed to have arisen the definition of survival periods important Reverse Indemnity D. Resolution of Disputes Arbitration or assignment to judicial forum with jurisdiction over both parties 29

30 Working With Consultants A. Request Due Diligence Scoping Advise from Consultant B. Consultants will likely not have offices in each country of interest. With respect to evaluating signature assets an in country presence can be very important Regulatory obligations can be defined at several layers of government and so knowledge within a particular governmental asset can be important (e.g., U.S., Japan, etc.) Moving consultants around can be a significant cost issue C. Need for a manager with over-all client responsibility to assure needed (i) internal support and (ii) report and scope of work responsibility 30

31 Questions? Sey Zimmerman Partner, Austin Fulbright & Jaworski L.L.P Jeff Flanzenbaum Senior Project Manager ERM

32 Continuing Education Information If you are requesting CLE credit for this presentation, please complete the evaluation that Fulbright will send via tomorrow. If you are viewing i a recording of this web seminar, most state bar organizations will only allow you to claim selfstudy CLE. Please refer to your state s CLE rules. If you have any questions regarding CLE approval of this course, please contact your bar administrator. NY CLE Number If you should have any questions regarding credit, please Victoria i Beard at vbeard@fulbright.com 32

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