M&A IN BRAZIL PERFORM - FINANCE & ADMINISTRATIVE - Brazil-Canada Chamber of ...
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FINANCE & ADMINISTRATIVE
PERFORM
M&A
IN BRAZIL
Sponsor:
ACKNOWLEDGMENTS The American Chamber of Commerce for Brazil, being the largest Amcham outside the United States is serving its members building bridges for Brazilian businesses worldwide. Our foreign investment attraction efforts are a key mission for Amcham. The “How To” guides published by Amcham Brasil are part of this initiative. With the support of some of our members and Brazilian States and cities, we are putting together strategic information on the most various aspects of doing business in Brazil and its opportunities. As part of BRICS (Brazil, Russia, India, China and South Africa) and representing the 9th largest economy of the world, and the 6th largest destination for foreign investment, Brazil has an intrinsic importance for the global market. More than ever it is a strategic time for businesses opportunities in Brazil. We welcome you and hope that the information you are about to read will contribute to your commercial and investment decisions linked to Brazil. Deborah Vieitas – CEO, Amcham Brasil With approximately 205 million inhabitants, mostly at economic active age, Brazil is the 9th largest economy in the world and the largest economy in Latin America in terms of GDP. The country has a diversified base of industries with a vibrant domestic consumer market and one of the world’s largest reserves of natural resources and arable land available. For these reasons, Brazil is one of the world’s most active locations for Mergers & Acquisitions and should continue to present great investment opportunities in the future. JK Capital is an investment banking firm specialized in cross border M&A and Corporate Finance advisory, focusing on mid-market transactions to Brazil and Latin America. As a member of the American Chamber of Commerce for Brazil we appreciate the opportunity to share our knowledge about the country and local M&A expertise, contributing to improve the business environment in Brazil. Marcell Portugal – Partner, JK Capital Luis Mazzarella Martins – Partner, JK Capital Other JK Capital Partners: Daniel Damiani, Saulo Sturaro and José Kobori
FINANCE & ADMINISTRATIVE
CONTENT 01 INTRODUCTION 06 02 BRAZIL AT A GLANCE 07 03 M&A ACTIVITY OVERVIEW 11 04 UNDERSTANDING THE M&A PROCESS 13 05 FINANCING THE DEAL 23 06 CROSS-BORDER CHALLENGES 25 07 ABOUT OUR SPONSOR 26
01.
INTRODUCTION
The aim of this guide is to present an overview of how • It can be a fast and efficient way to expand the
to execute merger, acquisition, selling or other sorts of company’s operations overseas, accessing other
equity investments considering the opportunities and markets and diversifying regional risks;
challenges of a country as Brazil.
• It can be a sector/regional consolidation process
In order to talk about M&A in Brazil it should be outlined at looking for economies of scale and corporate
first, some important general aspects of the country’s economic synergies;
and business landscape, some important foundations for
the country’s long term growth and the reasons why the • An optimization of a group’s capital structure;
country is still one of the world’s most important investment
destinations, leading to numerous M&A opportunities. • An addition of technologies and competitive
advantages; among others.
Being one of world’s largest countries in terms of
territory, GDP, population and consumer market, in
addition to its unrivaled natural resources, Brazil cannot In the following pages, this guide also outlines the M&A
be ignored when looking for business, investments and process from an international group or investor point of
international expansion, especially for those players view, highlighting the main particularities of the country
looking for medium to long term results. associated with an M&A process, from screening the
market for potential targets to the deal closing and post-
There are several motivations for an M&A process: closing integration.
FINANCE & ADMINISTRATIVE
6
02.
BRAZIL AT A GLANCE
of BRL 5.9 trillion (2015)2 it is the ninth economy in
BRAZIL AS A GATEWAY TO LATIN
the world.
AMERICA
In addition to the size of the economy, Brazil has a
Brazil is by far the most important economy in Latin diversified industrial base and an important services sector,
America with 205 million inhabitants1, representing which places the country, despite the language difference
the fifth largest population in the world and almost a (Portuguese versus Spanish), as the headquarter in Latin
third of the population of the region. Presenting a GDP America for various multinationals.
WORLD’S TOP 10 COUNTRIES IN GDP TERMS (USD BILLION – 2015)
73.507
GDP By Country Region
17.968 % of GDP
North 5%
Northeast 14%
Central-West 11%
11.385 Southeast 55%
South 15%
4.116
3.371 2.865 2.423 2.183 1.819 1.800 1.573
USA China Japan Germany UK France India Italy Brazil Canada World
7 HOW TO PERFORM M&A IN BRAZIL
GDP per
capita
(USD 55.9 8.3 32.5 41.3 44.1 37.7 1.7 29.8 8.8 43.9 11.7
.000)
CAGR
(2016- 2.9 6.4 1.1 1.5 2.6 1.6 6.8 1.7 3.3 2.0 3.1
2020)
Source: IMF- World Economic Outlook, Economist Intelligence Unit Database, Oxford Economics.
1 Source: IBGE Population Projection. Available at http://www.ibge.gov.br/apps/populacao/projecao/index.html
2 Source: IBGE
ECONOMIC LANDSCAPE INFLATION
Considered one of the most promising emerging markets During the 80’s until 1994, when Brazil’s government
in the world, Brazil is now facing political and economic introduced the Plano Real – a set of measures taken to
challenges. stabilize the Brazilian economy – the monthly average
of the Brazilian Broad Consumer Price Index (Índice
Yet, Brazil has almost two decades of political stability, Nacional de Preços ao Consumidor - IPCA) was 16.44%4,
with a settled democracy and was able to control the which represents an astonishing rate of 521.2% per year.
inflation, which was one of the main issues of the country These figures made a significant impact in the Brazilian’s
before 1994. Currently, Brazil has solid macroeconomic mindset and their way of dealing with finance.
indicators, an important middle class that represents near
60%3 of the population and a consumption of BRL 1.35 Nowadays, the price stability is a reality in Brazilian
trillion (USD 337.5 billion)3. economy. According to the Brazilian Institute of
Geography and Statistics (Instituto Brasileiro de
Even further, this unbalance brings an opportunity to the Geografia e Estatística - IBGE), apart from an IPCA
country to perform important reforms in the tributary and of 10.7% in 2015, the market expects figures of 5% or
labor legislations, as well as in its welfare system. below in 2017 and in the following years.
In a long-term perspective, it is almost a consensus among
financial analysts that Brazil is facing a conjectural crisis.
However, the provision is that the country will go in the
next decades from 9th to 5th largest economy in the world.
This creates an excellent landscape for multinational
corporations that want to establish operations in Brazil. As
described in the next topics, with a significant reduction
of the Initial Public Offers (IPOs) and shortage of long-
term credit, the number of cross-border transactions
increased in recent years.
FINANCE & ADMINISTRATIVE
In order to understand the Brazilian Economic Landscape
it is important to be aware of four topics: inflation, interest
rate, labor force and infrastructure. Source: IBGE, Central Bank.of Brazil
3 Source: DCI, Data Popular.
4 Source: IBGE. Available at: http://hcinvestimentos.com/wp-content/uploads/2011/02/IPCA-Mensal-Antes-Plano-Real-600x413.png
8INTEREST RATES LABOR MARKET
In Brazil the interest rate is one of the measures used Brazil has one of the lowest unemployment rates and
to control the country’s inflation, so it is considered the 6th largest labor force in the world, with more than
high when compared with developed countries. In this 100 million employees5. Unemployment in Brazil has
scenario, the entrepreneurs have to find alternatives to kept rates lower than 10%, and according to market
finance their operations. The most used alternative is expectations, tends to fall in the long run.
the Brazilian Development Bank (Banco Nacional de
Desenvolvimento Econômico e Social - BNDES), the
second largest development bank in the world, just after
the Chinese Development Bank, with annual payments of
about BRL 188 billion (USD 47 billion) to approximately
280,000 customers and a total of BRL 877.2 billion (USD
219.3 billion) of assets (2014 data). Currently, BNDES
charges interest rates between 6.5% and 17.5% per year.
However, in the coming years, the market expectation is
a reduction in interest rates measured by the Interbank
Deposit Rate (Certificados de Depósito Interbancário -
CDI), which is the Brazilian equivalent of the Libor, as Source: IBGE, Bradesco.
a base for most of the contracts in the money market. In
There are several explanations for why the unemployment
2016, these rates will face a slight increase followed by
rate in Brazil is still low, including demographic issues
a reduction in the next years, as seen in the graph ahead.
(gradual reduction of the younger population) and an
increase of the percentage of Brazilians enrolled in
education. In 2000, there were approximately 2.7 million
students in higher education; in 2014, this number rose to
7.3 million. It is a significant growth, mainly driven by
the increase in number of private universities, covering a
9 HOW TO PERFORM M&A IN BRAZIL
labor shortage in several areas such as engineering.
So, it is possible to affirm that Brazil has a qualified and
available labor force for these new entrepreneurs who
intend to invest in the country, since the population is
investing even more in education and the number of
Source: Cetip and Itau BBA skilled persons ready to work is growing.
5 Source: CIA World Factbook. Available at: https://www.cia.gov/library/publications/the-world-factbook/rankorder/2095rank.htmlin its third edition and has forecasted investments of
INFRASTRUCTURE
BRL 1 trillion (USD 250 billion) from 2015 to 2018.
Unfortunately Infrastructure is still considered a structural
That being said, it is relevant for new companies in the
bottleneck for Brazil’s competitiveness; however, the
market to analyze the region and identify if it has what is
Federal Government in partnership with the private sector
needed to create the proper work environment, as much
is working to decrease the current gap. One great example
as check the investments and/or adjustments that might
is the Brazilian Growth Acceleration Program (Programa
be necessary.
de Aceleração do Crescimento - PAC) which is already
FINANCE & ADMINISTRATIVE
1003.
M&A ACTIVITY OVERVIEW
After the implementation of economic reforms made in significant increase in Foreign Direct Investment (FDI)
the 90’s and the improvement of the business environment inflows to the country, recently reaching the post of 6th
conditions in the last 20 years, Brazil has experienced a most important destination of FDI.
FOREIGN DIRECT INVESTMENTS TO BRAZIL (IN USD BILLION)
69.5
60.5
57.9
56.1
52.6
49.3
44.5
34.3
31.7
22 22.8
21.1 20.5
19
13.1
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Source: Central Bank.of Brazil
11 HOW TO PERFORM M&A IN BRAZIL
The main drivers of the FDI inflow growth trend are growth of cross border deals is the recent devaluation of the
investments on Infrastructure Programs and investments Brazilian Real against international currencies such as the US
related to the events hosted by the country such as the World Dollar and the Euro. This depreciation makes the valuation
Cup and the Olympic Games. Another important driver of of assets in Brazil more attractive to foreign investors,
Foreign Investments to Brazil has been the increasing number especially for those that believe in the improvement of the
of M&A transactions, especially involving international country’s fundamentals in the long run. This movement can
groups entering the country. One of the explanations for the be verified in the chart ahead.NUMBER OF M&A TRANSACTIONS IN BRAZIL (1994-2014)
900
817 816 818
796
800
Economic Russian Crisis in Subprime
Stabilisation Crisis Argentina Crisis 726
699
Plano Real and Brazilian
700 663
elections
600 407
474 431 487
Number of Transactions
348 284 393
500 473
454
400 372 363
351 353 340
328
309 299 290 235
300
204 227 230 213
212 167 221 230 194
200 175 208 199 410
84 379 365
114 351 333 342 331
130
94 219
100 161 168 183
130 123 146 143 150
101 116 100
81 82
0
1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
Domestic Cross Border
Source: Merger & Acquisitions Research 2015 –1st Semester: Mirror of transactions undertaken in Brazil, KPMG.
As it can be observed in the chart ahead, the M&A activity in Brazil is very diversified in terms of sector, although in 2015
the IT/Telecom sector has led the number of deals.
M&A BREAKDOWN BY SECTOR – NUMBER OF DEALS IN 2015
FINANCE & ADMINISTRATIVE
Source: Anbima
1204.
UNDERSTANDING THE M&A PROCESS
When deciding for an M&A approach in order to enter the Brazilian market or expand a Group’s already existing local operations,
it is interesting to understand some local peculiarities before entering the M&A process.
Then, once having a deep knowledge about the market of
MARKET RESEARCH AND SCREENING
interest and with the M&A strategy aligned, the next and
OF POTENTIAL TARGET COMPANIES very important step would be to look for the right target
company that would be the platform for the market entry.
The first step before actually starting the M&A process
would be to analyze the Brazilian market considering the Screening the market for target companies may present
sector of interest in order to identify some key aspects, some challenges in terms of logistics, considering the
such as: the size and growth trend of the market; regional continental size of Brazil and the different cultural
aspects; growth drivers; business competitors; required aspects related to it. Depending on the sector of interest
licenses; and local regulatory aspects. and the size of the target companies, another obstacle can
be the availability of information about these companies.
Nonetheless, a common challenge for foreign groups Especially in the middle market, since the Brazilian
13 HOW TO PERFORM M&A IN BRAZIL
when performing market research is the availability of companies are not required to publicly release its
information in English, since most of the content is only financial results neither operational information, with the
available in Portuguese. It is recommended to have a support exception of publicly listed companies or corporations
in the country for necessary researches, as independent (Sociedade Anônima - S.A.). Sector and multisector
institutions, entities and Chambers of Commerce. associations could also be interesting sources.Accordingly, the next action is the target company’s
TARGET ANALYSIS AND FINANCIAL
evaluation, which determines:
MODELING
• The strategic benefits of executing the transaction
The next step in the M&A process after having selected
considering the expected return on the investment;
the target company would be to approach it and begin
the negotiation process by getting the local shareholders
• The purchase price as a base to structure the
attention to pursue the deal. At this moment, it may be worth
transaction; and
having an external M&A advisor with local experience, in
order to avoid exposure and help to set the expectations of
the seller right from the beginning of the negotiation process. • The deal proposal to be presented to the target
company.
In Brazil, as in most M&A processes throughout the
world, it is very common and also recommended for both Regarding the company valuation exercise, there are
parties to execute a Non-Disclosure Agreement (NDA) various valuation methods available, but three of them
before exchanging any information, avoiding exposure should be highlighted, since they are the most commonly
and as a protection for sensitive information that will be used in the market considering different cases and
exchanged between the parties. specific needs.
RELATIVE VALUATION /
DISCONTED CASH FLOW ASSET-BASED VALUATION
MULTIPLES COMPARISON
METHODOLOGY
Implicit value of the target
Projection of the financial
company in comparison to
statements considering Assessing the company’s
other transactions involving
potential cash flow value based on its assests.
peer companies in the
generation and its growth
FINANCE & ADMINISTRATIVE
market
• Enterprise Value/EBITDA;
• Discounted Cash Flow;
METRICS
• Book value (balance sheet);
• Enterprise Value/Sales’;
• Discount Rate. • Replacement cost.
• Price/Earnings.
14In Brazil, privately held companies in general are not
DISCOUNTED CASH FLOW:
legally required to have their financials audited unless
they operate in regulated activities, or if they have annual
The Discounted Cash Flow (DCF) is the methodology
revenues above BRL 300 million or equity above BRL 240
most widely used by institutional investors when valuing
million. Therefore, except on the aforementioned cases, it
companies in Brazil.
is not common for small and medium sized companies to
have their financials audited by an external firm.
It is based on the Net Present Value of the expected cash
flows to be generated by the Company in the future,
However, it is a practice that has been increasing recently
discounted at a rate that reflects the Company’s risk and
due to ascending concerns with corporate governance and
the investor’s cost of capital.
the additional value associated to those practices for the
shareholders. Having said that, especially in the middle
The DCF is a methodology that requires a deep analysis of
market, the careful analysis of the Company’s financials
the Company’s financials and growth drivers as well as the
with a local knowledge of the accepted accounting
several factors that may have influence on the risk of the
practices is vital for a good M&A deal, avoiding issues in
Company to perform the expected cash flow generation.
the future and possibly jeopardizing the expected returns.
One of the challenges when running a DCF analysis in
Another important component of the Discounted Cash
Brazil, especially when looking at small and medium
Flow is the Cost of Capital which is used as the Discount
size Companies, privately held, is to understand the
Rate in the DCF exercise.
company’s financials considering some local practices
frequently observed vis-à-vis the sustainability of the
The Cost of Capital is calculated as a weighted average
posted cash flows. For instance, it is very common for
of the Cost of Equity of the investor, considering the
Brazilian entrepreneurs, as managing shareholders at their
risk of the target company or asset, and the Cost of Debt
companies, to receive their entire compensation through
of the referred company, measured by its cost to raise
dividends, since dividends are exempt from taxes in the
money with third parties such as banks in Brazil, which
country so far. This practice can artificially inflate the
also reflects the company’s risk.
company’s operating income and may mislead the analysis
of unaware investors, resulting in a quite significant value
15 HOW TO PERFORM M&A IN BRAZIL
In order to calculate the Cost of Equity from the
impact especially on small and medium sized companies.
perspective of a foreign investor valuing a Company
or an Asset in Brazil, the Capital Asset Pricing Model
In this case, the Operating Income of the target company
(CAPM) is most commonly used. It starts by taking
should be adjusted by an estimated compensation for the
into account a risk free rate, normally measured by the
managing shareholder based on the market practice for
US 10 year Treasury bond. Then, it should be added
the sector and size of the target company. The accuracy
up a market risk premium, required by this investor
of the DCF analysis is based on the quality of data and
when investing in a variable income asset, adjusted
information available on the target Company.by a coefficient that reflects the risk of the company’s
RELATIVE VALUATION/MULTIPLES
sector, called Beta.
COMPARISON
In addition, investors also would require a risk premium
for investing in an emerging market such as Brazil. One of the most intuitive valuation approaches is the
Normally, this risk is measured by the Credit Default Relative Valuation or the so called Multiples Comparison,
Swap (CDS) spread required by investors to invest which basically uses the value of transactions of Peer
in Brazilian treasury bonds in comparison to the US Companies, publicly traded or private, or assets with
Treasury bond. At the first quarter of 2016, this spread similar features in order to assess the value of a certain
was ranging around 500 bps or, in other words, 5% p.a. Company or asset.
This is a result of the recent increase in the investors risk
perception for the country. Until two years ago this figure In order to compare the value of the company to its
was ranging around 200 bps (2% spread). peers, it is normally used some parameters such as the
company’s EBITDA, Net Income, Revenues or other
Depending on the size of the target companies analyzed, important indicators for the business area, such as square
especially small and mid-sized companies, the investors meters or square feet in the real estate market, number
may also require an additional return to compensate of students in the education sector, crushing volume
for the additional risk exposure to those companies capacity for sugar mills, among others.
considering corporate governance, transparency, higher
volatility of cash flows, among others. The most common ratios in the market concerning
companies valuation are Enterprise Value/EBITDA (EV/
To sum up, the Cost of Equity (Ke) could be translated EBITDA) and Price/Earnings (P/E).
into the following formula:
The main restriction of such valuation approach is that it
assumes the company analyzed has the same features of
the other companies with which it is being compared, that
Ke = Rf + β(Rm - Rf) + Rc + Rs
is not always the case since each company is different
from the other in a certain way, even if they operate in
In which:
FINANCE & ADMINISTRATIVE
the same sector and market. Another weak point is that
this approach normally uses a performance indicator
Ke = Cost of Equity
from the past as a base for comparison, therefore not
Rf = Expected return of investing in a risk free asset fully contemplating future performances of projects
β = Beta coefficient under way or not fully matured. This approach could also
(Rm - Rf) = Market risk premium be misleading in the case of companies under financial
Rc = Country risk premium distress which, for instance, may present negative
Rs = Size risk premium financial performance in terms of EBITDA or Net Income
leading to the conclusion of a negative value whilst they
16actually might have a significant asset or liquidation investments made to compose that total asset value
value. This last point will be better explained in the next of the historical purchase amount, depreciated
topic, regarding Asset-Based valuation. over time;
Nonetheless, the relative valuation approach is still • Market value: another way of assessing the
widely used in the market, since it is very straightforward. value of an asset would be to take into account
It helps the discussions and negotiations, even when the the amount of similar assets in the market or its
parties do not have experience in finance or M&A. potential replacement cost.
ASSET-BASED VALUATION SETTING TRANSACTION TERMS AND
CONDITIONS NEGOTIATIONS
There are some situations when valuing a company
where the Asset-based approach is more recommended, When the evaluation phase ends, the terms and conditions
instead of the approaches previously described, such as: of the transaction must be set.
• Financial distress cases or liquidation processes: In most of the cases, it is very common for the parties
in these cases, the companies may not be generating to have first an indicative agreement setting the key
positive income. However, at the same time, the terms of the transaction before entering into a deeper
company may have important assets that might analysis in the Due Diligence phase and into the final
have more value than the operations related to contracts, which are both money and time consuming.
those assets within the company; This indicative agreement is normally in the form of:
• Non-operating or pre-operational assets: in • Letter of Intent (LOI);
some cases, a company may have assets that are
not being used in its operations or under a ramp-up • Memorandum of Understanding (MOU); or
phase not yet matured. In both cases, the potential
value of those assets would not be reflected in • Term Sheet.
the Company’s cash flow and should in a way be
17 HOW TO PERFORM M&A IN BRAZIL
added up to the total Enterprise Value.
VALUE VS. PRICE
When resorting to this approach, there are two most
One of the key points in an indicative agreement such as
commonly used ways of assessing an asset value:
a LOI or MOU is setting the purchase price. However,
there is an important conceptual difference between
• Book value: in this case, the asset value is assessed
Value and Price.
by the amount registered at the Company’s
Balance Sheet, which may be the importance of the
The process of valuing a Company or any other Assetwill always conceptually involve a certain degree of • The key parameters that are the base to establish the
subjectivity. This occurs since it depends on each party’s proposed Purchase Price. These parameters should
assessment of the potential return of that asset and the risks be verified in the Due Diligence phase and may be
associated with it, as well as this party’s potential return subject to adjustments in case of divergence from
considering other opportunities with the same level of risk. the initial information received;
On the other hand, the Price of a transaction is the • Payment structure;
economic figure that matches the equilibrium of value
expectations between the buyer and the seller. It takes a • Shareholding stake to be acquired for the purchase
lot of negotiation between the parties in order to reach price offered;
this equilibrium and finally close the price, since each
party is always looking to maximize its value above its • Scope of the Due Diligence to be conducted next
opportunity cost. (Accounting/Financial, Tax, Legal, Environmental,
Operational, among others);
EARN OUT AND ALTERNATIVE PRICING/
PAYMENT STRUCTURES • Confidentiality of the transaction terms and
information exchanged;
In order to bridge the gap of value expectations between
buyer and seller, it has become increasingly common • Exclusivity period in which the parties must not
in transactions in Brazil to have pricing structures with negotiate with a third party for a pre-determined
payment in variable installments depending on the period;
company’s future performance, the so called Earn Out
payment. In this way, if a seller expects a higher valuation • Binding or Non-Binding nature of certain or all
because he/she believes that his/her company has a terms of the Agreement;
strong growth potential, a buyer may accept the valuation
proposed by the seller as long as the company actually • Key shareholding rights for a future partnership
achieves some pre-determined performance targets. (in case of partial shareholding acquisition), such
as key controlling/veto rights, Tag Along/Drag
FINANCE & ADMINISTRATIVE
Along rights, among others; and
OTHER ASPECTS AT AN INDICATIVE
AGREEMENT (LOI, MOU AND/OR TERM • Dispute resolution.
SHEET)
LEGAL, FINANCIAL, TAX AND
In addition to defining the Purchase Price, there are also
OPERATIONAL DUE DILIGENCE
some other important elements to address at an Indicative
Agreement, such as:
The Due Diligence phase consists in the process of
18confirming the main assumptions for the Indicative Term Accounting/Financial
Sheet, based on the preliminary information received on
the Target Company, as well as assessing the potential • Examination of the Company’s financial
risks related to the Company’s activities and past statements, crosschecking them with the generally
practices that may result in potential claims and liabilities accepted accounting practices and with the initial
in the future. information assumptions for the company’s
valuation; and
For a successful due diligence process, it is paramount to
have access to detailed information on the Company. It is • Examination of financial liabilities and potential
also vital to the Company’s key management. risks associated with it.
This process should comprise several different areas of Tax/Labor
Diligence, such as:
• Review if all the tax obligations of the Company
Operational/Business have been duly fulfilled, including labor related
obligations and social charges;
• Confirmation of operational and business
assumptions as well as potential risks associated to • Analysis of current tax and labor liabilities that the
the company’s business and operations; Company may have; and
• Validation of the investment thesis; • Analysis of potential risks related to an eventual
misconduct of the Company in relation to its tax
• Meeting and evaluating the key management, and labor obligations, which could result in a
analyzing strengths and potential weaknesses that potential liability in the future, affecting the new
would need to be reinforced; shareholders and potentially compromising the
initially expected return on investment.
• Analysis and confirmation of potential synergies;
Legal
19 HOW TO PERFORM M&A IN BRAZIL
• Analysis and confirmation of controlling systems in
place and potential weaknesses associated to it; and • Evaluation of the company’s registrations, licenses,
permits and authorizations;
• Identification of potential unnecessary costs and
expenses that could be optimized. • Verification of Certificates issued in the name ofthe company attesting that it is in compliance to all
PROTECTION AND GUARANTEES
the obligations required by the public authorities;
The main goals of the Due Diligence process are to
• Evaluation of contracts with clients, suppliers,
identify potential risks associated to the company’s
creditors and others related to commitments
operations and practices as well as to quantify the
assumed by the company;
potential impact in terms of value of contingencies and,
equally important, to assess the probability of those risks
• Evaluation of intellectual property items;
to materialize in the future.
• Evaluation of the real estate used by the company,
With the Due Diligence phase concluded and the potential
verifying existing licenses or any sort of encumbrances
risks and contingencies assessed, it is possible to discuss
imposed on the company’s properties;
and negotiate ways to protect the buyer from the risks
associated to the company’s past practices.
• Analysis of the corporate documents evaluating
potential limitations or encumbrances associated
Thus, it is normal for the buyer to seek for guarantees in
to the company’s shares;
case of contingencies materializing in the future. Those
guarantees could be in the form of:
• Evaluation of lawsuits and claims against and in
favor of the Company;
• An escrow account, setting aside a portion of the
purchase price as a form of guarantee;
• Analysis of Environmental issues related to the
company’s activities and required environmental
• Real Estate; and
procedures; and
• Shares. In this case, the buyer should consider
• Analysis of regulatory aspects associated to the
the fact that, despite having an intrinsic value for
company’s operations. For instance, in Brazil, as
the shares given as a guarantee there is also the
in several countries, some activities are overseen
risk that in case the buyer needs to assume those
by government regulatory agencies which
shares he/she would also be assuming the issues
FINANCE & ADMINISTRATIVE
require the companies in those sectors to follow
associated to those shares.
a set of rules and mandatory requirements, such
as healthcare (Agência Nacional de Vigilância
In spite of the aforementioned points, there are also
Sanitária - Anvisa), telecom (Agência Nacional
cases in which buyer and seller negotiate a purchase
de Telecomunicações - Anatel), aviation (Agência
price assuming that the buyer would bear any potential
Nacional de Aviação Civil - Anac), education
liabilities of the company at its own risk.
(Ministério da Educação - MEC), among others.
Other important aspect in Brazilian legislation, which
20should be considered, is regarding taxes. There is an • Representations and warranties from the buyer
expiry period that the government can claim taxes not attesting its capabilities of executing the deal;
paid by the company. For most of the taxes is five years,
except for Income Taxes that could go up to six years • Indemnifications and penalties for breach of the
from the moment of the tax event. This is a general rule contract;
and should be analyzed case by case by local tax experts
during the due diligence process. For instance, when • Pre-closing and Post-closing required actions;
discussing labor taxes and social charges the debate
could be more complex than that. • Shareholders Agreement to regulate the relationship
among the shareholders with the transaction going
DEFINITIVE CONTRACTS. CLOSING forward (if applicable), considering several aspects
THE DEAL such as:
Once the Due Diligence phase is completed and the • Corporate governance;
identified issues have been discussed, the next step is • Ruling and veto rights;
to address the final agreement in the form of the Shares • Preemptive rights;
Purchase and Sale Agreement (SPA). • Tag and drag along rights;
• Dissolution and succession;
Generally, the main clauses and conditions of the SPA • Profits and dividends distribution;
could be described as follows: • Non-competition of shareholders;
• Non-solicitation of key management and
employees.
• Price and payment structure and schedule, also
describing the shareholding to be transferred
between the parties; • Binding effects on successors and assigns;
• Additional investment through capital increase • Confidentiality; and
and issuance of new shares, when applicable;
• Conflict resolution method and venue.
21 HOW TO PERFORM M&A IN BRAZIL
• Guarantees from the buyer concerning the purchase
price payment; LEGAL AND REGULATORY APPROVALS
• Representations and warranties from the seller In several cases it is very common to have third parties
attesting the company’s current situation approvals required for the transaction to be completed
considering all aspects related to its operations and such as:
ability to continue with it;• Creditors (banks, bondholders, among others)
CLOSING THE DEAL
with approval clauses in case of change of control;
After all the mandatory approvals and conditions
• Regulatory agencies, if applicable; and
precedent have been completed, the signing of the
Definitive Agreement takes place. It formalizes the closing
• Antitrust authorities:
transaction with money and share transfer between the
parties, with all the onuses and bonuses associated with it.
• In Brazil the anti-trust authority is called
Administrative Council for Economic
Defense (Conselho Administrativo de POST-CLOSING – INTEGRATION
Defesa Econômica - CADE). Its pre- PROCESS
approval is required for transactions in which
both of the parties involved presented Gross Besides the completion of the deal and its closing
Revenues in the calendar year precedent formalization through the final agreements, there are
to the transaction above BRL 75 million, other important stages: the execution of the post-closing
in the case of the seller, and above BRL actions associated with the deal and, most important, the
750 million, in the case of the buyer. The integration of the entities and execution of all the plans
aforementioned revenue threshold should envisioned for the company to perform the expected
consider the entire group of companies returns. In order to avoid future problems, it is important
associated to each party involved. to be aware and finalize all of these processes.
FINANCE & ADMINISTRATIVE
2205.
FINANCING THE DEAL
An important decision in every M&A process is how the loan maturity. However, the significant lower interest
the buyer is going to finance the deal. This can occur rates abroad could compensate a potential risk of local
either through its own funds or through third-parties. By currency devaluation.
leveraging the transaction using third party funding, the
buyer can increase its expected return on investment. The most preferred way of financing a transaction with
Therefore the preferred structure will always try to third parties in Brazil is with the target company’s
involve at least some sort of leverage. sellers. In many times, the purchase price payment can
be structured in installments upon a compensation for
With regards to leveraging, it is relevant to point out some the sellers which can be much lower than the interest
differences between Brazil and more mature markets. rate spread charged by local banks. Obviously, this
While in the United States is very common to come sort of structure depends on each case, considering the
across Leveraged Buyouts6, in Brazil these structures face financial situation of the seller and also on a certain
some challenges due to the smaller size of the monetary degree of negotiation.
market and to the higher costs of raising money locally,
as previously described in this guide. Other sources of third party financing may be:
Accordingly, it is relevant to say that a transaction to be • Debentures and other sorts of bonds: Brazil
leveraged locally would require the target company to has a quite developed and organized bond
have high margins and a significant growth rate in order market. For instance, according to Brazilian
to bear the high interest rates charged by the banks and Capital Market Entities Association (Associação
also would probably require good guarantees. Brasileira das Entidades dos Mercados
23 HOW TO PERFORM M&A IN BRAZIL
Financeiro e de Capitais - ANBIMA), in 2014,
Another way of a foreign investor to finance the deal the volume of new bond issuances considering
is to raise money abroad using its own credit facilities debentures, promissory notes and other private
available. However, it is important to keep in mind the bonds amounted to approximately BRL 115
risk of the exchange rate volatility throughout the time of billion (roughly USD 49 billion);
6 Leveraged Buyout - a buyout using borrowed money, the target company's assets are usually security for the loan.• Private equity funds and family offices as co- may also require the acquisition of real estate
investors: in 2014 there were approximately USD which calls for a great portion of the total
50 billion in private equity funds available with a transaction amount. In many of those cases,
focus in Brazil; there are in Brazil several funds willing to
invest in the real estate as a joint effort to the
• Multilateral development banks (e.g.: IFC, deal financing.
KFW, BNDES7);
The analysis of all these aspects and details is crucial for
• Real estate funds: in some cases the transaction a successful deal.
FINANCE & ADMINISTRATIVE
7 Brazilian Development Bank. It is relevant to report that BNDES provides a range of programs for financing this type of acquisition, it is important to be well
informed before any decision.
2406.
CROSS-BORDER CHALLENGES
When doing business abroad, there are always some Hence, when seeking opportunities in the country it is
challenges that executives and investors encounter, due advisable to have a broader look to other regions than
to being in a different country and business environment. São Paulo, depending on the sector of interest. However,
Performing an M&A deal in Brazil is not different. one should bear in mind the time and logistics constraints
Therefore, an investor may face some challenges related of travelling around the country.
to specific matters of the country.
CULTURAL ASPECTS
SIZE OF THE COUNTRY
Having such a large territory as Brazil and due to the
Due to its continental size, Brazil may present some several external influences over the colonization process
challenges related to logistics when doing deals of the country, there are important cultural differences
depending on the region of the country. compared to other nations, and even among the regions
of Brazil, each one with its own peculiarities.
Currently, São Paulo is the main financial and business
hub of the country and count with essential business Those cultural aspects are also extended to the way
infrastructure as any other global financial center in of doing business and sometimes it may be crucial to
the world. Therefore, most of the banks, law firms, understand it in order to accomplish a successful deal.
advisors and corporate headquarters are based in São
Paulo city. LANGUAGE DIFFERENCES
Nonetheless, the country also presents great opportunities Being a Portuguese speaking country is also another factor that
25 HOW TO PERFORM M&A IN BRAZIL
when looking at its different regions. The country has a makes Brazil quite different from all other countries in Latin
number of relevant cities spread all over its territory and America. In addition to that, different accents of the language
several of them have vibrant economies on each different spoken in each region of the country may be a challenge even
sector. As an example, there are 14 cities with more than for a Portuguese speaking foreigner. Particularly in larger
1 million inhabitants just outside the state of São Paulo. cities, it is not difficult to find English speakers.07.
ABOUT OUR SPONSOR
JK Capital is an investment banking firm specialized Partners:
in cross border M&A and Corporate Finance advisory, Marcell Portugal de Oliveira
focusing on mid-market transactions to Brazil and Latin Phone: +55(11) 2348-4336
America. Email: marcell.portugal@jkcapital.com.br
Our goal is to support companies in their acquisitions, Luís Mazzarella Martins
selling or fundraising processes, adding the local cultural Phone: +55(11) 2348-4339
component to the financial expertise and using advanced Email: luis@jkcapital.com.br
negotiation structures.
Daniel Damiani
JK Capital counts with a seasoned team of M&A experts Phone: +55(11) 2348-4337
with multi-cultural experience, fluent in English, Spanish, Email: daniel.damiani@jkcapital.com.br
French and Portuguese. JK Capital presents an extensive
track record in cross-border transactions, having advised Saulo Sturaro
several multinational groups in acquisitions in Brazil and Phone: +55(11) 2348-4335
Latin America, as well as local groups in M&A processes Email: saulo@jkcapital.com.br
involving global corporations and private equity funds.
José Kobori
For more information, please contact: Phone: +55(11) 2348-4334
Email: kobori@jkcapital.com.br
FINANCE & ADMINISTRATIVE
JK Capital
Avenida Paulista, 1636, 4º andar, conj. 410 - 01311-200
São Paulo, SP - Brasil
Phone: +55(11) 2348-4332
Email: jkcapital@jkcapital.com.br
Website: www.jkcapital.com.br
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