MAC conditions: more disclosure but no real change to market practice

Recent practice suggests concerns may be overstated 8 min read

Material adverse change (MAC) conditions allow a party to walk away from a transaction where a trigger event occurs, or only becomes known to a party, after the transaction is agreed, and which is likely to have a detrimental effect on the counterparty relative to the time the transaction was agreed.

MAC conditions have long been a feature of managing completion risk in public M&A transactions in Australia—utilising triggers based on either or both quantitative and qualitative measures. However, in 2022 ASIC published its concerns in relation to the formulation of these conditions and, in particular, its expectation that MAC conditions include objective and 'quantifiable' triggers.

As we reflect on the past year, not much has changed since ASIC's intervention—qualitative conditions are still a feature of Australian public M&A—albeit (at ASIC's behest) with additional disclosures being made to securityholders about the risks associated with the interpretation of such conditions.

In our view, the current concerns about qualitative MAC conditions are overstated, and the additional disclosure around the interpretation of these conditions (which is fast becoming boilerplate language in scheme booklets) is of marginal value to securityholders.

In this Insight, we examine the basis of ASIC's intervention and assess it against a series of recent transactions utilising qualitative MAC conditions.

MAC condition formulations

Broadly speaking, there are two types of thresholds that can apply to trigger a MAC condition:

• Quantitative thresholds: a trigger event must have an impact (usually of a financial nature) that meets a specified quantified threshold such as a diminution in EBITDA, consolidated net assets or revenue; and
• Qualitative thresholds: a trigger event must have an impact on the ability of the counterparty to carry on its business or operations, or on their reputation and good standing, profitability or prospects, either generally or in respect of a particular project or business line, in the same manner as they were prior to the time the transaction was agreed. These triggers do not have specific numeric thresholds associated with them.

MAC conditions with qualitative thresholds have caught ASIC's attention.

ASIC's intervention on MAC conditions

In an update late last year,¹ ASIC confirmed its expectation that MAC conditions 'contain objective and quantifiable standards by which the parties to a transaction, and their securityholders, can determine whether a material adverse change has occurred.' ASIC flagged a trend of 'uncertain' MAC conditions in control transactions (where a 'material adverse change' is circularly defined as a 'material adverse change'), noting that such MAC conditions pose the following risks:

• 'An uncertain MAC condition which contains subjective or unclear thresholds poses a material risk that the condition may contravene section 629 of the Corporations Act: see Goodman Fielder Limited 01 (2003) 44 ACSR 254'.
• 'That inherent uncertainty also means the risks associated with the triggering of such conditions may not be able to be adequately disclosed, contrary to the principle in section 602 of the Corporations Act requiring the acquisition of control to [take] place in an ‘informed market’'.

ASIC sought to ensure an adequate level of disclosure about the terms of an offer to securityholders, so they can make an informed decision on the merits of the transaction, including on the likelihood of a MAC occurring and the transaction subsequently proceeding.

ASIC's public comments responded to the scheme of arrangement in relation to Vimy Resources. In that transaction, the MAC condition contained a combination of quantifiable and qualitative thresholds in relation to Vimy Resources, including triggers for any event, matter or circumstance that has a material adverse effect on 'the assets and liabilities (taken as a whole), financial condition or business of [Vimy Resources] (taken as a whole)'. ASIC raised concerns that the MAC condition was circular or provided a subjective threshold, and these concerns were addressed through the inclusion of an additional transaction risk disclosure in the scheme booklet. The additional disclosures explained to securityholders that, because there was no quantitative threshold to the MAC condition, the bidder and target may interpret the MAC condition differently, and there may be a greater risk of litigation or uncertainty as to whether the condition has been met in any particular circumstance.

Qualitative MAC conditions in recent transactions

Since Vimy Resources (and ASIC's public comments), there have been several other scheme transactions announced in the market utilising qualitative MAC conditions, including:

• Vita Group where the MAC condition is defined by reference to an event or circumstance 'which has or could reasonably be expected to have a materially adverse effect on the Target Group’s reputation or a material loss of trust in the Target Group or its business'.
• Chesser Resources where the MAC condition trigger includes events which are, or would reasonably be expected to be, material and adverse to either the business, operations, results of operations, assets, properties, financial condition, liabilities, obligations or prospects of the target group on a consolidated basis, or to the target's mining tenements.
• Allkem where the MAC condition focuses on matters that would prevent or materially impede the ability of a party to complete the transaction, and matters which may have a material adverse effect on the financial condition, properties, assets, liabilities, business or results of operations of the party taken as a whole.²
• United Malt Group where the MAC condition includes matters which would reasonably be expected to have a material adverse effect on the assets and liabilities or financial condition of the target group or the reputation of the target group that materially adversely affects, or could reasonably be expected to materially adversely affect, the future long-term prospects of the target group.
• Blackmores where the MAC condition includes events which result in, or are reasonably likely to result in, the target group ceasing to operate, or being unable to operate its business in Australia, the People's Republic of China or Indonesia.
• Genesis where the MAC condition includes circumstances that would be reasonably likely to have a material adverse effect on the assets, liabilities, financial condition, business, results of operations or prospects of the bidder group or the target group (as applicable), or on its key mining tenements.³

While the industries, target businesses and circumstances applicable to each of the above transactions vary, the inclusion of a qualitative MAC threshold in each condition reflects a negotiated outcome considered to be appropriate to the particular transaction—whether because the bidder was seeking to mitigate against certain risks in the target's business, or because of the involvement of an overseas-based bidder or governing law outside of Australia. Although not all have released scheme booklets, those that have included additional lengthy disclosure consistent with the Vimy Resources scheme in relation to the operation of the MAC condition.

A mountain out of a molehill

This recent market practice continues to demonstrate that appropriate qualitative thresholds for MAC conditions can be utilised without undermining an informed market. In this context, we think the market's lived experience demonstrates that current concerns in relation to qualitative MAC conditions are overstated for a few reasons:

1. At its most basic level, a condition that provides that there is 'no material adverse change to the business of the target' is a condition that is capable of objective determination.
2. Transactions are frequently conditional on various matters that are not tied to quantifiable thresholds. For example, most scheme transactions are conditional on there being no 'material breach' of a representation or warranty. There may also be a termination right for a 'material breach' of the target's obligation to 'operate the business in the ordinary course' or 'in a manner consistent with past practice'. These are matters that may be objectively determined even though there is no quantitative threshold to establish the relevant breach.
3. Quantitative thresholds are no panacea for perceived uncertainty. In many scenarios it will be highly unlikely that a party to an implementation agreement will be able to determine unilaterally that there has been a breach of a quantitative threshold to a MAC condition. Whether an event is 'reasonably likely' to result in a specified diminution in the consolidated net assets of a target or similar threshold may still be difficult to establish and, if resisted, may need to be determined by a court.
4. Almost all MAC conditions are subject to carve-outs where the occurrence of those matters will not contribute to a breach of the MAC condition. These can include matters fairly disclosed over the course of due diligence, matters or actions progressed with written consent and matters that impact the target's industry as a whole and have no special impact on the operations of the target (eg changes in economic conditions and markets). These inevitably require qualitative assessments to be undertaken to determine whether (and, if so, the extent to which) a carve-out applies to a particular trigger event.
5. In many of the largest M&A markets in the world, including North America, qualitative-only MAC conditions are standard. That is not to say Australia should adopt other market practices wholesale, but we do not consider Australian investors to be less equipped or sophisticated to understand conditionality that is commonplace in other markets around the world.
6. At its core, a MAC condition is a tool designed to allocate risk between the parties and, ultimately, facilitate a transaction for target shareholders. If a target board considers it is in the best interests of shareholders to agree to allocate that risk on a basis that is not subject to quantitative thresholds, then the market and its regulators should consider whether it is appropriate for them to second guess the board's commercial judgement.

What next?

Unfortunately, the market experience of the past 12 months suggests that this latest regulatory focus on MAC conditions has achieved little more than adding another 'tick the box' style disclosure exercise for scheme booklets, which is of marginal value to securityholders. Even though scheme booklets continue to become longer and more complex, additional lengthy disclosure in relation to the operation of qualitative MAC conditions is still rapidly becoming standard.