As is well-known by now, the much-anticipated renewable volume obligations (RVO) under the Renewable Fuel Standard were published Nov. 30 and responses from the biodiesel industry generally ranged from guarded acceptance to outright disappointment. While the RVO for biodiesel is known, there are a number of other macroeconomic and political issues at hand that could impact the industry in the foreseeable future—including tax reform, the biodiesel tax credit, trade policy (including antidumping and countervailing duties), and the economy. Here, we will not attempt to predict the likelihood of those items or their impact on the biodiesel industry; instead, we will take a brief look at possible implications to biodiesel mergers and acquisitions (M&A)—assuming the industry breaks out of the status quo. 

Industry participants generally understand the M&A process in current market conditions, but how might it change if conditions materially improve or regress? If industry conditions materially improve, M&A deals typically change in the following ways:

• Transaction timelines typically become more compressed and deals are more likely to close. Buyers and sellers, excited by the prospect of doing a deal, typically move faster and get to closing.

• Generally, an increased portion of the purchase price is paid in cash at closing (i.e., there will be less consideration contingent on the post-closing performance of the asset or other metrics).

• Buyers are eager to put capital to work and are generally more accepting of commercial risk. This usually means that business and legal negotiations are more streamlined and less confrontational. 

• It is easier to keep stakeholders on board—there is decreased risk of unhappy equityholders, lenders, employees, vendors and customers.

• Unsolicited offers become more common. As buyers become more enthusiastic about the prospects of the industry, they typically become more aggressive in seeking out deals. The target of an unsolicited offer can sometimes find itself unprepared to respond quickly, putting itself at a disadvantage (at least initially).

If industry conditions worsen, the inverse of the foregoing changes generally occur, but a few points probably warrant more discussion.

Many times distressed sellers allow their financial or operational condition to deteriorate to the point that interested buyers either become uninterested after they “look under the hood” or gain tremendous leverage based on the seller’s condition. As a result, deals with a distressed seller often take longer to complete and negotiations are much more difficult. Sellers who could eventually fall into this category are well-advised to develop a game plan early in an effort to head off some of the potential negative consequences.

Unless the seller has an investment bank or broker engaged, the process of selling a distressed company is typically more chaotic, fractured and subject to greater risk that the process will break down. Negotiating through difficult issues is time-consuming, and with distressed sellers there are typically more difficult issues to address. If a plant has been idled, a buyer’s due-diligence process is often much longer and more detailed. In addition to helping get a higher purchase price, bankers and brokers can add great value in keeping the sale process on track. 

The parties driving the sale process sometimes differ when a seller is distressed. Even if a lender is not actively involved in negotiating the sale, many times lenders are behind the scenes driving the sale and sometimes dictating terms. Oftentimes in distressed situations, lenders are entitled to reimbursement for their fees and expenses and higher rates of interests, which will reduce the amount available to common equityholders. This dynamic can create additional pressure on the seller’s management team to keep satisfied the various stakeholders who are directly at odds.
  
A tool used in thriving M&A markets that can help overcome obstacles in struggling markets is representation and warranty insurance. While representation and warranty insurance does not appear to be widely used in biodiesel M&As, it has gained significant traction in many industries based on the benefits that it can provide. After a retention amount is satisfied, the insurer is liable to the buyer for the representations and warranties of the seller. In strong markets, sellers will attempt to use their leverage to force buyers to buy representation and warranty insurance, thereby greatly reducing the seller’s exposure for breaches of representations and warranties. In less strong markets, representation and warranty insurance can be used to help buyers and sellers bridge gaps in the representation and warranty coverage that each will find acceptable. Entire articles could be written on this topic—it is brought up here simply to point out that it is a sometimes-overlooked tool that can be used (and is commonly used in M&As, generally).

In sum, if the biodiesel industry breaks out of its status quo, the implications to M&A transactions within the industry will be varied and are fairly difficult to predict. Being cognizant of the impact that changed industry conditions will have on deal dynamics will help managers prepare for the future of their companies.

Authors: Adam Hertzke, Joshua Andrews
Partner, Director; Faegre Baker Daniels LLP
515-447-4719
202-589-2819
adam.hertzke@FaegreBD.com
joshua.andrews@FaegreBD.com