Cross-border mergers and acquisitions – Charting the regulatory landscape

Despite the fragile and slow economic growth in many developing countries, the growth of African markets in the recent years has occurred through cross-border M&A activity which has become an important source of foreign direct investment ("FDI"). Between 2010 and 2015, 5000 individual FDI deals in Africa were identified by the McKinsey Global Institute. These deals were primarily produced by multinational companies operating in Africa with a Pan-African footprint. Asia has also become an important source of cross-border M&A activity in Africa. Investment interests from China, India and Japan are expected to lead to increased M&A activity in Africa. While Africa is on an upward trajectory in terms of the volume of M&A deals, with cross-border transactions accounting for 36% of the total M&A volume in 2016, deal values show a downward trajectory.

Regulatory uncertainty and stringent regulatory barriers are known to be one of the main challenges for M&A transactions in Africa. Merger control, exchange control and sector specific regulations are intrinsic to every M&A transaction and can affect the success or failure of the proposed transaction. For that reason, due diligence investigations are an important part of the M&A process. The due diligence investigation provides information, including but not limited to, the regulatory framework of the country in which the transaction is proposed, the political and economic environment, infrastructure availability, the cultural aspects of the jurisdiction, and information regarding any tax and labour issues that may arise. In addition, the due diligence investigation allows for the early mitigation of any risks uncovered in the target company and /or its jurisdiction.

South Africa and Nigeria are indicative of how the volatility of financial markets in host countries affect deal value. Currency instability and insufficient financial recourse against the seller also hinder investor confidence. Recently, the Central Bank of Nigeria implemented policies to increase control over foreign exchange, and these policies, together with a substantially low supply of foreign exchange, has led to the devaluation of Nigeria's currency. Similarly, Algeria has a high fiscal budget deficit and like Angola, finds itself heavily reliant on oil production. As a result, the drop in global oil prices has created downward pressure on these currencies. Consequently, the combination of conservative prospects for financial and economic performance and the increased risk built into the costs of capital has taken a toll on valuations, and as a result, on the transaction values of potential deals.

Africa has an additional challenge of establishing regional competition laws which align with each countries domestic competition laws. Despite these challenges, common economic links between states makes it ideal to operate a regional competition authority. In East Africa, the East African Community Council of Ministers adopted the East African Community Competition Authority (“EACCA”), which is the competition authority over Burundi, Kenya, Rwanda, Tanzania and Uganda. The EACCA has jurisdiction over all M&A transactions and enforcement matters with cross-border competition effects in terms of the East African Community Competition Act, 2006. However, there has been challenges in aligning the approach of the national regulators and that of the EACCA. The timing of these approvals are also problematic as they may delay deal implementation.

Another example of an attempt at regional integration is the Common Market for Eastern and Southern Africa (“COMESA”) Competition Regulations and Competition Rules, regulated by the COMESA Competition Commission ("CCC"). These rules apply to 19 countries within Africa, including Uganda, Zambia, the Democratic Republic of Congo and Swaziland. The purpose of COMESA is to ensure the efficient operation of markets with the view to enhancing free and liberalised trade as a pre-requisite to safeguarding the welfare of consumers. These regulations and rules apply only in instances where a transaction has a cross-border impact and therefore does not repeal national competition laws. While regional competition and trade authorities provide an opportunity for regulatory consistency among regions in Africa, it also creates another layer of difficulty for investors as regional frameworks such as the CCC and the EACCA are an additional layer of regulation over and above national legislation which often does not align with regional norms.

The complexity of certain sectors also creates an abundance of laws and regulatory roadblocks which create an additional challenge for investors. Sectors such as banking, telecommunications, insurance, mining and oil and gas are overregulated as they have additional sector specific legislation in additional to applicable national legislation, and in some cases, regional regulations which are triggered when cross-border transactions are concluded. An example of this would be the failed transaction of Nigeria's Code Division Multiple Access and an American investment group CAPCOM Limited. Slow regulatory interventions from both the Securities and Exchange Commission and the Nigerian Communications Commission served as a hindrance to the transaction. In addition to over regulation, many sectors in Africa are plagued by regulatory uncertainty, such as in the oil and gas sector whereas countries such as South Africa, Democratic Republic of Congo and Tanzania are still indeterminate as to the revision and development of their energy regulation and policies.

The political environment of a country creates additional challenges to investing in Africa. These challenges include issues such as regime change, social unrest, and even terrorism. The attacks by Boko Haram in Nigeria and other parts of central Africa as well as the political instability in South Africa under the Jacob Zuma administration resulting in two credit ratings downgrade. State intervention in business affairs such as the expropriation of land in Zimbabwe has also had a significant effect on its agricultural sector.

Bribery, corruption and an unfamiliar litigation culture, also act as barriers for M&A activity in Africa. This is particularly high in natural resources projects where international companies find themselves under pressure to bid for concessions with or award contracts to local companies linked to top government officials. These factors accompanied by the inadequacy of infrastructure, lack of sophistication surrounding risk management, unfamiliarity with corporate governance and financial reporting requirements and unknown environmental liabilities creates further challenges. Political instability, security risks, and corruption, coupled with high unemployment rates need to be urgently addressed in order to unlock growth in Africa.

African states can increase investor confidence by implementing exchange control policies in order to restrict the amount of foreign currency or local currency that can be traded. In turn, this would allow countries a greater degree of economic stability by limiting the amount of rate instability due to currency inflows and outflows. However, caution must be exercised as exchange rate policies may result in a further depreciation of currency such as in the earlier Nigeria example where the non-market derived exchange rate devalued its currency. In addition to the political and social reforms mentioned above, African states must focus on having economic reforms that improve fiscal policies and make it easier for investors to invest and transact in Africa. Legislative and policy reforms in Morocco and Egypt have shown an increase in the volume of deals in these countries. Egypt has reduced its budget deficit with deep cuts to fuel subsidies and Morocco has adopted a new banking law which aims to create a financial and economic crossroad between Africa and the rest of the world.

However, despite the aforementioned regulatory challenges, the growing population and expanding middle class coupled with new consumption patterns should stimulate growth in sectors such as the financial services, consumer goods, retail, healthcare and transportation services. In 2015, M&A transactions in Kenya’s retail industry increased with supermarket chains such as Na-Kumatt having 52 stores in East Africa. In the banking and finance sector, Kenyan banks such as, Kenya Commercial Bank, Equity Bank, Fina Bank and Commercial Bank of Africa have 16 branches in Tanzania, 31 branches in Uganda and 16 branches in Rwanda. In the telecoms sector, MTN Uganda and Safaricom concluded an agreement in terms of which Safaricom mobile money users were allowed to transfer money into MTN mobile money accounts in Uganda and Orange Group exited all its East African operations by selling 70% ownership in Telkom Kenya to Helios and its operations in Uganda to Africell. Thus while political and regulatory challenges exist these challenges are not insurmountable, and the African continent still presents growth opportunities and opportunities for partnership in all sectors.

Understanding the nuances of the target company's regulatory framework is necessary to mitigate the risks of conducting deals in Africa and doing a detailed due diligence often proves critical in giving investors more confidence and insight into both the target company as well as the jurisdiction. African governments also play a critical role in introducing reforms to create political, social and economic stability, but also regulatory certainty through the harmonisation of laws across regions. The key to successful deal-making in Africa requires a partnership between investors, the private sector as well as government to create an economic and political landscape that will foster growth and development in a continent rich with potential.