Virtual data rooms flourish in European M&A

Claire Spencer

Companies use virtual data rooms (VDRs) to control and track disclosure of sensi­tive information to potential investors and regulatory bodies for the purpose of conduct­ing due diligence. The process has tradition­ally been carried out in a paper data room, but it is now estimated that around 40 percent of European transactions now use a VDR, with the number of VDR users doubling each year. At first, they were only used on large transactions, but today, a much wider spread of companies are beginning to see the ben­efits of VDR technology. These include le­gal firms, financial advisers and their clients, private equity houses, investment banks, biotech and life sciences companies, and specialist M&A advisory firms. This trend is most noticeable in the UK, due to the volume of international deals conducted in The City but it is also discernible in Germany, France, the Netherlands, and across Scandinavia.

This growth has occurred for several rea­sons. For example, in M&A, VDRs have sig­nificant advantages over physical data rooms for both sell and buy side participants. Apart from the obvious benefits of concurrent ac­cess from anywhere via a web browser and the reduction in the need for travel, most VDRs have a function that allows bidders to submit their questions online. In so doing, the seller knows which document is under ques­tion, and how quickly the question needs to be answered. They can then forward it to the relevant department, for example, a question pertaining to the balance sheet would be put to the chief financial officer or the accounting advisers. Generally, all bidders are able to ac­cess the answers to the questions, while leav­ing the anonymity of the questioner intact. This role based question and answer logging system makes it much easier for both sides to see what has been dealt with, and what is yet to be dealt with. Furthermore, such a Q&A system is proven to increase competition be­tween bidders.

Maintaining competition is vital; all actions inevitably come back to financial returns. As a result, perhaps the key advantage of using a VDR is that the vendor will almost certainly get a better price for its assets. “The conve­nience of a VDR makes it more accessible to potential bidders than a physical data room,” notes Angus Bradley, a director at Projectfu­sion. “If a potential buyer is located in China, it is far easier for them to review the data online than it is to send a team across to re­view documents directly. The more bidders involved, the better the final price is likely to be.” He adds that the cost of a physical data room review for a typical 10-man team starts at around $10,000 for a local transaction, and can be as much as $140,000 for a cross-bor­der transaction, just to cover hotels and trav­el. VDRs offer huge cost benefits, and gener­ally faster transactions as all bidders are able to access the data room at once.

It is also much easier to set up and manage a VDR than it is to run one or more physi­cal data rooms. “A VDR is available 24/7 via a standard web browser, which eliminates travel times and costs, and reduces carbon emissions,” says Sam Riley, chief executive of Ansarada. “The constant availability of a VDR, the ability to add, edit and delete infor­mation on-demand and notify participants of updates via email, both enable and encour­age accelerated due diligence.” To ease this process further, some VDRs allow reports to be exported into easily accessible formats, such as PDF and Excel. These can then form part of an audit trail that will provide proof of disclosure and compliance with set protocol. Furthermore, this allows the vendor and their advisers to keep abreast of what is happening in the VDR. From the buy-side, access speed is increased, and site-wide searches are pos­sible at a click, using an engine that searches every document using Boolean, concept or pattern-searching algorithms to find ex­act and near matches, including misspelled words. Essentially this frees up the time of advisers to study the necessary documents rather than spend time searching for them.

In addition, the security and reporting ca­pabilities of VDRs enable advisers to spend less time on administration and more time on analysing the results. “The intelligence reporting and analytics that can be gained through a high calibre VDR allow sellers to identify who is interested in what documents, when and for how long,” explains Mr Riley. “A common perception is that security controls such as denying printing and saving is all about protecting sensitive information. However, another added benefit gained from these strict security controls is that if someone really wants to read a document they have to do it through the VDR. This activity is sub­sequently recorded, and results in detailed, accurate insights into participants’ specific interest levels.” Sometimes a VDR’s best as­set is the knowledge it provides on what par­ticipants have not viewed, allowing the seller to pre-empt any issues in the due diligence process and plan for negotiations.

VDRs in action:

VDRs have a significant effect on the physi­cal movement of staff during due diligence process when they are used in the dealmak­ing process. “In the past, paper data rooms meant sending staff away, sometimes across the world, to assess documentation relating to a deal,” recalls Merlin Piscitelli, a director at Merrill DataSite. “Now, an unlimited number of advisers can access relevant documents relating to a transaction, such as an M&A deal. Our research indicates that the increased access to documents has meant that the number of arties bidding on a transaction has been increased by 50 percent.” This in turn can increase the price achieved and speed up the transaction process, as the net for bidders is cast ever wider. Advisers can communicate any developments in the VDR to the vendor quickly and accurately. Such efficiency can reduce the overall timeframe by as much as 35 days. These time-saving capabilities will continue to be harnessed in the M&A process. “VDRs are increasingly used as a collaborative space very early on in the process with vendors and sell-side advisers populating a VDR with documents to review and formulate vendor due diligence reports and other material that will be ultimately revealed to bidders. Having the VDR act as a centralised repository to a definitive set of information can avoid mistakes and delays by people working on incorrect versions or draft documents that have been subsequently replaced,” explains Mr Riley. He adds that the VDR may also be used to distribute the information Memorandum. The VDR reports will then display which potential bidders are accessing it so that advisers can follow up potential buyers with increased speed and intelligence. But there are problems. While VDRs are normally secure, and technology is improving all the time, there is room for abuse if the proper precautions are not taken.

Any method of sharing potentially sensitive information is open to abuse, particularly when the system hinges on trust. “The main way that datarooms are abused today is simply the handing out of usernames and passwords to other parware in the pipeline, which should prevent unauthorised access to usernames and passwords. Further, some VDRs host the seller’s documents on their own servers, which reduces the security risk. A VDR’s reporting capability can also be compromised – bidders can deliberately open and close multiple documents in order to generate a misleading report of their intentions and activities. This is similar to ‘click fraud’ which occurs in paid online advertising. The tools and methods designed to detect such activity are already in circulation, and are often employed to monitor VDRs. Other security enhancements are available.

“Site administrators should also retain total control over who can access what documents uploaded to the VDR, down to the page level, and what they can do with those documents: view, view and print or view, print and download,” asserts Mr Piscitelli. “Additional security can be provided through a customer-defined watermark which is shown on all printed pages. It is also important to maintain a single point of supply for the end-to-end process, from scanning to upload and hosting, which ensures maximum security for vendors, as there are risks attached to outsourcing parts of the process to other organisations,” he says. There are plenty of defences against VDR abuse, but instances will always slip through the net. For example, if a client uses a digital camera to photograph data on a computer screen, there is very little that can be done to stop them from doing so, even if dynamic watermarking is employed to prevent unauthorised distribution. The risks may be slight, but they exist. Of course, the same is more true of physical data rooms.

The future of VDRs and physical data rooms :

Spurred on by the growth of the internet, and the wealth of advantages in VDRs, the rate of VDR adoption in Europe is around twice that of the US. As such, it is expected that the market penetration of VDRs will reach US levels (around 60 percent) before long. “In the past, European dealmakers tended to use VDRs for mega-deals, where the value of the transaction was estimated at $500m or more. Our research indicates that there is a growing move into the mid-market with 46 percent of advisers questioned in a survey answering that they had used a VDR to administer.