By Benjamin Horney

Law360 (September 4, 2020, 12:59 PM EDT ) In this installment of Coronavirus Q&A, the co-chair of Katten Muchin's global mergers and acquisitions and private equity practice discusses the ongoing effects of the pandemic on the state of the market for M&A and private equity investments, and explains how she adapted to the new normal brought upon by COVID-19.

Kimberly T. Smith, a partner at Katten Muchin Rosenman LLP in Chicago, serves as co-chair of the firm's global M&A and PE practice, which features over 100 attorneys. She shared her perspective as part of a series of interviews Law360 is conducting with law firm practice leaders about the wide-ranging fallout and effects of the coronavirus ciris.

This interview has been edited for length and clarity

From your perspective, how has the coronavirus pandemic impacted the state of the M&A and private equity industries at large?

Like all industries, M&A and PE were dealt the simultaneous blows of a worldwide pandemic, severe economic contraction, a collapse in oil prices and a nearly unprecedented response from the federal government. Some players believe they now have clarity on the interplay of those forces, but there remains a lot of uncertainty with regard to how things will shake out.

Our private equity practice represents middle market PE funds, family offices and independent sponsors, and we serve their legal needs across the board, beginning with platform acquisitions, add-ons during the hold period and ultimately exits.

When the COVID- induced shutdowns first hit,  the vast majority of those types of deals either died or went on hold. Auction processes that previously fed a robust deal pipeline ground to a halt. Clients turned inward to try and figure out what it all meant for their current investments, and, frankly, in some cases, how a portion of their portfolio would even survive.

With that backdrop of economic uncertainty, there was a real sense for awhile that in order for PE investors to put capital to work in a smart way, they needed to massively pivot and potentially do things in a dramatically different way. We saw larger PE players quickly raising huge debt funds in anticipation of distressed and other opportunities. While the opportunity on the credit side is certainly there, it's likely to increase in the near-term as  blown debt covenants start working their way through the system with more frequency. 

It's a bit of a surprise  that we're already witnessing what looks like a return of traditional buyout activity in a pretty big way. There's still great hunger in the market for good companies with strong balance sheets, and those companies are coming to the market at pre-COVID pricing.

PE  platforms  with aggressive add-on strategies are ramping up, and in some cases are already fully ramped back up. In the past few weeks, a number of PE-owned clients  have contacted me with messages along the lines of 'hi, we've missed you. Guess what, we're about to sign up a deal and have five more in the pipeline. We're super excited to get to back to business.'  

We're seeing that a little more quickly than anticipated. For awhile, there was a disparity between buyers and sellers on valuation. Sellers wanted pre-COVID pricing but buyers didn't have the data to analyze whether that made sense. Now, there's more of a willingness on the part of buyers to get back to pre-COVID pricing for targets where  results are still strong or at least there is a clear path to return to strength. Buyers want to get back to work and get deals done and to implement their stalled growth strategies. That buyer mentality could change again, however. Perhaps as quickly as it did when COVID first hit.

How has the coronavirus affected the Katten M&A/PE practices, both at first and in the many months that have passed since all this chaos began?

The good news is that our ability to work together remotely and serve clients has been incredibly seamless. In terms of the transition from working in the office to going remote, we had a little bit of a warning that was coming. 

The firm was watching what was going on in the world, and we were told for probably two weeks before offices technically closed to 'please immediately do everything you can  to make sure that, if you get a call one morning that we're not coming in today, you can be fully functional from home and can continue to do that for the foreseeable future.'

We are very much still a 'work from home' model and we expect to be working remotely for some time. That's not expected to change soon.

How has Katten managed to keep clients happy even in these difficult and uncertain times?

Our private equity clients have historically told us they come back to Katten for a number of reasons, but it all really boils down to two categories: what we have learned from the sheer volume of deals we  handle and their experience working with us.

The volume of deals we do means we're on the cutting edge of structures, solutions and market practices. And we strive to make each client feel like there is no higher priority than their deal. We listen to what matters to them and then act accordingly with speed and efficiency. The answer to how we do that is simple: it's because of our people. We know that our  most important asset is a deep bench of smart, knowledgeable and talented lawyers with the experience and  sophistication to provide top notch advice to clients.

Meanwhile, at Katten, with global offices everywhere from New York and Dallas to London and Shanghai, we're used to working seamlessly across offices and functioning as one cohesive group. But with the pandemic, losing the connection among those of us in the same office, as well as the ability to get on a plane to go see each other, was still a real challenge. 

Those intangibles of staying connected as a group are a lot harder to manage during a shutdown. And you want to find the balance between making sure you maintain the connection while also being sensitive that every human is  dealing with so many other challenges, like helping their children with remote learning during the day. We really had to navigate that and listen to people about what they wanted and needed in order to stay connected as a group. 

Then, just when it felt like we were starting to really figure all that out, the killing of George Floyd  led to a spotlight on how  institutions need to do better. That led to some really honest conversations across our practice group and across the firm. Even when we  go back to the office, I think a lot of lessons learned from this time will stay with us. We'll come out stronger, better and more connected for it.

What are some of the major issues that deal-making clients are grappling with at this point in the pandemic?

In some of the smaller add-on deals we're doing, clients are buying targets that have [Paycheck Protection Program] loans in place. In many cases, our PE clients themselves didn't qualify for PPP loan money, or, even if they did technically qualify, they decided not to pursue it for various reasons.

Because the targets took the loans though, you still have to deal with navigating those waters. When you encounter that debt on the books in a deal, it often takes on a fair level of significance in the transaction. The seller, in most cases, borrowed those funds with the mindset that they were going to qualify for forgiveness, so to them it's not real debt on the books. Whereas a rational buyer looks at it  as debt that needs to get paid off. Who's going to pay? There's a disconnect there that we needed to solve for. The way we often deal with it  is to put those dollars in escrow, and then, if and when the loan gets forgiven, the seller gets the proceeds back. 

On the plus side, we're seeing rep and warranty insurance providers still very much at the table; that market is still open for business, and the pricing is generally the same as it was pre-COVID. We see them working pretty hard to get deals done, and they've been buyer friendly on terms and pricing.  That said, there is a lot of scrutiny on the part of rep and warranty policy underwriters with respect to COVID-19 implications and diligence, and we've seen very broad exclusions from policies for COVID-19 implications. 

Are there any types of transactions you are working on with regularity during the coronavirus chaos that were less popular when we weren't in a pandemic? Are there any provisions or clauses that are being included more often in deals that are specifically related to the pandemic?

The thing that jumps out is the concentration of add-ons versus platform activity, which is consistent with what we saw during the last downturn. Generally speaking, private equity sponsors are more likely to pursue add-ons than platforms during a period like this, and we're definitely seeing that now, in addition to some clients that are more open to considering minority investments.

It hasn't been the dramatic shift in investment philosophies that people were saying might need to occur back in March or April.

There doesn't seem to be as much distressed M&A activity as one might have expected in the wake of the pandemic. Why do you think that is?

I wonder if that's simply a function of timing. When you think about troubled industries — retail, hospitality, travel, professional sports and live entertainment — perhaps we're just at the tip of the iceberg where defaults under credit agreements are still fairly early. Or maybe you have lenders still looking at each situation on a case-by-case basis trying to decide what to do. In many cases, I'm sure they're giving borrowers time to turn things around, but you can only do that for so long.

I suspect more distressed M&A will come, and that it's all just working its way through the system as true results for companies are becoming known, and lenders and investors are getting more visibility into the true impact of COVID on results and businesses.

How has your day-to-day personal life and work life changed since the coronavirus outbreak? 

Being home more means I see more of my children, which is great. I have two daughters in  second and  eighth grade. It's nothing new for them to see me on conference calls and working at home – it's just that before it was at night and on the  weekends. In many ways I already had the working from home model in place, it's just that I'm here more now. 

What is your home office setup like? Was it a smooth transition to working from home, or were there any technical difficulties or funny mishaps on video calls and such? 

I've definitely been able to get myself comfortable with the work from home model. I have everything I need to work effectively from home. One interesting thing we all had to think about was how to have  our spaces be presentable on video conference calls. I never ever thought before about the piece of artwork behind where I sit. The space looks a little better now that others see it too.  

How do you usually unwind outside of work, and how has that changed in the wake of the coronavirus?

Pre-COVID, probably the best way I would unwind was to workout and run. When the quarantine first started, I actually really stepped up the running, both in terms of frequency and duration. It was  something I needed to do for my mental and emotional health, and it was a great way to get out of the house, which was never happening otherwise. 

The ritual of the daily run has stuck with me, even now that we have more flexibility to go other places and leave the house. It has become a really valuable part of my day, and it's a nice way to adjust to the other changes happening at large. Listening to music I love is also very helpful. I am getting a pretty good return on my Spotify subscription these days.

--Editing by Rebecca Flanagan.

For a reprint of this article, please contact reprints@law360.com.