Art of the Deal: Canadian firms on the international stage

THOMAS L. FRIEDMAN told us all to watch out for India back in 2005, in the first edition of The World Is Flat. As the world economy heated up, mega-deals – such as the $6-billion takeover of Novelis by India's Hindalco in 2007, or Essar Steel's $1.63-billion acquisition of Algoma Steel that same year – drove this point home to Corporate Canada. But globalization 3.0 isn't all about billion-dollar resource deals. More often than not, it comes quietly, unobtrusively, via private, modest-sized deals that don't make the league tables — but foretell and shape trends of the future nonetheless.

L&T Infotech's acquisition in 2010 of one of Citigroup Fund Services Canada's IT outsourcing systems and the associated client relationships may well be one of these harbinger deals.

The transaction, which would keep deal teams at both companies – and at the Canadian law firms Borden Ladner Gervais LLP and Blake Cassels & Graydon LLP – dancing for three months and then sprinting to the finish line for three more, started life modestly enough. In the prolonged postscript to the 2008 financial meltdown, Citi, like many of its counterparts, was taking a hard look at its business, strategy, balance sheet and everything in between. Part of the Canadian leg of the analysis: it had some IT assets that could perhaps better serve the bank as someone else's property. As John Landry, Head of Citi's Global Transaction Services business in Canada, puts it, “We tell our clients to focus on their core strengths all the time.” And outsource non-core ones. “It's out mantra. So we looked at ourselves and asked, ‘Should we really be developing and owning these systems?'”

In 2005, as the financial markets were starting to heat up, Citi had acquired a nifty set of assets from AGF Management Ltd., the independent Canadian investment firm. Sold as Unisen Holdings Inc. and its wholly owned subsidiary Unisen Inc., the assets in the deal, valued at about US$97.5 million, included the Unitrax software (more on that shortly), as well as key client relationships. As Unisen was integrated into Citigroup's Global Transaction Services division, it would continue to service all of its existing clients — including AGF and AGF mutual funds.

Unisen was a provider of administrative services to Canada's investment fund industry, and Unitrax was the intellectual property jewel in its crown: a shareholder record-keeping system designed to manage a variety of fund products (mutual, segregated, hedge, labour-sponsored and pooled) as well as GICs and daily interest investments. Parenthetically, AGF itself only owned Unitrax for the previous three years, having acquired it in 2002 via a $60-million purchase of Jewelstone Systems Inc. Post-purchase, Jewelstone was integrated into AGF's Unisen and, in 2005, the entire package went to Citi.

In 2010, most of it – the Unitrax software, the customer relationships and the related employees – would go to India. Sort of. Don't panic — this is not an offshoring story. In fact, it's quite the opposite.

As Citi was identifying which of the Citigroup Fund Services' IT outsourcing assets it wanted to sell, in addition to determining how to carve them out, package them and market them, L&T was trolling for a Canadian acquisition.

L&T's parent company is the massive Indian company Larsen & Taubro Limited, a technology, engineering, manufacturing and construction conglomerate that reported more than US$11.7 billion in revenue in 2010/11 and employs some 45,000 people in 30 countries. Its historic strength and the reputation it wields in India is built on 70 years as one of India's leading engineering and infrastructure building companies.

The L&T Infotech sub is, by comparison, an upstart. But a quick-growing upstart: an information age company that's quadrupled its revenues between its formation in 2003 and 2007, by selling IT services to marquee global clients such as Chevron, Hitachi, Sanyo and Lafarge. And while, like most Indian companies, it did not pass through the World Financial Crisis unscathed, by 2010 it was in a position to acquire.

But what? And where?

The “where” was easy. A household name in India, with a strong physical presence in that country, as well as China and the Gulf, L&T was looking to increase its footprint in the North American market. And it was inclined to do a Canadian, rather than a US, deal — a sort of testing-ground exercise, if you like.

What? Well, that was a little more open. As Kristian Knibutat, National Deals Leader, Canada, with PricewaterhouseCoopers LLP, explains, “Indian companies are very entrepreneurial in their approach. They tend to look at business opportunities — where they can make money in something. If they can make a good return, they will do it.”

In other words, a more pragmatic approach than the standard North American acquiror might take, in which the buyer isn't looking for a specific type of asset, but for an asset with a solid revenue stream. This mindset would lead L&T very quickly to Citi's Unitrax package.

Leading the search for L&T was Sushma Rajagopalan, the company's Head of Global Strategy and Corporate Development. The Citi assets were on her radar immediately — L&T had a long-standing relationship with Citi in various other jurisdictions, and had just inked a new outsourcing agreement with the company in the US in 2009.

Rajagopalan's team fired off a non-binding letter of intent to Citi in May 2010. Although the assets and operations were Canadian, because Citi is an entity headquartered in New York, Rajagopalan's default setting was to go to a New York law firm: the New York office of Kirkland & Ellis LLP, with which L&T had worked its 2009 Citi agreement.

This is a typical pattern in international-flavoured deals. The inbound client enters Canada already bound to a New York law firm, and the Canadians find themselves playing a support role — at best, co-counsel.

Not this time. “The US law firm counselled us to use a Canadian law firm on the deal,” Rajagopalan says. She'd already done her research and identified the Canadian firm she wanted — BLG, for, among other things, the firm's strong investment funds practice. She put the two firms together “to talk to each other to figure out if we would need both or not,” and the analysis was that all the heavy lifting would take place in Canada, with some ancillary issues requiring input from Indian counsel — but virtually nothing from New York.

BLG's Alfred Page, the partner who'd lead the deal team, was ecstatic. And Rajagopalan knew very quickly she had made the right decision.

“The role that BLG played was not just that of lawyers,” she says. “They were truly our strategic advisors on this. This was our first transaction in Canada, we did not know much about Canadian rules and regulations, or how to navigate Canadian culture. One of things I told Alfred right from the beginning was, ‘Please don't approach this as a typical lawyer — we are really looking for an advisory firm here.'”

BLG was pleased to oblige. So as L&T eyed the deal landscape and pondered the Citi deal and alternatives, Page and his team talked with Rajagopalan and her team about Canadian investment funds, barriers to entry in that market, and the unique Canadian regulatory requirements that mean, as Page puts it, that “Canadian funds in particular are likely to continue to be their own beasts for some time to come.”

BLG's capability in this area is substantially bolstered by the addition to its team of Barry Myers, former leader of PricewaterhouseCoopers' Financial Services and Canadian Investment/Wealth Management practices, who, upon his “retirement,” joined the law firm as a senior business advisor in 2008.

“He knows everyone in the industry,” says Page. “If he hasn't audited them, he's bought them.” Myers arranged for L&T's deal team to meet senior executives in the investment funds industry in Canada, and got them to expound to L&T their views on the industry, its administration, and even the merits of the specific technology and service aspect L&T was interested in.

Among the questions L&T needed answered at the outset — the very obvious, “Why in the world would there even be a Canadian fund transfer business — why isn't this something [any transfer agent] can do?” (Short answer: Canadian mutual funds are weird. Slightly longer, more technical answer, as articulated by Page, “The Canadian mutual fund business has grown up largely on its own, with several regulatory obstacles to foreign fund manufacturers, and the result has been the evolution of proprietary IT systems. Similarly, the distribution channels are unique, and the way the manufacturers access them are not always straightforward. Finally, the Canadian taxation of mutual funds is sui generis. The result is that mutual fund transfer agency, record-keeping and reporting is complicated with lots of hooks and wrinkles — interoperability and systems interface are key.”)

As L&T was getting its ducks in a row, so was Citi. The bank was actually ahead of the game — it had been preparing ever since it had decided to put the assets on the block. Its internal and external legal team was long in place. It even had a draft agreement of how it wanted to structure the transaction in the works.

In Citi's corner as external counsel was Blakes' Greg Frenette, who had the advantage of having represented Citi when it purchased Unisen from AGF back in 2005. “When you're representing a buyer, you learn about a new business in great detail,” Frenette says. Now, one doesn't necessarily retain all this knowledge for the five intervening years — but it helps. Frenette was running the file with Citi's New York-based M&A Counsel Robin Schiff, and with Charles Alexander, Citi's Canadian general counsel in an oversight role.

Their task was tough. For five years since the acquisition, Citi was actively integrating Unisen and Unitrax into the operations of its Global Transaction Services division. Now they had to carve it out in a way that would make sense to a prospective buyer, and would allow this new buyer to continue to service Citi and Citi's clients in an appropriate way — all without causing disruption to Citi's remaining operations.

“This transaction touched so many functions within our business,” says Landry. “It required a lot of coordination across the business ... and it wasn't always very straightforward how to go about it.”

And then, there was the angst.

“This was the first divestiture this business had to participate in,” says Landry. “So in hindsight, there was a lot of angst. Even though from a strategic standpoint, it made sense, from a numbers standpoint it made sense — from an emotional standpoint, well, there was some turmoil that goes with a transaction of this type, from across the business.”

With all these pieces in place, the stage was set for some pretty tense negotiations, and the first sally did not disappoint that expectation.

Once L&T got comfortable with the Canadian investment fund landscape, and reasserted that the Citi transaction was the one it wanted, it shifted into due diligence mode with a view to drafting a formal offer.

“And that's when people realized the enormity of the task and the enormity of the issues that confronted them,” says Page. Citi already knew what L&T wanted to buy would be difficult to identify, document and price. L&T was just learning it now. Still, the bid letter got executed in August 2010. Citi's lawyers, who had been going back and forth on how to best structure the sale for several months, responded with a draft structure for the transaction.

Now, they didn't expect L&T to accept it wholesale. “What usually happens on deals is that the other side marks up your draft, and there are things you agree with, and things you disagree with, and that's the basis for the negotiations,” says Frenette.
L&T did not mark up Citi's draft structure. “They sent us basically a completely new draft,” says Alexander. “So right at the beginning, we had two very divergent views on how this transaction should be approached and documented.”

Frenette doesn't want to go so far as to say he was worried. But he wasn't what you'd call sanguine. “All of a sudden we thought we were much farther apart with these folks than we hoped. We were almost at a point where it looked like each of us was going down a different path,” he says. “We were saying there is only one way we are prepared to do this, and they were saying there is only one way we are prepared to buy it.”

Problem. The companies won't specify just what the initial divide was. And they did get over it – Citi convinced L&T to do things its way – eventually. “It took us a while to persuade them that we had longer to think about this transaction and plan for it, and we had gone through the alternatives, and we were convinced that the structure and methodology we had chosen was the right one. It was not an easy sell for them. But eventually they did come around,” says Frenette.

But L&T did not set a precedent of bowing to Citi when priorities conflicted. Although the deal was comparatively small – as it is a private acquisition, the price tag was not disclosed, but Citi had acquired a similar set of assets from AGF in 2005 for under US$100 million – it was extremely complex. And not just because of the asset lift-out. As the parties were negotiating the sale, they were also negotiating a 10-year ASP (application service provider) agreement. That meant L&T was simultaneously buyer and future service provider and Citi was seller and future client.

“You don't see a lot of this type of lift and shift deals in outsourcing
any more,” says Jason Howg, an intellectual property partner in the Calgary office of BLG. “Because each party was wearing two hats at the same time – our client was both
buyer and service provider – that added a level of complexity and duplicity that made the transaction extremely interesting.”

Howg leads BLG's IP and IT group in Calgary, as well as filling the role of Calgary leader for BLG's IT focus group. He wasn't supposed to work the L&T transaction — Page had initially thought to cut at least one time zone out of the equation and staff his team from Toronto. But Mark Fecenko, the national director of BLG's IT Focus group got sucked into another deal, and Howg got pulled in, along with other members of the Calgary IP team, including trade-mark agent LuAnn Morrow.

“I don't think he slept,” says Julie Mansi, a partner with BLG in Toronto, who also played a key role on the deal alongside Page, bringing a mix of M&A, registrant regulation and investment-management expertise to the table. “He delivered everything we wanted, when we needed it.”

The client noticed. Rajagopalan is full of praise and appreciation for the entire BLG legal team. But Howg earned some extra stripes on the deal, and kudos from the other side too. Says Frenette, “In a number of cases where the negotations were difficult, he was important in keeping everything moving forward.”

That's because the technical/outsourcing aspect of the transaction kept the deal on track whenever it hit bumps. Which was more often than one might expect in a friendly, “we both want to do it done” transaction.

“Without naming names, there were some people on each team that were more difficult to deal with and some a little easier,” says Frenette.

In a way, he says, each side was running two deal teams: a team primarily interested in the sale transaction, and a team focused on the long-term relationship. “And sometimes the team on the transaction would get stuck on an issue, and one of the ways of getting past that was to turn to the other team, who had a greater desire to work together well, to help us
solve the issues.”

Schiff agrees. “When we understood what the long-term team really cared about, that put a different light on some of the issues we were stuck on,” she says.

Why did these two long-time partners keep on getting stuck on issues? The complexity of the deal and the issues involved played into it — L&T wasn't just buying physical assets.

Frankly, those were incidental. The deal was about intellectual property, talent – the IP wasn't nearly as valuable without the skilled Unisen-now-Citi employees that understood it – and client relationships. Pricing such a deal is a huge challenge, full of moving variables. If clients didn't all cross over, if some of the employees left – Which ones? How many? – the value of the deal to L&T would be eroded. And its ability to fulfill its post-deal obligation to Citi and other clients would be weakened.

But there was a bit of clash of cultures involved — and not necessarily India versus North America, although there was some of that too. BLG's tax lawyers, led by Natasha Miklaucic, worked with L&T's Indian counsel and their counterparts at Blakes and Citi to achieve tax efficiencies in the transaction — notably, to minimize L&T's exposure to India's considerable Stamp Duty Tax. “We thought we had all that lined up, and then the Indian company said, ‘We do a lot of government contracting work, and we don't want to be seen as avoiding this,'” says Page. He still sounds shocked. “L&T stepped up and paid quite a large whack of tax — it said, ‘We are citizens of our country and we do not mind paying out taxes.'”

During a lull at one of the same-time-zone, real face-time meetings, one of L&T's Indian lawyers primed Julie Mansi on Mahatma Gandhi's philosophy and legacy. “What stuck with me was how he talked about fight or flight — and he said, ‘What Gandhi taught us is, you don't choose either. You just stay. '” That attitude, says Mansi, prevailed in the negotiations. “The fight did not exist,” she said. “They wanted this deal, they wanted to stay partners — but at the same time, they were not backing down from any issues. Fight or flight? No, we don't do either, until rational thought prevails.”

The real clash, however, wasn't East versus West. It was bank culture versus tech culture. “L&T are technology providers and you see it all the way through the negotiations,” Mansi says. “Most of the M&A deals I've worked, there's fluidity to the negotiations. Whereas here we had charts of outstanding issues. Massive charts. Cross-referenced charts. And we'd be saying, ‘Okay, we're willing to give up a6, b4 and c12, while you give up c6, b8 and a9. '”

At least once – maybe twice – the external lawyers were worried the deal was permanently stalled. Frenette, says Page, saved it all at one point by coming over to BLG for an informal cup of coffee. “The parties both dug in their heels, and it wasn't
clear how we were going to move forward,” says Page.

Frenette wasn't sure either. But he knew at least this much: “Most clients want to do the deal,” he says. “They wouldn't be there if they didn't think a deal was possible.” These clients wanted to do a deal. “I see part of my job is to find a way to make that happen. If you run up against roadblocks, it's a lawyer's job to try to find something that works for both parties — not to score points.”

What did Frenette and Page talk about as they sipped increasingly cold – the meeting ran two hours, maybe more – coffee? “We were each an advocate for our respective clients,” says Frenette. “What we were doing ... I guess we tried to play a back-channel communication role.” To talk about what really was important to the clients. To maybe translate or rephrase what each client meant when they got stuck on this or that point.

It worked. Within two days of the cold coffee date, the negotiations were back on track. They would stall again — and that time, Page would help restart them, Frenette-style, by repeating the coffee date. (It went shorter, and the coffee tasted better at the end, that time.)

Through it all, Rajagopalan stayed cool. This deal was important to L&T. And it was going to get done. No question marks.

“In any transaction, people like me are trained to have that notion [that the deal might not succeed],” says Rajagopalan. “But in this particular case, it was more a theoretical possibility, not a practical possibility. My view was, how am I going to get the deal done, and how are we going to get it done right.”

And it got done. “It all finally got done in pretty much one afternoon,” she recalls. “The way it happened was, finally we all got together and said, let's do a whiteboard brainstorming exercise. We're not sitting across the table negotiating here. Let's put all cards on the table and go to whiteboard and work out all the scenarios.” And they did. On November 16, 2010, they inked both the sale and the ASP agreement, and formally announced a deal.

It felt, at times, like an eternity. It was really only three months. But “three months of hard slogging,” says Page. “One of my IT people told me afterwards that to do that type of service arrangement – just the outsourcing part of the deal – one would normally budget seven or eight months and be happy to be done in six. We did it in three.”

The last six weeks – the deal closed December 31, 2010 – were somewhat anticlimactic. But still intense. Citi had to form a new company, transfer the assets to it, and L&T had to buy that company. At the end of it, L&T ended up with two Canadian subsidiaries: Larsen & Toubro Information Technology Canada Ltd., which it had pre-transaction and which focuses principally on off-shoring, and the new Unitrax-wielding subsidiary with the inelegant name L&T Infotech Financial Services Technologies Inc. (Don't like the name? Blame Industry Canada, which governs federal corporate name clearance).

Most importantly, the parties had to port all of Citi's employees to L&T. And that wasn't easy. The best way to do so was to terminate their employment at Citi ... and then rehire them at the new, still-Citi-owned company ... which was about to get bought by an Indian offshorer — at the very least, unfortunate optics. The deal hinged in part on sufficient employees accepting the new opportunity. And their acceptance hinged almost completely on these former bank employees getting comfortable with the idea that their new boss was going to be an Indian outsourcer — and no, it wasn't going to fire them next week and send their jobs to India.

“We were very conscious of it,” says Rajagopalan. “We knew the offshore issue would be raised, and we were prepared with an answer. But it was pre-emptive to a large extent. People accepted, people understood — this business was not something that any company would take lock stock and barrel to India. If that was our approach. we would lose our existing clients.” Part of what L&T was getting in this deal, she stresses, was expertise — and that was in the people.

That's another attitude that's common to Indian aquirors, says PWC's Knibutat. On his recent trade mission to India with Invest Toronto, he noticed that many of the companies Canadians were talking to were interested in, of course, making money via their acquisition or investment, but they also were looking at them as a means “to access best practice, to get knowledge transfer, improve their process, and be much more competitive in India.”

And elsewhere. L&T, for one, is looking to service the world. It's about halfway there.

Marzena Czarnecka is a freelance writer and a regular contributor to Lexpert.