Buyout firms, already stung by pension fund deficits in UK companies, may find it even harder to close deals under new rules introduced by Britain's pensions regulator.
Company retirement fund deficits have already hit the merger and acquisition merry-go-round, ending some high-profile deals. UK buyout firm Permira, for one, called off its bid for British retailer W.H. Smith after the two sides could not reach agreement on how much of the deficit Permira should fund.
Now new far-reaching regulations, which came into effect in April, allow Britain's pensions regulator to force a buyer to shoulder all of a company's pension liabilities.
In addition if the company goes bust, then the private equity firm or any other buyer is liable to make good the pensions deficit and honour payments to employees.
For private equity firms, who fund their acquisitions using huge amounts of debt, the new regulations make deals even riskier.
"I think it's another complication for deals... and the net result is that ultimately prices will go down, because you're taking additional risk," said one senior private equity source who asked to remain anonymous.
"It's definitely a potential impediment for deals," said Nick Gaynor, managing director of Deutsche Bank's financial sponsors group in London, which advises buyout firms on acquisitions.
According to a survey published in January by consultants Towers Perrin, senior British company managers say big pension deficits are major roadblocks to M&A deals.
Some 40 per cent of 70 chief financial officers at firms listed on the FTSE 350 index said the size of pension liabilities could thwart their merger and acquisition hopes.
Last year, pension fund trustees of retailer Marks & Spencer rebuffed an offer for the firm by entrepreneur Philip Green.
The new hurdles facing private financiers could help lure potential corporate buyers - which have been busy restructuring their balance sheets and returning cash to shareholders - back into M&A mode, buyout sources said.
"It probably tilts the balance in the favour of trade buyers," the senior private equity source said, adding that corporations do not rely on huge amounts of debt to fund takeovers like private equity firms do, so there is less inherent risk.
While pension trustees had powers to block a merger before, the new rules go one step further by stating that trustees have to be consulted by a firm before striking any deal that might affect the viability of the retirement fund.
"The new regulator and the associated powers have given trustees more control," said Gary Cullen, head of the national pensions unit at law firm Maclay Murray & Spens.
"If the purchaser or vendor of a firm is not prepared for part of the proceeds to go into a pension scheme, it could kill a deal," he added.
Not everyone welcomes the new rules. Last year the British Venture Capital Association, an industry body representing venture capital and buyout firms, said it was concerned about the regulator's powers and was continuing to hold talks to reduce any potential harmful effects, a BVCA spokesman said.
"It is well established that we had serious reservations about elements of this (Pension Act), and we still have issues now that it has become law."
Still, the experience of the US market, which also has rules to prevent firms from shedding pension responsibilities, suggests M&A activity should not drop in the long run, said Laura Millington, solicitor of law firm Hammonds, in a recent briefing with journalists.
"It (the Pensions Act) is not going to hamper corporate activity in the UK. It is really about a change in attitude that the regulator is looking for."
Johannes Huth, head of US buyout firm Kohlberg Kravis Roberts & Co in London, agreed.
"I don't think there'll be a huge difference. We've taken pension deficits off the price for a while; it's not a new thing," he said.