Is financial assistance legislation applicable to debt financing arrangements? If so, how is that normally dealt with?
Private Equity (2nd edition)
The general rule is a Greek company is prohibited to proceed to any prepayments or to grant loans or securities which have as an objective to facilitate the purchase of its own shares by third parties. The prohibition on financial assistance applies to companies under the form of a société anonyme and not in other company types. Nevertheless, the Greek Company Law (Law 2190/20) regulates the terms and conditions under which companies may provide financial assistance as follows: a) the relevant transactions should be effected with the responsibility of the Board of Directors and should be concluded under market terms, specifically in relation to the interest received by the company and the collateral that it receives for securing its claims; b) the transactions should be approved by the General Meeting of the Shareholders with an increased quorum and majority. The total financial assistance that is provided in favor of third parties cannot in any case result to the reduction of the company’s own below the amount prescribed in relevant provisions of the Greek company Law (Art. 44a of Law 2190/1920). Moreover, Article 23a of Law 2190/1920 prohibits any kind of financial assistance provided by an entity to another entity which directly or indirectly controls it, save where specific conditions are met, such as in cases where financial assistance is provided for the benefit of companies which are subject to consolidation as per the accounting legislation.
Financial assistance rules are applicable to public limited liability companies and provide that a company may not advance funds, make loans or provide security whether directly or indirectly, with a view to the acquisition of its shares by a third party.
There is some debate in Luxembourg as to whether or not the financial assistance rules should also be construed as being applicable to Luxembourg private limited liability companies. However, irrespective of whether the formal financial assistance rules apply, a transaction which raises financial assistance concerns may also be difficult for a company to approve from a corporate interest perspective – therefore for private limited liability companies, even if not subject to financial assistance rules, this must be considered carefully.
If a company which is subject to financial assistance rules directly (SA, SCA) takes an action in breach of the financial assistance rules, such action will be null and void. Breach of the financial assistance rules also triggers potential criminal and civil liability of the directors of the company.
There is a ‘whitewash’ procedure available under Luxembourg law which can be followed if parties wish to proceed with a transaction notwithstanding that it constitutes financial assistance; however, such procedure is not commonly applied in practice.
The statutory financial assistance restrictions with respect to private limited liability companies (BVs) were abolished in 2012 and therefore, in principle, BVs are no longer restricted in providing financial assistance. However, managing directors of a BV should fulfil their fiduciary duties and must therefore take care in providing financial assistance as the general rules regarding directors’ liability apply.
Financial assistance rules do however still apply to public limited liability companies (NVs). These rules prohibit an NV and its subsidiaries (including BVs) from providing collateral, guaranteeing payment of a certain acquisition price or otherwise guaranteeing or binding itself with or for third parties ‘for the purpose of the subscription or acquisition by third parties of its shares or depository receipts issued therefor’. The granting of a loan by an NV or its subsidiaries for the purpose of subscription or acquisition by third parties of shares in the NV is allowed but subject to certain restrictions. In practice this means that it is prohibited for an NV and its subsidiaries to provide security and guarantees for that part or tranche of the debt financing that is used to pay the purchase price for the acquisition of the shares in that NV. If the debt financing consists of other tranches used for other purposes (such as refinancing of existing indebtedness or working capital) it is permitted for that NV and its subsidiaries to provide security and guarantees for those tranches.
There are ways to structure the transaction in a manner to effectively avoid the applicability of the financial assistance rules, such as (a) a statutory merger (juridische fusie) of the buyer with the target NV after the shares thereof have been acquired, following which the merged entity can provide security and guarantees for the debt financing, (b) after the shares in the target NV have been acquired, conversion of the target NV into a Dutch BV for which the Dutch financial assistance rules are no longer applicable and (c) a debt push down of the debt financing that has been originally incurred by the buyer to finance the acquisition of the shares in the target NV. Whether or not these structural options can be applied strongly depends on the structure of the acquisition, the percentage of shares that is acquired and other circumstances and generally, in absence of case law which provides a conclusive interpretation of the financial assistance rules applicable to NVs, care should be exercised when implementing any of these structures.
In practice, as the number of BVs existing in the Netherlands far exceeds the number of NVs, the practical importance of financial assistance rules in Dutch private equity transactions is limited. However, general principles of Dutch law relating to e.g. corporate benefit, fraudulent conveyance and fiduciary duties of the board towards the company (both BVs and NVs) and its stakeholders remain important in a company’s consideration of whether or not to provide financial support to any transaction.
The Norwegian Private Limited Companies Act and the Norwegian Public Limited Companies Act contain provisions on financial assistance which in practice prevent a target company from providing upstream security or guarantees in respect of acquisition financing arrangements. Hence, in the context of leveraged buy-outs, the acquiring entity will typically primarily provide security only over the shares acquired in the target company.
Any debt used to refinance the target company's existing debt, and/or to finance the group's general corporate and working capital requirements may, however, be secured by security created over the target company's assets. Such debt is also often secured by guarantees provided by the various group companies.
There are no financial assistance issues as long the Polish target has the form of a limited liability company (PL: spółka z ograniczoną odpowiedzialnością).
Restrictions apply only in case a Polish joint stock company (PL: spółka akcyjna) is involved.
Generally speaking, a Polish joint stock company may, directly or indirectly, finance the acquisition of shares issued by it by way of granting a loan or providing a security. However, such financing or security provision is subject to the following limitations:
a. financing or providing security should be done at market conditions and after the solvency of the borrower has been verified;
b. the Polish company may finance the acquisition (or provide security for the financing) of shares issued by it, provided that (i) the shares in the Polish company will be acquired for a fair price and (ii) the Polish company previously established a reserve capital for that purpose from the amount which can be subject to distribution among the shareholders.
Financing or providing security should be done within the limits set forth in the resolution previously adopted by the Polish company’s shareholders. The basis for the shareholders’ resolution concerning financing or provision of security is a written report of the management board of the Polish company specifying: (a) the reasons for or purpose of the financing or provision of security, (b) the Polish company's interest in the financing or provision of security (c) the financing conditions, including in the field of securing the Polish companies interests, (d) the influence of financing on the risk for the Polish company's financial liquidity and solvency and (e) the price of the acquisition of shares accompanied with a justification that it is a fair price.
There is no law on point with respect to debt financing arrangements. In Korea, it is normally dealt with the assessment of whether there is any breach of fiduciary duty of the relevant directors (which breach may give rise to criminal liabilities).
In general, provision of the target company’s assets as a collateral to the buyer’s acquisition financing (or the target company guaranteeing the buyer’s acquisition financing) is deemed a breach of fiduciary duty by the directors of the target company; and as such, such arrangements are not permitted in Korea. The buyer would typically provide the shares in the target company as collateral to its acquisition financing.
Occasionally, the buyer (i.e., its investment vehicle, which is the borrower for the buyer’s acquisition financing) would merge with the target company after completion of the M&A transaction.
Swedish law contains rules regarding financial assistance that prohibit the granting of loans, security and guarantees for the purpose of financing the acquisition of shares in such lender (or its parent/sister company). These rules apply to both private and public companies.
As most private equity transactions are financed by bank loans, the lending banks will usually require that the target company and its subsidiaries (as applicable) accede to the loan agreement as guarantors and also provide security over certain assets. The issue is usually dealt with by the target (and its subsidiaries) providing security and guarantees after a time period of approximately 90 days have passed since closing of the relevant acquisition. To our knowledge, the time period has never been adjudicated by a Swedish court but it is standard on the Swedish market and something that both lenders and borrowers/guarantors are comfortable with and expect to see in the loan documentation.
In addition to the above, the granting of security and guarantees by Swedish companies is subject to certain company law restrictions on distributions, prohibited loans and the object(s) of the target’s business. These issues are usually dealt with by including a Swedish law limitation language provision in the relevant accession, security and guarantee documents.
Financial assistance granted in the form guarantees or collateral to secure obligations of direct or indirect shareholders (upstream) or sister companies (cross-stream) are subject to restrictions under Swiss corporate and tax laws.
Upstream or cross-stream guarantees or collateral should generally be granted on arm's-length terms from a Swiss corporate law perspective. If not at arm's length terms, such guarantees or collateral may qualify as a constructive dividend or, if no sufficient freely distributable reserves are available, a prohibited repayment of share capital resulting in the risk of liability for members of the board of directors, nullity of the guarantee or collateral and possible negative withholding tax implications. Since there are no clear-cut rules or guidance as to what conditions will be considered as arm's-length terms, the following cautionary measures are taken as a matter of standard practice whenever a Swiss company provides an up- or cross-stream guarantee or security:
- The guarantor's or security provider's articles of association must explicitly permit the granting of up and cross-stream guarantees or collateral with or without consideration;
- any up- or cross-stream guarantee or collateral must be unanimously approved by the shareholder(s) and the members of the board of directors (or managing officers) of the guarantor or security provider; and
- up- or cross-stream guarantees or collateral should be granted only subject to market-standard limitation language limiting the enforcement of such guarantee or collateral to the amount of freely distributable reserves of the guarantor or security provider.
Under the new Belgian Companies’ and Associations’ Code (the mandatory provisions of which will apply to all Belgian companies as from 1 January 2020), the Belgian financial assistance rules apply to public limited liability companies (NV/SA), private limited liability companies (BV/SRL), and cooperative companies (CV/SC). Under these rules, such Belgian companies may not grant any advance, loan, credit or security (personal or proprietary) with a view to the acquisition or subscription of its shares by a third party, unless in accordance with a specific procedure and under certain conditions (it being understood that such procedure and conditions are slightly more flexible under the BV/SRL and CV/SC company forms, as compared to the NV/SA company form).
Any advance, loan, credit or security granted in breach of the financial assistance rules is null and void. In addition, it may trigger the civil liability of the directors (both towards third parties and the company itself). Under the new Belgian Companies’ and Associations’ Code, a violation of the financial assistance rules will, however, no longer be considered a criminal offence that can entail the criminal liability of the directors of the company.
To date, the financial assistance procedures are rarely applied, since less stringent alternatives (in particular in the framework of a “debt pushdown”) are conceivable and have been tested in the past. It remains to be seen whether the introduction of the new Belgian Companies’ and Associations’ Code will change this practice.
A common way to deal with this problem is to divide the financing into various tranches whereby the Belgian company does not grant security for the respective tranche related to the direct or indirect acquisition of its shares.
Financial assistance legislation is rarely relevant in the Canadian market. It only factors in limited instances involving certain foreign guarantees.
In general, the concept of financial assistance refers to the situation where a company provides financial support such as gift, loan, guarantee, exemption from obligations, etc., to a person who has acquired or is to acquire that company’s share (“offeror”). So far, financial assistance is not definitely prohibited in the PRC Company Law. However, according to relevant regulations, public companies are prohibited from using their own resources to provide any form of financial assistance to the offeror.
Under the French Commercial Code, it is prohibited for acquired French limited liability companies and for their subsidiaries, , to provide any financing to acquire the shares of the target or to give any guarantees or grant security interests over their assets to secure the amounts used to acquire them. Financial assistance issues must also be considered when merging the acquisition vehicle and the target or when implementing debt pushdowns.
Hence, the acquiring entity will typically provide security only over its own assets, the shares of the acquired company and downstream guarantees.
In addition, the target group may provide upstream guarantees to secure a revolving credit facility and/or a CAPEX line but provisions limiting the amount of such upstream guarantees must be provided with corporate benefit rules.
German corporate law does not include financing assistance legislation in a sense comparable to other jurisdictions such as the UK but provides capital maintenance schemes to protect the relevant directors from personal civil and criminal liability. The relevant applicable scheme depends on the entity involved, whether a private limited company (GmbH) or a public stock corporation (AG, SE). It is generally prohibited for a public stock corporation (AG, SE) to support any stock holder’s acquisition of stock in such entity. In addition, private limited companies (GmbH) and public stock corporations (AG, SE) may not make distributions to their relevant share or stock holders so far as the distribution affects the company’s registered share capital. It is generally accepted in the German legal market that these restrictions also apply to any form of upstream credit support, whether upstream guarantees or security, for acquisition financing. As a result, guarantees and asset securities are typically granted subject to a contractual limitation providing that the guarantee or security may be unenforceable to the extent it is prohibited by corporate law. While this limitation is generally accepted by lenders, the contractual limitation may significantly reduce the amount enforceable under the guarantee or security, potentially in its entirety.
From a few years back the debt financing sector in Mexico basically became fully open and subject to certain restrictions any entity may provide financial assistance. That said, such assistance and any collateral stapled thereto must be specifically contemplated in the lending company’s bylaws and is usually subject to previous corporate approval.
English company law prohibits a public company from providing financial assistance for the purchase of its own shares or the shares of its holding company, and a private company from providing financial assistance for the purchase of shares of a public holding company. For this reason, where a transaction includes a target that is a public company, it is common for the public company to re-register as a private company before it provides the relevant financial assistance to avoid any breach of the prohibition.
The offshore acquisition financing is typically secured by the offshore borrower’s assets (including shares in its offshore subsidiaries) in favor of the offshore lenders. In such financing structure, the Vietnamese target company does not generally have the ability to provide guarantees in favor of offshore lenders to secure the repayment obligations of the offshore borrower. Guarantees by a Vietnamese entity in favor of an offshore lender are only available in the context of a foreign loan granted by the offshore lender to the Vietnamese borrower (i.e., the guarantees must be registered with the State Bank of Vietnam together with the registration of the foreign loan that is secured by the guarantee).
Under the Companies Act, 2013 a public company is not permitted to finance, either directly or indirectly (or support the financing by giving securities, guarantees etc.) the acquisition of its own shares or shares of its holding company. There are penal provisions against such financing by companies in India. Private companies are exempted from such restrictions, subject to compliance of certain compliances under the Companies Act, 2013.
Yes, it is unlawful for a company to give any financial assistance for the purpose of an acquisition of shares in the company or, where the company is a subsidiary, in its holding company. There are however a number of exemptions, with the most common exemption being the carrying out of a whitewash procedure (known as a summary approval procedure), which approves and permits the form of assistance rendering it lawful.
The recently updated Companies Act introduced an additional carve out against financial assistance where the company's principal purpose in giving the assistance is not to give it for the purpose of any such acquisition (the so-called “principal purpose test”) or the giving of the assistance for that purpose is only an incidental part of some larger purpose of the company (the so-called “incidental part test”), and, in each case, the assistance is given in good faith in the interests of the company.
The summary approval procedure involves a number of steps, including the swearing of a declaration by all or a majority of the directors of the relevant company that, among other things, the directors have (following full inquiry) formed the opinion that the company will be able to pay or discharge its debts and liabilities in full as they fall due for a period of twelve (12) months following the giving of the financial assistance. Shareholder and board approvals are also required.
Public companies and their private subsidiaries are not able to avail of the summary approval process and thus, unless the relevant financial assistance falls within one of the other more limited categories of exemption, it will not be permitted.
Failure to comply with the prohibition on financial assistance is a criminal offence and any financial assistance (eg guarantees, charges, etc.) granted in breach of the legislation is voidable.
Hannes Snellman: The Finnish Companies Act includes an explicit financial assistance prohibition preventing a limited liability company from granting any kind of loan, other assets or security for the purpose of a third party acquiring shares in the company or its parent company (save for employee share option plans). The prohibition, coupled with the corporate benefit rule, limit the use of certain financing structures involving upstream security or other arrangements, which is commonly accounted for in structuring debt financing arrangements.
Financial assistance (which under Brazilian law includes assistance by way of loans, guarantees, security or reduction of liability) is not specifically regulated by Brazilian law. However, depending on the legal status of the company (regulated entity, financial institution, publicly or privately held corporation, limited liability, etc), and the relationship between the grantor and the beneficiary of the financial assistance, restrictions may apply.
For example, financial institutions are prohibited to carry out credit operations with related parties (as defined in specific regulation), except in some limited circumstances.
Additionally, if financial assistance involves a company located outside Brazil, certain foreign exchange rules will have to be observed. It will be necessary to take advice on a case-by-case basis as to whether restrictions apply to a particular scenario.
Sections 82 of the Austrian Limited Liability Company Act (GmbHG) and 52 of the Austrian Stock Corporation Act (AktG) generally prohibit the return of equity (Verbot der Einlagenrückgewähr) to shareholders. Based on this principle Austrian courts have established that a company may not make any payments to its shareholders, except for:
- distributable balance sheet profit;
- a formal reduction of the stated share capital (Kapitalherabsetzung);
- surplus following liquidation.
The prohibition on return of equity covers payments and other transactions benefitting a shareholder where no adequate arms' length consideration is received in return. To the extent a transaction qualifies as a prohibited return on equity, it is null and void between the shareholder and the subsidiary (and any involved third party if it knew or should have known of the violation). It may result in liability for damages. Most of the above principles are also applied by the Austrian courts by analogy to limited partnerships having a limited liability company or stock corporation as unlimited partner (that is, GmbH & Co KG and AG & Co KG). In addition, section 66a of the Austrian Stock Corporation Act prohibits a target company from financing, or providing assistance in the financing of, the acquisition of its own shares or the shares of its parent company (irrespective of whether or not the transaction constitutes a return of capital). It is debated if section 66a of the Austrian Stock Corporation Act should be applied by analogy to limited liability companies . Transactions violating section 66a of the Austrian Stock Corporation Act are valid but may result in liability for damages.
With regard to the prohibition on return of equity Austrian courts have developed case law suggesting that a subsidiary may lend to a shareholder, or guarantee, or provide a security interest for a shareholder's loan if:
- It receives adequate consideration in return.
- It has determined (with due care) that the shareholder is unlikely to default with its payment obligations and that even if the shareholder defaults with its payment obligations, such default would not put the subsidiary at risk.
There are no exceptions to section 66a of the Austrian Stock Corporation Act . Given that a violation does not render the transaction void, section 66a of the Austrian Stock Corporation Act is usually of lesser concern.
Not in the US context. It is not analogous to financial assistance legislation in applicable European jurisdictions, but in the US there are fraudulent conveyance statutes which effectively limit the amount of indebtedness that a borrower can incur. For example, the federal Bankruptcy Code empowers debtors to avoid pre-bankruptcy transfers where any such debtor did not receive reasonably equivalent value for the transfer and was left insolvent, unable to pay its debts or with unreasonably small capital as a result of the transaction. In addition, states have fraudulent transfer statutes with respect to which private equity sponsors have utilized certain conventional methods (e.g. the use of solvency representations and the issuance of solvency certificates and opinions) to mitigate against the risk of facing a claim that any such private equity sponsor has not complied with such fraudulent conveyance statutes.
There are no explicit rules prohibiting financial assistance by a target company in connection with the acquisition of shares of the target company. As such, it is possible for the target to guarantee the liabilities of the buyer under the transaction documents and create a security interest over the target’s property and assets for the benefit of the lenders to the buyer. However, because the directors of the target owe fiduciary duties to its shareholders including the minority shareholders, it is common practice for the target to not make such guarantee or to create such security interest before the buyer acquires 100% of the outstanding shares of the target.
In the case of a 100% acquisition of an unlisted company, the target can provide the guarantee or create the security interest as soon as the sale between the seller and the buyer is consummated. In contrast, in a going private transaction of a listed company, such guarantee or creation of security interest will be possible only after both the tender offer and subsequent transaction to squeeze out minority shareholders have been completed.