Material adverse change (MAC) clauses have recently received considerable attention in Germany, due to both the events of September 11 and the new Securities Acquisition and Takeover Act, which came into force on January 1 2002. MAC clauses are designed to protect the acquiror of a business in the case of unforeseen events which result in negative consequences to the target company, where these consequences are so severe that the acquiror would not have purchased the business (or would not have purchased it at the same conditions) had he been aware of these events beforehand. To this effect, MAC clauses have in recent years been typically employed as closing conditions in German private M&A transactions.

Conversely, so far, MAC clauses in public tender offers have been rare. Although the new Securities Acquisition and Takeover Act does not specifically address this issue, it is the prevailing view among market participants that MAC clauses are generally permissible. However, the new law does not permit any conditions whose occurrence may be determined at the bidder's discretion. MAC clauses should thus be drafted as specifically and objectively as possible in order to comply with the prohibition against subjective conditions.

At present there is little practical experience of the scope of protection which MAC clauses can afford to the purchaser. Experience in other jurisdictions suggests that unspecific MAC clauses may be construed very narrowly. An often-cited UK example is the public bid which WPP Group plc launched for Tempus Group plc in August 2001. This was conditional upon "no material adverse change or deterioration having occurred in the business, assets, financial or trading position or profits or prospects of any member of the wider Tempus Group". WPP then took the view that the events of September 11 constituted an MAC event and attempted to withdraw from its bid. However, the UK Takeover Panel held that:

"meeting that test requires an adverse change of very considerable significance striking at the heart of the purpose of the transaction in question, analogous to something that would justify frustration of legal contract."
The panel further held that this test was not met in this case, and thus obliged WPP to complete the transaction.

Although it is in general believed that MAC clauses would also be strictly interpreted by the German supervisory authority, there is some doubt as to whether the very narrow interpretation of the UK precedent would be followed. Due to certain differences between the City Code and the German regulation, and for other reasons, it appears probable that a threshold below the frustration level might be applied instead.

It is expected that the German courts would also adopt a restrictive view on MAC clauses in the area of private M&A transactions. In contrast to public deals, courts might be inclined to give more leeway to contractual arrangements between the parties and uphold discretionary MAC clauses to some extent. However, there is no relevant court precedent to date.

For these reasons, some doubt remains as to whether unspecific MAC clauses may actually afford protection against risks to the extent expected by purchasers. In suitable cases specific MAC clauses may offer a higher degree of legal certainty. Such clauses identify and clearly specify certain individual risks which are considered to justify a withdrawal from the proposed transaction. In particular, these risks might include financial thresholds (eg, turnover or profits) not being met for a certain period of time. Specific MAC clauses may also be linked to public market data such as the performance of stock market indexes.

MAC clauses are of particular significance in leveraged transactions. In most cases financing will only be available subject to customary MAC conditions. As the target company cash flows are generally required to redeem the acquisition debt, lenders require protection against a possible deterioration of the target's earning potential. Moreover, risk diversification through syndication in large transactions requires that the credit arrangement be made on standard market terms, which is understood to include MAC clauses. In this case special care is required when drafting the relevant agreements, in order to ensure that the MAC clauses on the acquisition side closely correspond to those on the financing side. The purchaser thereby avoids potential damage claims arising in a situation where his financing is terminated under a MAC clause, but remains liable to complete the acquisition notwithstanding the lack of funds to do so.

For further information on this topic please contact Oleg de Lousanoff at Hengeler Mueller by telephone (+49 69 17 09 50) or by fax (+49 69 72 57 73) or by email ([email protected]).