Are non-binding preliminary agreements before the execution of a definitive agreement typical in real estate business combinations, and does this depend on the ownership structure of the target? Can such non-binding agreements be judicially enforced?
According to the Civil Code effective since 2014, only binding contracts on future contracts (containing either obligations of both prospective parties to the definitive agreement or an undertaking to enter into this agreement by one of the parties) are recognised by Czech law.
However, regardless of the above, non-binding preliminary agreements, such as LOIs, are still widely used in all types of real estate business combinations, especially in the earlier stages of the negotiations. It is also very common that a non-binding preliminary agreement is subsequently replaced by a binding agreement once the parties proceed further with the negotiations.
The non-binding preliminary agreements are generally not judicially enforceable. However, according to Czech law, unjustified termination of pre-contractual negotiations in the final stage of negotiations may lead to a liability for damages (pre-contractual liability), whereas the preliminary agreements may either include an explicit agreement concerning the manner of reimbursement of the parties’ costs in case of termination of the negotiations or serve as important evidence with respect to pre-contractual liability.
Special attention must be given to the drafting of preliminary agreements, as such agreements may often be considered by the courts as binding.Typical provisions
Describe some of the provisions contained in a purchase agreement that are specific to real estate business combinations. Describe any standard provisions that are contained in such agreements.
Under Czech law, a purchase agreement concerning the transfer of real estate always needs to be in writing, signed with verified signatures and contain, at least, a detailed description of the transferred properties, and the purchase price or a manner of its determination.
R&Ws are not mandatory (certain warranties arise directly from the law) but are highly advisable and very common. R&Ws usually concern good title, non-existence of encumbrances and other third-party claims, and compliance with the building and construction regulations. Contracts concerning major real estate transactions usually also include the mechanism of claim procedures, should any defective or misleading warranties occur.
Purchase agreements also commonly address the mechanism of payment of the purchase price. The most common solution in this regard is an escrow of the purchase price by a third-party escrow agent (eg, an attorney, a notary or a bank) between the signing and closing of the transaction.
In an asset transfer, due to the specific regime of passing on title to the property (title is only passed on upon registering in the real estate register, which may take several months), specific covenants on the seller regarding safeguarding the status and conditions of the property between signing the purchase contract and registration of title are introduced to protect the buyer in the interim period.Stakebuilding
Are there any limitations on a buyer’s ability to gradually acquire an interest in a public company in the context of a real estate business combination? Are these limitations typically built into organisational documents or inherent in applicable state or regulatory related regimes?
In cases where the buyer acquires an interest in a public target as the result of an acquisition and its share on the target’s voting rights exceeds certain thresholds stipulated by the Act on undertakings on the capital market, the buyer may be required to notify the Czech National Bank of the acquisition. Companies listed on the Prague Stock Exchange are further required to publish such notification on their websites. The same obligation applies to the seller in cases of sales of its interests.
In addition, acquisitions over certain thresholds (20 per cent, 30 per cent, 50 per cent and a qualified or controlling majority) require a prior approval of the Czech National Bank.Certainty of closing
Describe some of the key issues that typically arise between a seller and a buyer when negotiating the purchase agreement for a real estate business combination, with an emphasis on building in certainty of closing. How are these issues typically resolved?
A good ownership title to the property is the most important issue in all real estate transactions. Although the ownership rights to most types of real estate are registered in the real estate cadastre, potential disputes concerning the ownership title are not unusual.
Other issues typically arise from legal due diligence and may concern various topics (eg, invalid or otherwise defective lease contracts, issues with neighbours or construction law). The solution of these findings then depends on their importance (eg, buyers would usually require the most important issues to be remedied prior to the completion of the transaction and so the remedy will be a condition of signing or closing). Remedy of minor issues may be allowed as a post-closing obligation of the seller, whereas the seller’s failure to ensure fulfilment of the obligations may trigger a discount on the purchase price.
Once a transaction is completed, neither party usually wants to terminate the purchase agreement unless a very important issue occurs (eg, breach of a warranty that may constitute major damage, as, for example, warranty concerning ownership title). The termination rights are therefore very limited. Termination rights arising from law are frequently excluded by the transaction’s parties.Environmental liability
Who typically bears responsibility for environmental remediation following the closing of a real estate business combination? What contractual provisions regarding environmental liability do parties usually agree?
The Czech environmental law is generally based on the ‘polluter pays’ principle. As a result, the transfer of the ownership right to real property does not exclude the seller from its liability to remedy the property’s environmental burdens if the seller caused them. Even if the purchase agreement does not contain any R&Ws on this point, the buyer may be authorised to approach the authorities and request them to force the seller to ensure remediation.
Regardless of the above, the buyers usually actively approach this issue and require the sellers to provide R&Ws that the real estate properties are free from any environmental burdens and that the activities of the previous owners did not contravene any applicable environmental regulation. A potential breach of such an R&W subsequently triggers a contractual obligation and the specific type of compensation depends on the contractual claim procedure. Obligations may include liability for damages, price adjustment, contractual penalties or even termination rights.Other typical liability issues
What other liability issues are typically major points of negotiation in the context of a real estate business combination?
After the fall of the communist regime in the Czech Republic, the Czech state introduced various laws to rectify the forced foreclosures of real estate properties during the communist era (1948-1989). As a result, prospective buyers of real estate must conduct research to determine whether the concerned property is not subject to a restitution claim from its previous owners or their legal successors. Although the private restitutions are now mainly resolved, restitution of assets formerly owned by religious institutions and confiscated in the past by the state under the communist regime, known as ‘church restitution’, only commenced in 2013. The prospective buyers therefore commonly require a confirmation of the Czech Land Office on the non-existence of restitution claims and a warranty of the buyers in this respect.
Liability for compliance of real estate (and its potential refurbishments) with the construction laws and heritage protection is also a common point of negotiations. The compliance with the construction laws is usually subject to enhanced legal due diligence and corresponding R&Ws of the sellers are required as well.Sellers’ representations regarding leases
In the context of a real estate business combination, what are the typical representations and covenants made by a seller regarding existing and new leases?
The buyers usually require warranties concerning:
- all the lease contracts that are disclosed by the seller;
- validity of the lease contracts (especially with respect to major tenants);
- rent roll;
- existence of cash deposits or bank guarantees;
- non-existence of major defaults of the tenants (especially with respect to their payment obligations);
- non-existence of any grounds for termination of the lease agreements;
- non-existence of any ongoing or threatening litigations (or a list of ongoing litigations, if applicable); and
- non-existence of any undisclosed liabilities of the buyer to the tenants for the tenants’ improvements of the leased premises.