General structuring of financing
Choice of law
What territory’s law typically governs the transaction agreements? Will courts in your jurisdiction recognise a choice of foreign law or a judgment from a foreign jurisdiction?
Financing agreements in relation to acquisitions (i) where the borrower is owned by a private equity sponsor or (ii) which are to be syndicated internationally are typically governed by English law in the case of loans or New York law in the case of bonds. Financing agreements for German corporate borrowers or involving primarily German banks which are being marketed predominantly in Germany to German investors are typically governed by German law. It remains to be seen whether the uncertainties resulting from a potential hard Brexit will result in an increase in German law governing acquisition financing agreements.
German courts generally recognise the choice of foreign law to govern transaction agreements. However, collateral agreements creating liens over, inter alia, the shares in German companies or partnership interests in German partnerships, real estate situated in Germany and receivables arising under agreements governed by German law must be governed by German law.
German courts recognise and enforce judgments obtained in other EU member states on the basis of and within the limits set out in the recast Brussels Regulation ((EU) No. 1215/2012) and, in specific cases, the European Enforcement Order Regulation ((EC) No. 805/2004). Further judgments from courts of Iceland, Norway and Switzerland are recognised on the basis of the Lugano Convention on Jurisdiction and the Enforcement of Judgments in Civil and Commercial Matters. As a member of the EU, Germany is also party to the Hague Convention on Choice of Court Agreements, which gives effect to choice-of-court agreements and recognition of resulting judgments between contracting states (currently the EU member states (except for Denmark), Mexico and Singapore).
In the case of a hard Brexit, the recast Brussels Regulation would no longer apply to the UK, with the result that UK judgments would no longer be recognised and enforced under such Regulation. The fall-back would be the bilateral German-British Convention on the mutual recognition of judgments, which was signed in 1960. However, the scope of this treaty is significantly smaller than the scope of the recast Brussels Regulation. The UK government has indicated that the UK could seek to re-join the Lugano Convention after a hard Brexit. However, at present, there is uncertainty as to whether (and when) this will occur.
Restrictions on cross-border acquisitions and lending
Does the legal and regulatory regime in your jurisdiction restrict acquisitions by foreign entities? Are there any restrictions on cross-border lending?
There are only a few restrictions regarding acquisitions of domestic companies by foreign entities, as summarised below.
Under the Foreign Trade and Payments Ordinance (AWV) (as last amended on 19 December 2018), the German Ministry for Economic Affairs and Energy is to be notified and may initiate a review if a foreign entity intends to (directly or indirectly) acquire at least 10 per cent of the voting rights in a German company engaged in certain critical infrastructure sectors (eg, energy, water, food and telecommunications). The same applies to the (direct or indirect) acquisition of German media companies and German companies engaged in certain security-sensitive sectors comprising military products and security-sensitive IT products. In case of a review, the German ministry for Economic Affairs and Energy may prohibit the acquisition or issue an order within three or four months after the receipt of the complete documents. In the event of a cross-sector review, the Federal Government has to agree to the measure. In this respect, we note that, with respect to acquisitions in German arms companies, provisions under the German Foreign Trade Act also apply.
Further, there are certain restrictions and notification obligations applying to both foreign and domestic bidders and purchasers. These apply in practice most commonly where at least 10 per cent of the share capital or voting rights in a German bank, insurance company or other entity subject to financial markets supervision is being acquired.
Acquisitions of listed German companies and certain European Economic Area (EEA) companies listed only on a regulated market of a German stock exchange are subject to the German Securities Acquisition and Takeover Act (WpÜG). In such cases, the WpÜG governs, inter alia, the way that an offer must be made for such a company and whether or not the offeror or purchaser must make a mandatory offer.
The German Capital Investment Act (KAGB) imposes disclosure obligations on managers of certain private equity and other unregistered funds that acquire 10 per cent or more of the voting rights in German non-listed companies (eg, under sections 298, 299 and 290 KAGB, which implement provisions of Directive 2011/61/EU on Alternative Investment Fund Managers). More onerous reporting and asset-stripping obligations apply on funds that acquire ‘control’ of German non-listed companies and issuers whose securities are admitted to trading on a regulated market of a German stock exchange.
Types of debt
What are the typical debt components of acquisition financing in your jurisdiction? Does acquisition financing typically include subordinated debt or just senior debt?
At the time of the acquisition, the typical debt components comprise senior term loans or senior notes combined with a senior or super senior revolving facility. Second lien and mezzanine financings have become less popular in recent times. This is mainly due to the high liquidity in the senior loan market and the relatively high costs involved with second lien and mezzanine financings.
More specifically, in mid- and large-cap acquisitions by private equity funds, the term loan components are typically either broadly syndicated to banks and institutional lenders (TLB) or, from the beginning, set up as a bridge facility which is intended to be refinanced through the issuance of high-yield bonds or promissory notes (eg, Schuldscheine). High-yield bond issues are generally suitable for larger transactions, where the debt will not be repaid quickly (due to the transaction costs and non-call features), although the size of deals being financed with high-yield bonds has become smaller in recent years.
Unitranche financing and term loans granted by debt funds are gaining more and more importance, particularly in the mid-cap segment. Such alternative financings are mostly combined with a super-senior revolving facility provided by a bank. Unitranche providers are often willing to accept higher leverage ratios, since their financing is, from an economic perspective, a combination of senior and mezzanine loans. In turn, the interest rates for unitranche financings are usually higher than for senior loans, since unitranches are priced with an interest rate that is a blend of rates that would have applied to a senior term loan and a mezzanine loan.
In addition to the third-party debt, there is often a form of subordinated shareholder debt, typically in the form of payment-in-kind loans or notes. Some acquisitions also involve a form of vendor loan financing, which is also subordinated to the third-party debt.
Are there rules requiring certainty of financing for acquisitions of public companies? Have ‘certain funds’ provisions become market practice in other transactions where not required?
From a legal perspective, certainty of funds is only required for takeover offers in relation to listed companies where the consideration is (at least partly) payable in cash. In such cases, the WpÜG requires a confirmation by the financial adviser (or other appropriate third party) that resources are available to the offeror sufficient to pay the compensation if the offer is accepted in full. In addition, the German regulator requires comparable evidence if a purchaser intends to acquire a major stake in a German regulated entity (eg, a bank or financial services institution), although the relevant law does not explicitly require this.
Apart from such requirements, certainty of funding has become market practice for acquisitions of private companies in auction processes. In such scenarios, the relevant bidder negotiates and agrees commitment documents with one or more banks willing to act as underwriters for the required facilities. For more information regarding the content of the relevant commitment documents and the conditions to funding, see questions 23-25.
Restrictions on use of proceeds
Are there any restrictions on the borrower’s use of proceeds from loans or debt securities?
Transaction documents generally provide for strict rules regarding the purpose and use of the term loans and the proceeds from the issuance of high-yield notes. Usually, the relevant proceeds have to be applied to finance the purchase price, fees and other costs related to the acquisition and financing thereof and the refinancing of the target’s existing indebtedness. A violation of the provisions governing the application of funds usually constitutes a breach of contract. Further, the transaction documents usually contain a funds flow statement pursuant to which the relevant proceeds must be transferred directly to certain bank accounts named by the seller and the target’s lenders.
Monies utilised under revolving facilities may, as often occurs, be used for general corporate purposes (in addition to the specific uses set out in the purpose clauses). Consequently, the relevant proceeds may be used for a variety of purposes. In the case of syndicated loans, the proceeds of the revolving facility may often also be used to (partially) finance increased original issue discounts (OID) or upfront fees.
What kind of indemnities would customarily be provided by the borrower to lenders in connection with a financing?
Usually, lenders require indemnity provisions covering various matters, including:
- stamp duty;
- conversion of currencies;
- loss to the lenders arising from an obligor’s failure to pay or from other defaults under or in connection with any finance document;
- costs in connection with amendments to or granting of waivers in relation to the documentation;
- costs in connection with enforcing or preserving security interests; and
- certain (increased) regulatory costs.
In recent years, lenders have usually also required an indemnification against third parties’ claims except in the case where the relevant claim results from the relevant lender’s own (gross) negligence or wilful misconduct.