Acquisition Finance 2019

Last Updated November 07, 2019

Brazil

Law and Practice

Authors



Pinheiro Neto Advogados is a Brazilian, independent and full-service firm with offices in São Paulo, Rio de Janeiro, Brasília and Palo Alto (USA), specialising in multidisciplinary deals, and was the first Brazilian law firm to specialise in corporate clients. Over more than 75 years, the firm has translated the Brazilian legal environment for the benefit of local and foreign clients. Pinheiro Neto has received the Excellence Award in Exports of Legal Services, by which the Ministry of Foreign Trade, Industry and Development (MDIC) recognises the largest Brazilian exporters of services in each of several categories. Pinheiro Neto’s acquisition finance and M&A teams consist of more than 100 experienced professionals, with expertise in virtually all industries, acting in public or private M&A deals spanning a wide array of contexts (private equity, regulated industries, competitive processes, buyouts, corporate restructuring, turnaround, joint ventures), having recently acted as legal advisers to Natura in the acquisition of Avon Inc.

In Brazil, due to the historic high cost of debt in the country – interest rates were as high as 14.25% until recently – and its still underdeveloped secondary market, the acquisition finance market is highly concentrated and most of the M&A deals are still funded by local banks, such as Itaú Unibanco, Banco do Brasil, Bradesco and Caixa. Santander (the only foreign bank with a local presence among the major players) completes the list of the top lenders of acquisition finance transactions in Brazil.

Also, the Brazilian National Development Bank, BNDES, a public entity created to foster economic and social development in the country, played a major role in the Brazilian market for acquisition finance by extending subsidised loans to certain buyers and companies meeting BNDES’s requirements. In the past years (notably during Presidents Lula’s and Dilma’s governments) BNDES reached its peak equity stake in such transactions, which totalled up to 23% in December 2014. Recently, however, the incumbent government administration revamped BNDES's policies aiming at fostering higher market competition and the BNDES’s current management is seeking to reduce subsidised financing for major players, which may pave the way to a higher participation of private lenders and smaller banks in acquisition finance transactions in Brazil.

Furthermore, as many global private equity funds have been notably increasing their share in the local M&A arena over the past five years – one of the reasons for such increase being the overall depreciation of the Brazilian market amid the distress scenario faced by companies emerging from the recent economic recession and corruption scandals – more complex and sophisticated structures whereby financing and funding are contracted offshore by international private equity (P/E) firms and then channelled through local investment funds to acquire the target companies are becoming increasingly common.

The cost of financing in Brazil is still very high if compared to more developed economies – despite the optimism in the market during the period between 2012 and early 2013, when the Brazilian monetary authorities forced interest rates to their lowest levels ever since, interest rates from April 2016 to September 2016 rose from 7.25 to 14.25% per annum. In addition, raising funds by Brazilian companies is burdensome considering the highly regulated and intricate legal and regulatory framework for such market structures. On top of the above hurdles for leveraged acquisitions, the highly unstable exchange rate for the Brazilian real (the local currency) to the US dollar and the consequent expensive hedging cost contribute to the maintenance of a still underdeveloped secondary market and a very high concentration of direct loans in the acquisition finance space.

Therefore, leveraged buyouts (LBOs) as known in the US market are not typically available in Brazil and lenders in most of the cases extend credit facilities or loans to buyers considering their credit risk for funding M&A deals rather than lending money to the target companies. Other reasons behind such low levels of LBOs in Brazil are that the secondary market for securities is somewhat limited and the high cost of debt discourages companies from issuing long-term debt securities for financing their own acquisitions. In any event, leveraged levels tend to be comparably low in Brazil.

Nevertheless, a number of international P/E powerhouses have recently landed in the onshore market, helping to foster LBO-like structures tailored to fit within local peculiarities. Moreover, the recent reforms of the incumbent government that are under way have created momentum on the Brazilian market, which helped inflation rates to be controlled for the first time ever and the interest rates have now reached their historical lowest level, at 5.50% per annum in August 2019. The ongoing new pension and tax reforms expected to be approved by the National Congress during President Bolsonaro’s mandate are also enticing international players to gain an appetite to invest in the national capital markets, which tends to create a more dynamic environment and helps to bolster financing structures in Brazil.

As a large portion of financing transactions are carried out by means of corporate direct loans, their structures frequently follow a relatively standard set of documents, including a loan agreement and other ancillary security or guarantee documents.

In addition, a very common alternative for extending credit to local companies is via CCBs (Bank Credit Certificates), which are instruments issued by obligors that represent a debt obligation vis-à-vis a lending bank. Under such arrangement, the creditor bank may negotiate the CCBs in the secondary market as a security and sell the certificates to third parties. Such instruments, therefore, are vastly used for credit securitisation structures.

Certain leveraged acquisition structures with specific local characteristics are becoming more common in Brazil, mimicking US LBO deals through the incorporation of special purpose vehicles that take on debt to finance the acquisition in the form of a loan or via debt securities. Upon the purchase of the equity interest in the target company, the SPV is merged into the acquired entity, which succeeds the SPV in all its rights and obligations (including with respect to the loan or debt), having the same effect as a debt taken by or contributed into the target company itself.

Also, there has been a significant increase in structures involving the issuance of debt securities in the form of bonds (debentures) over the past ten years. As for documentation, such transactions require the execution of a debenture indenture by and between the lender(s) (or a fiduciary agent for the lenders) and the debtor, a subscription agreement for the bonds (debentures) and, if the securities are publicly offered, a distribution and/or underwriting agreement, which offering may also require a prospectus and its registration with the Brazilian Securities and Exchange Commission (Comissão de Valores Mobiliários, or CVM) if the securities are offered to the public at large. Companies may also issue promissory notes and sell them to the public. However, the market for promissory notes is still small if compared to the local bonds (debentures). Brazilian companies may also issue bonds offshore, which transaction documents are generally governed by foreign law. In such cases, certain registrations and disclosure obligations must be complied with in Brazil.

The parties to agreements entered into with Brazilian persons have limited freedom to choose the governing laws for their obligations. Decree Law No 4,657, of 4 September 1942, as amended (usually known as the Law of Introduction to the Rules of Brazilian Law), lays out the framework for any type of private arrangements and, as a rule, defines that any agreement should be governed by the laws of the place where the document is entered into, but the parties may elect their governing laws for international agreements, with the following general caveats: (i) the choice of a foreign law depends on the existence of a link between the underlying transaction to be performed or the parties and the law chosen by such parties to govern their obligations, and (ii) the governing law should not violate Brazilian national sovereignty, public policy and good morals or ethics. Any actions relating to real estate property located in Brazil and probate proceedings of a deceased person’s Brazilian estate are subject to the exclusive jurisdiction of Brazilian courts.

As a rule, local courts should recognise and apply the foreign law chosen by the parties based on the parameters set forth above. Brazilian laws, however, also provide that local courts will always have jurisdiction over cases where (i) the defendant, irrespectively of its nationality, is domiciled in Brazil; (ii) the obligation is to be performed in Brazil; or (iii) the lawsuit arises from facts or acts performed in Brazil. Therefore, even if litigation is initiated abroad, that would not preclude Brazilian courts from judging cases involving the matters or fact patterns above, which means that local courts will always have concurrent jurisdiction to resolve on those issues.

Any judgments rendered abroad may be enforced in Brazil without a re-examination of the matter if the final sentence or decision issued offshore is submitted to an exequatur process in the Superior Court of Justice (STJ), which may take up to 18 months to be granted. The confirmation of foreign judgments by the STJ is subject to the fulfilment of certain requisites, including that the judgment be accompanied by a certified translation into the Portuguese language and that it is not manifestly against national sovereignty, public policy and good morals or ethics. After the exequatur is obtained, enforcement of the underlying ruling is made by Brazilian lower courts.

An alternative to local courts is the arbitration procedure, which follows more flexible rules under which the parties have the freedom to choose the governing law for the relevant arbitral procedure conducted in Brazil and, by selecting the arbitration tribunal in Brazil as the exclusive authority to resolve on such matters, the parties also avoid the need for the lengthy exequatur process in the STJ and eliminate the concurrent jurisdiction of Brazilian courts for disputes that may be brought abroad.

Even though theoretically possible to enter into agreements in Brazil governed by foreign law (to the extent the requirements of Decree Law No 4,657, of 4 September 1942 outlined above are duly complied with), security agreements in which the debtor or the assets are domiciled or located in Brazil are almost exclusively subject to Brazilian laws as their foreclosure should occur in Brazil. Generally speaking, in practice, most of the corporate loans involving Brazilian borrowers or securities issued by local companies are either governed by Brazilian law or submitted to arbitration procedure. However, Brazilian companies may also access foreign markets by issuing debt securities offshore (indirect loans), which transaction documents are governed by foreign law. It is also common to have structures whereby Brazilian borrowers issue Brazilian-law governed securities for an offshore entity, which then issues foreign law-governed securities backed by the Brazilian law-governed credit agreements or securities, with offshore offering documents and securities being subject to the relevant applicable foreign law.

In Brazil, there are no Loan Market Associations or standard documentation. The documents usually follow the general applicable rules and regulations, and the terms and conditions are agreed upon between the parties. The main documents for corporate loans are loan agreements or CCBs. As for debt securities, their offering primarily involves the execution of a purchase/subscription or underwriting agreement, an indenture, an offering prospectus (if required under applicable regulations to public offerings) and the reference form (formulário de referência), which must be filed with the CVM for public offering of securities, with similar content to an offering memorandum.

There are no requirements for the documents to be executed in the Portuguese language. However, certain security documents and guarantee agreements must be filed with the competent Registry of Deeds and Documents or Board of Trades in order to be valid and enforceable vis-à-vis third parties and any document filed before such public entities must be either in the Portuguese language or be coupled with its certified translation into Portuguese. The same requirement for the certified translation applies for any enforcement of documents or judgments by Brazilian courts.

In general terms, legal opinions issued within the context of acquisition finance transactions usually cover the certification by the law firm on the capacity and authority of the signatories for the Brazilian entities, confirmation of relevant corporate or regulatory authorisations and the fulfilment of any other requirements for the legal existence of the companies and undertaking of obligations pursuant to the financing documentation, as well as the validity and effectiveness of such documents (subject to the general assumptions of truthfulness and effectiveness of ancillary documents submitted for the opinion). To the extent that the documents involve the creation of a security interest over any assets, the opinions usually cover the valid perfection thereof as well.

Most of the acquisition finance transactions in Brazil involve the granting of direct loan facilities, the execution of CCBs in favour of banks or the issuance of debt securities, such as bonds (debentures), per the structures below.

The prevalent arrangements for acquisition finance in Brazil do not involve a series of tranches, as may be common in other jurisdictions. Therefore, the usual lending structure is comprised almost exclusively of senior parallel or syndicated loans.

The typical direct loan is straightforward and the set of documents comprises a loan agreement whereby the lender extends a loan facility with specific use of proceeds for the relevant transaction.

Borrowers may also take on debt by means of the issuance of bonds (debentures) that may be offered publicly or privately issued to a single or a series of syndicated lenders, as the case may be. Bonds are also typically subordinated to other debts of the company (but ranking higher than capital payment to equityholders).

Any loans are usually secured by shares of the obligor or subsidiaries, receivables and inventory, and provide for restrictive covenants on the distribution of dividends, payments, change of control and corporate reorganisations.

Furthermore, securitisation has also become a widespread form of financing in Brazil as an alternative for credit facilities granted by major banks. Under Brazilian law, there are two specific vehicles that may be used in such structures, namely, the financial securitisation companies and the receivables funds (Fundos de Investimento em Direitos Creditórios, or FIDCs), which are regulated by the Central Bank of Brazil and the CVM.

Another common structure for private equity investments is to channel investments through the special type of vehicle regulated by the CVM in Brazil named a Private Equity Fund (Fundo de Investimento em Participações, or FIP), akin to limited partnership structures in the USA, that provide for major advantages and benefits to sponsors if compared to the traditional corporate structures, notably by not being taxed as an incorporated entity, allowing a flexible and tailored structure to be set up and at the same time providing tax exemptions on capital gains for certain classes of sponsors (provided that certain requirements set forth under Brazilian laws and regulations are met). As the FIP’s units (or interest equity), called quotas, are deemed securities under Brazilian laws and may be marketed to the public, such vehicles help to foster a secondary market and set the foundation for LBO-like structures.

As indicated above, the typical structure with revolver, senior, mezzanine junior and subordinate debt is not vastly found in finance structures in Brazil. In the securitisation market, however, creditors often transfer their credit rights to FIDCs, which issue different classes of quotas, having their sponsors holding senior quotas and the assignors of credit rights generally holding mezzanine or subordinate quotas for purposes of the payment of proceeds from the FIDC in the redemption or amortisation of quotas and also as a way to allow credit enhancement through overcollaterisation.

Also, PIK loans are extremely rare in local deals. However, parties may structure convertible loans or take on debt by means of the issuance of convertible securities, such as debentures.

PIK-like loans may be achieved by means of merger transactions. In such arrangements, the shareholders of the merged company (or the company whose shares were merged into the other) become shareholders of the surviving or merging entity. As a result, the former shareholders of the merged entity receive shares of the surviving or merging entity as compensation for the takeover.

Bridge loans are contracted in the form of direct loans or CCBs entered into with major banks. Although commonplace in project finance transactions, such types of short-term loans are rarer in M&A transactions, but are available for purchasers, such as in cases where a long-term loan is to be entered into in the future.

The issuance of bonds (debentures) and transactions with underwriting structures are scarcer in Brazilian acquisition finance transactions. In any event, a number of transactions involve off-the-shelf vehicles structured to acquire target companies with the proceeds of debentures privately issued to local banks. As the secondary market is still to some extent underdeveloped in Brazil, banks subscribing for securities in such transactions usually keep the debentures instead of selling them in the market.

In the recent past, there has been a revamping of the capital markets and several public offerings of debt securities were carried out from 2018 on. The typical structure involves banks underwriting and distributing the debentures in public offerings filed with the CVM (or by means of offerings with restricted efforts, which are exempt from registration requirements under the fast-track process set forth in Brazilian regulation), including the execution of underwriting and distribution agreements, an indenture, an offering prospectus (except in certain specific cases where an exemption may apply) and the reference form (formulário de referência) disclosing issuer’s and the offering’s information.

Syndicated debentures entailing high-yield debt and capital market structures are expected to ramp up if the reforms that the Ministry of Economy supports and aims to implement ultimately take place.

Private placement of securities is available for acquisition finance in Brazil and is very common in view of the relatively small capital markets environment if compared to developed economies. It is also possible and usual that obligors issue promissory notes either as a form of raising funds or as guarantee for the payment of an underlying financing agreement. Brazilian prevailing laws and regulations do not provide sufficient elements for a clear distinction between a public and a private offering of securities. Therefore, certain precautions must be taken so that the offering intended to be privately negotiated is not deemed a public offering of securities and, thus, subject to filing and other requirements under prevailing laws and regulations.

Intercreditor agreements are also available for lenders in Brazil, the terms and conditions of which are outlined in the relevant document entered into by and between the parties. Until recently, the use of intercreditor agreements was still very limited, as syndication agreements would set forth terms and conditions applicable to all creditors and priority over collateral is to some extent set forth under Brazilian laws. However, in more sophisticated transactions, and in those involving creditors with different profiles, there has been an increase in the number of intercreditor arrangements laying out detailed voting rules, appointment of agents and clearer enforcement procedures.

The typical elements for intercreditor agreements are those generally required for any bilateral private obligations to be valid and effective in Brazil, which are: (i) capable parties; (ii) licit, possible and singled-out purpose (or capable of being determined or singled-out); and (iii) entered pursuant to the form set forth or not prohibited by law. There are no specific form requirements for intercreditor agreements.

There has been almost no controversy on the validity and enforceability of intercreditor agreements in Brazil, which are now customary in leveraged transactions. The main concerns on intercreditor agreements relate to the complete definition of the collateral enforceability mechanism in the document, and the ability of the collateral agent acting on behalf of a foreign creditor to effect local foreclosure of the collateral and remit funds abroad to satisfy the obligations. Such issues have been mitigated by the fact that entering into intercreditor agreements has become more common and banks are becoming more familiar with the structure, which has also led to an increase in the number of players willing to act as collateral agents in Brazil.

Moreover, ranking between creditors with respect to certain types of collateral is often set forth by law in Brazil (eg, the first-in-time, first-in-right rule). Therefore, any special rules outlined in intercreditor agreements would either follow the legal priority rankings or determine that the parties should have the obligation to relocate the proceeds of any foreclosure proceeding among themselves.

The basic terms and conditions set forth in intercreditor agreements for bank or bond deals are substantially the same as those of simple intercreditor contracts, which provide for priority over the collateral, sharing of payments, proceeds waterfall and special arrangements for the enforcement procedure.

Given that hedge products are not vastly available in Brazil and typically involve high transaction costs, hedge counterparties in intercreditor agreements governed by Brazilian laws are extremely rare.

Virtually all acquisition finance transactions in the local market are secured. Security packages involving all types of assets and rights of obligors are commonplace. Typical collateral packages include shares of the obligor (or of any of its subsidiaries and affiliates), inventory, bank accounts, receivables, intellectual property rights, real property, equipment and movable assets, to the extent available for the creation of liens on such assets. It is also possible to have several rankings for liens among different creditors, which shall depend on the time of filing of the security agreement and perfection of the security interest.

One key aspect considered when structuring an acquisition finance security package is to obtain the most straightforward access to collateral assets, and, in the best-case scenario, granting the creditor the right to enforce on the collateral without facing bankruptcy or insolvency risks. The most usual types of security interests in Brazilian financing structures are the fiduciary sale (alienação fiduciária) or assignment (cessão fiduciária), and the pledge (penhor) over the relevant assets granted in favour of lenders.

Fiduciary Sale/Assignment

The fiduciary sale or assignment is a type of security interest pursuant to which the guarantor assigns the fiduciary title/ownership of certain movable assets (including receivables and equity interests) to the creditor. Fiduciary liens entail the temporary transfer and reversible ownership of the underlying assets to the creditor, meaning that such assets do not belong to the debtor’s estate until the secured obligation is fulfilled/paid. In general, upon the occurrence of an event of default under the main credit obligation, the creditor is entitled to consolidate the ownership/title over the assets encumbered in the fiduciary lien, and must sell the assets to use the proceeds to satisfy the secured obligations. Therefore, it is set by law to be bankruptcy-remote, if not involving collateral deemed essential to the company’s existence – in which case foreclosure on the collateral is subject to a stay period of 180 days – or not challenged by other creditors of the company alleging fraud against creditors.

Pledge

Unlike the fiduciary sale, the pledge is an in rem guarantee and does not entail the transfer of ownership over the pledged assets, but rather represents a lien or encumbrance on the asset owned by the debtor. As a general rule, the pledge consists of the actual delivery of a movable asset as debt collateral, provided that the debtor remains with the ownership/property title of the pledged assets. If the obligor does not repay the secured obligation, the collateralised asset can be attached in an enforcement lawsuit filed by the creditor. Unlike the fiduciary assignment, the pledge is not deemed “bankruptcy-remote” and the foreclosure on the collateral is subject to the effects of a bankruptcy or reorganisation proceeding of the obligor.

Mortgage

Mortgages are another type of in rem guarantee available for creditors and specifically apply for the encumbrance of real estate properties, ships or airplanes. The mortgage’s structure and enforcement rights are similar to those of the pledge, provided that the creation of a lien on specific types of collateral (such as real estate property) is subject to specific additional formalities set forth by law (such as by means of the execution of public deeds and its registration with the competent real estate registry, among others depending on the type of assets being collateralised).

One of the most important aspects bearing on the effectiveness of security interests in Brazil consists in its formalisation. In order to be valid and effective vis-à-vis third parties, liens on collateral must be perfected in writing by means of a security agreement (such agreement containing specific requirements depending on the type of security to be granted) that must be filed with the Registry of Deeds and Documents located in the domicile of the parties.

Perfection of a security interest over certain classes of collateral may be subject to additional specific procedures. Security interests over (i) shares of Brazilian corporations must be registered in the relevant Share Registry Book (or with the custodian bank, if applicable); (ii) quotas of limited liability companies must be registered in the company’s articles of association; (iii) real estate properties depend on the execution of public deeds and registration with the competent real estate registry; and (iv) intellectual property is subject to registration with the National Institute of Industrial Property (INPI).

Under the general regime of guarantee agreements, the security documents shall provide for (i) the total amount of the debt, or its estimated value; (ii) the term or time of payment; (iii) the interest rate, if any; and (iv) the description of the asset subject to the security interest, with the key characteristics for its identification. It is of the utmost importance for security agreements to properly individualise and identify the collateral subject to the lien created within the financing arrangements so that the creditor has a valid security interest on the assets and is able to quickly foreclose on the guarantee upon occurrence of an event of default under the secured credit transaction.

Pursuant to Brazilian laws and regulations, as a general rule, there are no limitations for a company to guarantee borrowings of one or more members of its corporate group so long as its by-laws (or equivalent document) do not contain an express prohibition in this regard. There are few exceptions to this general rule, such as (i) generally, Brazilian financial institutions are not allowed to extend credit, provide a guarantee or financial assistance to its controlled or controlling individuals or entities; and (ii) financial assistance (including guarantees) provided by publicly held companies to the exclusive benefit of controlling shareholders could be considered an abuse of the power of control under the CVM regulations.

As a general rule, there are no restrictions on financial assistance in the form of granting security to guarantee obligations of related parties. However, it is not uncommon to find provisions in companies’ by-laws that prevent corporations from rendering guarantees or security for the benefit of third parties in such circumstances.

Moreover, financial institutions, insurance companies or pension plan corporations are generally not allowed to extend loans or render guarantees/security for the benefit of certain persons (eg, controlling shareholders and managers).

In addition, fiduciary duties may restrict the ability of publicly held companies to offer collateral to secure obligations of a third party, especially if such third party is in any way related to the controlling shareholder of said publicly held company.

As a rule, subject to certain recently created exemptions, Brazilian financial institutions cannot grant loans to related parties, such as:

  • their controlling shareholders, executive officers and members of other corporate boards, and respective spouses, partners and relatives to the second degree;
  • individuals or companies that hold a qualified equity interest (ie, at least 15% of the total) in their capital stock;
  • companies in which they hold direct or indirect qualified equity interest;
  • companies in which they hold effective management control or the power to determine the outcome of corporate resolutions, irrespective of holding any equity interest; and
  • companies with which they share an executive officer or director.

Nonetheless, certain transactions are exempted from the prohibitions outlined above, such as those entered into on an arm’s length basis or involving interbank deposits, pursuant to applicable law, among others.

The Brazilian National Monetary Council (CMN) currently holds the power to regulate such restrictions on loans, specifically with regard to the definitions of credit transactions, credit limits and qualified ownership interest, which are defined in CMN Resolution No 4,693 of 29 October 2018.

In addition to the restrictions and precautions identified elsewhere in this chapter with respect to granting security interests, based on the fiduciary duties of managers set forth under Brazilian laws, any acts of the company must comply with corporate benefit tests; ie, must be practised for its benefit rather than the benefit of its related parties, executives or directors. Executives must also ensure that transactions between related parties, if any, should be carried out on an arm's-length basis.

Also, controlling stakeholders cannot abuse their power and must use their voting and control rights to further a company's purpose and perform its social role. Controlling shareholders have duties and liabilities towards the other stakeholders, such as minority equityholders, employees and contractors, among others, being liable for any deviation from their duty.

One key aspect regarding the principles of enforcement of security interests is that Brazilian law forbids a creditor to keep the collateral as payment for the debt as a means of foreclosure on the guarantee (pacto comissório), unless the guarantor expressly agrees to transfer the asset to the creditor as payment in kind of the debt after the maturity date of the debt or its acceleration, or otherwise pursuant to a court decision.

Fiduciary Sale/Assignment

As in the fiduciary sale or assignment, the ownership rights are transferred to the secured party, provided that certain formalities are met, upon the occurrence of an event of default (or as otherwise set forth in the relevant security agreement), a creditor may consolidate the ownership of assets subject to the fiduciary sale or assignment agreement without the need for resorting to a court proceeding and, consequently, become entitled to all rights related to the lawful ownership of the collateral. The assets must then be sold to a third party for the purposes of paying the secured and defaulted debt obligation.

Pledges/Mortgages

Unlike the fiduciary liens, pledges and mortgages (as other in rem security interests) do not entail the transfer of ownership/title over the pledged assets to the creditor, but rather represent a lien or encumbrance on the asset owned by the obligor. If the debtor does not repay the secured obligation, the collateralised/encumbered asset can be attached in an enforcement lawsuit filed by the creditor, even if that asset is no longer part of the debtor’s estate. After attachment, an appraiser appointed by the judge shall provide a valuation for the related assets. Upon the appraisal of the guarantee, such property shall be sold at a public auction.

Proceeds of the Collateral

The proceeds resulting from the sale of the assets subject to a security interest must be allocated by the creditor to amortise the secured debt and the expenses, if any, incurred with the enforcement of the collateral. Any remaining (positive) balance shall be delivered to the debtor, together with a statement detailing the implemented action. If the proceeds of the sale of the assets are insufficient to pay the debt, the outstanding balance will be considered as an unsecured debt of the creditor if there is no additional collateral securing such amount.

In addition, pledges and mortgages may be subject to multiple liens, with each of their payment rankings being based on the time of the filing, the first to file having priority over the subsequent ones. Fiduciary sale or assignment, on the other hand, is not subject to multiple liens, given the nature of the security interest, which entails the transfer of ownership/title of the collateral to the creditor.

Bankruptcy/Insolvency Limitations

As indicated above, the fiduciary sale or assignment is generally exempt from the effects of the bankruptcy or insolvency of the obligor or grantor of the security interest. Assets subject to fiduciary sale agreements can have their foreclosure proceeding suspended for a period of 180 days (stay period), should the relevant reorganisation court consider such assets as essential for the operations of the company.

Holders of pledges or mortgages, however, are subject to the judicial reorganisation and the judicial reorganisation plan. Thus, any creditor of such in rem guarantees would not be able to commence a foreclosure proceeding during the judicial reorganisation of the security grantor. The ranking of mortgage and pledge payments in reorganisation or bankruptcy scenarios is subject to specific rules set forth in the Bankruptcy Law.

In addition to the security interests, obligors may also grant so-called personal guarantees for the benefit of creditors in acquisition finance transactions. The term “personal guarantees” means that personal obligations are placed on the party giving the guarantee in his relationship with his creditor, corresponding to security that the creditor obtains from the guarantor. In its full sense, it is a fiduciary relationship since the creditor must have full confidence in the integrity of the guarantor. A personal guarantee implies a principal obligation, to which the guarantee is subsidiary. Personal guarantees can be rendered as surety (fiança) or endorsement made by guarantor (aval). Comfort letters are also typically issued to the creditors. However, such letters are not actual guarantees, although may be included in the category of personal guarantees.

Personal guarantees granted by banks are also available for a fee paid to the guarantor bank. Due to the increasing number of such bank guarantees (fianças) rendered by Brazilian banks as guarantees to bid processes, judicial executions and major financing projects, the Central Bank of Brazil and the CMN established specific rules for the rendering of such special types of guarantee (the so-called fiança bancária) that must be complied with by any financial institution backing debt obligations with this type of guarantee.

As outlined above with respect to granting of in rem guarantees or fiduciary sale or assignment, generally there are no restrictions for granting a guarantee in transactions involving related parties, even though they are often restricted by the corporate governance rules of the companies, in certain regulated entities or publicly held corporations. Also, any acts of the company should be subject to the fiduciary duties of senior management and controlling shareholders to further the company’s purpose (and not enter into transactions benefiting related or third parties in detriment to the company) and, therefore, in essence, agreements should be entered into on an arm’s-length basis.

Aval (Endorsement Made by Guarantor)

There are no requirements for guarantee fees under Brazilian laws; however, grantors may seek compensation from the debtor in order to do so. Since most of the cases involve related parties to the obligor granting the aval, such guarantors do not typically charge for the guarantee.

Fiança (Surety)

As a rule, the grantor of a fiança (ie, fiador) cannot charge fees from the beneficiary, but it can receive compensation from the debtor for agreeing to grant such guarantee. If the fiador settles the debt, it takes over the creditor’s position on the credit rights, and thus may claim the relevant payment from the debtor, as established in Article 831 of the Brazilian Civil Code.

Bank Guarantee (Fiança Bancária)

Since those types of guarantees are granted as a service provided by financial institutions that are contracted by obligors or creditors, banks usually charge a fee that is commonly paid by the debtor.

Prevailing laws and regulation set forth that only banks and other financial institutions regulated by the Central Bank of Brazil may grant credit facilities as their main and regular activities. Therefore, any local company not duly accredited by the Central Bank of Brazil originating and providing credit on a regular basis may face the risk of being deemed a financial institution without proper authorisation, which may lead to sanctions, including in the criminal sphere. Also, any loan granted by non-regulated entities is subject to limitation on interests charged under the Usury Law.

As a general rule, under Brazilian law, entities that hold both shares and debt in an obligor cannot vote the amount of their debt claims at a general meeting of creditors in a debtor’s bankruptcy proceeding.

In a bankruptcy liquidation scenario, Brazilian bankruptcy law sets forth an order of priority for claims against the liquidating company. Such rankings are applicable to extrajudicial liquidation proceeds of financial institutions, but are not valid for reorganisation regimes set forth in the relevant Brazilian laws.

Based on the prevailing rules, the claims with super priority ranking are those labour-related claims of a salary nature maturing the three months preceding the liquidation adjudication, payment of expenses required for the management of the bankruptcy estate, realisation of payments of claims for restitution (eg, creditors holding claims secured by a fiduciary sale) and payment of post-petition claims (including debtor-in-possession financings and trustee’s fees). Any remaining balance is paid to creditor based on the following order of priority:

  • labour-related claims, limited to 150 minimum wages per creditor (any excess amounts are paid concurrently with unsecured claims) and occupational accident claims;
  • secured claims up to the value of the collateral;
  • tax claims (excluding fines);
  • special privilege claims (as set forth in civil and commercial laws);
  • general privilege claims (as defined in civil and commercial laws);
  • unsecured claims;
  • contractual penalties and monetary penalties for breach of criminal or administrative law, including tax law; and
  • subordinated claims.

There are no claw-back rules that apply to loans prior to an insolvency scenario. However, in insolvency proceedings involving companies and corporations in Brazil, specifically with regards to a bankruptcy liquidation (falência), certain acts executed during the so-called legal term shall not produce effects against the bankrupt estate, whether or not the parties were aware of the debtor’s economic condition or had the intention of defrauding creditors.

The “legal term” cannot be greater than the 90-day period preceding (i) the first protest in the protest registry by a creditor for an unpaid debt, (ii) the filing for bankruptcy, or (iii) the filing for judicial reorganisation. Such term is set by the competent bankruptcy court.

The transactions occurring during the legal term that may be clawed back pursuant to prevailing laws are the following:

  • payment of debts not yet matured, even if benefiting from a discount;
  • payment of debts due and payable in any way other than as set forth by the relevant contract in effect; and
  • the granting of an in rem guarantee right (ie, security interests such as a mortgage or pledge), including the right of retention in respect of a debt contracted prior to or during the legal term.

If any of the acts/circumstances described above as subject to being clawed back occur, the relevant transaction is deemed ineffective regardless of the intent to harm creditors and regardless of the existence of effective damage to the bankrupt estate (ie, it would be considered objectively ineffective).

In addition to the events described above, any acts performed with the intent of defrauding creditors – ie, arising from fraudulent conveyance perpetrated by the debtor and the contracting party – may also be revoked (clawed back), whether within the legal term or not, provided that resulting losses to the estate are duly evidenced.

Debt buy-back by borrowers or sponsors is usually permitted in financing transactions, and it may be allowed or not depending on the conditions negotiated in the relevant credit agreements. Certain provisions aimed at compensating lenders for their increased costs or loss of interest revenues resulting therefrom are usually set forth in the relevant loan agreements or transaction instruments. Therefore, it is common that any buy-back require the prior consent of the creditor and/or entail a prepayment premium or the payment of the present value of interests that would apply throughout the life of the financing.

There are no stamp taxes in Brazil.

However, financial transactions (such as the closing of foreign exchange transaction, loans, insurance, securities, etc) are subject to the Tax on Financial Transaction (IOF), which is, to some extent, similar to a stamp tax.

Onshore loans are generally subject to the levy of the IOF-Loan at a maximum rate of 1.88%.

Theoretically, cross-border loans trigger two financial transactions, each one of them being potentially subject to the levy of the IOF: the execution of the loan itself and the closing of the foreign exchange transaction in order to allow the inflow of cash into Brazil. However, Brazilian legislation provides that the IOF on the foreign exchange transaction (IOF-FX) prevails over the IOF-Loan. Thus, the inflow of cash into Brazil under a loan agreement is generally subject to the IOF-FX at the rate of 0%, provided that the term of the loan is longer than 180 days; otherwise, the IOF-FX is levied at the rate of 6%.

Finally, transactions involving securities are generally subject to the assessment of the IOF as well. In practical terms, the IOF is levied at regressive rates varying in accordance with the term of the security or its holding period – the longer the holding period, the lower the rate, reaching a 0% rate for investments that last more than 30 days.

Onshore Lender

As a rule, onshore payments of interest component are subject to the assessment of Withholding Income Tax (WHT) on a cash basis at regressive rates that vary in accordance with the lending period, starting at 22.5% and reaching 15% after the elapse of two years.

When the lender is a Brazilian company, such WHT is considered an anticipation of the Corporate Income Tax (CIT), which is generally levied at the rate of 34%; in which case the taxpayer is entitled to offset the amount of WHT with the amount of CIT due. If the amount of CIT is insufficient in order to fully offset the WHT, such overpayment of WHT becomes a refundable credit for the company.

When the lender is an individual considered to be tax resident in a Brazilian company, such WHT is treated as the final amount of income tax and no adjustment shall be done in the income tax return of the individual.

Offshore Lender

An interest component paid by a Brazilian entity to a foreign beneficiary is generally subject to WHT at the rate of 15% on a cash basis. The rate shall be increased to 25% when the foreign beneficiary is resident or domiciled in a tax haven jurisdiction.

Special Situations – Equity Investment Funds

Very often, acquisitions made by private equity funds are carried out in Brazil through Private Equity Funds (FIPs) due to a special tax treatment. While the FIP is not taxable on its capital gains, the distributions of income made by the FIP to qualifying foreign investors may be subject to the WHT at the rate of 0%.

Although FIPs are not allowed to raise debt due to regulatory restrictions, when properly structured, it is possible to set up an onshore debt-financing structure involving the FIP (lender) and the target company (borrower) in order to increase the efficiency of the acquisition.

Special Situations Incentivised Debentures

Qualifying incentivised debentures regulated by Article 1 of Law 12,431/11 are entitled to a special tax treatment, whereby interest paid to foreign investors is subject to WHT at the rate of 0%, as long as the beneficiary is not resident in a tax haven jurisdiction.

Special Situations Infrastructure Debentures

Qualifying infrastructure debentures regulated by Article 2 of Law 12,431/11 are entitled to a special tax treatment, whereby interest paid to individuals resident in Brazil is subject to WHT at the rate of 0%.

Also, when the lender is a Brazilian company, WHT is levied at the flat rate of 15% and such WHT is considered to be final, not an anticipation of CIT. Thus, no additional income tax shall be paid by the lender, despite the fact that the CIT rate (34%) is significantly higher than the WHT levied on the infrastructure debentures.

Corporate Income Tax Deduction: Interest Expenses

As a rule, interest expenses recognised by the Brazilian borrower/debtor are deductible when assessing the CIT base. It is worth noting, however, that when the borrower/debtor is purely a holding company incorporated in Brazil, such interest expenses would tend to become tax losses, as dividends distributed by a Brazilian company to such holding company would be considered tax exempt.

For this reason, a common strategy to avoid such tax inefficiency is to implement a corporate reorganisation, in order to push the debt down to the level of the target company, which would recognise taxable revenues from its ordinary operations. Although quite debatable, Brazilian tax authorities understand that interest recognised by the target company after the debt push-down would not be deductible from the CIT base.

Also, when the lender is either (i) a related party resident abroad or (ii) an unrelated party resident in a grey or black-listed jurisdiction, the interest expenses recognised by the Brazilian company are only deductible if the Brazilian Transfer Pricing and Thin-Capitalisation rules are observed.

The Brazilian Transfer Pricing rules set a cap of deductibility of interest expenses and do not follow the arm’s-length principle, but they are rather based on predefined limits that vary depending on the currency and on whether the interest is fixed or floating.

Thin-cap rules, in turn, set a maximum deductibility limit based on the ratio between the amount of indebtedness of the borrower and the amount of the net equity of the Brazilian borrower. The ratio may vary depending on the jurisdiction where the borrower is domiciled. When the level of indebtedness of the Brazilian company exceeds this legal ratio, a pro rata portion of the interest expense becomes non-deductible.

Most types of regulated entities are subject to a strict control on their equity interests and, as a rule, any changes to the corporate structure or control depend on the prior approval by the relevant regulatory bodies. Prevailing laws in Brazil also set limits on the percentage of equity interests that may be ultimately held by foreign entities in certain regulated companies. Moreover, companies engaged in selected industries (especially those deemed key for the national economy or sovereignty) cannot receive foreign capital investments, unless the Brazilian executive branch grants the prior approval.

As regards general restrictions applicable to the financing of banks, apart from the prevailing Basel Standards adopted in Brazil, Brazilian law prohibits financial institutions from concentrating their risk on one person or group of related persons only and from extending credit to any person or group of related persons in an aggregate amount equivalent to 25% or more of the financial institution’s regulatory capital.

There has been a trend lately in Brazil with respect to M&A transactions being vastly sponsored by and channelled through local private equity funds, or FIPs. Pursuant to the current regulation in effect, FIPs cannot take on debt, except in specific cases, such as (i) in cases where FIPs are sponsored by multilateral organisations (provided that debt is limited to up to 30% of the funds’ assets); (ii) in transactions authorised by the CVM, such as lending or borrowing securities in the capital markets; and (iii) to pay up subscribed quotas in the event a FIP’s quotaholder fails to do so.

Tender offers for listed companies in Brazil have to follow a specific set of rules provided for in the Brazilian Corporations Law (ie, Law No 6,404, of 15 December 1976, as amended) and CVM Ruling No 361, of 5 March 2002. Any “going private tender offer” or “delisting tender offers” must be carried out at a fair price as a condition for cancelling the registration of a listed company. Moreover, any minority shareholder should be generally entitled to the same treatment and have access to the same information as the purchaser and even if the offeror is obtaining finance from a related party, such as a minority shareholder, this should not entail additional advantages to such shareholder if compared to the others. Additionally, any offering for the purchase of equity interest representing a controlling stake in listed companies triggers a mandatory public offering for the purchase of the remaining voting shares held by minority shareholders, for at least 80% of the price offered for the controlling equity stake (subject to any potential poison pills or other specific rules established in the companies’ by-laws, by self-regulatory bodies and/or special listing segments of the stock exchange). Also, information on the purchase should be disclosed in a tender offer prospectus.

Pinheiro Neto Advogados

Rua Hungria
1100. São Paulo – SP
Brazil
01455-906

+55 (11) 3247 8400

+55 (11) 3247 8600

pna@pn.com.br www.pinheironeto.com.br
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Law and Practice

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Pinheiro Neto Advogados is a Brazilian, independent and full-service firm with offices in São Paulo, Rio de Janeiro, Brasília and Palo Alto (USA), specialising in multidisciplinary deals, and was the first Brazilian law firm to specialise in corporate clients. Over more than 75 years, the firm has translated the Brazilian legal environment for the benefit of local and foreign clients. Pinheiro Neto has received the Excellence Award in Exports of Legal Services, by which the Ministry of Foreign Trade, Industry and Development (MDIC) recognises the largest Brazilian exporters of services in each of several categories. Pinheiro Neto’s acquisition finance and M&A teams consist of more than 100 experienced professionals, with expertise in virtually all industries, acting in public or private M&A deals spanning a wide array of contexts (private equity, regulated industries, competitive processes, buyouts, corporate restructuring, turnaround, joint ventures), having recently acted as legal advisers to Natura in the acquisition of Avon Inc.

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