Despite experiencing a slower year due to the extraordinary repercussions of the COVID-19 pandemic, the Portuguese M&A environment during 2020 has been active with several large transactions involving players from private markets.
Notably, to be highlighted the announced sale of Brisa, the country’s largest highway toll operator, in a club deal involving the in-house teams of three major pension funds (APG, Swiss Life Asset Managers and the National Pension Service of the Republic of Korea), marking a (partial) shift towards disintermediation of private equity investments by large institutional investors.
Other competitive processes for relevant infrastructure assets (taking advantage of the downward trend in interest rates and portfolio reallocation strategies of Portuguese corporates) have been launched (and reported on by the media), which are likely to attract the interest of private equity funds and other asset managers.
During 2020, so far, transactions in Portugal involving private equity have been focused on infrastructure with regulated revenues and a stable outlook. These assets are targeted by institutional investors, driven for a need for “yield” in a low interest rate world.
Real estate and industrials have also been the target of relevant transactions in 2020, both announced and closed.
Deals involving private equity buyers and sellers have mostly been structured as “auction sales” reflecting the (pre-COVID-19) still seller-friendly environment and the continued rise in private equity investment volumes.
The new anti-money laundering legislation, approved by Law No 83/2017 (implementing EU Directives and FATF recommendations), has significantly changed “compliance” practices in both private equity managers (which are subject to the obligations established in said statute) and the respective funds’ portfolio companies.
With the new legislation fund managers have been forced to implement more stringent KYC and other AML policies (as well as anti-sanctions), for them and their funds’ subsidiaries which are also included in the subjective scope of the law (financial institutions, real estate companies, etc). These enhanced obligations add complexity and length to M&A transactions and operating costs for private equity funds.
Apart from the above, there have not been in the last years legal developments of particular relevance for private equity transactions.
The main body which provides regulatory oversight for private equity funds (incorporated in Portugal) is the Comissão do Mercado de Valores Mobiliários, or Portuguese Securities Market Commission (CMVM). CMVM assesses the legality of the registration and incorporation of private equity funds and monitors their governance, activities and financial standing.
Regarding M&A activity and foreign investment, the main regulators are:
For foreign investment control, review is triggered if the potential purchaser is ultimately owned by an entity outside of the European Economic Area and also if the target assets are deemed “strategic assets” for the country (meaning the main infrastructure and assets assigned to national security or defence or to the rendering of essential services in the areas of energy, transportation and communications).
With regards to anti-trust, private equity backed companies are subject to merger control rules essentially in the same manner as corporates. Turnover and other relevant metrics are assessed at the level of the management entity (ie, taking into account the aggregate of the funds managed by the management entity).
Legal due diligence is common in M&A transactions in Portugal, especially when private equity sponsors are involved.
Due diligence is usually made on a “by-exception” or “red flag” basis (except when there are key contracts or other legal instruments upon which the target business is predicated, in which case the respective main legal terms are described).
Key areas include material agreements, licences and regulatory environment, corporate and intragroup relationships (services agreements, cash pooling, etc) and financing. Tax is naturally also a common concern (but often times is dealt with separately from the legal due diligence).
Vendor due diligence is often done in transactions where there is a private equity seller, mainly to (pre-emptively) resolve problems of a legal nature the target may have prior to sale and/or to get buyers up to speed on the company and to impose “fair disclosure” exceptions (regarding the conclusions in the report) on the sale and purchase documents.
Advisors involved in preparing the vendors due diligence reports are often asked to offer reliance to the reports to financing banks of the buyer. Buyers’ advisors typically also offer such reliance in their own reports (to banks and to insurance companies, in the latter case if warranty and indemnity insurance is procured for the transaction).
General disclosure to buy-side advisors is common, although not accompanied with reliance (except for financing banks and W&I insurance providers).
Most acquisitions by private equity funds are made via private sale and purchase agreements of equity participations in the target company. Asset sales occur less often, due to tax and legal structuring reasons.
When companies wish to divest an unincorporated part of their business they typically restructure the same in a prior moment through a carve-out process (notably demerger operations which can, under certain circumstances, rely on tax neutrality provisions and generally avoid consent from third parties such as customers and suppliers).
Court-approved schemes in insolvency or reorganisation proceedings have also gained popularity in distressed transactions, notably debt-equity swaps in real estate assets and related businesses (hospitality, logistics).
In terms of process, auction sales are becoming more common, notably in larger deals; by encouraging competition between potential bidders, auction sales typically make the transaction more seller friendly (through improvements in price, as well as more favourable terms in warranties and indemnities).
A typical private equity investment structure in Portugal involves a private equity fund, managed by a regulated management entity, which in turn incorporates a wholly owned special purpose vehicle to perform the acquisition (mostly for liability ring-fencing purposes).
The special purpose vehicle is then funded with equity from the fund (capital, quasi-equity contributions or shareholder loans) to perform the acquisition, and in larger deals bank financing is also procured.
Private equity deals are normally financed with equity or quasi-equity, from the private equity fund, and debt (depending on the size of the transaction, financing structure and type of assets involved).
To increase certainty from the seller side to receive the price, equity commitment letters are often requested from the private equity buyer’s structure, either from a corporate entity higher up in the fund’s chain of control or from the fund itself, more often in auction sales.
In what ownership is concerned, the level of equity participation of the private equity fund depends on the type and circumstances of the transaction: for example, in management buyouts and “growth” transactions typically funds hold a minority portion of the equity while in distressed transactions the fund will retain the majority or the whole of the entity’s capital.
Deals involving a consortium of sponsors in Portugal are not common; however, when the size of the target so demands we have seen consortia composed of private equity sponsors (notably in the purchase of a stake of 81% of Brisa and six hydro plants in the North of Portugal from EDP – the largest industry and utility in Portugal.
There are also fund managers who are exploring co-investment business models with unit holders (the parallel to the limited partners figure in the Portuguese environment, eg, institutional asset managers and “first tier” foreign private equity houses) in large deals.
In these cases, the fund will take a small participation (largely passive) in the acquisition vehicle which is majority owned by one or more of the unit holders of the fund.
Price adjustment mechanisms in M&A transactions (involving both private equity and corporates) usually have either locked box or completion account mechanisms. Fixed price transactions (ie, with no adjustment whatsoever) are not common.
Locked box mechanisms are being increasingly utilised due to their ease of use over the “completion accounts” mechanism (which entails the preparation of target accounts as of the date of closing, a process that is usually costly and time-consuming).
To protect the interests of buyers, private equity sellers agree not to, for instance:
This does not differ materially from deals where sellers are corporates.
Private Equity Buyers and Volatile Turnovers
Private equity buyers provide equity support/commitment letters as a way to provide surety to the seller that the price will be paid (and other eventual pecuniary obligations fulfilled). Parent company guarantees (which in theory offer a stronger protection vis-à-vis equity support instruments) or having the private equity fund entering the agreement as a joint and several obligor are situations which are not seen as often.
In transactions regarding businesses with volatile turnover and where management remains in the company (such as MBOs) earn-outs are many times agreed on by the parties to the transaction.
In locked-box structures, interest is usually charged on amounts classified as leakage, albeit not always.
It is typical to have an independent expert (indicated via a joint selection process of buyer and seller, and usually an international audit/consultancy firm, investment bank) determine leakage values in locked box models and cash/debt/change in working capital values in completion accounts models. Resolving such disputes through arbitration or judicial courts is far less common.
While 2020 is turning the tide on past years of seller friendly deals, conditionality in M&A transactions is still being frowned upon in Portugal, notably in an auction sale, because it reduces certainty of the deal in the execution for the seller.
Conditions other than those of a regulatory nature are not common, although sometimes third-party consents in key contracts (notably pre-existing financing arrangements or concession agreements) and prior corporate restructurings are included. Conditioning the transaction on obtaining financing is rare (and usually “prohibited” in auction sales’ process letters).
Sellers usually propose for such undertakings to be included in transaction documents, particularly in auction sales, again to increase certainty in execution; however, they are usually pushed back by the buyers with success, particularly private equity buyers with demanding financial return objectives (which could be hurt by divesting certain portfolio companies too soon) and which are often constrained in their investment mandates.
Break fees and reverse break fees are rarely used.
Termination rights are usually assigned to private equity seller, ie, if the closing of the agreement does not occur by the long stop date.
As for private equity buyers, they are typically allowed to terminate in the following cases:
In transactions where the seller is a private equity fund, the allocation of risk is typically shifted favourably towards it (in relation to a “corporate” seller). The main reason being that the private equity seller is constrained in the period in which it can be exposed to liability (as private equity funds are eventually dissolved and wound-up). This reduces the efficacy (and acceptability by the private equity seller) of long lists of warranties, extended warranty claims’ periods and indemnities.
In relation to the cases where the buyer is a private equity fund, there are no fundamental differences in risk allocation in relation to a “corporate” buyer: these will depend mainly on the economics and circumstances of the transaction.
Main limitations of liability for private equity sellers are those related to breach of representations and warranties in acquisition agreements (detailed in the next section), although such limitations (quantitative and time-wise) on liability will sometimes also apply to breach of other undertakings or covenants under the agreement by the seller.
Warranties provided by a private equity seller to a buyer on an exit are usually limited. “Fundamental warranties” on existence (of the seller and the target), capacity to enter into the agreement and share ownership are usually granted. “Business” warranties are more limited and reserved for certain key matters. Private equity sellers’ liabilities arising from breach of warranties are usually subject to caps in liability for breach of warranties, de minimis and basket provisions.
Contents of the data room and disclosure letters typically exempt seller from liability in the case of breach of warranties. This has an advantage for the buyer as well, as it precipitates disclosure of many issues that could otherwise be kept “under the radar”.
Typical quantitative limitations on liability include:
In turn, qualitative limitations in acquisition agreement usually include:
If a warranties and indemnities (W&I) insurance is contracted, however, these limitations will necessarily be different (ie, wherein the buyer acknowledges that it will not make a claim under the acquisition agreement and that limits to claim for breach of warranties will be made to the insurance company under the terms of the insurance policy, which in turn also includes its own limitations).
Besides warranties, other protections granted by a private equity seller in an acquisition agreement include interim period obligations (running the target in the ordinary course) and certain pre or post-closing undertakings (idiosyncratic to the transaction). Price retentions mechanisms also occur but indemnities are rarely provided.
With relation to W&I insurance, the same is an increasingly common feature in Portuguese PE transactions. Policy costs (which are relatively expensive) are usually borne by the buyer and cover a wide range of business warranties, based on the due diligence performed by the insurance company (which, in turn, takes into account the vendors due diligence and due diligence performed by the buyer). Common exclusions include pollution liability, pension underfunding, certain tax liabilities and sanctions.
It is not common for transactions involving private equity buyers or sellers to reach litigation (costs thereof, especially when arbitration is the mode of dispute resolution, acting as a relevant deterrent). Pre-litigation disputes usually revolve around (alleged) breach of warranties and the applicability of earn-out provisions (eg, discussing whether the respective earn-out events have been triggered or not).
Public to private transactions are not common in Portugal. To our knowledge, only one public to private (P2P) transaction has ever succeeded, which was the takeover of Brisa, the above-mentioned highway toll operator, by its reference shareholder and a private equity sponsor (Arcus).
Under the provision of article 16 of the Portuguese Securities Code, any person which reaches 2%, 5%, 10%, 15%, 20%, 25%, 33%, 50%, 66% and 90% of the voting rights of a listed company subject to Portuguese law (or reduces its level of voting rights below said thresholds) must, as soon as possible, and within a maximum period of four trading days after the occurrence of the fact or knowledge of the same:
The communication must discriminate:
Mere changes to the chain of attribution of voting rights must also be notified to CMVM and the target listed company.
A person which has over 33% or 50% of the voting rights of a listed company has the duty to launch a public tender offer over the entire share capital and other securities issued by such listed company which grant the right for their subscription or acquisition (Article 187 of the Portuguese Securities Code).
If a person exceeds only 33% of the voting rights of the listed company the obligation to launch a mandatory tender offer will not be due if the person which is bound by such obligation proves before CMVM it does not have control of the target company nor is in a group relationship with the target company.
The consideration offered in a mandatory offer must be the highest of:
Consideration in public tender offers may be made either in cash or in securities
Cash is usually the consideration of choice in tender offers, possibly due to the relative “shallowness” of Portuguese equity capital markets.
Common conditions to launch the offer included in the offer announcements include unblocking of voting limitations in the general shareholders meeting (when by-laws of the target include such voting limitations) and regulatory clearances.
Effectiveness of the offer (when the offeror seeks to obtain control of the target company) is usually subject to the condition of obtaining more than 50% of the voting rights in the offer.
It is not generally allowed under Portuguese law for a takeover offer to be conditional on obtaining financing given the fact that the buyer must have available funds to pay the full price resulting from the offer.
To ensure protection of the bidder in the offer, break fees have been referenced as way for the bidder to cover its costs should the offer not be successful. While not expressly prohibited under Portuguese law, break fees carry a considerable degree of risk for the target company’s directors, given that:
As a matter of law, bidders are also able to increase the price offered at any time, notably in the case of a competitive bid.
Outside of its shareholding, a person acquiring less than 100% in a tender offer can make use of the statutory squeeze-out procedure to acquire the entire share capital of the target.
If a purchaser (by itself or through related entities which voting rights are attributable to it) holds:
The consideration offered must be the highest of:
The offeror which intends to launch a squeeze-out procedure must immediately announce it and send it to CMVM to be registered. The offeror must also deposit the total consideration in a credit institution, at the order of the holders of the remaining shares.
The acquisition of the remaining shareholders under a squeeze-out procedure is effective from the date of publication, by the offeror, of the registration before CMVM.
Irrevocable commitments in tender offers, the negotiation of which occur prior to the announcement of the transaction, are not common in Portugal.
As care is usually taken for these commitments, which in principle are required to be disclosed, not to lead CMVM to consider voting rights of the committing shareholders to be attributed to the offeror (as that may trigger mandatory public offer thresholds) protections are sometimes included for investors to be able to accept competing offers or other types of exit.
As a matter of law hostile takeovers are admitted in Portugal and a few have been announced and launched.
However, to our knowledge there have never been unsolicited (and unsanctioned) tender offers by a private equity player to a Portuguese company.
Offering managers equity incentives/ownership is a common, but not inevitable, feature of private equity transactions in Portugal.
There is no standard to attribute management shares, and equity participations can range anywhere from residual (5%-10%) to significant (40%-49%). In certain management buyout transactions management will hold the majority of the share capital post-transaction.
Employee stock option plans (virtual or physical) are sometimes also used for the management and other relevant company employees.
Management are often attributed common shares with associated vesting provisions and the use of preferred instruments to management is not common.
Good leaver/bad leaver provisions, which qualify the circumstances in which managers cease holding participations or directorships/employment positions in the target, are usually included in shareholders agreements regarding the target, entered into between management and the private equity sponsor.
Good leaver provisions are triggered if managers are forced to depart from the company due to extreme circumstances outside of their control (such as a serious disease or injury). In turn, bad leaver provisions are triggered usually if managers exit the company without being considered good leavers.
Particularly in venture capital, vesting provisions (where management is prevented, through contractual means, from enjoying full ownership of the equity participations acquired/subscribed in the transaction) will also be included in the relevant shareholders agreement. The vesting period will run for a period of three to four years, with a one year cliff (ie, following which a certain percentage vests) and the other two to three years of “linear” vesting (of the remaining shares).
If the manager is deemed a bad leaver, private equity sponsors will be granted the right to purchase the former’s shares at nominal value. If, however, the manager parts ways with the company as a good leaver (and the agreement is negotiated in a balanced manner), private equity sponsors will usually be required (or have the right) to purchase managers’ shares at fair value.
Management shareholders frequently commit to non-compete and non-solicitation undertakings. These raise concerns from an employment law standpoint, restricting fundamental rights to work and for the pursuit of professional livelihood and, from a competition law standpoint, by stifling competition and, therefore, may be subject to limitations.
Statutory restrictions to non-compete clauses include:
Non-disparagement clauses, where managers agree not to publicly make negative statements regarding the company, are unusual.
Manager shareholders, when holding minority participations, are usually afforded contractual protections (in the transaction documents, notably shareholders agreements) to maintain the integrity of their investments.
First and foremost, managers will usually be entitled to be appointed to the company’s board of directors (with executive functions).
Veto rights and legal pre-emption rights in share capital increases are common mechanisms used to avoid dilution of manager shareholders. Managers also hold veto rights (in both shareholders meetings and board of directors’ meetings) to prevent the private equity sponsor from unilaterally taking fundamental decisions regarding the company’s governance (eg, amending the by-laws), legal characteristics (eg, transform, merge or demerger the company) and strategy (eg, amending the business plan).
These veto rights are typically structured either around a shareholders' agreement (where the protection is contractual, and therefore enforceable only against the management’s counterparties) or through shares carrying special rights (where the protection is enforceable against the company and, therefore, company resolutions in violation of such “special rights” may be challenged on that basis).
When the private equity fund shareholder holds a majority participation in the target company, typical control mechanisms are provided under statute (notably the possibility to single-handedly appoint the members of the target’s corporate bodies –under Portuguese corporate law there is no statutory mechanism of proportional representation in the company’s management or audit bodies).
When the private equity fund shareholder holds a minority participation in the target company, board appointment rights in shareholders agreements (proportional or not) are common; other rights typically requested are: veto rights at the shareholder level in critical matters (eg, reorganisations, share capital increases and decreases), information rights (eg, rights to receive monthly information on accounts and KPIs) and exit rights (eg, pre-emption rights and tag-along rights, drag-along rights, etc).
A Portuguese company (extended to EU companies) that wholly owns another Portuguese company is responsible for compliance with the obligations of the subsidiary, both before and after the latter has been incorporated.
However, it is doubtful whether this provision is applicable to private equity funds vis-à-vis other companies (given that private equity funds are not incorporated and furthermore have a “proprietary” legal regime of their own that does not include a similar provision).
Nevertheless, there are (rare) cases where it would be conceivable (applying certain general civil law principles) for the legal personality of the portfolio company or special purpose vehicle incorporated for the acquisition to be disregarded and the “corporate veil pierced”. This requires proof of behaviour which is fraudulent or markedly against good faith principles.
Increasingly, sophisticated private equity fund managers with compliance policies are imposing the terms of the same on portfolio companies, notably with regards to anti-bribery and anti-money laundering, as a way for such fund managers to comply with the legal obligations they themselves are bound to.
Implementation of other policies (for instance, ESG focused) by private equity shareholders regarding their portfolio companies are rarer.
A typical holding period for a private equity investment would run anywhere from four to seven years before an exit occurs.
The most common forms of exit seen in 2020 thus far are trade sales and secondary sales to other asset managers. Write-offs also occur sometimes.
Initial public offerings and dual track processes initiated by private equity sponsors have not yet occurred in Portugal.
Drag along rights are typically included in investment documentation to ensure management and (often) other co-investors are required to sell if an exit opportunity arises.
Typical tag-along thresholds are 75% or more, however there are cases where the bar is lowered further still.
Typically, management shareholders enjoy tag-along rights when the private equity shareholder sells its stake.
A typical tag-along threshold is of 50%.
In Portugal there has never been an initial public offer promoted by a private equity seller (the only approximation was one venture capital backed firm having made a debut in an alternative trading exchange).
In other IPOs (not caused by a private equity exit, however) the Portuguese market where the sponsor retains a majority participation, relationship agreements are entered into between such dominant shareholder and the listed company to ensure dealings between the two entities are done in an arms’ length basis.
Rua Castilho, 165
+351 213 817 400
+351 213 817 499www.mlgts.pt