For over two years now, the market for private equity deals in Germany has been rather slow; deals have predominantly taken place in the small and mid-cap segment. While there was hope that the lack of large deals might end in 2010, potential large buyouts such as Kabel Deutschland or Brenntag AG, which were seen as a market test for the 1 billion-plus market, went into public instead of private equity hands as the offers of private equity bidders were too low. This was due in part to the still existing limited availability of third party debt.
The lack of large deals in the last two years has meant that hardly any public to private (P2P) transactions took place. Besides the lack of debt financing, the environment for public takeovers was not ideal as the stock markets kept struggling with either (i) many listed companies being undervalued (giving large shareholders little incentive to sell their stakes) or (ii) concerns on the buyer's side about catching a falling knife. However, stock markets have come up in 2010 and on the assumption that the upturn continues, the takeover market can be expected to pick up in the end of 2010 or in the beginning of 2011. The public takeover offer of OEP for Smartrac, a Dutch company listed in Germany (Xetra/TecDax), in September 2010 can already be interpreted as proof of this, though the deal volume of about 300 m has been rather mid-sized.
As we expect the interest in P2P transactions involving companies listed in Germany to further increase in the near future, this article aims to provide an overview of the structure of (i) public takeovers in general and (ii) particularities that need to be observed in a private equity type of transaction. The focus will be on negotiated takeovers, as this overwhelmingly prevails in P2P transactions in Germany.
Procedural aspects of a public takeover
A typical negotiated takeover usually starts with the approach of the potential bidder towards the management of the target to see whether the management might be willing to support a public takeover. The target management has discretion whether or not to enter into discussions if the bidder is able to show that the takeover would be beneficial for the company. Given this, bidders are advised, already at this stage, to involve an experienced lawyer to present a legally convincing story as to why a mere change in the shareholder structure is to the benefit of the target company and hence the management is allowed to enter into discussions with the bidder.
If the target management believes that the takeover of the bidder is in the interest of the company and hence is willing to support it, the bidder and the target normally enter into a non-disclosure agreement allowing target management to share non-public information with the bidder. The bidder then usually conducts a more thorough inside/out due diligence which should, however, be limited to selected information that does not qualify as inside information, as the bidder, upon receipt of such inside information, is otherwise restricted from trading in shares of the target on account of insider trading laws (unless such inside information has been disclosed previously to the public). It should be noted, however, that the target is under an obligation to disclose inside information to the general public without delay after it has gained knowledge thereof, unless certain exceptions apply, ie potential bidders will in most cases only receive information in a due diligence process which does not constitute inside information.
In a next step, the bidder and the management of the target then usually enter into negotiations to conclude a so-called business combination agreement which contains, inter alia, cornerstones of the future tender offer and certain obligations of the target management and of the bidder. In such agreement, a bidder usually tries to secure (i) target management's support of the offer (subject to legally required exceptions) and (ii) a certain level of supervisory board representation in the target after the takeover.
Simultaneously with such negotiations, bidders often try to secure a certain acceptance level of their offer and discourage other bidders by entering into so-called irrevocable undertakings with large shareholders to commit them to tender their shares into the takeover offer.
To further secure the success of the intended offer and discourage competing offers, a bidder may also (alternatively or additionally), even at this stage, try to acquire shares from individual shareholders. Such stake building strategy, however, has to take into consideration that (i) the acquisition of voting rights in the target company triggers notification obligations when certain thresholds are reached and (ii) pricing rules for the determination of the offer price exist which are linked to the price paid in such private transactions:
(i) As it concerns the disclosure obligations, bidders contemplating stake building prior to the tender offer should be aware that the acquisition of shares has to be disclosed if the aggregate amount of voting rights reaches or exceeds the thresholds of 3%, 5%, 10%, 15%, 20%, 25%, 30%, 50% and 75%. To avoid early disclosure at the 3% threshold for strategic reasons, a financial investor may consider also applying devices such as total return equity swaps, but it should be observed that loopholes that existed in the disclosure obligations when such devices had been used have been closed in the recent past.
(ii) As it concerns the offer price, the minimum offer price to be offered is the higher of (i) the three month weighted average share price prior to the announcement of the takeover offer and (ii) the highest consideration paid, or agreed upon, for the acquisition of shares in the target by the bidder (or parties acting jointly with the bidder) within six months prior to the publication of the offer document or thereafter until expiry of one year after the publication of the result of the takeover offer.
If the bidder, after completion of the preparatory measures, decides to pursue its takeover plans, it has to publish this decision (the so-called voluntary offer in contrast to the so-called mandatory offer). From the moment of this announcement a highly formalised process with a strict timetable applies . The bidder has to submit the offer document to the German Federal Financial Supervisory Authority (BaFin), a state authority, for review, before they are allowed to publish it. BaFin will ban the envisaged offer if the offer document is not in compliance with mandatory legal requirements. In this connection, investors should note that offers must not be made subject to the condition that sufficient financing will be available.
Depending on the acceptance period provided in the offer document (which must not exceed 10 weeks), completion of the takeover offer process usually occurs within about 12 to 18 weeks following the announcement to make an offer. If necessary, merger clearance and other required state approvals, if any, can usually be achieved within the acceptance period if antitrust filings and other notifications are made shortly after the initial announcement.
Effective control of the company
Depending on the acceptance level actually achieved after completion of the takeover offer process, the bidder will either have acquired a stake enabling them to pursue their plans with the company or not. The amount of shareholding that is required in this respect strongly varies according to different shareholder environments. Many shareholders' resolutions only require a simple majority of 50% of the votes cast (eg profit distribution, discharge of members of the management or supervisory board, election of shareholder representatives in the supervisory board and re-purchase of shares). Given the fact that the average attendance at general meetings of German listed companies is usually around 40% to 55% of the entire share capital, a very strong position can be achieved with the acquisition of participation significantly below 50% of the voting rights. Yet, important structural measures (eg changes of the articles of association, domination and profit and loss agreements, mergers and conversion of legal form) require a shareholders' resolution with a majority of 75%, and generally a higher attendance can be expected at meetings in which such measures are resolved upon. Hence, in order to be in a safe position to also accomplish such structural changes, bidders usually seek to achieve an acceptance rate of 75% of all voting shares of the target, and the takeover offer can be made contingent upon it.
If, as a result of the takeover process, the bidder acquires 95% of the shares or more, they may squeeze-out the remaining shareholders by a shareholders' resolution. Alternatively, they may also apply for a squeeze-out with the competent court.
In any case, it is advisable that the bidder conditions his offer on the acceptance level he intends to achieve, unless irrevocable undertakings, agreed capital increases, etc. put him into a position where he may take the risk to publish an offer without such minimum acceptance level (which is usually requested by the management of the target).
LBO structures and P2P
Financial investors are usually interested to use an acquisition vehicle (SPV) which acts as bidder and holds the acquisition debt which is ideally secured by the target assets.
Raising debt financing for public takeovers can be challenging as (i) listed targets and their subsidiaries are legally prohibited from giving any financial assistance for acquiring shares in the target (ie assets of the target cannot be used to secure the debt liabilities incurred by the SPV) and (ii) only the balance sheet profits may be distributed to the shareholders which impose post acquisition restrictions. Those challenges and restrictions can successfully be addressed (i) by a domination and profit and loss agreement (DPLTA) under which up-stream securities can be granted or (ii) by refinancing the third party debt on SPV-level by distribution of step-up profits of the target (to the extent funded by existing cash).
On the basis of a DPLTA the SPV has full access to the target's cash flow and, above all, it enables the target to grant up-stream security for third party debt of SPV. Though it looks like an ideal solution, this alternative faces several significant problems. Firstly, the conclusion of the DPLTA needs to be approved by the shareholders' meeting of the target with a majority of 75% of the votes cast. Second, the DPLTA only becomes effective upon registration with the commercial register of the target. Shareholder suits against the shareholders' resolution approving the DPLTA may delay the registration and, as a further consequence, significantly impact the effectiveness of the DPLTA (though an accelerated legal proceedings to clear the registration are possible).
Hence, debt financing in this alternative requires confidence of the financing sources that at least 75% of shares will be held by the bidder as a result of the takeover process. This uncertainty can, however, be addressed by conditioning the tender offer on the demanded acceptance level.
However, a refinancing of the SPV debt can be realized in two steps on the basis of step-up profits, if the management of the target is willing to support such an approach and enough cash is available at the target to fund the step-up dividend: (i) reorganisation of the target group to effect a tax neutral realisation of hidden reserves in the balance sheet and (ii) distribution of the newly created profits to the SPV. In mature companies with fixed assets, hidden reserves are usually available to a significant extent.
Reorganisation at a level below the target (eg merger of target subsidiaries or contribution of one target subsidiary into another subsidiary) generally does not require the approval of the shareholders' meeting, but it is necessary that management and supervisory board of the target support the reorganization. Hence, the step-up concept can be implemented with simple majority of the votes cast (required for the resolution of the step-up dividend) and support of the management of the target to implement the step-up model.
Large buyouts, particularly in the P2P segment, will return to the German market. The public offer for Smartrac and the offer Hochtief AG may already indicate the comeback of P2P transactions. The legal framework for P2P in Germany provides investors with the benefit of a reliable, and tested legal environment that offers both legal security and practical solutions for accomplishing a P2P. However, due consideration should be given to the fact, that the most important aspects of P2P could only be briefly touched upon in this article; seeking professional advise is a must if full advantage of the legal regime that exists in Germany is to be taken.
||About the author
Peter Memminger is a partner in the Frankfurt office of Milbank, Tweed, Hadley & McCloy LLP. He specializes in mergers & acquisitions (including distressed situations) and public takeovers with a particular focus on private equity transactions and is also involved in outsourcing transactions.
His recent major transactions include the legal advice to/on: Lafayette Capital Partners on the acquisition of various locations of the insolvent fitness operator Elixia; the Carlyle Group and Advent International on the sale of HT Troplast AG to Arcapita; Nordwind Capital Partners on the acquisition of participations in Austrian Niedermeyer GmbH and Cosmos Elektrohandels GmbH & Co. KG; SULO GmbH on the acquisition of Cleanaway Deutschland Group; Alexander Rittweger and Prof. Roland Berger on the sale of Loyalty Partner GmbH to Palamon Capital Partners; Apax, Burda, Index and Wellington on the sale of all shares in CIAO AG to Greenfield Online; Apax on the acquisition of the cosmetics manufacturer and distributor LR International; Apax and Goldman Sachs PIA on the acquisition of a participation in Kabel Deutschland and its subsequent secondary buy-out to Providence; Ixos Software AG in connection with the friendly takeover by Canadian Open Tex; Apax and Blackstone on the acquisition of SULO Group; t he first Pipe transaction in Germany (General Atlantic Partners in Ixos); as well as various intended P2P, Jpds and outsourcing transactions.
Memminger studied law at the university of Freiburg, the Faculté Internationale de Droit Comparé in Strasbourg and holds a post-graduate degree from the University of Miami (LLM).
Memminger is admitted to the German bar and speaks German, English and French.
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