In cross-border acquisition financing, it is common practice that so-called 'security principles' are negotiated and defined in an annex to the facilities agreement. On the one hand, it is specifically held in these security principles what security will be granted by the obligors and the target group to the finance parties; and on the other hand, it also generally describes circumstances under which an exception to the obligation to provide certain security can occur. The security principles provide guidance to the lawyers involved in different jurisdictions whose task it is to translate these principles into specific security documents.
In the case of larger acquisitions, the preparation alone of all the finance documents is associated with considerable costs. In each participating jurisdiction, lawyers must be mandated for the finance parties and for the borrower. In addition, the number of different types of security to be provided is an important driver of transaction costs. Every security comes with costs for its negotiation, perfection and possibly for its maintenance during the term of the financing. In addition, the management and shareholders of the various companies must be involved to ratify and sign the security agreements. Moreover, if changes are made to the finance documents and its parties during the term of the financing, it must often be ensured in all jurisdictions involved that the security provided continues to secure the amended finance documents and is not lost even after the amendments have been implemented. In certain jurisdictions a simple written confirmation is not sufficient in this context, but a new formal act must be carried out, for example, a new notarial act. Last but not least, the finance parties usually require that the continued validity of the security is confirmed by local lawyers by means of a formal legal opinion.
Because of these costs and the effort involved, it is important that the parties carefully balance the need of the finance parties for security against the costs of providing it, taking into consideration the value of the security for the finance parties. Moreover, if the security created is of dubious legal quality, for example, for reasons of company law issues or financial assistance restrictions, it is also questionable whether the cost of providing such security is justified. In any case, security whose creation exposes the boards of directors of the companies involved to material liability risks or even of committing a crime must also be excluded. Also undesirable are securities whose receipt is associated with high recurring costs, for example, if it is necessary to employ personnel who must take possession of and administer certain objects such as items in a warehouse.
In Switzerland, a typical security package consists of a pledge over the shares of the local companies, a pledge over local bank accounts, an assignment for security purposes of trade receivables and intra-group loans as well as a pledge of intellectual property rights. In real estate transactions, a mortgage is created by transfer for security purposes of mortgage certificates. It is unusual for a pledge to be made over movable items such as warehouses, as these – in order to have a perfected and bankruptcy proof security – may no longer be in the possession of the pledgee. Up-/cross-stream security, in other words, security provided for the benefit of the shareholders of the security provider, generally comes with certain limitations. Despite this, the security is usually still taken out by the finance parties to secure control over the assets concerned, in other words, to ensure that these assets cannot be pledged to third parties or disposed of without the consent of the finance parties.
Usually, certain materiality thresholds are negotiated that serve to define whether a certain asset will be granted as security. The parties may, for example, agree that an asset must be worth at least $100,000 for it to require a pledge. However, certain assets may be subject to change in value, and it must be decided whether to request them as security, even if this seems to be unreasonable due to their existing low value. Other assets may (foreseeably) become less valuable over time and it would then be disproportionate to have to reconfirm or amend security over such assets whenever the facilities agreement is amended.
For assets that change or may change in value, dynamic security principles are sometimes agreed according to which an asset should be automatically pledged or automatically released from a pledge under certain conditions. In certain jurisdictions these principles seem to work and it even seems possible to stipulate the conditions under which an asset may or may not be subject to encumbrance in a general form in the respective security agreement. In Switzerland, unfortunately, such a solution is potentially contrary to certain basic principles of the law. Moreover, in the event of a financial crisis of the security provider, certain regulations for the protection of all of its creditors must be observed, in particular clawback rules (Paulianische Anfechtung). In this regard, provisions stipulating an automatic release of assets from the security create an inherent risk that assets are released during an inappropriate time, for example, in the early stages of a financial crisis, that may no longer be (re-) taken as security, once the financial crisis has manifested itself.
It is a basic Swiss law requirement that the assets to be pledged or assigned for security purposes are adequately specified and can be determined (principle of determinability). It must be made clear for all parties involved which assets of the security provider serve as collateral. Where, for example, a claim is assigned, the debtor's person, legal basis of the debt or the amount owed needs to be known. Further, besides security over existing assets, Swiss law also permits that security is granted over future assets that do not yet exist, as long as the security agreement sets out all the elements necessary to determine in the future whether a certain asset – once it comes into being – is subject to the security. If it cannot be determined from the security agreement which assets will be subject to the security purported to be created by it, the respective security agreement may be declared invalid.
Compliance with the principle of determinability is straightforward if all assets of a certain class serve as security. For example, if all claims in connection with loans against other members of a group of companies are defined as being assigned for security purposes, there will be no doubt whether a certain claim falls under such a definition and, thus, these claims are determinable. Moreover, the parties may validly agree that individual assets with a readily determinable value above a certain minimum threshold will be granted as security (for example, 'claims and rights arising under intercompany loans, in each case in a principal amount equal to or in excess of $1 million or its equivalent are assigned for security purposes'). These claims can be clearly identified. However, a definition of the assigned claims such as 'claims in an aggregate amount equal to or in excess of amount X will be assigned' arguably will not create valid security because such a definition would not allow the determination of whether a specific claim served as collateral. Further, general exceptions and conditions which are unclear or whose applicability is difficult to determine should also be avoided in order not to put at risk the validity of the security.
With this in mind, it is advisable to identify the material assets in Switzerland that will serve as security and to adjust them from time to time, for example, as part of a general amendment of the finance documents. Overly dynamic security concepts that attempt to anticipate any possible future development in general should not be included in Swiss law security documents.
|Lukas Roesler||Tim Salz|