One of the key issues that require close attention by the acquirer at the due diligence stage and during negotiation of the transaction documents is the ability to transfer the target’s contract rights to the acquirer.
Commercial contracts (e.g. cooperation agreements, licences for key technology, etc.) and agreements with financial institutions (credit for financing operations, leasing agreements and the like) are often elements of the target essential for its continued uninterrupted functioning, and thus the issue of effective assumption of rights under such contracts is crucial to the investor.
In the case of a transaction involving acquisition of shares, the issue of the change in the parties to contracts does not arise. Thus contract provisions that prohibit assignment of rights under contracts do not apply to share deals. Nonetheless, even though the identity of the parties to the contract does not change as a result of the transaction, when a capital group sells shares in a subsidiary to another group, in practice this results in a change in control of the target—something which the other party to the contract may care about strongly.
Thus parties will often include change-of-control clauses in contracts, governing issues of the parties’ mutual rights and obligations in the event of a change in the ownership structure of one or both of them. Most often such clauses include provisions under which a change in the ownership structure of a party requires consent of the other party, or entitles the other party to terminate the contract early. Clauses of this type are routinely included in agreements with banks and other financial institutions.
Change-of-control clauses often arise out of connections with larger capital structures (holding companies, capital groups or the like). Consequently, membership in such a structure may also be a condition for maintaining or breaking off commercial relations with a given entity. Membership in a group may give the other party an additional guarantee of reliability or solvency. Conversely, acquisition of the other party by a competitor of the other party obviously might justify a decision to end the cooperation immediately.
Regulations under Polish law
Change-of-control clauses are not specifically regulated under Polish law, but the permissibility of their use may be clearly inferred from the principle of freedom of contract set forth in Civil Code Art. 3531.
Because the concept of “change of control” is also not defined in Polish law, the wording of the clause itself will be of key significance.
Under Polish law, a change-of-control clause may be interpreted under Civil Code Art. 353 §2 as an undertaking by a party to act or refrain from acting, i.e.:
- To notify the other party before or after the fact of a change in its ownership structure (involving acquisition of control over it by a third party), or obtain prior consent to such a change from the other party, or
- Not to make changes involving control over the party without notifying or obtaining the consent of the other party.
If the parties did not define the concept of change of control in the agreement, it is necessary to interpret the concept under Civil Code Art. 65 and determine the meaning the parties would have assigned to it. For this purpose, reference may be made to other definitions used in Polish law in relation to concepts of control, particularly under corporate law, competition law and securities law.
Content of change-of-control clauses
In order to avoid ambiguity or the need to interpret a change-of-control clause, it is beneficial for the parties to specify by contract what circumstances they regard as change of control. In commercial practice, several types of change-of-control clauses may be distinguished.
The parties may agree that the clause will cover both a direct change in control, involving acquisition of shares in the company that is a party to the contract, and an indirect change, where the ownership of the parent company changes.
A change-of-control reservation may apply to sale of shares to a third party (not previously a shareholder) and to sale to a current shareholder (e.g. in the event of a transaction between shareholders).
Moreover, the clause may contain provisions excluding or limiting its use, e.g. providing that sale of shares to specifically identified entities or within a specific period will not be regarded as a change of control.
The parties may also agree that while neither party may transfer its shares without consent of the other party, consent may not be refused without serious grounds.
Finally, the essence of the clause is the consequences provided for breach of the clause. Most often it is provided that a change of control in violation of the clause entitles the other party to terminate the agreement without prior notice or on very short notice, or may, for example, expose the breaching party to a contractual penalty.
Given the possible sanctions for violating change-of-control clauses, such as loss of valuable contracts or acceleration of repayment of credit, it is in the interest of the acquirer of the shares to perform a due diligence review of commercial agreements to which the target is a party, prior to the transaction.