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Practical Issues Arising for Financiers and Borrowers in Acquisition Finance Transactions

Our Banking & Finance teams have put together a practical list of issues to consider for lenders and borrowers in respect of acquisition financing for transactions involving a Jersey or Guernsey company.

Guernsey and Jersey companies are often incorporated by purchasers as holding companies/co-investment vehicles to acquire the shares of a company incorporated in either Island – and we are often instructed to advise either the lenders on the financing to be provided to the acquiring entity and the security package to be taken; or to advise borrowers working alongside the corporate team acting for the Borrower on the acquisition of the Target.

The purpose of this briefing is to touch on some of the practical issues that arise within the context of these deals.

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Guernsey and Jersey companies are often incorporated by purchasers as holding companies/co-investment vehicles to acquire the shares of a company incorporated in Guernsey, Jersey or elsewhere (referred to as the “Target”). In many cases a Guernsey or Jersey incorporated purchaser will enter into arrangements with a third party debt provider or financier (the “Lender”) to provide it with finance for the purposes of acquiring the Target.

It is within this context that our banking and finance team are often instructed to advise Lenders on the financing to be provided to the Guernsey or Jersey acquiring company (the “Borrower”) and the security package to be taken by the Lender over the Guernsey or Jersey Borrower, the Target and any Guernsey or Jersey companies within the Target group (the “Target Group”), as well as their assets on completion of the acquisition. Alternatively, we are often instructed to advise the Guernsey or Jersey Borrower working alongside our corporate team acting for the Borrower on the acquisition of the Target.

The purpose of this briefing is to touch on some of the practical issues that arise from a banking perspective within the context of these deals.

Capacity to borrow

The constitutional documents of the Borrower or any relevant shareholders agreement relating to the Borrower should be checked as a starting point to see if there are any restrictions on it entering into the financing arrangements. In most cases where the Borrower has adopted Guernsey or Jersey market standard memorandum and articles of incorporation/association and/or there is no shareholders agreement or investment agreement in place which sets out any particular provisions to the contrary, the Borrower (subject to the points noted below in this briefing) will have the capacity to enter into the finance documents with simple board approval.

Guarantees and Indemnities

Similarly the constitutional documents of the Borrower, the Target or any Target group member providing any guarantee or indemnity pursuant to the financing arrangements will need to be checked to see if there are any restrictions on it providing a guarantee or indemnity. Again, in most cases where the company has adopted Guernsey or Jersey market standard memorandum and articles of incorporation/association and/ or there is no shareholders agreement or investment agreement in place which sets out any particular provisions to the contrary, the company will have the capacity to enter into the finance documents with simple board approval.

It must be noted, however, that where a Guernsey company provides an upstream or cross-stream guarantee or indemnity, then the directors of the Guernsey company must be satisfied that there will be corporate benefit to the company in providing that guarantee or indemnity. If there is any risk or concern then the shareholders of the guarantor/indemnifier should be asked to approve the entry by the Guernsey company into the guarantee or indemnity.

Under Jersey law, an upstream or cross-stream guarantee or indemnity may technically fall within the definition of a distribution under the Companies (Jersey) Law 1991 and the directors may therefore be required to give a statutory solvency statement if such guarantee (when called up) is likely to result in a reduction in the net assets of the company. In the majority of transactions, no solvency statement will be required and the directors will simply consider the net asset position of the Jersey company and, where relevant, the wider structure (with reference to appropriate financial information) alongside the likelihood of the guarantee or indemnity being called up and thereafter approve entry into the guarantee or indemnity in the transaction board minutes.

Financial Assistance

Where a Guernsey Target or Target group company is providing a guarantee, indemnity or security in favour of the Lender for the Borrower’s obligations under the facility provided to it for the purpose of acquiring the Target’s shares, then consideration needs to be had as to whether such guarantee, indemnity or security constitutes financial assistance under section 329 of the Companies (Guernsey) Law, 2008 (as amended) (the “Guernsey Companies Law”) requiring the guarantor, indemnifier or security provider to comply with the solvency test for a distribution set out in section 303 of the Guernsey Companies Law. There is no equivalent concept under current Jersey law.

Security Package

The Lender needs to consider the security package. In that regard, the Security Interests (Guernsey) Law, 1993 (as amended) (the “Guernsey Security Interests Law”) sets out the means of taking valid Guernsey security over securities in a Guernsey company and over the bank accounts and receivables of a Guernsey company. The equivalent statute for taking security over intangible moveable property situate in Jersey is the Security Interests (Jersey) Law 2012. There is no concept of a floating charge under Guernsey or Jersey law. As a result, a specific Guernsey law security interest agreement will need to be entered into in respect of each Guernsey asset that the Lender identifies as part of the security package. In Jersey, the Lender may take the same approach or alternatively, it may obtain ‘debenture style’ Jersey security over all present and future intangible, moveable, Jersey situs property of a grantor.

Share Security

Where security is being taken by the Lender over the shares of a Guernsey company pursuant to a Guernsey law security interest agreement or over the shares of a Jersey company pursuant to a Jersey law security interest agreement, the articles of incorporation/association of that company should be checked to see that there are no restrictions on the Lender exercising its security over the shares under the security interest agreement in the case of an enforcement scenario. In Jersey, any consents issued to a Jersey company under the Control of Borrowing (Jersey) Order 1958 may contain restrictions on shares and should also be reviewed. If there are any restrictions, the board of the security grantor should be requested to procure that the shareholders of the company approve resolutions amending its constitutional documents to include security friendly provisions ahead of or on completion.

Existing Security

Guernsey share security is possessory (i.e. the secured party holds the original share certificate and documents of title). In most cases, this will also be the position with Jersey share security (but it will depend on how the existing security was perfected). This means that consideration needs to be had as to whether or not the Target shares are subject to existing security in favour of an existing lender which will need to be released and discharged by the existing lender on completion of the acquisition and the incoming financier taking new security over the Target shares. The existing or outgoing lender also will need to agree to deliver the share certificate to the Target or its nominee so that it can issue a new one in favour of the incoming Lender pursuant to the new security interest agreement. If there is existing bank account security over existing Guernsey or Jersey bank accounts or other intangible moveable property in favour of an existing lender (for example, rights under subordinated debt), those will also need to be released and discharged by the outgoing lender. Any existing registrations of Jersey security on the public Security Interests Register should also be discharged. There is no similar public register of Guernsey security interests.

Regulated Entities

Where security is being taken over the shares of a Guernsey or Jersey regulated Target or Target group member, then consideration should be had of any regulatory requirements under the Guernsey and Jersey regulatory laws relevant to the company that might need to be complied with for the Lender to exercise its rights under the Guernsey or Jersey security interest agreement and take control of the shares in an enforcement scenario. Where a Guernsey or Jersey guarantor or security provider is regulated then it should be considered if any guarantee or indemnity that it is providing will need to be limited recourse to cater for any regulatory capital requirements.

Approval of financing and security documents

The financing and security that is to be put in place by the Lender is usually effective on completion of the acquisition of the Target and the Target group. As a result, it is often the case that the board of the Target and members of the Target group that are providing guarantees, indemnities and security need to approve the finance and security documents. Where the board of a guarantor or security provider is changing on completion, often those directors will be reluctant to approve the financing documents. The directors need to be consulted on this and one way to deal with it practically is to have the outgoing directors convene the meeting, the new directors appointed at it and the new directors approve the financing documents with the outgoing directors resigning. Corporate service providers in Guernsey and Jersey have strict on-boarding and due diligence requirements to fulfil and it is therefore advisable for the purchaser to engage with local counsel and local providers at the earliest opportunity in the transaction to ensure that any proposed changes to the composition of the board can become effective at the required time.

Privy Council Provides Clarification on the Grounds of a Just and Equitable Winding Up for BVI Quasi-Partnerships: Chu v Lau

In a recent decision, Chu v Lau [2020] UKPC 24 on appeal from the Court of Appeal of the Eastern Caribbean Supreme Court (British Virgin Islands) (the "Court of Appeal"), the Judicial Committee of the Privy Council (the "Board") reviewed the law in the British Virgin Islands (the "BVI") surrounding a just and equitable winding up where the company in question is a quasi-partnership.

Upon a review of the case law, and relying heavily on the well-known English authority, Ebrahimi v Westbourne Galleries Ltd (In re Westbourne Galleries Ltd) [1973] AC 360 ("Ebrahimi"), the Board concluded that an irretrievable breakdown in trust and confidence between the participating members may justify a just and equitable winding up, essentially on the same grounds as would justify the dissolution of a true partnership. Further, the dissolution could be ordered even where both parties were to blame for the breakdown, as the operation of the equitable doctrine of clean hands is expressed in this context by the requirement that the applicant should not have been the sole cause of the breakdown in trust and confidence or of the deadlock.

The Board considered that, while it is well-established that winding up is a shareholders' remedy of last resort, that does not mean that winding up is unavailable to members if they have any other remedy.

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CP86 2.0 – Worth the wait?

The Central Bank’s Fund Management Companies – Guidance (the “Guidance”) took effect on 1 July 2018 for entities in existence at the time of its publication following the completion of an extensive period of consultation (CP86) with industry between September 2014 and August 2016. The Guidance is applicable to Irish authorised UCITS management companies, AIFMs and self-managed UCITS and AIFs (“FMCs”) and details the Central Bank’s expectations in relation to the governance of FMCs, how they should comply with their regulatory obligations and its ability to supervise FMCs without undue constraint and in times of crisis.

Swiftly following implementation, on the 5 July 2018, the Central Bank announced its intention to begin assessing how FMCs “have implemented and embedded the new requirements and related guidance in their organisations”. The review, which covered all 358 active FMCs, consisted of three phases comprising of an industry questionnaire, a desk-based review and culminating with onsite reviews. It focused on three aspects of FMCs’ responsibilities - investment management, risk management and organisational effectiveness.

On 20 October 2020, the Central Bank issued a letter to the chairperson of the board of directors (the “Board”) of all FMCs accompanied by a high level findings document (the “Industry Letter”) setting out the findings of their review and identifying actions that FMCs need to take immediately.

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Ireland Update – Impact Of Brexit on Data Transfers

As the end of the Brexit transition period on 31 December 2020 (the “Transition End Date”) draws closer and political uncertainty continues around the outcome of negotiations between the EU and the UK, organisations must now consider the implications of a potential ‘No-Deal’ Brexit scenario on their business activities, including on transfers of personal data from within the EU to the UK.

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Majority Ruling of UK Supreme Court Sheds Light on Questions Concerning Law of Arbitration Agreements

In arbitration proceedings, the question as to which law governs the arbitration agreement when the agreement itself is silent on the issue has been the subject of a long standing debate. A recent judgment of the UK Supreme Court has fortunately provided some clarity on this issue.

In the case of Enka Insaat Ve Sanayi AS v OOO Insurance Company Chubb [2020] UKSC 38, the Supreme Court held (by a majority decision of 3-2) that where the law of the seat had the closest and most real connection with the arbitration agreement, the law of the seat rather than the governing law of the main contract, would apply to the arbitration agreement.

The background to this case is that the Appellant, Chubb, had submitted that the arbitration agreement should be governed by Russian law, which was consistent with the governing law of the underlying contract. In this case, the arbitration agreement provided for an arbitration seated in London under the rules of the International Chamber of Commerce. The Respondent, Enka, disagreed, arguing that the applicable law for the arbitration agreement ought to be English law, consistent with where the arbitration was seated.

Supreme Court's Decision

The majority of the Supreme Court ruled that although it agreed with the Appellant that in most cases the law of the main contract ought to also be the law of the arbitration agreement, based on the facts applicable to this case, the relevant law was the law of the seat, i.e. English law. This was because in their view, a proper construction of the contract did not show either an express or implied choice of Russian law. In contrast, in line with Article 4 of the Rome I Regulation, the arbitration agreement had a much closer connection with the seat, meaning that English law should apply.

On the other hand, the minority of the Supreme Court agreed with the Appellant that since the law of the main contract had clearly been selected to be Russian law, and the surrounding facts of the case (which involved a power plant construction project in Russia) also involved a close connection with Russia, then the law of the arbitration agreement should therefore follow suit. The minority further argued that there should not be a general rule that if there is no choice of law provision in the main contract, the law of the seat will apply. This is because in commercial matters, parties would generally expect the law of the arbitration agreement to mirror the governing law of the main contract.

Relevance of Decision

Although the Supreme Court judgment constitutes a binding decision, the fact that it was not unanimous suggests that there may be ongoing debate as to whether it reflects the right one. It should also be recognised that the decision of the Supreme Court was understandably influenced by the particular facts of the case. In other words, it should not necessarily be construed to mean that the seat of the arbitration will always dictate the law of the arbitration agreement, where the latter is silent.

The decision could well be relevant in the Cayman Islands which presently lacks a designated arbitration institution, the consequence of which being that many Cayman arbitrations are seated abroad. The decision also serves as a helpful reminder for parties who are contemplating using arbitration as a dispute resolution mechanism that it is preferable to expressly state what the law of the arbitration agreement is so as to avoid any ambiguities in this regard and to hopefully reduce the risk of potentially lengthy and costly jurisdiction challenges before the resolution of the main dispute even occurs.

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