Private equity in France: privileged structures and protection mechanisms available to investors
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In the unprecedented context of the health crisis created by the COVID-19 pandemic, private equity transactions have slowed considerably. Many funds have opted for a strategy to focus on their existing investment portfolio and to support their investments to meet increasing cash requirements.
This crisis also allows us to look back on a particularly dynamic year 2019 for the French private equity market and to identify trends, both in terms of the investment methods favored so far by investors (1) and in terms of protection. . to investors (2).
1. Preferred structures for investment in private equity operations
Private equity funds generally invest in transactions by subscribing for common stocks (ordinary actions) and / or preferred shares (actions of
preference). Preferred shares, which can confer specific rights on their owners (such as multiple voting rights, prior access to information, priority dividend rights, etc.) are widely used in practice. However, the issuance of preferred shares can prove to be (i) costly to the extent that an independent auditor must be appointed, and (ii) complex to the extent that extraordinary meetings of the holders of preferred shares will be convened to approve any modification relating to the rights conferred by preferred shares.
It is also very common for private equity investors to subscribe hybrid securities of the target company in addition to subscribing for common and / or preferred shares. Hybrid titles have grown considerably in recent years in France. They are particularly suitable for investments made in tranches. Indeed, the use of hybrid securities allows the immediate payment of a first tranche of investment while scheduling the payment of the next tranche. The investment often takes the form of the issuance of stock warrants (share subscription warrants
or “BSA”) consisting of a target company subscription warrant allowing the investor to subscribe to a certain number of company shares at a price determined by conversion of his BSA during the next round.
Investments in hybrid securities often also take the form of convertible bond subscriptions (obligations convertibles or “OC”) or bonds redeemable in shares (bonds redeemable in shares or “ORA”). The use of convertible bonds or bonds redeemable in shares allows the target company to immediately dispose of funds without immediately diluting the other shareholders. For the investor, bonds allow a return negotiated in advance through the application of an interest rate. In addition, with CBs, the investor has the choice as regards reimbursement: cash reimbursement or reimbursement by allocation of shares.
2. Protections generally available to investors
Private equity investors generally rely on the protection granted by the statutes of the target company and the transaction documents, in particular the share transfer agreement and the shareholders agreement. The articles and transactional documents generally provide for various protection mechanisms, in particular with regard to:
- governance of the target company,
- transfer of shares (including, but not limited to, pre-emption rights, prior approval, tag-along and drag-along provisions, “bad start” provisions, etc.),
- the principle of non-dilution (ratchet mechanism),
- non-competition and non-solicitation provisions.
In addition to the above clauses, private equity investors also benefit from representations and guarantees (asset guarantee and
passive) as part of the shares sold, under which they will be compensated by the seller in the event of violation of the seller’s declarations, guarantees and commitments. Specific allowances are usually included for employment, taxes and customs, environmental issues, etc.
To guarantee its indemnification obligations under the representation and guarantee agreement, the seller is generally required to provide a guarantee. The most effective guarantee is a first demand guarantee provided by a bank because it is independent of the representation and guarantee agreement. This guarantee may also take the form of a joint guarantee provided by the seller or a bank. Apart from these guarantees, an alternative solution generally consists in placing part of the sale price in an escrow account.
Even if a rebound cannot be excluded in the coming months, French funds will certainly continue to be cautious. It is likely that they will need to carefully review their investment methods and the protective measures available to them. This will also translate into greater attention paid by funds to the negotiation of force majeure, duress and material adverse change clauses in order to improve the legal certainty of their investments.
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Originally posted June 30, 2020
The content of this article is intended to provide a general guide on the subject. Specialized advice should be sought regarding your particular situation.