Pitfalls in private M&A in Austria


Pitfalls in private M&A in Austria

International Law Practicum, NYSBA, Volume 27, No 2, Autumn 2014
2014, November 3
  1. Letter of intent
    A letter of intent ("LOI") has become standard in Austrian transactions in order to promote a constructive atmosphere in negotiations between the involved parties and to work towards a successful signing. The intent of the parties determines the legal nature (the binding effect) of a LOI. A potential purchaser is generally not willing to agree to the LOI having a binding effect, as he likely does not want the ending of the negotiations to trigger an obligation to indemnify the other party for losses in connection with a breach of a binding LOI.

    Generally, the LOI cannot be seen as an offer to conclude a contract with respect to the main topics mentioned. On the other hand, it cannot be ruled out that the parties in fact intended to make such a binding offer; in such case, however, this intention must be evident (i.e. additional written or oral agreements). Under Austrian law, the mutual intention of the parties has priority to all other kind of written or oral declarations. Additionally, a LOI could also be legally binding if the sender shows a behaviour which must, from an objective point of view, certainly be seen as an offer. Therefore, the receiver (Erklärungsempfänger) of such letter of intent can rely on this behaviour, even though the sender had another intention.[1]

    Furthermore, a LOI is non-binding if it does not include mutual consent (a meeting of the minds, Willensübereinkunft) on the purchase price, or if it does not describe the target in sufficient detail. Therefore, the essentialia negotii (sec 861 Austrian Civil Code) must be determined. Otherwise, the LOI could be a tentative agreement (Vorvertrag, Punktation; e.g., an offer by a potential purchaser) and may oblige the offering party to enter into an asset or share purchase agreement ("APA" or "SPA").

    To qualify a LOI as a tentative agreement, the parties have to implement the specific obligations of the future main contract and explicitly declare the letter as a firm and binding commitment to finalize the main contract.[2]

    It is also possible that the LOI cerates ancillary rights and accessory obligations, even though the main contract is not going to be concluded. Such ancilliary rights and accessory obligations include typically the refund of expenses originating from efforts made in the course of negotiations. Therefore, the letter could implement a clause which validly guarantees the refund of expenses which occurred until the date of withdrawal from the contract; however, on the other hand such refund of expenses could also be excluded.[3]   

    In order to avoid any doubt about the binding effects of a LOI, the parties often choose to implement a non binding clause in the LOI.

    Example: "This Letter of Intent is not binding upon any party hereto and is not intended to create any binding obligation on any party to enter into any definitive agreement containing the terms set forth in this Letter of Intent.

    Even if a LOI is deemed non-binding, the refusing party may be liable for potential claims under the principle of culpa in contrahendo ("cic"). Thus, an arbitrary refusal to continue negotiations may create liability based upon: (i) the obligation to duly inform; (ii) protection obligation; and (iii) the duty of care (cic).

    With respect to cic it is necessary to mention that a LOI, which is not formed as a tentative agreement, cannot at all create a legal obligation to conclude the contract. The formal freedom to conclude a contract still remains in force, even though the recipient of the letter was totally sure that the sender wanted to conclude the contract. Cic mainly covers the compensation for damages, which resulted from the culpable behaviour of the sender, but cannot lead to the conclusion of the contract.[4]  

  2. Regulatory Approvals
    The Austrian Anti-Trust Authority evaluates filings in connection with mergers & acquisitions. The acquisition of a company, in whole or substantial part, is defined as a merger under sec 7(1)(1) of the Austrian Anti-Trust Act 2005 Furthermore, the acquisition of a 25% stake, as well as a (subsequent) acquisition of a 50% stake is also deemed a concentration falling within the scope of the act.[5] However, sec 20 of the act follows an economical approach in evaluating facts and circumstances falling within the scope of this act; i.e., a 20% stake may be deemed a concentration, if atypical statutory rights are included, which are normally linked to stakes of at least 25%.[6]

    Such concentration must, under sec 9 of the act, be registered with the Austrian Anti-Trust Authority if the involved companies have: 
    ► a worldwide turnover of more than EUR 300 Million;
    ► a national turnover of more than EUR 30 Million; and
    ► at least two companies have a worldwide turnover of more than EUR 5 Million each.

    No registration is required if:
    ► only one of the involved companies has a national turnover of more than EUR 5 Million; and
    ► the other involved companies have a worldwide turnover of less than EUR 30 Million.

    Media companies have to multiply the above marked (*) figures by 200, whereas companies providing ancillary services for media companies have to multiply those figures by 20.

    One specific pitfall may be the exemption for media companies and the "catch all"-clause under sec 20 of the act. Both may trigger an obligation to register a merger under sec 9 of the act.

  3. Conditions for Closing
    The purchaser may also request the seller to include a binding statement that no material adverse change has occurred between signing and closing. Consequently, the parties agree upon potential material changes to the target company. Such material changes could include the loss of a key client, decrease of product quality and the commission of any business related criminal offences (e.g., tax fraud, bribery, etc). If one of the enumerated material changes took place, the purchaser would have the right to rescind the signed agreement.

    In case of an equity investment of a private equity fund in an Austrian stock cooperation, through participation in a share capital increase of the target, usually the formal registration of the share capital increase in the commercial register is a condition for the closing of the deal.

    In general, to conduct a share capital increase, an increase-resolution of the share holder meeting is necessary. The buyer has to subscribe to the new issued shares through signing of a share-subscription-certificate (Zeichnungsschein) and must deposit the amount on the acquired shares.

    Besides the shareholder-resolution, the execution of the share capital increase must be proved to successfully register the capital increase in the commercial register.

    Parts of the execution to be proved to successfully register the capital increase:
    ► There has been the completion of the payment on the shares by the buyer.
    ► There has been the execution/waiver of any other subscriptions rights for the new shares.
    ► The new shares are free of charges.
    ► The shares have been officially issued.

    On the financial side, it is common to provide the purchaser with a bank guaranty for potential claims against the seller under the given "reps & warranties".
    Additional closing conditions may refer to restructuring measures to be concluded prior to closing in order to have "the bride dressed up".

  4. Employment and Unions Influence on a Transaction
    The sale of a company or a part of it (Betriebsübergang) might have an impact on the current employment relationships. If the transaction is structured as an asset deal the rules on transfer of businesses stipulated by sec 3 et seqq of the Austrian Employment Harmonization Act (Arbeitsvertragsrechts-Anpassungsgesetz – "AVRAG") will be triggered.

    Each employment relationship automatically transfers (ex lege), with all rights and obligations, to the purchaser according to sec 3(1) AVRAG. This provision is mandatory law, which means that neither the seller or the purchaser, nor the employment contract or collective agreements can alter sec 3(1) AVRAG. However, this provision does not apply in cases of restructuring procedures without the debtor (seller) in possession or insolvency of the seller.

    The definition of a part of the company is a key issue with regard to employment relationships. Art 1(1b) of the directive 2001/23/EG defines a Betriebsübergang as "...a transfer of an [long-term] economic entity which retains its identity, meaning an organised grouping of resources which has the objective of [autonomously] pursuing an economic activity, whether or not that activity is central or ancillary". Thus, a main criteria for an economic entity to trigger sec 3(1) AVRAG is whether the entity retains its identity or not. However, the identity shall be deemed retained if the economic entity is de-organised within the acquiring company, whereas the acquiring company is still able to use the production factors (e.g. key employee of the former economic entity) of the economic entity for the same economic purpose.[7]

    Since January 1, 2008 severance payments to employees (also members of the board (Vorstand) and CEOs (Geschäftsführer)) are subject to a new system. Employees who have entered into an employment contract after December 31, 2002 will have 1.53% of their salary transferred into an employee provision funds. In contrast to the former system, after the termination of the employment contract, the employee is entitled to receive the funds paid into the account irrespective of how the employment relationship was terminated (e.g., dismissal, firing, premature redemption, etc).[8]

    An incorrect interpretation of an economical unit may cause the purchaser ex lege to have all the employment relationships "attached" to the economical unit and, thus, transferred via the merger.

  5. Sand-bagging
    Generally, in Austria there is no warranty for totally obvious defects, which have to be noticed through proper examination or deficiencies which are disclosed through Due Diligence ("DD") review. But if the seller explicitly guaranteed for lack of defects then he is responsible and liable for any defects.

    For example: The seller of a company guaranteed for an existing licence right, which lasts for 10 years. The buyer recognized through the DD that this licence right is already expired. In this case, the seller has to renew the licence right and fulfil his obligation even though the buyer knows about this deficiency and the buyer has the ability to seek remedy after the closing of the deal notwithstanding pre-existing knowledge of an inaccuracy or breach (="sandbagging"). Only an explicit clause which is implemented into the contract stating the seller cannot seek remedy for inaccuracy, which the purchaser got to know through the DD, avoids the seller's liability (="anti-sandbagging clause")[9].

    In Austria it is common practice to carve out purchaser's knowledge, which should have been gained during the due diligence examination of the target company (purchaser is deemed an expert; Sachverständiger), but only to the extent that:
    ► disclosure is made in full;
    ► disclosure documents are traceable (meaning they are stored in a virtual data room related to certain topics);
    ► oral information exchanged during management Q&A-sessions is recorded in writing;
    ► written documents are true, accurate and complete.

  6. M&A insurance[10]
    A warranty and indemnity insurance should cover the liability for violation of contractual warranty-promises. Furthermore, difficultly assessable environment-risks and the risk of litigation could be covered. These insurances are an exemption from the general principle in Austria, that warranty claims are not insurable.[11] 
    M&A Insurance can be concluded by:
    ► The purchaser (as a buy-side insurance to secure his charges, which can be directly claimed against the underwriter), or
    ►the seller (sell-side insurance) whereby the purchaser still claims his warranty interest directly against the seller and consequently the insurance indemnifies the seller.

    The underwriter usually will make an offer based on the examination of the realised DD, whereby the premiums generally ranges from 1% to 1.75 % of the insured risk. Commonly, the insurance policy contains exclusion of liability and policy retentions or the underwriter asks the buyer for a "No-Claims-Declaration".[12] 

    In general, insurance is also in the interest of the seller, as the purchaser does not have to pay much attention to the financial standing of the seller and it is not necessary to retain parts of the buying price. Therefore, a "clean-exit" without provisions is possible.

    Recent developments show that M&A insurance use in Austria is growing substantially. However, the number remains low as only 5% of all M&A transactions use such insurance and a small number of M&A transactions are executed in connection with an insurance for example "reps & warranties" of the seller in non-public deals.

    A key issue with M&A insurance and its increasing popularity is the ability to give the purchaser comfort - especially with regard to environmental issues such as asbestos liabilities, pollution of ground/water, etc - within the timeframe agreed to in the agreement.

  7. Dispute resolution and choice of law
    A. Choice of Law
    In general, the law governing the arbitration itself and the law applicable to the merits of the dispute are the two areas of laws which are crucial for an arbitral procedure. The parties are free to choose the applicable substantive law that has to be applied to the merits of a dispute by an arbitral tribunal which is seated in Austria, according to sec 603 of the Austrian Code of Civil Procedure (ABGB). Generally, there are no formal requirements for the choice of law, and any law could be chosen, only the limitations of the ordre public rule have to be noted.[13] Recent developments show that the law of the target company is commonly accepted as the applicable law.

    If the parties fail to choose the law, it is in the free discretion of the arbitral tribunal in Austria to determine the applicable law. This choice is limited by international treaties which have priority over national provisions, by fundamental principles of the Austrian legal order and the Austrian substantive public policy. The EU law, like antitrust provisions, can also be seen as public policy and therefore must not be excluded through a choice of law.[14]

    B. Arbitration
    In Austria, sec 582 of the Austrian Civil Code ("ABGB") contains a general rule which states that every claim involving an economic interest could be decided by an arbitral tribunal. Therefore, actions which are connected to the jurisdiction of administrative authorities, the Austrian Constitutional Court (VfGH) or Administrative Court of Austria (VwGH) and also criminal proceedings are not arbitrable. Furthermore, sec 582 para 2 of the ABGB enumerates actions which cannot be negotiated before an arbitral tribunal, like claims in family law matters. With respect to M&A Transactions, the Austrian arbitration law does not state what sort of corporate disputes can be ruled by an arbitral tribunal. But the following issues which are subject to an arbitration agreement in legal writing and case law could illustrate the scope:[15]
    ► Actions for dissolution;
    ► The designation of auditors;
    ► Disputes arising out of challenges to notarial deeds, which were the basis for the assignment of shares;
    ► The right to information by shareholders;
    ► Disputes arising out of deficiencies in shareholder resolutions relating to a limited liability company (GmbH) or stock cooperation (AG).

    In general, a choice of law is often connected to arbitral proceedings in "larger transactions". The main reason for parties to choose arbitration is the desire to have any dispute decided behind closed doors, i.e., not made publicly accessible and the decision publicly available. On the other hand the parties mostly have the opportunity to choose the arbitrator which not only has to be a lawyer as an expert in the disputed filed is often more suitable. One reason to choose Austria (Vienna) as the place of arbitration is the recent revision of its arbitral law. Since January 1, 2014 the Austrian Supreme Court is the one and only authority to set aside an arbitral award. With only one instance to challenge an award, legal remedies are limited and legal certainty is achieved "in a timely manner". Furthermore, the enforcement of domestic arbitral awards serviced by Austrian courts is guaranteed, as an award only can be set aside if the subject matter of the dispute cannot be ruled by an arbitral tribunal according to Austrian law or if the award violates fundamental values of the Austrian legal system. In such a case an action to set aside a domestic award has to be brought before the competent court within the period of 3 months after the award was serviced.

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[1] Lutter, Der Letter of Intent (1998) 22.

[2] Lutter, Der Letter of Intent (1998) 29.

[3] Lutter, Der Letter of Intent (1998) 39.

[4] Lutter, Der Letter of Intent (1998) 65 ff.

[5] Petsche/Urlesberger, Kurzkommentar Kartellgesetz 2005 (2007) sec 7 KartG Rz 46 ff.

[6] Mittendorfer, Unternehmenskauf in der Praxis (2012) Rz 5/53.

[7] Mittendorfer, Unternehmenskauf in der Praxis (2012) Rz 2/35 ff.

[8] http://www.arbeiterkammer.at/beratung/arbeitundrecht/abfertigung/Abferti....

[9] Brugger, Unternehmenserwerb (2014) Rz 819 ff.

[10] LLOYD'S, M&A insurance grows as confidence increases. April 16, 2014.

[11] Brugger, Unternehmenserwerb (2014) Rz 1052.

[12] Brugger, Unternehmenserwerb (2014) Rz 1054.

[13] Poulton, Arbitration of M&A Transactions (2014) 31.

[14] Poulton, Arbitration of M&A Transactions (2014) 34.

[15] Poulton, Arbitration of M&A Transactions (2014) 35.


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