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Leveraged Buyout (LBO) In Light Of The Measures Adopted For The Covid-19 Emergency
The tools set up by the government to put companies in a position to cope with the financial and economic difficulties posed by the Covid-19 emergency have not considered, for the time being, the problems related to the implementation of some particular operations.
We refer, in particular, to the "acquisition with debt operation" (so-called leveraged buyout or LBO) through which - with a single or multiple transactions of different forms - we proceed to the acquisition of a company or of a participation (controlling or totalitarian) in a specific company (also at the head of an operating group), called "target" (or "target company " or “target group”), put in place through the creation of a special vehicle company (so-called Special Purpose Vehicle - SPV or BidCo or NewCo) which is partly financed through a combination of equity and debt.
The choice of sources to finance a business acquisition (asset deal) or equity investments (share deal) is mainly due to the use of debt as a "leverage" which entails the emergence of incremental benefits (and risks) as long as the cost of debt is lower (or higher) than the return on risk capital. These acquisition with debt, therefore, are characterized by the existence of a single cause, which is constituted by the acquisition of a company or a holding that allows control of the target.
With regard to the loans obtained by the SPV it is important to highlight as a rule, that lenders (mainly the banks) subordinate this disbursement of money to the creation of the Special Purpose Vehicle (in order to guarantee, for example, the transparency of the borrower's data, the assignment of the loan to a company that does not own other assets or carry out other activities, the prohibition for the SPV to contract other loans) and, often, to the subsequent merger of the same with the target company, in order to bring the debt closer to the assets used to secure the loan and capable of generating the cash flows necessary to repay the debt (in this way the lenders remove the “structural subordination” that occurs when the debtor guarantees the repayment of the debt through assets held indirectly by means of control, in another company). In the event of a merger, the overall debt burden is transferred from the SPV to the MergerCo (company that incorporated the previous target company) or, alternatively, in the absence of a merger, the financial charges associated with the debt are offset, between the NewCo and the Target, with a specific dividend policy from the Target to the SPV, in order to guarantee the repayment of the loan shares (together with the interest due).
And it is precisely the latter case that deserves a closer look in light of the measures adopted by the government, of which, for the purposes of this, some essential points are summarised.
The Decree Law no. 18 of 17 March 2020 (so-called “Cura Italia”) introduced an extraordinary moratorium on loans and credit lines granted by banks and financial intermediaries to “micro, small and medium-sized enterprises” (so-called SMEs). In order to have access to the moratorium it is therefore necessary to be an SME in accordance with the Enterprise size and Commission Recommendation no. 2003/361/CE of 6 May 2003, or have the requirements provided for by this provision.
In addition to the dimensional requirement (whose thresholds must be met by the individual company, independently considered), the Decree Law “Cura Italia” establishes that the beneficiary company must be "autonomous", it must not own or be owned by another company for 25% of its capital or voting rights.
The Decree Law no. 23 of 8 April 2020 (so-called Liquidity Decree), which has the scope to inject the necessary liquidity for companies based in Italy and affected by the Covid-19 epidemic, requires that SACE Spa (Cassa Depositi e Prestiti Group) grant guarantees in favor of banks, national and international financial institutions and other entities authorized to exercise credit in Italy, for financing in any form the aforementioned companies. Notwithstanding that SMEs must have exhausted the maximum ceiling available from the Guarantee Fund for SMEs, companies of any size can benefit from the guarantees of SACE Spa, however they must make the commitment for themselves and for any other company that is part of the same group to which they belong, not to approve dividend distribution or the repurchase of shares in 2020.
In light of what has been illustrated regarding the LBO operations, not followed by the merger by incorporation of the target company, the difficulties that the emergency situation dictated by the coronavirus poses are therefore evident both for the target company and its parent company SPV. The former, normally represented by a company that carries out a production/commercial activity, may no longer be able to meet its commitments, including the financial ones (leasing payments, etc) or to generate an income that allows dividend distribution to the holding company (natural expectation of the SPV when undertaking LBO operations typify as “share deal”). The holding company has no choice but to ask the lending banks to suspend or renegotiate existing loans, hoping that the country's health and economic situation will return to normal as soon as possible.
While we understand the reasons why the said limitations have been foreseen (in particular, the prohibition to distribute dividends), we hope that the legislator provides corrections to face the difficulties of the companies that have put in place genuine LBO operations.
Maurizio Bottoni is the senior partner of Interconsulting. As a consultant in one of the Big Four he has developed a deep knowledge of the Italian and International tax law, through the involvement in operations and reorganization of multinationals. Extraordinary transactions and international issues are his daily business.