Purchase of a shareholding and seller's warranties (by Valerio Sangiovanni).
[:en]Courtesy of the author Valerio Sangiovanni and the publishing house Ipsoa Wolters Kluwer reproduces the article that appeared in Notariat, 2012, pp. 203-213]
1. The Share Purchase Agreement
The Share Purchase Agreement[1] is the contract by which a first party sells (profile of 'transfer') and a second party acquires (profile of 'acquisition') a shareholding[2]. In such a contract, it is quite usual for the seller to offer express warranties in favour of the purchaser (concerning not only the shareholding bought and sold in and of itself, but also - and above all - the substantial characteristics of the underlying company), and it is this profile - of great practical relevance - that we wish to focus on in this article[3].
Assuming that the participation transfer contract is subject to Italian law (a different choice may be made, for example, when one of the parties is foreign)[4]it is to be qualified as a contract of sale, since our legislative definition of a contract by which the ownership of a thing or another right is transferred for the consideration of a price (Art. 1470 of the Civil Code) is fulfilled: the object of the transfer is the shares or quotas of the company (and only indirectly, and pro quotaassets and liabilities of the company), while the price is the consideration that is paid by the buyer. The sale/acquisition contract is a common sale/purchase contract characterised by the fact that the asset bought and sold is a shareholding.
The qualification of an acquisition contract as a sale and purchase explains, at the terminological level, the circumstance that it is sometimes referred to - in practice - as a sale and purchase contract. More frequent, however, is the use of terms such as 'assignment' or 'acquisition'. However, 'acquisition' is nothing other than the same transfer of the shares or stocks seen from the perspective of the party opposite the one that 'transfers'. Ultimately, 'assignment' and 'acquisition' are to be considered synonymous, and the transfer mechanism is well expressed by the single term 'sale', which encompasses both.
With respect to the subject matter of the sale, the expression, although it is recurrent in practice, of 'purchase of a company' does not appear to be correct: in fact, the contract does not concern the company, but only the shareholding that a shareholder holds in the company. Even if the acquisition of shares implies, to the relevant extent, the acquisition of the assets and liabilities pertaining to the company, this only occurs indirectly. The distinction, used by the case law and to which we will return below, between the 'immediate' object of the acquisition (the shareholding) and the 'mediated' object of the acquisition (the assets and liabilities pertaining to the company) therefore appears to be correct.
To tell the truth, the use in practice of expressions such as 'contract of assignment' or 'contract of acquisition' gives rise to misunderstandings not only of a linguistic but also of a substantive nature. Indeed, it is sometimes claimed in doctrine that the contract of 'assignment' or 'acquisition' is not one of the named contracts expressly regulated in our legal system. The debate on the nature of the contract for the sale or acquisition of corporate participations appears in fact to be essentially pointless: indeed, such a contract cannot be considered atypical, but must instead be qualified simply as a 'sale'. The contract could be peacefully referred to by the parties as a 'contract of sale'; what is particular - in the contract of assignment/acquisition - is only its object, consisting of a shareholding.
If the contract for the transfer of corporate shares is to be characterised as a contract of sale, attention must then be paid to the provisions governing warranties in this type of contract, with particular reference to Art. 1490(1) of the Civil Code, according to which the seller is obliged to ensure that the what sold is free from defects rendering it unfit for use or appreciably diminishing its value. What, in the specific context of acquisitions of participations, is the 'thing' sold? As pointed out above, the object of the contract is represented - directly - by the equity interest (and only indirectly by the assets and liabilities included in the equity interest). The real problem of warranties, however, concerns not the participation itself, but the assets and liabilities which the acquisition of the participation brings with it, pro quotawith itself. With regard to the 'mediated' subject matter of the purchase and sale (assets and liabilities), it is a recurring assertion that the provisions on warranties in the sales contract are excessively favourable to the purchaser and, for that reason, not particularly suited to the context of corporate acquisitions. In the context of these transactions, it is usual to seek a better balance between the position of the seller and the buyer. With the share purchase agreement, the seller makes every effort to limit the security it offers the buyer with respect to the assets and liabilities of the company. This limitation of warranty, however, is subject to a precise condition of effectiveness, since the agreement excluding or limiting the warranty has no effect if the seller has in bad faith concealed from the buyer the defects of the thing (Art. 1490(2) Civil Code).
2. The activity of due diligence and the preliminary flow of information
We have seen that whoever buys a shareholding buys, directly, only shares or quotas. By acquiring the status of shareholder, however, he becomes part of a company with assets and liabilities. The main problem for the purchaser is that, being generally - prior to the purchase - an outsider to the company, he does not know its characteristics. If he buys the shareholding without careful prior verification, he may find himself exposed to negative surprises compared to his expectations (where certain assets are overvalued or even non-existent or certain liabilities are undervalued or even hidden). The amount of information available to a person outside the company is normally insufficient to ensure an appropriate assessment of the risks involved in the purchase.
In order to reduce the risks associated with the purchase of company shareholdings, the signing of the shareholding purchase agreement is generally preceded by a so-called 'due diligence"[5]. The expression 'due diligence', of Anglo-Saxon origin, can be translated - literally - as 'due diligence': this is the diligence a prudent buyer uses in making all necessary checks before purchasing a shareholding. In practice, the buyer is normally given the opportunity to carry out a series of checks on the target company: the due diligence can be carried out directly by the buyer or, more frequently, by hiring external experts.
A point that is rarely emphasised is that the activity of due diligence also implies the cooperation of the company whose shares are to be acquired, which must make the required material available on the basis of a list. This activity of preparing the material is the responsibility of the directors of the target company.
It may happen that, faced with a shareholder wishing to sell his shareholding, there is no cooperation on the part of the company in making the requested information available to the potential purchaser. This problem does not arise when the shareholder is also a director of the company, being able - in that capacity - to have direct access to the information and, in principle, to pass it on to third parties. In some cases, however, the shareholder does not hold any administrative office.
The problem of the possible conflict between the shareholder and the company must then be addressed by the shareholder exercising his right to information vis-à-vis the company. By exercising this right, the shareholder collects the material to be made available to the potential purchaser. On this point, however, a distinction must be made between the s.r.l. and the s.p.a.: as is well known, whereas in the former type of company a broad right of the shareholder to information is recognised (Art. 2476(2) of the Civil Code)[6]in the s.p.a. there is no provision in the s.p.a. that provides for such an extensive right of information of the shareholder. Article 2422 of the Civil Code allows shareholders to do little: only to examine the register of shareholders and the register of meetings and resolutions. The legislator takes into account the different nature of the two types of company and, consequently, structures the right to information and control differently. In a company that is usually assumed to have few shareholders, such as the s.r.l., the right of control is recognised to a broad extent; conversely, in a company type such as the s.p.a., which - hypothetically - may have a large shareholder structure, confidentiality is protected to a greater extent. It follows that, whereas in the s.r.l., the shareholder can easily gather the information to be given to the potential purchaser, in the s.p.a., it is by no means self-evident that the shareholder can achieve this result.
In the s.p.a., the problem of the lack of a broad right of control-information of the shareholder can be resolved by reconstructing a duty of information on the part of the directors arising from the general obligation to conduct themselves in good faith in the performance of their duties in the interest of the company[7]. It follows that, where the shareholder's request is not contrary to the company's interest, the managers must comply with it. In order to avoid damage to the company, however, it is certainly advisable to precede the transmission of information by the signing of a confidentiality agreement, whereby the third party undertakes not to disclose and not to use what comes to his knowledge.
However, even in the s.r.l., even in the presence of a broad right of control of the shareholder established directly by law, conflicts may arise between the shareholder and the directors with respect to the exercise of the right to information as a means of permitting - then - third parties access to data and information. Allowing third parties access to the company's documents may be risky in cases where the third party has conflicting interests with those of the company, for example in the event of litigation or in the case of a company engaged in competitive activities. It may therefore happen that the directors oppose the shareholder's request for information.
Returning to the case standard (the one in which there is no internal obstacle in making company information available to the potential buyer), it can be noted that - traditionally - the documentation subject to due diligence was prepared in paper format and was made accessible for a certain period of time in a room set up for that purpose (hence the expression ''paper'').data room"data room). In recent times, it is more common for information to be made available in a virtual mode, which the buyer can access - always for a limited time - electronically.
La due diligence can be more or less wide-ranging depending on the case: the most common types of audit are financial, tax and legal. At the outcome of the due diligencea written report is generally prepared - addressed to the potential purchaser of the participation - describing the main risks involved in the purchase of the shares/shares.
The purpose of the due diligence is twofold. On the one hand, it has a purely informative purpose for the purchaser: to learn more about the characteristics of the target company. On the other hand, the due diligence has a specific objective of identifying the risks that the target presents. Once these risks have been identified, it is up to the clauses of the sales contract to provide adequate protection. There is therefore a close link between the due diligence and the content of the subsequent contract.
The activity of due diligence is sometimes reflected in a special clause in the acquisition contract. Thanks to the preliminary check on the targetthe buyer has become aware of the characteristics of the company in which it wants to acquire a participation, including its critical aspects: this enables it to determine (and agree with the counterparty) the 'right' price for the participation. The seller does not want the buyer to be able, subsequent to the completion of the acquisition, to activate warranties enabling him to obtain compensation (economically equivalent to a price reduction). In order to achieve such a result (i.e. to 'stabilise' the price), the seller insists on the inclusion in the contract of a clause by which the purchaser declares that it has carried out thorough checks on the company and, to the best of its knowledge, has not found any circumstances that would allow it to activate a security. Such a provision prevents improper conduct on the part of the buyer, who could conceivably - having identified the defects in advance - remain silent about them, and then, as soon as the contract is finalised, claim damages.
3. The Most Common Guarantees in Share Purchase Agreements
It is difficult to make a list of the warranties normally contained in a share purchase agreement: practice shows considerable differences from case to case. Much depends on the competence of the lawyers assisting the parties. Also relevant is the level of necessity, more or less stringent, for one party rather than the other to conclude the contract quickly: those who wish to conclude the transaction quickly tend to give less weight to the guarantee clauses, which operate only eventually.
Sometimes the clauses concerning guarantees are written in a particularly analytical manner: this is the contractual technique favoured in Anglo-Saxon countries, where contracts are characterised by being particularly detailed. The analytical listing of warranties is moreover generally accompanied or replaced by closing clauses stating a certain state of facts in a summary manner. With reference, for example, to the matter of litigation, it may be repeated for each matter (environmental, labour, relations with customers and suppliers, etc., etc.) that there are no disputes between the company and third parties; however, it seems more effective to confine oneself to a general clause attesting to the absence of any litigation.
Turning to the content of the clauses, a common distinction is that between guarantees relating to the 'title' of the participation and guarantees relating to the 'content' of the participation.
The 'title' clauses are those that refer directly to the characteristics of the participation and the target from a corporate point of view: e.g. the seller warrants that he is the owner of the shares and that they are free from any third party rights; or the seller warrants that the company has been validly incorporated and is validly existing under the national law governing it. Title clauses are absolutely usual in contracts for the purchase and sale of corporate shares and the seller can hardly refuse to grant such warranties to the buyer. Such clauses are generally not subject to quantitative limitations on damages: even where there are thresholds to the seller's liability, they do not apply to this type of security, which is too basic to be subject to any limitation.
Decidedly more important in practice, and therefore the subject of more negotiations[8]are the guarantees relating to the 'content' of the shareholding (assets and liabilities of the company). They can cover the most diverse topics and vary from case to case, also depending on the sector in which the company is active.
Among the most common warranties in contracts for the acquisition of shareholdings are those concerning the balance sheet[9]. Linked to the guarantees on the balance sheet are those on tax matters, consisting essentially of the assertion that the company has always correctly fulfilled all its tax obligations[10]. From an economic point of view, guarantees regarding labour relations as well as social security and pension contributions may be important. Another group of significant guarantees are those relating to contractual relationships to which the target company is a party[11]. Depending on the circumstances, intellectual property warranties may have significant practical relevance. Environmental warranties are quite common, especially where the company carries out a manufacturing activity or - in any event - one that easily leads to pollution. Another common clause concerns the existence of all administrative authorisations and concessions required for the exercise of the activity. Finally, the catalogue of guarantees normally includes the one on litigation, understood as the exclusion of the existence of pending litigation.
With the activity of due diligence and by the sale and purchase agreement the purchaser seeks to insure itself against the risks resulting from the purchase of the shareholding, in particular against the probability, which - depending on the circumstances - may be greater or lesser, that harm will be caused to the company. Such detriment would reduce the value of the company and thus, pro quotaalso of the shares acquired. Where a certain loss has already occurred prior to the conclusion of the contract (which shall then, more correctly, be referred to as a "liability"), the purchaser shall take it into account ex antei.e. in determining the price he is prepared to pay for the company's shareholding. The underlying idea is that the buyer pays for the shares or units at their 'fair' price, i.e. that which reflects all the assets and liabilities that the company has at the time of purchase.
Contractual warranties, on the other hand, serve to protect the purchaser against circumstances that have not yet produced harm at the time the contract is signed, but may produce it in the near future. The likelihood, whether less or more, of the harm occurring depends of course on the circumstances of the case. By means of the warranty clauses, the seller undertakes to bear the damages that would arise if the event referred to in the contract were to occur within a reasonable time in the future.
Sometimes the danger of damage occurring is particularly high. In the course of due diligence concrete risks may have been identified that may produce, in the short term, the harm feared by the acquirer. One thinks of the case in which the land owned by the company in which one wishes to acquire an interest is being inspected for suspected environmental damage that could, if confirmed, imply an obligation for the company to pay compensation, or one thinks of the hypothesis in which the company is a party to a litigation in which it is a defendant: if the case is lost, the company will be forced to pay a sum of money to a third party. In such cases, the buyer has identified circumstances that may - in the near future - lead to damages. There is no harm at the time the contract is concluded, but the parties are aware that it may soon materialise. In such a situation it is difficult for the buyer to insist on a decrease in price, since the seller will argue that the harm has not yet materialised. These special situations (of concrete and imminent risk) are generally resolved by a so-called "indemnity" clause (indemnity): it is guaranteed in the contract, by an appropriate covenant, that the seller is obliged to indemnify the buyer with respect to any third party claims related to that specific event. The clauses of indemnityPrecisely because they relate to a concrete and imminent danger of harm, they are not subject to quantitative limitations, unlike the guarantees of a generic nature that we will now examine.
In addition to the indemnity, contracts for the purchase and sale of shareholdings usually also contain warranties of a generic type, designed to cover dangers of damage that were entirely abstract at the time the contract was signed. Imagine the case of a company engaged in manufacturing activities, which - on the basis of verifications made in the course of due diligence - appears to comply with all applicable environmental regulations. The buyer may, nevertheless, insist on the inclusion in the contract of a clause guaranteeing such compliance. If, after acquisition, it turns out that there are environmental violations, the clause may be activated by the buyer against the seller in order to obtain damages. These are clauses covering abstract dangers, where the damage not only has not occurred but - in the state of the parties' assessments - is not even likely to occur. In principle, the seller should have no problem consenting to the inclusion of such warranties in the contract, since it is unlikely that the damaging event will occur.
4. Termination and annulment of the contract
What happens if a contractual warranty offered by the seller to the buyer in a contract for the sale of shares is not honoured? The remedies generally provided by law in the presence of defects of the goods are termination of the contract or reduction of the price (Art. 1492(1) of the Civil Code). The problem is that these remedies, which are dictated for sale and purchase in general (and not for the particular case of the sale and purchase of corporate shareholdings), are as a rule not suited to the needs of the parties involved in corporate acquisitions. This applies especially to the 'restitutory' remedies (termination of the contract, but - as we will see below - also avoidance thereof).
With reference to the resolution of the contract, it must be considered that such a declaration would have the effect of rendering the acquisition transaction null and void. But the parties, if they move to buy or sell a participation, are generally determined not to retrace their steps. Moreover, since the termination of the contract is a restitutory remedy, the same conditions prior to the acquisition would have to be recreated. Given the complexity of the transaction, the resolutory remedy is generally unsuitable: restitution would be time-consuming and costly. In some respects, a complete restoration of the pre-acquisition situation may be impossible, since the company may - in the meantime - have undergone significant changes that can no longer be reversed. Wanting to draw a parallel, similar problems arise in the context of takeovers as in the case of mergers. Here the legislature has expressly provided that the only possible remedy is compensatory damages (Art. 2504-quater c.c.) precisely because a declaration of invalidity of the merger would imply restitution that, in complex realities such as that of a company, is not reasonably practicable[12].
As an alternative to termination of the contract, it is possible - for the purchaser of the shareholding - to invoke thecancellation.
Annulment may be claimed for fraudulent intent where the seller has intentionally given untrue information or where the seller has artfully withheld information otherwise decisive for the buyer's consent (Art. 1439 Civil Code).[13]. In practice, however, it is difficult to obtain the annulment of the contract by this route, due to the difficulty of proving the assignor's fraud.[14]. A similar consideration applies to accidental intent, which would legitimise not so much annulment of the contract as compensation for damages (Art. 1440 Civil Code).[15].
From an operational point of view, however, it is more common for the plaintiff to request the annulment of the contract for mistake, on the basis of the assumption that the information provided by the seller - albeit without malice - has caused the buyer to misrepresent reality, leading him to conclude a contract that he would not otherwise have concluded. According to the general rules, this must be an essential mistake (Art. 1429 of the Civil Code) and recognisable (Art. 1431 of the Civil Code).
Examining the case law on the avoidance of contracts for the sale and purchase of shareholdings, it appears that the most recurring mistake is the one concerning the assets of the target company. The purchaser of the shareholding pays a price reflecting, firstly, the net worth of the company (assets less liabilities) and, secondly, generally a premium for obtaining a majority (this 'premium' normally consists of a multiple of the profits realised in the last financial year). The company's assets are thus the starting point for the buyer to 'calculate' the price of the shareholding. Errors may occur in this context, such as to alter the purchaser's free provision of consent. Imagine the case where the share capital is assumed to exist, which has instead been - in whole or in part - lost, or the assumption that the net worth of the company is lower than assumed. If, contrary to the seller's assertion, the capital and/or assets do not exist as promised, the purchaser suffers a loss, consisting of paying a price in excess of the assumed value of the participation.
It should be noted, however, that jurisprudence is hesitant to grant the remedy of contract avoidance for mistake in the case of an erroneous assessment by the purchaser of the economic, financial and asset situation of the target company. As we shall see by analysing some of the most recent precedents on the subject, avoidance may be obtained only where there is an express and specific warranty in the contract as to the assets of the company, but not where such a warranty is lacking. In other words, the pure and simple assignment of units or shares does not imply any guarantee as to the characteristics of the underlying company. If the purchaser desires such a guarantee, it must have it expressly granted in the purchase contract.
Among the most recent interventions of the jurisprudence of legitimacy on the problem of the annulment of the contract of sale of shareholdings can be reported a decision of the Court of Cassation of 2008, according to which the error on the economic evaluation of the thing object of the contract (in the case in point a shareholding) does not fall within the notion of error of fact capable of justifying a pronouncement of annulment of the contract, in so far as the defect in the quality of the object must relate only to the rights and obligations that the contract in concrete terms is capable of conferring, and not to the economic value of the object of the contract, which relates to the sphere of the motives on the basis of which the party has determined to conclude a particular agreement, a sphere not protected by the instrument of annulment, since the legal system does not recognise any protection against the misuse of contractual autonomy and the error of one's own personal assessments, for which each of the parties assumes the risk[16]. This was a case where the contract lacked a specific contractual guarantee of the company's assets.
No different was the solution adopted by a slightly earlier ruling of the Court of Cassation (of 2007), which started from the consideration that the transfer of shares in a joint stock company has as its 'immediate object' the shareholding and only as its 'mediated object' the portion of the company's assets that this shareholding represents[17]. With respect to shares in companies, the qualities of the shares that, according to common appreciation, must be considered determinative of consent, must be limited to those pertaining to the typical function of the shares, i.e. the set of faculties and rights that they confer on their holder in the structure of the company, without any regard to their market value. The regulation of the law is limited to the immediate object (i.e. the shares that are the subject matter of the contract), while it does not extend to the consistency and value of the assets constituting the company's assets, unless the purchaser, in order to achieve that result, has had recourse to an express warranty clause, the result of contractual autonomy, which allows the parties to reinforce, reduce or exclude the warranty by agreement, in such a way as to explicitly link the value of the shares to the declared value of the company's assets. The Supreme Court concludes that an error as to the value of the company, in the absence of a clause to that effect, does not constitute an essential error capable of causing the contract to be void. In the case of a sale of shares in a company - which is assumed to have been concluded at a price not corresponding to their actual value - without the seller having given any guarantee as to the company's assets, the economic value of the shares does not fall within the qualities referred to in Article 1429(2) of the Civil Code concerning essential mistake. Therefore, an action for the annulment of the sale cannot be brought based on an alleged revision of the price by auditing accounting documents (balance sheet and profit and loss account) in order to prove what is nothing more than an error of valuation on the part of the purchaser, even when the company's balance sheet published prior to the sale is false and conceals a situation such as to make the rules on the reduction and loss of share capital applicable. The position taken by the Court of Cassation in this judgment is particularly strong in that even the falsity of the balance sheet is not sufficient to obtain the annulment of the sale contract[18].
In light of these case-law guidelines, the purchaser wishing to adequately guarantee itself must insist on the inclusion - in the contract for the sale of the shareholding - of an appropriate clause on the assets of the target company. Contractual practice shows that such stipulations are quite common.
5. Price Reduction and Damages
Also the price reduction (Art. 1492 of the Civil Code) is not normally an appropriate remedy in the context of corporate acquisitions, since it is reasonable to assume that the seller determines to the transaction in reliance on the valuation of the shareholding that was actually made, without any intention to revise ex post downward the price. In other words, the risk that the seller does not want to run is that the buyer will claim breaches of warranties, immediately after the conclusion of the contract, in order to obtain undue restitution of part of the price paid for the shares. It must be said that, from a strictly economic point of view, price reduction and damages are very similar. Suppose that the participation is sold for 1,000,000 euros and compensation of 100,000 euros is subsequently claimed: once this sum has been returned by the seller to the purchaser, it is as if the real purchase price of the participation was - in total - 900,000 euros. The economic effect of damages consists in a reduction of the purchase price.
In contractual practice it is common to provide, in the event of breach of contractual warranties, only the obligation to compensate the harm suffered by the purchaser. There is normally a clause in the contract that excludes the enforceability of remedies other than damages, excluding in particular the possibility of obtaining termination of the contract and its avoidance. The clause by which this is achieved is that of the"exclusive remedy"(exclusive remedy). In other words, the contract, after stating what warranties are offered by the seller and stating that in case of breach of those warranties the buyer is entitled to damages, provides that the buyer may not assert any other remedy.
The categories of harm that the obligor may be called upon to compensate are various. The seller, on the other hand, has an interest in limiting the types of harm that may be claimed by the buyer. It is therefore usual in negotiations to witness discussions on the types of harm that the seller assumes the obligation to indemnify in the event of a breach of warranties.
In this respect, the most important distinction is that between actual loss and loss of profit (Art. 1223 of the Civil Code), where - obviously - the seller will seek to limit its liability to the first item. The problem of loss of profit may be relevant in the context of acquisitions in two respects: on the one hand, the purchaser generally pays a sum as a premium for the purchase of the participation (on the basis of the assumption that the company will be able to produce profits also in the future), on the other hand, the purchaser aims in any event - irrespective of any profit-linked purchase price - to obtain even greater profits in the future from the participation he acquires (e.g. by achieving synergies with companies he already owns). The economic risk associated with a liability for lost profits may therefore be particularly severe for the seller.
If a circumstance arises that legitimises a claim for damages, the purchaser - in the absence of derogating clauses, and thus on the basis of the general provision of the civil code - could insist on obtaining not only the emerging damage, but also the loss of profit. Imagine the case of a piece of land purchased in the context of the acquisition, which later turns out to be polluted and requires 100,000 euros in clean-up costs; imagine also that the clean-up work requires the closure of the plant for 15 days, resulting in lost profits of 200,000 euros. Depending on how the clause is structured, the purchaser may obtain compensation only for the loss suffered (100,000 euros) or also for the loss of profit (another 200,000 euros). Hence, the assignor's interest in limiting the compensation in the contract to only actual loss.
6. The Duration of Guarantees
In practice, it is rare for the seller to be willing to offer warranties without any limitation in a contract for the purchase and sale of shares; instead, it is quite usual for various limitations to be included in the contract. There are contractual techniques for limiting the extent of the seller's liability arising from the breach of warranties.
A first way to limit the seller's liability has to do with the 'time' factor.
The warranties are contained in the purchase contract and therefore, in principle, attest to circumstances existing at the time of the signing of such contract. The problem is that, as a rule, the contract does not produce the immediate effect of the transfer of the ownership of the participations, having merely obligatory effects: with the preliminary contract, the parties undertake, upon the fulfilment of certain conditions, to conclude - at a future time - the final contract for the transfer of the participations. The need to separate the two steps arises from the fact that a certain intermediate time is normally required to put in place all the necessary fulfilments for the realisation of the transaction (the most frequent reason for the separation of the two steps is the need to obtain, in the meantime, the go-ahead from the authorities antitrust). The signing of the preliminary contract is usually referred to by the English expression of "signing"(subscription), whereas the completion of the contract for the transfer of participations is referred to by the expression "closing"(finalisation or closing of the transaction). A certain period of time (sometimes even several months) may elapse between the conclusion of the purchase contract and the notarial deed. While the seller has an interest in limiting the scope of its warranties to the time of the signing of the contract, the buyer would like those warranties to exist even at the later time when the transaction is finalised with the deed of transfer and payment of the price. Generally the problem is resolved in the sense of distinguishing between representations whose content depends on the seller's fact and those that are independent of it: in the first case the seller may guarantee a certain fact until closingin the second case only until signing.
It is common, in contracts for the sale and purchase of corporate participations, to provide for the duration of guarantees[19]. Evidently seller and buyer, on this point, have opposing interests, the seller wanting the shortest possible collateral and the buyer the longest possible collateral. In this respect, it is useful to distinguish between warranties pertaining to the security (such as the title of the participation in the seller and the absence of encumbrances on it) and other warranties: for the first type of security the seller will generally have no difficulty in providing for particularly long terms; in the case of other warranties, on the other hand, the assignor tends to limit their duration as much as possible. In practice, durations varying between 12 and 36 months are generally agreed upon. In order to limit the duration of the warranties, the seller frequently invokes the argument that, after the first balance sheet has been drawn up, the purchaser cannot have failed to discover the circumstances which may give rise to the activation of the warranties and therefore, if it intends to avail itself of them, it must do so immediately. In short, the buyer's needs must be reconciled with those of the seller who, after a reasonable period of time, wants to be sure not to be called upon for liability in respect of an interest now transferred.
7. Clauses limiting the obligation to pay damages
The liability of the seller of a shareholding is normally limited in contract in quantitative terms.
A clause limiting the scope of the seller's indemnification obligation is the so-called ".de minimis". This clause consists in providing that the seller is not obliged to indemnify the buyer in cases where the damage does not reach a certain minimum threshold (let us assume 10,000 euros): the clause thus fixes a limit below which the buyer is obliged to bear the damage himself, without being able to claim against the other party. This type of clause finds its raison d'être in a judgement of proportionality: in the case of transactions of considerable value, it would be undesirable for the parties - once the acquisition has been finalised - to start quarrelling over trivial matters. A clause 'de minimiswell drafted" must specify what is to happen when the threshold is exceeded. Suppose, in the example given, that the harm amounts to 30,000 euros. It should be specified in the contract whether the purchaser is entitled to claim all of that harm (30,000 euros) or only the part that exceeds the threshold (and thus, in the example given, 20,000 euros may be claimed, 10,000 euros being deducted from 30,000 euros).
Sometimes the clause 'de minimis"is added, in contracts for the purchase and sale of corporate participations, the so-called '.basketball"(literally 'basket', or - more technically - collective threshold). This stipulates that damages may only be claimed by the buyer from the seller if the sum of the individual items of damage exceeds a second threshold (let us assume 100,000 euros). For example, in the case of a single item of damage with a value of 60,000 euros, in the presence of a "basketball" the guarantee - even if it exceeds the minimum limit of €10,000 - cannot be activated unless it is activated together with a second claim which, together with the first claim, exceeds the collective threshold. If, for example, two claims are brought (a first claim of EUR 60,000 and a second claim of EUR 60,000), then both contractual limits are reached. Even in the case of a "basketball"it should be properly provided for in the contract whether the purchaser is obliged to compensate the entire damage or only the part exceeding the second threshold.
The combined effect of a first threshold "de minimis" and a second threshold "basketball"is that the seller is only liable for a particularly serious single loss (in the example given: EUR 100,000) or for the sum of several losses that are not particularly serious, but also not insignificant (in the example given: several losses of at least EUR 10,000 that altogether reach the threshold of EUR 100,000).
A third type of recurring clause in acquisition contracts consists of a maximum threshold (cap) to the seller's equity liability: it is agreed that the seller's liability may in no event exceed a certain amount. This amount generally varies between 10% and 30% of the purchase price of the participation. A distinction is normally made in the contract between warranties relating to the "security" and other warranties. No security (e.g. security relating to the ownership of the participation by the seller and the fact that it is free of encumbrances) is applied to the former. cap. In this case, the indemnification obligation may even be higher than the purchase price of the participation (otherwise a maximum threshold corresponding to the purchase price is provided for). In contrast, for guarantees other than those pertaining to the 'security' it is usual to provide for a maximum amount of the indemnifiable harm.
Other clauses that have the effect of limiting the seller's asset liability vis-à-vis the purchaser are also to a greater or lesser extent to be found in contracts for the sale and purchase of corporate participations.
A frequent clause is that the seller is only liable in the case of 'major' (material) breaches of the guarantees it offers. The problem with this covenant is its vagueness, which tends to lead to disputes between the parties in its interpretation. As soon as, in fact, the buyer were to invoke a warranty, the first objection raised by the seller would be precisely that the alleged breach cannot be considered important. In order to avoid endless discussions and lengthy litigation, it is advisable for the parties to determine already in the contract (e.g. in definitions) the meaning of "importance" (materiality). The materiality clause goes hand in hand with clauses quantitatively limiting the seller's indemnity obligation: to write in the contract that the seller is not liable for damages of less than EUR 10,000 is nothing other than to introduce, in other words, a materiality threshold. From an operational point of view, it is certainly better to concretely indicate the value limit beyond which a warranty may be invoked than to introduce vague clauses on the materiality of the breach.
Another way of limiting the seller's obligation to indemnify is to exclude its liability where third parties may be held liable for the act alleged in the contract. The typical case is that of insurance companies that might cover the harm suffered by the buyer. In this hypothesis the buyer cannot sue the seller since the damage is covered by the insurance. These clauses may be structured in the sense that the buyer may not bring any action against the seller when there is a claim against the insurer, or in the sense that it may bring an action only for the part of the harm which is not covered by the insurance.
[1] On the contract for the sale and purchase of shareholdings, see AA.VV., Contracts for the acquisition of companies and businesses, edited by U. Draetta-C. Monesi, Milan, 2007; G. De Nova, The Sale and Purchase AgreementAn annotated contract, Turin, 2011; L. Picone, Equity Purchase Agreements, Milan, 1995; A. Tina, The Share Purchase Agreement, Milan, 2007.
[2] On the subject of buying and selling shareholdings, see, by way of example, M. Benetti, Transfer of shares: effectiveness, enforceability and exercise of corporate rights, in Company, 2008, 229 ff.; G. Carullo, Observations on the Sale of the Shareholding, in Jur. comm., 2008, II, 954 ff.; G. Festa Ferrante, Buying and selling shareholdings and purchaser protection, in Riv. not., 2005, II, 156 ff.; F. Funari, Transfer of shares and non-competition agreements, in Company, 2009, 967 ff.; F. Laurini, Rules on transfers of limited liability company shares and business transfers, in Soc. Rev., 1993, 959 ff.; F. Parmeggiani, On the subject of the voidability of the sale of shares, in Jur. comm., 2008, II, 1185 ff.; C. Punzi, Disputes relating to disposals and acquisitions of shareholdings and actions that may be brought, in Riv. dir. proc., 2007, 547 ff.; D. Scarpa, Presupposition and contractual balance in the transfer of a shareholding, in Just. civ., 2010, II, 395 ff.; A. Tina, Transfer of Shareholdings and Contract Cancellation, in Jur. comm., 2008, II, 110 ff.
[3] On the subject of guarantees in the purchase and sale of shareholdings, see F. Bonelli, Acquisitions of companies and reference share packages: the seller's guarantees, in Dir. comm. int., 2007, 293 ff.; P. Casella, The two substantial methods of guaranteeing the buyer, in Acquisitions of companies and reference share packages, edited by F. Bonelli and M. De Andrè, Milan, 1990, 131 ff, C. D. Alessandro, Sale of shareholdings and promise of quality, in Just. civ., 2005, I, 1071 ff.; A. Fusi, The sale of shareholdings and the lack of quality, in Company, 2010, 1203 ff.; L. Renna, Notes on a debated topic: the sale of shares or quotas in companies and the transferor's guarantees, in Giur. it., 2008, 365 ff.
[4] For private international law profiles on the transfer of shareholdings, see S. M. Carbone, Conflicts of Laws and Jurisdiction in the Regulation of Bundle Transfers, in Riv. dir. int. priv. proc., 1989, 777 ff.
[5] In matters of due diligence cf. G. Alpa-A. Saccomani, Negotiation procedures, due diligence e memorandum informative, in Contracts, 2007, 267 ff.; L. Bragoli, La due diligence legal in the context of acquisition transactions, in Contracts, 2007, 1125 ff.; A. Camagni, La due diligence in the acquisition and valuation of companies, in Riv. doc. comm., 2008, 191 ff.; C. F. Giampaolino, Role of the Due Diligence and burden of information, in AIDA, 2009, 29 ff.; L. Picone, Negotiations, due diligence and disclosure obligations of listed companies, in Bank, stock exchange, cred. tit., 2004, I, 234 ff.
[6] On the right of control and information of the shareholder, see the monograph by R. Guidotti, Shareholder's control rights in the limited liability company., Milan, 2007. See also, to confine oneself to some recent contributions, P. Benazzo, Controls in the limited liability company: singularity of type or homogeneity of function?, in Soc. Rev., 2010, 18 ff.; D. Cesiano, The (limited?) right of consultation of the member formerly-administrator in the limited liability company., in Company, 2010, 1131 ff.; A. Pisapia, Shareholder control in the S.r.l.: object, limits and remedies, in Company, 2009, 505 ff.; V. Sangiovanni, Right of control of the limited liability company shareholder and statutory autonomy, in Notariat, 2008, 671 ff.; V. Sanna, The scope of the control rights of 'shareholders not participating in the administration' in the limited liability company, in Jur. comm., 2010, I, 155 ff.; F. Torroni, Notes on the subject of the shareholder's powers of control in the limited liability company, in Riv. not., 2009, II, 673 ff.
[7] See, for this approach, U. Tombari, Problems concerning the alienation of the shareholding and the activity of due diligence, in Bank, stock exchange, cred. tit., 2008, I, 70 ff.
[8] Remaining outside the scope of the present study are questions relating to the possible liability for negotiations, which may be asserted by one of the parties in the event that the other party violates the canon of good faith enshrined in Art. 1337 of the Civil Code. On the subject of negotiation liability see recently, in a comparative law perspective, E. A. Kramer, Withdrawal from negotiations: a comparative sketch, in Resp. civ., 2011, 246 ff. (translated by R. Omodei Salè). See also G. Afferni, Pre-contractual liability and breakdown of negotiations: compensable damage and causal link, in Damage resp., 2009, 469 ff.; M. Capodanno, Letters of intent, duties in contrahendo and good faith in negotiations, in Riv. dir. priv., 2008, 305 ff.; C. Cavajoni, Unjustified withdrawal from negotiations and damages, in Contracts, 2007, 315 ff.; G. Gigliotti, Negotiations, minutes and good faith. Liability for unfair conduct, in Corr. mer., 2008, 302 ff.; G. Guerreschi, Pre-contractual liability: free to withdraw from negotiations but up to a certain point, in Damage resp., 2006, 49 ff.
[9] The latest financial statements of the company are generally attached to the contract (or interim financial statements are prepared and attached precisely for the purpose of the acquisition) and the seller warrants that such financial statements are complete, true and give a true and fair view of the company's economic, financial and asset situation, and assumes the obligation to indemnify in the event of any discrepancy between the financial statements and the true state of affairs. Balance sheet guarantees are also important for the determination of the company's purchase price, as the purchase price is normally determined as the sum of the company's net assets and a multiple of the latest profits. On balance sheet guarantees in takeover contracts see R. Pistorelli, The 'analytical' guarantees on balance sheet items, in Acquisitions, cit., 157 ff.
[10] On tax guarantees see A. Pedersoli, Fiscal, social security and ecological guarantees, in Acquisitions, cit., 147 ff.
[11] The guarantee generally concerns the validity of existing contracts and the fact that they will not be terminated as a result of the acquisition. In this regard, it should be noted that contracts to which the target company is a party sometimes contain a change of control clause, which entitles the contractual counterparty of the target to withdraw from the contract in the event of a change of ownership. Should the contract be of considerable economic significance, this could have a significant negative impact on the buyer.
[12] On the subject of merger invalidity, see the monograph by P. Beltrami, Liability for Fusion Damage, Turin, 2008. See also V. Afferni, Invalidity of merger and reform of capital companies, in Jur. comm., 2009, I, 189 ff.; A. Colavolpe, On the subject of invalidity of the deed of merger, in Company, 2008, 483 ff.; P. Lucarelli, Incongruous Exchange Ratio, Merger Invalidity and Remedies: A Relationship Still to be Explored, in Riv. dir. comm., 2001, II, 269 ff.; L. Picone, Invalidity of the merger and shareholder remedies, in Company, 1999, 458 ff.; V. Sangiovanni, Invalidity of merger and damages, in Resp. civ., 2010, 379 ff.
[13] Cass., 12 January 1991, no. 257It has ruled that fraud as a ground for avoidance of a contract may consist either in deceiving with false information or in concealing decisive facts or circumstances from the knowledge of others by silence or reticence.
[14] See, for example, Cass., 12 June 2008, no. 15706, which held that no proof had been provided that the seller of the participation had given false information to the buyer, and therefore rejected the claim for annulment of the contract for fraudulent intent.
[15] Cass., 19 July 2007, No. 16031, in Jur. comm., 2008, II, 103 ff., with a note by A. Tina; in Jur. comm., 2008, II, 1176 ff., with a note by F. Parmeggiani; in Giur. it., 2008, 365 ff., with a footnote by L. Renna, stated that false or omitted statements of fact may entail the obligation for the mendacious or reticent contracting party to pay damages if the other party would have nevertheless determined to conclude the deal but on different terms.
[17] Cass., 19 July 2007, No. 16031, in Jur. comm., 2008, II, 103 ff., with a note by A. Tina; in Jur. comm., 2008, II, 1176 ff., with a note by F. Parmeggiani; in Giur. it., 2008, 365 ff., with a note by L. Renna.
[18] With regard to case law on the merits, we can point out Trib. Roma, 16 April 2009, in Company, 2010, 1203 ff., with a footnote by A. Fusi, who ruled that a contract for the assignment of company shares is voidable when there has been a specific promise by the assignor as to the assets of the company whose shares are involved. According to the court, Roman quality of the thing is anything that may allow it to be enjoyed better and more profitably, and it is therefore plausible that the solidity of the social enterprise, reflected in the value and profitability of the share, constitutes a quality of that share. In the present case, an express guarantee had been given as to the company's assets, which, however, turned out to be different from what had been declared: in particular, the company's very serious debt situation had led to the loss of its entire share capital, whereas the assignor had declared that such capital existed. The case dealt with by the Court of Rome differs from the case dealt with by the Court of Cassation precisely because, in the case decided by the Roman court, there was a specific clause on the company's assets.
[19] On the duration of warranties in acquisition contracts see S. Erede, Duration of guarantees and consequences of their breach, in Acquisitions, cit., 199 ff.
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