In Practice

Sharing advice and practical solutions

Our private equity practice - at the heart of Europe

May 2010

"Combining local insight with and international perspective," Allen & Overy has established a leading position in Central Europe and Russia and is successfully serving its international clients base. Chambers Global – CEE, 2009 edition "They know the region inside–out and have an excellent mixture of international and local partners," said clients of these "bright, tough lawyers." Chambers Global - CEE, 2009 edition "I think that office is fantastic - they tell what is in your best interests and what is the best answer." IFLR 1000 – CEE, 2010 edition The firm's regional network is made up of topnotch lawyers who are able to "uncover the various nuances of local law and link that into the wider picture." Chambers Global – CEE, 2009 edition Despite the large number of private equity investments already made over the years in Central and Eastern Europe (CEE), this is still a region with huge potential. Although some CEE countries have been badly affected by the current economic crisis, there are still some, such as Poland, the Czech Republic and Slovakia which are still held up as comparatively resilient, and well-positioned to forge ahead early on any wider global economic upturn. There are still plenty of opportunities in CEE to make investments into growing businesses with great potential - businesses which need the capital and the know how that private equity brings to unlock the value inherent in that potential.

Although, as predicted, 2009 was slow for private equity deals, this has started to change and in some countries, such as Poland and Romania, interest in deals is strong and there have also been large and high profile deals in the Czech Republic, for example. The successful private equity investor is going to be that which is the most "well-oiled" operation, with the ability to move fast when opportunities arise, and to adapt quickly with innovative solutions to rapidly evolving markets. To do this, the investor needs to know the pitfalls and quirks in a particular jurisdiction, and needs to be able to structure, present and complete the deal in the shortest possible time. This requires a comprehensive understanding of the local environment in which the Target is operating, at a "deal culture" level as well as at a legal level. Allen & Overy can offer you: ¡ expert knowledge and assistance to enable you to move fast on deal opportunities, while at the same time managing risk through careful structuring and thorough preparation; A&O's global private equity know how base, practitioners and transaction experience, whether it is PE, general M&A, financing or sector specific specialisation; innovative solutions to legal problems that we will have almost certainly encountered in the past; familiarity with private equity fund structures and the restrictions that affect them, and their implications for deal execution; flexibility on team structures: either leading a deal out of London with local capability, or led locally with input from London (or elsewhere) as required.





© Allen & Overy LLP 2010


26/06/2003 P. As a result. In the Czech Republic. in Poland and in the Czech Republic tax grouping is sometimes achieved through a partnership structure. Our comments below assume that at some stage. Czech financial assistance law also apply to Czech limited liability companies. In Poland a joint-stock company may. there are other disallowance rules that must be carefully addressed to ensure a tax deductibility of financing costs. no group taxation currently exists in the Czech Republic. In addition it must examine the debtor's solvency. Offset of interest on debt in an acquiring vehicle against taxable profits in a Target can be achieved in many countries by: (i) incorporating the acquiring vehicle in the relevant jurisdiction. These restrictions (except for 2 1 6:1 if the borrower is a bank or an insurance company Council Directive 2003/49/EC of 3 June 2003 on a common system of taxation applicable to interest and royalty payments made between associated companies of different Member States [published in the Official Journal L 157 . The rules on financial assistance are invariably strict. even if the highly leveraged deals of the past are unlikely to return. as defined by law. © Allen & Overy LLP 2010 2 . Some investors are choosing to structure their investments through 100% equity. finance the acquisition of or subscription for its shares. but there are several important question marks as to whether they will work. in Hungary. many (joint stock company) CEE Targets may not provide assets as security and/or give a guarantee as collateral under the acquisition loan. In Hungary and Romania the rules apply not only to loans and credits from related parties but also to those from any other unrelated companies. making an advance payment or establishing security interest. In most countries. but only to the extent that such financing qualifies as a ''back-to-back'' arrangement. usually setting a related-party debt to equity ratio of 3:1 (Poland/Hungary/Romania) or 4:11 (Czech Republic) or 6:1 (in the Slovak Republic these thin capitalisation rules apply as from 1 January 2009). either directly or indirectly. In Romania. there are financial assistance rules in relation to the acquisition of shares in 3 a joint stock company . (2) Securing the acquisition finance Rules on financial assistance vary from country to country in CEE. the finance markets will return to some semblance of normality. but not a limited liability company. Nevertheless. We hear varied reports about the availability of finance and conditions are tough. interest expenses on loans and credits from other entities than financial institutions are not deductible over certain thresholds. which are applied before considering the debt to equity ratio. Hungary or Slovakia. 0049 – 0054 as amended]. some fundamental questions will need to be answered. A reserve capital from the funds planned to be paid as dividends has to be created. in particular by granting loans.Allen & Overy I In Practice I May 2010 10 things to think about when doing private equity deals in CEE (1) Structuring the acquisition finance In current markets. such as: Will it be possible for the SPV and Target to offset interest on debt against taxable profits? Are there any thin capitalisation rules in the relevant jurisdiction? In most of the countries in CEE thin capitalisation rules apply. with some room for structural planning based on the percentage of voting rights. the financial assistance rules will not apply where financing is provided by a bank. If a joint stock company finances the acquisition of its own shares. and (ii) merging the Target into the acquiring vehicle as soon as it has acquired the Target. Following the latest amendments to the 2nd Company Law Directive there is no equivalent of the old UK "whitewash" procedure but a number of steps may be carried out which are similar. Further. This is due to the transitional period for implementing the Interest and 2 Royalties Directive. However. in CEE withholding tax may still be an issue which needs to be dealt with under double tax treaties. In practice. In Poland the provisions relating to group taxation are very strict and only a few tax groups have been created so far. Other required formalities include a prior resolution of the company's shareholders and management report which has to be published and filed with the registered court. certain exceptions were introduced allowing financial assistance. When debt is to be introduced into the capital structure. Unrelated financing in the Czech Republic is also affected. Contrary to many EU countries. 3 Although a joint stock company has limited liability. some of the comments below are still relevant in the context of all equity deals and minority "old development capital" style deals. The definition of who is a related person for these purposes varies. In Poland. financing a transaction is not easy. except financial institutions. certain structures allow for intra-group lending without thin-capitalisation restrictions. However. it must do so on arm’slength terms and for a fair price. the main effect of which will be to affect the deductibility of interest paid on debt. these are the terms commonly used to differentiate the different types of company in the region.

it may not be enough to rely on the traditional drag-along and call option clauses in the shareholders' agreement or on taking "irrevocable" powers of attorney. In the Slovak Republic. Subsequently. and as managers become more financially aware. In a situation where there is the possibility of a "genuine" management buy-out. this is not straightforward. at completion of the acquisition. this cash cannot be used to service the acquisition debt. Capital gains derived by a seller other than an individual may be exempt from tax under the Czech participation exemption rules if the seller is a qualifying parent company. Dividends payable to a qualifying parent company are exempt under the transposed provisions of the EU Parent-Subsidiary Directive (in line with respective ECJ case law. because of the rules against financial assistance applicable in the Czech Republic. the proceeds from the sale of an interest in the Target received by a seller who is an individual are exempt from tax (capital gains are treated as ordinary income for tax purposes) where the seller has held the interest for a certain period of time. or actions for the benefit of a company's employees or the employees of an affiliated company which aim to facilitate the acquisition of the company's shares. particularly IRR demands. generally depending on the legal form of the Target. (5) Structuring the management participation Some CEE jurisdictions have rigid corporate laws which can. while those paid to legal entities are imposed by different quotas or not imposed at all depending on the participation quota and the duration for which the participation was held. but with respect to shares acquired on or after 1 January 2008 the size of the shareholding also needs to be considered. whether as a bad leaver or as a good leaver. (4) Management participation In the Czech Republic. (3) Tapping cash in the Target Though this used to be the case in Slovakia. Similarly. the buyer will have to raise additional funding for buying the excess cash. make it difficult to ensure enforceability of the key arrangements between the investor and the management.Allen & Overy I In Practice I May 2010 the reserve capital requirement) do not apply to ordinary transactions conducted by financial institutions. the managers are not already selling shareholders. the Target is merged into the SPV. in some CEE countries private equity acquisitions commonly employ a local SPV in acquiring the shares of the Target. © Allen & Overy LLP 2010 3 . The minimum holding period varies. this no longer applies if the seller has acquired an interest in the Slovak company on or after 1 January 2004. it will be critical for the investor to ensure that it can enforce dragalong rights arising on the investor's exit from the company. For example. The seller either has to physically hand over share certificates to the new owner or to initiate a change of the owner in the registry of book-entered shares. only the shares in the Target and/or in the acquiring SPV can be used as collateral (with some minor exceptions). it is possible that managers in CEE could be cautious when offered share participation in the Target. As dividends payable to an individual shareholder are subject to final withholding of 15% in the Czech Republic.e. this problem is less apparent. Generally. try to accumulate cash (distributable reserves) in the Target with an aim to increase the purchase price and benefit from the exemption. As a result. an early distribution is possible provided that the minimum holding period is met). the assets of the Target pass into the acquiring entity and can be pledged in favour of the banks. i. liquidation preferences and other mechanisms that private equity investors would tend to see as standard. the investor will want to keep control over the destination of the shares if the manager leaves the company. In Romania dividends paid to individuals are always imposed. However. in some jurisdictions. In common with many other jurisdictions. Once the merger is completed. the cash in the Target can be used only once the merger is completed. continuing management are still quite wary of typical incentivisation methods offered/demanded by private equity investors. as soon as possible after the acquisition. Therefore. However. If the acquisition structure involves a merger of the Target into the acquisition SPV. Unless this issue is carefully addressed. Offering shares to the management may therefore require much more explanation and negotiation than Western private equity houses may be used to from other markets. dividends payable to individual shareholders are exempt from income tax. the individual planning a sale will instead of taking a preclosing dividend. Dividends payable to a qualifying parent company are exempt under transposed provisions of the EU ParentSubsidiary Directive. without careful drafting. The ability of the investor to access managers' shares may need to be secured by additional structures such as an escrow or custody arrangement. and in Poland and Hungary does not apply at all. As time goes by. This level of security is normally not considered sufficient by the banks and they tend to request that they can access also the assets in the Target. as any transfer of title requires the involvement of the seller in cases where the shares have been issued.

We expect that the recent weakened level of activity in respect of exit IPOs on the Warsaw Stock Exchange will end in due course. (10) And finally…some practical points not necessarily peculiar to private equity deals Heads of Terms/LOI/Term Sheet It is also vital to take local legal advice before signing any non-binding heads of terms so as to avoid © Allen & Overy LLP 2010 Controlling interests (or "letting go"…) . Where operating subsidiaries are owned by a holding company in which the private equity investor and the shareholder managers share ownership. This is not possible in most CEE jurisdictions (Hungary and Poland being notable exceptions. and of the most effective way to make veto rights enforceable in practice. the private equity investment was seen only as a source of funding comparable with bank finance (though this perception has changed recently since bank finance is of course much more difficult to obtain). If the investor is willing to take a minority stake as well as a minority on the board. Often. largely because the Target is not legally able to commit itself to issuing new shares to the junior lenders at some point in the future. since the area of focus practically may not be with regard to decisions made by the holding company. with the private equity investor and the management having different classes of shares. it will need to be considered whether there would be withholding tax on preference share dividends. The shareholder managers will also expect to be able to keep control at both shareholder and board level. In many jurisdictions in CEE. the investor and the management alike will often be thinking of an IPO as a potential form of exit. Given the relative caution of many CEE managers. although it may be possible to provide for liquidation preferences in other ways. for example. In addition to that. Generally preference shares enjoy the same tax treatment as ordinary shares. it may well be worthwhile to address up front with the managers issues regarding responsibility for statements made in a prospectus. it is essential to have a detailed understanding of the powers of the board and the general meeting. often involving the issue to the junior lenders of warrants which give them the right to subscribe on favourable terms for a portion of new shares in the Target. guaranteed levels of dividend or certainty of payment on redemption may not be possible. (8) 4 As in other jurisdictions. leading to different cost/benefit analyses and a lower valuation threshold for a listing to be regarded as viable. these classes may rank equally on general economic and voting rights. was the increasing level of activity on the Warsaw Stock Exchange (by far the largest and most actively traded stock exchange in CEE). usually on the investor's exit. It is then necessary to create an alternative structure tailored to the specifics of the particular deal in order to achieve a similar outcome. but may provide for a liquidation preference for the private equity investor. however. which attracted significant attention from across the CEE region: the costs of obtaining a listing are presently much lower than those in London or Frankfurt. (9) Exits Leveraged private equity acquisitions sometimes include a mezzanine financing. (7) Mezzanine warrants Despite a strong entrepreneurial culture.Allen & Overy I In Practice I May 2010 Local practice varies and this should be addressed up front. redeemable preference shares with. (6) Preference shares and classes of shares Many private equity structures in Western Europe involved the Target issuing redeemable preference shares and/or shareholder loans to provide further leverage against the ordinary shares. Investors may be less willing to rely only on contractual undertakings from the holding company to deal with this issue. as well as Romania). In some jurisdictions in CEE. and the new environment in CEE public markets following implementation of the Prospectus Directive. but any surplus value beyond that will accrue to the ordinary shares and generate high rates of return on equity. although preference shares are possible. the concept of mezzanine warrants does not exist. Other equity structures may involve the use of different classes of shares. In Poland. it may be important to address these issues of control in more detail. which in certain circumstances are able to commit themselves to issue new shares in the future. For example. The value of the ordinary shares may be potentially low until the debt and preference shares are repaid. A particularly relevant factor in CEE up until the current liquidity crisis. the concept of mezzanine warrants has recently been developed in practice in relation to joint stock companies. but reductions in withholding taxes on dividends under relevant double taxation treaties may be conditional only on holding a qualifying share in voting rights instead of equity capital. shareholder managers in CEE can be quite reluctant to cede control of the business that they have built up themselves and may need to be convinced of the benefits of an approach from a private equity investor. but the manner of the taking of decisions by the subsidiaries.

it is common. to avoid agreeing to the concept of "equal force" translations. The treatment of remedies for breach of warranty will vary depending on the choice of governing law and there are also concepts which may not necessarily exist under. Governing law Sellers will often assume that the governing law will have to be the local law. Governing language It is sensible. with an in-depth understanding of local issues. The rules can be complex. This is not the case although unavoidably many of the fundamental provisions of the SPA will need to be compliant with local laws. In some CEE jurisdictions. and suspensions on voting rights until approval is obtained for a prospectus can create problems for unwary investors." Chambers Global 2010 Hungary Clients feel they can trust their businesses with the firm. rules prohibiting purchases in the offer period or within a stated period after the offer at a price which is above the offer price (or requiring the bidder to pay all accepting shareholders a higher price). English law. in many CEE jurisdictions. IFLR1000 2009 Romania Clients say the team is "commercial and exceptionally responsive. Similarly. Czech Republic "The group is first-class in every respect.Allen & Overy I In Practice I May 2010 inadvertently creating any unexpected binding obligations." Chambers Global 2010 Slovakia Clients appreciate the outfit's "tailored mix of international and local knowledge" and the firm's consistent adherence to "top-quality standards. agreeing to draft or negotiate documents in more than one language can add greatly to both time and cost and should be avoided if at all possible. restrictions on buying shares outside of the public offer process for certain periods of time. Listed companies As private equity bidders also broaden their search to include listed companies." Chambers Global 2010 Poland "The firm houses many sector-specific experts and always retains international service levels.g. because the transaction involves a local company. enabling a party to insist on entering into a proper sale agreement." Chambers Global 2010 © Allen & Overy LLP 2010 5 . to include contractual penalties as a "stick" to encourage performance. and enforceable. The danger is that such an agreement can be binding. and frequently the rules on pricing. care should be taken to look at thresholds above which a buyer may be obliged to make a mandatory bid. since this can lead to uncertainty and great additional cost. "I would say they were a safehands firm and very professional. e. if possible. For example. there exists the concept of an "Agreement on Future Agreement". " says one. This kind of agreement sets out the basic terms of an agreement which is later to be signed "in full". as excellent in Prague as anywhere else.

Allen & Overy also advised Bank Austria Creditanstalt AG on this sale process. the first project of its size and nature in the Czech Republic that we are aware of. a UK private equity house.B. The combined corporate and banking teams of Allen & Overy in Prague. In the Czech Republic. We are also proud to have advised Enterprise Investors on their acquisition of a 47. We are also proud to have advised Apollo Real Estate Advisors L. the leading manufacturer of human insulin.. making it the largest M&A transaction in Bulgaria and one of the largest leveraged finance transactions in C&SEE.. Prague. Milan. and leveraged finance techniques. that private equity has something to offer a growing business in terms of knowhow and experience. and (ii) the exit at a price of USD 628 million. but also because of the confidence which Enterprise Investors showed in the Slovak market for private equity deals and the underlying message to Slovak business.08 billion. was subsequently listed on the Warsaw Stock Exchange. 6 and putting in place new security arrangements for the lending banks in a very tight timeframe to enable a smooth completion. the largest private equity deal to date in Slovakia and one of the largest and most successful in CEE. as well as capital. selling its products mainly to leading multinationals for use in personal hygiene products. We have also advised K.s.A. For the deal. We advised the consortium for over four years during its investment. London. The deal was particularly interesting because of the necessity to secure firm commitments on financing in what were becoming more challenging credit conditions. which has been slow to provide the same number of deals as the rest of Central Europe. as well as the acquisition of a further 25% from minority shareholders. The transaction required the acquisition vehicle to raise senior debt financing from a syndicate of banks. Bucharest. We have a presence in five key centres in Central Europe: Warsaw. In Slovakia. one of our more memorable deals was when we advised a consortium of over ten private equity investors led by AIG on: (i) the USD 180 million acquisition of a 36% stake in Orange Slovensko. equity capital markets. Poland's largest educational publisher as well as Société Générale Asset Management Alternative Investments on its acquisition of a controlling stake in Konsalnet S. This was one of the first Western European style complex financing structures introduced to the Czech market. In Poland we recently advised Advent International in relation to a public tender offer to acquire 100 per cent of Wydawnictwa Szkolne i Pedagogiczne S. with the entire equity valued at EUR 1. Warsaw and Luxembourg were handling all aspects of this complex deal. (C. in particular satisfying the regulator on a very public offer. followed by a mandatory bid for the remaining shares. a.s.. The deal comprised an acquisition of a 65% stake from Novator and Viva Ventures GmbH. it involved advice in relation to the exit by a private equity investor through a secondary public offering.P. We have advised on a number of private equity deals in Central and Eastern Europe which have been interesting and challenging in a number of ways. Pegas became listed in Warsaw and Prague. Bioton S. The target is one of the leading European manufacturers of non-woven textiles. The deal was therefore not only interesting because of the usual transactional and structural complexities involved. mezzanine financing. There were also a number of interesting issues to resolve on the mandatory bid.. One year after the acquisition. Budapest.A. and Bank Austria Creditanstalt AG recently exited from the investment by selling its stake through an accelerated book-building process to domestic and foreign financial investors.A.) from five Slovak utilities companies.) Nominees Ltd.A.P on one of the most © Allen & Overy LLP 2010 . The deal was interesting since. a multilevel structure of acquisition vehicles had to be set up in a number of jurisdictions. We advised AIG Capital Partners on its acquisition of a majority stake in Bulgarian Telecommunications Company AD. to Alta Capital Partners. a Polish security service provider. The transaction represents something of a watershed in the Slovak private equity market. as well as resolving some complexities related to the repayment and releasing of security on existing finance drawn down by the target.661 billion.I.Allen & Overy I In Practice I May 2010 Allen & Overy's private equity practice in CEE Our Central and Eastern Europe (CEE) dedicated private equity practice combines expertise across the board in M&A. Bratislava. Secondly.65% stake in the leading Slovak electrical retail group NAY. as well as several shareholder loans. in practice it involved a mezzanine element and mezzanine structures which at that time were not commonly used in Poland. a confectionary company. The acquisition price for the 65% stake was EUR 1. despite being structured as an equity investment. We also advised Bank Austria Creditanstalt AG in connection with its investment in Bioton S. Mieszko S. LP. We have one of the largest practices in the CEE enabling us to deal with the most complex and high-profile transactions.C. (a private equity fund from Franklin Templeton Investments group) on the sale of its stake in Z.A. Allen & Overy advised Pamplona Capital Partners I. a. on a unique leveraged buy out of Pegas.

a leading chain of medical clinics in Romania. sold part of its interest in the company. as a result of which Silver Screen will be incorporated to the Multikino network of cinema theatres and the private equity fund will become a shareholder in the combined Multikino group. to Carrefour Romania. a leading company operating in the construction materials business. We advised Enterprise Investors in relation to the loan to be raised for the acquisition of the Simcor Group. In Romania we recently advised Advent International Corporation in relation to the acquisition of a majority stake in Centrul Medical Unirea. and in relation to the acquisition of Macon S. This was the first equity deal following the implementation of the Prospectus Directive in Hungary. we are already advising on or have advised on a number of other private equity deals in recent months. The structure included a multi-jurisdictional restructuring of debt. (State Printing House plc) where Royalton. Állami Nyomda Nyrt. As the Romanian private equity market hots up. The transaction involved seven sellers (four individuals including the founder of the business (back in 2001) and three financial institutions) and five buyers (PEF V investment fund and its new management team).Allen & Overy I In Practice I May 2010 important events of 2008 in the Polish media market. In order to maximise the tax benefit for the selling shareholders. through the sale of Artima (now holding 21 supermarkets).A. We also advised Enterprise Investors on the EUR 17 million acquisition of Artima. from the private equity company 3i and the founders of the business in a competitive sale purchase.. a FMCG retailer holding at that time a chain of 14 supermarkets in 13 cities from the western part of Romania. In Hungary we advised on the IPO of Állami Nyomda Nyrt. a private equity investor. was first listed on the Budapest Stock Exchange and then offered its shares to the public. © Allen & Overy LLP 2010 7 . At the end of 2007 we advised Enterprise Investors on its EUR 55 million exit.

com POLAND Jarosław Iwanicki Tel +48 (0)22 820 6190 James Graham .pedzich@allenovery.Allen & Overy I In Practice I May 2010 Key contacts If you require advice on any of the matters raised in this Mirosław Fiałek Tel +48 (0)22 820 6224 Balázs Sahin-Tóth +36 1 429 6003 balazs.lengyel@allenovery.Finance Tel +421 2 5920 2423 Dragoş Radu Tel +40 31 405 7781 Mihai Ristici Tel +40 31 405 7785 mihai.graham@allenovery. CZECH REPUBLIC Jane Townsend Tel +420 222 107 125 jane.Finance Tel +420 222 107 188 Katarzyna Terlecka Tel +48 (0)22 820 6169 8 © Allen & Overy LLP 2010 SLOVAK REPUBLIC Hugh Owen Tel +421 2 5920 2414 Robert David .com Arkadiusz Pędzich .com Vojtech Pálinkáš Tel +421 2 5920 2421 vojtech. please call any of our partners or your usual contact at Allen & HUNGARY Zoltán Lengyel +36 1 429 6033 zoltan.palinkas@allenovery.Finance Tel +40 31 405 7784 ROMANIA Costin Tărăcilă Tel +40 31 405 7782 Prokop Verner Tel +420 222 10 7140 prokop.Finance Tel +48 (0)22 820 6157 Renátus Kollár .com Alexandru Retevoescu .radu@rtprallenovery.Finance +36 1 429 6048 james.

Beijing. Tokyo. Sydney. Riyadh (associated office). Doha. In this document Allen & Overy means Allen & Overy LLP and/or its affiliated undertakings. London.allenovery. New York. Dubai. Paris. Frankfurt. Bucharest (associated office). Moscow. Bangkok. © Allen & Overy LLP 2010. Mannheim.bednarovicova@allenovery. or an individual with equivalent status in one of Allen & Overy LLP's affiliated undertakings. Warsaw. Budapest. Munich. Hong Kong. Rome. Allen & Overy maintains a database of business contact details in order to develop and improve its services to its clients. Allen & Overy LLP or an affiliated undertaking has an office in each of: Abu Dhabi. please contact veronika. Milan. The term partner is used to refer to a member of Allen & Overy LLP or an employee or consultant with equivalent standing and qualifications. © Allen & Overy LLP 2010 9 . If any of your details are incorrect or you no longer wish to receive publications from Allen & Overy. Bratislava. Luxembourg. Athens. Amsterdam. Madrid. Singapore.Allen & Overy I In Practice I May 2010 Allen & Overy LLP One Bishops Square London E1 6AD United Kingdom Tel +44 (0)20 3088 0000 Fax +44 (0)20 3088 0088 www. Prague. Shanghai. Düsseldorf. This document is for general guidance only and does not constitute definitive advice. São Paulo. Brussels. The information is not traded with any external bodies or organisations.

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