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How the crisis changed M&A
Armen Khachaturyan, senior partner of Asters looks at recent changes to corporate law
The global financial crisis significantly affected cross-border M&A transactions in Ukraine. The overall value of M&A declined substantially in 2008 and 2009. According to M&A-Intelligence, 87 major M&A transactions with a total value of $21.49 billion were announced in 2007. In 2008 this figure dropped to 36 transactions with a total value of $3.69 billion, rising again in 2009 with 37 deals valued at $13.94 billion. The 2009 increase was primarily due to the acquisition of shares in a leading Ukrainian mobile telecom operator, Kyivstar, by the Russian VimpelCom for $13.08 billion. This deal was a part of a larger transnational restructuring between ultimate owners of Kyivstar and VimpelCom, Norway's Telenor and Russia's Alfa Group. Another major deal was the acquisition in early 2010 of one of the major industrial groups, Industrial Union of Donbas (ISD), by a group of Russian investors funded by Vnesheconombank, which reportedly valued ISD group at approximately $2 billion.
Not only the volume of mergers and acquisitions, but also economic motivation for most of them changed because of the crisis. A substantial decline in the price of assets also made 2009 the year to acquire businesses at a substantial premium for those who could afford it. As in other countries, in 2009 M&A deals in Ukraine were often motivated not by desire to maximize returns but rather by the need to shore up businesses in a very challenging environment. Therefore, in addition to the transfer of corporate rights and assets attached to them, today in Ukrainian M&A deals the parties pay much greater attention to the distribution of the risks associated with the acquisition target or their merger partners. The distribution of such risks became the main subject of negotiation in many M&A deals.
Given that the Ukrainian economy shows signs of substantial improvement in 2010, with GDP growth expected at a 3 to 4 percent rate and international business groups (with Russia taking the lead) show keen interest in Ukrainian assets, especially in the energy and metallurgy sectors, it is reasonable to expect a substantial rise in M&A activity in 2010.
In the past two years the Ukrainian government faced serious economic problems resulting in, among other things, nearly 40 percent depreciation of the national currency, hryvnia. To cure the situation, on 23 June 2009 the Parliament adopted the Law Amending Certain Laws of Ukraine to Overcome Adverse Consequences of the Financial Crisis, which came into effect in November 2009 (the AntiCrisis Act). The Anti-Crisis Act provided that monetary investments in Ukraine made by foreign investors had to be: in the Ukrainian currency; through investment accounts opened with a Ukrainian bank; and that all foreign investments in Ukraine had to be registered with the central bank (National Bank of Ukraine). These requirements are currently being phased out.
In April 2009 the new Joint-Stock Companies Act (the JSC Act) became law. Generally, the Act is regarded as a serious step forward in the development of Ukrainian corporate law. However, the new law suffers from a number of inconsistencies which businesses and the State Securities and Stock Market Commission (the SEC) are still in the process of ironing out. There are also a number of unreasonably stringent provisions, for example the requirement that all joint-stock companies with more than 100 shareholders be listed on a stock exchange. The Act introduces major and mostly positive changes in all aspects of organization and corporate governance of joint-stock companies (JSC), including protection of minority shareholders and regulation of M&A transactions.
The JSC Act prescribes detailed procedures for statutory mergers, demergers, and spin-offs. Any merger plan has to be approved by the supervisory boards of all participating companies, audited by an independent consultant, and approved by general shareholder meeting of each participant. A JSC can only merge with another JSC and not with a company incorporated in any other form. Similar limitations apply to demergers and spin-offs.
Among other changes relevant to M&A, the Act for the first time in Ukrainian law explicitly prohibits the
management of a JSC which is the acquisition target to create obstacles for the buyer. However, the exact scope of this prohibition remains to be clarified.
The JSC Act no longer recognizes pre-emptive rights of existing shareholders in public offerings of new shares. Under the new law, pre-emptive rights are only recognized in new private placements.
Although most major businesses, in particular former state enterprises and banks, are incorporated in the form of JSCs, in terms of absolute numbers the most popular corporate form by far is a limited liability company (LLC). While both the Business Associations Act and the Civil Code contain rules regulating LLCs, LLCs are subject to much less stringent regulation overall than JSCs, including in M&A matters. However, their major handicap is that LLCs cannot have more than 10 members. In December 2009, the draft Limited Liability Companies Act was introduced in Parliament. Similar to the JSC Act, one of the important changes that may be introduced if the bill becomes law is a more detailed regulation of M&A transactions.
Governing law accepted for cross-border M&A
As a matter of practice, the parties in most major crossborder M&A transactions in Ukraine choose English law as the law applicable to their contracts. Few large crossborder M&A contracts are governed by Ukrainian law. English law is perceived, not unreasonably, as more predictable and consistent than Ukrainian law.
Under Ukraine's Private International Law Act the parties to M&A transactions are free to choose the law that will be applied to any contract in their transaction provided that Ukraine's ordre public (fundamental principles of the legal system) are not offended by the application of foreign law. The Private International Law Act provides that any refusal to apply foreign law cannot be based on mere differences in legal, political or economic systems between the foreign state and Ukraine.
The High Commercial Court in its Recommendations of 28 December 2007 (the Recommendations) opined that the application of foreign law to corporate law matters in Ukrainian companies offends Ukraine's ordre public. It advised lower commercial courts to hold null and void any shareholder agreement between members of a Ukrainian company which is governed by foreign law. For this reason such agreements have sometimes been declared unenforceable in Ukraine, even where their enforceability was confirmed in international commercial arbitration. This position of the High Commercial Court has been strongly criticized by many academics and practitioners, but, notwithstanding this negative reception, the controversial Recommendation remains on the books.
Ukraine will generally recognize a foreign court judgement, if there is (i) an international treaty between
About the author
Armen Khachaturyan is a senior partner with Asters and head of the banking,finance and securities practice. He has extensive banking, finance and project finance experience across various industries, particularly in relation to capital markets and lending transactions. He has led his team on several Eurobond issues and IPOs. His practice includes M&A, general corporate advice, currency control, securities, energy, privatisation and employment law. Armen frequently advises foreign and Ukrainian clients on cross-border legal planning and regulatory issues related to foreign investment. He graduated from the National Taras Shevchenko University of Kyiv and the International Law Institute in Washington, DC. He is an LLM graduate of Yale Law School.
Mr. Khachaturyan is recognized as the world's pre-eminent banking & finance and M&A practitioner by Expert Guides. He is also featured in The Euromoney Guide to the World's Leading Lawyers 2009the Chambers Global, The World's Leading Lawyers for Business 2009, PLC Which Lawyer? 2009,IFLR1000and The Guide to the World's Leading Financial Law Firms 2010. In 2008 he was named Partner of the Year by the Ukrainian legal magazine Yuridicheskaya Practika.
Armen's recent projects include advising sellers in Aval Bank's $1.028 billion equity sale to Raiffeisen International Bank-Holding AG; advising Swedbank in$735 million acquisition of controlling equity in OJSC TAS-Kommerzbank; advising Severstal in acquisition of OJSC Dneprometiz and in a tender to acquire controlling equity in Krivorizhstal; advising lead-managers (Morgan Stanley and Co. International Limited, ABN AMRO Bank N.V.) in $250 million Eurobond offering by OJSC "Myronovskiy Hliboprodukt"; advising Citigroup and Standard Bank in the $100 million Eurobond offering by Forum Bank; advising Dresdner Kleinwort Wasserstein, JP Morgan, and UBS Investment Bank in connection with the City of Kyiv's$150 million Eurobond issue.
Armen is a member of the International Bar Association, Ukrainian Bar Association, the Kyiv City Bar Association and the National IPO Committee of Ukraine. He is also on the advisory board of the IBA's Law Firm Management Committee, the foreign advisory board of the Ukrainian-American Bar Association and the board of directors of the US-Ukraine Business Council.
Asters, founded in 1995, is one of Ukraine's leading law firms. It has developed a western style of egal practice that consistently meets the highest standards of international clients. Asters is consistently highly recommended in finance, M&A, corporate and commercial areas of practice by Chambers Global, PLC Which Lawyer? Yearbook, IFLR 1000 and The Legal 500.
Asters provides the full scope of legal services in Ukraine, including mergers and acquisitions, banking law, finance, securities, corporate and contract law, investments, antitrust and competition law, litigation, international arbitration, international trade and customs law, real estate and land law, natural resources, energy, communications law, internet law, intellectual property, labour and employment and taxation.
Ukraine and the country in which such judgment was rendered or (ii) established reciprocity. Ukraine does not have such treaties with most western jurisdictions and it is not clear whether reciprocity is established with such jurisdictions regarding enforcement of judgments as the concept of reciprocity was introduced in Ukrainian law only in the beginning of 2010 and its interpretation and implementation are not yet available. Thus essentially Ukraine's network of judgment recognition treaties has extended primarily to former Soviet bloc countries. Where Ukrainian courts have jurisdiction over a dispute, they may refuse to enforce choice of forum agreements which establish exclusive jurisdiction of foreign state courts (as opposed to foreign arbitration) over the dispute and which purport to limit the ability of a party to bring action in Ukraine.
This means that if the parties to an M&A transaction wish to exclude some or all issues in their relations from the jurisdiction of Ukrainian state courts, they should resort to an arbitration clause or arbitration agreement. Given that Ukraine is a party to the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards, arbitral awards made in a state that is also a party to the New York Convention can be recognized and enforced in Ukraine.
However, foreign awards are only enforceable in Ukraine upon their recognition by a competent Ukrainian court. The High Commercial Court in their Recommendations advised lower commercial courts that foreign awards that touch upon matters of corporate governance between members of a Ukrainian company or between them and the management should not be enforced. This opinion of the High Commercial Court appears to apply only to corporate governance matters between shareholders or between shareholders and company management and does not apply to disputes concerning purchase, sale and other transfer of shares or other securities in Ukrainian companies.
Payments through investment accounts
As mentioned above, in 2009 the Anti-Crisis Act required that all monetary investments in Ukraine be
made by foreign investors only in Ukrainian currency and through the so-called "investment accounts" opened with Ukrainian banks. Any direct acquisition of equity in a Ukrainian company, even if both the seller and the buyer were abroad was considered an "investment" in Ukraine for these purposes.
This meant that if a buyer was a foreign person then in order to pay the purchase price the buyer had
to: (i) open an investment account at a Ukrainian bank (ii) transfer from the buyer's own account abroad foreign currency funds to the investment account (iii) instruct the Ukrainian bank to convert the buyer's funds into Ukrainian currency in the inter-bank currency market and (iv) instruct the bank to transfer the Ukrainian currency funds from the buyer's investment account to the seller's bank account. The foreign seller essentially had to repeat this process in reverse.
On 27 April 2010 the Parliament passed the law abolishing these requirements of the Anti-Crisis Act.
When these recently approved changes are signed into law and implemented by the central bank, direct investment in Ukrainian securities without the need to open an "investment account" will again be possible.
Protection of minority shareholders
Under the JSC Act any person who has acquired at least 50 percent of common stock in a JSC must make an offer to all remaining shareholders to buy-out their shares. The offer is made through the target company's supervisory board, while the SEC and the stock exchange where the shares are listed must be notified about the offer. It is important to stress that even though this mandatory buy-out is triggered by the acquisition of 50 percent of the common stock, in fact a person possessing such a share will not always be in full control of the company under Ukrainian law. The JSC Act requires a 60 percent quorum for a general meeting of shareholders to proceed. This means that in practice a shareholder or a group controlling more than 40 percent of the voting stock can block the company from holding GMSs indefinitely. Some shareholders do in fact use this power as a way of blocking effective control over JSCs by majority shareholders. Importantly, some decisions, such as making amendments to the company's charter, change of the share capital amount, issue of shares, liquidation of the company etc. require a qualifying majority 75%) vote.
Another new rule introduced by the JSC Act provides that shareholders who voted in a GMS against a material transaction (a transaction is considered material, if its value exceeds 25 percent of the company's assets) against a merger, demerger or spinoff or against any change of the stated capital of the JSC, can demand that the JSC repurchase their shares. In order to benefit from this right, a shareholder has to affirmatively participate in the GMS where such matters are discussed and vote "against" the proposed transaction.
In Ukraine only the shareholders of joint-stock companies, both public and private, have these rights granted by the JSC Act. Members of other forms of business associations, for example LLCs, do not enjoy equivalent protections. Minority squeeze-out (drag-along rights) Currently, selling shareholders do not have any drag along rights under Ukrainian law. The law does not allow any "squeeze-out" or "freeze-out" of minority shareholders, no matter how concentrated the company's stock ownership. There are proposals to amend the JSC Act in order to give shareholders of the joint stock companies holding 95 percent and more of shares the right to force the remaining minority shareholders to sell their shares. However, according to some estimates, in Ukraine more than 25 percent of JSCs have a single shareholder controlling more than 95 percent of the company. Some experts believe that given such concentrated shareholding structure, the introduction of drag-along rights or freeze-outs could further undermine the liquidity of the national equity market which is already rather weak.
Disclosure requirements in M&A transactions
The JSC Act requires potential buyers of at least 10 percent of shares in a joint-stock company to notify the target JSC, the SEC and the stock exchange where the shares of their intended acquisition are listed. The potential buyer must also publish a notice of the proposed acquisition in one of the official government publications. The notice must be sent and published at least 30 days prior to the proposed acquisition.
Some events commonly involved in M&A transactions have to be reported to the SEC. They include placement of shares representing more than 25 percent of the stated capital; repurchase of shares by the issuer JSC; change of ownership of at least 10 percent of voting shares. SEC regulations require that after a reportable event occurs the JSC must (i) submit appropriate notice about the decision to the newswire on the official website of the SEC within 2 business days from the date of the GMS (ii) within 5 business days publish the information in one of the official government periodicals and (iii) within 10 business days submit a standard form notice and minutes of the GMS to the SEC.
There are no similar notification requirements for companies established in forms other than JSC. However, where any change of membership occurs in such a company, it has to be reflected in amendments to the company charter and filed with the State Registry of Legal Persons.
Competition and antitrust
Under certain conditions M&A transactions may require prior approval (clearance) by the Antimonopoly Committee of Ukraine (the AMC). The clearance procedure is governed by the Protection of Economic Competition Act and the Procedure for Filing Applications with the AMC for Prior Approval of the Concentration of Business Entities enacted by AMC Resolution of 19 February 2002.
The following transactions qualify as concentrations that may require clearance:
• merger or consolidation of business entities;
• acquisition of direct or indirect control over a business entity, including through control over a substantial part of its assets or its management;
• establishment of a joint venture by two or more business entities, if the resulting joint venture would be independently engaged in business activities for an extended period of time; or
• direct or indirect acquisition of ownership of or control over the equity interest in a business entity, if the acquisition results in concentration of at least 25 or 50 percent of the voting rights in the target.
If the transaction qualifies as a concentration, the following thresholds triggering the clearance equirement apply:
the combined worldwide value of assets or gross revenue of the parties to the transaction in the financial year preceding the year of the transaction (the "base year") exceeded €12 million ($15.26 million); and (ii) each of any two parties to the transaction had worldwide assets or gross revenue in excess of €1 million ($1.27 million) in the base year; and (iii) the value of the Ukrainian assets or Ukrainian gross revenue of either party in the base year exceeded €1 million ($1.27 million); or either individual or aggregate current market share of the parties in the relevant market exceeds 35%.
Thresholds (i)-(iii) work cumulatively with each other and alternatively with threshold (iv). Any transaction meeting these criteria can only proceed after the parties obtain an AMC clearance.
To obtain an AMC clearance, the parties need to file a joint application with the AMC. Unless the clearance application is rejected because of formal defects, the application is considered accepted for AMC review on the 15th day after the date of filing. If the AMC believes that there are no grounds for stopping the transaction, the application is processed within 30 days. This is known as Phase I review. If Phase I review is deemed sufficient by the AMC, the entire clearance exercise normally takes up to 45 calendar days.
However, if the AMC believes there are grounds for prohibiting the proposed transaction or believes that an in-depth investigation is required, the AMC can open "antimonopoly proceedings" to decide on the matter (Phase II). Although the statutory period for the proceedings is 3 months, in practice an AMC investigation can take much longer. If the AMC requests additional documents or information, this 3-month term can be suspended or even restarted, in which case a new 3-month period runs from the date on which the requested documents are submitted.
Sanctions for failure to obtain clearance
Failure to comply with the clearance procedure may result in fines. The AMC can fine companies if they failed to apply for clearance, if they applied for clearance after closing the deal or if they failed to fulfil commitments or requirements conditioning approval granted by the AMC. Fines are possible even if the deal did not in fact result in restrictions on competition.
The parties may be fined up to 5 percent of their gross revenue in the year preceding the year when the fine is imposed. The law is silent on whether 'gross revenue' refers to local or global sales of the infringer. The AMC's current position is that it refers to worldwide revenue. The Ministry of Economy can impose a temporary prohibition on import and export of goods by the company failing to pay the fine imposed by the AMC.
In addition to fines, the AMC has authority to order participants in an unauthorized concentration to demerge and sue to have concentration agreements set aside. Private third parties can also demand civil damages if harmed by an unauthorized concentration.