A condition precedent (NYSE:CP) prior to closing is a condition that must be satisfied by a party to a transaction, failing which the other party is not bound to close the transaction. In the context of buying or selling a company, it is usually the vendor of a business who must satisfy certain CP’s before the investor is obliged to close; but there may also be conditions precedent that an investor must satisfy before the vendor is obliged to close. On rare occasions, it is possible to close a transaction immediately upon signature of a Sale and Purchase Agreement (NYSE:SPA); more often, however, there is a delay of a few weeks to a few months from the signature of the SPA to closing, primarily due to the need for parties to the transaction to satisfy CP’s.
While it is impossible to provide an exhaustive catalogue of all the types of CP that a vendor may need to satisfy, a sample of some of the more common CP’s offered by a vendor could be:
- Obtaining consent of banks. Usually there is a clause in any bank loan agreement or similar financing facility that a change in ownership in and/or control of a company requires written consent of the bank(s). Vendors are usually reluctant to approach banks (and indeed banks are often reluctant to consider such cases) until there is a signed SPA.
- Client approvals. There are times when contracts with key clients also contain change of control provisions.
- Approvals from other selling shareholders. Sometimes other shareholders of the company being sold have pre-emption rights, which are best dealt with during this period.
- Obtaining approval of Competition Office. If Competition Office approval is required, most Competition Offices in Central Europe or in any other EU country are not prepared to consider an application until an SPA has been signed by all parties.
- Restructuring. At times, certain restructuring events must be carried out prior to closing, such as the creation of a holding company, or the transfer of a subsidiary or real estate that is not included in the transaction.
- Curing defects to title. Should the Vendor not have clear title to real estate or other assets, this can be made into a CP.
- Regulatory approvals. The transfer of ownership of a telecommunications or utility company, for example, often requires approval of the ministry regulating the industry.
CP’s might also be used to provide the vendor with time to fix problems that emerged during due diligence (for example, if the company’s environmental or other permits were not in order). It is better for a vendor to fix problems prior to or during due diligence, because failure to do so will either lead to postponement of signature of the SPA, or give the investor a possible exit from the transaction in the form of a CP.
Very often no CP’s are provided by an investor to the vendor. To the extent that there are such CP’s, these are usually “light”. For example, the investor may need to take the signed SPA before his board, supervisory board, or investment committee for approval, and this may form the basis for a CP.
The time between signature of SPA and closing may also be used for the investor to meet with the management of the company being acquired, possibly negotiating and signing new employment agreements with management. For vendors it is important to note that during the period between the signing of the SPA and closing the target company must be managed in the ordinary course of business Any material transactions outside the scope of the ordinary business require the approval of the investor.
Although the SPA is almost always a legally binding agreement, my advice is not to count chickens before they hatch. There is many a slip between cup and lip. There may be bona fide business reasons for CP’s not being capable of being satisfied (e.g. the bank does not approve transfer to the new owners).
Nor should the binding nature of the agreement be treated lightly—a party who does not use best efforts to close the transaction or who exercises bad faith will quite probably find himself or herself in litigation or arbitration, and probably on the losing end. Hence all parties are well advised to try very hard to satisfy the CP’s.At or prior to closing, the lawyers from all sides will go through all CP’s as set out in the SPA and ensure that these have been satisfied. The CP’s become part of the checklist required for closing. Indeed, if all CP’s have been satisfied, both sides are usually legally bound to close.