Acquisitions & Divestments in the Middle East: Part 5 – Sale & Purchase Agreements – Structuring The Deal From the Seller’s Perspective

Author: Hugh Fraser , Hugh Fraser International (HFI)

The seller’s fundamental objectives in the context of a corporate divestment will be threefold: maximise the sale price, collect the full sale price at completion and minimise the post completion risks. These objectives are subject to potential compromises in any deal but perhaps more so in relation to transactions in the Middle East due to the higher level of risk already explained in this series of articles.

There are a number of principles and techniques that HFI’s recommends sellers take into consideration. The first is “Pre-Sale Seller Due Diligence”. The conducting of an internal due diligence in the months leading up to a potential divestment where the seller’s team conducts a due diligence exercise on the target as if it was an independent buyer can provide an excellent means of identifying and resolving or mitigating issues which could otherwise damage the objective of maximizing the sale price. It is also an opportunity to build the seller’s “data room” share file folders and to maximise the state of readiness – this can give a highly favourable first impression to the buyer and the buyer’s team on the management and administration of the target which in turn can provide a first line of defence against downward pressure on the sale price.

The second defensive measure is the approach to the “Representations and Warranties versus Disclosure” typically asked for in the Sale & Purchase Agreement by the buyer. The Reps & Warranties can often extend to a major part of the Agreement and can be a source of great frustration to a seller and its team where pages of standard provisions are inserted without proper customization (and often following an extensive and demanding due diligence process). The negotiation of the Reps & Warranties can descend into a protracted war of attrition with the cost/benefit of the exercise coming under scrutiny.? An alternative and perhaps more pragmatic approach for the seller is to avoid an intensive negotiation on the drafting of the Reps & Warranties and to focus on a thorough “Disclosure” process which will see the recording of any issues arising from the testing of the Reps & Warranties in the Disclosure Letter. This effectively excludes liability for breach of the Reps & Warranties from the disclosed matters. This technique will work if the Reps and Warranties are specific and tailored to generate full and accurate disclosures but Reps and Warranties which are too general or designed to transfer risk rather than generate information should be resisted.

The third measure is the inclusion of “Exclusion of Liability” clauses in the Sale & Purchase Agreement”. In addition to matters fully set out in the Disclosure Letter, the seller should always seek to exclude liability in number of key areas. Liability for consequential and indirect losses should always be excluded, principally because it will be impossible to quantify and manage the associated risks. Where the relevant loss is an insured one or subject to third-party indemnity, the buyer should look to the insurance cover or indemnity rather than the seller. Likewise, the seller should not be liable for losses arising from post completion actions taken by the target or the buyer. Matters which are set out in the target’s audited financial statements and corporate documents and records are also typically excluded by contract.

The fourth measure is the inclusion of “Limitation of Liability” clauses in the Sale & Purchase Agreement. Where liability cannot be fully excluded, the seller should look to limit liability where possible “by value” and “by time”.? There are several well recognized conventions whereby the buyer will accept reasonable limitations of liability. An overall limitation of limitation by reference to a percentage of the sale price is normal. Likewise, a threshold or excess whereby a certain minimum level of losses must be reached until the seller become liable is also typical – in the case of a threshold the liability kicks in from the ground floor upwards once the threshold is reached; in the case of an excess liability applies only in relation to the losses exceeding the prescribed excess level. In some cases, a “small claims” exemption may also be conceded by the buyer whereby issues up to a certain small financial level are completed excluded and are not taken into account in determining if the threshold or excess level has been reached.?

The fifth defensive measure is recourse to “Insurance”. Representations & Warranties Insurance from the seller’s side can be considered where the perceived level of risk to the premium costs and detailed terms of the insurance are in balance. However, this is a challenging area and may lead to considerable additional deal time and costs given the need for the insurers and their advisers to address the insurer’s risks and risk management. However, the overall “Insurance” framework which is in place as at completion should be fully understood as risks and losses may be covered by the target’s or the buyer’s general insurance programme.

The sixth major risk management issue for the seller is the “Claims & Dispute Resolution” procedures. The seller should be aware that techniques which act in the buyer’s interest such as deferred consideration, retentions, bonds, guarantees and rights of set off can expose the seller to fast-track remedies without the need to negotiate with the seller and so the seller must ensure that these techniques are avoided or, if present, are closely regulated by the contractual terms. A dispute resolution clause which calls for the involvement of an independent expert of adjudicator can be of huge benefit and the seller should be wary of signing up to an arbitration or litigation clause given the implications as to costs, time and certainty of outcome, especially where the buyer is a substantial organization which may be better placed to endure sustained and expensive dispute resolution processes.

At the end of the day a deal has to be done unless it is clear that the parties cannot reach consensus on all of the key issues. This inevitably means compromises. The sixth and final part of this series will turn to the “Completion” process and the key issues arising in closing transactions in the Middle East. ??

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