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M&A Vocabulary – Understanding Experts: Change of Control


In this ongoing series, a number of different M&A experts from the global offices of Rödl & Partner present an important term from the specialist language of the mergers and acquisitions world, combined with some comments on how it is used. We are not attempting to provide expert legal precision, review linguistic nuances or present an exhaustive definition, but rather to give or refresh a basic understanding of a term and provide some useful tips from our consultancy practice.

The aim of a transaction is usually to take over a company as a "going concern", i.e. continuing to run the target company together with all its business relations and processes. The buyer is convinced that the integration of the target (if he is planning one) into his own structure will have a positive impact on the financial results of the resulting enterprise as a whole.

In order to achieve these positive effects, it is therefore important for the buyer that the transaction does not impair the existing essential business relationships of the target. In extreme cases, the existence of a few selected or even only one contractual relationship may be decisive for the acquisition from the buyer's point of view.

Therefore, every legal due diligence review should include an examination of whether essential contracts with the target’s business partners have a "Change of Control" clause.

Such "Change of Control" clauses enable the benefitting party to assert certain rights when certain changes occur within the target company. The main idea behind agreeing on such a clause is that under certain circumstances it should be possible for a contracting party to release itself from its contractual obligations, for example in the event of a takeover by a competitor or other significant changes in the other contracting party's shareholder structure. Normally, the opposite party must be notified of such changes, but even if such a duty of notification is not contractually agreed, it should generally be assumed that contractually agreed circumstances constituting a "change of control” must be reported to the other party, since it is precisely by agreeing on such a clause that the parties have documented the materiality of these changes for the decision to continue the business relationship.

These changes include mainly changes in the (shareholder) structure of the target that give a third party a controlling influence on the decision-making processes within the target. This is certainly the case if the buyer acquires all shares. However, the parties may agree to include other, sometimes more far-reaching arrangements, e.g.:

  • Extending the "Change of Control" events to include changes in the shareholder structure not only of the target company but also of its shareholders (indirect "Change of Control");
  • Including changes in the target's managerial staff in the definition of a "Change of Control";
  • Determining a percentage threshold for changes in the shareholder structure as a "Change of Control".

In some jurisdictions, the criteria for a change of control are defined by law, although differing contractual definitions may be admissible.

While supply or service contracts may in some rare cases foresee the adjustment of  conditions, but usually allow terminating termination of the contractual relationship without notice, loan agreements may also provide for other possible rights of the lending bank and loan covenants, such as the provision of additional collateral or a partial repayment of the loan. However, even in such financing agreements, termination and repayment of the entire outstanding loan amount is always incorporated into the agreements as ultima ratio.

As described above, the contracting parties are normally obliged to inform one another of the existence of circumstances which could give rise to a change of control. In contrast, if such clauses are included in contractual agreements of the target company, they generally must be disclosed by the seller as part of an M&A transaction only if either the respective contractual  agreement (i) is objectively material to the business activities of the target company (e.g. exclusive supply agreement, license etc.) or (ii) the buyer has expressly indicated the materiality of the continuation of this specific business relationship without change.

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