REFLECTIONS, May 14th – 20th, 2021
A WEEKLY ROUNDUP OF LEGAL & TECH EVENTS GLOBALLY | May 14th – May 20th, 2021
THIS IS REFLECTIONS, our weekly roundup of events in the legal and technology sector, covering various topics and interesting learning points for today’s professional. If you couldn’t make an event, don’t worry, we probably made it and have all the juicy scoop for your reading pleasure and learning.
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EXPANDING SECURITIZATION & ITS INCENTIVES FOR INVESTORS
10th OF MAY 2021
The webinar started at 1:00pm with John Sunday of Bloomfield Law Practice welcoming everyone to the webinar and introducing the panelists. There were Professor Gbolahan Elias SAN, the principal partner of G. Elias & Co, Elizabeth (Iyamab0) Uwaifo, Managing Partner, Asafo& Co London and Tosin Alabi, Assistant vice President, DLM Capital Group.
Elizabeth Uwaifo spoke about the basics of securitization transaction:
-Securitization is a transaction or a scheme whereby the credit risk associated with certain assets or exposures are pooled, tranched and transferred to investors.
-A securitization transaction will have the following characteristics
(a) An institution (the originator) identifies a category of assets (e.g credit card receivables or mortgage loans) which are pooled to create a single portfolio
(b) A newly incorporated special purpose vehicle (known as the SPV, buyer or issuer) issues securities (usually bonds or notes in several structured tranches) to investors to fund the purchase or to provide credit protection on the underlying assets.
(c) The subordination of tranches of the securities determines the distribution of losses during the ongoing life of the transaction.
(d) A typical off-balance sheet securitization involves the appropriation of defined or identifiable cash flows to or through an insolvency remote vehicle to share publicly or privately offered securities, issued on the basis that resource is limited to such cash flows and any related assets.
(e) In a true sale securitization, the originator sells receivables to the SPV. The SPV pays the purchase price for the receivables from the proceeds of the securities issued to the investors.
(f) In a synthetic securitization, the SPV provides credit protection to the originator covering losses that may be suffered by the Originator on the underlying assets. The credit protection payments are paid from the proceeds of the securities issued to the investors.
(g) The Receivables and amounts received from the receivables are used as security to secure the SPV’s obligations to pay the investors principal and interest on the securities and any amounts due to other parties involved in the transaction in accordance with a priority order of payments specified in the transaction documents.
(h)The security will be held by a security trustee under a trust established by the SPV in favour of the investors and other transaction parties.
- Low borrowing costs
- Low Capital Requirements
- Transfer risks (credit, prepayment, reinvestment, Assets concentration)
Tosin Alabi spoke briefly about the history of securitization and mentioned that the origin of securitization started with the sale of mortgages in the US and that there haven’t been too many securitization transactions in Nigeria.
Tosin also spoke about methods of mitigating risks in securitization transactions;
- Express Spread
- Cash Reserve
- Use of Guarantee
Professor Gbolahan Elias further spoke about tax issues in securitization transactions. He first mentioned that there no Value Added Tax to be paid on securitization transactions. However, Stamp Duties are required to be paid when assets are moved from originators to SPVs. There are also taxes on interest and SPV. A major challenge is that underlying laws on enforcing tax obligations are at tax levels.
Elizabeth Uwaifo further discussed the likely challenges securitization transactions may face in Nigeria;
- Foreign Exchange Policies
- Change of Law Risk
- Absence of a robust regulatory framework.
MECHANICS OF CORPORATE FINANCE (PRIVATE EQUITY & MERGERS AND ACQUISITION)
The speaker Zelda Akindele, a partner in the Finance & Projects Practice Group at Templars, stated that Private Equity (P.E) firms raise capital from other investors and use the capital to buy companies (portfolio companies), operate and improve them, and then sell them to realize a return on their investment. The Investments and Securities Act 2007 defines Private Equity funds as a type of collective investment scheme that invests primarily in private equity/unlisted companies, whether or not in an attempt to gain control of the company. Although rare, it is possible to have Private Equity investors in a public listed company.
The whole process includes: Capital raising, Investments, Management and operation, Exit. The drivers of Private Equity are to increase value for a positive return on investment, but also Management fees and ‘Carry’ (the famous ‘2 and 20’). Management fees paid to the fund manager as a percentage of assets under management (AUM). This is not performance based and it constitutes 2% international industry average. Carry refers to carried interest, which is a share of profits that the general partners of the fund are paid if the profits meet a certain level of performance (‘hurdle rate’). Essentially, this is performance compensation. Traditionally, it is 20% of the fund’s profit but could go as high as 25%-30%.
In Nigeria, P.E funds can be structured as limited liability companies, trusts or as limited liability partnerships (LLPs) with different legal implications. For instance, funds structured as an LLP, are treated as ‘pass-through’ entities for corporate income tax purposes and therefore not subject to corporate income tax at the entity level. In practice, the entity’s income, gains, losses, deductions and credits are passed through to the partners and taxed only once at the investor level. Funds structured as LLPs also have the benefit of management flexibility and limited liability. Personal and income tax liabilities are huge considerations for investors, and fund managers must put these requirements on focus in determining which entity best suits present requirements. The structure needs to be tax efficient to avoid double taxation.
P.E funds are often established in an offshore jurisdiction. The reason for this is because of the perceived advantages that offshore jurisdictions offer in terms of tax, flexibility and repatriability and sometimes familiarity of investors with some offshore jurisdictions. The tax position of would-be investors is a matter for careful consideration and perhaps one of the biggest factors influencing the choice of an offshore jurisdiction as the domicile for a fund. Fund promoters must ensure that investors will not be in a financially-worse position than they would have been if they had invested directly.
P.E is regulated in Nigeria. P.E funds with a minimum commitment of NGN 1 billion must be registered with the Securities & Exchange Commission (SEC) in accordance with SEC Rules. P.E funds in which pension fund assets are invested must be SEC registered regardless of their size. For the P.E fund to be registered, the fund’s manager must be licensed by the SEC. The fund manager must have at least 3 sponsored individuals (that is, the principal officers and professionals held out by the fund manager as experts on whose advice or actions investors are expected to rely) who must be registered with the SEC. The Managing Director of the fund manager must be a sponsored individual and one of the sponsored individuals must be a compliance officer who will be responsible for monitoring compliance with the Investments and Securities Act 2007 (ISA) and the SEC Rules. It can only source investment from qualified investors, and the SEC Rules impose a minimum capital requirement of NGN 150 million on private equity fund managers. In addition, the percentage of assets that the fund can invest in a single investment must not exceed 30%.
P.E funds usually obtain funding from institutional investors, such as pension funds, sovereign wealth funds, development financial institutions, insurance companies, financial institutions, and high net-worth individuals. The ISA contains provisions which restrict private capital. As a practical matter, interests in a private equity fund are considered as securities and promoters of private equity funds need to ensure that offerings are carried out as a private offering and should not constitute an invitation to the public. An invitation will be deemed an invitation to the public where such invitation is (a) published, advertised or disseminated by newspaper, broadcasting, cinematograph or any other means whatsoever (b) made to or circulated among any persons whether selected as members or as debenture holders of the company concerned or as clients of the persons making or circulating the invitation or in any other manner (c) made to anyone or more persons upon the terms that the person or persons to whom it is made may renounce or assign the benefit of the offer or invitation or any of the securities to be obtained under it in favour of any other person or persons; (d) made to anyone or more persons to acquire any securities exchange or in respect of which the invitation states that an application has been or shall be made for permission to deal in those securities on a securities exchange.
Investments (P.E Transactions)
The speaker stated that the mode of P.E transactions in Nigeria include: (a) the acquisition of shares in the target company- (i) subscription of shares or (ii) a transfer from existing shareholders (Buyouts); and (b) quasi-equity instruments-preference shares with a pre-agreed return on investment.
Traditionally, and by far the most common structure used is the acquisition of a majority/controlling interest in a Nigerian company, usually by offshore-registered special purpose vehicles. More recently, Nigeria is starting to see a trend towards adopting options and convertible instruments. Auctions are sometimes used for Buyouts, for example where a core shareholder wishes to dispose of a controlling interest in a company, they might issue a request for proposals to buy their shares and initiate a bidding process to select a purchase. There is no specific legislation governing the process, however, Companies and Allied Matters Act 2020 will apply in relation to the share transfer process and the ISA, SEC Rules and the Rulebook of the NSE will apply where the target company is a public company being converted to a private limited company.
This includes: Sourcing, Non-Disclosure Agreements, Initial Due Diligence, Financial Model and Valuation, Non-Binding Offer, Due Diligence, Management Due Diligence, Letter of Intent, Exclusivity Period and Final Due Diligence, Legal Documentation, Regulatory Approvals.
The types of due diligence are Financial Due Diligence (in relation to money), Commercial Due Diligence (in relation to the business), and Legal Due Diligence (Asset, Compliance, Taxes, Intellectual Property, Labour& Employment, etc.). The objectives of due diligence are to: (a) understand the nature and value of assets and business. (b) ascertain title to assets and encumbrances/3rd party rights (c) identify required corporate, contractual and regulatory consents (d) for verification and adjustment of representations, warranties and indemnities, escrow/ancillary agreements (e) quantify risks and liabilities and understand impact of disclosures/liability caps (f) for post-acquisition integration.
Management Due Diligence includes appraising a company’s senior management-evaluating each individual’s effectiveness in contributing to the organization’s strategic objectives.
Restrictions: Private companies’ restriction on the transfer of their shares in their articles of association. Accordingly, any procedures set out in the articles of association governing share transfers must be complied with for valid transaction. Private companies also often give shareholders pre-emption rights in relation to new shares to be issued, and sometimes shares that any shareholder is seeking to transfer to a third party. Waivers of these rights have to be obtained.
Tax: Transfer of shares is stamp duty exempt, however, based on the Federal Inland Revenue Service (FIRS) practice, share purchase agreement is liable to stamp duty at a percentage of the consideration. VAT is not payable on the sale of securities e.g., shares, however, other incorporeal rights (save for securities and interest in land) are now taxable goods. Acquisition of tax history and liabilities & potential tax claims and liabilities of target.
This is not exhaustive. They include: Non-Disclosure Agreement/Confidentiality Agreement, Letter of Intent, Due Diligence Report, Share Purchase or Subscription Agreement, Shareholders’ Agreement, Disclosure Letter, Scheme document (if a scheme of arrangement is contemplated), Regulatory Notifications- FCCPC Form 1, FCCPC Form 2 etc.
P.E funds often require contractual protection under the share purchase agreement in the form of representations and warranties in relation to the shares to be acquired as well as the business. If the due diligence has uncovered specific issues, indemnities are often sought from the sellers and/or management against any fines or losses that may be incurred as a result of such lapses. The level of warranty protection provided by the seller depends on the nature of the relationship between the parties, parties’ respective bargaining positions, price of the shares to be acquired, nature of the company being sold.
If the target company is a public listed company, it is not unusual for a seller to insist on providing very limited warranties. Sometimes, part of the purchase price is retained or paid into an escrow account with an agreement that the funds will be held in escrow for a certain time period to satisfy any warranty claims. Non-compete restrictions, anti-dilution protections on a full ratchet basis, and put options are also common in acquisition documents for transactions involving private companies.
The most common sources of debt finance used to fund P.E transactions include convertible or non-convertible loans. Debt providers typically expect security to protect their investments and in Nigeria, this can be created by way of a fixed or floating charge and/or a mortgage over the assets and real property of the target company in favour of the lender(s). in addition, lenders may protect themselves using contractual and/or structural mechanisms which include typical contractual restrictive and financial covenants (e.g., no disposals, no distributions) and negative pledges, breach of which would amount to an event of default. Finance Assistance Rules prevent a target company from giving any form of ‘assistance’ for the purpose of purchasing its own shares. Financial assistance by Nigerian targets is generally prohibited where there would be a resulting impact on the net asset transfer of the target above prescribed thresholds. However, there are some exemptions. Also, CAMA 2020 now permits ‘white washing’.
Consents, Approvals & Regulatory/Sector Specific Approvals
Corporate: one should check constitutional documents for pre-emptive rights/rights of first offer/refusal; required board and shareholder approvals; any shareholder or voting agreements.
Contractual: Change of control/other restrictions on disposal or transfer of shares/required third party consents.
Regulatory approvals/consents: e.g., The Federal Competition and Consumer Protection Commission (for acquisitions/transfers of business); SEC & NSE (for listed companies)
Sectoral approvals: e.g., CBN (banks and financial institutions), DPR (petroleum companies), NAICOM (insurance companies), NCC (telecommunications companies), NAFDAC (FMCG Companies) and even CAC in relation to PE objects’ clauses.
Portfolio Company Management & Operation
The ultimate objective is to increase value of the company. P.E investors will therefore seek to implement growth plan, introduce operational efficiency as well as process improvement and new technology. Management incentives to encourage healthy income include: Participation in profits, share option plans, Performance related incentives, Bonus payments, Employment/severance protections depending on length of service.
Portfolio company can only pay dividends out of its distributable profits and must not pay a dividend if there are reasonable grounds for believing that the company is, or would be, after the payment, unable to pay its liabilities as they become due.
The various forms of exit that are typically used to realise a private equity fund’s investment are:
Initial public offering (IPO)- The company’s shares become listed on the Nigerian Stock Exchange for the first time to effect an IPO. Unlisted public companies’ share mut now be traded on a SEC-registered exchange. As a result, shares of unlisted public companies are increasingly traded on the NASD OTC Exchange. The advantage of this method is that, in suitable market conditions, it is likely to enable the investor to realise good returns on its investment. Looking at its disadvantages however, the listing process is subject to regulatory requirements and restrictions, which make the IPO a lengthy and potentially more expensive process. The investee company must be converted into a public company before the IPO can be undertaken. The public offering of the shares does not guarantee an exit at a preferred price as market conditions could result in adjustments being made to the listing price.
Trade Sale- The exiting investor sells all its shares to a strategic investor. This procedure has an advantage of allowing for a quicker and more efficient process as negotiations take place with a single buyer (or consortium), which allows the investor to exercise more control over the whole process. In some cases, the investor to exercise more control over the whole process. In some cases, the investor may even obtain a higher value for the company compared to other exit methods. Looking at its disadvantage however, the buyer is often a competitor of the company and inevitably obtains confidential information during the due diligence and negotiation process. If the transaction is not completed, this can be of concern.
Secondary buyout- The exiting investor sells it shares to another private equity firm. This procedure also has an advantage of allowing for a quicker and more efficient process as negotiations take place with a single buyer (or consortium), which allows the investor to exercise more control over the whole process. In some cases, the investor to exercise more control over the whole process. In some cases, the investor may even obtain a higher value for the company compared to other exit methods. Looking at its disadvantage however, there can also be delays in closing the transaction due to extensive due diligence investigations and deal negotiations
MERGERS AND ACQUISITIONS
Zelda Akindele states that the forms include: private or public; mergers, acquisitions & takeover. The structures include: vertical/horizontal mergers, joint ventures, share/asset acquisitions (liabilities, tax, partial sale, third party consents), leveraged buy-outs/management buy-outs, scheme of arrangement/arrangement on sale, takeovers/mandatory takeovers (takeover bid, tender offer).
Legal & Regulatory Framework
These includes: Federal Competition and Consumer Protection Commission Act 2019 (FCCPA), FCCPC Merger Review Guidelines 2020, CAMA 2020, ISA 2007, SEC Rules 2013 as amended, Companies Regulation, Sector specific laws and regulations such as the BOFIA, National Insurance Commission Act, DPR Guidelines, NSE Rule Book (where a listed company is a merging party).
Public M & A Considerations
Confidentiality: the giving or receipt of a notice of intention to make a takeover bid or tender offer constitutes price-sensitive information for public companies quoted on the Nigerian Stock Exchange. The transaction parties (including professional advisers, who are given access to any price-sensitive information, prior to the submission of a bid) would be required to enter into undertakings to keep such information confidential. Typically, such undertakings would be set out in the confidentiality agreement. Where the target company is required to disclose such price-sensitive information to a third party or regulator, the information would simultaneously be announced via the issuer’s portal of the Nigerian Stock Exchange and thereby be released to the market.
Stakebuilding: a bidder for a public company may engage in stakebuilding prior to launching a takeover bid or mandatory tender offer, however disclosure requirements will apply depending on the quantum of shares being acquired e.g., SEC mandates the disclosure of 5% of the shares of a PLC (CAMA 2020 has similar requirements).
Recommended Bids: a takeover bid cannot be made or recommended by the board of a target company unless authority to proceed with the takeover has been granted by the SEC. where a mandatory takeover bid is triggered under the provisions of the SEC Rules, an application for authority to proceed with the takeover bid must be filed with the SEC within three business days.
M & A Documentation- Preliminary
Confidentiality/Non-Disclosure Agreements, Memorandum of Understandings, Letters of Intent, Term sheets. The scope of these agreements includes: confidentiality, exclusivity period, identification of key issues of contention and valuation methodology. The Binding effect or consequences of breach must be detailed too (whether damages, specific performance or injunctions, which are rare).
M & A Documentation- Common Transaction Documents
This is not exhaustive but it includes: Due Diligence Reports, Invitation to bid, Letter of intent, offer letter, Memorandum of Agreement/implementation Agreement, Financial Services Agreement, Scheme of merger document, SEC Approval documents, FCCPC Approval documents, NSE Approval documents, Corporate documents (board resolution approving the merger, notice of court order meetings, shareholders resolutions, proxy forms), Share Purchase Agreements (sometimes Share subscription agreements), Shareholders Agreement (private companies), Disclosure letter, share transfer forms, Forms for filing the necessary changes at CAC, Certificate of incumbency and authority, Certificate of solvency, Legal Opinion.
Warranties & indemnities
This is an important clause in a Share Purchase Agreement. They are forms of contractual protection that a purchaser will invariably look to include in a share or asset purchase agreement. These two terms are not the same thing.
A warranty is a statement by the seller about a particular state of affairs of the target company or business. A breach of warranty will only give rise to a successful claim in damages if the buyer can show that the warranty was breached and that the effect of the breach is to reduce the value of the company or business acquired. The onus is therefore on the buyer to show breach and quantifiable loss.
An indemnity is a promise to reimburse the buyer in respect of a particular type of liability, should it arise. The purpose of an indemnity in an acquisition context is, broadly speaking, to shift the risk of a particular event or matter to the indemnifying party and to allow the indemnified party to recover on a pound-for-pound basis in respect of that matter or event. Indemnities are often used where a warranty may not allow a buyer to recover. For example, because it had knowledge of the matter before signing the acquisition agreement or because a damages claim may not be available.
Common areas of warranty protection include: Accounts, Post-Balance Sheet date events, “Related party” transactions, Financing and banking, Real property, Environmental, Commercial Contracts, Employees and Pensions, Ownership of fixed assets, Insurance, IP and IT, Regulatory Compliance, Tax, Absence of Litigation, Constitutional matters, Insolvency & Winding-up.
Key Issues in M & A
These are: Regulatory Approvals, Contracted Consents, Tax, Employees, Private Companies, Financial Assistance, Consideration (cash, shares, equipment, land, high value assets).
Effect of COVID-19 on M & A Documentation in Nigeria
The speaker adds finally that in response to the pandemic, the FCCPC published guidance of the Merger Notification Process and Interpretation of the Law on other Competition issues under the FCCPA (“the Guidance”).
Under the Guidance, the FCCPC will accept remote filing/electronic notifications for COVID-19 related merger applications for review where: (a) there is a possibility or imminent failure of the business of a merging party, unless the combination is urgently considered; (b) there is a host jurisdiction other than Nigeria and there are time limitations requiring notification and determination by the FCCPC prior to the conclusion of underlying transactions; and (c) other regulatory or similar approvals may expire or lapse, or such approvals are conditioned upon presenting a notification to the FCCPC within a specific period. Notifications with relevant attachments may be sent to the FCCPC specific mail provided. The decision of the FCCPC to ease up the process of filing for notifying parties in the COVID-19 circumstances was a welcome development showing that the commission is a progressive government agency capable of adapting its process to change in circumstances.
MECHANICS OF CORPORATE FINANCE (Private Equity & Mergers and Acquisition)
18TH MAY, 2021
- Zelda Akindele
Summary of Presentation: Private Equity (P.E) firms raise capital from other investors and use the capital to buy companies (portfolio companies), operate and improve them, and then sell them to realize a return on their investment. The Investments and Securities Act 2007 defines Private Equity funds as a type of collective investment scheme that invests primarily in private equity/unlisted companies, whether or not in an attempt to gain control of the company. Although rare, it is possible to have Private Equity investors in a public listed company. She discussed notable issues like fund formation, regulation, capital raising, investments, due processes, due diligence, structuring considerations, transaction documentation, buyer protection, debt financing, etc.,
Mergers & Acquisitions forms include: private or public; mergers, acquisitions & takeover. The structures include: vertical/horizontal mergers, joint ventures, share/asset acquisitions (liabilities, tax, partial sale, third party consents), leveraged buy-outs/management buy-outs, scheme of arrangement/arrangement on sale, takeovers/mandatory takeovers (takeover bid, tender offer). She discussed important matters like: legal & regulatory framework, public mergers and acquisition considerations, documentations, warranties & indemnities in contract, effect of covid-19 on Mergers and Acquisition.
Lessons learnt from the event
The event brought to light the numerous steps involved in the mechanics of corporate finance in relation to private equity and mergers & acquisition.
NODGIC ACT- STRIDES CHALLENGES AND OPPORTUNITIES
The first speaker was OpeyemiAgbaje, He did a short overview of the Nigerian economy and talked about the periods of recession in the Nigerian economy, he noted that we are used to growth around the 6th percent rate since 2014 and then recession occurred and since then we’ve been used to growth around 2 percent region, also another recession occurred which we marginally came out again in the last quarter.
On the annual growth rate since 2000, he commented that before 2000 we used to have interesting growth in the country, he noted that in the last quarter in Nigeria the GDP growth has only been 4 percent, he also mentioned that crude petroleum and natural gas is still the dominant force of revenue for Nigerian government.
He noted that oil and gas sector has generated significant local employment, but recently unemployment is rising and the inflation rate has declined around 18 percent, he noted that this means things have actually gone up by 18 percent.
On value addition and the imperative of local content, he noted that each of Nigeria’s major economy sector, there is a practice of lack of value addition, value is not really added, for instance in our agriculture outputs, we consume domestic production and import refined agricultural products, same as oil and gas sector where we export crude and import the refined products, he also noted that Nigerians largest economic sector is the agricultural sector and it is overwhelmingly crop production with very limited value chain development process.
On why there is a need for local content law he said there is a need to do this inorder:
1). To add value to the Nigeria economy And to act as a pedicure
2). To help synchronize reserves From oil with host communities benefits
3). To create very competitive Imagine local markets
4). To increase Nigerian participation in oil and gas industry
On areas for further investigation and consideration, he noted that there was unavailability of the revenues, data and statistics for there to be proper analyzation on the impact of oil and gas locally, he also noted that there’s a need to stop importing petroleum as this is a big embarrassment to the economy, he noted that there has been moves by Petroleum agencies, but more has to be done.
The second speaker was Muhammed Umar
He spoke on regulations on the oil and gas factors and overview of the NOGICD ACT, he noted that the act is very simple to use and descriptive and also concise, he noted that the act has 107 sections and part 1 of the act talks about content development in the oil gas industry, Part 2 talks about establishment of Nigerian content development and monitoring board and Part 3 talks about Financial provisions.
He talked about the ministerial regulations in the act which includes preservation and development, training capacity and development, growth of indigenous capacity and oil and gas enforcement in the industry, registration of operators and other professionals with Nigerian professional body.
On the Purpose of the regulation, he noted that it is to give effects to the provision of the act and ensure compliance with the Nigerian owned and gas industry content development 2010
On major offences stated in the act, he noted that the offences include failure to submit a Nigerian content plan, failure to obtain a certificate of Authorization from the board, failure to give first consideration and comply with minimum Nigerian content, failure to give exclusive consideration to Nigerians in the junior and immediate cadets, failure to submit documents pre-qualification stage, failure to submit required documents during bid, failure to insure risk, Conspiracy and contravention in relation to section 17 of the act.