Portugal: Private Equity

There are different sources and different numbers but we estimate around 20%. 2021 is a year marked by the grow back of the Portuguese economy, where the private equity funds had a particularly active role. On 2020, the fist wave of the convid-19 pandemic, cause the cancellation and/or put several transactions on hold, but, namely, in the last 12 months we have very relevant transactions toking place in different activity sectors, with an increase in terms of number of transactions but also in the aggregate amount of such transactions. The led is made by the IT sector, followed by tourism and real estate.

In Portugal M&A transaction terms do not differ significantly in terms of the seller’s nature as a trade seller or financial seller. Typically, the financial seller wants and needs to have a more “clean exit” reflected on, namely, (i) the limitation on representations and warranties (R&W) to core indemnities, namely to capacity, title of the shares, due existence and absence of conflicts and insolvency; (ii) having a locked box mechanism with no post-completion adjustments on the price or a mechanism as escrow that can limit the responsibility, allowing the profits distribution in a more quickly way and (iii) refusing on non-compete or non-solicit undertakings, to avoid any constraints in their future acquisitions.

In Portugal, is usual in many private equity transactions that the founding shareholder maintains a stake in the company. Therefore, the non-compete or non-solicit undertakings are in these situations assumed by those founding shareholders that may or not be managers/ directors of the company, which already follows from the initial investment agreements executed between the financial sponsor and the founding shareholders.

If the company is a public limited liability companies (Sociedade anónima) the process consists essentially of (i) executing an Share Purchase Agreement, and (ii) delivering the physical share certificates to the purchaser duly endorsed in favor of the purchaser, if they exist, or (iii) transferring the virtual share certificates to the purchaser via bank account transfer if no physical certificates exist. Additionally, the Purchaser must be recorded in the share register book and the transfer must therefore be reported to the Company.

If the company is a limited liability company (sociedade pos quotas) after the execution of the SPA and considering that there is no share certificates it will also be needed to proceed with a register within the Companies Register. As a matter of practice, the above steps are performed simultaneously on a predetermined closing day and time.

It should be noted that for both types of companies, transfer restrictions (i.e., pre-emptive rights) are possible, which means that the transfer may be made subject to the approval of the company or its shareholders.

As general rule the transfer of shares in a Portuguese company is exempt from indirect taxation (e.g. Value Added Tax, Transfer Tax and Stamp Duty) but a 28% capital gains tax can be imposed to the transfer of shares considering the positive net difference between capital gains and capital losses arising from the transfer of shares is taxed, which be reduced in 50% if the company is a micro or small company and if is not possible to apply the participation exemption regime. The participation exemption regime applies provided that, at the date of the transaction, the following requirements are met:

• The shares are held for a consecutive period of at least one year;
• The taxpayer directly, or directly and indirectly, holds at least 10% of the share capital or voting rights in the entity from which the shares are transferred;
• The taxpayer is not covered by the tax transparency regime;
• The entity from which shares are transferred is not resident in a black-listed jurisdiction; and
• The assets of the entity from which shares are transferred are not directly or indirectly comprised of more than 50% of real estate located in Portugal and acquired on or after 1 January 2014 (except real estate allocated to an agricultural, industrial, or commercial activity that does not consist of buying and selling real estate).

The transfer of shares in a Portuguese company (both types) can also be subject to Municipal Tax on Real Estate Transfer (IMT) if such company holds real estate assets located in Portugal and the following requirements are cumulatively met:

• The asset value of the company transferred is, directly or indirectly, composed by more than 50% of real estate assets located in Portugal;
• The real estate assets are not directly allocated to an activity of agricultural, industrial or commercial nature, unless the activity is of purchase and sale of real estate property; and
• As result of the acquisition (or other corporate events) one of the shareholders retains at least 75% of the share capital of the target entity (or the number of shareholders is reduced to two persons married or in a non-marital partnership).

Typically, through a comfort letter or a commitment letter where the financial sponsor commits to invest the needed funds to the special purpose vehicle until closing. Parallel to this, there is an effective obligation of payment of the Purchase Price on the closing date, which is a condition to the effectiveness of the transaction. If there is a deferral of part of the purchase price the payment guarantee is, typically, ensured through an escrow account or a bank guarantee on first request (à primeira solicitação).

Locked box pricing, as a fixed time-reference for the price calculation, is extremely common in our jurisdiction for relatively high-value range deals and normally used in private equity transaction. The purchase price adjustment based on completion accounts are also a prevalent mechanism in Portugal.

There is a relatively typical mix of methods, namely:

• detailed financial, operational and legal Due Diligence processes. In this case the Vendors Due Diligence are getting very popular parallel to the existence of a disclosure letter, where the Seller aim to include as disclosed and out of the scope of his responsibility all the items available in the due diligence process and the buyer want to limit such responsibility to the items provided for in the disclosure letter; The disclosure letter is also often used to safeguard subjects from misrepresentation and error on the basis of the business (erro sobre a base do negócio);
• indemnity obligation on the part of the seller set out in the Share Purchase Agreement linked to a customary list of Representation and Warranties and specific indemnities also on the part of the seller, considering, customarily, limitations of liability (cap of liability, de minimis, time limitations, etc). Core indemnities (as detailed above) and specific indemnities, tax, social security and Ambiental items are usually not subject to the above limitations;
• retained amount/escrow account of part of the price to secure some contingent risks that may have been identified during the due diligences processes (buyer side) but also to guarantee a deferred payment (seller side);
• locked box or closing price adjustment calculations mechanism, considering also the use of earn outs;
• Interim period rules to ensure that the company continues to operate, between signing and closing as a going concern and as the past practice of such company;
• for the regulatory risks the establishment of some condition’s precedent to the completion of the transaction.

W&I insurance is not a frequently used tool in Portugal. The most M&A deals in Portugal do not use insurance, but we can considerer that is getting popular namely in high value transitions.

Not too active in Portugal. Financial sponsors are focused on the private market.

Other than anti-trust or regulated markets purposes there are no foreign investment controls or other governmental consents which are typically required to be made by financial sponsors. Portugal has a very favorable position regarding foreign investment, non-residents can freely incorporate new companies or acquire existing companies In Portugal.

Notwithstanding, even without materiality in its application, Portugal has had a foreign investment review mechanism in place since 2014. Decree-Law no. 138/2014, of 15 September 2014, establishes the regime to safeguard strategic assets essential to ensure national defense and security and the country’s security of supply in services fundamental to the national interest in the energy, transport and telecommunications sectors. Under this regime, the Portuguese Government may investigate any transaction that directly or indirectly results in the acquisition of control (exclusive or joint), within the meaning of European and national competition law, by an investor originating from a third country to the European Union and the European Economic Area, over strategic assets in the energy, transport and communications sectors, which may be prohibited if it threatens, in a real and sufficiently serious manner, national defense and security or the security of supply of services fundamental to the national interest to the national interest. It’s also important mentioned in this sense that similar rules are established on Regulation (EU) 2019/452 of the European Parliament and of the Council of 19 March 2019.

In the first stage of the process, typically, the Buyer requests preliminary information to the Seller in order to, jointly, confirmed whether is needed or not a merge clearance. Notwithstanding, merger clearance in transactions involving financial sponsors are not common unless the financial sponsor has a portfolio of investments on companies with the same business of the target company. The merger clearance issue is, without prejudice, normally treated within the scope of the Share Purchase Agreement as a condition precedent, with the financial sponsor typically not accepting, and safeguarding such a reality at the contractual level, the adoption of any action that is required by competition authorities to obtain the merger clearance.

(A) We haven’t seen a recent increase and they are typically structured as debt-like, sometimes convertible investments, nor in (B).

Typically, the management incentive schemes are structured as bonus plans, stock option plans or phantom share plans, linked to predetermined performance thresholds, the performance of the business and/or the verification of certain vesting events.

In the stock option plans, the manager/director has the possibility of acquiring shares in the company at a reduced price and usually the shares have no voting right but have a right of preference on capital gains in a scenario of a liquidation event. In the case of the phantom shares, we have simply a promise to pay, in cash, a bonus of an amount equivalent to the value of a certain number of the company’s shares or the increase in value of these shares over a certain period of time and do not imply capital dilution or sharing. In this case the managers/directors do not have to raise own funds to purchase the shares.

Recently it has also been common to apply the logic of “risk sharing”, placing the manager/director in the same position as the sponsor and with a pari passu investment obligation, constricting both parties to equal goals and targets.

Bonuses are taxed as normal (employment) income – this rule is applied to the bonus per si and also in the phantom shares scenario. The transfer of shares, relevant in the stock option plans scenario, will be subject to taxation as mentioned above.

Notwithstanding if the managers/directors are considered as employees (possible in some circumstances) it is also important to consider the provisions of paragraph 43 C of the Statute of Tax Benefits (Estatuto dos Benefícios Fiscais), which regulates the tax incentive for the acquisition of stockholdings by employees, providing for the exemption of gains derived from stock option plans, subscription, assignment or equivalent plans on securities issued by the employer, up to a limit of € 40.000,00, subject to certain conditions:

• Being qualified as a micro or small company, in accordance with the criteria foreseen in the annex to Decree-Law no. 372/2007, of November 6, in its current wording;
• Having been established for less than six years;
• Developing their activity within the technology sector.

Yes they are – typically 2 to 3 years post transaction. The Companies are obliged to compensate the manager/director for such non-compete provisions, otherwise, the non-compete may be deemed null and void – typically this compensation is linked to the transaction price if the director is also a shareholder. Within the context of an employment contract, a non-compete clause cannot be for a period exceeding 24 months after termination of the contract.

The Financial Sponsors governance rights are typically covered by the company by-laws and shareholders agreement, considering, a right to make appointments to the board, specific voting/consent rights over material business decisions or veto rights whether in board decisions or shareholder decisions and the right to receive certain financial and management reports for the purpose of monitoring its investment.

This is not a common practice in Portugal but is common to use specific entities in order to regroup minor shareholders that may be or not the managers or employees of the company.

In Portugal, the more common instrument in terms of debt financing still be the traditional loans granted for financial institutions (short and long-term facilities, factoring facilities, standby letters or bank guarantees), often combined with a refinancing of the company’s existing debt, but financing through European Union assistance programs is also very common for small and medium enterprises. Typically, in large companies is also frequent the issuance of bond loans. Notwithstanding, on start-up level the financing is obtained namely by private investors or specific funds.

As general rule Portuguese companies cannot, directly or indirectly, advance funds or grant any kind of guarantees for the acquisition of their shares by a third party, except if there are transactions within the ordinary course of business of banks or other financial institutions, or are carried out with a view to the acquisition of shares by or for the company’s employees or the employees of an associate company. In any case, such transactions may not result in the net assets of the company being less than the amount of the subscribed share capital plus any reserves that the law or the bylaws of the company not permit to be distributed. Moreover, the Portuguese Companies Code also establish limitations on the agreements or acts to be performed by the company with the board members, directly or indirectly.

There is no standard form of credit agreement used but typically the sponsor prefers to use precedent documentation. Notwithstanding, Loan Market Agreement standard form leverage facility agreement are regularly used in large companies and/or high-volume deal and/or with international investors. The level of negotiations always depends on the deal, type and size of lenders, type and size of sponsor and sponsor’s strategy.

The level of negotiation varies from transaction to transaction, but we can accept that the negotiations tend to be centered on the EBITDA definition along other accounting definitions, financial covenants, repayment calendar and cure mechanisms. Recently ESG issues have also come on the table as one of the hot topics.

Yes. Despite the negative impact of covid-19 pandemic with a decrease of number of private equity deals in Portugal in 2020 and in the beginning of 2021.