Drafting tips for equity commitment letters following €93,000,000 High Court case
The High Court has, in the recent case of Lopesan Touristik SA v Apollo European Principal Finance Fund III (Dollar A) LP & Or  EWHC 2141 (Comm), interpreted the terms of an equity commitment letter relating to the purchase of shares in a company that owned a hotel in the Canary Islands for €93,000,000.
The case involved a share purchase agreement that was entered into between the buyer and seller. A condition precedent to completion was obtaining EU merger control clearance. There were various completion actions also set out in the share purchase agreement that were required to be given at completion, including the repetition of certain warranties and representations.
The buyer was an entity owned by several private equity funds used as a vehicle to purchase real estate assets in the hotel sector. As part of the transaction, the funds entered into an equity commitment letter (to the buyer and seller) whereby the seller could enforce the funds' obligation to pay the monies to the buyer under the Contracts (Rights of Third Parties) Act 1999. The equity commitment letter provided that the funds' commitment was subject to satisfaction of the merger clearance. Under clause 5 of the equity commitment letter, the funds' obligation to pay the commitment would be discharged upon certain events including 1) completion of the share purchase agreement, 2) termination of the share purchase agreement or 3) 1 January 2021.
There was a dispute as to when merger clearance was granted but it was agreed that it was granted in April 2020. The share purchase agreement stated that completion would take place within 10 business days of satisfaction of the condition precedent (or failing this, 10 business days after the condition was satisfied).
As a result of the Covid-19 pandemic, the buyer claimed that the seller could not truthfully repeat the warranties and representations at completion (which had originally been given when the agreement was entered into). The buyer therefore tried to terminate the share purchase agreement. The seller brought proceedings in Spain to require the buyer to complete the purchase. The seller also brought proceedings against the funds for specific performance in England to enforce the terms of the equity commitment letter.
The court considered several issues including when the funds' funding commitment was triggered and when it was required to pay the monies and determined that:
- The funds' commitment arose when the buyer was contractually obligated to complete the sale and purchase under the agreement. This was deemed to be when the EU merger clearance was granted.
- The funding obligation was due immediately before the completion date.
- Once the obligation to fund the buyer arose, it must be fulfilled. This was the case even if completion took place after 1 January 2021. Importantly, the court held that the timing in clause 5 was intended to address a scenario where the funding obligation was not engaged at all and the 1 January 2021 date acted as a measure of certainty as to the latest date on which the funds could be required to advance the monies and not for the actual payment itself.
- The funds were still required to pay to the buyer the monies under the equity commitment letter, despite the buyer having raised issues with completion under the share purchase agreement. If completion did not take place, the buyer would be required to repay the monies to the funds.
What does this mean?
Equity commitment letters are common in private equity transactions and serve a useful purpose for all parties, and in particular, provide the seller with comfort that the completion monies will be paid. Often these letters are in a standard form and are negotiated between the parties directly, before lawyers become involved in the transaction. It is important to ensure that the drafting is clear and precise in order to avoid a scenario where it is not clear what should happen if completion under the purchase agreement is disputed.
Top drafting tips
- Ensure that the equity commitment letter accurately provides for the transaction ie. include any condition precedents and completion actions in the drafting so that all possible scenarios are covered. Often completion actions take place immediately prior to or on completion itself and the letter should deal with these.
- Be clear as to the amount of the equity commitment and any variations to this; it should always cover the purchase price but what about damages under the share purchase agreement or if there is a price adjustment before completion? It is common for the commitment to include damages that might be payable for any breaches in the share purchase agreement.
- Consider whether to include a longstop date; it is common for investors to want certainty and an end date, following which, the commitment falls away. It is important to consider how this ties in with any longstop date in the share purchase agreement and whether the date relates to the obligation to commit or the payment itself. A seller is likely to look closely at this wording to ensure that the buyer is not able to delay the transaction in order to prevent the purchase, if circumstances change.
- Consider also the timing of the payment from the investor(s) to the buyer, ie. practically how long it will take to draw down the funds. Make sure that this is adequately provided for in the letter.
We provide expert advice on all transactions including shared purchase agreements. If you need help ensuring a smooth transaction, please speak to Alison Chivers or your Trowers representative.