No. 2, First Quarter 2005 SmartCapital Current Legal Issues for Investors in European Businesses

Private Investments in Public Entities (PIPEs) in France

PIPE transactions Roberto Cristofolini and Marie-Aude Noury of Latham’s Paris with a “book built” office outline a new “book-built” PIPE structure, used by NicOx, to investors have now which Latham & Watkins advised on in October 2004. PIPE become possible in transactions involve the investment by one or more private France. investors in equity securities issued by listed companies. They have become quite common in France during the last two years. A variety of structures have been used minimum issue price set by the in the past. However, it is only after a general meeting of shareholders. legislative reform in August 2003 that The Autorité des Marchés Financiers PIPE transactions with a “book-built” (AMF) will, however, exercise close private placement to investors have control over the terms of the proposed now become possible in France through resolution authorising the issue and an issue of equity securities to a also throughout each step of the “category of investors” (Catégorie transaction. In particular, the AMF will de personnes répondant à des not allow an issue to proceed if the caractéristiques déterminées). “category of investors” is too broad or This new structure allows the general if the minimum issue price is considered NicOx meeting of shareholders to authorise unduly dilutive. Using “institutional Representation of SG in advance an equity issue to a investors” in the shareholder authority Cowen & Co LLC and “category of investors” and to delegate will not be possible, but “companies Jefferies & Company, to the board of directors the power and funds investing in the business Inc. as placement agents in the PIPE to launch the issue at short notice (as sector of the issuer” has been transaction of ordinary no offering memorandum is required considered acceptable by the AMF. shares of NicOx S.A. for the placement). It is a flexible A French listing prospectus will —a research pharma- structure: The placement can be ceutical company eventually be required but only after launched privately and the transaction publicly listed on the closing of the transaction, in order Nouveau Marché of will only be publicly announced if and to have the new shares listed. Euronext Paris. when the “book-building” is successful. 2004 It is also flexible in terms of the issue This particular structure has been used only once so far (the recent NicOx €26,000,000 price as this needs only to respect the transaction), but a number of French

PIPEs in France 1 Inside This Issue: in Russia 3 Country Updates 5, 7 Drag-along Rights 6 Recent Deals 6 Latham News 8

Latham & Watkins operates as a limited liability partnership worldwide with an affiliate in the United Kingdom and Italy, where the practice is conducted through an affiliated multinational partnership. © Copyright 2005 Latham & Watkins. All Rights Reserved. listed companies are at present proposed investor may acquire proposing to introduce draft resolutions subscription rights either through to this effect in their next annual purchases on the market [see Euler & general meeting of shareholders. Hermes (June 2002), Scor (November 2002)] (as such subscription rights Other structures used for PIPEs in are listed, transferable and traded the past in France are the following: during the subscription period), or 1. Issue to a pre-identified investor from majority shareholders [see CS Communication & Systèmes (June • When one or more investors have 2002), Vivendi Environnement been identified in advance, and the (June 2002), Perfect Technologies SA terms of the equity issue have been (June 2002)]. In this variant, existing negotiated with them, the general Roberto Cristofolini shareholders may either subscribe for meeting of shareholders should the shares or sell their subscription authorise specifically the issue to rights on the market (in some cases the proposed investors (no general [see GFR Foncière des Régions authorisation to issue equity (May 2002), Foncière des Régions securities can be used) and the (November 2003)], shareholders issuer must disclose to shareholders were offered the opportunity to sell one month in advance the proposed their subscription rights at a price identity of the investor(s) and terms equal to that paid by the proposed of the issue [see Emme (February investors). When this structure is 2002), Cast (April 2002), Groupe used, the prospectus must disclose Sqli (June 2002)]. In this case, there the proposed purchase of sub- are no specific constraints as to the scription rights by the investors. issue price, as it is approved by shareholders on the basis of full • When an offer to the public is used disclosure. However, the AMF may [see Netra Systems (July 2002), Marie-Aude Noury require, on a case by case basis, BVRP Software (September 2003)], anti-dilutive or other protective existing shareholders often have a non-transferable priority right (délai This particular structure has been used only once de priorité) to subscribe for new shares during a period of two to so far (the recent NicOx transaction), but a number three days. All shares not acquired by existing shareholders are then of French listed companies are at present proposing offered and allotted to the public. to introduce draft resolutions to this effect in their The proposed investor may place an order to acquire new shares next annual general meeting of shareholders. as a member of the public, and its intention to subscribe for new measures, such as a bonus issue shares in the offer is disclosed in the of warrants (bons de souscription) prospectus. As all potential investors allowing existing shareholders should be treated equally, the to subscribe for new shares [see proposed investor can be given no Access Commerce (April 2003), assurance that it will acquire a given Memscap (October 2003)] or the number of shares. When a public opinion by an independent expert offer is carried out, the issue price on the fair treatment of existing for the new shares cannot be lower shareholders [see Léon de Bruxelles than a minimum price set under (April 2002), Com 1 (June 2002)]. French law [this is the average Such measures may be applied in market price during 10 consecutive circumstances where the market trading days chosen among the price is not representative due to 20 trading days prior to the offer. lack of liquidity in the market or It is, however, currently expected where the issue price is below the (although this is not yet absolutely market price. confirmed) that the minimum price will be changed to the volume- 2. Other structures involve offers to weighted average price for the existing shareholders and/or the public three trading days prior to the • When issues with preferential offer, less a discount not exceeding subscription rights are used, the five percent.] „

2 Latham & Watkins | SmartCapital—Issue 2, 2005 Private Equity in Russia Post-1998 Crisis Chris Allen and Igor Sosnovsky of Latham’s Moscow office provide an update on the developing legal and economic environment for the private equity market in Russia.

Whilst the high investment rates of return of 1993 through 1998 raise nostalgic thoughts for some private equity players in the Russian market, few would argue against the very positive developments that have taken place since the dark days of devaluation and sovereign default in 1998. The recovery is years from completion, but the “1998 Crisis” brought down the charade of a healthy economy and forced a Chris Allen cross-the-board shake up politically, economically and legally. Below, we describe how the “post-Crisis” period represents a brighter future for those in the field of international private equity.

Historical Challenges to Private Recent Trends and Positive Equity Investors in Russia Developments In Russia, there are many small to Russia is still developing the legal medium firms in need of financing framework required to support a and a shortage of places to find it. The market economy. Certain gaps, major Russian industrials/conglomerates inconsistencies and ambiguities in have ready access to the international the Russian regulatory structure have lending and capital markets and are been recognised and are gradually Igor Sosnovsky prepared for, and used to, the high being addressed in the following areas: levels of accounting and operational disclosure and corporate governance. More than 80 percent of smaller firms, however, finance capital expenditures Perhaps the single greatest hindrance to the out of cash flows and informal arrangements. It has not been easy to growth of private equity in Russia has been find companies that satisfy the standard investment criteria sought in Western the vagueness and inflexibility of Russian law private equity investments: solid management, transparent financials, and the unreliability of the court system. clear strategies and detailed business plans, clean ownership to assets and land, clear corporate records and • Taxation. In 1999, a global tax binding contractual arrangements reform introducing general taxation with suppliers/distributors/customers. rules was compiled in a unified Perhaps the single greatest hindrance Tax Code. Outdated legislation to the growth of private equity in Russia regulating the application of major has been the vagueness and inflexibility taxes is being replaced with new of Russian law and the unreliability provisions in the Tax Code. Although of the court system. The basic tax rules remain complicated and requirements for private equity subject to differing interpretations investment, including enforceability by various governmental authorities, of shareholder agreements, solid the unification of tax legislation and reliable minority shareholder provides a more stable and protections and company transparency predictable business environment. have been either non-existent or • Corporate Governance. Although blatantly ignored. some basic principles of corporate governance exist, the violation of

3 Latham & Watkins | SmartCapital—Issue 2, 2005 With low asset Private Equity in Russia • Land Code. The Russian Land Code (Continued from Page 3) adopted in 1991 effectively banned values by Western legal entities from commercial minority shareholders’ rights by exploitation of land and, as a standards, a Russian companies, abuse by result, was a major impediment for directors of their managerial powers, highly educated businesses in Russia. Conversely, widespread use of related-party the new Land Code adopted in 2001 transactions in favour of certain work force confirmed the right of corporations groups of shareholders or directors, to own land and set forth procedures and seemingly insider trading and general non- for obtaining ownership or rent transparency of corporate actions limitless natural titles for different types of lands. are still common problems. The Although certain implementing Corporate Governance Code resources, Russia regulations must be passed to make recommended in 2002 by the the Land Code fully operational, is a country of Russian securities regulator for the current real estate laws give implementation by Russian joint huge potential investors a sufficient basis for companies addresses such planning their businesses in Russia. for those brave problems. Although not mandatory, this Code has served as a guideline • Bankruptcy Legislation. The Federal enough to get for numerous Russian companies Law “On Insolvency (Bankruptcy)” involved. adopting their own corporate adopted in 1998 to cleanse the governance policies and, generally, national economy from ineffective has improved business standards business was subject to abuse, and shareholders’ protection. commonly through the orchestrated, and often forced, bankruptcy of • Amendments to the JSC Law. otherwise sound companies. The The Federal Law on Joint Stock new version of this Federal Law Companies adopted in 1995 is one adopted in 2002 provides for a of the fundamental laws regulating higher threshold of unpaid debt, business conduct in Russia. The JSC giving the creditor the right to seek Law is a fairly reliable instrument bankruptcy and makes it compulsory for running a company albeit for creditors to attempt to recover susceptible, to some extent, to such debt from the company prior to manipulation and abuse, as initiating bankruptcy proceedings. evidenced by numerous corporate In addition to establishing a wars and scandals throughout the procedure for financial rehabilitation late ‘90s. Some of the JSC Law’s of a company, the new law improved deficiencies were rectified by a set regulation of the creditor committee’s of amendments adopted in 2001, actions and its interaction with designed to clarify the division of external managers (administrators). powers between the shareholders and directors concerning the Conclusion increase of share capital, issuance Positive improvements in the legal of new shares, approval of major and regulatory investment climate, and interested party transactions, combined with good overall economic exercise of the right of first refusal fundamentals for Russia in the four to and redemption of shares in closed five years following the “1998 Crisis”, joint stock companies. The 2001 makes the future look bright for the amendments and subsequent minor private equity player with the wit and amendments to the JSC Law, in resolve to take on the Russian market. large part, clarify Russian corporate With low asset values by Western law and provide more safeguards standards, a highly educated work against potential abuse. force and seemingly limitless natural resources, Russia is a country of huge potential for those brave enough to get involved. „

4 Latham & Watkins | SmartCapital—Issue 2, 2005 United Kingdom—Introduction of Domestic Works Councils in the UK The Information and Consultation of Employees Regulations 2003 (the “Regulations”), which take effect in April 2005, have been described as potentially the most significant piece of employment legislation ever to be introduced in the UK. Initially, the Regulations will impact all employers who have 150 or more employees in the UK. Employers of 100 or more employees will be covered in 2007, and 50 or more in 2008. The Regulations will enable employees in an affected business to require their employer to set up a “Works Council”. The employer will then have to consult with the council on “decisions likely to lead to a substantial change in work organisation and contractual relations”. Its scope is very wide and potentially covers or outsourcing of services. Consultation will have to be “with a view to reaching agreement” with the employees and must occur in advance of any decision that might affect them. If employers agree with their employees to set up a voluntary consultation body [a voluntary works council (VWC)], then the employer and the employees can agree what issues to consult about rather than have this issue (and a whole host of administrative issues) governed by the Regulations. Once a VWC is in place, it is much harder for employees to force an employer to introduce the wide ranging and restrictive style of Works Council as dictated in the Regulations; it will take 40 percent of the workforce to vote in favour of re-opening negotiations. However, a VWC must be up and running before April 2005. Therefore, employers need to start making plans now. Stephen Brown in our London office has already advised a number of corporates on the establishment of VWCs and can be contacted at +44(0)207-710-1066. Germany—Proposal For Change in of Cash Compensation for Minority Shareholders In the event of certain corporate measures (e.g., squeeze-outs, domination agreements and profit and loss pooling agreements) a cash compensation must be offered to the minority shareholders. The valuation of the shares of the minority shareholders in such cases is based on the so-called IDW Standard, which contains rules pursuant to which chartered accountants must determine the cash compensation. This has caused problems in the past because the cash compensation determined pursuant to such standard was often significantly higher than the share price quoted at the stock exchange, which resulted in a higher price having to be paid for the target. Furthermore, in case of a it became more difficult to obtain the envisaged number of shares because many shareholders were speculating on a higher cash compensation later and therefore did not accept the offer. The IDW is about to issue a proposal in order to change the IDW Standard. Changes it intends to make could lead to a lower cash compensation being paid to minority shareholders in the future. Germany—Decision on Management Participations Two decisions on management participation programs were rendered recently. The subject of both decisions was the validity of management participation clauses under which the majority shareholder was entitled to repurchase the shareholding of a minority shareholder if such shareholder ceased to be a member of the management board. The Higher Regional Court of Frankfurt held that such clause is contra bonos mores because the termination of the management position was in the sole discretion of the majority shareholder and he was therefore able to repurchase the shareholding without having a justified reason. In contrast, the Higher Regional Court of Düsseldorf did not object to such a clause. Both decisions have been appealed and there are good reasons to believe that the German Supreme Court will follow the opinion of the Higher Regional Court of Düsseldorf. However, until a final judgment has been delivered, consideration should be given to only include clauses which provide for both “Good Leaver” and “Bad Leaver” concepts, in relation to the termination of a management participation. France—Clauses “léonines” In a recent decision, dated 16 November 2004, the Commercial Section of the Supreme Court confirmed yet again that the prohibition of clauses “léonines” did not apply to an agreement whose purpose is to transfer the shares of a company (such as a put option agreement). It did, however, clarify its position on two points which are of particular interest for financial investors. Firstly, the Supreme Court is clear that if driven by financial considerations of a financial investor seeking a justified return on his investment (without which such investor would not have made the investment in the first place), the put option agreement is valid. Secondly, the Supreme Court confirms that the put option agreement is valid without requirement to be counterbalanced by a call option agreement under which the financial investor would have to grant a call under similar terms as the put option agreement—a Court decision which is clearly favourable to financial investors. „

5 Latham & Watkins | SmartCapital—Issue 2, 2005 articles of association, are drafted Drag-along Rights so that they can be invoked upon and the ‘Ordinary a purchaser acquiring or increasing the size of a controlling stake in Business Man’ the company. This is considerably Nick Cline of Latham’s London broader than the limited compulsory office comments on the importance transfer provisions in the UK of using clear language in drag- Companies Act which can only be along rights and looking beyond used where a purchaser acquires 90 standard legal parlance to what percent or more of the shares which the ordinary businessman will it does not already hold and where understand the words to mean. the acquisition is structured as a Nick Cline offer. The Companies Act The English Courts have indicated compulsory transfer provisions are a reluctance to enforce drag-along also handicapped by a lengthy rights unless they are drafted in the Drag-along rights timeline which most private equity clearest of terms and will interpret vendors will seek to avoid. Clearly, by their very nature such provisions in a manner drag-along rights will be more consistent with the understanding readily acceptable to minority impose the will of of an ordinary business man. shareholders in an MBO context as the majority on the Drag-along rights (or ‘come-along’ opposed to those in a development minority. For this rights as they are sometimes known capital context. in the US) are a device used by Drag-along rights by their very majority shareholders to ensure that reason, the courts nature impose the will of the upon a sale exit of the company the majority on the minority. For have been cautious purchaser can ‘sweep-up’ minority this reason, the courts have been holders by forcing them to sell when addressing cautious when addressing the their shares on the same terms enforceability of such rights. From as the majority. the enforceability the limited caselaw on the subject, of such rights. Express drag-along rights, which the Australian case of Gambotto are usually found in a company’s and another v WCP Ltd and another

Alphamosaic Ltd Coral Eurobet De Dietrich Eutelsat

Representation of Representation of Coral Representation of ABN Representation of Broadcom Corporation Eurobet in one of the Amro Capital in its sale Spectrum Equity Investors in its acquisition of largest debt refinancings of De Dietrich to the Plc in the sale by Lehman Alphamosaic Limited of a private equity-backed De Dietrich family Brothers Merchant company in the UK to date Banking of its 20.7% stake 2004 2004 in Eutelsat to Eurazeo SA 2004 $123,000,000 €270,000,000 and Nebozzo SARL, an £1,245,000,000 entity jointly owned by Texas Pacific Group and Spectrum Equity Investors 2004 €643,000,000

SAB WABCO Sodes StreamServe TFS

Representation of Sagard Representation of CSFB PE Representation of Representation of TFS in in its acquisition, with in the sale of Sodes to Institutional Shareholder its Series A Preferred Faively Transport, of Bio-Ethanol Nord Picardie, in its purchase of existing Stock Financing Sab Wabco a subsidiary of Tereos shares in StreamServe 2004 2004 2004 2004 $6,500,000 €516,000,000 Not Public Not Public

6 Latham & Watkins | SmartCapital—Issue 2, 2005 [1995] 127 ALR 417 provides authority that operation of a drag-along right United Kingdom—Earnings already existing in a company’s articles Conference Calls and the would be permissible only strictly in accordance with its terms. UK Takeover Code It is common practice for US companies to conduct It follows that the key when preparing quarterly earnings conference calls, where and reviewing drag-along provisions is individual and institutional investors as well as to keep the language as clear as analysts can listen to a discussion of the company’s possible. That said, whilst many words results over the previous quarter, an outline of what have a clear technical meaning in legal can be expected in upcoming quarters and are circles, they will often have a different also given the opportunity to ask questions of popular meaning. The distinction is an the CEO and CFO. Earnings conference calls are important one in the context of a right often broadcast in real time over the Internet and typically contained in a company’s recordings of the latest earnings conference calls articles of association where the can typically be found in the Investor Relations principle established in Alexander v section of the company’s Web site. Simpson (1889) 43 Ch D 139 is relevant. The principle states that where there is The practice of conducting earnings conference a question over the meaning of a term calls can be problematic in the context of a US in a company’s articles of association, company making a takeover bid for a public the courts will have regard to what an company in the United Kingdom as statements, “ordinary business man” would believe which will be regarded as profit forecasts for the the term to mean. purposes of the UK Takeover Code, may have Particular care is required if it is been made during the course of the conference intended that the drag-along right be call. A statement may be regarded as a profit used to compel minority shareholders forecast for the purposes of the UK Takeover Code to sell their shares for consideration even when no particular figure is mentioned or other than cash. To the ordinary if the word “profit” is not used. When a form of business man the term “purchase” has words puts a floor under, or a ceiling on, the likely the meaning of “buying for money”, profits of a particular period or contains the data per Denning, L.J. in Bolton (HL) necessary to calculate an approximate figure for (Engineering) Co Ltd v Graham (TJ) future profits, it will be treated by the UK Takeover & Sons Ltd [1956] 3 All ER 624, so a Panel as a profit forecast. term such as “acquire” (which has the Except with Panel consent, a profit forecast made popular meaning of ‘buying, taking before the commencement of an offer period will in exchange, etc.’) should be used if have to be examined, repeated and reported on in the drag-along provision is intended the document sent to the target’s shareholders. to work in situations where non-cash When a profit forecast is given in a press consideration is being offered. announcement commencing or made during an Similarly, words such as “value” offer period or appears in any document addressed should be used in favour of words such to shareholders in connection with an offer, as “price”. Alternatively, and better the assumptions (including the commercial still, the drag-along right should be assumptions) upon which the directors have based explicit and refer to cash or non-cash their profit forecast must be included in the consideration throughout. document or announcement. Unless the bidder Equally as important as a tightly drafted is offering solely cash (or, with Panel consent, drag-along right will be co-ordinated non-convertible debt) the accounting policies provisions in the company’s articles and calculations for the forecasts must be reported and instruments governing the terms on by the auditors or accountants as well as by of any convertible shares, options the bidder’s financial advisors. and warrants. Documentation should Given the likely reluctance of the auditors and provide that any shares or securities financial advisors of US companies to report on convertible into ordinary shares convert, profit forecasts which have been given in an and any warrants or options over earnings conference call, it is important to bear in ordinary shares are exercised and/or mind the requirements of the UK Takeover Code lapse, upon the acquisition by a when structuring a bid for a UK public company. „ purchaser of a controlling stake and immediately prior to the operation of the drag-along right. „

7 Latham & Watkins | SmartCapital—Issue 2, 2005 Latham & Watkins Boosts particularly mediation, and is Awards Litigation Team with Senior Hire an accredited mediator for the In the forthcoming Legal Latham & Watkins is pleased Centre for Effective Dispute Business Awards, Thomas to announce that John Hull Resolution. Mr. Hull, who Forschbach, who according to will join the firm as a Partner will be joining the firm on Legal Business is “Europe’s to lead the development of the 21 February 2005, joins from biggest private equity star”, firm's litigation practice out of Richards Butler, where he has has been nominated in the London. With a strong track practiced since 1989. “Lawyer of the Year” category. record in managing high-end Rankings Latham recently received the multi-jurisdictional matters, In the year-end 2004 IPO Counsel awards for “German Law Firm Mr. Hull’s practice has a focus rankings, Thomson Financial of the Year” and “Real Estate on representing investment ranked Latham, which handled Law Firm of the Year” at the banks and other financial 33 US IPOs for the year, the 2004 JUVE Awards held in institutions in disputes often top firm by number of deals Frankfurt, Germany. The JUVE involving mutual funds, hedge (representing either issuers Awards, attended this year by funds and complex investment or underwriters). more than 500 guests, honours structures. He is also experienced outstanding law firms and in alternative dispute resolution, practice teams in Germany.

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8 Latham & Watkins | SmartCapital—Issue 2, 2005