Insufficient equity in an acquisition: what if the company itself provides financing for the purchase?
In the world of acquisitions, the question of financing often poses a significant obstacle to successfully closing a transaction. Buyers frequently find themselves in a situation where they lack sufficient equity for the acquisition of the selected company, banks impose strict conditions, and potential investors hesitate. However, there is an elegant solution to this seemingly hopeless situation – financial assistance.
This tool, regulated by the Commercial Corporations Act (hereinafter referred to as “ZOK”), allows the company itself to assist in financing its own acquisition. Although this may sound paradoxical at first glance, the law explicitly permits this financing option under strict conditions.
What is financial assistance?
In practice, financial assistance means that the target company – that is, the one the buyer is interested in acquiring – participates in financing its own sale by providing a loan to a third party (i.e., the buyer), collateral (e.g., in the form of a guarantee or the establishment of a lien on the company's assets), or another form of financing for the acquisition of shares in the company. Essentially, this means that the company uses its own cash flow, available funds, or assets to finance its acquisition.
Utilizing the concept of financial assistance significantly reduces the equity requirements for the buyer and eliminates the need for complex financing through banks or investors. It also removes the necessity to pay bank fees or undergo demanding due diligence processes typically required by financial providers.
However, it is important to keep in mind that this tool is legally complex and its use is subject to strict legal conditions. Non-compliance can have serious legal and financial consequences.
Main advantages of financial assistance
1. Utilization of the target company's resources
Financial assistance allows the strong financial position, high cash flow, or unnecessary assets of the target company to be utilized to finance its own acquisition – without the need to use the buyer's own equity.
2. Reduction of barriers for buyer entry
By reducing the equity requirements, financial assistance opens the door to a broader range of interested parties – for example, members of the existing management of the company or family successors during succession planning.
3. Flexibility of conditions
Unlike rigid banking products, financial assistance allows the parameters of the transaction to be set according to specific needs. It also eliminates the need for complex negotiations with banks, which accelerates the entire process.
4. Optimization of financial structure
Properly structured financial assistance can provide tax benefits, improve the ratio of equity to debt, and contribute to a more efficient use of the target company's financial resources.
Legal conditions for financial assistance: What must be fulfilled?
Although financial assistance offers several advantages, its use is subject to strict legal rules, non-compliance with which can have serious consequences – including the invalidity of the entire transaction or personal liability of members of the statutory bodies.
Common rules for limited liability companies and joint-stock companies
a) Report of the statutory body and decision of the general meeting
Before providing financial assistance, the statutory body of the company must prepare a written report that thoroughly justifies the purpose and conditions of the financial assistance. The report must also explain why the financial assistance is in line with the interests of the company. The intention to provide assistance is subsequently approved by the general meeting of the target company by a simple majority of votes (unless otherwise stipulated in the articles of association/statutes).
b) Fair conditions
The parameters of the agreed financial assistance must always correspond to market conditions, comparable to commercial loans, including interest rates and collateral requirements in favor of the company. The company providing financial assistance must also demonstrate that the transaction does not harm its interests.
c) Insolvency test
The provision of assistance must not lead to the insolvency of the company. In other words, the company must not \"undermine\" itself by lending more than it can afford. The statutory body should always assess in advance that the financial assistance will not negatively impact the solvency and financial health of the company.
Stricter conditions for assistance in joint-stock companies
In joint-stock companies, the provision of financial assistance is regulated much more strictly than in limited liability companies. The aim is to enhance the protection of shareholders, creditors, and the company itself. What should be considered?
Explicit authorization in the articles of association
The articles of association of the joint-stock company must explicitly include the possibility of providing financial assistance; without this, it cannot be validly provided.
Stricter test of the company's interest
The law requires that the assistance be genuinely \"in the interest of the company,\" not merely \"in accordance with its interest.\" This is a more demanding legal standard that requires deeper economic and strategic justification.
Expanded report of the statutory body
The report must, in addition to the usual justification, also include information about the share price and an analysis of the buyer's financial capability – that is, their ability to manage the transaction without jeopardizing the company.
Qualified majority at the general meeting
Approval of financial assistance requires the consent of at least two-thirds of the shareholders present at the general meeting (unless a higher quorum is stipulated in the articles of association).
Capital protection