Ukraine: 4 Questions You Should Consider When Selling Your Stake In Business To A Private Equity Fund

Unlike Western developed economies, Ukraine has only recently started to unlock its potential in the area of attracting investments from Private Equity Funds ("PEFs"). Therefore, on the one hand, every more or less serious Ukrainian business ("Business") has a good chance to attract the attention of a PEF. On the other hand, owners of Business ("Owners") often know little of the nature and goals of PEFs. Moreover, not all Owners have good knowledge of instruments of English law (the governing law for most deals with PEFs).

Thus, if an experienced lawyer (or, at least, an experienced financial advisor) is not engaged by an Owner from the outset, in the result may be:

• a lot of time being wasted for non-negotiable matters, while matters which may be negotiated for the benefit of Owners are not negotiated at all
• the deal falling apart or, at least, getting suspended for some time
• after deal closes, an Owner realising that life with PEF is not something he thought it would be when negotiating transaction documents. This, at best, may result in unpleasant talks with PEF or, at worst, may lead to a corporate conflict adversely affecting the Business

In order to avoid the above situations, it is important to clearly understand the answers to the following questions:

1. What is the investment horizon and exit strategy of the PEF?

PEFs are not long-term strategic investors. Therefore, at the time of the "wedding" they already have a clear understanding of the timing and specifics of the "divorce", which the Owner must also clearly understand.

As PEFs' core aim is to maximise the return on their investment in the short term (3 to 7 years), the PEF will insist on its right to exit from the Business through the sale of its shares to third parties or, based on the put option, to other shareholders. PEFs will also prefer to have a drag along right in respect of other shareholders. While, in return, PEFs may agree to a call option and other shareholders' drag along rights, they will do so only if the minimum level of return on their investment is guaranteed.

2. What role will the PEF play in running Business?

Apart from injecting money, PEF will try to increase the valuation of the Business (and, thus, increase its future return) by enhancing the efficiency of the day-to-day operation of the Business. All parties need to agree at the outset on the ways of achieving such efficiency. In particular, whether the PEF will have some responsibility over the operational activities of the Business (by nominating some of the Business's officers (e.g. a Chief Financial Officer)) is an important question.

In any event, every PIF will insist on:

• board-level representation in a holding company and, possibly, even in important Ukrainian companies
• the right to veto on key matters of the Business. Negotiating the list of such matters is one of the most time-consuming parts of negotiations
• strong informational rights (access to information and regular financial reporting)

3. What level of risk is the PEF willing to accept?

Among the different possible purchasers of a Business, PEFs are likely to be the most sensitive to the level of risk they are willing to accept and ways to reduce it. Therefore, PEFs will almost never agree to purchase a stake in a Business without conducting legal and financial due diligence. Moreover, PEFs will insist on broad warranties and a long list of indemnities covering all significant deficiencies discovered during due diligence or during the preparation of the disclosure letter.

This is another good reason for the Owners to conduct their own due diligence prior to negotiating the deal in order to identify all problematic areas, which, if not solved, may well influence the price of the deal with a PEF, delay completion of the deal due to additional conditions precedent or, at least, result in additional indemnities.

The reverse approach will apply to any future sale by a PEF of its stake in a Business when the PEF would be unwilling to give any warranties or indemnities other than capacity and title warranties.

4. Are you prepared to give personal guarantees (or other type of security)?

PEFs will always require some type of security: retention of some portion of the purchase price, pledge of some assets (including Owner's shares in the Business), bank guarantee, suretyship of a third party or personal guarantee of the Owner.

Such security will mostly cover two areas:

• the PEF's losses from breach of warranties
• due fulfilment by the Owner of his/her ongoing obligations (usually contained in the shareholders' agreement)

IMPORTANT: You must be aware that in negotiations PEFs are represented by experienced managers who, even without the support of lawyers, navigate the transaction documents quite well and understand the legal and practical implications of most of the legal provisions contained in them. Therefore, unless you have strong experience of doing deals under English law, do not try to negotiate legal concepts with the PEF's managers without your lawyer's participation.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.