CORPORATE/M&A: HIGH-END CAPABILITY — RUSSIA

Russia continues to reform its legislation by reducing the imperative tone of its regulations and putting emphasis on enhancing the protection of business investments. We hope that this reform will have a positive impact on Russian business as a whole and M&A transactions in particular.

In recent years, Russia has been gradually simplifying the administrative regulation of business. Some of the most recent simplifications included a reduction in the time required for registering a new legal entity to up to three business days as well as changes to the rules and procedures relating to transferring a participation interest in a limited liability company. In response to demand from business, the state has also strengthened some legal instruments whose enforceability was very limited before. Good examples are the use of waivers, options, corporate guarantees and transaction break-up payoffs. Another change relates to permitting shareholders of joint-stock companies to make unremunerated contributions to the companies’ assets.

To enhance the protection of shareholders, Russia has also amended rules relating to corporate approvals required for major transactions and interested party transactions. The amendments provide for a more detailed and flexible regulatory regime which addresses a number of practical issues. In order to mitigate the risks of groundless challenges to such transactions, the new regulation limits the potential claimants eligible to launch such a challenge, to shareholders holding at least 1% of the votes. Also, now the challenging party does not need to prove any damage; the fact that an approval for a transaction is absent constitutes grounds for invalidation. 

Creating a more comfortable environment is not limited only to substantive law; procedural law regulations are also being improved. For example, a new law on arbitration has been adopted that contains a number of very important innovations; in particular, the arbitrability of certain corporate disputes is acknowledged. Also, to ensure consistency in applying the new legal instruments and concepts as well as to promote the uniform interpretation of the law, the higher courts, while developing case law practice, now issue guidelines on using and interpreting the new legal instruments for further use by lawyers and lower courts.

The lack of flexibility and the excessively imperative tone of the Russian legal system has often made it more difficult for investors to use some of the institutions and legal instruments that are available in other jurisdictions. This was a source of criticism. It was also a reason why investors, and some Russian companies, tried to move to foreign jurisdictions, have their contracts regulated by foreign law and have their disputes resolved by non-Russian courts.

However, using foreign law and foreign arbitral tribunals (or foreign state courts) is not always justified, as such disputes are expensive and involve lengthy procedures in the dispute resolution stage itself and during the decision enforcement process.

To address this, Russia has launched a reform of civil legislation and, as a result, extensive amendments are being made to the Russian Civil Code and a number of other laws. The focus of the changes has been the introduction of legal mechanisms and tools that offer similar protection to Russian law deals as those structured under foreign law. For example, representations and indemnities were introduced. Additionally, the approach to interpreting conditions precedent was changed; pre-contractual negotiations are now regulated and a mechanism of payment by escrow has been introduced. The new legal instruments are not identical but are fairly similar to foreign legal provisions. Despite the fact that such legal instruments are fairly new, the number of Russian law transactions has already been growing.

Below, we briefly describe key innovative legal instruments that can be used in M&A transactions under Russian law.

Among recent amendments to the Civil Code, the equivalent of representations and warranties was introduced, defined as ‘representations as to circumstances’. However, in Russian law representations, no distinction is made between representations and warranties. According to the Civil Code, breaching representations evokes an obligation to compensate a counterparty for losses or pay a penalty. Moreover, the counterparty may repudiate the contract if there is a breach of representations that is significant to the counterparty. As a general rule, liability applies irrespective of fault, i.e. irrespective of whether the party knew that such representations were false.

Before the reform, Russian law did not recognise the concept of indemnity, which is widely used in international M&A transactions. Now Russian law allows the parties to establish in a contract that one party has an obligation to the other party for the other party's property loss which arises as a consequence of specified circumstances, but is not connected to any breach of obligations. If a contract is treated as invalid or not having been concluded, this does not terminate an indemnity obligation.

A condition precedent is an event or state of affairs that is required before a transaction is completed. If such conditions are not met, the transaction is terminated. Previously, the concept of condition precedent had a limited effect in Russian law; in particular, such conditions can not depend on the will of the parties. Therefore, a condition to obtain a consent of the board of directors or of a general meeting of shareholders as a condition precedent was unenforceable in practice. Now, the law directly provides that the parties may stipulate that obligations are to be met by way of certain actions being performed or not performed, or if circumstances occur that are fully dependent on the will of the parties.

The negotiation process is now regulated by law. In particular, the law apportions the costs of negotiations in the event a party enters into negotiations without an intent to conclude a contract. Providing false information or terminating negotiations without reasonable grounds is now treated as bad-faith behaviour. The party negotiating in bad faith must reimburse the losses caused by its behaviour. What is especially noteworthy is the obligation established by the law not to disclose and not to use confidential information received during negotiations in an improper manner for one’s own purposes. Also, the law stipulates that losses must be reimbursed if this obligation is violated.

The mechanism of payment by escrow is also widely used in international M&A transactions. The main purpose is to ensure that neither party can, at the same time, hold shares and the money transferred as payment for shares. The new escrow account mechanisms introduced into Russian law will ensure flexibility when determining the terms and conditions of settlements, including with regard to M&A transactions.

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