CHINA Law and Practice Contributed by: Lingyun Dai, Tao Liu, Xueyong Liao and Yuzhou Shang, Lifeng Partners
5.3 Funding Structure of Private Equity Transactions In the majority of instances, private equity funds will utilise their own capital. The employment of leverage is a rare occurrence and is typically reserved for trans - actions of substantial magnitude. When leverage is utilised, the purchaser is required to obtain a commit - ment letter from a financial institution to affirm that its financial position is sound. When leverage is utilised, the transaction cycle is inevitably extended due to the involvement of bank borrowing. This is particularly disadvantageous for the purchaser in an auction sale, where it faces competi - tion, as a prolonged transaction cycle is a significant drawback. Therefore, in most cases, purchasers will still prefer to utilise their own capital. 5.4 Multiple Investors The existence of deals involving a consortium of pri - vate equity sponsors is acknowledged. However, it is not a frequent occurrence. It is typically observed in the context of large-scale transactions. 6. Terms of Acquisition Documentation 6.1 Types of Consideration Mechanism Various forms of consideration structure will be used in private equity transactions. Generally, sellers and target companies tend to favour locked-box consid - eration structures, which, however, impose stricter controls on leakage during the interim period. If the transaction uses closing accounts for pricing, the par - ties will have their own understandings of the extent of price adjustments. When disputes arise between the parties regarding price adjustments, a clear solution must be in place to stipulate how such adjustments will be made. Earn-outs, deferred consideration and roll-over struc - tures are common features. The most notable difference when private equity funds participate in transactions is that, due to their fiduciary duties to their LPs, private equity funds are very cau - tious about assuming liabilities (including indemnities,
guarantees, etc) and typically will not agree to assume such responsibilities during negotiations. 6.2 Locked-Box Consideration Structures Fixed-price locked-box consideration structures are not commonly utilised in transactions. However, should this mechanism be employed, interest is typi - cally charged. 6.3 Dispute Resolution for Consideration Structures In transactions where closing accounts are employed for pricing, price adjustments are necessitated. In the event that the parties have divergent understandings of the price adjustment, a clear dispute resolution mechanism is imperative within such a consideration structure. Consequently, the parties engage in negoti - ations with a high degree of clarity regarding the price adjustment under these circumstances. Conversely, when fixed-price locked-box considera - tion structures are utilised, the situation is relatively more favourable, unless significant leakage occurs. 6.4 Conditionality in Acquisition Documentation The determination of these matters hinges upon the nature of the transaction in its entirety and the specific circumstances at hand. For instance, apart from mandatory closing conditions, if the parties to an M&A transaction are driven by certain business objectives, additional closing conditions will inevitably be imposed. To illustrate further, in a particular trans - action where a portion of the assets cannot be held by the buyer or must be divested for various reasons, the completion of such divestitures will certainly be a prerequisite for closing. Material adverse change/effect provisions are relative - ly common. If the interim period between the signing and closing of a transaction is excessively prolonged, there will assuredly be provisions relating to mate - rial adverse changes to mitigate risks, preventing the buyer from losing the purpose of acquiring the assets due to significant changes arising from other factors (such as geopolitical considerations). This also serves as a safeguard for exit.
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