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Italien
Acquisitions (M&A) in Italy: share deal or asset deal
25 September 2019
- Unternehmen
- Fusionen Und Übernahmen
- Privates Eigenkapital
Summary – When can the Coronavirus emergency be invoked as a Force Majeure event to avoid contractual liability and compensation for damages? What are the effects on the international supply chain when a Chinese company fails to fulfill its obligations to supply or purchase raw materials, components, or products? What behaviors should foreign entrepreneurs adopt to limit the risks deriving from the interruption of supplies or purchases in the supply chain?
Topics covered
- The impact of Coronavirus (Covid-19) on the international Supply chain
- What is Force Majeure?
- The Force Majeure Contract Clause
- What is Hardship?
- Is the Coronavirus a Force Majeure or Hardship event?
- What is the event reported by the Supplier?
- Did the Supplier provide evidence of Force Majeure?
- Does the contract establish a Force Majeure or Hardship clause?
- What does the law applicable to the Contract establish?
- How to limit supply chain risks?
The impact of Coronavirus (Covid-19) on the international Supply chain
Coronavirus/Covid 19 has created terrible health and social emergencies in China, which have made exceptional measures of public order necessary for the containment of the virus, like quarantines, travel bans, the suspension of public and private events, and the closure of industrial plants, offices and commercial activities for a certain period of time.
Once the reopening of the plants was authorized, the return to normality was strongly slowed because many workers, who had traveled to other regions in China for the Lunar New Year holiday, did not return to their workplaces.
The current data on the reopening of the factories and the number of staff present are not unambiguous, and it is legitimate to doubt their reliability; therefore, it is not possible to predict when the emergency can be defined as having ended, or if and how Chinese companies will be able to fill the delays and production gaps that have been created.
Certainly, it is very probable that, in the coming months, foreign entrepreneurs will see their Chinese counterparts pleading the impossibility of fulfilling their contracts, with Coronavirus as the reason.
To understand the size of the problem, just consider that in the month of February 2020 alone, the China Council for the Promotion of International Trade (the Chinese Chamber of Commerce that is tasked with promoting international commerce) at the request of Chinese companies, has already issued 3,325 certificates attesting to the impossibility of fulfilling contractual obligations due to the Coronavirus epidemic, for a total value of more than 270 billion yuan (US $38.4 bn), according to the official Xinhua News Agency.
What risks does this situation pose for foreign entrepreneurs, and what consequences can it have beyond Chinese borders?
There are many risks, and the potential damages are enormous: China is the world’s factory, and it currently generates roughly 15% of the world’s GDP. Therefore, it is unlikely that a production chain in any industrial sector does not involve one or more Chinese companies as suppliers of raw materials, semi-finished materials, or components (in the case of Italy, the sectors most integrated with supply chains in China are the automotive, chemical, pharmaceutical, textile, electronic, and machinery sectors).
Failure to fulfill on the part of the Chinese may, therefore, result in a cascade of non-fulfillments of foreign entrepreneurs towards their end clients or towards the next link in the supply chain.
The fact that the virus is spreading rapidly (at the moment of publication of this article the situation is already critical in some regions in Italy (and in South Korea and Iran), and cases are beginning to be flagged in the USA) furthermore, makes it possible that production stops and quarantine situations similar to those described could also be adopted in regions and industrial sectors of other countries.
To simplify this picture, let us consider the case of a Chinese supplier (Party A) that supplies a component or performs a service for a foreign company (Party B), which in turn assembles (in China or abroad) the components into a semi-finished or final product, that is then resold to third parties (Party C).
If Party A is late or unable to deliver their product or service to Party B, they risk finding themselves exposed to risks of contract failure versus Party C, and so on along the supply/purchase chain.
Let’s examine how to handle the case in which Party A communicates that it has become impossible to fulfill the contract for reasons related to the Coronavirus emergency, such as in the case of an administrative measure to close the plant, the lack of staff in the factory on reopening, the impossibility of obtaining certain raw materials or components, the blocking of certain logistics services, etc.
In international trade, this situation, i.e. exemption from liability for non-fulfillment of contractual performance, which has become impossible due to events that have occurred outside the sphere of control of the Party, is generally defined as „Force Majeure“.
To understand when it is legitimate for a supplier to invoke the impossibility to fulfill a contract due to the Coronavirus and when instead these actions are unfounded or specious, we must ask ourselves when can Party A invoke Force Majeure and what can Party B do to limit damages and avoid being considered in-breach towards Party C.
What is Force Majeure?
At an international level, a unified concept of Force Majeure doesn’t exist because every different country has established their own specific regulations.
A useful reference is given by the 1980 Vienna Convention on Contracts for the International Sale of Goods (CISG), ratified by 93 countries (among which are Italy, China, the USA, Germany, France, Spain, Australia, Japan, and Mexico) and automatically applicable to sales between companies with seat in contracting states.
Art. 79 of CISG, titled, “Impediment Excusing Party from Damages”, provides that, “A party is not liable for a failure to perform any of his obligations if he proves that the failure was due to an impediment beyond his control and that he could not reasonably be expected to have taken the impediment into account at the time of the conclusion of the contract or to have avoided or overcome it or its consequences.”
The characteristics of the cause of exemption from liability for non-fulfillment are, therefore, its unpredictability, the fact that it is beyond the control of the Party, and the impossibility of taking reasonable steps to avoid or overcome it.
In order to establish, in concrete terms, if the conditions for a Force Majeure event exist, what its consequences are, and how the parties should conduct themselves, it is first necessary to analyze the content of the Force Majeure clause (if any) included in the contract.
The Force Majeure Contract Clause
The model Force Majeure clause used for reference in international commerce is the one prepared by the International Chamber of Commerce, la ICC Force Majeure Clause 2003, which provides the requirements that the party invoking force majeure has the burden of proving (in substance they are those provided by art. 79 of CISG), and it indicates a series of events in which these requirements are presumed to occur (including situations of war, embargoes, acts of terrorism, piracy, natural disasters, general strikes, measures of the authorities).
The ICC Force Majeure Clause 2003 also indicates how the party who invokes the event should behave:
- Give prompt notice to the other parties of the impediment;
- In the case in which the impediment will be temporary, promptly communicate to the other parties the end;
- In the event that the impossibility of the performance derives from the non-fulfillment of a third party (as in the case of a subcontractor) provide proof that the conditions of the Force Majeure also apply to the third supplier;
- In the event that this shall lead to the loss of interest in the service, promptly communicate the decision to terminate the contract;
- In the event of termination of the contract, return any service received or an amount of equivalent value.
Given that the parties are free to include in the contract the ICC Force Majeure Clause 2003 or another clause of different content, in the face of a notification of a Force Majeure event, it will, therefore, be necessary, first of all, to analyze what the contractual clause envisages in that specific case.
The second step (or the first, if, in the contract, there is no Force Majeure clause) would then be to verify what the law applicable to the contractual agreement provides (which we will deal with later).
It is also possible that the event indicated by the defaulting party does not lead to the impossibility of the fulfillment of the contract, but makes it excessively burdensome: in this case, you cannot apply Force Majeure, but the assumptions of the so-called Hardship clause could be used.
What is Hardship?
Hardship is another clause that often occurs in international contracts: it regulates the cases in which, after the conclusion of the contract, the performance of one of the parties becomes excessively burdensome or complicated due to events that have occurred, independent of the will of the party.
The outcome of a Hardship event is that of a strong imbalance of the contract in favor of one party. Some textbook examples would be: an unpredictable sharp rise in the price of a raw material, the imposition of duties on the import of a certain product, or the oscillation of the currency beyond a certain range agreed between the parties.
Unlike Force Majeure, in the case of Hardship, performance is still feasible, but it has become excessively onerous.
In this case, the model clause is also that of the ICC Hardship Clause 2003, which provides that Hardship exists if the excessive cost is a consequence of an event outside the party’s reasonable sphere of control, which could not be taken into consideration before the conclusion of the agreement, and whose consequences cannot be reasonably managed.
The ICC Hardship clause stabilizes what happens after a party has proven the existence of a Hardship event, namely:
- The obligation of the parties, within a reasonable time period, to negotiate an alternative solution to mitigate the effects of the event and bring the agreement into balance (extension of delivery times, renegotiation of the price, etc.);
- The termination of the contract, in the event that the parties are unable to reach an alternative agreement to mitigate the effects of the Hardship.
Also, when one of the parties invokes a Hardship event, just as we saw before for Force Majeure, it is necessary to verify if the event has been planned in the contract, what the contents of the clause are, and/or what is established by the norms applicable to the contract.
Is the Coronavirus a Force Majeure or Hardship event?
Let’s return to the case we examined at the beginning of the article, and try to see how to manage a case where a supplier internal to an international supply chain defaults when the Coronavirus emergency is invoked as a cause of exemption from liability.
Let’s start by adding that there is no one response valid in all cases, as it is necessary to examine the facts, the contractual agreements between the parties, and the law applicable to the contract. What we can do is indicate the method that can be used in these cases, that is responding to the following questions:
- The factual situation: what is the event reported by the Supplier?
- Has the party invoking Force Majeure proven that the requirements exist?
- What does the Contract (and/or the General Conditions of Contract) provide for?
- What does the law applicable to the Contract establish?
- What are the consequences on the obligations of the Parties?
What is the event reported by the Supplier?
As seen, the situation of force majeure exists if, after the conclusion of the contract, the performance becomes impossible due to unforeseeable events beyond the control of the obligated party, the consequences of which cannot be overcome with a reasonable effort.
The first check to be complete is whether the event for which the party invokes the Force Majeure was outside the control of the Party and whether it makes performance of the contract impossible (and not just more complex or expensive) without the Party being able to remedy it.
Let’s look at an example: in the contract, it is expected that Party A must deliver a product to Party B or carry out a service within a certain mandatory deadline (i.e. a non-extendable, non-waivable), after which Party B would no longer be interested in receiving the performance (think, for example, of the delivery of some materials necessary for the construction of an infrastructure for the Olympics).
If delivery is not possible because Party A’s factory was closed due to administrative measures, or because their personnel cannot travel to Party B to complete the installation service, it could be included in the Force Majeure case list.
If instead the service of Party A remains possible (for example with the shipping of products from a different factory in another Chinese region or in another country), and can be completed even if it would be done under more expensive conditions, Force Majeure could not be invoked, and it should be verified whether the event creates the prerequisites for Hardship, with the relative consequences.
Did the Supplier provide evidence of Force Majeure?
The next step is to determine if the Supplier/Party A has provided proof of the events that are prerequisites of Force Majeure. Namely, not being able to have avoided the situation, nor having a reasonable possibility of remedying it.
To that end, the mere production of a CCPIT certificate attesting the impossibility of fulfilling contractual obligations, for the reasons explained above, cannot be considered sufficient to prove the effective existence, in the specific case, of a Force Majeure situation.
The verification of the facts put forward and the related evidence is particularly important because, in the event that a cause for exemption by Party A is believed to exist, this evidence can then be used by Party B to document, in turn, the impossibility of fulfilling their obligations towards Party C, and so on down the supply chain.
Does the contract establish a Force Majeure or Hardship clause?
The next step is that of seeing if the contract between the parties, or the general terms and conditions of sale or purchase (if they exist and are applicable), establish a Force Majeure and/or Hardship clause.
If yes, it is necessary to verify if the event reported by the Party invoking Force Majeure falls within those provided for in the contractual clause.
For example, if the reported event was the closure of the factory by order of the authorities and the contractual clause was the ICC Force Majeure Clause 2003, it could be argued that the event falls within those indicated in point 3 [d] or „act of authority“ … compliance with any law or governmental order, rule, regulation or direction, curfew restriction“ or in point 3 [e] „epidemic“ or 3 [g] „general labor disturbance“.
It should then be examined what consequences are provided for in the Clause: generally, responsibility for timely notification of the event is expected, that the party is exempt from performing the service for the duration of the Force Majeure event, and finally, a maximum term of suspension of the obligation, after which, the parties can communicate the termination of the contract.
If the event does not fall among those provided for in the Force Majeure clause, or if there is no such clause in the contract, it should be verified whether a Hardship clause exists and whether the event can be attributed to that prevision.
Finally, it is still necessary to verify what is established by the law applicable to the contract.
What does the law applicable to the Contract establish?
The last step is to verify what the laws applicable to the contract provide, both in the case when the event falls under a Force Majeure or Hardship clause, and when this clause is not present or does not include the event.
The requirements and consequences of Force Majeure or Hardship can be regulated very differently according to the applicable laws.
If Party A and Party B were both based in China, the law of the People’s Republic of China would apply to the sales contract, and the possibility of successfully invoking Force Majeure would have to be assessed by applying these rules.
If instead, Party B were based in Italy, in most cases, the 1980 Vienna Convention on Contracts for the International Sale of Goods would apply to the sales contract (and as previously seen, art.79 “Impediment Excusing Party from Damages”). As far as what is not covered by CISG, the law indicated by the parties in the contract (or in the absence identified by the mechanisms of private international law) would apply.
Similar reasoning should be applied when determining which law are applicable to the contract between Party B and Party C, and what this law provides for, and so on down the international supply chain.
No problems are posed when the various relationships are regulated by the same legislation (for example, the CISG), but as is likely the case, if the applicable laws were different, the situation becomes much more complicated. This is because the same event could be considered a cause for exemption from contractual liability for Party A to Party B, but not in the next step of the supply chain, from Party B to Party C, and so on.
How to limit supply chain risks?
The best way to limit the risk of claims for damages from other companies in the supply chain is to request timely confirmation from your Supplier of their willingness to perform the contractual services according to the established terms, and then to share that information with the other companies that are part of the supply chain.
In the case of non-fulfillment motivated by the Coronavirus emergency, it is essential to verify whether the reported event falls among those that may be a cause of contractual exemption from liability and to require the supplier to provide the relevant evidence. The proof, if it confirms the impossibility of the supplier’s performance, can be used by the buyer, in turn, to invoke Force Majeure towards other companies in the Supply Chain.
If there are Force Majeure/Hardship clauses in the contracts, it would be necessary to examine what they establish in terms of notice of the impossibility to perform, term of suspension of the obligation, consequences of termination of the contract, as well as what the laws applicable to the contracts provide.
Finally, it is important to remember that most laws establish a responsibility of the non-defaulting party to mitigate damages deriving from the possible non-fulfillment of the other party. This means that if it is probable, or just possible, that the Chinese Supplier will default on a delivery, the purchasing party would then have to do everything possible to remedy it, and in any case, fulfill their obligations towards the other companies that form part of the supply chain; for example by obtaining the product from other suppliers even at greater expense.
One of the most tricky steps in any M&A operation is when the issue of „warranties“, in particular with reference to the economic situation, the balance sheet and the financial position of the company or business (or of a branch), namely the so-called „business warranties„.
On one side, the buyer would like to „ironclad“ his investment by reducing the risk of an unpleasant surprise to a minimum. The seller, by contrast, wishes to provide the least possible warranties, which often translate in a provisory restriction on the full enjoyment of the proceeds; the same may be essential for further investment.
It should be noted, first of all, that the term „warranties“ is usually referred to, in a non-technical acceptation, to a complex set of contractual provisions containing:
- any seller’s statements about the health of the company or business (or branch of business) being transferred;
- any compensation obligations undertaken by the seller in case of „violation“ (i.e. mistruth) of the assertions;
- any remedies provided to ensure the effectiveness of the indemnity obligations entered into.
While there are several reasons why this set is necessary, the most significant one is that in M&A contracts, statutory sale warranties only apply to the good sold; therefore, if the good sold is an equity investment, the warranties do not cover any of the company’s underlying assets; and even as they exceptionally do apply, short terms and strict limitations still justify an ancillary obligation designed to ensure the economic success of the transaction.
As confirmed by current practice, there is not a single M&A agreement that does not include a set of warranties.
In particular, representations typically incorporate the buyer’s due diligence, which for its part usually follows a non-disclosure agreement (NDA) to protect any information disclosed.
Any criticalities identified should be properly mentioned. Clearly, wherever a criticality arises, it may not necessarily trigger an indemnity obligation. It will be up to the parties to lay down the rules, as they may also provide that any related risk is to be borne by the buyer; this may be offset by a reduction in the price.
Some aspects of the compensation obligation will have to be carefully negotiated. The main ones are certainly:
- duration (e.g. longer for tax-related warranties);
- who is entitled to compensation (the buyer or the company; one or the other as the case may be);
- any deductions and/or limitations (e.g. tax losses);
- compensation cap;
- any possible deductible;
- the compensation procedure (e.g. application deadlines, settlement procedure, particular circumstances).
These are highly relevant aspects and should by no means be underestimated. As an example, it is obvious that if the compensation procedure is poorly regulated, all the previous efforts are jeopardised.
Finally, suitable measures to ensure an effective protection of the buyer must be provided. Among these, the most conventional tools are:
- the surety;
- the “independent contract of guarantee”;
- the escrow;
- the deferment of payment;
- the “earn-out”-scheme;
- the “price adjustment”;
- the letter of patronage;
- the pledge and/or mortgage.
These are more or less widely used instruments, each one with its pros and cons.
At this point, however, we would like to address a new tool with an insurance character, which has been being used recently: the so-called „Warranty & Indemnity Policies„.
With a W&I insurance policy, basically, the insurer assumes the risk resulting from breaches of warranties and indemnities included in an M&A contract upon payment of a premium.
It is obviously a key condition that the violation arose from facts preceding the closing and which were not known at that time (and, therefore, not highlighted by the due diligence carried out).
The insurance policy may be subscribed by the buyer (buyer side) or the seller (seller side). Usually the first option is preferred. These W&I insurance policies come with a number of advantages:
- a warranty is given even when the seller has been unwilling to commit himself contractually;
- the insurance policy usually does not provide for any recourse against the seller, other than in the case of malice, so that the seller is fully released;
- it is also possible to achieve a higher ceiling than that provided for in a purchase agreement;
- likewise, coverage may be provided for a longer period;
- it is easier to deal with the seller, especially if there are several and some are still part of the company, perhaps as members of the Board of Directors;
- compensation procedures become significantly easier, especially in cases where there are multiple sellers, including individuals;
- the buyer gains a higher certainty of solvency.
The cost of the insurance policy may be shared between the parties, eventually by discounting the purchase price, which the seller may be more willing to grant, considering that he will not be required to issue other warranties and can immediately use the proceeds of the sale.
Premiums are usually set somewhere between 1% and 2% of the compensation limit (with a minimum premium).
Besides the price, which makes the tool mostly suitable for operations of not modest entity, currently, the main limitation seems to be the commonly required deductible, equal to 1% of the Enterprise Value of the Target, which may be reduced to 0.5% in case of higher premiums. Keep in mind that the W&I insurance policy implies a review of the due diligence by the insurance company, which can translate into an actual intervention in the negotiation of the warranties.
Beyond this, this tool needs to be carefully evaluated: facing highly complex scenarios, it could be the ideal solution to solve an impasse in negotiations and make relations between professional investors and SMEs easier.
Acquisitions (M&A) in Italy are carried out in most cases through the purchase of shareholdings (‚share deal‘) or business or business unit (‚asset deal‘). For mainly tax reasons, share deals are more frequent than asset deals, despite the asset deal allows a better limitation of risks for the buyer. We will explain the main differences between share deal and asset deal in terms of risks, and in terms of relationships between seller and buyer.
Preference for acquisitions through the purchase of shareholdings (‚share deal‘) rather than the purchase of business or business unit (‚asset deal‘) in the Italian market
In Italy, acquisitions are carried out, in most cases, through the purchase of shareholdings (‚share deal‘) or of business or business unit (‚asset deal‘). Other structures, such as mergers, are less frequent.
By purchasing shareholdings of the target company (‚share deal‚), the buyer indirectly acquires all the company’s assets, liabilities and legal relationships. Therefore, the buyer bears all the risks relating to the previous management of the company.
With the purchase of the business or of a business unit of the target company (‚asset deal‚), the buyer acquires a set of assets and relationships organized for the operation of the business (real estate, machineries, patents, trademarks, employees, contracts, credits, debts, etc.). The advantage of the asset deal lies in the possibility for the parties to select the assets and liabilities included in the deal: hence the buyer can limit the legal risks of the transaction.
Despite this advantage, most acquisitions in Italy are made through the purchase of shareholdings. In 2018, there were approximately 78,400 purchases of shareholdings (shares or quotas), while there were approximately 35,900 sales of businesses or business units. (source: www.notariato.it/it/news/dati-statistici-notarili-anno-2018). It should be noted that the number of transfers of business also includes small or very small businesses owned by individual entrepreneurs, for whom the alternative of the share deal (though feasible, through the contribution of the business in a newco and the sale of the shares in the newco) is not viable in practice for cost reasons.
Taxation of share deal and asset deal in Italy
The main reason for the preference for share deal over asset deal lies in the tax costs of the transaction. Let’s see what they are.
In a share deal, the direct taxes borne by the seller are calculated on the capital gain, according to the following rates:
- if the seller is a joint-stock company (società per azioni – s.p.a.; società a responsabilità limitata – r.l.; società in accomandita per azioni – s.a.p.a.), the corporate tax rate is 24% of the capital gain. However, under certain conditions, the so-called PEX (participation exemption) regime is applied with the application of the rate of 24% on 5% of the capital gain only.
- If the seller is a partnership (società semplice – s.s.; società in nome collettivo – s.n.c..; società in accomandita semplice – s.a.s.) the capital gain is fully taxable. However, under certain conditions, the taxable amount is limited to 60% of the amount of the capital gain. In both cases, the taxable amount is attributed pro rata to each shareholder of the partnership, and added to the shareholders’ income (the tax rate depends on the shareholders’ income).
- If the seller is a natural person, the rate on the capital gain is 26%.
A share deal is subject to a fixed registration tax of € 200,00, normally paid by the buyer.
In an asset deal, the direct taxes to be paid by the seller are calculated on the capital gain. If the seller is a joint-stock company, the corporate tax rate is 24% of the capital gain. If the seller is a partnership (with individual partners) or an individual entrepreneur, the rate depends on the seller’s income.
In an asset deal the transfer of the business or of the business unit is subject to registration tax, generally paid by the buyer. However both the seller and the buyer are jointly and severally liable for the payment of the registration tax. The tax is calculated on the part of the price attributable to the assets transferred. The price is the result of the transferred assets minus the transferred liabilities. The tax rate depends on the type of asset transferred. In general:
- movable assets, including patents and trademarks: 3%;
- goodwill: 3%;
- buildings: 9%;
- land: between 9% and 12% (depending on the buyer).
If the parties do not apportion the purchase price to the different assets in proportion to their values, the registration tax is applied to the entire purchase price at the highest rate of those applicable to the assets.
It should be noted that the tax authorities may assess the value attributed by the parties to real estate and goodwill, with the consequent risk of application of higher taxes.
Share deal and asset deal: risks and responsibilities towards third parties
In the purchase of shares or quotas (‚share deal‚), the purchaser bears, indirectly, all the risks relating to the previous management of the company.
In the purchase of business or business unit (‚asset deal‚), on the other hand, the parties can select which assets and liabilities will be transferred, hence establishing, among them, the risks that the buyer will bear.
However, there are some rules, which the parties cannot derogate from, relating to relationships with third parties, that have a significant impact on the risks for the seller and the buyer, and therefore on the negotiation of the purchase agreement. The main ones are as follows.
- Employees: the employment relationship continues with the buyer of the business. The seller and the buyer are jointly and severally liable for all the employee’s rights and claims at the time of transfer (art. 2112 of the Italian Civil Code).
- Debts: the seller is obliged to pay all debts up to the date of transfer. The buyer is liable for the debts that are shown in the mandatory accounting books (art. 2560 of the Italian Civil Code).
- Tax debts and liabilities: the seller is obliged to pay debts, taxes and tax penalties relating to the period up to the date of transfer. In addition to the liability for tax debts resulting from mandatory accounting books (Article 2560 of the Italian Civil Code), the buyer is liable for taxes and penalties, even if they are not shown in the accounting books, with the following limits (Article 14 of Legislative Decree 472/1997):
- the buyer benefits from the prior enforcement of the seller;
- the buyer is liable up to the value of the business or business unit;
- for taxes and penalties not emerging from a tax audit by the tax authorities that has taken place before the date of transfer, the buyer is liable for those relating to the year of the sale of the business and the two preceding years only;
- the tax authorities shall issue a certificate on the existence and amount of debts and ongoing tax audits. If the certificate is not issued within 40 days of the request, the buyer will be released from liability. If the certificate is issued, the buyer will be liable up to the amount resulting from the certificate.
- Contracts: the parties can choose which contracts to transfer. With respect to the contracts transferred, the buyer takes over, even without the consent of the third contracting party, contracts for the operation of the business that are not of a personal nature. In addition, the third contracting party may withdraw from the contract within three months if there is a just cause (e.g. if the buyer does not guarantee to be able to fulfil the contract due to his financial situation or technical skills) (Art. 2558 of the Italian Civil Code).
Some ways to deal with the risks
To manage the risks arising from third party liability and the general risks associated with the acquisition, a number of negotiation and contractual tools can be used. Let’s see some of them.
In an asset deal:
Employees: it is possible to agree with the employee changes to the contractual terms and conditions, and waive of joint and several liability of the buyer and seller (pursuant to art. 2112 c.c.). In order to be valid, the agreement with the employee must be concluded with certain requirements (for example, with the assistance of the trade unions).
Debts:
- transfer the debts to the buyer and reduce the price accordingly. The price reduction leads to a lower tax cost of the transaction as well. In case of transfer of debts, in order to protect the seller, a declaration of release of the seller from liability pursuant to art. 2560 of the Italian Civil Code can be obtained from the creditor; or, the parties can agree that the payment of the debt by the buyer will take place at the same time as the transfer of the business (‚closing‚).
- For debts not transferred to the buyer, obtain from the creditor a declaration of release of the buyer from liability pursuant to art. 2560 of the Italian Civil Code.
- For debts for which it is not possible to obtain a declaration of release from the creditor, agree on forms of security in favor of the seller (for debts transferred) or in favor of the buyer (for debts not transferred), such as, for example, the deferment of payment of part of the price; the escrow of part of the price; bank or shareholder guarantees.
Tax debts and tax liabilities:
- obtain from the tax authorities the certificate pursuant to art. 14 of Legislative Decree 472/1997 on debts and tax liabilities;
- transfer the debts to the buyer, and reduce the price accordingly;
- agree on forms of guarantee in favor of the seller (for debts transferred) and in favour of the buyer (for debts not transferred or for tax liabilities), such as those set out above for debts in general.
Contracts: for those that will be transferred:
- verify that the seller’s obligations up to the date of transfer have been properly performed, in order to avoid the risk of disputes by the third contracting party, that could stop the performance of the contract;
- at least for the most important contracts, obtain in advance from the third contracting party the approval of transfer of the contract.
In a share deal some tools are:
- Due diligence. Carry out a thorough legal, tax and accounting due diligence on the company, to assess the risks in advance and manage them in the negotiation and in the acquisition contract (‘share purchase agreement’).
- Representations and warranties (‚R&W‘) and indemnification. Provide in the acquisition contract (’share purchase agreement‘) a detailed set of representations and warranties – and obligations to indemnify in the event of non-compliance – to be borne by the seller in relation to the situation of the company (‚business warranties‚: balance sheet; contracts; litigation; compliance with environmental regulations; authorizations for the conduct of business; debts; receivables, etc.). Negotiations on representations and warranties normally are carried on taking into account the outcomes of due diligence. Contractual representations and warranties on the situation of the company (‚business warranties‚) and contractual obligation to indemnify, are necessary in share deals in Italy, as in the absence of such clauses the buyer cannot obtain from the seller (except in extraordinary circumstances) compensation or indemnity if the situation of the company is different from that considered at the time of purchase.
- Guarantees for the buyer. Means of ensuring that the buyer will be indemnified in the event of breach of representations and warranties. Among them: (a) the deferment of payment of part of the price; (b) the payment of part of the price in an escrow account for the duration of the liabilities arising from the representations and warranties and, in case of disputes between the parties, until the dispute is settled; (c) bank guarantee; (d) W&I policy: insurance contract covering the risk of the buyer in case of breach of representations and warranties, up to a maximum amount (and excluding certain risks).
Other factors influencing the choice between share deal and asset deal
Of course, the choice to carry out an acquisition operation in Italy through a share deal or an asset deal also depends on other factors, in addition to the tax cost of the transaction. Here are some of them.
- Purchase of part of the business. The parties chose the asset deal when the transaction does not involve the purchase of the entire business of the target company but only a part of it (a business unit).
- Situation of the target company. The buyer prefers the asset deal when the situation of the target company is so problematic that the buyer is not willing to assume all the risks arising from the previous management, but only part of them.
- Maintenance of a role by the seller. The share deal is a better option when the seller will keep a role in the target company. In this case, the seller frequently retains, in addition to a role as director, a minority shareholdings, with exit clauses (put and call rights) after a certain period of time. The exit clauses often link the price to future results and, therefore, in the interest of the buyer, motivate the seller in his/her role as director, and, in the interest of the seller, put a value on the company’s earnings potential, not yet achieved at the time of purchase.
According to the article 20 of the Italian Code of Intellectual Property, the owner of a trademark has the right to prevent third parties, unless consent is given, from using:
- any sign which is identical to the trademark for goods or services which are identical to those for which the trademark is registered;
- any sign that is identical or similar to the registered trademark, for goods or services that are identical or similar, where due to the identity or similarity between the goods or services, there exists a likelihood of confusion on the part of the public, that can also consist of a likelihood of association of the two signs;
- any sign which is identical with or similar to the registered trademark in relation to goods or services which are not similar, where the registered trademark has a reputation in the Country and where use of that sign without due cause takes unfair advantage of, or is detrimental to, the distinctive character or the repute of the trademark.
Similar provisions can be found in art. 9, n. 2 of the EU Regulation 2017/1001 on the European Union Trademark, even if in such a case the provision concerns trademarks that have a reputation.
The first two hypotheses concern the majority of the brands and the conflict between two signs that are identical for identical products or services (sub a), so-called double identity, or between two brands that are identical or similar for identical or similar products or services, if due to the identity or similarity between the signs and the identity or affinity between the products or services, there may be a risk of confusion for the public (sub b).
By „affinity“ we mean a product similarity between the products or services (for example between socks and yarns) or a link between the needs that the products or services intended to satisfy (as often happens in the fashion sector, where it is usual for example that the same footwear manufacturer also offers belts for sale). It is not by chance that, although the relevance is administrative and the affinity is not defined, at the time of filing the application for registration of a trademark, the applicant must indicate the products and / or services for which he wants to obtain the protection choosing among assets and services present in the International Classification of Nice referred to the related Agreement of 1957 (today at the eleventh edition issued on 01.01.2019). Indeed, following the leading IP Translator case (Judgment of the EU Court of Justice of 19 June 2012, C-307/10), the applicant is required to identify, within each class, the each good or service for which he invokes the protection, so as to correctly delimit the protection of the brand.
Beyond the aforementioned ordinary marks, there are some signs that, over time, have acquired a certain notoriety for which, as envisaged by the hypothesis sub c), the protection also extends to the products and / or services that are not similar (even less identical) to those for which the trademark is registered.
The ratio underlying the aforementioned rule is to contrast the counterfeiting phenomenon due to the undue appropriation of merits. In the fashion sector, for example, we often see counterfeit behaviors aimed at exploiting parasitically the commercial start-up of the most famous brands in order to induce the consumer to purchase the product in light of the higher qualities – in the broad sense – of the product.
The protection granted by the regulation in question is therefore aimed at protecting the so-called „selling power“ of the trademark, understood as a high sales capacity due to the evocative and suggestive function of the brand, also due to the huge advertising investments made by the owner of the brand itself, and able to go beyond the limits of the affinity of the product sector to which the brand belongs.
In fact, we talk about „ultra-market“ protection – which is independent of the likelihood of confusion referred to in sub-letter b) – which can be invoked when certain conditions are met.
First of all, the owner has the burden of proving that his own sign is well-known, both at a territorial level and with reference to the interested public.
But what does reputation mean and what are the assumptions needed? In the silence of the law, the case law, with the famous General Motors ruling (EC Court of Justice, 14 September 1999, C-375/97) defined it as „the sign’s aptitude to communicate a message to which it is possible linking up also in the absence of a confusion on the origin“, confirming that the protection can be granted if the trademark is known by a significant part of the public interested in the products or services it distinguishes.“
According to the Court, among the parameters that the national court must take into account in determining the degree of the reputation of a mark are market share, intensity, geographical scope and duration of its use, as well as the investments made by the company to promote it.
Of course, the greater the reputation of the brand, the greater the extension of the protection to include less and less similar product sectors.
The relevant public, the Court continues, „is that interested in this trademark, that is, according to the product or service placed on the market, the general public or a more specialized public, for example, a specific professional environment“.
Furthermore, the reputation must also have a certain territorial extension and, to this purpose, the aforesaid decision specified that the requirement met if the reputation is spread in a substantial part of the EU States, taking into account both the size of the area geographical area concerned as well as the number of persons present therein.
For the EU trademark, the Court of Justice, with the decision Pago International (EC Court of Justice, 6 October 2009, C ‑ 301/07) ruled that the mark must be known „by a significant part of the public interested in the products or services marked by the trademark, in a substantial part of the territory of the Community“ and that, taking into account the circumstances of the specific case, „the entire territory of a Member State“ – in this case it was Austria – „can be considered substantial part of the territory of the Community“. This interpretation, indeed, is a consequence of the fact that the protection of an EU trademark extends to the whole territory of the European Union.
In order to obtain the protection of the renowned brand, there is no need for the similarity between the signs to create a likelihood of confusion. However, there must be a connection (a concept taken up several times by European and national jurisprudence) between the two marks in the sense that the later mark must evoke the earlier one in the mind of the average consumer.
In order to be able to take advantage of the „cross-market“ protection, the aforementioned rules require the trademark owner to be able to provide adequate evidence that the appropriation of the sign by third parties constitutes an unfair advantage for them or, alternatively, that damages the owner himself. Of course, the alleged infringer shall be able to prove his right reason that, as such, can constitute a suitable factor to win the protection granted.
Moreover, the owner of the trademark is not obliged to prove an actual injury, as it is sufficient, according to the case law, „future hypothetical risk of undue advantage or prejudice„, although serious and concrete.
The damage could concern the distinctiveness of the earlier trademark and occurs, „when the capability of the trademark to identify the products or services for which it was registered and is used is weakened due to the fact that the use of the later trademark causes the identity of the earlier trade mark and of the ‚corresponding enterprise in the public mind“.
Likewise, the prejudice could also concern the reputation and it occurs when the use for the products or services offered by the third party can be perceived by the public in such a way that the power of the well-known brand is compromised. This occurs both in the case of an obscene or degrading use of the earlier mark, and when the context in which the later mark is inserted is incompatible with the image that the renowned brand has built over time, perhaps through expensive marketing campaigns.
Finally, the unfair advantage occurs when the third party parasitically engages its trademark with the reputation or distinctiveness of the renowned brand, taking advantage of it.
One of the most recent examples of cross-market protection has involved Barilla and a textile company for having marketed it cushions that reproduced the shapes of some of the most famous biscuits, marking them with the same brands first and then, after a cease and desist letter, with the names of the same biscuits with the addition of the suffix „-oso“ („Abbraccioso“, „Pandistelloso“, etc.). Given the good reputation acquired by the brands of the well-known food company, its brands have been recognized as worthy of the aforementioned protection extended to non-related services and products. The Court of Milan, in fact, with a decision dated January 25, 2018, ruled, among other things, that the conduct perpetrated by the textile company, attributing to its products the merits of those of Barilla, has configured a hypothesis of unfair competition parasitic for the appropriation of merits, pursuant to art. 2598 c.c. The reputation of the word and figurative marks registered by Barilla, in essence, has allowed protecting even non-similar products, given the undue advantage deriving from the renown of the sign of others.
The author of this article is Giacomo Gori.
Put options on a fixed price are all clear: the Italian Supreme Court confirms the legitimacy of the repurchase agreements regarding company shares (i.e. the agreement by which the buyer undertakes to resell the shares at a later time, upon the occurrence of certain conditions, upon simple request of the seller) without any participation in the occurred losses, and admits that such cases may pass the test for the leonina societas (under Italian law a permanent and total exclusion of some partners from participation in profits and losses is prohibited).
Those who intend to invest, instead of opting for a funding, may become part of the company structure through the acquisition of a participation in the share capital and, at the same time, insure oneself a safe way out.
To avoid suffering any negative outcomes, the silent partner may, through a shareholders‘ agreement, agree with the founders of the company his exit through the sale of the equity investment at a given time, under certain circumstances and at the price of purchase. Indeed, there could be room for profit too: the put option, in fact, may include interests in the agreed price of repurchase.
Focus on this new corporate instrument is recommended. It could favour numerous strategic alliances between financiers and entrepreneurs looking for capital.
The author of this article is Giovannella Condò.
The majority principle, a pivotal aspect in limited companies, goes into crisis in situations where the share capital is equally divided between two opposing shareholders (50% each). In such hypotheses the approval of decisions is possible only with unanimity and this, obviously, frequently leads to deadlock situations that paralyze the management of the company.
The irreconcilable dissent among the shareholders can lead to the dissolution of the company. To avoid this, several strategies have been found, and one of these is the so-called “Russian Roulette Clause”.
The Shareholders may agree that, in deadlock situations, the Russian Roulette clause comes into play, with the effect of redistributing the shares and, consequently, starting again the business activity.
The clause provides that, upon the occurrence of certain trigger-event, one of the two shareholders (or both, if so agreed) has the power to determine the value of his/her 50% of the share capital. Consequently, he/she put the other shareholder in front of a simple choice: either buy the shares of the “offering” shareholder, at the price he/she has proposed, or sell his/her own share to the “offering” shareholder at the same price.
Who activates the Russian roulette determines the price, which remains fix. The unilateral determination of the price is balanced by the fact that the offeror does not know if she shall buy or sell at the established price: the final choice, in fact, is up to the offeree, who has not determined the price.
The author of this article is Giovannella Condò.
The Italian Budget Law for 2017 (Law No. 232 of 11 December 2016), with the specific purpose of attracting high net worth individuals to Italy, introduced the new article 24-bis in the Italian Income Tax Code (“ITC”) which regulates an elective tax regime for individuals who transfer their tax residence to Italy.
The special tax regime provides for the payment of an annual substitutive tax of EUR 100.000,00 and the exemption from:
- any foreign income (except specific capital gains);
- tax on foreign real estate properties (IVIE ) and tax on foreign financial assets (IVAFE);
- the obligation to report foreign assets in the tax return;
- inheritance and gift tax on foreign assets.
Eligibility
Persons entitled to opt for the special tax regime are individuals transferring their tax residence to Italy pursuant to the Italian law and who have not been resident in Italy for tax purposes for at least nine out of the ten years preceding the year in which the regime becomes effective.
According to art. 2 of the ITC, residents of Italy for income tax purposes are those persons who, for the greater part of the year, are registered within the Civil Registry of the Resident Population or have the residence or the domicile in Italy under the Italian Civil Code. About this, it is worth noting that persons who have moved to a black listed jurisdiction are considered to have their tax residence in Italy unless proof to the contrary is provided.
According to the Italian Civil Code, the residence is the place where a person has his/her habitual abode, whilst the domicile is the place where the person has the principal center of his businesses and interests.
Exemptions
The special tax regime exempts any foreign income from the Italian individual income tax (IRPEF).
In particular the exemption applies to:
- income from self-employment generated from activities carried out abroad;
- income from business activities carried out abroad through a permanent establishment;
- income from employment carried out abroad;
- income from a property owned abroad;
- interests from foreign bank accounts;
- capital gains from the sale of shares in foreign companies;
However, according to an anti-avoidance provision, the exemption does not apply to capital gains deriving from the sale of “substantial” participations that occur within the first five tax years of the validity of the special tax regime. “Substantial” participations are, in particular, those representing more than 2% of the voting rights or 5% of the capital of listed companies or 20% of the voting rights or 25% of the capital of non-listed companies.
Any Italian source income shall be subject to regular income taxation.
It must be underlined that, under the special tax regime no foreign tax credit will be granted for taxes paid abroad. However, the taxpayer is allowed to exclude income arising in one or more foreign jurisdictions from the application of the special regime. This income will then be subject to the ordinary tax rule and the foreign tax credit will be granted.
The special tax regime exempts the taxpayer also from the obligation to report foreign assets in the annual tax return and from the payment of the IVIE and the IVAFE.
Finally, the special tax regime provides for the exemption from the inheritance and gift tax with regard to transfers by inheritance or donations made during the period of validity of the regime. The exemption is limited to assets and rights existing in the Italian territory at the time of the donation or the inheritance.
Substitutive Tax and Family Members
The taxpayer must pay an annual substitutive tax of EUR 100,000 regardless of the amount of foreign income realised.
The special tax regime can be extended to family members by paying an additional EUR 25,000 substitutive tax for each person included in the regime, provided that the same conditions, applicable to the qualifying taxpayer, are met.
In particular, the extension is applicable to
- spouses;
- children and, in their absence, the direct relative in the descending line;
- parents and, in their absence, the direct relative in the ascending line;
- adopters;
- sons–in-law and daughters-in-law;
- fathers-in-law and mothers-in-law;
- brothers and sisters.
How to apply
The option shall be made either in the tax return regarding the year in which the taxpayer becomes resident in Italy, or in the tax return of the following year.
Qualifying taxpayer may also submit a non-binding ruling request to the Italian Revenue Agency, in order to prove that all requirements to access the special regime are met. The ruling can be filed before the transfer of the tax residence to Italy.
The Revenue Agency shall respond within 120 days as from the receipt of the request. The reply is not binding for the taxpayer, but it is binding for the Revenue Agency.
If no ruling request is filed, the same information provided in the request must be provided together with the tax return where the election is made.
Termination
The option for the special tax regime is automatically renewed each year and it ends, in any case, after fifteen years from the first tax year of validity. However, the option can be revoked by the taxpayer at any time.
In case of termination or revocation, family members included in the election are also automatically excluded from the regime.
After the ordinary termination or revocation, it is no longer possible to apply for the special tax regime.
The author of this post is Valerio Cirimbilla.
On 25 May 2018, the EU Regulation 2016/679 came into force, concerning the „protection“ of personal data (hereinafter the „Regulation“ or „GDPR“). It is a Community legislative instrument aimed at strengthening the right of natural persons to have their personal data protected, which has been elevated to „fundamental right“ in the Charter of Fundamental Rights of the European Union (Article 8 paragraph 1) and in the Treaty on the Functioning of the European Union (Article 16 paragraph 1).
The Regulation has a direct application in Italian law and does not require any implementation by the national legislator. These provisions prevail over national laws. From a practical standpoint, this means that, in the event of a conflict between a provision contained in the Regulations and one provided for in the „old“ Legislative Decree 196/2003, the earlier would prevail over the latter.
The GDPR consists of 99 articles, of which only some constitute an in comparison with the preceding regime and bear specific relevance for the owners/managers of accommodation facilities.
Indeed, the first novelty concerns the „explicit consent“ for the processing of „sensitive“ data and the decisions based on automated processing (including profiling -Article 22- ). It is, in fact, necessary for the client to express his consent in relation to the processing of these data independently of that relating to other data. The consent obtained before 25 May 2018 remains valid only if it meets the requirements below.
It is required, for example, that the data owners modify their websites or promotional newsletters addressed to the customers. The latter need to be aware of the purposes for which the data is collected and of rights to which they are entitled. In order to subscribe to the newsletter, only the email address should be necessary, and if the owners request for more data, the purposes of such request ought to be specified. Before sending the subscription request, the customer must give his consent and accept the privacy policy. The privacy statement must be clearly accessible from the home page of the website. In particular, as to the newsletter, the privacy policy must also be indicated and linked in the relevant registration box.
Substantial changes were also introduced in relation to the duties of the Data Controller and the Data Processor. Both profiles are important in the hotel industry.
Now the Data Controller must (i) be able to prove that the data subject has consented to a specific processing, (ii) provide the contact details of the Data Protection Officer, (iii) declare the eventual transfer of the personal data towards third countries and, if so, through which means the transfer takes place, (iv) specify the retention period of the data or the criteria employed to establish the retention period, as well as the right to file a complaint with the supervisory authority; (v) indicate whether the processing involves automated decision-making processes (including profiling), and the expected consequences for the data subject concerned.
The Data Protection Officer (“DPO”), on the other hand, is a professional (who can be internal or external to the structure) who guarantees the observance of the rules of the GPDR and the management and processing of the data.
According to the new Regulation, the duties of this professional concern: (i) the keeping of the data processing reports (pursuant to Article 30, paragraph 2, of the Regulation), and (ii) the adoption of suitable technical and organisational measures to get the safety of the procedures (pursuant to Article 32 of the Regulation).
The name of the DPO must be indicated in the privacy policy to be delivered to the customer. The relationship between the data protection officer and the data controller is governed by a contract that must strictly regulate the subjects set forth in paragraph 3 of the article 28 in order to demonstrate that the manager provides „sufficient guarantees“ for the correct management and processing of data. The Officer can appoint a „sub-manager“ but only for limited processing activities, in compliance with the provisions of the contract, and responds to the non-compliance of the sub-manager.
In light of these provisions, the hotels will then have to make a more careful assessment of the risk deriving from data processing, prepare a detailed procedure as to enable the constant monitoring on, amongst others, the suitability of the treatment, and promptly notify a breach of the security procedure which involves the accidental disclosure of data, adapt its information to be delivered to the customer.
Finally, it is worth noting that the penalties for violations of the GDPR can be very significant and reach up to 4% of the company’s turnover. As such, they are far more severe than those previously specified. It is, therefore, necessary to pay close attention to compliance with the GDPR since an incorrect or defective application can cause severe prejudices to the company.
The author of this post is Giovanni Izzo.
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Italy – The „cross-market“ protection of well-known brands
7 Mai 2019
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Summary – When can the Coronavirus emergency be invoked as a Force Majeure event to avoid contractual liability and compensation for damages? What are the effects on the international supply chain when a Chinese company fails to fulfill its obligations to supply or purchase raw materials, components, or products? What behaviors should foreign entrepreneurs adopt to limit the risks deriving from the interruption of supplies or purchases in the supply chain?
Topics covered
- The impact of Coronavirus (Covid-19) on the international Supply chain
- What is Force Majeure?
- The Force Majeure Contract Clause
- What is Hardship?
- Is the Coronavirus a Force Majeure or Hardship event?
- What is the event reported by the Supplier?
- Did the Supplier provide evidence of Force Majeure?
- Does the contract establish a Force Majeure or Hardship clause?
- What does the law applicable to the Contract establish?
- How to limit supply chain risks?
The impact of Coronavirus (Covid-19) on the international Supply chain
Coronavirus/Covid 19 has created terrible health and social emergencies in China, which have made exceptional measures of public order necessary for the containment of the virus, like quarantines, travel bans, the suspension of public and private events, and the closure of industrial plants, offices and commercial activities for a certain period of time.
Once the reopening of the plants was authorized, the return to normality was strongly slowed because many workers, who had traveled to other regions in China for the Lunar New Year holiday, did not return to their workplaces.
The current data on the reopening of the factories and the number of staff present are not unambiguous, and it is legitimate to doubt their reliability; therefore, it is not possible to predict when the emergency can be defined as having ended, or if and how Chinese companies will be able to fill the delays and production gaps that have been created.
Certainly, it is very probable that, in the coming months, foreign entrepreneurs will see their Chinese counterparts pleading the impossibility of fulfilling their contracts, with Coronavirus as the reason.
To understand the size of the problem, just consider that in the month of February 2020 alone, the China Council for the Promotion of International Trade (the Chinese Chamber of Commerce that is tasked with promoting international commerce) at the request of Chinese companies, has already issued 3,325 certificates attesting to the impossibility of fulfilling contractual obligations due to the Coronavirus epidemic, for a total value of more than 270 billion yuan (US $38.4 bn), according to the official Xinhua News Agency.
What risks does this situation pose for foreign entrepreneurs, and what consequences can it have beyond Chinese borders?
There are many risks, and the potential damages are enormous: China is the world’s factory, and it currently generates roughly 15% of the world’s GDP. Therefore, it is unlikely that a production chain in any industrial sector does not involve one or more Chinese companies as suppliers of raw materials, semi-finished materials, or components (in the case of Italy, the sectors most integrated with supply chains in China are the automotive, chemical, pharmaceutical, textile, electronic, and machinery sectors).
Failure to fulfill on the part of the Chinese may, therefore, result in a cascade of non-fulfillments of foreign entrepreneurs towards their end clients or towards the next link in the supply chain.
The fact that the virus is spreading rapidly (at the moment of publication of this article the situation is already critical in some regions in Italy (and in South Korea and Iran), and cases are beginning to be flagged in the USA) furthermore, makes it possible that production stops and quarantine situations similar to those described could also be adopted in regions and industrial sectors of other countries.
To simplify this picture, let us consider the case of a Chinese supplier (Party A) that supplies a component or performs a service for a foreign company (Party B), which in turn assembles (in China or abroad) the components into a semi-finished or final product, that is then resold to third parties (Party C).
If Party A is late or unable to deliver their product or service to Party B, they risk finding themselves exposed to risks of contract failure versus Party C, and so on along the supply/purchase chain.
Let’s examine how to handle the case in which Party A communicates that it has become impossible to fulfill the contract for reasons related to the Coronavirus emergency, such as in the case of an administrative measure to close the plant, the lack of staff in the factory on reopening, the impossibility of obtaining certain raw materials or components, the blocking of certain logistics services, etc.
In international trade, this situation, i.e. exemption from liability for non-fulfillment of contractual performance, which has become impossible due to events that have occurred outside the sphere of control of the Party, is generally defined as „Force Majeure“.
To understand when it is legitimate for a supplier to invoke the impossibility to fulfill a contract due to the Coronavirus and when instead these actions are unfounded or specious, we must ask ourselves when can Party A invoke Force Majeure and what can Party B do to limit damages and avoid being considered in-breach towards Party C.
What is Force Majeure?
At an international level, a unified concept of Force Majeure doesn’t exist because every different country has established their own specific regulations.
A useful reference is given by the 1980 Vienna Convention on Contracts for the International Sale of Goods (CISG), ratified by 93 countries (among which are Italy, China, the USA, Germany, France, Spain, Australia, Japan, and Mexico) and automatically applicable to sales between companies with seat in contracting states.
Art. 79 of CISG, titled, “Impediment Excusing Party from Damages”, provides that, “A party is not liable for a failure to perform any of his obligations if he proves that the failure was due to an impediment beyond his control and that he could not reasonably be expected to have taken the impediment into account at the time of the conclusion of the contract or to have avoided or overcome it or its consequences.”
The characteristics of the cause of exemption from liability for non-fulfillment are, therefore, its unpredictability, the fact that it is beyond the control of the Party, and the impossibility of taking reasonable steps to avoid or overcome it.
In order to establish, in concrete terms, if the conditions for a Force Majeure event exist, what its consequences are, and how the parties should conduct themselves, it is first necessary to analyze the content of the Force Majeure clause (if any) included in the contract.
The Force Majeure Contract Clause
The model Force Majeure clause used for reference in international commerce is the one prepared by the International Chamber of Commerce, la ICC Force Majeure Clause 2003, which provides the requirements that the party invoking force majeure has the burden of proving (in substance they are those provided by art. 79 of CISG), and it indicates a series of events in which these requirements are presumed to occur (including situations of war, embargoes, acts of terrorism, piracy, natural disasters, general strikes, measures of the authorities).
The ICC Force Majeure Clause 2003 also indicates how the party who invokes the event should behave:
- Give prompt notice to the other parties of the impediment;
- In the case in which the impediment will be temporary, promptly communicate to the other parties the end;
- In the event that the impossibility of the performance derives from the non-fulfillment of a third party (as in the case of a subcontractor) provide proof that the conditions of the Force Majeure also apply to the third supplier;
- In the event that this shall lead to the loss of interest in the service, promptly communicate the decision to terminate the contract;
- In the event of termination of the contract, return any service received or an amount of equivalent value.
Given that the parties are free to include in the contract the ICC Force Majeure Clause 2003 or another clause of different content, in the face of a notification of a Force Majeure event, it will, therefore, be necessary, first of all, to analyze what the contractual clause envisages in that specific case.
The second step (or the first, if, in the contract, there is no Force Majeure clause) would then be to verify what the law applicable to the contractual agreement provides (which we will deal with later).
It is also possible that the event indicated by the defaulting party does not lead to the impossibility of the fulfillment of the contract, but makes it excessively burdensome: in this case, you cannot apply Force Majeure, but the assumptions of the so-called Hardship clause could be used.
What is Hardship?
Hardship is another clause that often occurs in international contracts: it regulates the cases in which, after the conclusion of the contract, the performance of one of the parties becomes excessively burdensome or complicated due to events that have occurred, independent of the will of the party.
The outcome of a Hardship event is that of a strong imbalance of the contract in favor of one party. Some textbook examples would be: an unpredictable sharp rise in the price of a raw material, the imposition of duties on the import of a certain product, or the oscillation of the currency beyond a certain range agreed between the parties.
Unlike Force Majeure, in the case of Hardship, performance is still feasible, but it has become excessively onerous.
In this case, the model clause is also that of the ICC Hardship Clause 2003, which provides that Hardship exists if the excessive cost is a consequence of an event outside the party’s reasonable sphere of control, which could not be taken into consideration before the conclusion of the agreement, and whose consequences cannot be reasonably managed.
The ICC Hardship clause stabilizes what happens after a party has proven the existence of a Hardship event, namely:
- The obligation of the parties, within a reasonable time period, to negotiate an alternative solution to mitigate the effects of the event and bring the agreement into balance (extension of delivery times, renegotiation of the price, etc.);
- The termination of the contract, in the event that the parties are unable to reach an alternative agreement to mitigate the effects of the Hardship.
Also, when one of the parties invokes a Hardship event, just as we saw before for Force Majeure, it is necessary to verify if the event has been planned in the contract, what the contents of the clause are, and/or what is established by the norms applicable to the contract.
Is the Coronavirus a Force Majeure or Hardship event?
Let’s return to the case we examined at the beginning of the article, and try to see how to manage a case where a supplier internal to an international supply chain defaults when the Coronavirus emergency is invoked as a cause of exemption from liability.
Let’s start by adding that there is no one response valid in all cases, as it is necessary to examine the facts, the contractual agreements between the parties, and the law applicable to the contract. What we can do is indicate the method that can be used in these cases, that is responding to the following questions:
- The factual situation: what is the event reported by the Supplier?
- Has the party invoking Force Majeure proven that the requirements exist?
- What does the Contract (and/or the General Conditions of Contract) provide for?
- What does the law applicable to the Contract establish?
- What are the consequences on the obligations of the Parties?
What is the event reported by the Supplier?
As seen, the situation of force majeure exists if, after the conclusion of the contract, the performance becomes impossible due to unforeseeable events beyond the control of the obligated party, the consequences of which cannot be overcome with a reasonable effort.
The first check to be complete is whether the event for which the party invokes the Force Majeure was outside the control of the Party and whether it makes performance of the contract impossible (and not just more complex or expensive) without the Party being able to remedy it.
Let’s look at an example: in the contract, it is expected that Party A must deliver a product to Party B or carry out a service within a certain mandatory deadline (i.e. a non-extendable, non-waivable), after which Party B would no longer be interested in receiving the performance (think, for example, of the delivery of some materials necessary for the construction of an infrastructure for the Olympics).
If delivery is not possible because Party A’s factory was closed due to administrative measures, or because their personnel cannot travel to Party B to complete the installation service, it could be included in the Force Majeure case list.
If instead the service of Party A remains possible (for example with the shipping of products from a different factory in another Chinese region or in another country), and can be completed even if it would be done under more expensive conditions, Force Majeure could not be invoked, and it should be verified whether the event creates the prerequisites for Hardship, with the relative consequences.
Did the Supplier provide evidence of Force Majeure?
The next step is to determine if the Supplier/Party A has provided proof of the events that are prerequisites of Force Majeure. Namely, not being able to have avoided the situation, nor having a reasonable possibility of remedying it.
To that end, the mere production of a CCPIT certificate attesting the impossibility of fulfilling contractual obligations, for the reasons explained above, cannot be considered sufficient to prove the effective existence, in the specific case, of a Force Majeure situation.
The verification of the facts put forward and the related evidence is particularly important because, in the event that a cause for exemption by Party A is believed to exist, this evidence can then be used by Party B to document, in turn, the impossibility of fulfilling their obligations towards Party C, and so on down the supply chain.
Does the contract establish a Force Majeure or Hardship clause?
The next step is that of seeing if the contract between the parties, or the general terms and conditions of sale or purchase (if they exist and are applicable), establish a Force Majeure and/or Hardship clause.
If yes, it is necessary to verify if the event reported by the Party invoking Force Majeure falls within those provided for in the contractual clause.
For example, if the reported event was the closure of the factory by order of the authorities and the contractual clause was the ICC Force Majeure Clause 2003, it could be argued that the event falls within those indicated in point 3 [d] or „act of authority“ … compliance with any law or governmental order, rule, regulation or direction, curfew restriction“ or in point 3 [e] „epidemic“ or 3 [g] „general labor disturbance“.
It should then be examined what consequences are provided for in the Clause: generally, responsibility for timely notification of the event is expected, that the party is exempt from performing the service for the duration of the Force Majeure event, and finally, a maximum term of suspension of the obligation, after which, the parties can communicate the termination of the contract.
If the event does not fall among those provided for in the Force Majeure clause, or if there is no such clause in the contract, it should be verified whether a Hardship clause exists and whether the event can be attributed to that prevision.
Finally, it is still necessary to verify what is established by the law applicable to the contract.
What does the law applicable to the Contract establish?
The last step is to verify what the laws applicable to the contract provide, both in the case when the event falls under a Force Majeure or Hardship clause, and when this clause is not present or does not include the event.
The requirements and consequences of Force Majeure or Hardship can be regulated very differently according to the applicable laws.
If Party A and Party B were both based in China, the law of the People’s Republic of China would apply to the sales contract, and the possibility of successfully invoking Force Majeure would have to be assessed by applying these rules.
If instead, Party B were based in Italy, in most cases, the 1980 Vienna Convention on Contracts for the International Sale of Goods would apply to the sales contract (and as previously seen, art.79 “Impediment Excusing Party from Damages”). As far as what is not covered by CISG, the law indicated by the parties in the contract (or in the absence identified by the mechanisms of private international law) would apply.
Similar reasoning should be applied when determining which law are applicable to the contract between Party B and Party C, and what this law provides for, and so on down the international supply chain.
No problems are posed when the various relationships are regulated by the same legislation (for example, the CISG), but as is likely the case, if the applicable laws were different, the situation becomes much more complicated. This is because the same event could be considered a cause for exemption from contractual liability for Party A to Party B, but not in the next step of the supply chain, from Party B to Party C, and so on.
How to limit supply chain risks?
The best way to limit the risk of claims for damages from other companies in the supply chain is to request timely confirmation from your Supplier of their willingness to perform the contractual services according to the established terms, and then to share that information with the other companies that are part of the supply chain.
In the case of non-fulfillment motivated by the Coronavirus emergency, it is essential to verify whether the reported event falls among those that may be a cause of contractual exemption from liability and to require the supplier to provide the relevant evidence. The proof, if it confirms the impossibility of the supplier’s performance, can be used by the buyer, in turn, to invoke Force Majeure towards other companies in the Supply Chain.
If there are Force Majeure/Hardship clauses in the contracts, it would be necessary to examine what they establish in terms of notice of the impossibility to perform, term of suspension of the obligation, consequences of termination of the contract, as well as what the laws applicable to the contracts provide.
Finally, it is important to remember that most laws establish a responsibility of the non-defaulting party to mitigate damages deriving from the possible non-fulfillment of the other party. This means that if it is probable, or just possible, that the Chinese Supplier will default on a delivery, the purchasing party would then have to do everything possible to remedy it, and in any case, fulfill their obligations towards the other companies that form part of the supply chain; for example by obtaining the product from other suppliers even at greater expense.
One of the most tricky steps in any M&A operation is when the issue of „warranties“, in particular with reference to the economic situation, the balance sheet and the financial position of the company or business (or of a branch), namely the so-called „business warranties„.
On one side, the buyer would like to „ironclad“ his investment by reducing the risk of an unpleasant surprise to a minimum. The seller, by contrast, wishes to provide the least possible warranties, which often translate in a provisory restriction on the full enjoyment of the proceeds; the same may be essential for further investment.
It should be noted, first of all, that the term „warranties“ is usually referred to, in a non-technical acceptation, to a complex set of contractual provisions containing:
- any seller’s statements about the health of the company or business (or branch of business) being transferred;
- any compensation obligations undertaken by the seller in case of „violation“ (i.e. mistruth) of the assertions;
- any remedies provided to ensure the effectiveness of the indemnity obligations entered into.
While there are several reasons why this set is necessary, the most significant one is that in M&A contracts, statutory sale warranties only apply to the good sold; therefore, if the good sold is an equity investment, the warranties do not cover any of the company’s underlying assets; and even as they exceptionally do apply, short terms and strict limitations still justify an ancillary obligation designed to ensure the economic success of the transaction.
As confirmed by current practice, there is not a single M&A agreement that does not include a set of warranties.
In particular, representations typically incorporate the buyer’s due diligence, which for its part usually follows a non-disclosure agreement (NDA) to protect any information disclosed.
Any criticalities identified should be properly mentioned. Clearly, wherever a criticality arises, it may not necessarily trigger an indemnity obligation. It will be up to the parties to lay down the rules, as they may also provide that any related risk is to be borne by the buyer; this may be offset by a reduction in the price.
Some aspects of the compensation obligation will have to be carefully negotiated. The main ones are certainly:
- duration (e.g. longer for tax-related warranties);
- who is entitled to compensation (the buyer or the company; one or the other as the case may be);
- any deductions and/or limitations (e.g. tax losses);
- compensation cap;
- any possible deductible;
- the compensation procedure (e.g. application deadlines, settlement procedure, particular circumstances).
These are highly relevant aspects and should by no means be underestimated. As an example, it is obvious that if the compensation procedure is poorly regulated, all the previous efforts are jeopardised.
Finally, suitable measures to ensure an effective protection of the buyer must be provided. Among these, the most conventional tools are:
- the surety;
- the “independent contract of guarantee”;
- the escrow;
- the deferment of payment;
- the “earn-out”-scheme;
- the “price adjustment”;
- the letter of patronage;
- the pledge and/or mortgage.
These are more or less widely used instruments, each one with its pros and cons.
At this point, however, we would like to address a new tool with an insurance character, which has been being used recently: the so-called „Warranty & Indemnity Policies„.
With a W&I insurance policy, basically, the insurer assumes the risk resulting from breaches of warranties and indemnities included in an M&A contract upon payment of a premium.
It is obviously a key condition that the violation arose from facts preceding the closing and which were not known at that time (and, therefore, not highlighted by the due diligence carried out).
The insurance policy may be subscribed by the buyer (buyer side) or the seller (seller side). Usually the first option is preferred. These W&I insurance policies come with a number of advantages:
- a warranty is given even when the seller has been unwilling to commit himself contractually;
- the insurance policy usually does not provide for any recourse against the seller, other than in the case of malice, so that the seller is fully released;
- it is also possible to achieve a higher ceiling than that provided for in a purchase agreement;
- likewise, coverage may be provided for a longer period;
- it is easier to deal with the seller, especially if there are several and some are still part of the company, perhaps as members of the Board of Directors;
- compensation procedures become significantly easier, especially in cases where there are multiple sellers, including individuals;
- the buyer gains a higher certainty of solvency.
The cost of the insurance policy may be shared between the parties, eventually by discounting the purchase price, which the seller may be more willing to grant, considering that he will not be required to issue other warranties and can immediately use the proceeds of the sale.
Premiums are usually set somewhere between 1% and 2% of the compensation limit (with a minimum premium).
Besides the price, which makes the tool mostly suitable for operations of not modest entity, currently, the main limitation seems to be the commonly required deductible, equal to 1% of the Enterprise Value of the Target, which may be reduced to 0.5% in case of higher premiums. Keep in mind that the W&I insurance policy implies a review of the due diligence by the insurance company, which can translate into an actual intervention in the negotiation of the warranties.
Beyond this, this tool needs to be carefully evaluated: facing highly complex scenarios, it could be the ideal solution to solve an impasse in negotiations and make relations between professional investors and SMEs easier.
Acquisitions (M&A) in Italy are carried out in most cases through the purchase of shareholdings (‚share deal‘) or business or business unit (‚asset deal‘). For mainly tax reasons, share deals are more frequent than asset deals, despite the asset deal allows a better limitation of risks for the buyer. We will explain the main differences between share deal and asset deal in terms of risks, and in terms of relationships between seller and buyer.
Preference for acquisitions through the purchase of shareholdings (‚share deal‘) rather than the purchase of business or business unit (‚asset deal‘) in the Italian market
In Italy, acquisitions are carried out, in most cases, through the purchase of shareholdings (‚share deal‘) or of business or business unit (‚asset deal‘). Other structures, such as mergers, are less frequent.
By purchasing shareholdings of the target company (‚share deal‚), the buyer indirectly acquires all the company’s assets, liabilities and legal relationships. Therefore, the buyer bears all the risks relating to the previous management of the company.
With the purchase of the business or of a business unit of the target company (‚asset deal‚), the buyer acquires a set of assets and relationships organized for the operation of the business (real estate, machineries, patents, trademarks, employees, contracts, credits, debts, etc.). The advantage of the asset deal lies in the possibility for the parties to select the assets and liabilities included in the deal: hence the buyer can limit the legal risks of the transaction.
Despite this advantage, most acquisitions in Italy are made through the purchase of shareholdings. In 2018, there were approximately 78,400 purchases of shareholdings (shares or quotas), while there were approximately 35,900 sales of businesses or business units. (source: www.notariato.it/it/news/dati-statistici-notarili-anno-2018). It should be noted that the number of transfers of business also includes small or very small businesses owned by individual entrepreneurs, for whom the alternative of the share deal (though feasible, through the contribution of the business in a newco and the sale of the shares in the newco) is not viable in practice for cost reasons.
Taxation of share deal and asset deal in Italy
The main reason for the preference for share deal over asset deal lies in the tax costs of the transaction. Let’s see what they are.
In a share deal, the direct taxes borne by the seller are calculated on the capital gain, according to the following rates:
- if the seller is a joint-stock company (società per azioni – s.p.a.; società a responsabilità limitata – r.l.; società in accomandita per azioni – s.a.p.a.), the corporate tax rate is 24% of the capital gain. However, under certain conditions, the so-called PEX (participation exemption) regime is applied with the application of the rate of 24% on 5% of the capital gain only.
- If the seller is a partnership (società semplice – s.s.; società in nome collettivo – s.n.c..; società in accomandita semplice – s.a.s.) the capital gain is fully taxable. However, under certain conditions, the taxable amount is limited to 60% of the amount of the capital gain. In both cases, the taxable amount is attributed pro rata to each shareholder of the partnership, and added to the shareholders’ income (the tax rate depends on the shareholders’ income).
- If the seller is a natural person, the rate on the capital gain is 26%.
A share deal is subject to a fixed registration tax of € 200,00, normally paid by the buyer.
In an asset deal, the direct taxes to be paid by the seller are calculated on the capital gain. If the seller is a joint-stock company, the corporate tax rate is 24% of the capital gain. If the seller is a partnership (with individual partners) or an individual entrepreneur, the rate depends on the seller’s income.
In an asset deal the transfer of the business or of the business unit is subject to registration tax, generally paid by the buyer. However both the seller and the buyer are jointly and severally liable for the payment of the registration tax. The tax is calculated on the part of the price attributable to the assets transferred. The price is the result of the transferred assets minus the transferred liabilities. The tax rate depends on the type of asset transferred. In general:
- movable assets, including patents and trademarks: 3%;
- goodwill: 3%;
- buildings: 9%;
- land: between 9% and 12% (depending on the buyer).
If the parties do not apportion the purchase price to the different assets in proportion to their values, the registration tax is applied to the entire purchase price at the highest rate of those applicable to the assets.
It should be noted that the tax authorities may assess the value attributed by the parties to real estate and goodwill, with the consequent risk of application of higher taxes.
Share deal and asset deal: risks and responsibilities towards third parties
In the purchase of shares or quotas (‚share deal‚), the purchaser bears, indirectly, all the risks relating to the previous management of the company.
In the purchase of business or business unit (‚asset deal‚), on the other hand, the parties can select which assets and liabilities will be transferred, hence establishing, among them, the risks that the buyer will bear.
However, there are some rules, which the parties cannot derogate from, relating to relationships with third parties, that have a significant impact on the risks for the seller and the buyer, and therefore on the negotiation of the purchase agreement. The main ones are as follows.
- Employees: the employment relationship continues with the buyer of the business. The seller and the buyer are jointly and severally liable for all the employee’s rights and claims at the time of transfer (art. 2112 of the Italian Civil Code).
- Debts: the seller is obliged to pay all debts up to the date of transfer. The buyer is liable for the debts that are shown in the mandatory accounting books (art. 2560 of the Italian Civil Code).
- Tax debts and liabilities: the seller is obliged to pay debts, taxes and tax penalties relating to the period up to the date of transfer. In addition to the liability for tax debts resulting from mandatory accounting books (Article 2560 of the Italian Civil Code), the buyer is liable for taxes and penalties, even if they are not shown in the accounting books, with the following limits (Article 14 of Legislative Decree 472/1997):
- the buyer benefits from the prior enforcement of the seller;
- the buyer is liable up to the value of the business or business unit;
- for taxes and penalties not emerging from a tax audit by the tax authorities that has taken place before the date of transfer, the buyer is liable for those relating to the year of the sale of the business and the two preceding years only;
- the tax authorities shall issue a certificate on the existence and amount of debts and ongoing tax audits. If the certificate is not issued within 40 days of the request, the buyer will be released from liability. If the certificate is issued, the buyer will be liable up to the amount resulting from the certificate.
- Contracts: the parties can choose which contracts to transfer. With respect to the contracts transferred, the buyer takes over, even without the consent of the third contracting party, contracts for the operation of the business that are not of a personal nature. In addition, the third contracting party may withdraw from the contract within three months if there is a just cause (e.g. if the buyer does not guarantee to be able to fulfil the contract due to his financial situation or technical skills) (Art. 2558 of the Italian Civil Code).
Some ways to deal with the risks
To manage the risks arising from third party liability and the general risks associated with the acquisition, a number of negotiation and contractual tools can be used. Let’s see some of them.
In an asset deal:
Employees: it is possible to agree with the employee changes to the contractual terms and conditions, and waive of joint and several liability of the buyer and seller (pursuant to art. 2112 c.c.). In order to be valid, the agreement with the employee must be concluded with certain requirements (for example, with the assistance of the trade unions).
Debts:
- transfer the debts to the buyer and reduce the price accordingly. The price reduction leads to a lower tax cost of the transaction as well. In case of transfer of debts, in order to protect the seller, a declaration of release of the seller from liability pursuant to art. 2560 of the Italian Civil Code can be obtained from the creditor; or, the parties can agree that the payment of the debt by the buyer will take place at the same time as the transfer of the business (‚closing‚).
- For debts not transferred to the buyer, obtain from the creditor a declaration of release of the buyer from liability pursuant to art. 2560 of the Italian Civil Code.
- For debts for which it is not possible to obtain a declaration of release from the creditor, agree on forms of security in favor of the seller (for debts transferred) or in favor of the buyer (for debts not transferred), such as, for example, the deferment of payment of part of the price; the escrow of part of the price; bank or shareholder guarantees.
Tax debts and tax liabilities:
- obtain from the tax authorities the certificate pursuant to art. 14 of Legislative Decree 472/1997 on debts and tax liabilities;
- transfer the debts to the buyer, and reduce the price accordingly;
- agree on forms of guarantee in favor of the seller (for debts transferred) and in favour of the buyer (for debts not transferred or for tax liabilities), such as those set out above for debts in general.
Contracts: for those that will be transferred:
- verify that the seller’s obligations up to the date of transfer have been properly performed, in order to avoid the risk of disputes by the third contracting party, that could stop the performance of the contract;
- at least for the most important contracts, obtain in advance from the third contracting party the approval of transfer of the contract.
In a share deal some tools are:
- Due diligence. Carry out a thorough legal, tax and accounting due diligence on the company, to assess the risks in advance and manage them in the negotiation and in the acquisition contract (‘share purchase agreement’).
- Representations and warranties (‚R&W‘) and indemnification. Provide in the acquisition contract (’share purchase agreement‘) a detailed set of representations and warranties – and obligations to indemnify in the event of non-compliance – to be borne by the seller in relation to the situation of the company (‚business warranties‚: balance sheet; contracts; litigation; compliance with environmental regulations; authorizations for the conduct of business; debts; receivables, etc.). Negotiations on representations and warranties normally are carried on taking into account the outcomes of due diligence. Contractual representations and warranties on the situation of the company (‚business warranties‚) and contractual obligation to indemnify, are necessary in share deals in Italy, as in the absence of such clauses the buyer cannot obtain from the seller (except in extraordinary circumstances) compensation or indemnity if the situation of the company is different from that considered at the time of purchase.
- Guarantees for the buyer. Means of ensuring that the buyer will be indemnified in the event of breach of representations and warranties. Among them: (a) the deferment of payment of part of the price; (b) the payment of part of the price in an escrow account for the duration of the liabilities arising from the representations and warranties and, in case of disputes between the parties, until the dispute is settled; (c) bank guarantee; (d) W&I policy: insurance contract covering the risk of the buyer in case of breach of representations and warranties, up to a maximum amount (and excluding certain risks).
Other factors influencing the choice between share deal and asset deal
Of course, the choice to carry out an acquisition operation in Italy through a share deal or an asset deal also depends on other factors, in addition to the tax cost of the transaction. Here are some of them.
- Purchase of part of the business. The parties chose the asset deal when the transaction does not involve the purchase of the entire business of the target company but only a part of it (a business unit).
- Situation of the target company. The buyer prefers the asset deal when the situation of the target company is so problematic that the buyer is not willing to assume all the risks arising from the previous management, but only part of them.
- Maintenance of a role by the seller. The share deal is a better option when the seller will keep a role in the target company. In this case, the seller frequently retains, in addition to a role as director, a minority shareholdings, with exit clauses (put and call rights) after a certain period of time. The exit clauses often link the price to future results and, therefore, in the interest of the buyer, motivate the seller in his/her role as director, and, in the interest of the seller, put a value on the company’s earnings potential, not yet achieved at the time of purchase.
According to the article 20 of the Italian Code of Intellectual Property, the owner of a trademark has the right to prevent third parties, unless consent is given, from using:
- any sign which is identical to the trademark for goods or services which are identical to those for which the trademark is registered;
- any sign that is identical or similar to the registered trademark, for goods or services that are identical or similar, where due to the identity or similarity between the goods or services, there exists a likelihood of confusion on the part of the public, that can also consist of a likelihood of association of the two signs;
- any sign which is identical with or similar to the registered trademark in relation to goods or services which are not similar, where the registered trademark has a reputation in the Country and where use of that sign without due cause takes unfair advantage of, or is detrimental to, the distinctive character or the repute of the trademark.
Similar provisions can be found in art. 9, n. 2 of the EU Regulation 2017/1001 on the European Union Trademark, even if in such a case the provision concerns trademarks that have a reputation.
The first two hypotheses concern the majority of the brands and the conflict between two signs that are identical for identical products or services (sub a), so-called double identity, or between two brands that are identical or similar for identical or similar products or services, if due to the identity or similarity between the signs and the identity or affinity between the products or services, there may be a risk of confusion for the public (sub b).
By „affinity“ we mean a product similarity between the products or services (for example between socks and yarns) or a link between the needs that the products or services intended to satisfy (as often happens in the fashion sector, where it is usual for example that the same footwear manufacturer also offers belts for sale). It is not by chance that, although the relevance is administrative and the affinity is not defined, at the time of filing the application for registration of a trademark, the applicant must indicate the products and / or services for which he wants to obtain the protection choosing among assets and services present in the International Classification of Nice referred to the related Agreement of 1957 (today at the eleventh edition issued on 01.01.2019). Indeed, following the leading IP Translator case (Judgment of the EU Court of Justice of 19 June 2012, C-307/10), the applicant is required to identify, within each class, the each good or service for which he invokes the protection, so as to correctly delimit the protection of the brand.
Beyond the aforementioned ordinary marks, there are some signs that, over time, have acquired a certain notoriety for which, as envisaged by the hypothesis sub c), the protection also extends to the products and / or services that are not similar (even less identical) to those for which the trademark is registered.
The ratio underlying the aforementioned rule is to contrast the counterfeiting phenomenon due to the undue appropriation of merits. In the fashion sector, for example, we often see counterfeit behaviors aimed at exploiting parasitically the commercial start-up of the most famous brands in order to induce the consumer to purchase the product in light of the higher qualities – in the broad sense – of the product.
The protection granted by the regulation in question is therefore aimed at protecting the so-called „selling power“ of the trademark, understood as a high sales capacity due to the evocative and suggestive function of the brand, also due to the huge advertising investments made by the owner of the brand itself, and able to go beyond the limits of the affinity of the product sector to which the brand belongs.
In fact, we talk about „ultra-market“ protection – which is independent of the likelihood of confusion referred to in sub-letter b) – which can be invoked when certain conditions are met.
First of all, the owner has the burden of proving that his own sign is well-known, both at a territorial level and with reference to the interested public.
But what does reputation mean and what are the assumptions needed? In the silence of the law, the case law, with the famous General Motors ruling (EC Court of Justice, 14 September 1999, C-375/97) defined it as „the sign’s aptitude to communicate a message to which it is possible linking up also in the absence of a confusion on the origin“, confirming that the protection can be granted if the trademark is known by a significant part of the public interested in the products or services it distinguishes.“
According to the Court, among the parameters that the national court must take into account in determining the degree of the reputation of a mark are market share, intensity, geographical scope and duration of its use, as well as the investments made by the company to promote it.
Of course, the greater the reputation of the brand, the greater the extension of the protection to include less and less similar product sectors.
The relevant public, the Court continues, „is that interested in this trademark, that is, according to the product or service placed on the market, the general public or a more specialized public, for example, a specific professional environment“.
Furthermore, the reputation must also have a certain territorial extension and, to this purpose, the aforesaid decision specified that the requirement met if the reputation is spread in a substantial part of the EU States, taking into account both the size of the area geographical area concerned as well as the number of persons present therein.
For the EU trademark, the Court of Justice, with the decision Pago International (EC Court of Justice, 6 October 2009, C ‑ 301/07) ruled that the mark must be known „by a significant part of the public interested in the products or services marked by the trademark, in a substantial part of the territory of the Community“ and that, taking into account the circumstances of the specific case, „the entire territory of a Member State“ – in this case it was Austria – „can be considered substantial part of the territory of the Community“. This interpretation, indeed, is a consequence of the fact that the protection of an EU trademark extends to the whole territory of the European Union.
In order to obtain the protection of the renowned brand, there is no need for the similarity between the signs to create a likelihood of confusion. However, there must be a connection (a concept taken up several times by European and national jurisprudence) between the two marks in the sense that the later mark must evoke the earlier one in the mind of the average consumer.
In order to be able to take advantage of the „cross-market“ protection, the aforementioned rules require the trademark owner to be able to provide adequate evidence that the appropriation of the sign by third parties constitutes an unfair advantage for them or, alternatively, that damages the owner himself. Of course, the alleged infringer shall be able to prove his right reason that, as such, can constitute a suitable factor to win the protection granted.
Moreover, the owner of the trademark is not obliged to prove an actual injury, as it is sufficient, according to the case law, „future hypothetical risk of undue advantage or prejudice„, although serious and concrete.
The damage could concern the distinctiveness of the earlier trademark and occurs, „when the capability of the trademark to identify the products or services for which it was registered and is used is weakened due to the fact that the use of the later trademark causes the identity of the earlier trade mark and of the ‚corresponding enterprise in the public mind“.
Likewise, the prejudice could also concern the reputation and it occurs when the use for the products or services offered by the third party can be perceived by the public in such a way that the power of the well-known brand is compromised. This occurs both in the case of an obscene or degrading use of the earlier mark, and when the context in which the later mark is inserted is incompatible with the image that the renowned brand has built over time, perhaps through expensive marketing campaigns.
Finally, the unfair advantage occurs when the third party parasitically engages its trademark with the reputation or distinctiveness of the renowned brand, taking advantage of it.
One of the most recent examples of cross-market protection has involved Barilla and a textile company for having marketed it cushions that reproduced the shapes of some of the most famous biscuits, marking them with the same brands first and then, after a cease and desist letter, with the names of the same biscuits with the addition of the suffix „-oso“ („Abbraccioso“, „Pandistelloso“, etc.). Given the good reputation acquired by the brands of the well-known food company, its brands have been recognized as worthy of the aforementioned protection extended to non-related services and products. The Court of Milan, in fact, with a decision dated January 25, 2018, ruled, among other things, that the conduct perpetrated by the textile company, attributing to its products the merits of those of Barilla, has configured a hypothesis of unfair competition parasitic for the appropriation of merits, pursuant to art. 2598 c.c. The reputation of the word and figurative marks registered by Barilla, in essence, has allowed protecting even non-similar products, given the undue advantage deriving from the renown of the sign of others.
The author of this article is Giacomo Gori.
Put options on a fixed price are all clear: the Italian Supreme Court confirms the legitimacy of the repurchase agreements regarding company shares (i.e. the agreement by which the buyer undertakes to resell the shares at a later time, upon the occurrence of certain conditions, upon simple request of the seller) without any participation in the occurred losses, and admits that such cases may pass the test for the leonina societas (under Italian law a permanent and total exclusion of some partners from participation in profits and losses is prohibited).
Those who intend to invest, instead of opting for a funding, may become part of the company structure through the acquisition of a participation in the share capital and, at the same time, insure oneself a safe way out.
To avoid suffering any negative outcomes, the silent partner may, through a shareholders‘ agreement, agree with the founders of the company his exit through the sale of the equity investment at a given time, under certain circumstances and at the price of purchase. Indeed, there could be room for profit too: the put option, in fact, may include interests in the agreed price of repurchase.
Focus on this new corporate instrument is recommended. It could favour numerous strategic alliances between financiers and entrepreneurs looking for capital.
The author of this article is Giovannella Condò.
The majority principle, a pivotal aspect in limited companies, goes into crisis in situations where the share capital is equally divided between two opposing shareholders (50% each). In such hypotheses the approval of decisions is possible only with unanimity and this, obviously, frequently leads to deadlock situations that paralyze the management of the company.
The irreconcilable dissent among the shareholders can lead to the dissolution of the company. To avoid this, several strategies have been found, and one of these is the so-called “Russian Roulette Clause”.
The Shareholders may agree that, in deadlock situations, the Russian Roulette clause comes into play, with the effect of redistributing the shares and, consequently, starting again the business activity.
The clause provides that, upon the occurrence of certain trigger-event, one of the two shareholders (or both, if so agreed) has the power to determine the value of his/her 50% of the share capital. Consequently, he/she put the other shareholder in front of a simple choice: either buy the shares of the “offering” shareholder, at the price he/she has proposed, or sell his/her own share to the “offering” shareholder at the same price.
Who activates the Russian roulette determines the price, which remains fix. The unilateral determination of the price is balanced by the fact that the offeror does not know if she shall buy or sell at the established price: the final choice, in fact, is up to the offeree, who has not determined the price.
The author of this article is Giovannella Condò.
The Italian Budget Law for 2017 (Law No. 232 of 11 December 2016), with the specific purpose of attracting high net worth individuals to Italy, introduced the new article 24-bis in the Italian Income Tax Code (“ITC”) which regulates an elective tax regime for individuals who transfer their tax residence to Italy.
The special tax regime provides for the payment of an annual substitutive tax of EUR 100.000,00 and the exemption from:
- any foreign income (except specific capital gains);
- tax on foreign real estate properties (IVIE ) and tax on foreign financial assets (IVAFE);
- the obligation to report foreign assets in the tax return;
- inheritance and gift tax on foreign assets.
Eligibility
Persons entitled to opt for the special tax regime are individuals transferring their tax residence to Italy pursuant to the Italian law and who have not been resident in Italy for tax purposes for at least nine out of the ten years preceding the year in which the regime becomes effective.
According to art. 2 of the ITC, residents of Italy for income tax purposes are those persons who, for the greater part of the year, are registered within the Civil Registry of the Resident Population or have the residence or the domicile in Italy under the Italian Civil Code. About this, it is worth noting that persons who have moved to a black listed jurisdiction are considered to have their tax residence in Italy unless proof to the contrary is provided.
According to the Italian Civil Code, the residence is the place where a person has his/her habitual abode, whilst the domicile is the place where the person has the principal center of his businesses and interests.
Exemptions
The special tax regime exempts any foreign income from the Italian individual income tax (IRPEF).
In particular the exemption applies to:
- income from self-employment generated from activities carried out abroad;
- income from business activities carried out abroad through a permanent establishment;
- income from employment carried out abroad;
- income from a property owned abroad;
- interests from foreign bank accounts;
- capital gains from the sale of shares in foreign companies;
However, according to an anti-avoidance provision, the exemption does not apply to capital gains deriving from the sale of “substantial” participations that occur within the first five tax years of the validity of the special tax regime. “Substantial” participations are, in particular, those representing more than 2% of the voting rights or 5% of the capital of listed companies or 20% of the voting rights or 25% of the capital of non-listed companies.
Any Italian source income shall be subject to regular income taxation.
It must be underlined that, under the special tax regime no foreign tax credit will be granted for taxes paid abroad. However, the taxpayer is allowed to exclude income arising in one or more foreign jurisdictions from the application of the special regime. This income will then be subject to the ordinary tax rule and the foreign tax credit will be granted.
The special tax regime exempts the taxpayer also from the obligation to report foreign assets in the annual tax return and from the payment of the IVIE and the IVAFE.
Finally, the special tax regime provides for the exemption from the inheritance and gift tax with regard to transfers by inheritance or donations made during the period of validity of the regime. The exemption is limited to assets and rights existing in the Italian territory at the time of the donation or the inheritance.
Substitutive Tax and Family Members
The taxpayer must pay an annual substitutive tax of EUR 100,000 regardless of the amount of foreign income realised.
The special tax regime can be extended to family members by paying an additional EUR 25,000 substitutive tax for each person included in the regime, provided that the same conditions, applicable to the qualifying taxpayer, are met.
In particular, the extension is applicable to
- spouses;
- children and, in their absence, the direct relative in the descending line;
- parents and, in their absence, the direct relative in the ascending line;
- adopters;
- sons–in-law and daughters-in-law;
- fathers-in-law and mothers-in-law;
- brothers and sisters.
How to apply
The option shall be made either in the tax return regarding the year in which the taxpayer becomes resident in Italy, or in the tax return of the following year.
Qualifying taxpayer may also submit a non-binding ruling request to the Italian Revenue Agency, in order to prove that all requirements to access the special regime are met. The ruling can be filed before the transfer of the tax residence to Italy.
The Revenue Agency shall respond within 120 days as from the receipt of the request. The reply is not binding for the taxpayer, but it is binding for the Revenue Agency.
If no ruling request is filed, the same information provided in the request must be provided together with the tax return where the election is made.
Termination
The option for the special tax regime is automatically renewed each year and it ends, in any case, after fifteen years from the first tax year of validity. However, the option can be revoked by the taxpayer at any time.
In case of termination or revocation, family members included in the election are also automatically excluded from the regime.
After the ordinary termination or revocation, it is no longer possible to apply for the special tax regime.
The author of this post is Valerio Cirimbilla.
On 25 May 2018, the EU Regulation 2016/679 came into force, concerning the „protection“ of personal data (hereinafter the „Regulation“ or „GDPR“). It is a Community legislative instrument aimed at strengthening the right of natural persons to have their personal data protected, which has been elevated to „fundamental right“ in the Charter of Fundamental Rights of the European Union (Article 8 paragraph 1) and in the Treaty on the Functioning of the European Union (Article 16 paragraph 1).
The Regulation has a direct application in Italian law and does not require any implementation by the national legislator. These provisions prevail over national laws. From a practical standpoint, this means that, in the event of a conflict between a provision contained in the Regulations and one provided for in the „old“ Legislative Decree 196/2003, the earlier would prevail over the latter.
The GDPR consists of 99 articles, of which only some constitute an in comparison with the preceding regime and bear specific relevance for the owners/managers of accommodation facilities.
Indeed, the first novelty concerns the „explicit consent“ for the processing of „sensitive“ data and the decisions based on automated processing (including profiling -Article 22- ). It is, in fact, necessary for the client to express his consent in relation to the processing of these data independently of that relating to other data. The consent obtained before 25 May 2018 remains valid only if it meets the requirements below.
It is required, for example, that the data owners modify their websites or promotional newsletters addressed to the customers. The latter need to be aware of the purposes for which the data is collected and of rights to which they are entitled. In order to subscribe to the newsletter, only the email address should be necessary, and if the owners request for more data, the purposes of such request ought to be specified. Before sending the subscription request, the customer must give his consent and accept the privacy policy. The privacy statement must be clearly accessible from the home page of the website. In particular, as to the newsletter, the privacy policy must also be indicated and linked in the relevant registration box.
Substantial changes were also introduced in relation to the duties of the Data Controller and the Data Processor. Both profiles are important in the hotel industry.
Now the Data Controller must (i) be able to prove that the data subject has consented to a specific processing, (ii) provide the contact details of the Data Protection Officer, (iii) declare the eventual transfer of the personal data towards third countries and, if so, through which means the transfer takes place, (iv) specify the retention period of the data or the criteria employed to establish the retention period, as well as the right to file a complaint with the supervisory authority; (v) indicate whether the processing involves automated decision-making processes (including profiling), and the expected consequences for the data subject concerned.
The Data Protection Officer (“DPO”), on the other hand, is a professional (who can be internal or external to the structure) who guarantees the observance of the rules of the GPDR and the management and processing of the data.
According to the new Regulation, the duties of this professional concern: (i) the keeping of the data processing reports (pursuant to Article 30, paragraph 2, of the Regulation), and (ii) the adoption of suitable technical and organisational measures to get the safety of the procedures (pursuant to Article 32 of the Regulation).
The name of the DPO must be indicated in the privacy policy to be delivered to the customer. The relationship between the data protection officer and the data controller is governed by a contract that must strictly regulate the subjects set forth in paragraph 3 of the article 28 in order to demonstrate that the manager provides „sufficient guarantees“ for the correct management and processing of data. The Officer can appoint a „sub-manager“ but only for limited processing activities, in compliance with the provisions of the contract, and responds to the non-compliance of the sub-manager.
In light of these provisions, the hotels will then have to make a more careful assessment of the risk deriving from data processing, prepare a detailed procedure as to enable the constant monitoring on, amongst others, the suitability of the treatment, and promptly notify a breach of the security procedure which involves the accidental disclosure of data, adapt its information to be delivered to the customer.
Finally, it is worth noting that the penalties for violations of the GDPR can be very significant and reach up to 4% of the company’s turnover. As such, they are far more severe than those previously specified. It is, therefore, necessary to pay close attention to compliance with the GDPR since an incorrect or defective application can cause severe prejudices to the company.
The author of this post is Giovanni Izzo.