Froriep Renggli Dr Beat M. Barthold, Dr Nicolas Iynedjian, Dunja Koch, Marco A. Rizzi, Patrick Vogel & Danielle Wenger

Transcription

1 Switzerland Froriep Renggli Dr Beat M. Barthold, Dr Nicolas Iynedjian, Dunja Koch, Marco A. Rizzi, Patrick Vogel & Danielle Wenger 1. MARKET OVERVIEW 1.1 Types of investors In recent years, the main sources from which private equity firms based in Switzerland obtained their funding were family offices, private individuals, corporations, funds of funds, pension funds, banks and insurance companies. In the last two years, insurance companies have become a less important source of funding and recently the market has seen a reduction of funding by banks too. On the other hand, family offices, funds of funds and corporations have increased their importance as funding sources in Switzerland. Government, academic institutions and capital markets have been and remain rather uncommon sources. Within private equity, in Switzerland there are substantial differences with regard to the most common sources of funding in the different market segments (venture capital, growth and buyout). So, for example, funds of funds and family offices are the largest categories in the venture capital segment, with corporate funds increasing their share, while pension funds are, other than for example in the US, a very rare source in this particular market. 1.2 Types of investments In Switzerland, the buyout market segment still attracts the major share of private equity investments. Nonetheless, an increasing share of total funding goes into the segments of growth and venture capital. The trend in the venture capital market in Switzerland is noticeably different from other European countries. Accordingly, and due to the different characteristics of the aforementioned market segments, there is a very broad and heterogeneous spectrum of transactions, ranging from start-up and earlystage to growth and buyouts. Public to private transactions are less common, although a few players specialise in this segment. Minority investments in public companies are rather unusual in Switzerland. 2. FUNDS 2.1 Fund structures Before January 2007 Federal Act on Investment Funds Until the entry into force on 1 January 2007 of the Federal Act on Collective Investment Schemes (CISA), the only type of collective investment scheme structure available under Swiss law was the contractual investment EUROPEAN LAWYER REFERENCE SERIES 415

2 fund, which needed the prior authorisation of the Swiss Federal Banking Commission (FBC). On the other hand, Swiss investment companies with fixed share capital (closed-ended funds) were, until the entry into force of the CISA, exempt from the requirement to be authorised by the FBC and only governed by Swiss corporate law. As a result, before the CISA, no adequate legal structure was available under Swiss law for domestic private equity funds and all private equity funds active in Switzerland were therefore set up abroad. Since 1 January 2007 Federal Act on Collective Investment Schemes The CISA distinguishes between: (i) open-ended structures (contractual investment funds and investment companies with variable share capital (société à capital variable or SICAV)), where the investors have the right to have their shares or units redeemed at net asset value; and (ii) closed-ended structures (limited partnership and investment companies with fixed capital (société à capital fixe or SICAF)), where redemption rights are limited or not available at all. By the nature of their investments (illiquid long term investments), private equity funds are set up as closed-ended structures. The closed-ended structures provided for by the CISA are: (i) the limited partnership for collective investment (LPCI); and (ii) the SICAF. The Swiss limited partnership for collective investments The CISA provides that the LPCI must invest in risk capital (ie private equity). The Collective Investment Scheme Ordinance of the Swiss Federal Council (CISO) defines risk capital as the capital used for the direct or indirect financing of companies and projects that offer the possibility of generating an above average return with above average risk taking. Pursuant to CISO, LPCIs are permitted to invest in other types of investments, namely: (i) real estate; and (ii) alternative investments. The structure of the LPCI is similar to the typical limited partnership organised under the laws of Anglo-Saxon jurisdictions: (i) its sole purpose must be a collective investment; and (ii) its members consist of (a) at least one general partner bearing unlimited liability and (b) limited partners who are only liable up to a fixed amount (the limited partners contribution). The general partner must: (i) be a Swiss company (Aktiengesellschaft/société anonyme) with a minimum paid-in share capital of CHF 100,000; and (ii) only be active as a general partner for one LPCI. The limited partners must be qualified investors within the meaning of the CISA. The LPCI may only manage its own investments and is prohibited from providing management services to third parties. It must appoint a custodian bank and a paying agent. In addition to the CISA and its ordinances of application, the LPCI is also governed by the provisions of the Swiss Code of Obligations relating to limited partnerships in general. The limited partnership s agreement and the prospectus of the LPCI must contain information regarding the investments, the investment policy, the 416 EUROPEAN LAWYER REFERENCE SERIES

3 investment restriction, risk diversification, risk associated with investments and investment techniques used by the LPCI. The general partner of the LPCI may delegate the investment decisions of the partnership to a third party, provided that is in the interests of an efficient management of the LPCI and further provided that such delegation is made only to persons sufficiently qualified in order to guarantee a flawless performance of the delegated duties. In any event, the general partner remains responsible for instructing and monitoring the persons to whom the duties have been delegated and for controlling the due performance of the assigned duties. Until now, notwithstanding the efforts of the legislator to create a new type of vehicle to accommodate private equity investments, the success of the new LPCI as the structure to set up Swiss private equity funds has been limited. Indeed, as of 31 March 2010, less than a dozen LPCIs have been registered with the Swiss Financial Market Supervisory Authority (FINMA, which replaced the FBC as of 1 January 2009). Of these LPCIs: (i) three are real estate funds; (ii) one has been set up by the Swiss National Bank to take over illiquid assets of UBS AG (the initial structure set up as an offshore fund was politically not acceptable); (iii) one LPCI has the purpose of investing in over-the-counter (OTC) securities; and (iv) three have been set up for venture capital (one of which is backed by a Canton). The lack of popularity of the LPCI may be explained by the absence of a consolidated authorisation practice of the FINMA and, more importantly, by uncertainties with regard to the taxation of the performance fee of the general partner/manager (see below, section 6). Recent developments suggest that Swiss and (at least some) Cantonal tax authorities are becoming increasingly willing to resolve the issue of taxation of performance fees. On the other hand, apparently the FINMA is undertaking efforts to ease and further clarify the authorisation procedure. The SICAF The SICAF is the second closed-ended structure available under the CISA that could be used to set up a private equity fund. In summary, the SICAF is an investment company with fixed capital: (i) which takes the form of a Swiss company (Aktiengesellschaft/société anonyme); (ii) whose sole object is collective capital investment; (iii) whose shareholders do not need to be qualified investors ; and (iv) which is not listed on a Swiss stock exchange. Indeed, Swiss companies whose shareholders are exclusively qualified investors or whose shares are listed on a Swiss stock exchange are not subject to the CISA and therefore do not qualify as a SICAF. Like the LPCI, in addition to the CISA, the SICAF is governed by the provisions of the Swiss Code of Obligations relating to companies. The SICAF must have a custody bank and a paying agent. Its articles of association and internal regulations must contain rules regarding the investments, the investment policy, the investment restrictions, risk diversification and the risks associated with investments. Due to unattractive taxation (see below, section 6.2), since the entry into EUROPEAN LAWYER REFERENCE SERIES 417

4 force of the CISA, not one single SICAF has been registered (as a private equity structure or otherwise) and no pending requests for authorisation with the FINMA are known. Conclusions With the exception of three private equity LPCIs and a few funds incorporated or organised under EU jurisdictions, currently private equity funds active in Switzerland are set up as offshore funds. Due to their characteristics (in particular their investment policy, closedended structure, low diversification and absence of supervision in their home jurisdiction which is recognised as of equivalent standard to the one required in Switzerland), none of these offshore funds could obtain authorisation by the FINMA for public distribution in or from Switzerland. 2.2 Regulation of fund raising and fund managers Fund raising private placement rules under the CISA In Switzerland, LPCIs are restricted by law to qualified investors. Further, under the CISA, all public solicitations in or from Switzerland by foreign investment funds are prohibited unless the foreign fund is authorised for distribution in Switzerland by the FINMA, which for various reasons (see above, section 2.1, final part) is almost impossible for foreign private equity funds. As a result, the raising of capital by these non-authorised private equity funds may only be made in or from Switzerland under the private placement exemptions available under the CISA. Under the CISA, advertising (ie offering) of interests in collective investment schemes is not deemed to be public if it is exclusively directed towards qualified investors as defined in the CISA, the CISO and the FINMA Circular on Public Offering, ie: regulated financial intermediaries such as banks, broker-dealers and fund management companies; regulated insurance companies; public entities and retirement benefit institutions (pension funds) with professional treasury operations; companies with professional treasury operations; high net worth individuals, namely persons having (directly or indirectly through special purpose vehicles set up to hold their investments) financial wealth in excess of CHF 2 million; and investors who have concluded a written discretionary management agreement with a regulated financial intermediary (as defined above) or a Swiss independent asset manager who is subject to anti-money laundering supervision and affiliated to a professional organisation with rules recognised as a minimum professional standard by the FINMA. Operations of private equity funds Under the CISA the fund management company (responsible for the overall management and administration of a collective investment scheme) should be distinguished from the asset manager of the investment scheme (which 418 EUROPEAN LAWYER REFERENCE SERIES

5 is only responsible for managing the assets of the fund). Under the CISA, any party responsible for the management of a collective investment scheme, or the safe keeping of the assets of a collective investment scheme, must always obtain an authorisation from the FINMA. The fund management company may however delegate the asset management to a third party. Only Swiss asset managers of Swiss collective investment schemes are subject to the mandatory authorisation of the FINMA. Swiss asset managers of foreign collective investment schemes may, however, apply for authorisation on a voluntary basis. Swiss fund management company of non-swiss collective investment schemes For the FINMA, a non-swiss collective investment scheme is to be considered as a Swiss collective investment scheme and thus subject to the CISA (and the authorisation of the FINMA) if the main place of its management is located in Switzerland. Pursuant to the CISO, the FINMA considers that the main administrative office of the fund management company is located in Switzerland if: the non-assignable tasks of the board of directors as set out in the Swiss Code of Obligations are performed in Switzerland (ie ultimate management, establishment of the organisation, structure of the accounting system and financial control, appointment and supervision of management, preparation of business reports and shareholders meetings and notification in the case of over-indebtedness); and at least the following duties for the managed fund are performed in Switzerland: decisions to issue shares, decisions regarding investment policy and the asset valuation, the asset valuation itself, determination of the issuance and redemption price, determination of the distribution of profits, determination of the content of the prospectus, annual or semi-annual reports and other publications and preparation of the accounting. As a result, non-swiss private equity funds who carry out the above activities in Switzerland take the risk of being qualified as a Swiss fund, which means falling within the scope of the CISA and being subject to authorisation requirements (sanctions when operating without an authorisation of the FINMA are imprisonment of up to three years and fines). Swiss asset manager of non-swiss collective investment schemes Under the CISA the asset manager of non-swiss collective investment schemes may apply for a FINMA authorisation provided: (i) its seat is in Switzerland; (ii) the foreign legislation requires that it be subject to a supervisory authority; and (iii) the non-swiss collective investment scheme, whose assets it manages, is subject to non-swiss supervision of an equivalent standard to the one required in Switzerland. This possibility to apply for a voluntary authorisation was enacted for Swiss asset managers of non-swiss undertakings for collective investments in transferable securities (UCITS) funds, which were required by European regulation to be subject to a EUROPEAN LAWYER REFERENCE SERIES 419

6 supervisory authority. Given the above condition, Swiss-based asset managers of private equity funds are usually excluded from the possibility of voluntary supervision by the FINMA given that, as mentioned above, only a limited number of jurisdictions have been recognised by the FINMA as offering a level of protection similar to the one provided by the Swiss regulations (to date this is the case for the countries of the EU, the EEA member states, Jersey, Guernsey and the United States). That being said, asset managers of non-swiss private equity funds may operate in Switzerland without authorisation, provided the activities they conduct could not trigger the collective investment scheme to be considered located in Switzerland and thus subject to the CISA (see above). 2.3 Customary or common terms of funds With regard to terms of a Swiss LPCI, please see the corresponding subsection of section 2.1 above. 3. DEBT FINANCE 3.1 Restrictions on granting security There are certain restrictions in Swiss corporate law on Swiss companies granting a benefit to group companies other than their own subsidiaries. In finance transactions these upstream benefits could typically arise if a Swiss company grants a security interest to a lender to secure obligations of its parent or other group company. Guarantees and other security interests granted by a Swiss subsidiary or other Swiss group company may therefore require the insertion of specific limitation language in the agreements. Violation of the company purpose Bodies that are authorised to act on behalf of a company, ie the board of directors, may perform all legal acts in the name of the company that are covered by the company purpose. Transactions that are not covered by the company purpose (acts which are ultra vires) are in principle null and void. Granting upstream loans or security interests may constitute an ultra vires act. Amending the company purpose in order to include the right to grant upstream and sidestream security requires the amendment of the articles of association (by shareholders decision). Company interest Directors must at all times act in the best interests of their company. There is no concept of a group of companies under Swiss corporate law, and hence companies must enter into transactions that are in their own interests rather than in any group interest. Granting a security for the benefit of a parent company and/or other group companies could be null and void if such a security is not given at arm s length or would result in the disposal of essential operating assets of the Swiss subsidiary or obviously exceeds its economic capacity. 420 EUROPEAN LAWYER REFERENCE SERIES

7 Violation of withdrawal rules A security granted by a Swiss subsidiary to secure obligations of a parent and/or group company may be considered as a deemed redemption of equity contribution and could violate withdrawal regulations under Swiss corporate law. Under Swiss law there is controversy over which kinds of contribution must not be returned to shareholders: according to a conservative view, the share and participation capital, the blocked quota of general reserves, the reserves for own shares, the appreciation reserves and the premium on shares (agio) are subject to this prohibition. According to a more liberal view, only the share and participation capital and the premium on shares (agio) are subject to this prohibition. The violation of the prohibition on redemption of equity contribution would lead to the invalidity of the benefit granted in favour of the parent, or would revive the shareholders obligation to pay contributions. Given the above withdrawal restrictions, transaction agreements usually provide that any payment by the Swiss company shall be limited to its free reserves and profits available for distribution to shareholders at the time of the enforcement of such a security. The mechanics for payment require the Swiss company to arrange for an audited interim balance sheet and resolutions of the board of directors and shareholders to make an amount available for payment from the free reserves available for distribution. Hidden distribution of dividends to shareholders Even in the event that there is no prohibited return of equity as set out above, the security granted could represent a hidden distribution of dividends. A benefit granted in favour of a parent group company qualifies as a hidden distribution of dividends if according to the standard of dealing at arm s length there is a manifest disproportion in the consideration which is to the detriment of the Swiss subsidiary. A hidden distribution of dividends may trigger withholding tax at the current rate of 35 per cent (subject to any applicable double tax treaty), whereby the tax is grossed-up (ie the distributed sum is considered to be merely 65 per cent of the dividend). 3.2 Inter-creditor issues Syndicated lenders are all treated as pari passu creditors of a Swiss company in bankruptcy or debt moratorium provided that they have a direct claim against the latter. Sub-participants are not able to exercise direct claims against the Swiss company and there is no possibility under Swiss insolvency law for lenders to split the claim and/or the vote with their sub-participants. The only way for the sub-participant to exercise any right in bankruptcy or debt moratorium proceedings is to agree with the lender to transfer the debt by way of assignment. 3.3 Syndication Loans can be syndicated before or after the transaction is completed. If EUROPEAN LAWYER REFERENCE SERIES 421

8 before, syndicated loan agreements governed by English law usually provide for a security agent or security trustee acting as agent or trustee for all the lenders. This is in principle recognised by the Swiss courts, which would not challenge the concept of a security trustee. However, should the loan be syndicated after the deal is done, it triggers the following issue with respect to security arrangements governed by Swiss law: some security interests (eg pledges) created under Swiss law are considered as a collateral security (akzessorische Sicherheit) conditional upon the existence of a valid claim. Such a security has the priority provided for under the agreements as long as the secured obligations have not been invalidated, discharged, novated, waived or otherwise expired, lapsed or terminated. If the syndicated loan agreement allows a lender to transfer its claims by way of novation, there is a risk that the security would lapse automatically with the transfer (by novation). Parallel debt wording is therefore typically inserted into the facility agreements with the aim of mitigating or eliminating this risk, but the concept of a parallel debt has never been discussed in Swiss legal doctrine nor decided on by a Swiss court. There is, theoretically, a remote risk that the parallel debt provision could be attacked on the grounds of simulation under Article 18 of the Swiss Code of Obligations. Syndication may also trigger tax issues to be considered in all syndicated transactions including those allowing sub-participations. In principle, if there are more than 10 non-banks participating in the facility by way of assignment, transfer, novation or sub-participation or if the Swiss company has more than 20 non-bank creditors, interest payments become subject to withholding tax at the current rate of 35 per cent. For the purpose of the threshold of non-bank creditors, private placements ( club-deals ) are counted as one per formal written instrument of debt acknowledgement (tranche) and, under certain circumstances, where the refinancing of a bank is such that the bank appears to be only interposed and not acting in its own economic interests, the lenders to that bank would also count for the threshold of non-banks. As regards sub-participations, however, the Federal Tax Authorities have accepted the view that sub-participants under the Loan Market Association (LMA) standard form of risk participation agreement would not count towards the threshold on non-bank creditors under the 10/20 non-bank rule. 3.4 Alternative means of financing Companies can issue bonds which, if the offer is to a limited circle of individuals only, will be deemed a private offer. As a rule of thumb, an offer to more than 20 individuals is considered to be public if it is offered to investors that are not selected and approached on an individual basis. It has to be noted that even an offering made to all customers of a bank is a public offering, as the investors contacted are not individually chosen. The market for domestic and international bonds in Switzerland is booming. This is also due to the liberal regime of the Swiss Exchange (SIX), which enables the listing of international bonds without the issuer having to follow the EU Prospectus Directive. 422 EUROPEAN LAWYER REFERENCE SERIES

9 Securitisation, in particular asset-backed securitisation, although lacking legal framework, has grown over the past few years. The other form of financing combining debt and equity is mezzanine financing, where debt and participation rights of the lenders can be relatively freely agreed upon. Depending on the terms, this will result in the debt financing being considered as equity from a corporate law point of view. 4. EQUITY STRUCTURES 4.1 Role of management In Switzerland, management and in particular the chief executive officer often sits on the board of directors. Employment agreements of management commonly provide for incentives for the achievement of certain goals (variable salaries, bonus payments and/or share option plan participation). Often, incentives are also granted in the event of successful exits. Provisions in employment agreements which are important to investors additionally include non-competition obligations (whose scope and duration are limited by law) and non-solicitation undertakings, assignment of intellectual property and minimum terms of employment, or long notice periods (in particular for key management, an initial term of one to two years and/or notice periods of six months to one year are not unusual). Typically, management is granted participation in the investment vehicle, up to a certain minority percentage. Such participation is often structured by way of grants of shares and/or share options (which entitle the holder to both economic benefits and voting rights), and sometimes profit participation certificates (which usually give only economic benefits). Management participation is usually achieved through company shares/ share option plans, sometimes also by means of individual share purchase agreements or of indirect participation rights (ie participation in a special purpose vehicle which holds shares or other participation rights in the company). Share option plans usually contain deferred grants and vesting periods (sometimes of several years) in order to secure management s long-term involvement. The exercise of options is often conditional upon continued employment and/or adherence to a shareholders agreement containing limitations on voting rights and on the disposal of shares. Cliff vesting is often provided in the event of a trade sale, an initial public offering (IPO) or the achievement of certain milestones. 4.2 Common protections for investors Investment agreements typically contain initial investment protection, in particular with regard to representations and warranties given by companies and/or management. Since a company s representations and warranties coupled with monetary indemnification may violate the legal prohibition on redemption of capital contributions, investment protection must be structured accordingly, eg through compensatory capital increases or similar provisions of indirect indemnity. The basic and long-term protection of investors and their investments is implemented through a shareholders agreement, which typically contains EUROPEAN LAWYER REFERENCE SERIES 423

10 provisions ensuring that any new shareholder will fall under its scope of application. To some extent, the provisions of a shareholders agreement can be additionally strengthened in the company s bylaws and in regulations of the board of directors. Common investment protection instruments include the issue of preferred shares, anti-dilution provisions and transfer restrictions in the form of rights of first offer and preemption rights. Shareholders agreements also often contain call options, which can be exercised against a party in breach of its contractual obligations. Statutory subscription rights under Swiss company law also provide anti-dilution protection to some extent. Other common means to ensure investment protection include the right of investors to appoint their own representatives on the board of directors, or at least observers, provisions regarding composition of the board of directors, reporting requirements and information rights (on financial and other issues). Quorum requirements, at the level of the board of directors and/or of the shareholders, and shareholders voting obligations are also important protection instruments. Furthermore, investors typically secure their possibility to realise a successful exit (IPO, trade sale etc) by means of strong drag-along clauses. The deposit of issued share certificates with an escrow agent, who is provided with corresponding instructions, may further secure the investors right and the possibility to realise exit transactions in a short time frame, especially against inactive or opposing minority shareholders. 4.3 Common protections for management Minority rights of management and/or their position may be protected through appropriate provisions in a shareholders agreement, but veto rights are unusual. Statutory subscription rights for shareholders in capital increases pursuant to Swiss company law grant a certain degree of antidilution protection to minority shareholders (although these rights are often waived in shareholders agreements). Usually, management s position is further secured through tag-along rights and sometimes through obligations of investors to allocate a certain percentage of the capital to management and/or key employees. Share option plans and shareholders agreements often contain good leaver provisions that ensure favourable conditions if employment is terminated for convenience by the company (eg a change of control). Inversely, the termination of a manager s employment may lead to a right for other investors to purchase their shares by means of a call option. Management members do not always have board seats and if they do, they usually do not enjoy any veto rights. 4.4 Management warranties The fund normally expects the management to give far-reaching warranties. The warranties cover in particular those aspects of which the management has better knowledge than the shareholders and the board of directors. In general, the warranties sought cover the target company s financials and current and future business, including the plans and the circumstances that 424 EUROPEAN LAWYER REFERENCE SERIES

11 may lead to future risks. In particular, the management typically warrants the correctness and the completeness of the due diligence, the absence of adverse changes for the time period ranging from the last audited financial accounts to the closing, the availability of the intellectual property rights, permits and authorisations necessary to carry on the target company s business, the absence of claims, actions, investigations or proceedings pending or threatened and compliance with applicable laws, tax and social security obligations and pension plan requirements. In general, warranties contain both a time limit and a cap. The time limit usually depends on the business field of the target company, ie how easily risks can be discovered after the target company s acquisition. As a general rule, one might expect an average warranty period of 18 months. While the warranties pursue the objective of obtaining full disclosure by the management, the liability cap achieves a counterbalance effect as it limits the financial risks for the members of the management. Usually, the liability cap amounts approximately to the annual compensation of the respective individual. Consequently, the managers of a company might each receive different warranty caps. Additionally, there is a minimal threshold under which no claim shall be raised. Such threshold amounts in general to onesixth of the annual compensation of the respective individual. 4.5 Good leaver/bad leaver provisions If a member of the management leaves the target company as a bad leaver, the other shareholders will typically be entitled to exercise a call option within a time frame of at least one month to purchase the shares of the bad leaver in proportion to their respective participations in the target company. If some shareholders renounce their call option rights, the others will be entitled to purchase additional shares. The price of the shares amounts to either: (i) the market value; or (ii) the lower of the market value and the price at which the member of the management paid for the shares. The calculation of the market value is also defined. Where there is disagreement among the parties, the market value will be finally established by an appraiser. The procedure for the appointment of the appraiser and the party that bears the appraisal costs are usually regulated as well. A good leaver might be either: (i) entitled to keep their shares, usually while continuing to be bound by the shareholders agreement; or (ii) required to sell them in case the other shareholders desire to exercise their call options. However, in this case, the price for the shares generally amounts to either: (i) the market value increased by a premium; or (ii) the higher of the market value and the price at which the member of the management paid for the shares. 4.6 Public to private transactions In Switzerland it is not common for a private equity fund to make offers for public companies. EUROPEAN LAWYER REFERENCE SERIES 425

12 5. EXITS By their nature, private equity investments are intended to be held for a limited period of time, usually between two and seven years. Their primary goal being to achieve a successful exit and to obtain the highest profit from their investment, private equity investors will hence invest only if they are positive that there are several potential ways to achieve a successful exit. Despite its relatively small size and the number of players present on it, the Swiss market offers good exit options and is comparatively liquid, as the partially substantial recent successful exits of private equity investors, notably in the life science, biotech and pharmaceutical area, show. Different exit options are available: secondary sales (5.1); trade sales (5.2); IPOs (5.3); refinancing (5.4); or restructuring or liquidation (5.5). 5.1 Secondary sales In Switzerland, the buyer in a secondary sale is generally another private equity investor or a strategic buyer. Sale and purchase agreements with respect to stockholdings in Switzerland can be drafted in a few pages and often are, although sophisticated players tend to prefer lengthier agreements that compare with international standards. Swiss statutory provisions foresee very short notice periods to claim a misrepresentation or breach of warranty. Hence agreements exclude the application of such statutory provisions. In addition, Swiss law provides very limited protection with respect to damages incurred within the target company. Consequently, sale and purchase agreements must expressly foresee rules according to which the buyer can recover the damage incurred by the target company. Last but not least, Swiss law provides only very limited representations and warranties by operation of law where there is a sale of shares of an undertaking; accordingly, it is usual for the buyer to request that all representations and warranties which are customary and appropriate for the individual sale transaction be listed in the sale and purchase agreement. 5.2 Trade sales In Switzerland this exit option is often preferred by the investor since it gives them the opportunity to sell all their stock in one transaction, without being limited by lock up provisions as it would be in an IPO (see section 5.3), while being able to take advantage of any contractual exit preference. Furthermore, from a tax perspective, this exit choice may constitute a tax free benefit for the investor, subject to the requirements of Article 70 IV of the Swiss Federal Direct Tax Act. To secure this exit option, the equity investor should set out drag along/tag along provisions in the investment agreement or shareholders agreement, which will compel/enable other shareholders to sell their shares with the investor. Such provisions, which are acceptable and, in principle, enforceable under Swiss law, will greatly increase the liquidity of the investment. It is also important for the investor to provide for a right of first refusal, which will allow it to control the entry of future shareholders and to secure a possible trade sale. Parties can also set forth in the agreement that 426 EUROPEAN LAWYER REFERENCE SERIES

13 the investor shall have a preferred position with respect to the proceedings of a trade sale ( exit preference ). This rule cannot be included in articles of association of Swiss companies, but only in shareholders agreements. Swiss law allows creativity with respect to the drafting of those provisions. Hence, legal engineering is available where sophisticated parties require it. 5.3 IPOs In Switzerland, a listing is possible at the SIX in Zurich or at the Berne exchange (BX) in Berne. A listing is often an appreciated exit option since it increases the liquidity and thus the price of the securities trades and it enhances the reputation of a company. If the advantages are obvious, it is nevertheless worth mentioning that a listing is a very long process (about six months) and it is expensive, both in terms of management time and of legal and financial advisers fees. An IPO will also often compel the company to change its equity structure. Indeed, in Switzerland private equity investors often hold preferred shares, the rights of which must often be adapted for an IPO. In this context and to avoid this hurdle, it is advisable to draft in the investment agreement a provision according to which the preferred shares shall be converted into ordinary shares when the shares shall be listed. One of the main inconveniences of such an exit for the investor is that a quick and complete exit is often not possible since most of the investment agreements concluded in Switzerland contain a lock-up obligation on investors. Such an obligation will generally prevent the investor from selling its shares during a period of six months. Such prohibitions can also be mandatory for young companies through the directives of the SIX. Another issue with IPOs is that new shares are often issued. Under Swiss corporate law, existing shareholders are protected from capital dilution in the case of a share capital increase. However, these protective rights of shareholders can be limited or withdrawn if it is justified by a fair reason and if all shareholders are treated equally. In addition, shareholders agreements often contain the possibility for dilutions. Under Swiss law, the decision to list a company does not belong to the shareholders, but to the board of directors, unless the articles of association or the organisational regulations give competence to the management or the shareholders meeting. And even if the shareholders do have the right to decide on this item, it requires a majority vote. To secure this exit, a minority investor could negotiate a contractual right to decide by itself on a resolution with respect to the listing. With respect to the issue of price setting for instance through a bookbuilding process it is important for the investor that has not secured a majority of board seats to set out in the shareholders agreement that the decision on price requires its agreement, such a rule being admissible under Swiss law. 5.4 Refinancings A refinancing or a recapitalisation allows a change of the capital structure of a company through the substitution of debt for equity. When this process EUROPEAN LAWYER REFERENCE SERIES 427

14 is initiated by the company itself, it is called a leveraged recapitalisation. For the investor, a leveraged recapitalisation is not a real exit option since it remains shareholder of the company, but such a process can be considered as a preamble to the exit. It is worth mentioning that, under Swiss law, the articles of association can set forth that holders of preferred shares may benefit from more dividends than common shareholders. 5.5 Restructuring/insolvency The insolvency option is often the least interesting option for a private equity investor since the assets of the company will be sold at their liquidation value, which is generally substantially less than the continuation value. However in some cases, liquidation may be a good means for the investor to redeem the capital and the reserves, since in this situation Swiss law does not set forth rules with respect to the protection of capital. The threat of liquidation can also constitute a negotiation tool for the investor to convince the management to find a buyer for the company. To enforce the liquidation process and when the investor does not hold a majority of the share capital, it should negotiate in the shareholders agreement a duty for the other shareholders to vote for the liquidation in certain circumstances. Finally, we can also mention that articles of association of Swiss companies can provide holders of preferred shares with an advantage on the liquidation proceeds. 6. TAX 6.1 Taxation of fund structures Until now, Swiss taxation of collective investment schemes has not been regarded as favourable by international standards, and probably rightly so. However, the Swiss tax authorities have recently been agreeable to finding accommodating solutions, bringing the tax treatment more in line with the advantageous regulatory and investment environment. The first foreign funds that have relocated to Switzerland, or are considering doing so, may be seen as heralding a new development. Contractual investment funds (FCPs), LPCIs and SICAVs As a general rule, FCPs, LPCIs and SICAVs are deemed tax transparent and related assets and income are taxed in the hands of the investor. As a consequence, capital gains are tax free, provided they are accounted for and distributed separately. By way of exception, FCPs, LPCIs and SICAVs holding direct investments in real property are taxed in respect of real estate related income, gains and assets pursuant to the rules of corporate taxation, albeit at reduced rates. At the Cantonal level, FCPs, LPCIs, and SICAVs are subject to capital tax for directly owned real estate. SICAVs are subject to ordinary capital tax. These rules also apply to funds including a master fund or a feeder structure. The distinction between open-ended and closed-ended collective 428 EUROPEAN LAWYER REFERENCE SERIES

15 investments schemes is irrelevant for tax purposes. SICAFs SICAFs are investment companies subject to corporate taxation at ordinary rates. Foreign fund structures Foreign fund structures may be deemed to qualify as Swiss collective investment schemes if they fulfil a number of criteria defined by the Federal Tax Administration, including, in particular, admission for distribution in Switzerland. Domestic investors in such funds will be taxed as if the funds were domestic. 6.2 Withholding tax (WHT) Whereas profit distribution by FCPs, LPCIs and SICAVs (including annual deemed distributions of non-distributing funds) are subject to 35 per cent WHT, distribution of capital gains is not, provided such capital gains are accounted for and distributed separately. Distributions by SICAFs are generally subject to 35 per cent WHT. While domestic investors are generally entitled to a refund of WHT, a refund of WHT to foreign investors is subject to double taxation agreement (DTA) relief. Distributions by funds with at least 80 per cent foreign source earnings are exempt from WHT ( affidavit-procedure ). Difference in tax treatment between domestic investors and overseas investors Other than the above DTA-requirement applicable to WHT refunds, domestic and overseas investors are treated equally for tax purposes. In particular, mere investment in a Swiss collective investment scheme does not necessarily result in tax liability in Switzerland. Does this make one particular structure more attractive than others Typically, private equity investors show reluctance towards non-transparent structures as they entail economic double taxation (ie tax both at fund and investor level) in exit and liquidation scenarios. The corporate tax treatment of a SICAF results in just that economic double taxation. Therefore, a SICAF represents the less attractive option than the tax transparent FCP, LPCI or SICAV. To our knowledge, no SICAF has been incorporated so far. 6.3 Carried interest Taxation of carried interest essentially depends on the basis of its distribution. Income tax will generally be levied if the basis is contractual. To the extent it represents a dividend, recipients may benefit from privileged taxation with 40 per cent and more relief available where such dividends are received from a qualifying participation (normally five to 10 per cent). So far, the Swiss tax authorities have been reluctant to qualify carried interest EUROPEAN LAWYER REFERENCE SERIES 429

16 as a capital gain and exempt it from tax. In selected instances, however, advantageous solutions could be found. 6.4 Management equity Awards of equity by way of compensation will usually be taxed as income. Privileged taxation may apply where such equity can be qualified as a dividend from qualifying participations. 6.5 Loan interest As FCPs, LPCIs and SICAVs are tax transparent entities, any interest paid on loans would result in a reduction of the fund s net asset value (NAV). SICAFs on the other hand may deduct such interest payments from their tax basis. Interest payments on loans are subject to withholding tax only if the aggregate borrowed amount exceeds CHF 500,000 and the number of nonbank borrowers exceeds 10 in the case of identical loan conditions or 20 in the case of variable loan conditions (Kassenobligationen/obligations de caisse). 6.6 Transaction taxes Share issues in FCPs, LPCIs and SICAVs are exempt from issuance stamp tax. Issuing shares in a SICAF is subject to issuance stamp tax at one per cent. The sale and purchase of shares in FCPs, LPCIs, SICAVs and SICAFs are subject to transfer stamp tax, provided either seller or buyer qualifies as a securities dealer for Swiss tax purposes. FCPs, LPCIs and SICAVs do not qualify as securities dealers for Swiss tax purposes and are thus exempt from transfer stamp tax on their transactions. SICAFs are deemed securities dealers for Swiss tax purposes and are subject to transfer stamp tax at a rate of up to 0.15 per cent on transactions. 7. CURRENT TOPICAL ISSUES/TRENDS The fundraising environment in Switzerland remains difficult, in particular for the traditional venture funds and for the venture capital segment. Corporate private equity funds, in particular those of the large pharmaceutical groups, are apparently not facing the same difficulties, as the increase of their activities suggests. Corporate-funded private equity vehicles are also increasingly investing earlier, ie in the start-up and early-stage segment. The Swiss investment environment is currently very attractive. Switzerland remains a typical buyer s market, with many companies that are in search of funds. This global trend appears to be driven by the situation in the US and, although the local market is showing a certain resistance, there is a comparatively strong pressure on pre-money valuations in Switzerland, too. Furthermore, the skills and quality of the employees are often perceived as an additional asset by private equity funds when investing in Switzerland. Currently, there is a positive environment in Switzerland for exiting investments. There have been a number of exits throughout 2009 and in the first months of this year. Usually, exits have been achieved through trade 430 EUROPEAN LAWYER REFERENCE SERIES

17 sales/merger and acquisition transactions, including a number of research and development/intellectual property transactions. It is interesting to note that exits have also been achieved at earlier stages than usual, and that trade sales have not been limited to large companies, but have included a number of medium-sized investments. There have also been a couple of transactions involving a listing on the stock exchange and/or listed companies. Exits by way of IPO remain quite exceptional, due to the substantial risks of loss of value during lockup periods, which is typical given the current uncertainties on the stock exchanges. Also, a listing goes along with the loss of liquidation and exit preferences for private equity investors. On the other hand, there seems to be an increasing willingness of some players to accept those risks and disadvantages, probably in order to obtain liquidity of their investments. It is hard to predict whether the current difficult fundraising environment will improve in the near term. As far as deal-doing is concerned, it is expected that the positive trend is not over. In addition to traditional funding and exit transactions, an increase in other kinds of deals, such as cooperations and consolidations, licensing and transactions involving restructuring of assets is expected (particularly in the life science sector). The worldwide increase in regulations, such as, eg, the new UCITS rules in Europe, and the more stringent supervision which is also felt in Switzerland at the level of the local supervisory authority, the FINMA is expected to have a strong impact on how private equity is carried out. In this context, the private equity structure developed by recent legislation in Switzerland, ie the LPCI (see above, section 2.1), may become attractive, the more so if the current interesting investment environment can be maintained. Much will, however, depend upon the ability of Switzerland to develop transparent and attractive rules for the taxation of performance fees of general partners/managers. Adaptation to the upcoming regulatory developments in Europe will also be key. EUROPEAN LAWYER REFERENCE SERIES 431