Publications Archives

Today, the Board of Governors of the Federal Reserve System (“Federal Reserve”) announced that, as part of the “programs or facilities” the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) directs the Federal Reserve to establish to provide “liquidity to the financial system that supports lending to eligible businesses, States, or municipalities,” it would establish two new facilities to promote lending to businesses with up to 10,000 employees or up to $2.5 billion in 2019 annual revenue. The Federal Reserve also announced a lending facility for depository institutions that originate loans under the CARES Act’s Paycheck Protection Program (“PPP”). This alert discusses these three facilities.

In addition, the Federal Reserve announced four other lending facilities today: the Term Asset-Backed Securities Loan Facility; the Primary Market Corporate Credit Facility; the Secondary Market Corporate Credit Facility; and the Municipal Liquidity Facility.

Main Street Loan Facilities

The Federal Reserve announced two programs to promote lending to small and mid-sized businesses. The first, the Main Street New Loan Facility (“MSNLF”), applies to new loans. The second, the Main Street Expanded Loan Facility (“MSELF”), applies to upsized tranches on top of existing loans. Pursuant to both, the Department of the Treasury (“Treasury”) will make a $75 billion equity investment in a special purpose vehicle (“SPV”) on a recourse basis. The SPV, in turn, will purchase 95% participations in either: (1) a new loan, under the MSNLF, or (2) the increased amount of an existing loan, under MSELF. Lenders will retain the remaining 5%.

Eligible Lenders

U.S. insured depository institutions, U.S. bank holding companies, and U.S. savings and loan holding companies are eligible lenders under MSNLF and MSELF.

Eligible Borrowers

To receive funds under MSNF or MSELF, a business must:

Have either (i) up to 10,000 employees or (ii) $2.5 billion in 2019 annual revenue; and
Be created or organized in the United States or under the laws of the United States with significant operations in and a majority of its employees based in the United States.

Eligible Loans

A loan is eligible for the MSNLF if it meets six requirements:

4 year maturity;
Amortization of principal and interest deferred for one year;
Adjustable rate of Secured Overnight Financing Rate (“SOFR”) + 250–400 basis points;
Minimum loan size of $1 million;
Maximum loan size that is the lesser of (i) $25 million or (ii) an amount that, when added to the Eligible Borrower’s existing outstanding and committed but undrawn debt, does not exceed four times the Eligible Borrower’s 2019 earnings before interest, taxes, depreciation, and amortization (“EBITDA”); and
Prepayment permitted without penalty.

Largely the same requirements determine whether an existing loan can be upsized through the MSELF. The requirements apply to the upsized tranche of the loan. The only difference is the maximum loan size, which is the lesser of:

$150 million; or
30% of the Eligible Borrower’s existing outstanding and committed but undrawn bank debt; or
An amount that, when added to the borrower’s existing outstanding and committed but undrawn debt, does not exceed six times the borrower’s 2019 earnings before EBITDA.

Loan Participation

Under the MSNLF, the SPV will purchase a 95% participation in the loan at par value; the lender will retain 5% of the loan.

Under the MSELF, the SPV will purchase a 95% participation in the upsized tranche of the loan—i.e., the increased amount of the loan—so long as the loan is upsized on or after April 8, 2020 at par value. Any collateral securing the loan, whether such collateral was pledged under the loan’s original terms or at the time of upsizing, will secure the loan participation on a pro rata basis.

In both situations, the SPV and the lender will share risk in the upsized tranche on a pari passu basis.

Loan Requirements

In addition to certifications required by applicable statutes and regulations, a lender of a loan purchased by the MSNLF or MSELF must make the following attestations:

The proceeds of the loan or upsized tranche of the loan will not be used to repay or refinance pre-existing loans or lines of credit made by the lender to the borrower; for the MSELF, this also applies to the pre-existing portion of the loan; and,
It will not cancel or reduce any existing lines of credit outstanding to the borrower.

A borrower of loans purchased under both programs must make the following attestations:

It will refrain from (i) using the proceeds of the loan or upsized tranche of the loan to repay other loan balances, and (ii) from repaying other debt of equal or lower priority, with the exception of mandatory principal payments, unless the borrower has first repaid the loan in full;
It will not seek to cancel or reduce any of its outstanding lines of credit with that lender or any other lender;
It requires financing due to the exigent circumstances presented by the COVID-19 pandemic, and that, using the proceeds of the loan or upsized tranche of the loan, it will make reasonable efforts to maintain its payroll and retain its employees during the term of the loan or upsized tranche of the loan;
It will follow compensation, stock repurchase, and capital distribution restrictions that apply to direct loan programs under Section 4003(c)(3)(A)(iii) of the CARES Act—specifically, that, from the date the loan agreement is executed until one year after the loan is no longer outstanding, borrowers cannot:
- Engage in stock buybacks, unless contractually obligated, or pay dividends;
- Increase the compensation of any employee whose compensation exceeded $425,000 in 2019 or offer them severance or termination benefits that exceed twice their 2019 compensation; and
- Provide employees whose total compensation exceeded $3 million in 2019 compensation greater than $3 million, plus 50 percent of the amount over $3 million that the individual received in 2019.

A key difference between borrowers of loans under the MSNLF and borrowers of increased loan amounts under the MSELF is the leverage conditions. Under the MSNLF, the loan amount, when added to the borrower’s existing outstanding and committed but undrawn debt, cannot exceed four times the borrower’s EBITDA. In contrast, under the MSELF, the loan amount, when added to the borrower’s existing outstanding and committed but undrawn debt, cannot exceed six times borrower’s EBITDA.

Restrictions On Receiving Other CARES Act Relief

A borrower can participate in either the MSNLF or the MSELF—but not both. And businesses that receive loans (or increase loans) under either program cannot participate in the Primary Market Corporate Credit Facility (“PMCCF”).

Note that guidance released today for the PMCCF and Secondary Market Corporate Credit Facility impose as a condition that “[t]he issuer has not received specific support pursuant to the CARES Act or any subsequent federal legislation,” but does not expand on what constitutes “specific support” and whether the MSNLF or MSELF qualifies.[1]

Finally, the Federal Reserve expressly stated that businesses that have received loans under the CARES Act’s PPP loan program can also participate in the MSNLF or the MSELF.

Fees and Servicing

For loans purchased by the MSNLF, the lender will pay the SPV a facility fee of 100 basis points of the principal amount of the loan participation purchased by the SPV. The lender can require the borrower to pay this fee. Borrowers must also pay the lender an origination fee of 100 basis points of the principal amount of the loan.

For upsized tranches of loans purchased by the MSELF, the borrower will pay the lender a fee of 100 basis points of the principal amount of the upsized tranche of loan at the time of upsizing

For loans under both programs, the SPV will pay the lender 25 basis points of the principal amount of its participation in the loan per annum for loan servicing.

Facility Termination

The SPV will terminate on September 30, 2020, unless the Federal Reserve and Treasury extend the Facilities.

Paycheck Protection Program Lending Facility

The Federal Reserve also created the Paycheck Protection Program Liquidity Facility (“PPPLF”). The PPPLF is intended to facilitate lending by eligible borrowers to small businesses under the CARES Act’s PPP loan program.

To this end, the PPPLF will extend credit to eligible financial institutions that originate PPP loans, taking the loans as collateral at face value.

____________________

[1] Under the CARES Act, “eligible business” is a “United States business that has not otherwise received adequate economic relief in the form of loans or loan guarantees provided under this Act.” It is possible that, if a business receives a loan under the MSNLF or the MSELF, Treasury will conclude the business has “received adequate economic relief” and can no longer participate in programs established with CARES Act funds. But further guidance is needed on what constitutes “adequate” economic relief. In addition, because the CARES Act focuses on whether eligible businesses “received” relief, the Act appears to allow eligible businesses to apply for loans or loan guarantees under multiple provisions of the Act so long as they have not yet “received adequate economic relief.”

Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these developments. For further information, please contact the Gibson Dunn lawyer with whom you usually work, or the following authors:

Authors: Michael D. Bopp, Roscoe Jones, Jr.*, Megan Kiernan, Allison Lewis and Luke Sullivan

* Not admitted to practice in Washington, D.C.; currently practicing under the supervision of Gibson, Dunn & Crutcher LLP.

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

Given the current volatility of the capital markets and uncertain outlook for stability, one attractive option for public companies seeking to raise capital quickly is a “PIPE” transaction – or private investment in public equity. This article highlights some key considerations that a company should consider in connection with a PIPE transaction, including information on waivers of certain rules of the New York Stock Exchange (NYSE) recently approved by the SEC in connection with the COVID-19 pandemic.

Company Charter Confirmations

A company should confirm it has sufficient unissued but authorized stock under its charter or, if the company is considering issuing a new type of equity security, such as preferred stock, that its charter authorizes such security. In calculating the number of shares available for issuance in the PIPE, a company should take into account shares reserved for issuance under equity compensation plans or convertible securities. If sufficient shares are not available or the type of security being considered is not already authorized, then a company may have to seek shareholder approval to amend its charter.

Stock Exchange Listing Rules

The 20% Rule

The rules of both Nasdaq and the NYSE require shareholder approval for the issuance of 20% or more of a company’s outstanding common stock or voting power, subject to certain exceptions. These exceptions include (i) public offerings and (ii) private placements so long as the price is above a minimum threshold tied to market price and, for NYSE transactions, marketing to multiple purchasers with no one individual or group acquiring more than 5% of the number or voting power of outstanding shares before the sale. Neither of these exemptions is typically available for PIPE transactions, which usually are marketed to a small number of investors and at a below market price. See our prior posts discussing the Nasdaq rules here and NYSE rules here. If shareholder approval is required in advance of the PIPE, then a company’s plans to raise capital could be delayed significantly.

One common workaround allowed by both stock exchanges is to issue less than 20% of shares immediately, combined with the issuance of preferred stock or another security that remains non-convertible and non-voting until shareholder approval is obtained. The exchanges may permit certain penalties and sweeteners to encourage shareholder approval, but such mechanisms must be navigated carefully after consulting with the applicable exchange.

Due to the ongoing spread of the COVID-19 virus, on April 6, 2020, the SEC declared immediately effective a proposal by the NYSE (see SEC notice here) to waive through June 30, 2020 the 5% exception limitation discussed above if the sale is for cash and complies with the NYSE’s minimum price requirements.

Related Party Transactions

The NYSE requires shareholder approval for certain issuances to (i) directors, officers and 5% shareholders, (ii) affiliates thereof and (iii) entities in which the foregoing have a substantial direct or indirect interest if the issuance exceeds 1% of the number or voting power of outstanding shares before the issuance. The NYSE makes a limited exception for issuances of up to 5% of a company’s shares to a shareholder that is a related party only because it is a substantial shareholder.

As part of the SEC waiver discussed above, the SEC has approved a partial waiver of the numerical limitations of the NYSE’s related party transaction rule also through June 30, 2020, if the transaction is (i) a cash sale that complies with the minimum price requirements and (ii) approved by the company’s audit committee or a comparable committee comprised solely of independent directors.

Although Nasdaq does not have a related party rule comparable to the NYSE’s rule, it views issuances to directors and officers at below market value, similar to the NYSE, as equity compensation, which requires shareholder approval. These rules can affect PIPEs in which insiders participate.

Change of Control

Both Nasdaq and the NYSE require shareholder approval prior to transactions deemed to be a change of control. Nasdaq presumes that a change of control has occurred if an investor will cross the 20% ownership threshold as a result of the transaction. The NYSE presumes that a change of control has occurred where (i) the transaction results in an investor crossing the 20% threshold, (ii) the investor would obtain disproportionate board representation or (iii) the investor would have significant veto rights over corporate actions. Note that the recent NYSE rule waivers do not apply to the change of control requirements.

Again, transaction structuring workarounds may be available to avoid shareholder approval in the change of control context; these should be discussed with the applicable exchange.

Registration Rights

PIPE investors typically receive registration rights for the shares purchased in a private placement to allow them to sell without restrictions. The registration rights agreement negotiated between the parties often provides the investors with (i) demand registration rights requiring the company to register the sale of acquired shares pursuant to a resale registration statement and (ii) piggy back registration rights that allow investors to join in a registered primary offering of the company or a secondary offering of other company shareholders. A company should consider the rights it is willing to grant pursuant to a registration rights agreement and the fees and expenses it is willing to incur to effect the registration.

Governance Considerations

Most PIPEs involving preferred stock or other non-common equity are bespoke transactions, and many of them include heavily-negotiated board representation rights, consent rights, anti-dilution provisions, conversion and redemption features and preemptive rights. These features may implicate SEC regulations, stock exchange listing rules and state law. Each company should carefully consider what rights it is willing to provide to investors in light of these considerations.

Conclusion

PIPEs are often a fast and cost effective way to raise capital, relative to other types of transactions, but they raise complicated technical questions that must be carefully considered. Our Capital Markets and Private Equity teams are available to answer your questions about PIPEs and to assist you in evaluating structure and strategy, for both potential PIPE issuers and PIPE investors.

Authors: Boris Dolgonos, Andrew Fabens, Hillary Holmes and Stewart McDowell, as well as Eric Scarazzo and Harrison Tucker

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

New York partner James Hallowell and associates Mark Mixon Jr. and Andrew Kuntz were the authors of “‘Salzberg’ Opens Door to Creativity in the ‘Outer Band’ of ‘Intra-Corporate Affairs’” [PDF] published by Delaware Business Court Insider on April 8, 2020.

The government has introduced, with effect from 1 April 2020, a new 2% digital services tax (“DST”) levied on the revenues of search engines, social media services and online marketplaces which derive value from UK users. There was some speculation prior to the Budget delivered on 11 March that the measure would be withdrawn or postponed pending international agreement on long-term reform of the international corporate tax rules in respect of digital businesses. With the Finance Bill 2019-21 due for its second reading in the House of Commons on 22 April, there remains a remote possibility that the effective date of the DST may yet be delayed before the Bill receives Royal Assent.

This Alert details some of the factors that have influenced the introduction of DST and its wider implications for multinational enterprises. It follows our previous Alert “Taxing the Digital Economy” published 18 December 2019 (which can be accessed here).

For our client alert on broader tax measures in respect of the 2020 Budget, please click here.

We hope that you find this alert useful. Please do not hesitate to contact us with any questions or requests for further information.

International context

The measure comes following wider negotiations at the OECD level with over 130 countries that aim to address the tax challenges of the digitalisation of the economy. In particular, it was perceived that the OECD Model Tax Convention on Income and Capital as currently drafted does not recognise the value created by user participation. This may create a mismatch between the location of value-generating activities and taxable profits of certain digital business models. The current proposal at the OECD level is that despite minimal physical presence, multinational businesses would pay some of their corporate income taxes where their consumers or users are located – a departure from established international tax norms.

The European Commission proposed in March 2018 its own turnover tax on digital businesses, pending reform of its common corporate tax rules for digital activities. Such proposals have however been laid aside due to opposition from several EU member states. Despite ongoing negotiations, a growing list of countries (including the UK, France, Austria, Hungary, Italy and Turkey) have decided to move ahead with unilateral measures to tax the digital economy.

Despite the political challenges of replacing a revenue-generating measure such as the DST (for example to conform with a future multilateral solution at the OECD level), the UK government has committed to reviewing the position by the end of 2025 in order to better align UK tax policy with the international consensus. Any repeal of the DST at that time however, would be conditional on that consensus properly addressing the core mismatch issues outlined in the OECD Interim Report on Taxation Challenges in the Digital Economy (March 2018). The OECD is currently working towards reaching a political decision at the OECD/G20 meeting scheduled for 1-2 July 2020 in Berlin on the key components of a multilateral solution.

Scope of DST

The UK’s DST applies to business groups whose worldwide revenue from search engines, social media services and online marketplaces exceeds £500 million, with more than £25 million of these revenues deriving from UK users. There is an allowance of £25 million, which means a group’s first £25 million of revenues derived from UK users will not be subject to DST. Further, where revenues arise in connection with both a digital services activity and anything else, the revenues attributable to the digital services activity is to be determined by the taxpayer on a just and reasonable basis.

Taxable UK digital services revenues will include any revenue earned by the group which is connected to the social media service, search engine or online marketplace, irrespective of how the business monetises the service, and provided such revenues are attributable to UK users. Revenues may be attributable to UK users if the revenue arises by virtue of a UK user using or paying for the service, subject to certain exceptions. Advertising revenues however are derived from UK users when the advertisement is intended to be viewed or consumed by a UK user.

The rules are also helpful in detailing what should not fall within the scope of DST. For example, large businesses that have a search facility on their website should not be considered to be carrying out an internet search engine activity for DST purposes. The UK government has noted that it is not clear how the rules apply to marketplace delivery fees, but has committed to considering this further in line with the policy rationale of the DST.

A UK user is an individual that is normally located in the UK, or a business that is established in the UK. These concepts are not further defined in the legislation, with the intention presumably being that it would not be practical for taxpayers to determine where its third-party users are resident for broader tax purposes. HM Revenue & Customs (“HMRC”) guidance clarifies that a UK user does not include a UK employee of a business, confirming that an activity can only be a service for DST purposes if it is provided to third party users. For example, internal company social media platforms or message boards for employee use should fall outside the scope of DST.

Associated advertising

The scope of the new tax is broad, so that the provision of a search engine, social media platform or online marketplace services include the carrying on of any associated online advertising service. An associated online advertising service is one that is operated on an online platform that facilitates the placing of online advertising, and derives significant benefit from its association with the social media platform, search engine or online marketplace. HMRC guidance on the concept explains that the definition is broad and intended to cover online services at all stages in the online advertising process or value chain. It also includes supporting technologies which facilitate the display of online advertising, such as ad exchanges and analytic programmes.

Financial services exemptions

There is a notable exemption from the online marketplace definition for financial and payment services providers with more than half their relevant revenues arising from the trading of financial instruments. This should make administrative sense given a UK regulatory environment that predominantly requires such services to be booked in the jurisdiction where the consumer resides. Notably however, the concept of financial instruments takes its meaning from relevant accounting standards, and not by reference to the provider’s regulatory approvals (whether UK, EU or elsewhere). A narrowing of the exclusion to providers that are regulated may be seen in later iterations of the DST.

Alternate method of calculation

Interestingly, groups will be able to elect to calculate their DST liability under an alternative method that considers a proportion of relevant operating expenses attributable to UK digital services revenues applicable to the group. The election is intended to ensure that the new tax does not have a disproportionate effect on business sustainability in cases where a business has a low operating margin from providing in-scope activities to UK users.

If a taxpayer group has two in-scope activities (such as an online marketplace and an internet search engine), it could choose to apply the alternative method to one, both or neither of these activities. The calculation then includes:

determining a UK group profit (or “operating”) margin for each type of activity for that accounting period after including a just and reasonable share of relevant operating expenses, but which excludes:
1. interest,
2. the acquisition of a business,
3. events outside the normal course of business,
4. a change in the valuation of any asset, and
5. any tax (irrespective of territory);
apportioning the £25 million allowance pro-rata to each type of activity;
for any elected activity, the taxable amount is 0.8 x the operating margin x the net revenues (for any non-elected activities, the taxable amount is 2% of the net revenues as normal);
the aggregate result or “group amount” is then apportioned to individual group companies according to their respective contributions to UK digital services revenues.

By way of example, a business operates both an online marketplace and a social media platform, generating £1 billion of UK relevant revenues and incurring £800 million of relevant operating expenses. Intuitively, this may imply a 20% operating margin, however a just and reasonable allocation of revenues and operating expenses between the activities (e.g. following a review of management accounts) provides:

Marketplace: 75% of revenues, 93% of operating expenses; and
Social media: 25% of revenues, 7% of operating expenses.

UK relevant revenues (£1 billion)	*Less* £25 million, allocated by revenue proportion	Allocate operating expenses to determine operating margin	DST method
Marketplace 75% (£750 million)	£750 million, less £18.75 million (=£731.25 million)	Marketplace 93% (£744 million) (= 0.8% operating margin)	Normal method: 2% x 731.25 million = £14.625 million Alternative method: 0.8 x 0.8% x £731.25 million = £4.68 million
Social media 25% (£250 million	£250 million less £6.25 million (=£243.75 million)	Social media 7% (£56 million) (= 78% operating margin)	Normal method: 2% x £243.75 million = £4.875 million Alternative method: 0.8 x 78% x £243.75 million = £152.1 million
Search engine 0% (£nil)	£nil less £nil (=£nil)	Search engine 0% (= nil% operating margin)	£nil

In the above example, due to the very low operating margin, it is only beneficial for the taxpayer to elect for the alternative method in relation to online marketplace revenues. This results in total DST due of £4.68 million, rather than the £14.625 million that would have been due under the normal method of calculation subject to the full 2% rate.

Cross border relief

Transactions concluded on a marketplace may often be cross-border in nature, so that the revenues may be linked to both a UK user and a foreign user. Normally, all the revenues from the transaction will be UK digital services revenues, however subject to a valid claim being made, UK digital services revenues from qualifying cross-border transactions may be reduced by 50%. In order to qualify, the cross-border transactions should be:

a marketplace transaction where a foreign user is a party, and
where all or part of the revenues arising in connection with the transaction are, or would be, subject to a foreign digital services tax charge.

To prevent distortion of the relevant operating margin where an election for the alternative method of calculation is made, the group must also disregard a corresponding 50% of any relevant operating expenses incurred in respect of qualifying cross-border transactions.

Taxpayers may be concerned as to what constitutes a foreign DST. Importantly, a foreign DST need not be identical to the UK DST, but should be “similar”. As there is no further legislative interpretation, HMRC guidance on the matter will be important in practice. HMRC has not as yet published a list of countries it views as having a similar tax, but has provided that it will look objectively as to whether the foreign DST is similar in nature and character to the UK DST. In particular, whether the tax:

is levied on gross revenues;
is calculated on the revenues that are derived from users in that territory; and
applies to broadly similar services based on a similar policy rationale.

HMRC acknowledges in its guidance that some foreign DSTs apply a different approach to the UK DST in identifying taxable revenues. For example, the calculation of certain foreign DSTs involve the multiplication of total taxable revenues by the proportion of total users in that territory (i.e. not requiring identification of individual transactions). Consequently there can be difficulties for taxpayers in proving the same revenues have been subject to a foreign DST charge. It is welcome therefore, that HMRC’s interpretation of the words: “or would be,” in limb (b) applies where the relevant transaction is included in the tax base of the foreign DST in a way that increases the charge of the business. As long as the business demonstrates a relevant transaction has been subject to a foreign DST, it is not necessary to demonstrate how much foreign DST has been paid in respect of individual transactions.

Taxpayers may wish to take a pragmatic view in respect of applying for cross border relief claims and should note that due to differences in thresholds and calculation methods (for example the French DST targets certain revenue streams rather than activities), there may be some businesses that are in scope of only one DST. Businesses that are in scope of multiple DSTs may also come to appreciate that the allocation of revenues to each country may not be seamless – for example the UK seeks to tax revenues connected to users normally located in the UK, whereas the French DST taxes revenues attributable to users’ interaction with the platform whilst they are physically located in France.

As taxpayers are unlikely to benefit from double tax treaty relief in respect of DST paid, and different jurisdictions may have different policies on the deductibility of DST for corporate income tax purposes (see Interaction with UK tax treaty obligations, EU state aid rules and other taxes section below), it is important to note that businesses deriving in-scope revenues in more than one jurisdiction may be subject to multiple DST charges on the same global revenues, that are not otherwise creditable under a double tax treaty.

DST liability

DST is calculated at the group level, but the tax liability falls on the individual entities in the group that realise the revenues that contribute to the total. The charge is then allocated to the individual entities that recognise the UK digital services revenues, in the proportion of their contribution to the group’s total digital services revenues. DST uses group and revenue recognition principles from applicable accounting standards to determine the total.

A single entity in the group will be responsible for reporting the tax to HMRC. Groups can nominate an entity to fulfil these responsibilities, otherwise, the ultimate parent of the group will be responsible. Although the tax starts from 1 April this year, no DST is expected to be collected before 2021 as the tax is charged on an annual basis with DST for existing businesses due following the end of 9 months from the end of the accounting period (following 1 April) of the group for which the relevant provider is a member.

Interaction with UK tax treaty obligations, EU state aid rules and other taxes

As DST applies to all in-scope digital revenues irrespective of the residence of the entity recognising the revenue stream, the UK government does not expect it to discriminate against non-resident businesses or to fall foul of non-discrimination provisions that form part of the UK’s existing tax treaty obligations. In addition, the tax is thought by the UK government to maintain the essential character of a revenue tax (this is not the first time the UK has implemented such a tax, for example the petroleum revenue tax introduced in 1975). That is, a tax separate from corporation or income tax, and therefore not subject to the same tax treaty limitations applicable to taxes on income of non-resident companies. This may be an overly simplistic characterisation however, as businesses that pay DST under the alternative method of calculation (see above) which permits certain operating expenses may be paying a tax that is closer to profit, than revenue, in nature.

The European Commission has been particularly proactive in the implementation of EU state aid rules in recent years. It is unlikely the progressive nature of the DST should entail a selective advantage in favour of lower-turnover undertakings to constitute a breach of EU state aid rules. Support for this can be found in the legal opinion by Advocat General Kokott in case C-75/18 (Vodafone Magyarország Mobil Távközlési Zrt) which concluded that a special progressive telecommunications tax imposed between 2010 and 2012 in Hungary did not constitute a selective advantage (and therefore did not constitute state aid). The DST may otherwise represent a derogation that is justified by reference to the nature or general scheme of the underlying system.

The government has however concluded that the DST should not be creditable against any UK corporate tax liability, as such a credit may be seen as discriminatory under EU law. Absent a UK-EU trade deal following Brexit, World Trade Organisation rules would then become relevant which may achieve broadly the same result.

HMRC guidance indicates that DST, being an expense directly related to the earning of a business and a legal obligation, should in the normal course be deductible for UK corporation tax purposes, however deductibility should be assessed on the particular facts of the business. Under normal “wholly and exclusive” rules on the deductibility of expenses, were DST to be deductible for UK corporation tax purposes, we may expect the same principle to apply to digital services tax liabilities enacted in other jurisdictions.

Although DST is assessed at the group level, DST liability falls on those companies in the group that recognise the UK DST revenues. Consequently, taxpayers may wish to review their group structure arrangements to determine the extent to which DST may be deductible for UK corporation tax purposes. Similarly, where there are controlled transactions between associated enterprises in the group, the companies may wish to consider the treatment of the DST charge in arriving at the arm’s length price for transfer pricing purposes.

Concluding thoughts

DST seems likely to affect a relatively small number of groups, many of which are headquartered in the US. Given the interactions between France and the US in the case of France’s equivalent digital tax and threatened retaliatory tariffs by the US, the introduction of the UK DST at a time when the UK is seeking to agree a UK/US trade deal will be an interesting position to monitor going forward.

Although publicised to be temporary in nature, taxpayers should be prepared for the measures to last until at least the end of 2025. Government published costings in March 2020 reveals expected tax receipts from DST in 2024/25 to be c.£515 million. This may be indicative of UK government expectations as to when a multilateral solution may actually come to fruition.

Sandy Bhogal – London (+44 (0) 20 7071 4266, [email protected])
Ben Fryer – London (+44 (0)20 7071 4232, [email protected])
Fareed Muhammed – London (+44(0)20 7071 4230, [email protected])

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

Gibson Dunn’s lawyers regularly counsel clients on issues raised by the COVID-19 pandemic, and we are working with many of our clients on their response to COVID-19. The following is a round-up of today’s client alerts on this topic prepared by the Gibson Dunn team. Our lawyers are available to assist with any questions you may have regarding developments related to the outbreak. As always, for additional information, please feel free to contact the Gibson Dunn lawyer with whom you usually work, or any member of the firm’s Coronavirus (COVID-19) Response Team.

GLOBAL OVERVIEW

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With this in mind, in this alert, the beginning of a series of on-going Gibson Dunn alerts, we provide an overview of early enforcement actions in the United States, the United Kingdom, the European Union, and Asia, as well as specific areas in which increased enforcement activity is likely in the future: namely, insider trading, state-level consumer protection, and False Claims Act enforcement.
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Some Protection from Patent Infringement Suits Is Available to Those Who Make and Provide Personal Protective Equipment and Ventilators in Response to the COVID-19 Crisis

Many companies have retooled (or are considering retooling) their businesses to meet the rising demand for personal protective equipment (“PPE”), ventilators, and other products or services to address the COVID-19 pandemic. Moreover, on April 2, 2020, the President ordered the Department of Health and Human Services to use its authority under the Defense Production Act (“DPA”) of 1950, as amended, 50 U.S.C. §§ 4501 et seq., to facilitate the supply of materials for the production of ventilators by several companies operating in the United States. This alert reviews the limited protection against potential patent infringement lawsuits and damages that the law provides for infringement that occurs during the production, use, or sale of products or services in response to these emergency declarations.
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Many companies have retooled (or are considering retooling) their businesses to meet the rising demand for personal protective equipment (“PPE”), ventilators, and other products or services to address the COVID-19 pandemic. Moreover, on April 2, 2020, the President ordered the Department of Health and Human Services to use its authority under the Defense Production Act (“DPA”) of 1950, as amended, 50 U.S.C. §§ 4501 et seq., to facilitate the supply of materials for the production of ventilators by several companies operating in the United States.[1] This alert reviews the limited protection against potential patent infringement lawsuits and damages that the law provides for infringement that occurs during the production, use, or sale of products or services in response to these emergency declarations.

Under the Patent Act, “whoever without authority makes, uses, offers to sell, or sells any patented invention, within the United States or imports into the United States any patented invention during the term of the patent therefor, infringes the patent.” 35 U.S.C. § 271(a). The Act further provides for an award of damages “adequate to compensate for the infringement,” which may be trebled in certain instances, 35 U.S.C. § 284; injunctive relief is also available. 35 U.S.C. § 283.

The Patent Act creates no exceptions for patent infringement damages during public health crises or pandemics such as COVID-19, but several other statutes and doctrines may provide some protections for businesses responding to urgent demands for products or services. As discussed below, some protections may be available for manufacturers and providers of emergency equipment under a Declaration pursuant to the Public Readiness and Emergency Preparedness Act (“PREP Act”), 42 U.S.C. § 247d-6d; the DPA; and a statute relating to government use of patents, 28 U.S.C. § 1498(a). This alert also considers arguments that might be advanced to minimize damages for the infringement of patent claims that might cover certain emergency equipment. Although the principles discussed here are relevant to many emergency activities taken during the COVID-19 pandemic, the development and marketing of new pharmaceutical treatments for COVID-19 raises additional patent issues that this alert does not address.

I. Potential Protection from Patent Infringement Liability

A. The PREP Act and PREP Declaration

As described in a previous client alert, on March 17, 2020, Alex Azar, Secretary of the Department of Health and Human Services (HHS), issued a Declaration activating the PREP Act, 42 U.S.C. § 247d-6d. The Declaration extends immunity “from suit and liability under federal and state law with respect to all claims for loss caused by, arising out of, relating to, or resulting from” administration or use of qualifying products used to combat or reduce the spread of COVID-19 (the “PREP Declaration”).[2] Along with other recent FDA guidance relaxing regulatory oversight for certain COVID-19-fighting products, the PREP Declaration protects manufacturers, suppliers, distributors, and others helping to mitigate supply shortages during the current crisis.

There are several pertinent limitations on the applicability of the PREP Declaration to the circumstances described here. First, no court has yet determined that immunity under the PREP Act extends to immunity from liability for patent infringement. Although the PREP Act confers “immun[ity] from suit and liability under Federal and State law,” nothing in the Act or legislative history shows specific consideration of intellectual property laws. There is also no express exclusion of patent suits, however, and potential defendants would be expected to argue that in view of the broad language of the statute, combined with courts’ frequent treatment of patent law as a species of statutory tort law, PREP Act immunity from suit “under Federal . . . law” includes claims of patent infringement.[3]

Second, even if the PREP Act applies to patent infringement, not every product used in response to COVID-19 is a qualified product under the PREP Declaration. For example, a qualified product must be FDA approved, licensed for use under the Public Health Service Act, or cleared for use under a FDA emergency use authorization (EUA).[4]

Thus, activities directed towards masks and ventilators that are not approved by FDA or NIOSH (or otherwise authorized by FDA based on compliance with foreign agency standards), and that are not created pursuant to a federal contract or governmental response, are not likely to be afforded PREP Act immunity. In short, protections under the PREP Act are limited, and businesses should consider these limitations when evaluating whether the PREP Declaration protects their activities.[5]

B. The Defense Production Act and 28 U.S.C. § 1498(a)

Individuals or businesses that facilitate the production of COVID-19 response products through contracts with the federal government, including those arising from the President’s recent invocation of the DPA, are granted certain protections from patent infringement liability under 28 U.S.C. § 1498(a).

1. The DPA

The DPA authorizes the President to require businesses to prioritize any of their government contracts deemed “necessary or appropriate to promote the national defense” “over performance under any other contract,” and “to require” private businesses to “accept[] and perform[]” such government contracts where the President finds those businesses capable of performance. 50 U.S.C. § 4511(a)(1). The DPA also confers on the President the authority “to allocate materials, services, and facilities, to such extent as he shall deem necessary or appropriate.” 50 U.S.C. § 4511(a)(2). These powers can be used to control the distribution of materials in the United States market, but only where the President first finds that those materials are “a scarce and critical material essential to the national defense,” and that “the requirements of the national defense for such material cannot otherwise be met without creating a significant dislocation of the normal distribution of such material . . . .” 50 U.S.C. § 4511(b).

This is the case with personal protective equipment and ventilators used to combat the COVID-19 virus: the President’s March 18, 2020 Executive Order specifically found that “personal protective equipment and ventilators” met “the criteria specified in [§ 4511(b)],” and further delegated the Secretary of Health and Human Services to “identify additional specific health and medical resources” that met § 4511(b)’s criteria. The President then invoked the DPA on March 27, 2020, ordering “General Motors Company to accept, perform and prioritize contracts or orders for the number of ventilators that the Secretary determines to be appropriate.” And on April 2, 2020, as previously noted, the President again invoked the DPA, ordering the Secretary of Health and Human Services to use its DPA authority to facilitate the supply of materials for the production of ventilators by a handful of companies in addition to General Motors.

2. Section 28 U.S.C. 1498(a) Protects Certain Federal Contractors from Liability

Although the DPA does not itself create immunity from claims of patent infringement against those ordered to perform contracts under the DPA,[6] another federal statute effectively supplies an affirmative defense for federal government contractors who face patent infringement claims. That protection, codified at 28 U.S.C. § 1498(a), limits a patent owner’s remedy for infringement of inventions “used or manufactured by or for the United States”—i.e., inventions used or manufactured “with the authorization and consent of the Government”—to an “action against the United States in the United States Court of Federal Claims for the recovery of . . . reasonable and entire compensation for such use and manufacture.” 28 U.S.C. § 1498(a).[7] That section requires the United States government to defend such actions, waiving its sovereign immunity in the process. The U.S. government’s “consent and authorization” for a contractor to use and manufacture a patented invention can be expressly made in the applicable contract, pursuant to Federal Acquisition Regulation (“FAR”) 52.227-1.[8] Accordingly, federal contractors cannot be held directly liable for patent infringement claims arising from conduct undertaken for the benefit of the federal government, with that government’s authorization and consent.[9]

But the protections of § 1498(a) only go so far. A federal contractor nevertheless may be required to indemnify the government for any damages assessed in a suit that proceeds by virtue of § 1498(a). Indeed, FAR 27.201-1(d) authorizes the Government to require certain contractors to reimburse it for patent infringement “liability” and “costs” incurred in performing the contract by inserting an indemnity clause into the contract.[10] It would thus behoove federal contractors to try to exclude that clause from government contracts—if possible. Moreover, parties to federal contracts arising from the DPA might argue that such an indemnity clause is unenforceable under FAR-52.227-3(b)(1), which provides that the indemnity clause does not apply to infringement claims where, among other things, the infringement results from “the Contracting Officer . . . directing a manner of performance of the contract not normally used by the Contractor.” Although the scope of that exception does not appear to have been tested in the context of the DPA, it is expected that contractors ordered to facilitate the manufacture of products they do not normally produce would argue for its application in these circumstances.

In short, a federal contract for the manufacture, supply, and distribution of PPE and ventilators may help insulate manufacturers and others from direct claims of patent infringement for certain activities, but that protection may be of limited value if they are thereafter required to indemnify the government against such claims.

II. Businesses Meeting the Urgent Needs of the COVID-19 Pandemic May Be Expected to Argue That Any Patent Damages for Their Activities Should Be Minimal

The expected arguments for minimizing patent damages and other remedies for the production, sale, or use of infringing PPE and ventilators during the pandemic—even in the absence of a federal contract—find some support in existing Federal Circuit case law.

A. Injunctive Relief Would Be Unlikely

As an initial matter, it is unlikely that patent owners could obtain injunctive relief against infringers of patents on PPE and ventilators in the context of the COVID-19 crisis. To obtain a permanent injunction against an infringer, a patentee must satisfy the well-established four-factor test, by showing that: “(1) it has suffered an irreparable injury; (2) remedies available at law are inadequate to compensate for that injury; (3) considering the balance of hardships between the plaintiff and defendant, a remedy in equity is warranted; and (4) the public interest would not be “disserved” by a permanent injunction.”[11] Patentees would have tremendous difficulty meeting their burden for the seemingly obvious reason that enjoining the production of supplies that prevent the spread of COVID-19 and treat infected individuals would disserve the public interest. Indeed, the Federal Circuit has held that the public interest would be disserved by a reduction in availability of cancer and hepatitis test kits, and pacemakers—at times where no comparable global health pandemics were declared.[12] A patentee’s expected failure to meet the public interest prong would almost certainly be fatal to any claim for injunctive relief.[13]

B. Defendants’ Arguments for Reduced Damages Might Find Purchase with a Court

A patent owner who prevails in patent litigation is entitled to “damages adequate to compensate for the infringement, but in no event less than a reasonable royalty for the use made of the invention by the infringer,” 35 U.S.C. § 284. Moreover, “the court may increase the damages up to three times the amount found or assessed,” an enhancement that typically involves a finding of willful infringement. Id. The circumstances of the COVID-19 pandemic would render unlikely any award of lost profits damages or enhanced damages for willful infringement. Lost profits damages require the patentee to show (among other things) that it had the manufacturing and marketing capability to meet public demand for the product.[14] The extraordinary present need for PPE and ventilators, as two examples, would militate against such a showing.

An award of enhanced damages for willful infringement rests within the district court’s discretion for “egregious cases of misconduct beyond typical infringement.”[15] Even during a pandemic, the question of whether infringement directed toward preventing the spread of COVID-19 meets the “egregious” standard may depend on a variety of factors, among them whether the government directed production of the product or service—in which case a court may very well find the infringing conduct does not constitute the “malicious, bad-faith” conduct the egregious standard is intended to capture.[16] Likewise, the Patent Act provides that the “court in exceptional cases may award reasonable attorney fees to the prevailing party.” 35 U.S.C. § 285. We do not expect courts to find that cases arising out of the COVID-19 pandemic are “exceptional” such that prevailing plaintiffs are entitled to fees—but in circumstances where defendants prevail, courts might use a finding that the case was “exceptional” to deter meritless suits against companies attempting to address the COVID-19 pandemic.

The minimum damages to which prevailing patent-holders are entitled are a “reasonable royalty.” Manufacturers, distributors, and users of COVID-19 response products who are found liable for patent infringement would be expected to argue that any such reasonable royalty would be minimal under the circumstances.[17]

C. Commentators Have Suggested Other Ways to Permit Businesses to Respond to the Current Emergency Without the Risk of Infringement Suits and Liability

The urgency of the COVID-19 crisis has given rise to other suggestions for ways to permit businesses to provide urgently-needed supplies without the risk of defending against expensive patent infringement litigation and being assessed damages. One suggestion calls for the donation of intellectual property rights to the fight against COVID-19. For example, on March 31, 2020, a group of prominent scientists, lawyers, and entrepreneurs introduced the “Open COVID Pledge,” in an effort to promote the removal of obstacles involving intellectual property in the fight against COVID-19. The pledge, available on the group’s website, is intended for signature by “patent, copyright and other intellectual and industrial property rights (other than trademarks and trade secrets)” and would grant a non-exclusive, royalty-free, worldwide license to such intellectual property “for the sole purpose of ending” the COVID-19 pandemic. The license would be limited in time to the period of December 1, 2019 until one year after the World Health Organization declares the pandemic to have ended.

Companies such as Intel and Mozilla have reportedly joined the Open COVID-19 pledge. While it remains to be seen how many patent holders ultimately do so, the pledge itself reflects a sentiment that companies contribute to the fight against the pandemic by forgoing the enforcement of their intellectual property rights—in essence, by donating them. But that sentiment—which may dissuade intellectual property owners from bringing suit now—may ultimately be significantly less valuable than an enforceable pledge or right. Because even if a non-binding spirit of public contribution (and public pressure) prevents patent owners from asserting infringement claims during the current climate, businesses should bear in mind that the current emergency will (hopefully) abate, and that patent-holders may typically seek damages for six years of pre-suit damages—meaning that activities now may not be the subject of suits until 2026, when the climate may be different.

In sum, businesses or individuals facilitating the manufacture, supply, distribution, and use of COVID-19 response products should be mindful that many of these products are subject to patents. While the PREP Act and PREP Declaration may afford immunity from patent infringement claims in limited instances, and while federal contractors may rely on 28 U.S.C. § 1498 as an affirmative defense to such claims, other persons and entities that infringe patent claims on PPE and ventilator components could conceivably face reasonable royalty damages. Those considering aiding in the production or distribution of PPE and ventilators should consider doing so through federal government contracts, and by negotiating license agreements with patent holders upfront. Likewise, legislative and regulatory solutions (such as, for example, clear tax benefits for the donation of intellectual property for use by businesses trying to meet emergency needs), and business philanthropy, may help address the emergency, and businesses are advised to monitor any such developments. We will report on any advances of note. Government actions impacting intellectual property rights owners may also raise constitutional issues concerning property rights more broadly, as addressed in a prior client alert available here.

______________________

[1] These companies include General Electric Company; Hill-Rom Holdings, Inc.; Medtronic Public Limited Company; ResMed Inc.; Royal Philips N.V.; and Vyaire Medical, Inc. The President previously invoked his powers under the DPA, on March 27, 2020, by requiring that General Motors Company “accept, perform and prioritize contracts or orders for the number of ventilators that the Secretary [of Health and Human Services] determines to be appropriate.”

[2] 85 Fed. Reg. 15198 (March 17, 2020).

[3] See Carbice Corp. of Am. v. Am. Patents Dev. Corp., 283 U.S. 27, 33 (1931); Akamai v. Limelight Networks Inc., 786 F.3d 899, 905 (Fed. Cir. 2015), rev’d on other grounds, 797 F.3d 1020 (Fed. Cir. 2015) (en banc) (per curiam); Mars, Inc. v. Coin Acceptors, Inc., 527 F.3d 1359, 1365 (Fed. Cir. 2008); Orthokinetics Inc. v. Safety Travel Chairs Inc., 806 F.2d 1565, 1579 (Fed. Cir. 1986).

[4] 85 Fed. Reg. 15198 § VI (“Covered Countermeasures”) (“To be a Covered Countermeasure, qualified pandemic or epidemic products or security countermeasures also must be approved or cleared under the FD&C Act; licensed under the PHS Act, or authorized for emergency use under Sections 564, 564A, or 564B of the FD&C Act.”)

[5] 85 Fed. Reg. 15198 (March 17, 2020).

[6] The DPA states that “[n]o person shall be held liable for damages or penalties for any act or failure to act resulting directly or indirectly from compliance with a rule, regulation, or order issued pursuant to this chapter[.]” 50 U.S.C. § 4557. But that provision has been interpreted to apply only to third-party breach of contract claims against parties whose performances of their contracts were frustrated under a DPA order. See Hercules, Inc. v. United States, 24 F.3d 188, 203-04 (Fed. Cir. 1994), aff’d, 516 U.S. 417 (1996).

[7] The full text of 28 U.S.C. § 1498(a) provides: “Whenever an invention described in and covered by a patent of the United States is used or manufactured by or for the United States without license of the owner thereof or lawful right to use or manufacture the same, the owner’s remedy shall be by action against the United States in the United States Court of Federal Claims for the recovery of his reasonable and entire compensation for such use and manufacture . . . For the purposes of this section, the use or manufacture of an invention described in and covered by a patent of the United States by a contractor, a subcontractor, or any person, firm, or corporation for the Government and with the authorization or consent of the Government, shall be construed as use or manufacture for the United States.”; see also Liberty Ammunition, Inc. v. United States, 835 F.3d 1388, 1394 n.3 (Fed. Cir. 2016) (noting that § 1498 effects a waiver of the government’s sovereign immunity).

[8] FAR 52.227-1 more specifically sets forth an express grant of “authorization and consent” for contractors and subcontractors for the use and manufacture of any patented invention (1) embodied in the structure or composition of any article delivered to and accepted by the government related to a government contract; or (2) used in machinery, tools, or methods necessary for a contractor to comply with the specifications of a contract, or if such use is directed by a contracting officer’s specific written instructions.

[9] IRIS Corp. v. Japan Airlines Corp., 769 F.3d 1359 (Fed. Cir. 2014); Zoltek Corp. v. United States, 672 F.3d 1309, 1322-23 (Fed. Cir. 2012) (en banc); Advanced Software Design Corp. v. Federal Reserve Bank of St. Louis, 583 F.3d 1371, 1376-77 (Fed. Cir. 2009).

[10] The indemnity clause is set forth in FAR 52.227-3 (titled “Patent Indemnity”) and provides that “[t]he contractor shall indemnify the Government and its officers, agents, and employees against liability, including costs, for any infringement of any United States patent . . . arising out of the manufacture or delivery of supplies, the performance of services, or the construction, alteration, modification, or repair of real property . . . or out of the use or disposal by or for the account of the Government of such supplies or construction work.”

[11] i4i Ltd. Ptrp. v. Microsoft Corp., 598 F.3d 831, 861 (Fed. Cir. 2010) (citing eBay v. MercExchange L.L.C, 547 U.S. 388, 391 (2006)).

[12] Hybritech Inc. v. Abbott Laboratories, 849 F.2d 1446, 1458 (Fed. Cir. 1988); Cordis Corp. v. Medtronic, Inc., 835 F.2d 859, 864 (Fed. Cir. 1986).

[13] See Amgen Inc. v. Sanofi, 872 F.3d 1367, 1381 (Fed. Cir. 2017) (finding district court erred in granting permanent injunction where it found that the public interest would be disserved by one). The same is true with respect to obtaining preliminary injunctive relief, which similarly requires that the patentee establish that the balance of equities weighs in its favor, that the injunction serves the public interest, that it is likely to succeed on the merits, and that it will suffer irreparable harm in the absence of an injunction. Trebro Mfg., Inc. v. Firefly Equipment, LLC, 748 F.3d 1159, 1165 (Fed. Cir. 2014).

[14] Mentor Graphics Corp. v. EVE-USA, Inc., 851 F.3d 1275, 1285 (Fed. Cir. 2017) (citing Panduit Corp. v. Stahlin Bros. Fibre Works, Inc., 575 F.2d 1152 (6th Cir. 1978)). The patentee must also show demand for the patented product, an absence of acceptable non-infringing alternatives, and the amount of profit it would have made. See id.

[15] Halo Elecs., Inc. v. Pulse Elecs., Inc., 136 S. Ct. 1923, 1929 (2016).

[16] Id. at 1932.

[17] See 35 U.S.C. § 284 (providing that a court “shall award the claimant damages adequate to compensate for the infringement, but in no event less than a reasonable royalty for the use made of the invention by the infringer”). The reasonable royalty is commonly calculated by attempting “to ascertain the royalty upon which the parties would have agreed had they successfully negotiated an agreement just before infringement began.” Lucent Technologies, Inc. v. Gateway, Inc., 580 F.3d 1301, 1324 (Fed. Cir. 2009). In cases where only components of a product infringe a patent, the patentee must “apportion or separate the damages” between the patented and unpatented parts of the multicomponent product. Exmark Mfg. Co. v. Briggs & Stratton Power Prods. Grp., 879 F.3d 1332, 1349 (Fed. Cir. 2018).

Gibson Dunn lawyers regularly counsel clients on the issues raised by this pandemic, and we are working with many of our clients on their response to COVID-19. For additional information, please contact any member of the firm’s Coronavirus (COVID-19) Response Team. Please also feel free to contact the Gibson Dunn lawyer with whom you usually work, or the authors:

Authors: Joe Evall ([email protected]), Richard Mark ([email protected]), and Doran Satanove ([email protected])

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

Gibson Dunn will continue to monitor enforcement actions and trends in the United States and abroad and provide updated analysis to assist our clients as they navigate the changing tides.

COVID-19 Enforcement in the United States

On March 20, 2020, the U.S. Department of Justice issued a press release announcing that Attorney General William Barr “directed all U.S. attorneys to prioritize the investigation and prosecution of Coronavirus-related fraud schemes.”[1] According to the press release, Deputy Attorney General Jeffrey Rosen “further directed each U.S. Attorney to appoint a Coronavirus Fraud Coordinator to serve as the legal counsel for the federal judicial district on matters relating to the Coronavirus, direct the prosecution of Coronavirus-related crimes, and to conduct outreach and awareness.”[2] Attorney General Barr also “urg[ed] the public to report suspected fraud schemes related to COVID-19.”[3]

On March 22, 2020, the DOJ announced its first action in federal court to combat fraud related to COVID-19. The DOJ sought, and received, a temporary restraining order in the United States District Court for the Western District of Texas against a website offering access to a (non-existent) Coronavirus vaccine kit from the World Trade Organization.[4]

On March 24, 2020, the Department of Justice established the COVID-19 Hoarding and Price Gouging Task Force “to address COVID-19-related market manipulation, hoarding, and price gouging.”[5] On April 2, 2020, the Department of Justice, in partnership with the Department of Health and Human Services, announced “the distribution of hoarded personal protective equipment (PPE), including approximately 192,000 N95 respirator masks,” discovered by the Federal Bureau of Investigations during an enforcement operation.[6]

Similarly, the United States Securities and Exchange Commission (“SEC”) has announced that, in response to the Coronavirus pandemic, it remains focused on “continuity of Commission operations,” “monitoring market functions and system risks,” “providing prompt, targeted regulatory relief and guidance,” and “maintaining [its] enforcement and investor protection efforts.”[7] Recently, the SEC announced trading suspensions in connection with false COVID-19 information, including the suspension of trading for a company that made statements “about having, and being able to obtain, large quantities of N95 masks,”[8] the suspension of trading for a company with “purported international marketing rights to an approved coronavirus treatment,”[9] the suspension of trading for a company in which third-party promoters disseminated information about “the viability of the company’s product to treat the coronavirus,”[10] and the suspension of trading of an OTC company amidst “concerns about investors confusing this issuer with a similarly-named NASDAQ-listed issuer . . . which has seen a rise in share price during the on-going COVID-19 pandemic.”[11]

Further, the SEC’s Office of the Chief Accountant has identified areas of particular focus with respect to ensuring high-quality financial information reporting, including the importance of well-reasoned accounting judgment and estimates (such as, fair value and impairment considerations, revenue recognition, and going concern), audit issues (in particular auditor independence issues in partnership with the Public Company Accounting Oversight Board), the impact of international accounting and audit-related standards, and continued investor outreach.[12] Notably, in the post-2008 financial crisis period, the SEC brought enforcement actions in connection with, among other things, concealed risks, misleading disclosures, false statements with respect to a company’s financial position, and the failure by auditors to appropriately scrutinize management estimates.[13] For more information on potential SEC enforcement, please refer to Gibson Dunn’s recent alert “SEC Enforcement Focus on Fallout from COVID-19: Insights for Public Companies and Investment Advisers During a Crisis.”[14]

Past may be prologue in connection with post-crisis federal enforcement—particularly with respect to oversight of emergency government stimulus funds. On March 27, 2020, the President signed into law the Coronavirus Aid Relief and Economic Security Act (the “CARES Act”), a $2 trillion emergency stimulus package.[15] During the 2008 financial crisis, Congress similarly established emergency government stimulus programs, including the Troubled Asset Relief Program (“TARP”) “to implement programs to stabilize the financial system.”[16] Regulatory oversight was included in the legislation establishing TARP, specifically, the Office of the Special Investigator General for the Troubled Asset Relief Program (“SIGTARP”). SIGTARP, which remains active today, “is a federal law enforcement agency and an independent audit watchdog that targets financial institution crime and other fraud, waste, and abuse related to TARP.”[17] Notably, the CARES Act also establishes a Special Inspector General for Pandemic Recovery (“SIGPR”) to “conduct, supervise, and coordinate audits and investigations of the making, purchase, management, and sale of loans, loan guarantees, and other investments” made by the Department of Treasury pursuant to the CARES Act.[18] On April 4, 2020, the President nominated Brian D. Miller as the Special Inspector General.[19] Mr. Miller is currently a special assistant to the President and senior associate counsel in the Office of White House Counsel.[20] In addition to SIGPR, the CARES Act established a Pandemic Response Accountability Committee and a Congressional Oversight Commission.[21]

SIGTARP’s continued enforcement function over a decade after its enactment predicts that the even larger, suddenly-organized distribution of government funds through the CARES Act, and other legislative efforts that may follow it, will dominate much of the enforcement agenda for the next decade. That so much of it involves funds loaned through federally-insured banks will provide the government with the benefit of a ten-year statute of limitations to proceed.[22] For instance, we should expect that law enforcement will look to loan or other government funding applications as a regular component of financial fraud investigations involving domestic targets or subjects, scouring them for alleged misstatements.

COVID-19 Enforcement in The United Kingdom

In the UK, the Coronavirus Act 2020[23] and the Health Protection (Coronavirus) Regulations 2020[24] have mandated amongst other things a national “lockdown,” the closure of businesses except those deemed to be essential, and restrictions on traveling to work unless necessary. The Coronavirus Act contains various offences for those that flout the rules, and limited related enforcement action has been taken by authorities.

A number of agencies have reported a spike in scams, including in the financial services sector, and there were reports early on that some companies were exploiting the pandemic and engaging in price gouging. Recently, a senior UK civil servant told Parliament that he expects to see organized crime targeting the Government’s multibillion-pound employee furlough scheme.

The Crown Prosecution Service issued guidance to police forces and prosecutors directing them that “all COVID-19 related cases” must be fed into the criminal justice system “Immediately” (above “High Priority”), including, for example, assaults on emergency workers.[25]

Competition and Consumer Law: The Competition and Markets Authority (“CMA”) has established a COVID-19 Taskforce[26] and in March issued Guidance indicating that competitor coordination will be permitted (and no enforcement action will be taken) if it is undertaken solely to address market needs arising from the pandemic and lasts no longer than necessary,[27] and an open letter to drug makers and food and drink companies warning against capitalizing on COVID-19 by charging unjustifiably high prices for essential goods or by making misleading claims about their efficacy.[28] The CMA publicly stated that it “will not tolerate unscrupulous businesses exploiting the crisis as a ‘cover’ for non-essential collusion.”[29] This includes “exchanging [] information on future pricing or business strategies, where this is not necessary to meet the needs of the current situation.”[30]

Financial Services Sector: The Financial Conduct Authority, the UK’s financial services regulator and enforcement agency, has stated that during the COVID-19 pandemic, it is focusing its efforts on ensuring that consumers remain protected and that markets continue to function well. The FCA made several announcements in response to COVID-19, including alerting consumers to pension scams.[31] The FCA indicated that it will not change its enforcement policy and will continue to investigate and bring enforcement action. It has warned publicly that it will not “tolerate conduct that seeks to exploit the situation and harms consumers.”[32]

Firms must continue to monitor their compliance systems and adapt to new risks. The FCA has recognized that increased numbers of people working from home will pose unique challenges and called on firms to continue to monitor their systems and controls, for example in relation to the recording of sales and other calls. Anti-money laundering requirements (such as customer identification checks) must still be followed, although the FCA recognizes that firms may have to adapt their approach. The FCA is likely to give firms some latitude, but firms must continue to monitor risks and look at alternative options if routine compliance controls cannot operate.

Finally, the FCA wrote to companies during March imposing a two week moratorium to delay publication of preliminary results and thereby prevent investors relying on outdated market information. In the same statement announcing the moratorium, the FCA reminded companies that the Market Abuse Regulation, the EU-wide law dealing with market abuse, market manipulation, and insider dealing, remains in force.[33]

Criminal Enforcement Agencies: The National Crime Agency and National Economic Crime Center have published several announcements, including a warning of organized crime groups exploiting the COVID-19 pandemic by using coronavirus-themed malicious apps, websites, and email phishing attacks in order to obtain personal and financial information;[34] and alerting the public to fraud and online scams including where individuals intend to purchase medical supplies online, such as face masks and COVID-19 testing kits, which never arrive or are fake. We expect to see a spike in prosecutions of those who are engaged in COVID-19-related fraud and other scams.[35] The NCA has not published any guidance regarding implications of the pandemic for the filing of Suspicious Activity Reports.

The UK Serious Fraud Office has yet to make any announcements in response to COVID-19, but is continuing its investigative efforts where possible. The lockdown measures will undoubtedly result in delays in SFO investigations (for example the agency may not be able to conduct interviews), but the extent of those delays will depend on the length of the lock down. To date, at least one SFO trial has been adjourned and remains on hold until further notice, and there are likely to be significant delays to others as the Lord Chief Justice has ordered a halt to all new jury trials.

Information Commissioner’s Office: The ICO has issued guidance stating that it would not penalize companies that the ICO “know[s] need to prioritise other areas or adapt their usual approach during this extraordinary period.”^[36] For further details, please refer to the Gibson Dunn alert “Privacy and Cybersecurity Issues Related to COVID-19.”[37]

International Trade: The UK has prohibited the parallel export of certain critical medicines currently being tested for efficacy in treating COVID-19. On March 20, 2020, over 80 additional medicines used to treat patients in intensive care units were banned from parallel export from the UK in order to seek to ensure uninterrupted supply to NHS hospitals treating coronavirus patients. For further details, please refer to the Gibson Dunn alert “COVID-19 & International Trade – Nation-State Responses to a Global Pandemic.”[38]

COVID-19 Enforcement in The European Union

In the European Union, the primary authority to fight COVID-19 and its detrimental effects on health and security lies with each of the Member States. As such, the rules and the measures adopted by Member States differ in detail among the Member States (and, for example in Federations like Germany, among different regions within a Member State).

Most of the Member States have imposed severe measures, including travel restrictions, limitations to public life, and lockdowns as a response to the pandemic. Most notably, some Member States have imposed curfews on their citizens to varying degrees of severity. Failure to follow such measures—e.g. opening retail stores in spite of a prohibition or ignoring a curfew—may, depending on the Member State, constitute a regulatory or even a criminal offense.[39] The longer these restrictions remain, the more likely it becomes that enforcement actions will play a bigger role in the near future.

European security standards already are shifting focus as criminals try to benefit from the current state of affairs. Following the COVID-19 outbreak, EU law enforcement agencies, such as Europol, have observed a rise in crime in the following areas:^[40] Cybercrime, Fraud, Counterfeit and Substandard Goods, and Organized Property Crimes.

Cybercrime: Cybercrime appears to be on the rise because criminals are using the COVID-19 crisis to carry out social engineering attacks themed around the pandemic to distribute various malware packages. As a greater number of employers institute work from home policies and allow external connections to their organizations’ systems, cybercriminals are expected to increase attacks on networks. Most critically, there are signals that cybercriminals have already attacked critical infrastructure such as hospitals (which is believed to have already occurred in the Czech Republic). Prior to the pandemic, in an effort to prepare for major cross-border cyberattacks, a EU Law Enforcement Emergency Response Protocol (“EU LE ERP”) was adopted in December 2018. The EU LE ERP supports EU law enforcement authorities in providing immediate response to major cross-border cyber-attacks through rapid assessment, the secure and timely sharing of critical information, and effective coordination of the international aspects of their investigations.^[41]

Fraud: Fraud linked to the current pandemic often preys on the fear of EU citizens. In one recent case, for example, the transfer of €6.6 million by one company to another company in Singapore in order to purchase alcohol gels and FFP3/2 masks is under investigation because the goods were never received by the buyer. Similarly, criminals are also reported to have adapted investment scams to solicit speculative investments in stocks related to COVID-19 with promises of substantial profits.

As in the United States, we expect European investigations of fraud and subsidy fraud offenses will play a bigger role as the wave of applications to get access to state aid is now under way. Various governments are keen on making support funds^[42] for businesses available—“quickly and without red tape,” as governments like to emphasize—and the age-old dynamic of fraud following urgency is equally predictable in Europe. As far as European funds are affected by such fraudulent acts (see, e.g., the new EU program for temporary Support to mitigate Unemployment Risks in an Emergency, also known as SURE^[43]), EU agencies such as Europol and OLAF, the European Anti-Fraud Office, likely will get involved.

Counterfeit and Substandard Goods: The sale of counterfeit health care, sanitary/pharmaceutical products and personal healthcare equipment has become one of the main areas of criminal activity in the EU. These schemes often leverage people’s fear of infection. For example, the reported distribution of fake coronavirus home testing kits are particularly worrying from a public health perspective, because apart from being ineffective these kits may inflict bodily harm upon their users.

Organized Property Crime: Organized Property Crimes include the ‘nephew’ or ‘grandchild’ trick and the impersonation of representatives of public authorities. Criminals have adapted their modi operandi to the current situation. The number of attempts involving these types of thefts and scams is likely to increase across the EU. Multiple Member States have reported to Europol a similar modus operandi for theft. The perpetrators gain access to private homes by impersonating medical staff providing information material or hygiene products or conducting a “corona test.” The EU tries to handle the situation by working closely with all the Member States enforcement authorities on a 24/7 basis and informs the public about these scams regularly.[44]

That these forms of illicit activity occur now is no surprise. But the way European regulators redeploy resources will orient the direction companies and other market actors staff and pursue compliance initiatives and should be carefully followed.

COVID-19 Enforcement in Asia

Regulators in Asian countries, which have been combating COVID-19 since January, have ramped up enforcement efforts against market misconduct such as price gouging of medical supplies and false advertising.

In China, the State Administration for Market Regulation and its local branches have launched a series of enforcement actions targeting sales of substandard face masks and price gouging of face masks as well as raw materials that are essential for producing medical supplies. Regulators around the country have initiated approximately 14,800 investigations relating to pricing violations, half of which involved face masks.[45] As some cities in China are resuming normal business activities, local regulators are adopting a more comprehensive approach in combating market misconduct. The Shanghai Municipal Administration for Market Regulation, a key regulator for multinational companies that have operations in Shanghai, has announced an anti-unfair competition campaign that will last until the end of July of this year.[46] The campaign focuses on, among other things, false advertising and commercial bribery in medical device procurement, medical services, and education services. Notably, the Shanghai Municipal Administration for Market Regulation has called out potentially anti-competitive practices such as donating medical devices in exchange for the purchase of consumables.[47]

Regulators in Korea, including the Korean National Police Agency, the National Tax Services, the Ministry of Food and Drug Safety, and the Fair Trade Commission, have formed a joint task force to crack down on unfair market practices such as price gouging.[48] For example, the Korean National Tax Services has reportedly cracked down on 222 retailers and 41 mask manufacturers for hoarding and price gouging behavior.[49]

To contain the spread of COVID-19, government agencies and private enterprises in China are collecting personal data for contact tracing. Regulators have stepped up the protection of the personal information collected. In February 2019, the Cyberspace Administration of China (“CAC”) issued a circular regarding the collection and use of personal information in connection with COVID-19.[50] The CAC stressed in the circular that companies are only allowed to collect personal information from their employees as required by government entities for the purpose of containing COVID-19 or for purposes directly related to the performance of employment contracts, and should not use the personal information that they collected for any other purposes.[51] In particular, companies and government agencies are prohibited from disclosing names and family addresses of COVID-19 patients unless consent is given.[52] The Chinese government has already prosecuted several cases involving unauthorized disclosure of personal information of COVID-19 patients.[53] For instance, a local branch of the Commission for Discipline Inspection of the Communist Party of China is investigating a deputy at Hunan Yiyang County Health Bureau for disseminating a case study involving a COVID-19 patient that contains protected personal information of the patient and the patient’s eleven relatives.[54]

Enforcement Trends to Watch: Insider Trading

There has been widespread coverage—and condemnation—of potential insider trading by at least four senators in the early weeks of the Coronavirus pandemic. These senators allegedly received confidential briefings on how badly the U.S. economy might be hit by the pandemic, and thereafter sold substantial stock holdings before the recent Coronavirus-induced market drops, thus avoiding millions of dollars in losses.[55] The U.S. Department of Justice is now investigating,[56] the U.S. Securities and Exchange Commission issued a blanket warning against trading on material non-public information related to the coronavirus,[57] and private lawsuits are beginning to be filed.[58]

The last time allegations of pervasive congressional insider trading received this much attention, the federal government responded by passing the Stop Trading on Congressional Knowledge Act (the “STOCK Act”) in 2012. Designed to prevent members of Congress and other government employees from using nonpublic information derived from their official positions for personal benefit or other purposes, the STOCK Act prohibits members and employees of Congress and others from using “nonpublic information derived from such person’s position . . . or gained from the performance of such person’s official responsibilities as a means for making a private profit.”[59] However, certain portions of the STOCK Act that mandated greater transparency, reporting, and applicability were quietly rolled back in 2013.[60] Recent events have highlighted that potential insider trading by government officials continues to be a problem, and the public is again lamenting the country’s apparent inability to effect meaningful reform—both in Washington, D.C., and with respect to insider trading generally.[61] Indeed, some have suggested that it may be difficult to prosecute these senators for their alleged Coronavirus-related trading, given the many challenges built into our current insider trading jurisprudence.[62]

This renewed focus on insider trading arising from information asymmetries in COVID-19 related fact patterns may provide the public pressure necessary to enact real change in our country’s current insider trading laws. There are no laws specifically addressing insider trading in the U.S. Rather, insider trading law arises from a series of increasingly complex federal court decisions interpreting the anti-fraud provisions of the Securities Exchange Act of 1934. Over the years, there have been various initiatives to replace our current regime with explicit insider trading legislation—as other countries have done[63]—but they have all failed to gain traction to date.[64]

It is unclear whether the current public outcry hardens into the motivation necessary to systematically and comprehensively address this issue once and for all. When the dust of the current public health crisis settles, this may emerge as a top legislative issue—similar to the enactment of the Foreign Corrupt Practices Act (“FCPA”) in 1977 following concerns about widespread bribery of foreign officials by U.S. companies.[65]

Enforcement Trends to Watch: Enhanced State-Level Consumer Protection

State Attorneys General have announced their intentions to focus on fraud in connection with the pandemic—specifically identifying consumer protection and price gouging as areas already requiring enforcement.[66] To date, state Attorneys General have, among other things, sought temporary restraining orders and permanent injunctions to stop the sale of alleged COVID-19 treatments,[67] issued subpoenas against third-party sellers concerning allegations of price gouging,[68] and sent cease and desist letters to individuals and entities marketing products as COVID-19 treatments.[69] Numerous state Attorneys General have partnered with federal authorities to identify and prosecute COVID-19-related fraud.[70]

In addition to new federal regulatory enforcement initiatives, we can expect that preexisting anti-fraud initiatives may swiftly ripen into expanded investigative authority. The aforementioned progression of the FCPA in the aftermath of Watergate presages how enforcement initiatives facing uncertain enactment suddenly gather steam to implementation. Two state initiatives—in New York and California—may soon prove this point.[71] In response to perceived lax enforcement over the financial services industry at the federal level by the Consumer Financial Protection Bureau (“CFPB”), both New York and California have been pursuing significant expansions of the regulatory powers of state agencies.

In New York, Governor Andrew Cuomo’s January 2020 proposed budget sought to expand the enforcement authority of the New York State Department of Financial Services (“DFS”), the state’s banking and insurance regulator.[72] The proposed budget expanded the definition of “financial product or service” to include “the sale or provision to a consumer or small business of any security, investment advice, or money management device,” which could have turned the DFS into another state securities regulator (in addition to the New York State Attorney General)—with implications far beyond simply banks and insurance companies operating in New York.[73] The pre-pandemic proposed budget further expanded the power of DFS to levy (increased) civil penalties by removing requirements to prove intentionality and by including oversight of unfair, deceptive, or abusive acts or practices.[74] If passed, the DFS’ authority could have mirrored the authority of the state Attorney General under the Martin Act—the New York State law aggressively utilized by the state Attorney General to conduct investigations and bring civil and criminal actions for securities fraud.[75] The enacted budget, signed by Governor Cuomo on April 3, 2020, however, removed the proposal from the final budget.[76] New York’s effort to enhance its state financial services regulator have fallen to the wayside in response to the expected COVID-19 budget crunch.[77]

In California, Governor Gavin Newsom’s proposed 2020-2021 budget, which must be voted on by June 15, 2020, expands and restructures the California Department of Business Oversight (“DBO”). At present, the DBO oversees the operations of state-licensed financial institutions, such as banks, and licenses and regulates a variety of financial businesses, such as securities brokers and dealers.[78]

The proposed budget includes the California Consumer Financial Protection Law which “seeks to cement California’s consumer protection leadership amidst a retreat on that front by federal agencies.”[79] Under this proposal, the DBO would be rebranded as the Department of Financial Protection and Innovation. Its budget would increase by $19.3 million over the course of 2-3 years, and its staffing would increase by 90 positions over the same period.[80]

Explaining that “[t]he federal government’s rollback of the CFPB leaves Californians vulnerable to predatory businesses,” the California Consumer Financial Protection Law will expand the DBO’s authority to oversee and regulate unlicensed financial services providers not currently subject to regulatory oversight, including debt collectors, credit reporting agencies, and financial technology companies.[81]

Initially, funding is proposed to be covered by available settlement proceeds, with future costs covered by fees generated from newly covered industries and increased fees on existing licenses.[82] However, this proposal was issued prior to the Coronavirus pandemic, and the impact of the Coronavirus on the proposed budget, similar to New York’s recent experience, is unknown.

But when the greatest urgency from the COVID-19 pandemic passes, either or both of these bold initiatives, or some variants of them, may find ready support in New York and California. This is particularly so if they are viewed as holding promise not only to enhance enforcement, but to generate revenue derived from enforcement fines and penalties.

Enforcement Trends to Watch: False Claims Act

In a March 31, 2020 alert, Gibson Dunn detailed measures that companies can take now to decrease the risk that DOJ and/or qui tam whistleblowers will, down the line, successfully second-guess companies’ responses to the COVID-19 pandemic (through False Claims Act suits).

Public crises prompt government spending (for example, the CARES Act), and such spending inevitably leads to post-crisis DOJ and/or whistleblower suits targeting corporations that directly received or indirectly benefited from public funds. Given this historical precedent, turning square corners with the government, documenting communications with (and decisions by) government contractors, and responding thoroughly to internal whistleblower reports can meaningfully decrease False Claims Act exposure in the wake of the COVID-19 crisis.

For more detailed information, please refer to the Gibson Dunn alert, “Implications of COVID-19 Crisis for False Claims Act Compliance.”[83]

_________________________

[1] Press Release, U.S. Dep’t of Justice, Attorney General William P. Barr Urges American Public to Report COVID-19 Fraud (Mar. 20, 2020), available at www.justice.gov/opa/pr/attorney-general-william-p-barr-urges-american-public-report-covid-19-fraud.

[2] Id.

[3] Id. Attorney General Barr urged the public to report suspected fraud to the National Center for Disaster Fraud (“NCDF”). The NCDF was established in 2005, in the wake of Hurricane Katrina, and is the national coordinating agency for man-made and natural disasters. In the wake of Hurricane Katrina, federal prosecutors charged over 1,300 disaster fraud cases. See National Center for Disaster Fraud, U.S. Dep’t of Justice, www.justice.gov/disaster-fraud (last visited Apr. 8, 2020). It can be expected that federal prosecutors will be similarly aggressive in addressing Coronavirus-related fraud reported to the NCDF.

[4] Press Release, U.S. Dep’t of Justice, Justice Department Files its First Enforcement Action Against COVID-19 Fraud (Mar. 22, 2020), available at www.justice.gov/opa/pr/justice-department-files-its-first-enforcement-action-against-covid-19-fraud.

[5] Memorandum from the Attorney General, U.S. Dep’t of Justice, Department of Justice COVID-19 Hoarding and Price Gouging Task Force (Mar. 24, 2020), available at www.justice.gov/file/1262776/download.

[6] Press Release, U.S. Dep’t of Justice, Department of Justice and Department of Health and Human Services Partner to Distribute More Than Half a Million Medical Supplies Confiscated from Price Gougers (Apr. 2, 2020), available at www.justice.gov/opa/pr/department-justice-and-department-health-and-human-services-partner-distribute-more-half.

[7] SEC Coronavirus (COVID-19) Response, U.S. Secs. & Exch. Comm’n, www.sec.gov/sec-coronavirus-covid-19-response (last visited Apr. 8, 2020).

[8] In the Matter of Praxsyn Corp., 2020 WL 1611114 (Mar. 25, 2020), available at www.sec.gov/litigation/suspensions/2020/34-88479-o.pdf.

[9] Exchange Act Release No. 88265, 2020 WL 916766 (Feb. 24, 2020), available at www.sec.gov/litigation/suspensions/2020/34-88265.pdf.

[10] Exchange Act Release No. 88142, 2020 WL 870115 (Feb. 7, 2020), available at www.sec.gov/litigation/suspensions/2020/34-88142.pdf.

[11] Exchange Act Release No. 88477, 2020 WL 1610845 (Mar. 25, 2020), available at www.sec.gov/litigation/suspensions/2020/34-88477.pdf.

[12] Public Statement, Sagar Teotia, Chief Accountant, Statement on the Importance of High-Quality Financial Reporting in Light of the Significant Impacts of COVID-19 (Apr. 3, 2020), available at www.sec.gov/news/public-statement/statement-teotia-financial-reporting-covid-19-2020-04-03.

[13] SEC Enforcement Actions Addressing Misconduct that Led to or Arose from the Financial Crisis, U.S. Secs. & Exch. Comm’n (last modified July 15, 2019), www.sec.gov/spotlight/enf-actions-fc.shtml.

[14] See SEC Enforcement Focus on Fallout from COVID-19: Insights for Public Companies and Investment Advisers During a Crisis, Gibson Dunn & Crutcher LLP (Mar. 26, 2020), available at www.gibsondunn.com/sec-enforcement-focus-on-fallout-from-covid-19-insights-for-public-companies-and-investment-advisers-during-a-crisis/#_edn1.

[15] See Erica Werner et al., Trump signs $2 trillion coronavirus bill into law as companies and households brace for more economic pain, Wash. Post (Mar. 27, 2020), available at www.washingtonpost.com/us-policy/2020/03/27/congress-coronavirus-house-vote/.

[16] About TARP, U.S. Dep’t of Treasury (last modified Nov. 20, 2019), www.treasury.gov/initiatives/financial-stability/about-tarp/Pages/default.aspx.

[17] Office of the Special Inspector Gen. for the Trouble Asset Relief Program, www.sigtarp.gov (last visited Apr. 8, 2020).

[18] CARES Act, H.R. 748 § 4018(c)(1) (2020).

[19] Alex Leary, Trump Nominates White House Layer to Oversee Coronavirus Business Loans, Wall St. J. (Apr. 4, 2020), available at www.wsj.com/articles/trump-nominates-white-house-lawyer-to-oversee-coronavirus-business-loans-11585965870?ns=prod/accounts-wsj.

[20] Id.

[21] CARES Act, H.R. 748 §§ 4020, 15010 (2020). CARES Act §§ 4020, 15010. It is of note that, in a signing statement, the President took issue with aspects of both the Pandemic Response Accountability Committee and SIGPR. As to the Pandemic Response Accountability Committee, the President announced his intention to treat as hortatory, not mandatory, the requirement that the Chairperson of the Council of the Inspectors General on Integrity and Efficiency consult with members of Congress regarding the selection of the Executive Director and Deputy Executive Director of the Committee. As to the SIGPR, the President took issue with the requirement that SIGPR report to Congress “without delay” any unreasonable refusal by a government agency to produce information requested by SIGPR. The President stated that the administration would not treat this provision as permitting SIGPR to issue reports to Congress without presidential supervision. See Statement by the President, The White House (Mar. 27, 2020), available at www.whitehouse.gov/briefings-statements/statement-by-the-president-38/.

[22] See 18 U.S.C. § 3293 (2020) (“No person shall be prosecuted, tried, or punished for a violation of, or a conspiracy to violate . . . (2) section 1341 or 1343, if the offense affects a financial institution . . . unless the indictment is returned or the information is filed within 10 years after the commission of the offense.”).

[23] Coronavirus Act 2020, c. 7 (Eng.), available at www.legislation.gov.uk/ukpga/2020/7/contents/enacted.

[24] The Health Protection (Coronavirus) Regulations 2020, SI 2020/129, (Eng.), available at www.legislation.gov.uk/uksi/2020/129/contents/made.

[25] Interim CPS Charging Protocol – Covid-19 crisis response, CPS (Apr. 1, 2020), available at www.cps.gov.uk/sites/default/files/documents/legal_guidance/Interim-CPS-Charging-Protocol-Covid-19-crisis-response.pdf.

[26] CMA COVID-19 taskforce, U.K. Ministry of Justice (Mar. 20, 2020), www.gov.uk/government/publications/covid-19-cma-taskforce/cma-covid-19-taskforce.

[27] CMA approach to business cooperation in response to COVID-19, Competition and Mkts. Auth. 7 (Mar. 25, 2020), available at assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/875468/COVID-19_guidance_-.pdf.

[28] An Open Letter to the Pharmaceutical and Food and Drink Industries, Competition and Mkts. Auth. (Mar. 20, 2020), available at assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/874240/COVID_19_Open_letter_to_pharmaceutical_and_food_and_drink_industries2.pdf.

[29] CMA approach to business cooperation in response to COVID-19, Competition and Mkts. Auth. 6 (Mar. 25, 2020), available at assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/875468/COVID-19_guidance_-.pdf.

[30] Id.

[31] Covid-19: savers stay calm and don’t rush financial decisions, Fin. Conduct Auth. (last modified Apr. 3, 2020), www.fca.org.uk/news/press-releases/covid-19-savers-stay-calm-dont-rush-financial-decisions.

[32] FCA and PSR respond to the CMA’s guidance on business cooperation under competition law, Fin. Conduct Auth. (last modified Mar. 27, 2020), www.fca.org.uk/news/statements/fca-and-psr-respond-cmas-guidance-business-cooperation-under-competition-law.

[33] FCA requests a delay to the forthcoming announcement of preliminary financial accounts, Fin. Conduct Auth. (last modified Mar. 22, 2020), www.fca.org.uk/news/statements/fca-requests-delay-forthcoming-announcement-preliminary-financial-accounts.

[34] National Crime Agency warn that organised crime groups may try to exploit the coronavirus outbreak to target the UK, Nat’l Crime Agency (Mar. 22, 2020), www.nationalcrimeagency.gov.uk/news/national-crime-agency-warn-that-organised-crime-groups-may-try-to-exploit-the-coronavirus-outbreak-to-target-the-uk.

[35] Beware fraud and scams during Covid-19 pandemic fraud, Nat’l Crime Agency (Mar. 26, 2020), www.nationalcrimeagency.gov.uk/news/fraud-scams-covid19.

[36] Data protection and coronavirus: what you need to know, Info. Comm’rs Office, ico.org.uk/for-organisations/data-protection-and-coronavirus/ (last visited Apr. 8, 2020).

[37] Privacy and Cybersecurity Issues Related to COVID-19, Gibson Dunn & Crutcher LLP (Mar. 20, 2020), available at www.gibsondunn.com/privacy-and-cybersecurity-issues-related-to-covid-19/.

[38] COVID-19 & International Trade – Nation-State Responses to a Global Pandemic, Gibson Dunn & Crutcher LLP (Apr. 1, 2020), available at www.gibsondunn.com/covid-19-international-trade-nation-state-responses-to-a-global-pandemic/.

[39] For further details on the German Infectious Diseases Protection Act, see COVID-19: The German Infectious Diseases Protection Act – What Makes You Stay At Home, Gibson Dunn & Crutcher LLP (Mar. 20, 2020), available at www.gibsondunn.com/covid-19-german-infectious-diseases-protection-act-what-makes-you-stay-at-home/.

[40] Press Release, Europol, How Criminals Profit from the Covid-19 Pandemic (Mar. 27, 2020), available at www.europol.europa.eu/newsroom/news/how-criminals-profit-covid-19-pandemic.

[41] Pandemic Profiteering: How Criminals Exploit the Covid-19 Crisis, Europol (Mar. 27, 2020), available at www.europol.europa.eu/publications-documents/pandemic-profiteering-how-criminals-exploit-covid-19-crisis.

[42] For more details see European and German Programs Counteracting Liquidity Shortfalls and Relaxations in German Insolvency Law, Gibson Dunn & Crutcher LLP (Mar. 25, 2020), available at www.gibsondunn.com/european-and-german-programs-counteracting-liquidity-shortfalls-and-relaxations-in-german-insolvency-law/.

[43] Questions and Answers: Commission Proposes SURE, A New Temporary Instrument Worth up to €100 Billion to Help Protect Jobs and People in Work, European Comm’n (Apr. 2, 2020), available at ec.europa.eu/commission/presscorner/detail/en/qanda_20_572.

[44] For updates see Staying Safe During Covid-19: What You Need to Know, Europol (last modified Apr. 1, 2020), www.europol.europa.eu/staying-safe-during-covid-19-what-you-need-to-know.

[45] Li Ang, “Zero Tolerance” Towards Illegal Acts During COVID-19, Sina Finance (Mar. 26, 2020), available at finance.sina.com.cn/chanjing/cyxw/2020-03-26/doc-iimxyqwa3197497.shtml.

[46] Notice by the Shanghai Municipal Administration for Market Regulation Regarding Further Enhancing Anti-Competition Enforcement Work (Feb. 25, 2020), available at scjgj.sh.gov.cn/shaic/html/govpub/2020-03-03-0000009a202002200011.html.

[47] Id.

[48] Han-na Park, Seoul Gets Tough on Profiteering on Masks, Sanitizers, The Korea Herald (Feb. 6, 2020), available at www.koreaherald.com/view.php?ud=20200206000709.

[49] Yeon-joo Kim et al., S. Korea tightens mask exports to relieve local shortage, Pulse (Feb. 26, 2020), available at pulsenews.co.kr/view.php?year=2020&no=198103.

[50] Notice Regarding Protecting Personal Information and Utilizing Big Data to Support the Combat Against COVID-19, Cyberspace Admin. of China (Feb. 9, 2020), www.cac.gov.cn/2020-02/09/c_1582791585580220.htm.

[51] Id.

[52] Id.

[53] Xue Li, Dozens Prosecuted for Disclosing Private Information Regarding COVID-19 Patients, Tencent News (Feb. 24, 2020), available at xw.qq.com/cmsid/20200224A0Q39T00.

[54] Mengyao Wang, A Health Bureau Deputy Being Investigated for Disclosing Personal Information of a COVID-19 Patient, Caixin (Jan. 30, 2020), available at china.caixin.com/2020-01-30/101509610.html.

[55] See, e.g., Robert Faturechi and Derek Willis, Senator Dumped Up to $1.7 Million of Stock After Reassuring Public About Coronavirus Preparedness, ProPublica (Mar. 19, 2020), available at www.propublica.org/article/senator-dumped-up-to-1-7-million-of-stock-after-reassuring-public-about-coronavirus-preparedness; Richard Cowan et al., U.S. senators defend selling shares before coronavirus crash, Reuters (Mar. 20, 2020), available at www.reuters.com/article/us-health-coronavirus-usa-congress/reports-that-republican-u-s-senators-dumped-stock-before-coronavirus-market-crash-spark-calls-to-resign-idUSKBN2171AL.

[56] See David Shortell et al., Exclusive: Justice Department reviews stock trades by lawmakers after coronavirus briefings, CNN (Mar. 30, 2020), available at www.cnn.com/2020/03/29/politics/justice-stock-trades-lawmakers-coronavirus/index.html.

[57] Statement from Stephanie Avakian and Steven Peikin, Co-Directors of the SEC’s Division of Enforcement, Regarding Market Integrity U.S. Secs. & Exch. Comm’n (Mar. 23, 2020), available at www.sec.gov/news/public-statement/statement-enforcement-co-directors-market-integrity.

[58] See, e.g., Complaint, Jacobson v. Burr, 1:20-cv-00799 (D.D.C. Mar. 23, 2020).

[59] Stop Trading on Congressional Knowledge Act of 2012 § 3, 5 U.S.C. app. 1010 note prec. (2012).

[60] See Tamara Keith, How Congress Quietly Overhauled Its Insider-Trading Law, NPR (Apr. 16, 2013), available at www.npr.org/sections/itsallpolitics/2013/04/16/177496734/how-congress-quietly-overhauled-its-insider-trading-law.

[61] E.g., Matt Taibbi, After Richard Burr’s Coronavirus Scandal, Will the Government Finally Crack Down on Congressional Insider Trading?, Rolling Stone (Mar. 24, 2020), available at www.rollingstone.com/politics/politics-features/richard-burr-coronavirus-insider-trading-972101/ (“Members of congress trading against a pandemic is as low as it gets. On the long and winding history of elected officials eluding rules against political profiteering.”); John Crudele, Insider trading is business as usual for our politicians, N.Y. Post (Mar. 23, 2020), available at nypost.com/2020/03/23/insider-trading-is-business-as-usual-for-our-politicians/.

[62] See, e.g., Eric M. Creizman, COVID-19 and Congressional Trading on Nonpublic Information, N.Y. Law J. (Mar. 26, 2020), available at www.law.com/newyorklawjournal/2020/03/26/covid-19-and-congressional-trading-on-nonpublic-information/; Al Barbarino, Probes Of Senators’ Trading May Reach Uncharted Waters, Law360 (Mar. 25, 2020), available at www.law360.com/whitecollar/articles/1257242/probes-of-senators-trading-may-reach-uncharted-waters.

[63] See, e.g., Parliament and Council Regulation 596/2014 of April 14, 2014, On Market Abuse (Market Abuse Regulation) and Repealing Directive 2003/6/EC of the European Parliament and of the Council and Commission Directives 2003/124/EC and 2004/72/EC, 2014 O.J. (L 173) (EU); Act No. 108/2007 on Securities Transactions (Ice.).

[64] For example, several bills were introduced in Congress in the wake of the Second Circuit’s decision in United States v. Newman, 773 F. 3d 438 (2d. Cir. 2014), but they ultimately went nowhere. And more recently, the House passed the Insider Trading Prohibition Act in December 2019, but to date, this bill has not advanced in the Senate. The Bharara Task Force on Insider Trading likewise issued a report in January 2020 calling on Congress to pass clear and concise insider trading legislation (providing a model statute that could form the basis for a new law with clear parameters), and other legal scholars and jurists have also advocated for change and put forth proposals that, to date, have failed to take hold. See, e.g., Kenneth R. Davis, Insider Trading Flaw: Toward a Fraud-on-the-Market Theory and Beyond, 66 Am. U. L. Rev. 51 (2017); Carmen Germaine, Rakoff Urges Securities Bar to Write Insider Trading Law, Law360 (Mar. 1, 2017), available at www.law360.com/articles/897188/rakoff-urges-securities-bar-to-write-insider-trading-law.

[65] See, e.g., A Resource Guide to the U.S. Foreign Corrupt Practices Act, U.S. Dep’t of Justice & U.S. Secs. & Exch. Comm’n (2012), available at www.sec.gov/spotlight/fcpa/fcpa-resource-guide.pdf; Joe Palazzolo, From Watergate to Today, How FCPA Became So Feared, Wall St. J. (Oct. 2, 2012), available at www.wsj.com/articles/SB10000872396390444752504578024791676151154?ns=prod/accounts-wsj.

[66] Attorney Generals Are Taking Action to Protect Consumers During Coronavirus Pandemic, Nat’l Attorneys Gen. Training and Research Inst., www.consumerresources.org/covid-19-consumer-updates (last visited Apr. 8, 2020).

[67] Press Release, Eric Schmitt, Missouri Attorney General, AG Schmitt Files Suit Against Jim Bakker for Selling Fake “Coronavirus Cure” (Mar. 10. 2020), available at ago.mo.gov/home/news/2020/03/10/ag-schmitt-files-suit-against-jim-bakker-for-selling-fake-coronavirus-cure.

[68] Press Release, Florida Office of the Attorney General, Attorney General Moody Issues More Than 40 Subpoenas Over Allegations of Price Gouging by Third-Party Sellers on Amazon (Mar. 24 2020), available at www.myfloridalegal.com/newsrel.nsf/newsreleases/9D854B0F3345DC9085258535006C3BEC?Open&.

[69] Press Release, New York Attorney General, Attorney General James Order Alex Jones to Stop Selling Fake Coronavirus Treatments (Mar. 12, 2020), available at ag.ny.gov/press-release/2020/attorney-general-james-orders-alex-jones-stop-selling-fake-coronavirus-treatments.

[70] See, e.g., Press Release, Oklahoma Attorney General, Attorney General Hunter, U.S. Attorney Downing Coordinate Efforts to Combat Coronavirus Fraud (Mar. 27, 2020), available at www.oag.ok.gov/attorney-general-hunter-us-attorney-downing-coordinate-efforts-to-combat-coronavirus-fraud; Press Release, United States Attorney for the District of Columbia Timothy J. Shea Announces Launch of Metropolitan Area COVID-19 Anti-Fraud Task Force, U.S. Attorney Carpenito, AG Grewal, Acting Comptroller Walsh, Announce Federal-State COVID-19 Fraud Task Force (Mar. 30, 2020), available at www.justice.gov/usao-nj/pr/us-attorney-carpenito-ag-grewal-acting-comptroller-walsh-announce-federal-state-covid-19; Press Release, U.S. Dep’t of Justice, United States Attorney for the District of Columbia Timothy J. Shea Announces Launch of Metropolitan Area COVID-19 Anti-Fraud Task Force (Apr. 2, 2020), available at www.justice.gov/usao-dc/pr/united-states-attorney-district-columbia-timothy-j-shea-announces-launch-metropolitan.

[71] Corinne Ramey, New York, California Want More Power Over the Financial Sector, Wall St. J. (Mar. 16, 2020), available at www.wsj.com/articles/new-york-california-want-more-power-over-the-financial-sector-11584351002.

[72] See FY 2021 New York State Executive Budget, Transportation, Economic Development and Environmental Conservation, Article VII Legislation, Part NN (Jan. 21, 2020), available at www.budget.ny.gov/pubs/archive/fy21/exec/artvii/ted-bill.pdf.

[73] See id. at 288:25-26.

[74] See id. at 292:19-24.

[75] See 2019 Year-End Securities Litigation Update, Gibson Dunn & Crutcher LLP (Feb. 18, 2020), available at www.gibsondunn.com/2019-year-end-securities-litigation-update (discussing the Martin Act).

[76] See S. B. S7508-B, 2019-2020 Leg. Sess., Part NN (N.Y. 2020); see also A.B. 9508-B, 2019-2020 Leg. Sess., Part NN (N.Y. 2020).

[77] See Evan Weinberger, N.Y. Plan to Beef Up Financial Regulator Abandoned in Budget, Bloomberg Law (Apr. 2, 2020), available at news.bloomberglaw.com/banking-law/n-y-plan-to-beef-up-financial-regulator-abandoned-in-budget.

[78] About, Cal. Dep’t of Bus. Oversight, dbo.ca.gov/about (last visited Apr. 8, 2020).

[79] California Consumer Financial Protection Law, Cal. Dep’t of Bus. Oversight, dbo.ca.gov/California-consumer-financial-protection-law (last visited Apr. 8, 2020).

[80] Governor’s Budget Summary 2020-21, 174 (Jan. 10, 2020), available at www.ebudget.ca.gov/2020-21/pdf/BudgetSummary/FullBudgetSummary.pdf.

[81] Id. at 173-74.

[82] Id.

[83] Implications of COVID-19 Crisis for False Claims Act Compliance, Gibson, Dunn & Crutcher LLP (Mar. 31, 2020), available at www.gibsondunn.com/implications-of-covid-19-crisis-for-false-claims-act-compliance.

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The following Gibson Dunn lawyers assisted in preparing this client alert: Joel M. Cohen, F. Joseph Warin, Charles J. Stevens, Debra Wong Yang, Mylan Denerstein, Kelly Austin, Zainab Ahmad, Stephanie Brooker, John Partridge, Benno Schwarz, Patrick Doris, Darcy Harris, Amanda Aycock, David Crowley-Buck, Steve Melrose, Ning Ning, Carla Baum, and Andreas Dürr.

Gibson Dunn lawyers regularly counsel clients on the issues raised by this pandemic, and we are working with many of our clients on their response to COVID-19. Please feel free to contact the Gibson Dunn lawyer with whom you work, any member of the firm’s White Collar Defense and Investigations Group (F. Joseph Warin, Charles J. Stevens, and Joel M. Cohen, Co-Chairs), or any of the authors:

New York
Zainab Ahmad
Joel M. Cohen
Mylan Denerstein

Washington, D.C.
Stephanie L. Brooker
F. Joseph Warin

Los Angeles
Debra Wong Yang

San Francisco
Charles J. Stevens

Denver
John D.W. Partridge

London
Patrick Doris

Munich
Benno Schwarz

Hong Kong
Kelly Austin

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

Los Angeles partner Theodore J. Boutrous Jr. is the author of “Why Trump’s frivolous libel lawsuit against the New York Times is dangerous,” [PDF] published in The Washington Post on February 29, 2020.

Los Angeles partners Richard Doren and Michael Holecek are the authors of “Can you sue insurance companies for emotional-distress damages?” [PDF] published by the Daily Journal on April 2, 2020.

New York partner Anne Champion and associate Lee Crain are the authors of “Press Pools Protect 1st Amendment During Pandemic,” [PDF] published by Law360 on April 7, 2020.

For private equity funds, the current environment—while providing unprecedented challenges for many portfolio companies—will also provide some unique investment opportunities to acquire both distressed assets and assets of distressed sellers.

In a distressed context, there are four principal strategies to achieve ownership:

a negotiated distressed sale conducted outside of a formal insolvency process,
a negotiated sale through a pre-packaged insolvency procedure, such as a scheme of arrangement,
a purchase out of a judicial insolvency process, such as a scheme of arrangement, administration or liquidation, and
a loan to own strategic purchase of debt with a view to obtaining control.

This article discusses these strategies below, and introduces the key issues, opportunities and obstacles associated with each of them.

Negotiated Deals

The path of a negotiated distressed acquisition will, in large part, necessarily be determined by the extent of the distress. For example, the company’s ability to meet impending debt service obligations, its compliance with financial covenants and other debt financing obligations, liquidity and whether the company is actually or about to become insolvent, will all impact the timing and nature of the transaction. The more the process is rushed to meet fixed deadlines, the less likely potential investors will be able to conduct full due diligence, although key risks still need to be assessed such as termination rights on a change of control for material contracts.

The identity of the distressed parties is also obviously critical — is it the seller which is distressed, the target or both? Where the seller is in financial distress, the lack of typical warranty protection should be considered as any warranties given by the seller will likely be of little real value. In this context, both warranty and indemnity insurance and escrow arrangements should be considered. Depending on the level of distress and the distressed seller’s need for liquidity, it may not, however, accept significant holdbacks through escrow arrangements.

Furthermore, in the context of a distressed seller, buyers must also consider the risk that the transaction is vulnerable to challenge as an unlawful preference, fraudulent conveyance, a transaction at an undervalue or analogous equitable challenge, depending on the jurisdiction. In this context, where the asset has a market value, ensuring that the price paid was at least the market value and otherwise the best price reasonably obtainable by the seller for the asset at the time of the sale in the prevailing market conditions and other relevant circumstances should mitigate this risk. Methods most often used to evidence this by a seller include running a competitive sale process and/or obtaining a fairness opinion from a financial advisor. Also to the extent that there are business separation issues where the target will need transitional support and/or services from the seller, buyers again need to be mindful of this where the seller is in financial distress. This is because the seller may no longer exist to provide such support or services following the closing of the deal.

Financing acquisitions with debt in the current environment will be challenging. However, where the proceeds of the sale are insufficient to repay the target’s lenders in full, they may be prepared to ‘roll their debt’ into a new structure where the private equity sponsor is providing additional liquidity that enhances their chances of maximizing recovery. A debt roll will usually require the consent of all of the existing lenders. However, the availability of this approach turns very much on the drafting of the relevant debt documents. There may be creative alternatives around any obstacles presented by the debt documents such as structural adjustments (where certain otherwise unanimous lender matters have a lower approval threshold) and yank-the-bank provisions (entitling the borrower to prepay or replace at par a non-consenting lender). In addition to the foregoing there may be alternative levers to pull such as the threat of a covenant strip to bring hold-outs into line. Failing this, it may be possible, subject to achieving the relevant thresholds (typically 75% or more in value and a majority in number of the lenders), to use an insolvency process such as a scheme of arrangement to compel all of the existing lenders to roll the debt into a new structure.

Pre-Packaged Insolvency Sale

A pre-packaged insolvency sale involves the target company’s creditors agreeing on a plan to sell the company or its assets and then immediately filing the plan with the relevant bankruptcy court in order to implement it. The availability of pre-packaged insolvency sales and the applicable rules vary from jurisdiction to jurisdiction. However, they typically have the following characteristics:

there is no risk of a challenge to the transaction as a preference or a transaction at an undervalue,
it is a negotiated sale process where the sale will be pre-agreed with the administrator and any due diligence will need to be carried out before the pre-pack is implemented,
the sale can be effected as a sale of shares or of key assets,
there will be no transitional support or services from the seller,
insolvency lawyers will need to be involved early in the process, and
junior creditors may or may not be able to prevent the insolvency procedure depending on where the value breaks (that is, if the value from the sale is such that there would be insufficient proceeds to repay any class of creditors, that class will be ‘out of the money’ and unable to block the process – however they may seek to dispute the valuation).

The timing for the process will depend on the rules for the relevant insolvency procedure. As such, an important threshold question is whether the company either has sufficient liquidity during this process or is able to obtain additional financing.

It is also worth noting that some governments (including the United Kingdom and Australia) have in the last week proposed temporary changes to certain relevant insolvency related laws to allow, among other things, directors of a company to continue trading without incurring liability for wrongful/insolvent trading. If adopted, these modifications would presumably lessen the urgency directors in such jurisdictions may feel to sell assets or the whole company to address a downturn in the company’s performance or liquidity. This may, in turn, slow down any discussions with creditors and private equity investors about pursuing a pre-packaged insolvency sale or other alternative.

Fire Sale

Where a company is already in a formal insolvency process, there may be an opportunity to purchase the assets from the relevant provisional liquidator or similar insolvency professional. Insolvency procedures are generally seen as value destructive to the business as key contracts will typically automatically terminate and goodwill is eroded. As with a pre-packaged sale, the applicable rules and procedures vary from jurisdiction to jurisdiction. There is no risk of challenge to the transaction as a preference or a transaction at an undervalue. Timing will often be driven by the pace of value deterioration of the business.

Loan to Own

Loan to own strategies involve investors acquiring secured debt of the target at a discount to par with a plan to convert the debt to equity either consensually, through a security enforcement (if all stakeholders agree), or through a formal insolvency procedure which binds all creditors and removes any risk of a challenge to the transaction as a preference or transaction at an undervalue. There will be essentially no diligence in these transactions other than publicly available information and information which has been provided to the lenders under the financing documents.

In the loan to own context, understanding the capital structure of the target company and the terms of its debt financing, including the rights of each class of creditors, is critical to identifying a clear path to obtain the desired level of equity interest through the financing documents. This is so regardless of whether there will be a security enforcement or formal insolvency procedure. Key items in this analysis include voting thresholds, the terms of any intercreditor agreement and who can direct enforcement and the rights to release the claims of other creditors under guarantees and security.

Prior to acquiring the secured debt of a target company, loan to own investors will have formed a view as to what constitutes the ‘fulcrum credit’. The ‘fulcrum credit’ is the amount and type of debt most likely to be converted into equity through the process. Such investors will frequently seek to acquire — either alone or together with investors pursuing similar strategies — a blocking stake in the fulcrum credit so that its vote is required to be obtained in connection with any decisions to be made under the financing documentation. They will also want to understand the creditor composition. Understanding the creditor composition is important because lenders in the same class of debt frequently have different interests. For example, a lender who was an original lender and made the loan at par will have a very different view on what would be a positive outcome compared to a lender who acquired the debt in the secondary market at a deep discount to par, say, 20 cents on the dollar. Similarly, the interests of lenders will vary if they are hedging counterparties with the debtor or they also have debt at other levels of the capital structure. For example, where the value breaks in the senior debt (i.e., there is insufficient value to repay the senior lenders in full), a lender with a small position in the senior debt may want to try to block an enforcement of the debt security if it has a much larger position in a junior class of the debt which is ‘out of the money’ in the hope that the business will improve over time.

The timing of loan to own transactions is very much deal specific.

Conclusion

While the circumstances occasioned by the COVID-19 virus have resulted in crisis, the crisis may give rise to opportunities to assist ailing businesses through the distressed investment and acquisition frameworks described above. The issues raised in any distressed acquisition are myriad and complex. However, the methods used are tried and tested. The key points investors must keep in mind when determining the path most likely to succeed include, among other things, the following:

-control of process;

-timing and extent of remaining business liquidity;

-structure of financing, composition of creditors and detailed terms;

-structure of proposed investment, whether statutory or asset sale;

-publicity and public perception; and

-scope of transaction and whether liabilities are comprehensively resolved.

As such, investors would do well to communicate with counsel early in the process to assist in analyzing the best path forward.

_________________________________________________________________

Gibson Dunn’s lawyers are available to assist with any questions you may have regarding developments related to the COVID-19 pandemic. For additional information, please contact any member of the firm’s Coronavirus (COVID-19) Response Team, the Gibson Dunn lawyer with whom you usually work in the firm’s Global Finance or Private Equity practice groups, or the authors in Hong Kong:

Michael Nicklin (+852 2214 3809, [email protected])
Paul Boltz (+852 2214 3723, [email protected])
Scott Jalowayski (+852 2214 3727, [email protected])
Brian Schwarzwalder (+852 2214 3712, [email protected])

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

UNITED STATES

A World Without Sports—What Happens Now?

On March 11, 2020, the massive and worldwide business of professional sports began to shut down because of the COVID-19 pandemic. First it was the National Basketball Association shutting down “until further notice.” The next day it was the Professional Golf Association Tour and Formula 1, and by months-end, March Madness, Major League Baseball, the Premier League, Champions League, the 2020 Tokyo Olympic Games, the National Hockey League, and every other prominent sporting event was suspended, postponed, or canceled. That has sent ripples through the entire inter-connected business of sport.
Read more

Delaware Governor Issues Limited Relief for Public Company Shareholder Meetings Impacted by COVID-19

Yesterday, the Governor of the State of Delaware issued an executive order (the “Order”) that provides two limited forms of relief for publicly traded companies hosting shareholder meetings during the coronavirus (COVID-19) pandemic. The Order’s first relief provision applies to publicly traded companies that, as of April 6, 2020, have already sent shareholders a notice of an upcoming physical shareholder meeting.
Read more

Key Governance Action Items in Response to COVID-19

As public companies wrestle with the continuing and evolving impact of COVID-19, there are several key corporate governance matters that public companies and their boards of directors should consider in the short term. For example, boards should consider whether to take action now to adopt emergency bylaws and/or appoint executive committees in order to ensure the continued ability of the board to operate in the months ahead.
Read more

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ASIA

COVID-19: Key Issues for Private Credit and Special Situation Investors in Asia-Pacific

Each economic downturn creates opportunities and challenges in the credit markets for private credit and special situation investors, and this is especially true in the Asia-Pacific region today as it was impacted by the COVID-19 virus much sooner than the rest of the world.

The opportunity arises from the fact that lending in Asia-Pacific has historically been driven, to a large extent, by banks and, as borrowers’ revenues plunge, a significant number of them will have to look to private credit to refinance their existing amortising bank debt. The ability of private credit investors to deliver greater flexibility than typically seen with financings from banks, with bespoke solutions including non-amortising, PIK or pay-if-you-can financings, will be a huge differentiator. Additionally, the amount of defaulted debt in the market is likely to increase dramatically, providing opportunities for investors to make returns through a variety of strategies including loan-to-own, debt-for-equity swaps, negotiated distressed sales (no formal insolvency process), negotiated sales through a pre-packaged insolvency procedure and purchases out of an insolvency process.
Read more

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GERMANY

COVID-19: Civil Litigation in Germany

The current COVID-19 crisis affects many aspects of life, and does not spare the civil justice system. While we have not yet heard of any court that has entirely shut down, we note that many have reduced oral hearings to an absolute minimum. It cannot yet be predicted when a normal state of affairs will come back. There are, however, ways to tackle some of the obstacles brought about by COVID-19, at least to a certain extent.
Read more

COVID-19: Short Term Reduction of Personnel Costs under German Labor Law

The COVID-19 crisis is in full progress. Most companies are extremely burdened by the crisis and looking for easements. This newsletter shall give you an overview of various possibilities to reduce personnel costs in the short term under German law. Next to a hiring freeze, which many companies have already implemented by now, using accrued overtime and vacation entitlement is the easiest and least intrusive option to respond to the situation. However, these measures do not directly reduce personnel costs.
Read more

The current COVID-19 crisis affects many aspects of life, and does not spare the civil justice system.

While we have not yet heard of any court that has entirely shut down,[1] we note that many have reduced oral hearings to an absolute minimum.[2] It cannot yet be predicted when a normal state of affairs will come back.

There are, however, ways to tackle some of the obstacles brought about by COVID-19, at least to a certain extent:

I. Filing and Formal Service of Lawsuits and other Pleadings

A. Filings with the Court

Documents can still be filed with the courts through the usual channels – by mail/courier in the original, by telefax and with the fairly new electronic mail system beA which every attorney admitted to a German bar is obliged under the applicable ethics regime to have access to.

While we observed some technical difficulties with both beA and telefax over the first days of the German slow down (it appears, the court registries had not found time to equip the telefax machines with enough paper), these difficulties now generally seem to have been solved.

As many court registries (like the judges) work from home, the process between the court’s receiving a newly filed document and the subsequent steps seems to have slowed down significantly.

B. Service ex officio by court

Regarding formal service (Zustellung), the general rule is that documents have to be served ex officio by the court, unless the law exceptionally stipulates something else (sec. 166 para. 2 of the German Code of Civil Procedure – ZPO).

In particular, lawsuits and judgments have to be served by the court ex officio. This sort of service depends on the functioning of the court registry, and is not under control of the plaintiff. Yet, we observe that lawsuits are currently still being served on defendants these days, although in many cases it takes longer than originally.

With particular regard to suspending limitation by bringing a lawsuit, sec. 167 ZPO contains a clause favorable to the plaintiff stipulating that suspension becomes effective with the receipt by court if service is carried out “in the near future”. As to the term “in the near future”, the courts have decided many times that this is being interpreted that even longer periods between receipt by the court and service do not harm provided plaintiff has done what plaintiff could to allow service, so that delays caused by the court or the defendant do not hinder suspension.[3]

C. Service at the Instigation of the Parties

Service at the instigation of the parties, above all service from attorney to attorney (sec. 195 Civil Procedure Code), can easily be done by using the beA.

II. Deadlines

If litigation is already pending, deadlines might be under way. In this regard, German law distinguishes between deadlines set by the law, and such set by the court.

A. Deadlines set by law

Some deadlines are directly set by the law, such as the two-week-timeframe after service for the defendant to declare whether he/she wishes to defend against the lawsuit (sec. 276 para. 1 ZPO), or the time limit of one month to file an appeal after service of the trial judgment. This sort of deadline cannot be extended, not even due to COVID-19 (sec. 224 para. 2 ZPO).

However, pursuant to sec. 233 ZPO, “reinstatement” is available if missing the deadline is not due to fault. The COVID-19 crisis might encourage courts to be more “generous” when considering the fault element, but traditionally “not due to fault” is being interpreted very narrowly, so that a motion for reinstatement must always remain ultima ratio, and never been taken into account as an option.

B. Judicially set deadlines

Deadlines set by the court can be extended upon application if sufficient grounds for doing so have been demonstrated in a convincing fashion (sec. 224 para. 2 ZPO). Importantly, the deadline to respond to a lawsuit is of such nature.

Missing this form of deadline can have severe consequences, e.g., factual allegations or offering evidence might become inadmissible (see sec. 296, 282 ZPO).

Interestingly, some courts have announced these days that judicial time limits would automatically be extended if state governments adopt further protective measures to fight the Coronavirus.[4] In a similar vein, some arbitral tribunals automatically grant motions for extending time limits if such motion is expressly made based on the COVID-19 pandemic.

III. Trial and evidence

While civil litigation in Germany to a large extent takes place in (written) motion practice, its formal core is an oral hearing. However, there appear to be useful alternatives especially suitable for these days of crisis to avoid litigation to be brought to a halt.

A. Oral hearing

To begin with, conducting court hearings is still conceivable, albeit not really proper, these days. While some State Ministries of Justice recommend courts to only schedule urgent oral hearings (see above), the ultimate decision to actually hold a hearing lies in the full discretion of the judges.

B. Alternatives

Arguably, the better practice these days is to find an alternative to an oral hearing. The law in this respect is surprisingly progressive:

1. Proceedings conducted in writing

If both parties agree[5], the court may render a judgment without hearing oral argument (sec. 128 para. 2 ZPO). In that case the court determines a deadline for written pleadings to be submitted. The most important advantage of this alternative to an oral hearing is that it allows for a decision rather quickly. The procedure appears furthermore quite suitable for cases in which witness, expert or party evidence does not need to be taken.

2. Video transmission

Pursuant to sec. 128a ZPO, the court may permit the parties and their attorneys to stay at another location than the courtroom and to take procedural actions from there through video. The single judge or the chamber, however, need to stay in the courtroom which is also open to the public.[6] Witnesses, experts or the parties can also be examined at another location. Evidence-taking through documents and visual inspection however needs to be undertaken in the courtroom.

This alternative to a “real” oral hearing does not require consent of the parties but can unilaterally be ordered by the court. The parties may, however, still appear at the courtroom. Reversely, the parties cannot compel the court to conduct the hearing through video.

In practice however, at least before the Corona crisis, courts have not made use of sec. 128a ZPO frequently, because it requires the court and the parties to have the necessary video conference equipment available. As an exception to this general trend, the Local Court of Frankfurt am Main, the city in which Germany’s biggest airport is located, has been using it since December 2019 for the large number of flight right cases it has to deal with. During the course of the current crisis, some courts such as the Regional Court of Duesseldorf have however announced that they would now draw on this procedural tool.

3. Change of date for scheduled hearings?

If an oral hearing is already scheduled, the court may adjourn a hearing if substantial grounds so require (sec. 227 para. 1 ZPO). Whether the COVID-19 crisis is a sufficient reason in the legal sense cannot yet be stated with sufficient certainty. While some Bar Associations appear to be of such view, the available case law seems to be quite strict, e.g. in relation to the concrete illness of the party or its lawyer.

IV. Useful sources

Federal Ministry of Justice – https://www.bmjv.de/DE/Startseite/Startseite_node.html
Bavarian Ministry of Justice – https://www.justiz.bayern.de/
Federal Bar Association (Bundesrechtsanwaltskammer) – https://brak.de/
Gibson Dunn & Crutcher LLP – https://www.gibsondunn.com/

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[1] For such a case, sec. 245 of the German Code of Civil Procedure stipulates that the proceedings would be stayed by operation of law for the duration of that situation.

[2] See e.g. the recommendation by the Bavarian Ministry of Justice to courts, https://www.justiz.bayern.de/service/corona/Umgang_Justiz.php (last visited April 7, 2020).

[3] Roth, in: Stein Jonas (eds.), Kommentar zur Zivilprozessordnung, 23. Ed. 2016, § 167 ZPO para. 10.

[4] See in this regard, https://www.gibsondunn.com/covid-19-german-infectious-diseases-protection-act-what-makes-you-stay-at-home/ (last visited April 7, 2020).

[5] Consent may only be revoked in the event of a material change of litigation circumstances.

[6] We have heard of a recent initiative by the presidents of the Federal Labor Court and of several Regional Labor Courts who allegedly have put forward to introduce oral hearings by way of a video conference that does not any more require the judge to be in a courtroom. The judge would not only be permitted to work from home but he/she may also compel the parties to use the tool of video conference. This law, if enacted, would however be limited to Labor courts and might only be used to prevent and fight infectious diseases.

Authors: Finn Zeidler, Markus Rieder and Andreas Dürr

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

Next to a hiring freeze, which many companies have already implemented by now, using accrued overtime and vacation entitlement is the easiest and least intrusive option to respond to the situation. However, these measures do not directly reduce personnel costs.

Therefore, the following further measures should be considered:

A. Cut bonuses

Most bonus schemes have a clause, which allows the employer to reduce or entirely cut the bonus due to exceptional circumstances and/or financial distress. The COVID-19 crisis with its tremendous economic implications and government-induced shop closures[1] can be regarded as such an exceptional circumstance. Therefore, reducing or cutting bonuses should be the first measure, which can protect employer liquidity.

B. Short-time work (“Kurzarbeit“)

Another useful tool to counteract the initial drop in orders and labor surpluses is government-subsidized, short-time work, which already proved helpful during the 2008/2009 financial crisis. In a nutshell, short-time work means that the employer may reduce work time (even down to zero) and that, in the ultimate result, the state pays 60 %[2] of the net[3] income lost by the affected employees. After a limited period of short-time work (up to twelve months[4]), the original schedule is taken up again, thereby retaining a skilled workforce.

In response to the COVID-19 crisis, the German Federal government has introduced facilitated conditions with regard to short-time work with retroactive effect from March 1, 2020. For at least the rest of the year, short-time money will be granted under the following requirements:

At least 10% of employees[5] suffer a loss of more than 10% of their remuneration due to an inevitable event (such as a state prohibition to temporarily operate one’s business) or due to economic causes (e.g., reduced demand or limited supply of goods as a result of the crisis);
The loss of work must be of a temporary nature and inevitable. The company must adopt measures to counteract the reduction of work (e.g., assigning other remaining tasks to employees, cutting accrued overtime, using remaining vacation days for 2019 and before);
The loss of work must be notified to the employment agency and shown in a convincing fashion (glaubhaft machen); and
The option of short-time work must be provided for either in individual agreements with the respective employees or collective agreement (Tarifvertrag) or company agreement (Betriebsvereinbarung).

Short-time work might become the predominant tool to tackle the economic impacts of the crisis throughout Europe. The European Union has recently set up a program to support short-time working schemes across Europe. This new instrument for temporary Support to mitigate Unemployment Risks in an Emergency (“SURE”) provides financial assistance in the form of loans of up to €100 billion to EU Member States.

C. Voluntary salary reduction

In addition to the measures named above, a voluntary reduction of the salary or parts of it can be considered to protect the company’s liquidity regarding personnel costs. Absent any collective agreements to that effect, such a step generally requires the consent of each affected employee. While such consent is usually very difficult to obtain under normal circumstances, we have seen cases in which companies used crises of different natures to create a common conviction among their workforce to facilitate such intrusive measures.

D. Reducing the workforce

Some companies will also consider reducing their workforce.

As a principle, German labor law is extremely strict with regard to dismissals. There are only limited acknowledged reasons for dismissals, and the employer has the burden of proof as to their existence, if the employee challenges the dismissal, which happens quite often. In particular, a mere reference to the “corona crisis” does not justify a dismissal.

A termination for operational reasons (betriebsbedingte Kündigung) requires a permanent loss of the possibility to employ further. The burden of proof lies with the employer. As the COVID-19 crisis is—hopefully—of a temporary nature, this requirement would be hard to be upheld in court. The burden of proof with regard to the final loss of the job is even increased if the employee to be dismissed is working on a short-work scheme which is, by its nature, an instrument for covering a temporary loss of work. Thus, while an ordinary dismissal during short-time work is generally conceivable, the reasons for a termination due to operational reasons must necessarily go beyond the reasons that were originally given to justify an application for (temporary) short-time work.[6]

Yet, the strict dismissal protection provisions in general do not apply to (i) small shops with less than ten employees and (ii) to employees in their first six months of employment.

__________________________

[1] See also, https://www.gibsondunn.com/covid-19-german-infectious-diseases-protection-act-what-makes-you-stay-at-home/ (last visited April 7, 2020).

[2] Sixty-seven percent, if the employee has at least one child. According to media reports, the coalition parties forming the German Federal government are allegedly considering to increase the short-time money. While one suggestion put forward by the Social Democrats contains a general increase of the percent share to 80% and 87% respectively, the Christian Democrats are said to favor a sort of minimum amount of short-time money targeted at low-income beneficiaries. For further details, see Frankfurter Allgemeine Zeitung, dated April 4, 2020.

[3] Social security contributions are compensated by the employment agency.

[4] The Federal Ministry of Labor may, by way of regulation, extend the maximum period to 24 months.

[5] To be able to file a motion for short-time money, it is sufficient that a company retains a single employee. Thus, also small businesses may profit from a short-time work scheme.

[6] See Federal Labor Court, Judgment of February 23, 2012, 2 AZR 548/10, para. 21 = NZA 2012, 852, 854 et seq.

__________________________

Authors: Mark Zimmer and Andreas Dürr

Television and Radio Networks: The golden goose for many networks is live sports. ESPN2 is not built to show a six-hour “National Puppy Day” marathon like it did recently. And not to state the obvious, but there is no new sports content to show right now. That calls into question the multi-billion dollar deals that give the networks the right to broadcast games that are on ice now.
Satellite and Cable companies: Like television networks, the satellite and cable companies rely on sports to draw in customers, and thus pay huge sums to the networks to have the right to transmit those games into our homes. Moreover, many satellite and cable companies sell packages or add-ons that are based on the ability to access sport-specific content.
Media, Gambling, and Fantasy Sports: In today’s hyper-connected world, every play and game is dissected in the print, online, radio, and television media. There are entire operations—with blogs, news services, podcasts, and 24-hour content—devoted not just to leagues, but even specific teams. And then on top of all that, wagering on sports creates millions in revenue just in the United States, and fantasy sports is in the billions. But without games, there is less to wager on, and most fantasy sports depend on the real players performing on the field, pitch, ice, or court.
Sponsors and Advertisers: Companies sponsoring and advertising during sporting events count on these events to obtain a return of investment on their sponsorship and media spend. In addition to the lost exposure during the event, many companies have marketing campaigns, promotions, on-site activities, and other activations planned in connection with the events. Some companies’ businesses and brands are built around specific sports or events.
Leagues, Teams, and Athletes: Leagues face the prospect of losing significant revenue from the broadcast rights and from sponsors. Teams also face the loss of media revenue and attendance revenue. And the stoppage of play will affect player salaries, trades, and transfers, and the sponsorship opportunities for athletes. And, of course , the health of players, coaches, and fans, is at top of mind for all.

With all this upheaval across a multi-billion dollar industry that is not just a business but a passion for many, it is not all doom and gloom. Just as companies, leagues, teams, and event organizers must consider potential obligations and liabilities, there are also opportunities. All stakeholders may wish to renegotiate or modify existing deals, as additional opportunities and risks unfold. It might also be the right time to adjust to a changing landscape and prepare for the possibility that the demand for sports may diminish, or that pent up demand brings additional sponsorship opportunities on the horizon.

So stakeholders need to consider the short-, medium-, and long-term impacts of this abrupt shutdown of professional sports and worldwide health crisis. In the short-term, stakeholders should be focused on an analysis of their rights and liabilities and any opportunity to restructure unfavorable deal terms. It also requires monitoring of the changing landscape and patchwork of federal, state, and local regulations to respond to COVID-19 (e.g., bans on gatherings). In the medium- and long-term, stakeholders should evaluate their goals and strategies, with attention to the economic climate since spending on sports is discretionary, and the industry may be vulnerable in a prolonged stoppage and worldwide recession or depression. Further, stakeholders need to identify new contractual protections for future non-traditional events that may result in the cancellation of events.

So What Does the Contract Say?

The analysis for all stakeholders will often start, and sometimes end, with the contract. Whether it is the relationship between the network and the league, the cable/satellite providers and the networks, advertisers and the networks, the sponsors and the league or teams, or the players associations and the league, the fundamentals of the original deals have likely changed or merit change. Now is the time to identify and clear possible contractual roadblocks by considering the common contractual terms and issues below.

For example, sponsors of sporting events, leagues, and teams will want to examine common provisions that permit the sponsor or media company to reduce the fees it pays, require the parties to renegotiate key terms like price, or that permit the parties to terminate the agreement:

Reductions/Quotas: review any clauses requiring the league or team to deliver a minimum number of qualifying sponsorship opportunities within a given period.
Changed Circumstances: determine whether your contract contains a clause that protects the sponsor from circumstances that have a material adverse effect on the rights granted to the sponsor. A key focus here is often on whether the event has been postponed or canceled.
Termination Rights: most contracts contain a clause that permits a party to terminate the contract for another party’s material uncured breach of the agreement. (This can often be used as leverage to renegotiate the terms.)
Ancillary Benefits: a failure of the league or team to receive ancillary benefits—tickets, media rights, etc.—could qualify as damages if not received.
Excusing Performance Under a Contract – Force Majeure Clauses: Force majeure is a contractually defined event that may excuse performance under a contract. While force majeure clauses are most often triggered by “acts of God,” such as natural disasters, the various government lock-down orders may be a triggering event. A mere change in market conditions or the economics of the deal will not be sufficient to trigger the clause.

The express language of the contract provision will govern. Review your force majeure clause to determine (1) whether the COVID-19 pandemic may trigger the clause; (2) what the force majeure clause excuses; (3) what the contract requires when giving notice; and (4) whether the contract requires a specific form of notice. A more detailed discussion of force majeure provisions and a helpful flowchart are available at https://www.gibsondunn.com/force-majeure-clauses-a-4-step-checklist-and-flowchart/.

Choice of Law/Forum Selection Clauses: If contractual or other disputes require adjudication, the forum in which the dispute is heard may affect the strength or weakness of the contractual claims. Many contracts contain forum selection clauses or arbitration clauses, which will designate the substantive law that governs the dispute and the forum, whether federal or state court or arbitration. The COVID-19 pandemic has dramatically affected the ability of the courts to proceed as usual. In many state and federal courts, in-person hearings before judges are temporarily on hold. In some courts—including New York Supreme Court—only “essential” filings are being accepted. Arbitrations may be experiencing less change, though in-person hearings have been replaced with videoconference hearings.

While the contract terms are critical, even if the contract does not address this current situation, there are equitable common law defenses to any breach of contract action that will need to be analyzed. The most common equitable defenses are frustration of purpose and impossibility (a.k.a., impracticability). Both require an unforeseen event that affects performance of the contract. But frustration of purpose is available when that event makes one party’s performance virtually worthless to the other while impossibility generally requires performance to be objectively impossible.

In addition, stakeholders should conduct a comprehensive analysis to determine whether an efficient breach exists. For instance, to the extent the contract contains provisions on the available damages, the cost of performance may be more than the worst case exposure if there were a breach. It is important, however, that this analysis take into account both economic and non-economic factors, such as loss of goodwill or damage to a stakeholder’s brand.

In sum, the current situation likely requires consideration of a stakeholder’s current contractual obligations. Stakeholders should then leverage that knowledge to consider whether to terminate contracts, ask for relief, renegotiate certain terms, enforce rights, or proceed as business as usual. Now may be the time to engage in formal or informal discussions with contractual counterparties regarding their plans or to send a reservation of rights letter along with sponsorship payments.

What Else Is on the Horizon?

In addition to examining existing contractual obligations, many will need to negotiate and draft new contracts and address emerging issues against the backdrop of great uncertainty ahead. For instance, those stakeholders planning marketing and promotional events in connection with NBA playoffs will need to enter into new contracts with vendors and others associated with the playoffs. But it is not clear when the playoffs may occur, if at all.

It is important to consider how the current fluid and dynamic situation, including further government orders and policies, can be addressed in contracts drafted today. For example, parties may wish to address discretionary, rather than mandatory, cancellations or delays as well. Likewise, when events are rescheduled or employees are hard at work addressing new challenges, parties will want to consider the allocation of risks for workers, contractors, and guests who may be exposed to the virus.

Throughout all of this, you will also want to keep in mind that when times are tumultuous, email communication may be rapid-fire, and usual precautions for internal communications can slip. Remember that communications may be discoverable in future litigation and remind your employees of policies regarding confidentiality and privacy.

What About Potential Bankruptcies and Insolvencies?

The COVID-19 crisis is already affecting the financial solvency of global businesses in unprecedented ways. Even if bankruptcy is not anticipated, it is critical that companies understand the triggers and thresholds for financial stress for their own businesses and also for material contract counterparties. Early forecasting and flexibility, as well as understanding how your contractual rights in sponsorship and other contracts may be impacted in bankruptcy, can allow companies to react in this fast-changing economic environment. Here are some steps you can take now:

Understand Your Material Contracts and Sponsorship Agreements: Even when your company’s financials look solid, it is important to investigate the health of contractual counterparties. Make sure you understand both parties’ rights and obligations related to liquidity and performance. By doing so, you can identify how to maneuver within the documents to avoid breaching or where to seek amendments if needed.
Understand the Impact of Bankruptcy on Your Material Contracts and Sponsorship Agreements: If distressed sponsorship parties are insolvent or nearing or threatening bankruptcy, the ability of a company to reject, assume, or assign a contract in bankruptcy may impact negotiations and how you structure any potential modifications. Understanding your claims and rights in bankruptcy will help preserve value in the event a bankruptcy filing occurs.
Review Debt Documents: If you are experiencing potential defaults under a debt facility due to unexpected covenant breaches, or otherwise, it is important to understand your rights and remedies under your debt documents. Restructuring alternatives may be available even if not obvious. In the current environment, lenders are not surprised by proactive requests for forbearance and similar relief.

Gibson Dunn’s restructuring professionals have a wealth of experience navigating complex restructuring scenarios, and can assist in developing a value-maximizing game-plan.

Authors: Maurice Suh, Richard Birns, Kevin Masuda, Daniel Weiss, Jeremy Smith, Michael Neumeister, and Harper Gernet-Girard

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

Key Governance Action Items in Response to COVID-19

Ensure board continuity: Boards should consider whether to take action now to adopt emergency bylaws and/or appoint executive committees in order to ensure the continued ability of the board to operate in the months ahead.

- Emergency Bylaws. The corporate laws of many states include provisions that apply in the event of an emergency to ensure that the board can continue to function. Some of these provisions require board action while others are self-executing. For example:
  - Section 110(a) of the General Corporation Law of the State of Delaware (the “DGCL”) authorizes boards of companies incorporated in Delaware to adopt emergency bylaws that apply in the event that specific types of emergencies[1] prevent a quorum of the board or a standing committee. The emergency bylaws can provide flexibility regarding who can call board or committee meetings, permit a lower quorum and allow officers to serve as directors for certain meetings.
  - In addition, other parts of DGCL Section 110 apply regardless of whether the board has acted. For example, DGCL Section 110(f) states that, unless otherwise provided in emergency bylaws, notice of any board meeting during an emergency may only be given to the directors that it is feasible to reach and by means that are feasible at the time. DGCL Section 110(g) also provides that to the extent necessary to achieve a quorum at any board meeting during an emergency, the company’s officers who are present shall (unless otherwise set forth in the emergency bylaws) be deemed directors for the meeting.
  - Importantly, DGCL Section 110(d) states, “No officer, director or employee acting in accordance with any emergency bylaws shall be liable except for wilful misconduct.”
- Executive Committees. Another method to provide for board continuity is to create (or reconsider if previously created) an executive committee of the board comprised of a few members of the board with the remaining directors designated as alternates. This increases the likelihood that the executive committee will be able to continue to function even if several directors are unreachable and unable to participate. While it is important for the board in creating or reconsidering an executive committee to give the committee all of the powers and authority of the board that it is permitted to delegate, there are limits. For example, DGCL Section 141(c) places certain limits on board committees depending on the applicable DGCL provision and, in some instances, whether such rights were expressly delegated to the executive committee. Moreover, Delaware corporations should confirm whether the bylaws authorize committees to appoint alternate members, which provides added flexibility. Section 141(c) of the DGCL authorizes the board to appoint alternate committee members, but committees may appoint alternates only if expressly permitted in the bylaws.
- Practical Considerations: As an initial matter, companies should determine whether their bylaws already include emergency bylaws and authorize committees to appoint alternates as well as review the resolutions used to create any existing executive committee to determine whether alternates are designated and the extent of the committee’s authority. Boards also should consider which approach is preferable, considering (among other things) that there may be limits on the authority of an executive committee and that emergency bylaws create flexibility to adjust the quorums for the board and its committees, allow officers to fill board seats and, as discussed above, provide individuals acting pursuant to emergency bylaws greater protection from liability. While reviewing the bylaws in light of these issues, companies should also review the notice requirements for board and committee meetings and assess whether any changes are appropriate (consistent with state law) to enhance the board’s flexibility. As a matter of good corporate governance, even if a company has adopted one or both of these measures, it often will remain appropriate to invite all directors or committee members to any meetings so that directors remain informed and ready to act as needed.

Reinforce emergency executive succession plan: A key duty of the board is to engage in succession planning for the CEO and management team, both for the long term and in the case of an emergency. Given COVID-19, it is important for boards to act now to review and confirm their emergency succession plan.[2] Specifically, boards should:

- Confirm expected successors in an emergency. Discuss who should step in as CEO if needed and who is their replacement and understand, with input from the CEO, who are the replacements for each member of the executive team, preferably identifying at least two potential successors for each.
- Communicate with the emergency CEO successors. Inform the potential emergency CEO successors of their expected role in the event of the unexpected loss or incapacity of the CEO so that the relevant person can act until the board can formally appoint them as the new or interim CEO.
- Discuss the factors that would trigger implementation. Consider and discuss the various scenarios that may require implementation of the emergency succession plan (g., CEO hospitalization). Companies should review their bylaws to confirm whether they address officer succession events and impose any formalities on the process.
- Reinforce the role of the board’s independent leadership. Discuss designating the independent director in a leadership role (g., lead independent director or board chair) as point person for discussing if and when to trigger the CEO emergency succession plan in consultation with the board. Boards should also consider and document the role of the CEO and other executives in implementing emergency succession actions below the CEO level.
- Consider SEC disclosure of COVID-19 illnesses. In this context, boards may need to discuss whether and when to disclose a COVID-19-related illness of an executive officer. Although not necessarily a reportable event under Form 8-K, if an executive takes a leave of absence due to the illness, or can no longer perform his or her duties, disclosure under Item 5.02 of Form 8-K may be warranted. However, disclosure may be prudent, even without a leave of absence, if, under the circumstances, the company considers the illness of the executive to be a significant development in the company’s business requiring public disclosure. Companies should carefully review Form 8-K disclosure requirements in the event that an interim or replacement officer (even if temporary) has been appointed.[3]

Consider if updates are needed to delegations of authority: Companies typically use delegations of authority to establish the specific authority given by the board to management in various areas, such as acquisitions, financing arrangements, variances from previously approved operating plans and budgets, and employee compensation matters. Given the evolving and often dramatic economic and business impacts related to COVID-19, companies should review these delegations of authority and consider whether the nature and scope of these delegations remain appropriate so that management has the flexibility to pivot as needed and the board can continue to play an appropriate oversight role.
Evaluate how best to fulfill the board’s oversight role and directors’ fiduciary duties: Boards need to carefully balance performance of their oversight responsibilities with not unnecessarily burdening management teams that are already fully engaged. Boards should be shifting gears and spending more time overseeing issues and risks in response to the current situation, including emergency succession (discussed above), enhanced cybersecurity protections, liquidity concerns (g., if customers are delayed in paying bills), and staffing and the operation of workplace safety and work-from-home policies. This may mean delaying nonessential presentations, and moving from full- or multiple-day board and committee meetings to more frequent, shorter meetings. Other practices may also be useful in helping to keep the board informed in light of the rapidly occurring developments related to COVID-19, such as more frequent between-meeting communications with the board and having the board chairman check in individually with directors. The goal should be to ensure that the board is receiving regular reports on, and devoting appropriate time and attention to, the most critical challenges and risks facing the company, including those posed by COVID-19, and that the board’s efforts are appropriately documented. This will enable the board to fulfill its “Caremark” duties (so named for the seminal Caremark[4] case in which the Delaware Chancery Court articulated the oversight and monitoring responsibilities of a corporation’s boards of directors under Delaware law). A more recent application of this case—the Delaware Supreme Court’s 2019 decision in Marchand v. Barnhill[5]—underscores the importance of diligent monitoring when a company faces events or risks that are intrinsically critical to its business operations. Finally, directors should be mindful that in times of true crisis, a director’s fiduciary duties permit—and indeed, may even compel – the board to prioritize the interests of a range of stakeholders, because a company’s survival may depend on it. In this regard, Former Chief Justice of the Delaware Supreme Court Leo Strine recently wrote that during a national crisis, “the corporation’s obligations to its workers, its regular contractors, service providers, and lenders, and others with a legal and ethical claim to being paid comes above its duty to stockholders. Corporate leaders have the discretion to use their business judgment to best enable the corporation to weather this unprecedented storm, to honor its duties to those who have made the deepest commitment to the company’s success (that is, its employees), and to secure the solvency and long-term health of the business.”[6]
Evaluate impacts on internal controls and internal audit function: Companies should consider the impacts of COVID-19 on their internal controls and internal audit function. In a recent statement, SEC Chairman Jay Clayton reminded companies that how they plan and respond to unfolding COVID-19 developments can be material to investment decisions and therefore may require disclosures about companies’ assessment of material risks related to COVID-19 and plans for addressing these risks. In light of this, Chairman Clayton “urge[d] companies to work with their audit committees and auditors to ensure that their financial reporting, auditing and review processes are as robust as practicable in light of the circumstances in meeting the applicable requirements.”[7] Changes to internal controls, and the implementation of new controls, may be warranted, and changes must be disclosed in Forms 10-Q and Form 10-K to the extent those changes have materially affected, or are reasonably likely to materially affect, the company’s internal controls. Companies also should consider the possibility that personnel or information critical to the effective operation of certain controls may be unavailable and that the development of alternative controls may be necessary. With respect to the internal audit function, companies may wish to revisit the internal audit plan and determine whether it is appropriate to shift priorities reflected in the plan and whether it is feasible to conduct planned audits without in-person access to certain locations. As companies continue to respond to COVID-19, internal audit can also play an important role in evaluating and making recommendations on issues such as emerging risks and business continuity plans.
Consider how to proceed with the annual shareholders meeting: A significant number of companies expected to hold annual meetings of shareholders in the coming months now will hold virtual meetings in order to comply with government orders limiting the size of gatherings and to protect the health and safety of those who attend. While the SEC has provided relief for companies with respect to the proxy rules, companies also must consider the laws of the states in which they are incorporated.

- Restrictions on Virtual Meetings. Some jurisdictions continue to prohibit or restrict the ability to hold virtual meetings, and some companies may not be in a position to rely upon emergency relief granted to facilitate virtual meetings.[8] As a result, some companies will need to choose between convening (or adjourning) in-person meetings with limited attendance in order to facilitate votes on key matters, and postponing the meeting for what could be a significant period of time due to COVID-19 and thus potentially incurring the costs of redistributing proxy materials.
- Holding Virtual Meetings. Companies that determine to hold a virtual meeting should carefully evaluate, among other things, the experience and workload of key virtual meeting providers and how to balance structuring the meeting agenda to complete the formal portion of the meeting quickly in case there are technological challenges with providing a forum for shareholders to engage with the company. Companies in this situation should address contingency plans for various scenarios, such as arranging in advance appropriate delegations or substitutions if the meeting chair or the designated proxyholders are unavailable. Finally, directors should strive to “attend” the virtual shareholder meeting to the extent feasible.
- Pivoting to Virtual Meetings. Companies that distributed proxy materials discussing the possibility of virtual meetings will need to decide whether to pivot to a virtual meeting several weeks in advance of the meeting in order to notify the virtual meeting provider, address state law notice requirements for record holders informing them of the change in location (if necessary—for example, if the website address for the meeting was not included in the initial materials) and issue a press release.[9] While not addressing or resolving state law concerns, the SEC’s recent guidance[10] for conducting annual meetings in light of COVID-19 addresses securities law issues for a company changing the meeting location from a physical location to a virtual one. The guidance provides that under the federal securities laws, a company that determines to change the date, time or location of its annual meeting after having mailed its definitive proxy materials may do so without needing to mail additional soliciting materials or amend its proxy materials if it issues a press release announcing such change, files the announcement as additional soliciting material on EDGAR, and takes all reasonable steps necessary to inform other intermediaries in the proxy process and relevant market participants of such change. With respect to companies opting to pivot to a virtual meeting, the SEC staff noted that it expects companies to timely notify shareholders and market participants of any plans to conduct a virtual meeting and to clearly disclose logistical details of the virtual meeting, including how shareholders can remotely access, participate in and vote at such meeting.

(Re)examine incentive arrangements: Boards should bear in mind existing compensatory programs for senior management and employees and consider whether they provide the proper incentives in light of COVID-19. For example, establishing long-term goals based on total shareholder return (TSR) at a time of extreme stock price volatility may not create adequate incentives, and some executive compensation decisions may be better delayed until situations improve or at least stabilize. Moreover, companies should consider whether to disclose decisions by executive teams to reduce their compensation. Some boards have also considered whether to reduce their cash compensation to set the appropriate “tone at the top.”

[1] DGCL Section 110 states that emergency bylaws can be operative “during any emergency resulting from an attack on the United States or on a locality in which the corporation conducts its business or customarily holds meetings of its board of directors or its stockholders, or during any nuclear or atomic disaster, or during the existence of any catastrophe, or other similar emergency condition.”

[2] Under DGCL Section 110(b), either before or during an emergency, the board of directors may provide and modify lines of succession “in the event that during such emergency any or all officers or agents of the corporation shall for any reason be rendered incapable of discharging their duties.”

[3] See SEC Compliance and Disclosure Interpretation 217.02, stating, “When a principal financial officer temporarily turns his or her duties over to another person, a company must file a Form 8-K under Item 5.02(b) to report that the original principal financial officer has temporarily stepped down and under Item 5.02(c) to report that the replacement principal financial officer has been appointed. If the original principal financial officer returns to the position, then the company must file a Form 8-K under Item 5.02(b) to report the departure of the temporary principal financial officer and under Item 5.02(c) to report the ‘re-appointment’ of the original principal financial officer.” See also SEC Compliance and Disclosure Interpretation 217.04, providing that Item 5.02(b) of Form 8-K does not require a registrant to report the death of a director or listed officer.

[4] In re Caremark Int’l Inc. Deriv. Litig., 698 A.2d 959 (Del. Ch. 1996).

[5] Marchand v. Barnhill, 2019 WL 2509617 (Del. June 18, 2019).

[6] Leo Strine, Remembering What Comes First is More Important Than Ever, Financial Times (Mar. 27, 2020).

[7] Available at https://www.sec.gov/news/press-release/2020-53.

[8] Although California law requires all shareholders to consent to the holding of virtual meetings, the governor issued an executive order suspending those requirements, dated March 30, 2020, available at https://www.gov.ca.gov/wp-content/uploads/2020/03/3.30.20-N-40-20.pdf. Other states that allow only hybrid meetings (physical and electronic) have acted to permit virtual-only meetings during the COVID-19 crisis. For example, several governors have issued executive orders to temporarily permit virtual-only meetings: Connecticut, dated March 21, 2020 (available at https://portal.ct.gov/-/media/Office-of-the-Governor/Executive-Orders/Lamont-Executive-Orders/Executive-Order-No-7I.pdf?la=en), Georgia, dated March 20, 2020 (available at https://gov.georgia.gov/document/2020-executive-order/03202002/download), Massachusetts, dated March 30, 2020 (available at https://www.mass.gov/doc/virtual-shareholder-meeting-order/download), New York, dated March 20, 2020 (available at https://www.governor.ny.gov/sites/governor.ny.gov/files/atoms/files/EO_202.8.pdf) and North Carolina, dated April 1, 2020 (available at https://files.nc.gov/governor/documents/files/EO125-Authorizing-Encouraging-Remote-Shareholder-Meetings.pdf). See also the legislation enacted in New Jersey (available at https://www.njleg.state.nj.us/2020/Bills/A4000/3861_I1.HTM).

[9] An emergency order signed by the Delaware governor on April 6, 2020, states that a public company can provide notice of a change from a physical to a virtual meeting by filing a notice with the SEC and issuing a press release that is posted on the company’s website provided that the change was due to the public health threat caused by COVID-19 and that the company distributed proxy materials in advance of the Order notifying shareholders of the physical meeting. See Tenth Modification of the Declaration of A State of Emergency for the State of Delaware Due to a Public Health Threat, available at https://governor.delaware.gov/health-soe/tenth-state-of-emergency/.

[10] See Staff Guidance for Conducting Annual Meetings in Light of COVID-19 Concerns, available at https://www.sec.gov/ocr/staff-guidance-conducting-annual-meetings-light-covid-19-concerns?auHash=zrsDVFen7QmUL6Xou7EIHYov4Y6IfrRTjW3KPSVukQs.

Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these issues. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work in the Securities Regulation and Corporate Governance practice group, or the authors:

Authors: Elizabeth Ising, Ronald O. Mueller, Lori Zyskowski, Courtney C. Haseley and Gillian McPhee.

This bulletin provides a summary and compendium of English law legal developments during the current COVID-19 pandemic in the following key areas:

1. Competition and Consumers
2. Corporate Governance (including accounts, disclosure and reporting obligations)
3. Cybersecurity and Data Protection
4. Disputes
5. Employment
6. Energy
7. Finance
8. Financial Services Regulatory
9. Force Majeure
10. Government Support Schemes
11. Insolvency
12. International Trade Agreements (private and public)
13. Lockdown and Public Law issues
14. M&A and Private Equity
15. Real Estate
16. UK Tax

Links to various English law alerts prepared by Gibson Dunn during this period are also included in the relevant sections.

As always, for additional information, please feel free to contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Coronavirus (COVID-19) Response Team, or the co-leads of the UK COVID-19 Taskforce:

Charles Falconer – London (+44 (0)20 7071 4270, [email protected])
Anna Howell – London (+44 (0)20 7071 4241, [email protected])

1. COMPETITION AND CONSUMERS

The European Commission (EC) and UK Competition and Markets Authority (CMA) are continuing to conduct their business, subject to practical adjustments to allow for social distancing (e.g. staff are working from home; all meetings and hearings are being conducted via videoconference or telephone, etc.). However, the authorities are having to balance their limited resources with the need to address additional priorities, such as expedited reviews of state aid, competitor collaborations and coronavirus related overcharging and/or misleading claims practices. Specific guidance and carve-outs to address particular challenges raised by the crisis have also been issued. The key developments are mentioned below.

Merger control

Not quite business as usual:

The European Commission has issued a statement “encouraging” companies to delay new merger notifications until further notice, where possible. It has indicated that there will be delays in the pre-notification process as it prioritizes transactions that have been formally filed. It has also reportedly stopped the clock in several Phase II cases.
The CMA has stated that it will continue to monitor case timetables and that extensions will be made to statutory timetables, as permitted, where necessary. It is also, however, reallocating resources to help ensure that the “most urgent” and the “most critical” work can be done on time. Reportedly, some companies subject to anticipated (rather than already closed) mergers have been asked to hold off on formally filing notifications.
Some other competition authorities are adopting more drastic approaches e.g. suspending applicable deadlines or operations.

What does this mean for deals? Clearance timetables will be less predictable than usual. Authorities will likely make use of powers to extend statutory timetables / “stop the clock” in active cases, where required. Parties may face challenges getting “on the clock” in cases not yet filed. Parties engaged in negotiating future deals must be mindful of the impact on the meeting of long stop dates. Parties who have already signed deals should revisit the likely meeting of any long stop dates with counsel. It will be important to monitor closely the differing approaches of authorities in jurisdictions relevant to any transaction.

Antitrust

Guidance on competitor collaboration: subsequent to the Gibson Dunn client briefing on 24 March 2020, further guidance has been issued by the CMA which suggests that temporary, necessary competitor co-operation will be permitted in certain circumstances to address critical issues arising as a result of the COVID-19 crisis. This does not, however, fully relax the competition rules (even in relation to the distribution of essential scarce products and/or services to consumers or key workers). Companies will need to tread carefully and should seek advice if they intend to engage in conduct that would normally risk breaching competition laws.
Exploitative practices/collusion: Several competition authorities have voiced concern over excessive pricing practices (e.g. with respect to face masks and hand sanitising gel) and refusals to supply in the context of the crisis. Statements have been made that authorities will actively monitor market developments to detect companies taking advantage of the current situation to break competition rules. The CMA has established a COVID-19 Taskforce to “tackle negative impacts within its remit of the COVID-19 pandemic”. The Taskforce will identify harmful sales and pricing practices as they emerge and take enforcement action as needed.What does this mean for clients? Companies will continue to be scrutinised for compliance with competition laws throughout the crisis. Companies facing issues with supply or distribution or considering co-operating with competitors should consult with counsel.

Consumer protection

The CMA COVID-19 TaskForce’s remit, established to tackle negative impacts of the COVID-19 pandemic, will extend to issues under consumer laws in addition to competition laws. The task force will also advise the Government on policy and legislative measures.
In public statements on its COVID-19 response, the CMA has stated that it is monitoring reports of changes to sales and pricing practices.
The CMA issued an open letter to drug-makers and food and drink companies warning them against capitalising on the crisis by charging unjustifiably high prices for essential goods or by making misleading claims about efficacy. It also encouraged engagement if wholesalers or suppliers significantly increase prices.
The CMA has also launched an online service “Report a business behaving unfairly during the Coronavirus (COVID-19) outbreak” for the reporting of unfair prices (charged to businesses or consumers), businesses making misleading claims about products or services, problems with cancellation, refunds or exchange of products or other unfair behaviour.
The CMA has not ruled out seeking emergency powers from the Government if it considers this necessary to address negative impacts on consumers (e.g. to directly regulate prices). It has been reported that legislation is being considered by the Government to tackle profiteering.

What does this mean for clients? Companies should be mindful of the need to continue to comply with competition and consumer laws e.g. avoiding misleading or false claims about the efficacy of protective equipment.

State aid

EU State aid rules apply in the UK during the Brexit transition period which expires on 31 December 2020. On 19 March 2020, the European Commission (Commission) adopted a Temporary Framework for State aid measures to support the economy in the current COVID-19 outbreak. Under the Temporary Framework, the Commission can authorise member states and the UK to adopt aid schemes in the form of tax advantages or direct grants, State guarantees or loans on an expedited basis (within 24-48 hours). On 25 March 2020, the Commission approved two UK aid schemes. The guarantees scheme covers 80% of loan facilities for SMEs with a turnover of up to £45 million to cover their working and investment capital needs and will be implemented through the British Business Bank. Under the direct grants scheme, SMEs are eligible for up to £734,000 support in the form of a direct grant. The schemes will be in place until 30 September 2020, and can be extended by the UK until 31 December 2020.

On 3 April 2020, the Commission extended the Temporary Framework to provide for an additional five types of aid measures, including support for coronavirus related research and development, for the construction and upscaling of testing facilities, and for the production of products relevant to tackle the coronavirus outbreak as well as tax payment and social security contribution deferrals and wage subsidies for companies in sectors and regions that have suffered most from the coronavirus outbreak.

In addition, the 3 April 2020 amendment to the Temporary Framework enables member states and the UK to provide €800,000 in the form of loan, loan guarantee or equity to companies in need. The €800,000 can be combined with the de-minimis aid of up to €200,000.

In addition to the Temporary Framework, which provides for the possibility of adopting aid schemes, the UK can grant State aid under the existing (non-COVID-19) State aid rules, which permit member states and the UK, under certain conditions, to: (i) provide rescue aid without first notifying the Commission; and (ii) provide State aid to make good the damage caused by natural disasters or exceptional occurrences. On 12 March 2020, the Commission declared that COVID-19 is an exceptional occurrence. Whether larger companies that cannot benefit from the COVID-19 aid schemes, both because of their size and their funding needs, can receive Government support will need to be assessed on a case-by-case basis.

For further details, see our recent briefing here.

2. CORPORATE GOVERNANCE (INCLUDING ACCOUNTS, DISCLOSURE AND REPORTING OBLIGATIONS)

Extension to file annual accounts at Companies House

UK companies are able to apply for a three-month extension to file their annual accounts at Companies House. Although an application is necessary, companies citing COVID-19 as an issue preventing them from filing on time will be automatically and immediately granted the extension. However, companies that have already extended their filing deadline, or shortened their accounting reference period, may not be eligible. Over 10,000 businesses have already successfully applied for the extension. Guidance on how to apply is available here.

Company annual general meetings (AGMs)

Guidance on how to conduct AGMs of UK companies during the COVID-19 pandemic has been published by The Chartered Governance Institute (ICSA). It recommends that companies satisfy the quorum requirement (usually two shareholders) via designated director or employee shareholders and that any other shareholder seeking to attend the meeting in person be refused entry. Further information is available here.

In due course, companies may be allowed to postpone AGMs or hold them online. See Business Secretary Alok Sharma MP’s announcement on 30 March 2020 for further information. Details as to how these proposals are to be implemented are still to emerge.

Data collected by ISS Corporate Solutions (ISS) shows major disruption to the timing and format of AGMs in a number of jurisdictions as the COVID-19 pandemic extends into the traditional AGM season for many markets in the northern hemisphere. As of 31 March 2020, approximately 557 meetings had been postponed or cancelled globally because of COVID-19, which is more than double the total number of meetings postponed or cancelled for the full 2019 calendar year (which stood at 286). In addition, an increasing number of meetings (around 560) were held online or by proxy. Further information is available here.

Financial reporting obligations

London listed companies

On 26 March 2020, the Financial Conduct Authority (FCA), Financial Reporting Council (FRC) and Prudential Regulation Authority (PRA) published a joint statement which introduced a series of measures to ensure information flow to investors and support the continued functioning of the UK’s capital markets during the COVID-19 pandemic. The measures include:

A statement by the FCA allowing listed companies an extra two months to publish their audited annual financial reports. This is a policy of forbearance by the FCA as opposed to a rule change. The FCA has said that when the disruption abates, it will consider how best to end the policy. Further information is available here and here.
Guidance from the FRC for companies preparing financial statements in the current uncertain environment. The guidance covers corporate governance (ensuring management information is available; maintaining risk management and internal control systems; and considering the approach to dividends and capital maintenance) and corporate reporting (strategic reports and viability statements; going concern statements and material uncertainties; significant judgements and estimation uncertainty; and events after the reporting date). The FRC’s Financial Reporting Lab has sought feedback from investors on the disclosures that they would like to see and has produced a helpful document which is available here.The FRC guidance is complemented by guidance from the PRA regarding the approach that should be taken by banks, building societies and PRA-designated investment firms in assessing expected loss provisions under IFRS9. This includes guidance to lenders on how they should respond to covenant breaches by borrowers related to coronavirus.
Guidance from the FRC for audit firms where engagements are affected by COVID-19.

The FCA requested on 21 March 2020 that listed companies delay the announcement of their preliminary statement of annual results by at least two weeks, to alleviate unnecessary pressure on companies and the audit profession. The FCA has subsequently confirmed that this moratorium could end on 5 April 2020. Further information is available here.

AIM companies

AIM companies may apply for a three month extension to the reporting deadline for the publication of their annual audited accounts. This extension will be available for AIM companies with financial year ends between 30 September 2019 to 30 June 2020. The request for extension must be made to AIM Regulation by the nominated adviser, prior to the AIM company’s current reporting deadline under the AIM Rules for Companies (AIM Rules). The London Stock Exchange (LSE) will keep under review the operation of the AIM Rules and in particular, the requirements for reporting of half yearly reports under AIM Rule 18.

Disclosure obligations

The FCA has provided commentary for issuers and market participants in light of the COVID-19 pandemic in its most recent Primary Markets Bulletin (No.27). Amongst other matters, the Primary Markets Bulletin states that listed issuers should continue to comply with their obligations under MAR and the FCA rules. The FCA has stated that it ‘appreciate[s] there may be slight delays [in issuers meeting their disclosure obligations on a timely basis] as new processes are put in place’. However, we consider that the FCA would expect any such processes to now be in place.

In addition, the Primary Markets Bulletin discusses the following:

The importance of transaction notifications – Persons discharging managerial responsibilities (PDMRs) and ‘persons (who are) closely associated’ will continue to be expected to meet their notification requirements under MAR on time.
Delays in corporate reporting – If an issuer does not believe it is able to meet its continuing obligations it should take appropriate advice and contact the FCA to discuss. Issuers should also engage with their auditors, who should contact the FRC, as appropriate.
Corporate transactions and admissions – The FCA will continue reviewing documentation for corporate transactions in line with the established principles set out on its website.

Pre-Emption Group (PEG) statement on share issues during the COVID-19 crisis

In order to help London listed companies raise equity capital in the current circumstances caused by the COVID-19 pandemic, the PEG has published a statement which recommends that investors, on a case-by-case basis, consider supporting issuances by companies of up to 20 per cent of their issued share capital on a temporary basis, rather than the 5 per cent for general corporate purposes, with an additional 5 per cent for specified acquisitions or investments, as set out in the Statement of Principles. The Statement of Principles already permits companies to request a specific disapplication of pre-emptive rights outside of the normal thresholds, and this process should continue to be respected. If this additional flexibility is being sought:

the particular circumstances of the company should be fully explained, including how they are supporting their stakeholders;
proper consultation with a representative sample of the company’s major shareholders should be undertaken;
as far as possible, the issue should be made on a soft pre-emptive basis; and
company management should be involved in the allocation process.

In addition to the disclosures expected in a company’s next annual report and accounts, as outlined in the PEG’s Appendix of Best Practice in Engagement and Disclosure, any companies issuing up to 20 per cent of their capital would be expected to disclose alongside the issuance, information about the consultation undertaken prior to the issuance and the efforts made to respect pre-emptive rights, given the time available. Existing share awards should not be normalised to negate the dilutive effect of the extended issuance and the directors of the company will be held accountable for their decisions at the next AGM.

The proposals are to remain in place until 30 September 2020. The PEG will reconvene before then to assess how companies and investors have responded to the additional flexibility. For the avoidance of doubt, this statement does not signify an intention by the PEG to consider an extension beyond the 5+5 per cent threshold applicable in normal circumstances.

Short selling restrictions

The FCA has decided not to impose bans on short selling in the UK at this time. The FCA will continue to closely monitor market activity in the UK, including short selling activity, but currently considers UK markets to be operating in an orderly fashion and has found no evidence that short selling has been the cause of recent market falls.

Austria, Belgium, Greece, Spain, Italy and France have all introduced short selling bans, which the FCA has followed where relevant (i.e. where relevant shares are also traded in the UK). For further information, see FCA’s statement on UK markets.

ESMA has required net short position holders to report positions of 0.1% and above. This change to short selling reporting will apply in the UK. Further information is available here and here.

Approach taken by the European Securities and Markets Authority (ESMA)

According to ESMA’s recommended actions on COVID-19, issuers should:

disclose as soon as possible any relevant significant information concerning the impacts of COVID-19 on their fundamentals, prospects or financial situation in accordance with their transparency obligations under MAR; and
provide transparency on the actual and potential impacts of COVID-19 to the extent possible based on both a qualitative and quantitative assessment of their business activities, financial situation and economic performance in their 2019 year-end financial report if this has not yet been finalised or otherwise in their interim financial reporting disclosure.

In relation to financial reporting deadlines, ESMA has issued a public statement in which it asked National Competent Authorities (NCAs) not to prioritise supervisory actions against issuers who fail to meet certain financial reporting deadlines under the Transparency Directive (TD), for a period of (i) two months following the TD deadline, in relation to annual financial reports and (ii) one month following the TD deadline, in relation to half-yearly financial reports, provided in each case that the period of reporting referred to in such reports ended on or after 31 December 2019 but before 1 April 2020.

Where issuers reasonably anticipate that publication of their financial reports will be delayed beyond the deadline set out in national laws transposing the TD, such issuers are expected to inform their NCA of this and inform the market of the delay, the reasons for such delay and, to the extent possible, the estimated publication date.

ESMA’s statement to NCAs can be found here and ESMA’s recommended actions can be found here.

Gender pay gap reporting

Enforcement of the gender pay gap reporting deadlines has been suspended for this reporting year (2019/20). The decision, issued by the Government Equalities Office and the Equality and Human Rights Commission on 24 March 2020, means there will be no expectation on employers to report their data. Further information can be found here.

Postponement of auditor tenders and audit partner rotation

In the joint statement by the FCA, FRC and PRA, companies are encouraged to consider delaying planned tenders for new auditors, even when mandatory rotation is due. The FRC has a power in law to extend certain mandates. The joint statement also notes that where there are good reasons, for example to maintain audit quality in current circumstances, key audit partner rotation can be extended to no more than seven years (from five years). The joint statement notes that this needs to be agreed with the audit committee and does not need to be cleared with or approved by the FRC.

COVID-19 guidance for Companies House customers

Companies House has issued guidance to assist customers with accessing its services during the COVID-19 outbreak. Key highlights are as follows:

Office closures and paper filings – All Companies House offices are currently closed to the public and all same day services have been suspended as have document ordering services for older documents not shown on the filing history of Companies House Direct.

Offices in Belfast, Cardiff and Edinburgh will continue to accept paper documents, but there are likely to be significant delays in processing paper documents. The London office is not accepting paper documents and any paper documents normally sent to London should be diverted to Cardiff.

Online filings – Given the delays in processing paper documents due to COVID-19, Companies House is encouraging its customers to use its online services (WebFiling) to the extent possible. If you are not registered for online services, you may file paper documents or register for the online services. A majority of documents can be filed electronically using the online services (a full list can view viewed here). There are certain documents that can only be filed in paper form (for example, special resolutions of a company and full audited accounts cannot be filed online). For the small number of filings that do not currently have an online service, Companies House is urgently working on a service to allow customers to upload such documents and make a payment where necessary. Further details in relation to this are awaited.
Registering with WebFiling – Any business not already registered with WebFiling should note that as part of the registration process an online access code will need to be mailed to the registered service address of such business. The code is required to complete the online on-boarding process. Businesses should therefore consider if they will be able to retrieve this from their registered office before signing up to WebFiling.

ICSA guidance on good practice for virtual board and committee meetings during the COVID-19 crisis

ICSA/The Chartered Governance Institute has published guidance to assist companies in conducting virtual board and committee meetings during the COVID-19 pandemic. Key points are as follows:

Initial Considerations – Companies should consider the platform to be used for the meeting and should check their articles of association for provisions on telephone or video conferencing. Companies should also consider what equipment/IT support is required to facilitate the meeting.
Meeting structure– Virtual meetings should be structured more simply than face to face meetings and should recognise the constraints of technology. It is recommended that minutes should be taken as usual rather than recording board or committee meetings.
Accessing the meeting – Clear instructions on accessing the meeting system are essential and should be provided in good time before the meeting as not all participants will be familiar with the meeting system technology.
Conduct of the meeting – The chair of the meeting will need additional techniques to run the meeting in an orderly manner whilst also allowing for adequate debate. Appendix 1 to the guidance includes notes for the chair to assist with the smooth running of the meeting. Appendix 4 contains suggested ground rules for virtual meetings that should be circulated to participants in advance of the meeting.
After the meeting – Feedback should be obtained after the meeting so that any issues or required updates to the ground rules can be addressed before the next meeting.

Temporary changes to the LSE Dividend Procedure Timetable

London listed companies may defer the payment of dividends by up to 30 business days, but no more than 60 business days after the dividend record date, following temporary changes made to the Dividend Procedure Timetable by the LSE on 25 March 2020. After the deferral period has expired the dividend must be paid or cancelled. Any such deferral or cancellation must be notified to the LSE’s Stock Situations Team without delay. A copy of the amended timetable is available here.

Consideration also needs to be given to any company law implications of deferring or cancelling dividends.

Extension of deadline to publish annual accounts for AQSE Growth Market companies

Aquis Stock Exchange (AQSE) has temporarily extended, by one month, the date by which companies admitted to the AQSE Growth Market must publish their annual audited accounts in order to take account of the disruption caused by the COVID-19 outbreak. AQSE may consider extending this period further if it considers it to be beneficial to companies. Further information is available here.

Charity Commission guidance to assist charities during the COVID-19 crisis

The Charity Commission has issued guidance to help with the running of charities during the COVID-19 pandemic. Key highlights are as follows:

Virtual meetings – Charities should check their governing documents for any provisions allowing virtual or telephone facilities and should follow the provisions therein. Where there is no such provision in a charity’s governing document, the decision to hold a telephone/virtual meeting should be recorded.
Cancellation or postponement of meetings – Charity trustees may, if necessary, and subject to complying with the charity’s governing documents cancel or postpone AGMs or other important meetings. A record of this decision should be made to demonstrate good governance of the charity.
Financial reporting – Wherever possible, charities should endeavour to deliver their annual reports to the Charity Commission on time. Where the outbreak of COVID-19 impacts on the completion of annual returns and accounts, charities with an imminent filing date should email the Charity Commission ([email protected]).
Statement of Recommended Practice (SORP) Guidance – The Charities SORP Committee has published guidance for trustees and preparers of charity accounts looking at the potential impact of the control measures to contain COVID-19 on financial reporting by charities. The guidance considers the implications for the trustees’ annual report, going concern and the alternative basis to going concern when preparing accounts under the SORP.
Assisting with the impact of COVID-19 – Charities may assist with the impact of COVID-19 if permitted to do so by the objects clause in their governing documents. Objects that already include the relief of poverty, the relief of need, hardship or distress, the relief of the elderly, the advancement of education, the advancement in life of young people or the advancement of health are given as examples of objects that may permit a charity to provide support, as are those with general charitable purposes. However, in considering what can be done, charities must be aware of any restrictions set out in the objects, such as to benefit a specific local area or class of beneficiaries.

Alternatively, charities may seek to amend their objects to enable support to be provided. Any proposed changes should be reasonable, consistent with what the charity does, and not undermine the existing objects. Where its consent is required to amendments, the Charity Commission will prioritise any request that is urgent due to COVID-19. However, the regulator advises charity trustees to “consider carefully” whether other charities may be better placed to respond, and the wider and longer-term impacts of changing a charity’s objects, including on existing beneficiaries.

3. CYBERSECURITY AND DATA PROTECTION

Cybersecurity
The Government’s guidance for employees to work from home where possible presents new cybersecurity challenges which must be managed.

Further, cyber criminals are taking advantage of fears of the coronavirus and sending ‘phishing’ emails which encourage recipients to click links leading them to websites triggering the download of malware on to their computers or steal their passwords.

Possible legal issues arising from security breaches are as follows:

data protection and other regulatory risk arising from loss of personal data in respect of cyber-related incidents;
privacy claims brought by data subjects;
enforcement action, including the imposition of significant fines; and
commercial disputes with customers and/or third-party service providers in respect of liability for cyber-related incidents.

Home working challenges:

Good cybersecurity is essential.
What employers should be doing:
- setting up clear reporting procedure to follow in the case of a security incident;
- setting up new accounts and accesses – ensure strong passwords are used, and where possible implement two- factor authentication;
- controlling access to corporate systems – Virtual Private Networks (VPN) allow remote users to securely access an organisation’s IT resources. They work by creating an encrypted network connection that authenticates the user and device, and also encrypts data in transit. Even if employees are accustomed to using VPN, a business should ensure its VPN is able to cope with increased usage – additional licenses, capacity or bandwidth may be required if there is usually a limited number of remote users; and
- engaging security experts to perform escalating penetration tests to determine vulnerabilities within its IT infrastructure and prevent their exploitation by hackers.
What employees should be doing:
- backing-up regularly, as in a worst-case scenario an individual could fall foul of ransomware; and
- ensuring there is an up-to-date anti-virus system in place and data security software.

‘Phishing’ scams often prey on real world concerns, and in present times may claim to have a cure for coronavirus or request a donation.

It is recommended that work and leisure activities are not mixed on the same device.

It is advisable for employers to share procedures for initial steps if an employee does click on a ‘phishing’ scam, including as follows:

open any antivirus software and run a full scan, following any instructions given;
if an employee has been tricked into providing a password, they should immediately change all passwords;
contact the employer’s IT department to let them know about the “phishing” email and that they have followed this link; and
if an employee has lost money, they should report it to Action Fraud, at www.actionfraud.police.uk.

Data Protection

Enforcement – The Information Commissioner’s Office (ICO) has confirmed it will not take regulatory action against organisations that do not meet their usual standard on data protection practices or take longer to respond to information rights requests during the coronavirus pandemic, and has established a “Data protection and coronavirus information hub”. Notwithstanding the ICO’s recognition of the demands of the crisis, GDPR reporting/notification requirements remain in place, and are likely to be enforced assiduously. Meanwhile the European Data Protection Board (EDPB)reminds us that even now the data controller and processor must ensure the protection of personal data and stresses the applicability of national law, but notes the emergency may legitimise proportionate and time-limited restrictions of freedoms.

Symptomatic workers – The ICO has said it is reasonable for employers to ask people to tell them if they are experiencing COVID-19 symptoms and staff should be informed of these, but individuals probably do not need to be named and no more information than is necessary should be provided.

Data sharing between healthcare organisations – Data controllers in certain healthcare organisations have been asked to share information to support efforts against COVID-19. The GDPR continues to apply and organisations must remain compliant; however, those organisations that have been notified may share patients’ data provided it is limited to COVID-19 purposes and they keep appropriate records of all data processed. The data sharing power will expire on 30 September 2020, unless extended. Further information is available here.

Mobile phone data – The ICO and EDPB have said the use of mobile phone location data to track the spread of COVID-19 will remain outside the scope of the GDPR, provided it is properly anonymised, aggregated and deleted as soon as the COVID-19 emergency comes to an end.

For further information on these areas, please see Gibson Dunn’s alert of 20 March 2020.

4. DISPUTES

Operation of the Courts

The pandemic is impacting litigation and other court proceedings, marked by an increased use of remote hearings, adjournment of cases considered unsuitable for remote hearing, and general court closures. The work of courts and tribunals has been consolidated into fewer buildings, with a network of “priority courts” (magistrates, county, and family courts) remaining open across the country. Jury trials that are underway in County Courts will continue, provided that appropriate measures can be put in place to protect the parties, but there are to be no new jury trials.

The change in the courts’ working practices is facilitated by the emergency Coronavirus Act 2020, passed on 25 March 2020, which aims to ensure that the courts can continue to function without the need for participants to attend in person, and to reduce delays to the administration of justice. To that end, it contains provisions (Sections 53 to 57 and Schedules 23 to 27) enabling greater use of technology to hear (particularly criminal) cases remotely (see a summary in the Coronavirus Bill Impact Assessment). There is already flexibility in the Civil Procedure Rules (CPR) and Family Court rules to hear cases remotely.

Relatedly, much guidance has been issued by the Judiciary and Her Majesty’s Courts and Tribunal Service (HMCTS) (see Gov.uk and Courts and Tribunals Judiciary websites), including:

The Lord Chief Justice explained the position regarding civil and family matters on 23 March 2020: hearings requiring the physical presence of parties and their representatives and others should only take place if a remote hearing is not possible and if suitable arrangements can be made to ensure the safety of all concerned.
The Judiciary of England and Wales has issued a Protocol Regarding Remote Hearings, providing basic guidance on the conduct of remote hearings in the County Court, High Court, and Civil Division of the Court of Appeal, in view of the objective to undertake as many hearings as possible remotely, so as to minimise the risk of transmission of COVID-19.
HMCTS is issuing daily updates on developments involving the Courts and the Civil Procedure Rules Committee has confirmed further CPR updates at short notice are likely to be published.

The following temporary CPR practice directions have also been introduced:

Practice Direction 51Y, on Video or Audio Hearings During Coronavirus Pandemic, came into force on 25 March 2020. It provides that where the media is able to access proceedings remotely, they will be public proceedings, and that remote hearings being held in private must be either audio or video recorded.
Practice Direction 51Z, on Stay of Possession Proceedings – Coronavirus, came into force on 27 March 2020. It provides for the stay of proceedings for possession brought under CPR Part 55 and all proceedings seeking to enforce an order for possession by warrant or writ, for a period of 90 days during the COVID-19 pandemic.
Practice Direction 51ZA, on Extension of Time Limits and Clarification of PD51Y – Coronavirus, came into force on 2 April 2020. It extends the period of extension that parties may agree without formally notifying the court from 28 days to 56 days. An extension of more than 56 days needs to be agreed by the court, which is required to take the impact of the COVID-19 pandemic into account when considering applications for extensions of time, compliance with directions of the Court, adjournment of hearings, and relief from sanctions. It also stipulates that the Court will take into account the impact of COVID-19 when considering applications for the extension of time for compliance with directions, the adjournment of hearings, and applications for relief from sanctions.

Civil Courts – County Courts

Per HMCTS guidance issued last week, the County Courts are prioritising, as “Priority 1 – work that must be done”, freezing orders, injunctions, any cases with a real time element, any applications for cases listed in the next three weeks, any applications where there is a substantial hearing listed in the next month, all multi-track hearings where the parties agree it is urgent, as well as appeals in all these cases. The same guidance also lists “Priority 2 – work that could be done”, which includes applications for summary judgment for a specified sum and applications for security for costs.

Civil Courts – The High Court

The High Court is operating pursuant to a “Contingency Plan for Maintaining Urgent Court Hearings”, which explains that “urgent business” will be given priority, but clarifies that the High Court will seek to address non-urgent business (“business as usual”) as far as possible during this period, subject to specific guidance issued by the different Divisions and Courts. The Contingency Plan defines “urgent business” as “business that would warrant an out of hours application in any of the courts covered by this plan”, leaving this to the discretion of the relevant duty judge. At any one time during the working week, at least one judge from each of the Queen’s Bench Division, the Administrative Court, the Commercial Court, the Technology and Construction Court, the Court of Protection, the Family Division and the Chancery Division will be available to deal remotely with the business of that jurisdiction, including urgent business.

The Rolls Building Cause list illustrates that hearings are now proceeding “Remotely via Skype” or “Remotely via telephone conference”, and that the media and members of the public can contact the Court for access. Recently, the various changes enabled Mr Justice Teare to conduct a hearing via Zoom, in the dispute between the Republic of Kazakhstan and its national bank and BNY Mellon and others, which was also streamed on YouTube.

Notably, winding-up and bankruptcy petitions scheduled for hearings are, in most cases, being adjourned to June 2020, on the basis that such petitions cannot be conducted remotely and because in-person hearings cannot be safely conducted.

It is possible to use CE-File to file applications and new claims (or email the respective registries) in the usual manner, although the Law Society has explained that it is working with HMCTS to further streamline procedures. There may be a delay in processing routine filings and non-urgent claims may not progress for some time. Note that filing deadlines in the High Court have not been affected, however PD 51ZA may result in parties agreeing to a longer extensions.

Civil Courts – Court of Appeal

The Court of Appeal (Civil Division) is conducting urgent work only (applications and hearings), with all hearings being held remotely.

The RCJ Civil Appeals Office has issued separate guidance explaining that it will only deal with urgent applications, i.e. “applications where it is essential in the interests of justice that there be a substantive decision within the next 7 days”. Non-urgent applications can still be lodged and will be dealt with as soon as the office increases its capacity to manage new non-urgent work.

The Supreme Court

The Supreme Court building and Registries of both the Supreme Court and Judicial Committee of the Privy Council (JCPC) are both temporarily closed. The Registries closed on Friday 20 March and are not due to re-open until Monday 20 April, although this date is subject to ongoing review. In the interim, if there are deadlines for filing documents in either the Supreme Court or JCPC that expire on a business day, these will be extended automatically until 20 April. This does not mean that documents due on or after 20 April, however, will have their deadlines automatically extended. Any hearings during this time will be conducted via video conference and streamed live as usual.

Implications for arbitration proceedings

COVID-19 is likewise impacting arbitration hearings, though it should be noted from the outset that many of the main arbitral institutions, such as the ICC and LCIA, remain fully operational (see the ICC’s recent press release here; and the LCIA’s recent press release here).

Over recent weeks we have seen the postponement of a number of hearings scheduled during the likely affected period. Some institutions have specifically ordered the postponement of hearings: for example, the ICC International Court of Arbitration, has postponed or cancelled all hearings scheduled to take place at the ICC Hearing Centre in Paris until 13 April 2020. Of course, the length of the affected period is currently unknown and in many cases it may preferable, given the inevitable costs of delay and difficulties of rescheduling, for the parties to agree for upcoming hearings to be held remotely.

In that regard, we note that under all of the main arbitral institutional rules, a tribunal has the power to order a hearing to proceed – see, for example, the ICC 2017 Rules, Article 22(2) (“the arbitral tribunal, after consulting the parties, may adopt such procedural measures as it considers appropriate”), and the LCIA 2014 Rules, Article 14.4(ii) (“Tribunal’s general duties [include]…a duty to adopt procedures suitable to the circumstances of the arbitration, avoiding unnecessary delay and expense…”) – and counsel and parties will be expected to cooperate.

Many arbitral tribunals have in any case embraced the use of hearing room technology over recent years, including the taking of evidence via video link and having fully electronic hearing bundles. There are a number of useful video-conferencing protocols already in existence, which parties and tribunals can refer to (including the 2018 Seoul Protocol and 2019 Hague Conference Draft Guide to Good Practice on the Use of Video-Links Under the Evidence Convention). Indeed, in response to COVID-19, arbitral institutions have taken the opportunity to remind members and parties of their online dispute resolution facilities. ICSID, for example, has issued a Brief Guide to Online Hearings. SIAC has likewise issued a press release suggesting the use of certain virtual ADR services.

Filing deadlines are inevitably also being affected by the pandemic, due to the logistical challenges presented by parties and their counsel working remotely, and we are seeing a number of deadlines being pushed back by several weeks. Helpfully, institutions such as ICSID and the LCIA, permit filings to be made entirely online.

5. EMPLOYMENT

Coronavirus is already having an unprecedented effect on employers and their workforces. Employers have been told to allow their employees to work from home where possible. Further, the Chancellor has introduced a number of unprecedented package of measures to support businesses and employers coping with the economic shock of coronavirus, including the Coronavirus Job Retention Scheme. As we know, the pandemic is continually changing and the Government and Acas advice for employers is being updated as the situation develops. Employers should keep track of this guidance and that of the World Health Organisation. Gibson Dunn has produced a series of client alerts focusing on initial UK employment law changes: 17 March 2020, 20 March 2020, 27 March 2020.

6. ENERGY

The energy industry is currently grappling with the impact of three concurrent crises: a crash in the oil price (and continued high volatility, with the market awaiting the outcome of the deferred OPEC+ meeting on 9 April 2020), a record low in gas prices and the global COVID-19 pandemic. This creates additional complexity in responding to each crisis and poses an unprecedented challenge to the sector as a whole. A few of the COVID-19-driven key areas/trends relevant to the sector which we are seeing are below.

Definition of critical sectors / key workers

The energy supply chain falls within the Utilities, Communication and Financial Services “critical industry” sector as set out in the UK’s COVID-19 guidelines, and the Government has throughout emphasised to industry that it views the energy sector as a whole as vital. However, being categorised as a “critical industry” does not automatically mean that all employees of companies within the sector have “key worker” status and are exempt from travel and work restrictions. The onus is on each company to use its discretion in preparing its list of key workers and to be able to justify such classifications.

To seek to formalise these designations, various industry organisations as well as individual companies have prepared travel authorisation templates that can be printed on company letterhead to allow daily travel access for “key workers” in critical industries.

Supply chain issues

There are disruption issues across the energy supply chain (as there are for all industries), including bottlenecks and cash flow problems. Maintaining security of supply in the UK is key to ensuring a resilient supply chain on the other side of COVID-19, and various solutions are being sought throughout the sector. In some cases this includes collaborating and sharing equipment and personnel, which would usually raise potential anti-trust concerns which companies should consider carefully before entering into any such arrangements. For a summary of the CMA’s current views, please see 1. Competition and Consumers above.
The economic health of the energy industry is a key concern, especially given the extensive cost-cutting measures already enacted after the oil price crash of 2014-2015, the sustainability of which was already in question. Some industry observers have noted that only as little as 14% of the cost reductions achieved between 2015-2017 may be sustainable going forward.

There is also an increase in force majeure claims under contracts at various points in the supply chain. See our guidance on COVID-19 impacts on LNG and other commodities contracts here, together with our 4-step force majeure checklist for English law and New York law.

Stranded middle ground for SMEs

The energy industry also has a large number of “stranded middle” businesses which had not been previously eligible for the COVID-19 relief packages put forward by the Government, whether for small businesses with a revenue of less than £45 million (Coronavirus Business Interruption Loan Scheme (CBILS)) or for larger investment grade companies (COVID-19 Corporate Financing Facility (CCFF)), and are at substantial economic risk. The Government has now taken welcome strides in expanding the relief available to such businesses through the introduction on 3 April 2020 of the Coronavirus Large Business Interruption Loan Scheme (CLBILS) for businesses with turnover of between £45 million and £500 million.

Where business interruption schemes are available, there is a concern that in practice banks are asking business owners to provide personal guarantees, thereby undermining the intent of the support offered. The most recent update to CBILS (announced 3 April 2020) seeks to address this – for further details please see 7. Finance below.

Harmonisation between England and Scotland

The Government has acknowledged to industry that in the response to the COVID-19 crisis to date there has been a lack of consistency between the English and Scottish Governments, for example in the approach to construction work (with the English Government striving to ensure construction work continues, whereas the Scottish Government has sought to stop work but confirmed that it may continue for essential projects) The national Governments are working to align their positions but for the time being there is some concern as to the effects of such differences in application.

Energy transition

The longer term impacts of the current crises are yet to fully reveal themselves, but the Government for its part has taken pains to emphasise that it remains committed to net-zero 2050 and that the oil and gas industry is a key stakeholder in delivering the transition. The sector is awaiting the publication of the Government’s delayed energy white paper which is expected to contain a more detailed pathway to net-zero 2050. Some observers have asserted that the dramatic cuts in emissions caused by the global quarantine measures may spur additional momentum for the climate transition, especially in conjunction with low oil prices making renewables competitive in terms of rates of return if the low oil price environment is sustained. While this may be true for proven renewables projects, there is also a risk of a move away from investment in more capital intensive and unproven technologies.

Regulatory flexibility

In line with other regulators during the COVID-19 crisis, the UK’s Oil and Gas Authority (OGA) has indicated it will show flexibility on a case by case basis where circumstances have affected operator and owner timelines. This includes with respect to the UK’s ongoing 32nd offshore licensing round, as well as in respect of potential licence extensions. The OGA’s Maximising Economic Recovery (MER) Strategy Consultation is also proceeding, but with a view to ensuring companies have adequate time to respond given current circumstances. The Health and Safety Executive has put a short pause (currently two weeks, though this is under review) on offshore oil and gas inspection activities to allow duty holders time to overcome various immediate pressures and challenges. However, major hazard oversight continues as usual.

7. FINANCE

Financial statements

In England, private companies ordinarily have nine months from their balance sheet dates to finalise and file audited accounts with Companies House. However, on 25 March 2020, Companies House announced the ability for companies to take advantage of a three-month extension for the filing of their audited financial statements. On 26 March 2020, the FCA also announced temporary relief for publicly listed companies facing the challenges of financial reporting during the COVID-19 crisis by providing an additional two months over and above the normal four month period to publish their audited financial statements. See 2. Corporate Governance above for more details.

Covenants in financing agreements typically require audited financial statements to be provided in a shorter timeframe than that prescribed by law, and therefore it may be necessary for companies to engage with lenders to seek to extend the timeframes in which audited financial statements are to be provided to ensure no defaults arise.

Auditors are also typically requiring more time to finalise their audit of the financial year 2018/9: this allows companies sufficient time to provide additional disclosure relating to the impact COVID-19 of their operations and performance in line with IFRS.

We think it is unlikely that auditors will qualify their going concern opinions with respect to accounts for 2018/2019 (given the COVID-19 outbreak hit Europe in 2020) but companies should be prepared to engage with auditors on emphasis of matter provisos. This is an important issue for companies with financing given an audit qualification is typically an express default under financing documents.

Liquidity

There is enormous need for liquidity in the market – companies are looking for ways to ensure available committed and uncommitted facilities can be tapped when required and also ways to facilitate the injection of equity capital into the operating groups to provide liquidity where required. The need for liquidity has also involved companies seeking to take advantage of permitted indebtedness buckets for local working capital financing, trade financing and other potential means of borrowing within the terms of their credit agreements.

There is also increasing covenant pressure (for those borrowers with financial maintenance covenants) and incurrence covenant-driven pressure on operational flexibility and we would expect to see an increase in borrower-requests for postponement of testing, covenant resets , amendments and in some cases deferral of interest and other payments.

Additional liquidity may be available under the Coronavirus Business Interruption Scheme. This temporary scheme supports small and medium-sized businesses with an annual turnover of up to £45 million with access to £5 million of finance in the form of term loans, overdrafts, invoice finance and asset finance facilities for up to six years. The Scheme has also been extended to enable banks to make loans of up to £25 million to firms with an annual turnover of between £45 million and £500 million. The scheme will be delivered through commercial lenders (including all major UK-operating banks), backed by the Government-owned British Business Bank. As part of the scheme, the Government will provide lenders with a guarantee of 80% on each loan (subject to a per-lender cap on claims). The Government will also make a business interruption payment to cover the first 12 months of interest payments and any lender-levied fees.

If a lender can offer finance on normal commercial terms without making use of the Scheme, it will do so. Security is not required to secure lending below £250,000. For any borrowing above £250,000, it is open to lenders to ask for security including personal guarantees from directors and security over their assets in support of such guarantees, however, there is a prohibition on taking security over a director’s primary residential property. Taking into consideration the Government’s guarantee, any personal guarantees for borrowing in excess of £250,000 are capped at 20% of the outstanding value of the loan. The full rules of the Scheme (including eligibility and the application process) are available on the British Business Bank website. Any such financing would need to be permitted under the terms of the relevant company’s finance documents, or where the lenders permit such additional debt, security and guarantees (if any) to be incurred.

8. FINANCIAL SERVICES REGULATORY

Financial services regulatory client alerts

Financial Conduct Authority

The FCA has published a statement on the impact of COVID-19 on the SM&CR, setting out its expectations of solo-regulated firms. It covers senior management responsibilities, statements of responsibilities and significant changes to senior manager responsibilities, temporary arrangements for senior management functions, furloughed staff and reallocating prescribed responsibilities (here).

Prudential Regulation Authority / Bank of England

The PRA and FCA have jointly published a statement on the impact of COVID-19 on the Senior Managers and Certification Regime, setting out their expectations of dual-regulated firms. Firms are reminded of the “12-week” rule, which allows individuals to perform senior management functions without approval for a temporary period. They also state that they do not expect firms to designate a single senior manager to be responsible for all aspects of their response to COVID-19 (here).
The PRA has published a statement on amendments made to regulatory reporting and Pillar 3 disclosure requirements as a result of COVID-19. The statement provides for delays to certain reporting requirements under the Capital Requirements Regulation and the Bank Recovery and Resolution Directive. Delays are also permitted for certain “PRA-owned regulatory” reports (here).
The PRA has published a Dear CEO letter to UK insurers asking them to pay close attention to the need to protect policyholders and maintain safety and soundness when considering any distributions to shareholders or making decisions on variable remuneration (here).
The Bank of England and the PRA have published a joint statement welcoming the delay in implementation of the final Basel III standards by one year, to 1 January 2023. The delay is intended to provide operational capacity for banks and supervisors to respond to the immediate financial stability priorities from the impact of COVID-19 (here).
The PRA has published a statement on deposit takers’ approach to dividend payments, share buybacks and cash bonuses in response to COVID-19. In particular, the PRA expects banks not to pay any cash bonuses to senior staff, including all material risk takers (here).

9. FORCE MAJEURE

We have prepared a 4-Step Checklist & Flowchart to assist with the analysis of force majeure clauses under English law. Read more here.

10. GOVERNMENT SUPPORT SCHEMES

On 3 April 2020, the Government announced changes to the Coronavirus Business Interruption Loans Scheme (CBILS), on which we previously prepared a client alert. CBILS has been extended with the aim of benefitting both smaller businesses and larger enterprises that were previously unable to access the scheme. Under the revised scheme:

businesses with revenues of £45 million or less can access up to £5 million in loans. The primary change for these businesses is the ban on lenders requiring any personal guarantees or security from borrowers for loans of up to £250,000; and
larger businesses with revenues of between £45 million and £500 million can also now access the CBILS with loans of up to £25 million available. The CBILS was previously unavailable to businesses with revenue in excess of £45 million.

The Government has also confirmed that it will guarantee up to 80% of the outstanding amount of each loan issued under the CBILS (subject to a per-lender cap on claims). The loans under the CBILS continue to be issued by commercial lenders on commercial terms. Further details on the expansion of the CBILS are expected to be released later this month.

See our recent client alert for more information.

11. INSOLVENCY

Wrongful trading

In response to the unprecedented stress that the COVID-19 pandemic has placed on businesses (in the UK and elsewhere), the Government announced on 28 March 2020 that the “wrongful trading” provisions of the UK Insolvency Act 1986 would be suspended with retroactive effect from 1 March 2020, initially for three months. Further details of the suspension will become known once the legislation to implement the change is introduced to Parliament (which the Government has said that it will do at the earliest opportunity). The suspension of wrongful trading liability follows on the heels of similar steps taken in Germany and Australia.

Separately, the Financial Reporting Council (FRC) has published guidance for companies on various issues, including going concern statements and material uncertainties in the current environment.

Wrongful trading is a creditor protection mechanism contained in the UK Insolvency Act 1986, pursuant to which an administrator or liquidator can seek to render a director personally liable for some or all of a company’s losses if the director knew or ought to have concluded that there was no reasonable prospect of the company avoiding an insolvent administration or liquidation and where that director failed to take every step with a view to minimising potential losses to creditors. A finding of wrongful trading can also result in the director being disqualified from acting as a director of English companies for up to 15 years.
Fear of potential wrongful trading liability is one of the key drivers for directors to file for administration or liquidation in relation to a company and, given the current unpredictable market conditions, has been at the very front of directors’ minds. The Government’s suspension of wrongful trading has provided significant comfort to directors who face the difficult decision (on a day-to-day basis as the trading picture in the UK evolves) whether to brace and persevere until trading conditions improve or file for administration or liquidation. The suspension of wrongful trading does not, however, avoid the need for directors to continue to comply with their duty to promote the success of the company, to act in good faith in the best interests of the company or other duties or obligations. Directors need be aware that in the UK, acting in the best interests of the company (when that company is in the zone of insolvency) is equated to acting in the best interests of the company’s creditors rather than (or opposed to) the interests of its shareholders. The Government also noted that existing laws for fraudulent trading (i.e. trading with intent to defraud creditors, or for any fraudulent purpose) and the threat of director disqualification, will continue to act as an effective deterrent against director misconduct.

The Government also stated its intention to implement a previously announced (August 2018) programme of insolvency and restructuring reforms, including the creation of a short-term breathing space moratorium for financially distressed companies to facilitate restructuring, UK-style company-led plan of reorganisation process (which will be something of a hybrid between a US Chapter 11 proceeding and a UK Scheme of Arrangement with a supporting moratorium), which will bind creditors to that plan, and a restriction on the effectiveness of so called ipso facto contract clauses (i.e. where a contract terminates by reason of actual or anticipated insolvency) for certain key contracts to permit a restructuring plan to be formulated and implemented. The Government has stated that the intended reforms will include key safeguards for creditors and suppliers to ensure that are paid while a solution is sought.

12. INTERNATIONAL TRADE AGREEMENTS (PRIVATE AND PUBLIC)

The COVID-19 pandemic has already had a catastrophic impact on international markets, with far reaching impacts on international trade that will be felt for years to come. In the short term, government authorities responsible for the regulation of global trade have been hobbled by the rapidly spreading pandemic and its resulting restrictions on their ability to work. Nevertheless, several early initiatives may serve as a harbinger of things to come, as regulators around the globe act to mitigate the impact of the pandemic on global supply chains and national security. See Gibson Dunn’s client alert for further information on the first visible impacts on and changes to global export controls, tariffs, foreign direct investment regulations, and sanctions and respective enforcement.

13. LOCKDOWN AND PUBLIC LAW ISSUES

Health Protection (Coronavirus) Regulations 2020

The Health Protection (Coronavirus) Regulations 2020 came into place on 10 February 2020 and allowed the detention and isolation of individuals in circumstances where a public health official has reasonable grounds to suspect that an individual is, or may be, infected with coronavirus. The regulations are very wide reaching and notably give the Secretary of State (or any other public health official) the power to impose on anyone they have reasonable grounds to believe is infected with the virus, or on anyone arriving from an infected country, “any other restriction or requirement which [they consider] necessary for the purposes of removing or reducing the risk”.

Coronavirus Act 2020

The Coronavirus Act 2020 was enacted on 25 March 2020 and gave the Government emergency powers to address the public health crisis caused by coronavirus. Among numerous other provisions, it gives the Government the power to restrict or prohibit public gatherings, suspend public transport, order businesses to close and temporarily detain individuals suspected of being infected by the virus.

Health Protection (Coronavirus, Restrictions) (England) Regulations 2020

On 26 March 2020, the Government enacted the Health Protection (Coronavirus, Restrictions) (England) Regulations 2020 which repealed the Health Protection (Coronavirus, Business Closure) (England) Regulations 2020, imposed a national lockdown and mandated the closure of most businesses except those deemed to be essential. The restrictions also prevent any person from leaving their homes without a reasonable excuse such as to obtain basic necessities, take exercise, seek medical assistance, provide care to a vulnerable person, or travel to work but only where necessary and prevent public gatherings of more than two people, with a small number of exceptions. Breach of the regulations by businesses and individuals is a criminal offence punishable by a fine. The restrictions are subject to review every 21 days, with the first review taking place on 15 April 2020.

UK police warned against “overreach” of lockdown powers

In recent news, police have been warned to make their use of emergency powers to enforce social distancing laws consistent and not overreach their new powers. Former Supreme Court justice, Lord Sumption has also warned that excessive measures risked turning Britain into a “police state”. The College of Policing has drawn up guidance for police on use of the new powers, stressing “policing by consent” and recommending that only after encouraging voluntary compliance; explaining the risks; and encouraging the individual to comply, will use of the new enforcement powers be appropriate, such as issuing a £60 penalty notice or using prohibition notices to prevent public gatherings.

14. M&A AND PRIVATE EQUITY

Since the onset of COVID-19 and the global lock-down, we have continued to execute a range of transactions (both public and private M&A, joint ventures investments and commercial arrangements) of a cross-border and domestic nature.

This is a checklist of some of the issues that we have experienced in executing transactions and which clients should be mindful of when undertaking, negotiating or executing transactions in this new challenging landscape.

Exclusivity agreements

Transactions may take a longer period to consummate including for reasons of regulatory or closures and/or delays, the need for third party-debt financing or third party approvals/consents in circumstances where these cannot be secured with the “usual” levels of expediency or simply due to the practical issues arising in executing transactions (undertaking due diligence and negotiating transaction documents) on an entirely remote basis.

Accordingly, when negotiating exclusivity provisions (initial periods, rolling periods, long stop dates or similar), be mindful of what a reasonable time frame(s) is taking into account the factors listed above and consider building in a healthier cushion into exclusivity periods and/or including specific mechanics to extend by reason of such delays.

Due diligence

Most if not all businesses have been impacted in some way by COVID-19. Many of these businesses have had to put in place new operations and emergency measures to address the ever-changing landscape in which they operate. Some of these key operational and strategic decisions may have been undertaken with necessary haste and in some cases at the expense of the standards of governance, oversight, MI, systems and controls that would prevail in business-as-usual environment.

Whilst in many areas, regulators and other agencies have relaxed certain rule requirements and are applying forbearance and a change to their enforcement strategy, buy-side diligence should include a specific review of COVID-19 related arrangements and new policies with a view to identifying weaknesses and areas of risk both in relation to legal and regulatory compliance and new operational structures which have been put in place.

Warranty & Indemnity (W&I) insurance

W&I insurance can typically serve as a useful tool for both buyers, in terms of enhancing or supplementing contractual protections, and for sellers, in terms of reducing contingent liabilities and related benefits.

In response to the pandemic, we are seeing changes to the W&I market. Specifically, insurers are currently proposing certain exclusions from coverage with respect to COVID-19 risk and are requiring buyers to conduct focused diligence regarding the impact of COVID-19 on the target’s business. See here for some of the parallel development in the representation and warranty insurance market for US M&A transactions.

Shareholder consent

Does the transaction require buyer or seller shareholder consent at a special shareholders’ or general meeting?

If so, be mindful of the technical and practical requirements in ensuring (or reviewing) the arrangements that are put in place to secure a validly convened shareholders’ meeting. If a virtual shareholder meeting is proposed, note that not all jurisdictions permit such meetings.

See 2. Corporate Governance above on guidance published by ICSA/The Governance Institute on holding annual general meetings (AGMs) and UK proposals (yet to be published) on “online” or virtual meetings.

See also below on possible delays arising in connection with the approval of shareholder circulars.

Transactional documents requiring regulatory review or pre-vetting

Does your transaction require the publication of a shareholder circular, prospectus or other transactional document requiring review by the relevant listing authority or financial services regulator?

In the UK, at the present time, the FCA has stated that they will continue reviewing documentation for corporate transactions in line with their established principles. See here for current turn-around times for review of circulars and prospectuses. The FCA have also said that if any issuers are involved in urgent transactions, they should consult with their sponsor or adviser in the first instance.

On cross-border transactions, try to obtain guidance early in the transaction as to the approach being taken by the relevant regulators. Some agencies have all but shut save for the most urgent of cases (e.g. involving distressed or other similar transaction situations) whilst others are continuing to review transactions albeit on a prioritised basis and/or on longer time frames.

Court approved transactions

In the UK, the courts are currently continuing to deal with schemes of arrangement, including reductions of capital and cross-border mergers albeit remotely via skype or by telephone conference.

For some jurisdictions however, in the light of closures of many courts, capacity constraints on remote hearings and case prioritisation (e.g. official guidance that non-urgent cases will not be heard), it is possible that there may be delays in securing dates for relevant procedural or final hearings (e.g. directions hearing and/or a sanctions hearing in the case of schemes of arrangement). Some courts may require a certificate of urgency and/or evidence to be submitted to support the urgency of the transaction.

Further, in such transactions which are conditional upon the relevant shareholder approvals being secured, the courts may apply greater scrutiny to the manner in which the shareholder meetings were convened, the forum in which they were held and turn-out. Companies should consider granting greater than usual latitude and/or discretion to the chairman of the meeting (within the terms of any governing documents) to allow for flexibility to address changing circumstances.

15. REAL ESTATE

Commercial outlook

Several quarterly and monthly open-ended property funds, including funds at Blackrock, Schroders, Legal & General and Royal London, have locked up their funds, a dramatic move which echoes many funds’ reactions following market dislocation after the Brexit announcement in summer 2016. The FCA and the Bank of England were already cooperating to develop protective measures for investors, before the COVID-19 crisis began impacting the economy. Gerald Eve, a specialist real estate advisor, has commented that Property Total Returns, Morgan Stanley Capital International’s (MSCI) standard composite measure of investment performance, will drop to -4.3% for 2020 as a result of the current crisis. However, they expect the damage to be short-lived with a resurgence of demand bringing Returns up to 7.6% in 2021. Gerald Eve also suggested that, given the logistical difficulties of completing deals, and the financial pressures on funds, they expect only far-advanced transactions to continue to close with other transactions abandoned or paused. It was revealed in the press recently that Columbia Threadneedle, a global asset manager, has withdrawn from its £510 million agreement to buy Manchester Airport Group’s Victoria portfolio, despite having exchanged, apparently relying on a MAC clause in their acquisition contract.

Government action

Although the Prime Minister had said that the Government was due to review the lockdown after Easter, with new confirmed cases continuing to rise daily it is unlikely that the lockdown will be loosened at their review. The Ministry for Housing, Communities and Local Government (MHCLG) has issued responses to questions posed by the Property Litigation Association on section 82 of the Coronavirus Act 2020 (Act) which introduced protection for businesses from forfeiture as a result of non-payment of rent. The answers clarify that rent includes all sums payable under the lease and that the policy aims to cover all commercial leases, whether short, contracted out or excluded. A number of retail tenants have made headlines by refusing to pay their rent following the 25 March quarter date. The Government advice has not changed since a moratorium on forfeiture for non-payment of rent having had been introduced. Crucially, no suspension of the obligation to pay rent was introduced by the Act or by the answers provided by MHCLG so rent remains payable. Institutional landlords up and down the country have seen a dramatic fall in rents received on the 25th March quarter day (with some hotel owners receiving next to nothing and retail/shopping centre owners averaging less than a third). This will make for difficult discussions with their lenders over deferral of debt service obligations under their secured financings.

16. UK TAX

Our client alert on tax measures in respect of the COVID-19 is available here. Updates to our client alert published on 27 March 2020 are as follows:

HMRC approach to UK company residence and permanent establishments in response to COVID-19

HMRC has confirmed that it does not consider that:

a company will necessarily become resident in the UK because a few board meetings are held here or because some decisions are taken in the UK over a short period of time.
a non-resident company will automatically have a taxable presence by way of permanent establishment after a short period of time. Similarly, whilst the habitual conclusion of contracts in the UK would usually create a taxable presence in the UK, it is a matter of fact and degree as to whether that habitual condition is met.
HMRC’s guidance is available here and here.
HMRC’s recent pronouncements do not address all aspects of the UK tax system that may be impacted by COVID-19 (in particular, CFC and transfer pricing matters) and further HMRC guidance in other areas (in particular the impact on employment taxation) is anticipated in the light of recent OECD recommendations.

Residence for individuals

HMRC has published new guidance on whether days spent in the UK can be disregarded due to exceptional circumstances for the purposes of determining an individual’s tax residence. The guidance can be found here.

Tax treatment of the Coronavirus Job Retention Grant

Payments received by a business under the scheme are made to offset deductible revenue costs. Payments must, therefore, be included as income in the business’s calculation of its taxable profits for Income Tax and Corporation Tax purposes, in accordance with normal principles. Businesses can deduct employment costs as normal when calculating taxable profits for Income Tax and Corporation Tax purposes.

Income tax and NICs for furloughed employees

The Government has clarified that:

◦ while on furlough, the employee’s wage will be subject to usual income tax, employee national insurance contributions and automatic pension contributions from the employee (unless the employee has stopped saving into their pension). Employer national insurance contributions and the minimum automatic enrolment employer pension contributions will be paid by the Government under the Coronavirus Job Retention Scheme.

◦ the reference salary for the purposes of the Coronavirus Job Retention Scheme should not include the cost of non-monetary benefits provided to employees (including taxable benefits in kind) nor benefits provided through salary sacrifice schemes (including pension contributions). Where an employer elects to provide such benefits to furloughed employees, that should be done outside of, and in addition to the wages that must be paid under the terms of, the Coronavirus Job Retention Scheme.

Business rates relief

The business rate holiday has been extended to nurseries.

Extend accounts filing deadline

Companies affected by COVID-19, whose filing deadline has not yet passed, can apply for an automatic and immediate three month extension to file their accounts. If companies do not apply for an extension and their accounts are filed late, an automatic penalty will be imposed. The Government has advised that the registrar has limited discretion not to collect a penalty and any appeal will be considered under the usual appeal policies. More information is available here.

No import duty and VAT for certain medical supplies, equipment and protective garments

Importers of certain medical supplies, equipment and protective garments will pay no import duty and VAT where goods are imported either (i) for distribution free of charge to those affected by, at risk from or involved in combating the COVID-19 outbreak or (ii) made available free of charge to those affected by, at risk from or involved in combating the COVID-19 outbreak (while remaining the property of the organisations importing them). A full list of eligible goods is available here.

Apprenticeship levy

The Government has confirmed that there are currently no plans to make any changes to apprenticeship levy arrangements or to pause the collection of the apprenticeship levy because of the COVID-19 disruption. Employers continue to have 24 months in which to spend their levy funds before these expire. Further details are available here.

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

The COVID-19 pandemic is undoubtedly the biggest public health crisis of our times. Like many other countries, the UK Government has exercised broad powers and passed new laws that impact how we do business and interact as a society.

To address the pandemic, the Government announced several sweeping regulations and ushered through the Coronavirus Act 2020. These actions have a broad impact on law, public policy and daily life, impacting areas including health, social welfare, commerce, trade, competition, employment and the free movement of people.

Join our team of Gibson Dunn London lawyers, led by partner and former Lord Chancellor Charlie Falconer QC, for a discussion of these changes and to answer your questions on how they will affect British businesses and community, including the impact on new and ongoing business relationships.

In our first webinar of the series we will cover:

The Government’s use of the law to face down the pandemic, including the use of powers under the Public Health (Control of Disease) Act and the new Coronavirus Act
The impact of the pandemic on the administration of justice, as well as implications for arbitration cases, and what this means for new and pending disputes
The changes to workplaces, including the Chancellor’s support measures for businesses, and the rights and obligations of employers and employees

We want to hear from you about the impacts the current measures and conditions are having on your business and the legal issues you are facing. We therefore welcome suggested topics, as well as questions in advance of each webinar, to ensure that we can address issues relevant to your business.

PANELISTS:

Charlie Falconer QC: An English qualified barrister and Gibson Dunn partner. Former UK Lord Chancellor and first Secretary of State for Justice, he spent 25 years as a commercial barrister, and became a QC in 1991

Matt Aleksic: An Associate in the Litigation and International Arbitration groups of Gibson Dunn. Experience in a wide range of disputes, including commercial litigation, international arbitration and investigations

Sarika Rabheru: An Associate in Gibson Dunn’s Employment team. Specializes in employment

Steve Melrose: An Associate in the Litigation and White Collar Crime groups of Gibson Dunn. Focuses on public law issues, domestic and cross-border corporate investigations, regulatory investigations and white-collar criminal matters

Of course, the challenge stems from the exact same circumstances, namely, that the virus has had (and will continue to have for some time) a dramatic adverse impact on the creditworthiness and viability of many existing portfolio companies of private credit investors. Addressing this challenge requires a thoughtful and thorough top-down review of each company’s situation in terms of its business performance, obligations under its financing agreements and options for moving forward.

Key areas on which private credit investors should focus are as follows:

I. Information

Knowledge is indeed power when it comes to distressed borrowers, and all private credit investors should be engaged in a dialogue with their portfolio companies to understand (as fully as they can) the impact of the virus on each company, its business, financial condition and prospects and the mitigation actions being taken. Many borrowers will willingly engage with their lenders and provide this information after an informal conversation. There will, however, be some which do not want to provide such information, particularly while management is still assessing its options.

Information Checklist

The facility agreement will typically require the borrower to provide:

financial statements;
a budget;
presentations by senior management;
copies of documents dispatched to the shareholders or creditors of any group company;
details of material litigation, judgements and any termination events occurring under any material contracts;
information regarding the security and compliance with the security documents; and
such other information regarding the financial condition, assets and operations of the group as well as any amplification or explanation of any item in the financial statements, budgets or other material provided by any obligor.

Additionally, if a default is continuing (sometimes this standard is an event of default), the facility agreement will typically require the borrower:

	i.	to permit the agent and/or security agent and/or accountants or other professional advisors free access at all reasonable times and on reasonable notice at the risk and cost of the Obligor or Company to the premises, assets, books, accounts and records of each member of the Group; and
	ii.	to allow the lender or their agent(s) to meet and discuss matters with senior management.

If the borrower is not forthcoming the lender should make a formal request for information under these provisions (through the agent where relevant).

Outside of an event of default, borrowers will typically seek to materially comply with these provisions to avoid triggering an event of default. However, where an event of default is continuing and unwaived, the borrower may feel less compelled to comply as the consequence of failing to do so is just another event of default. Therefore, the relationship between lender and borrower is important in this regard.

Understanding the issues facing the borrower over the next 12+ months is critical.

Fundamental checklist of questions for borrowers include:

Are they facing liquidity issues?
Critically, can they pay their debts as they fall due?
Are there undrawn committed facilities in place and will these be available?
Can they service the debt, including interest?
Are they projecting breaches of financial covenants and if so, which ones and when?
If they have equity cure rights, do they intend to exercise them?
Are they subject to or anticipating material litigation arising from the impact of the virus for breaches of contract or the exercise of a termination right of a material contract?
Do they have material claims to make against suppliers, which failed to deliver, that may help mitigate?
Do they have an impending maturity with few if any refinancing options?
Are any insolvency-related issues likely to arise?

To further flush this information out, the facility agreement also typically requires the borrower to promptly, upon request, deliver to the agent a certificate signed by two of its directors certifying that no default is continuing (or if a default is continuing, what steps, if any, are being taken to remedy it).

While there is also an obligation on the borrower to proactively notify the agent of any default (or sometimes event of default) promptly upon becoming aware of its occurrence, management will have some discretion in making this determination and may take the position that there is no default, or at least there’s a defensible position that is the case. However, if two directors are required to certify that there is no default, the potential liability for fraud may concentrate the minds of directors in determining whether the issue at hand amounts to a default. Again, in some circumstances the borrower may feel less inclined to comply with such request if an event of default is continuing and unwaived.

II. Liquidity

There are five principal ways of increasing term liquidity outside of improved business performance:

	i.	stretching creditors through payment deferrals – this approach typically is likely to be only a very short-term fix;
	ii.	raising new equity (often shareholders will want to negotiate a holistic solution with the lender before committing to inject new funds even if there are permissive equity cure rights);
	iii.	cost cutting;
	iv.	selling assets; and/or
	v.	drawdown existing facilities (notwithstanding the increased interest cost of doing so) and/or incurring new debt.

With respect to payment deferrals, in addition to deferrals to trade creditors, we are seeing borrowers selecting the maximum length of interest periods and requesting amendments to change cash pay interest to payment in kind (or deferred interest that accrues but is not capitalised). Where there is amortising debt, we are also seeing borrowers requesting relief from repayment obligations. Similarly, some borrowers are concerned that their accountants will not be able to complete the audit in the time specified in the facilities agreement for delivery of audited financial statements, which in turn may impact the ability to calculate excess cashflow and make any required mandatory prepayment from such excess cashflow within the prescribed time. In such cases, borrowers are also seeking relief of such mandatory prepayments from excess cashflow (a number of borrowers that do not have an issue with the timing or calculation of excess cashflow but project liquidity issues arising from COVID-19 are also seeking relief from such mandatory prepayment obligations).

In the context of incurring additional debt, check to see if the facility agreement has undrawn committed facilities. If so, the question of whether a default is continuing is extremely pertinent as the lender can refuse to fund new advances if a default is continuing or the repeating representations are not true (sometimes qualified by materiality). Where a default is continuing, the lenders will then be faced with a judgement as to whether the borrower will meaningfully benefit from additional liquidity or if it is preferable to simply refuse to fund.

In the case of incremental or accordion facilities (and in a minority of deals, other baskets of permitted indebtedness which can benefit from pari passu security), whether lenders are prepared to commit to funding will be very fact and circumstance specific. Outside of this, the scope for the borrower to incur additional debt in most traditional facilities in Asia-Pacific is very limited (even more so where such debt is to be secured, even on a junior basis). An exception to this might be in the context of non-recourse receivables financing, but this will be subject to a cap. The borrower may also consider selling material assets (including by sale and leaseback), but subject to some de-minimis thresholds, the proceeds from any such sale will be subject to mandatory prepayment requirements and so may have limited value from a liquidity perspective absent a waiver.

III. Fatal Flaw Review

Most prudent lenders, faced with an extremely volatile economic environment as we have today, will be looking to conduct what are known as “fatal flaw reviews” of the financing documents of potentially defaulting borrowers. Parties may wish to avoid a default from occurring by anticipating in advance what potential defaults there may be. The fatal flaw report will identify the scope, ranking and effectiveness of the guarantee and security package and identify deficiencies and other issues.

Fatal flaw report will report on, among other things:

material risks that the guarantees and security may not be valid, may not have the ranking originally contemplated, may be subject to challenge or may have timing constraints to their enforcement (especially in some jurisdictions where for example some kind of court order or auction process is required prior to enforcement/sale of secured assets);
assets of the group which are not subject to valid and effective security;
immediate steps that the lender can take to perfect unperfected security interests and otherwise improve its position with respect to the guarantees and security;
whether there is an ability to appoint a receiver and control any restructuring process (in a worst case scenario); and
an enforcement roadmap.

These reports will also identify strengths and weaknesses in the intercreditor agreement where relevant which impact negotiating leverage. In addition, the reports may extend wider and report on potentially troublesome drafting in the facility agreement which could provide arguments for the borrower to push back on the lender’s exercise of its rights so that the lender fully understands its position.

A fatal flaw review will typically be conducted by counsel who did not work on the original transaction on the basis that “a fresh set of eyes is better” and they may be more likely to candidly identify drafting or other issues and flag them.

Lenders should ideally conduct the fatal flaw review ahead of a default. Borrowers are subject to further assurance provisions which lenders can rely on to the extent they require cooperation from the borrower and failure to comply by the borrower will trigger a default. However, once an event of default is continuing and unwaived, some borrowers will be reluctant to cooperate with the lender to improve the lender’s position with respect to enforcement as they will see this as reducing their negotiating leverage.

By failing to comply, they are merely adding an additional event of default but not increasing the lender’s right to take action. Additionally, conducting the review ahead of a default enables the lender to consider addressing the identified issues in any waiver, amendment or standstill which may be requested by the borrower.

IV. Key Provisions to Check for Defaults and Events of Default

Hand in hand with preparing a comprehensive fatal flaw review, understanding whether a default or event of default is continuing is obviously imperative from the lender’s perspective. The representations and warranties, information undertakings (discussed above), financial covenants, positive and negative undertakings, material contracts, taxes and the events of default themselves need to be examined.

A. Representations and Warranties

The representations and warranties in a facility agreement serve two primary purposes:

	i.	to flush out information regarding the portfolio company where the consequence of a breach is an event of default; and
	ii.	to serve as a drawstop on new utilisations of the facilities.

A number of typical representations and warranties should be given consideration in the context of COVID-19 (there may also be other deal-specific representations which need to be reviewed).

First, consider the second limb of the “No Default” representation, which is a look forward to defaults or termination events under other agreements (not the finance documents) and is typically subject to a “Material Adverse Effect” qualification. This representation could be relevant where a company’s performance under a “material contract” is adversely affected by COVID-19 or a counterparty breaches such a contract. In addition, where a company has contracts which would reach this threshold of materiality, there is often an additional “Material Contracts” representation which should be reviewed.

Second, some facilities in Asia-Pacific contain the material adverse change representation which is included in the Loan Market Association’s leveraged standard form. It provides that “Since the date of the most recent financial statements delivered pursuant to Clause 25.1 (Financial statements) there has been no material adverse change in the assets, business or financial condition of the Parent or the [Restricted] Group [or the Group].” It should be noted that this representation does not relate to the performance of the business since the closing of the loan facility, but rather since the date of the most recent financial statements. Clearly the impact of COVID-19 virus will represent a material adverse change in the business and/or financial condition of many borrowers since the date of their most recently delivered financial statements. Equally importantly, the term “material adverse change” is not the negotiated, defined “Material Adverse Effect” standard but is a looser term. This representation could therefore potentially be triggered even where the borrower is projecting compliance with its financial covenants.

Third, the “No Proceedings” representations which relate to litigation and judgments should be reviewed. Invariably, some companies will be subject to litigation resulting from their failure to perform under their contracts, and it is likely that many parties will assert that COVID-19 is a force majeure event such that noncompliance with their contractual obligations was beyond their control and not actionable as a breach of contract. All of this could result in many businesses becoming tangled in complex and protracted litigation even when they intended to fulfill their obligations.

It is also recommended to look at the “Insolvency” representation. This representation is linked to the insolvency-related events of default and discussed below.

It should be noted that many of the representations repeat automatically and are deemed to be made on each interest payment date, the date of each utilisation request and the date of each utilisation.

B. Financial Covenants and Rating Requirements

Financial covenants often appear to be one of the easier items to be reviewed as one expects that a breach would be clearly shown in the calculations and confirmed in the compliance certificate. However, this is not always the case. In fact, it is not uncommon that borrowers calculate covenants without carefully ensuring conformity with the relevant definitions. Additionally, borrowers may take an aggressive interpretation of certain addbacks which may be contemplated. For example, we have heard reports of some borrowers contemplating adjusting EBITDA for both costs and losses arising from COVID-19. Similarly, there are some reports of borrowers contemplating including the impact of COVID-19 as an “exceptional item”. The financial statements (which should be prepared in accordance with the accounting principles as applied to the original financial statements provided at the time the facility agreement was entered into) and compliance certificate therefore warrant additional scrutiny. Also, as mentioned above, the borrower can be required to provide further amplifications and explanations if the situation demands it.

If a financial covenant breach is likely to occur, or has occurred, it is also important to understand whether the shareholder has any rights to cure the breach. If there is such a right, careful consideration needs to be given to the parameters of the equity cure provisions which typically, but not always, apply to all of the covenants.

For example, can the cure be used preemptively and subsequently be designated as a cure amount? Some shareholders will opt to provide the equity cure at the same time they deliver the compliance certificate so that they are effectively never in breach. However, others will use the additional 15-20 business-day grace period typically provided. For those who wait, the next question is whether a default continues during that cure period.

Other key questions to analyse in the context of an equity cure are the following:

How is the cure actually implemented? Under many facilities in the Asia-Pacific region, sponsors are able to add cure amounts to EBITDA which obviously brings with it a multiplier effect, as opposed to being required to use such amount to make an actual prepayment to reduce debt (which is typically the case in Australia, outside of Term Loan Bs, for example). Similarly, where adding the cure amount to EBITDA is not permitted, under some facility agreements such cash is allowed to be retained by the portfolio company (thereby reducing net debt to the extent it remains in the company, rather than being required to be prepaid). Also, where a prepayment of the cure amount is required, the facility agreement may not obligate the company to use 100% of the cure amount for this purpose.
What are the limits on the cure? For example, how many cures are permitted over the life of the facilities (typically 4-5)? Are over-cures permitted (often they are)? Are cures permitted in successive quarters? Where the cure amount is applied to EBITDA, does this carry over for the next three financial quarters (almost always it does)?
Is there a mulligan? The true “mulligan” – taken from the golfing world – provides that an initial breach of the financial covenants is not a default unless the same test is breached on the subsequent test date. In the Asia-Pacific region, true mulligans are fairly rare. It is common, however, to see a deemed cure which provides that where there is an initial breach, it is deemed to have been remedied if the borrower is in compliance on the subsequent test date and the lenders have not accelerated the loans. In this scenario, where there is a projected single-quarter blip in performance, some borrowers might look to the lender syndicate to see if they have relationship lenders with blocking stakes (typically 33.35% or more in the Asia-Pacific region) which agree to prevent an acceleration event from occurring, but more often borrowers in this situation will seek a waiver or a covenant reset.

Finally, check if there are any rating requirements in the agreement as a number of borrowers have been, or will be, downgraded in the current climate.

C. Undertakings

The information undertakings have largely been covered above. However, it is worth considering the impact of COVID-19 on the ability of borrowers to deliver their audited financial statements in a timely manner. The degree to which this is a problem will obviously be affected by the timing of the end of the financial year for the relevant group together with the ability of the auditors to complete their work in light of the current restrictions.

Also, remember to bear in mind the impact of any unforeseen non-business days being declared in connection with a national state of emergency right now when determining the timing of any deliverables. In addition, notice and grace periods are typically defined by reference to business days.

Finally, if the borrower is listed on any stock exchange, check to see if there are any new emergency measures in place to assist with the difficulties of publishing timely results and dispatching annual reports. Note that such measures should not affect a lender’s contractual rights under a loan agreement, but this is an additional consideration in the current climate and this may be a sensible time generally to consider re-examining time frames with the borrower for delivery of financial statements, professional or technical reports or certificates to avoid the need to seek ongoing waivers on an ad hoc basis.

D. Material Contracts

Not all groups have material contracts, but where they do, often they will be subject to a specific undertaking within the facility agreement. Where relevant, this undertaking needs to be carefully considered as the threshold for a breach of this undertaking varies significantly from transaction to transaction. In addition, the latest country-specific emergency measures being implemented may need to be assessed if there is a potential breach of contract with a causal link to the virus.

E. Payment of Taxes

We have heard reports of companies planning to defer payments of taxes, even where the applicable deadlines prescribed by law have not been extended. This approach needs to be considered on a deal-by-deal basis to determine whether a breach will occur as a result of such delay when the amount is not in dispute. However, conserving cash in the business in the expectation of the relevant governments providing additional time for tax payments may well be viewed positively by a lender in the current environment.

F. Events of Default

1. Insolvency/Insolvency Proceedings/Creditors Process

These events of default speak for themselves and are unlikely to be the first breach of the facilities for a company. However, they warrant consideration and attention because, among other things, the threshold for insolvency varies from jurisdiction to jurisdiction as do the duties of the directors.

The Asia Pacific Loan Marketing Association (APLMA) formulation of the “insolvency” event of default comprises several trigger events, where the materialisation of just one (naturally, the lowest common denominator) sounds the alarm, including a balance sheet insolvency test, i.e., that assets are less than actual and contingent liabilities. This calculation is usually on an individual-company (rather than consolidated) basis, meaning just one company within a corporate group could trigger a default.

2. Cessation of Business

This event of default in its widest form includes any member of the group suspending or ceasing to carry on (or threatening to suspend or cease to carry on) all or a material part of its business. However, it is frequently negotiated to apply to the group taken as a whole actually ceasing to carry on all or substantially all of its business, which clearly limits its usefulness significantly.

3. Audit Qualification

Often in facilities in the Asia-Pacific region, an event of default occurs if the auditors qualify their report either on a going-concern basis or owing to a failure to disclose information. In the aftermath of the last financial crisis, there was much debate around whether a projected breach of a financial covenant which is noted in the auditors’ report amounts to a qualification – thus causing an event of default ahead of any actual breach of covenant. In most cases, the conclusion was that for a simple projected financial covenant default, the auditors do not “qualify” their report but include an “emphasis of matter”. The emphasis of matter is a paragraph, which highlights a matter that in the auditor’s opinion is of fundamental importance to a reader’s understanding of the financial report but which falls short of the technical standard of an auditor qualification. However, although this has been the general conclusion in the case of projected breaches, it should be confirmed on a case-by-case basis with the relevant professionals in the local jurisdiction.

4. Litigation & Material Judgments

As discussed above, the impact of COVID-19 will inevitably be the cause of some contractual breaches, which will result in litigation and judgments, and therefore needs to be considered here.

5. Material Adverse Effect

Loan facilities in the Asia-Pacific region often have a catchall material adverse effect event of default (MAC clause). It is intended to catch unforeseen risks after signing. This entire provision needs to be considered carefully as it is often highly negotiated. At one end of the spectrum it can be a highly subjective standard of whether a material adverse effect has occurred or is reasonably likely (in the reasonable opinion of the majority lenders) in the context of a very wide definition including the “prospects” of any group company or the ability of any company to perform any of its obligations under the financing documents. At the other end of the spectrum it can be a completely objective standard where the material adverse effect relates only to the ability of the obligors (taken as a whole) to perform their payment obligations under the financing documents and must have actually occurred. There is relatively little precedent case law on enforcing MAC clauses in finance documents (and such cases tend to be very fact specific) and it is generally accepted that there is a high barrier for successfully using a MAC clause.

After an event of default has occurred

In typical facilities in the Asia-Pacific region, the occurrence of an event of default which is continuing and unwaived typically gives rise to the following:

right of the majority lenders – typically 66.66% of the total commitments – to take any actions under the acceleration provisions, including cancelling all commitments, making all obligations under the financing immediately due and payable or placing them on demand and exercising any rights, remedies or powers under any of the finance documents or instructing the security trustee to do so;
where there is a margin ratchet, this usually is adjusted to the highest step on the ratchet for so long as the event of default is continuing;
where there is any payment default, default interest will become payable (typically on the overdue amount only);
where there are undrawn commitments, this will be a drawstop event entitling the lenders to refuse to fund – this may also apply to rollover loans under the revolving facility though sometimes the drawstop threshold for this is set at acceleration event;
where the borrower has consent rights to assignments, transfers and voting subparticipations (or similar), these typically fall away on an event of default (sometimes limited to payment and insolvency related events of default – and often any restriction on transfers to competitors of the borrower survive); and
a default could cause a domino effect of cross-default under other agreements.

V. Reservation of Rights

Where a lender becomes aware of an event of default, unless it has already decided to take actions to accelerate the debt and enforce its security, one of the first steps it will usually take is to send a “reservation of rights” letter to the borrower.

Lenders should be aware, however, that such a letter does not necessarily do what it says on the tin. In other words, the statements and actions of the lender may override such reservation of rights letter and waive such rights through promissory estoppel or waiver by election. Similarly, although almost all facilities agreements contain a “no waiver” clause, English caselaw provides that these clauses may be defeated and overridden by promissory estoppel or waiver by election. Even where the agreement requires any waiver to be in writing, courts may infer a waiver by words or actions. Lenders therefore must proceed with caution in this regard to ensure they do not inadvertently waive any rights.

VI. Waiver Requests

For a borrower with a projected one-off financial covenant or other breach, it may seek a simple waiver of that breach. The level of lender consent required can range from majority (typically 66.66%), super-majority (typically 75-90%) in the Asia Pacific region or all lender consent, depending on the nature of the waiver request. Items such as a waiver of a financial covenant breach will typically require majority lender consent.

When considering waiver requests, lenders should consider whether the waiver should be conditional and, if so, what conditions should apply – this is necessarily fact specific. In addition to a waiver fee, commonly seen conditions include:

	i.	enhanced reporting obligations including additional financial information and delivery of expert reports by a specified date;
	ii.	addressing any issues raised in the fatal flaw review, including regarding perfection of security and taking additional guarantees and security;
	iii.	if the borrower has promised to take certain actions (for example to reduce costs), a condition that such actions are taken within a prescribed time period;
	iv.	unless it is a permanent waiver of a provision, the date on which the waiver will cease to apply and the provision will become effective again; and
	v.	in some jurisdictions, a solvency certificate. Additionally, the lender may include some of the conditions to amendments referred to below. Further, in all relevant cases lenders should ensure that other financial creditors have waived their rights arising from the issue at hand (including through a cross-default) to ensure that the lender has not waived its rights at a time when other financial creditors have not also waived their rights – this applies equally to amendments.

VII. Amendments

Where a borrower encounters an issue, which it sees as a longer term issue, it may seek an amendment to the financing documents. Like a waiver, the relevant lender consent threshold will be dependent on the nature of the waiver request. The conditions applicable to the amendment will be fact specific and, in addition to those mentioned in the waiver section above and an amendment fee, may include, among others, additional restrictions/prohibitions on undertakings governing mergers, acquisitions, joint ventures, disposals, loans or credit, financial indebtedness, a negative pledge, no guarantees or indemnities, limited or no dividends and share redemption (or other cash out such as vendor loans or other debt structurally or contractually subordinated), and cash management.

Similarly, if there are specific actions that the group has said it plans to take (or has agreed to take), such as non-core asset, company or business disposals or the implementation of a restructuring plan, further covenants around these (with appropriate deadlines for milestones to be achieved) should be considered. Also, in the context of resetting financial covenants, lenders should take particular care around the definitions to ensure that only addbacks which remain appropriate in the circumstances remain, so that a more accurate reflection of the financial health of the group can be measured through the financial covenants.

VIII. Standstill/Forbearance

In circumstances where an event of default is continuing and a restructuring is being contemplated, it is common for the financial creditors of the group to enter into a standstill or forbearance agreement. Standstill or forbearance agreements are bespoke agreements under which the financial creditors of the group agree to “freeze their rights” for a short period of time (typically between one and three months) and maintain their Day 1 positions by keeping their debt at drawn level (or otherwise be treated equally with respect to repayments).

There are a vast number of considerations when negotiating standstill/forbearance agreements which due to their bespoke nature are beyond the scope of this article. However, key points include:

	i.	all creditors should be treated equally under the agreement and share the risks and, where there are shortfalls, the costs;
	ii.	all financial creditors should be included and bound by the agreement and there should be restrictions on transfers of debt unless the transferee agrees to be bound by the terms of the standstill/forbearance agreement;
	iii.	Day 1 positions should be maintained;
	iv.	suspension of rights such as acceleration, demand enforcement of any of the debt or security (including crystallisation of floating charges), exercise any rights of attachment or set off, sue or commence litigation in respect of the debt, petition for the insolvency of any obligor etc. (but note that the defaults are not waived, but the rights arising from the default are suspended for the standstill period);
	v.	maintenance of credit lines and replacement loans for maturing contingent obligations;
	vi.	“new money” priority and economic terms;
	vii.	covenants (very bespoke and including delivery of professionals’ reports (such as accountants) and additional financial information within a specified timeframe and deadlines for other key milestones) by each obligor;
	viii.	costs and expenses to be paid by the obligors; and
	ix.	confirmation of guarantees and security.

IX. Syndicated and Club Facilities

In financings with multiple lenders it will be critical to understand the composition of the lender group, what their stakes are (do they have blocking or majority lender stakes) and what their respective interests and objectives are as they may not be aligned (for example, they may have purchased the debt at a different price, have hedging obligations which are significantly in or out of the money or have debt in another level of the capital structure).

Also, in terms of different interests, it will be critical to understand whether there are disenfranchisement provisions for lenders which are within the group (or shareholders or affiliates of the group), as otherwise there could be a risk of such persons acquiring a blocking stake which would prevent the lenders taking many actions including acceleration which typically requires majority lender consent.

How We Can Help

Reviewing facility agreements and the guarantee and security package and conducting an in-depth analysis of the current and future impact of COVID-19 on your borrowing groups are necessarily complex tasks, and there is no one-size-fits-all answer. Each case will need to be examined based on the particular facts and the specific drafting of the finance documents. Gibson Dunn’s global finance team is available to answer your questions and assist in evaluating your finance documents to identify any potential issues and work with you on the best strategy to address them.

_________________________________________________________________

Michael Nicklin – Hong Kong (+852 2214 3809, [email protected])
Jamie Thomas – Singapore (+65 6507.3609, [email protected])

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

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