386 10 Exit of Shareholders
(4) Exit phase- Exit phase is the final phase.
- The new company can issue shares and bonds in order to reduce debt or finance
growth. - The new company can become listed again: the venture capital firm sells shares in an
IPO. - The price that the private-equity firm will receive for the new company’s shares does
not have to be higher than the price that the holding company paid for shares in the
target, because assets have already been distributed to the private-equity firm as divi-
dends. - Refinancing is therefore an important part of the business plan of the private equity
capital firm.
Legal aspects. Refinancing is an effective way not only to release capital but also
to distribute funds from the target to its new owners. Refinancing is nevertheless
constrained by legal rules. The most important legal constraints can be found in
company law and insolvency law. In addition, tax considerations can play an im-
portant role.
Insolvency law is relevant because of the high gearing of the target company
after the formal merger with the holding company and after one or more rounds of
refinancing. If the target becomes insolvent, there is a high risk that payments
made by the target to the owners will be reversed and must be returned in insol-
vency proceedings (see Volume II).
Company laws typically provide that transactions that are necessary for refi-
nancing require decisions by the board. Refinancing is not possible without a
friendly board.
Company laws also provide that the board of the target owes its duties to that
company and not to its shareholders (section 17.2). In particular, the board mem-
bers owe a general duty of care and fiduciary or similar duties to the company. On
the other hand, it is characteristic of refinancing to change the time perspective of
the target. Instead of investing in the long term, the target company will be ex-
pected to serve the short-term interests of its new owners and maximise their cash
flow in the short term.^269 The target will typically be left loaded with debt. There
can therefore be a conflict between the legal duties of the target’s board members
and what the private-equity firm tells them to do.
In addition, refinancing is constrained by the European legal capital regime
(section 5.4). Private-equity firms have been called “looters of own capital”.^270 In
Europe, however, company laws should set out to what extent and how the target
may distribute funds to its owners. The Second Company Law Directive restricts
(^269) In Germany, Franz Müntefering, a leading member of the Social Democratic Party
(SPD), described private-equity firms as “swarms of locusts that fall on companies,
stripping them bare before moving on.” Private-equity firms have since been called
Heuschrecken (locusts) in Germany.
(^270) See, for example, Mahler A, “Systematisch geschwächt”, Der Spiegel 38/2006 pp 100–
101, interviewing professor Uwe H. Schneider.