M&A deal teams face complicated legal issues amidst rapidly changing global sanctions and guidance.
Russia’s invasion of Ukraine has created new headwinds for M&A dealmakers, as a complicated matrix of sanctions and export controls poses legal challenges for both buyers and sellers, as well as transaction targets. With sanctions regimes becoming ever more complex, deal planning and execution requires expert legal counsel and skillful navigation.
1. Buying in — Can I acquire a target if an entity in its wider group has a presence in Russia?
This depends on which sanctions are applicable to the proposed acquisition. Identifying which sanctions — e.g., those of the US, the UK, the EU, and potentially other regimes — apply to each transaction is an essential but frequently complex first step.
In addition to navigating restrictions created by sanctions authorities (in particular determining whether buyers can deal with certain companies and financial institutions that are subject to sanctions), the recent US and UK bans on new investments in Russia introduce significant restrictions on acquiring targets with a presence in Russia. Given the wide reach of these bans, assessing the scope and nature of target group operations is critical to ensure compliance.
For example, because US sanctions generally prohibit US persons from purchasing both new and existing equity issued by a Russian entity, if a target company is based in Russia (or if a non-Russian target company derives a predominant share of its revenue from Russia), US persons may be prohibited from acquiring that target company. Further, US persons (including third-party advisors who are US persons) may be prohibited from financing, approving, or facilitating the acquisition. Similarly, UK persons are prohibited from directly acquiring ownership interests in land or Russian legal persons, and are barred from indirectly acquiring those interests if the acquisition’s “purpose” is to make funds or economic resources available to or for the benefit of a person connected with Russia.
While EU sanctions do not currently incorporate a comprehensive investment ban, acquirers with an EU jurisdictional nexus may not undertake multiple investment activities involving persons operating in the “energy sector in Russia”.
2. Selling out — What legal issues am I likely to face if I sell an investment in Russia?
A key difficulty in exiting Russia or selling a stake in a Russian business is determining who to sell to — recent deals indicate that many buyers, in particular Russian or Russian-owned buyers, may be subject to sanctions or otherwise involved in dealings with sanctioned persons. Even if a proposed purchaser does not appear to be a target of sanctions, diligence will be necessary to ensure that the purchaser is not a front company, or acting as a proxy for one or more sanctioned persons.
Associated elements of a sale, such as structured payments, related agreements, and royalty payments, may fall within the scope of sanctions, including the US new investment ban, and sellers should ensure that they do not assume post-closing obligations that may conflict with existing or future sanctions restrictions.
Russian countersanctions are also proving to be challenging. In particular, a sale to a Russian buyer will likely trigger a requirement for Russian governmental approval (which can be granted or withheld at the Russian government’s discretion). Sales of operations in Russia can also raise complicated questions under US, EU, or UK export controls relating to the transfer in-country to a new end-user of regulated hardware, software, or technology.
Further, the US, the EU, and the UK have enacted bans on the provision to Russian persons of certain professional services, further complicating dealmaking and corporate management. Presently, the EU and the UK have imposed bans on providing “accounting services”, “business and management consulting services”, and “public relations services”, and the US has imposed bans on providing “accounting services”, “trust and corporate formation services”, and “management consulting services”. Variations between jurisdictions require careful navigation — exceptions in the US and EU bans that generally permit US or EU parent entities to provide services to Russian subsidiaries are not available to UK parent entities, which may require licenses from UK authorities to provide services, even to a subsidiary.
3. Group trading — Can group companies still trade with Russia?
While no comprehensive ban on trade with Russia exists, dealmakers must ensure that business with parties in Russia is consistent with sanctions — notably, a range of exports to Russia (or imports from Russia) are prohibited. Screening counterparties in Russia, their ultimate beneficial owners, and their financial institutions against the various US, EU, UK, and other sanctions lists is critical. Many of Russia’s largest banks are subject to sanctions (including being disconnected from the SWIFT system), making receiving money from Russia, or sending money to Russia, difficult in many cases. Western financial institutions may also be hesitant to support even lawful transactions with Russia.
4. How will sanctions impact my supply chain? Are there anti-circumvention provisions to be aware of?
The US, the EU, and the UK, along with certain other countries, have implemented bans on the export to Russia of a large number of “industrial”, “luxury,” and other goods identified as having significant importance for the Russian economy. The list of affected goods is extensive and comprises not only goods subject to strategic or military controls, but also basic industrial goods, luxury goods, and even office equipment.
Recent deals have indicated that these export and import bans can cause serious disruption to the ability of Russian subsidiaries to operate, including to source these goods from their European or North American affiliates. Given that the sanctions regulations generally also prohibit brokering deals and circumventing the export restrictions, taking steps to implement the sourcing of substitute goods may also be illegal.
5. Parent liability — If I have a group company incorporated in a country that has not imposed sanctions on Russia, could I (the parent) be liable for its actions?
Yes, depending on the facts. As a jurisdictional matter, sanctions apply primarily to persons and companies operating, organised, or resident in the territories that administer those sanctions. Further, sanctions regulate actions taking place in that territory (or with nationals of that territory). UK-based companies, for example, need to ensure they are not actively involved in the acts of their foreign subsidiary, if that foreign subsidiary is engaged in activity that could constitute a sanctions breach if the act were carried out or approved by a UK person. Similarly, entities organised under US law (and individual US persons) generally cannot participate in, or facilitate, the activities of a non-US company (including a non-US subsidiary of a US parent company) that are inconsistent with US sanctions.
Dealmakers must accordingly consider group company and subsidiary governance structures. OFSI, the UK sanctions regulator, has indicated that conduct by non-UK subsidiaries could fall within the scope of UK sanctions, depending on the governance structure used. Although US sanctions relating to Russia do not generally reach foreign subsidiaries that engage in activities with no US jurisdictional touchpoints (e.g., no US banks involved in the transaction, no reliance on US-sited servers, etc.), a US parent (or individual US persons) cannot, for example, approve or otherwise facilitate sanctioned activities taken by non-US group companies. Moreover, even in the absence of US person involvement, so-called US secondary sanctions could expose non-US persons to US sanctions for activities that “materially” assist, sponsor, or provide financial, material, or technological support for, or goods or services to or in support of, persons designated under US sanctions.
6. Directors — Are US, EU, or UK persons at risk if they are directors of a group company trading with Russia?
Yes, if they are involved in approving, facilitating, or participating in activities prohibited under the sanctions regime applicable to them. Consequently, companies should consider the value of implementing a recusal program.
Depending on the jurisdiction, breaching sanctions may be a criminal offence, and individuals responsible for breaches could be imprisoned. In the UK, OFSI implemented a strict liability regime for monetary penalties and now has the power to name and shame sanctions violators, leaving directors exposed to significant reputational damage and fines.
7. Can I mothball or shut down Russian operations?
From the perspective of Western sanctions, the mothballing or shutting down of Russian activities could provide a reasonably straightforward way of achieving compliance. Such an operation would have to be carefully considered, and would depend on the situation’s unique facts.
Regardless, companies should consider the impact of Russian countermeasures. Like Western sanctions, these countermeasures are continually developing. In particular, Russian countermeasures restrict repatriation of capital from Russia to most Western jurisdictions. Russian countermeasures also restrict companies from taking many types of equipment out of the country. In the event of disputes with local counterparties, new Russian legislation enables Russian sanctioned parties to disregard international arbitration clauses in their contracts. Companies should also be aware that mothballed operations may be exposed to risks of nationalisation.
Governments and regulators are regularly expanding the reach of sanctions and releasing new guidance, including on powers to police sanctions breaches. An action that was permissible at the point of deal inception may be prohibited by the time of deal execution, so deal teams must remain alert to the rapid pace of change and include clear language in any deal documents to ensure that they do not commit to actions that could become prohibited.