A Private Lender’s Guide: Financial Assistance & Whitewash Process for Acquisitions18 min read

Introduction

When navigating the legal aspects of buying a business, a target company providing a guarantee or security to support a share acquisition triggers the financial assistance rules under Section 260A of Corporations Act 2001 (Cth) (‘Corporations Act‘). Private credit funds, mezzanine lenders, and family-office style lenders must identify these issues early to protect their security packages and avoid severe penalties under Corporations Act.

This article explains the whitewash process for acquisitions in Australia so you can structure compliant guarantee and security packages and secure whitewash approval. It details how a lender should diligence whether the borrower group is trying to solve a whitewash problem too late in the deal, manage timing risk at closing, and map the statutory waiting periods required by the whitewash procedure to lodge documents with ASIC into conditions precedent lists.

Interactive Tool: Check Your Whitewash Compliance & Lender Liability Risk

The Financial Assistance in Share Acquisitions for Private Lenders

Defining Financial Assistance Under the Corporations Act

The Corporations Act does not provide a specific definition for the term ‘financial assistance’. Instead, Australian courts have established a broad, commercial interpretation. The key legal test comes from the High Court case of Connective Services Pty Ltd v Slea Pty Ltd [2019] HCA 33 (‘Connective Services‘), which determined that financial assistance occurs if a company’s action eases the financial burden of acquiring its shares or improves the buyer’s “net balance of financial advantage”.

Consequently, this interpretation means that any corporate action can be considered financial assistance if it helps a person acquire shares in the company or its holding company. Furthermore, the assistance can be provided either before or after the share acquisition takes place.

Common Examples of Assistance in Acquisitions in Australia

In the context of financing a business acquisition, financial assistance can take many forms beyond a simple loan. Private lenders commonly encounter these scenarios, which are often caught by the provisions of Corporations Act as follows:

• Providing guarantees or security: This is the most frequent form of assistance in a leveraged acquisition. It occurs when the target company gives a guarantee, indemnity, or security over its assets to a lender, which supports the loan that an acquiring company uses to purchase the target’s own shares.
• Refinancing acquisition debt: A company may also provide financial assistance when it refinances a loan that was originally used for a share acquisition, even if the acquisition occurred in the past.
• Gifting funds or assets: A target company directly giving cash or transferring assets to the prospective shareholder to help fund the purchase is a clear form of assistance.
• Reducing the share purchase price: If a company takes action to lower the cost of its shares for a specific buyer, this can be deemed financial assistance as it eases the buyer’s financial burden.
• Lending money to the buyer: A direct loan from the target company to the person or entity buying its shares is a straightforward example of financial assistance.

Evaluating Section 260A of Corporations Act & The Material Prejudice Test

The High Bar of the No Material Prejudice Exemption

Under Section 260A of Corporations Act, a company can provide financial assistance if it does not materially prejudice the interests of the company, its shareholders, or its ability to pay creditors. This exemption requires an objective assessment of whether the company is in a worse position after giving the assistance compared to its position before.

The High Court, in Connective Services, clarified that the test involves a direct comparison of the company’s financial standing before and after the transaction. However, what constitutes a “worse position” is not defined by clear rules.

Courts have been shown to apply a low threshold for what is considered material prejudice, making this a fact-intensive and uncertain exemption for a company to rely on. As a result, this uncertainty presents a significant risk for any lender involved in the acquisition.

Why Private Lenders Prefer the Whitewash Approval Route

Given the risks associated with the no material prejudice test, standard market practice for lenders in Australia is to require a formal whitewash procedure. Ultimately, the whitewash process provides certainty that the financial assistance complies with Corporations Act, protecting the validity of the transaction and the enforceability of any security.

Lenders prefer the whitewash approval route for several key reasons:

• Certainty: It removes the ambiguity and potential for legal challenges inherent in the material prejudice test.
• Corporate Transparency: The procedure requires the company to issue a notice of meeting and an explanatory statement to all shareholders, detailing the nature and effect of the financial assistance.
• Protection of Interests: It ensures that shareholders, particularly minority holders, are fully informed and have the opportunity to approve or reject the proposed assistance.

Executing the Whitewash Procedure & Lodging Documents with ASIC

Drafting the Explanatory Statement & Notice of Meeting

The first step in the whitewash process is to prepare a notice of a general meeting for the company’s members. This notice must be accompanied by a detailed explanatory statement. Under Corporations Act, this statement must provide shareholders with all the information material to their decision on whether to approve the financial assistance.

The explanatory statement should clearly set out:

• The nature of the assistance: A description of what the company is providing, such as a guarantee, security over assets, or a loan.
• The reason for the assistance: An explanation of why the company is supporting the share acquisition.
• The financial effect: An analysis of how the assistance will impact the company’s financial position and its ability to pay its creditors.
• Other relevant information: Any other details known to the company that could influence a shareholder’s vote on the whitewash approval.

Passing the Special Resolution for Whitewash Approval

Shareholder approval for the financial assistance is the core of the whitewash procedure. Therefore, Corporations Act provides two primary methods for a company to obtain this consent from its shareholders.

The company must secure approval through one of the following means:

• A special resolution: This requires at least 75% of the votes cast by eligible shareholders at a general meeting to be in favour of the resolution. The person acquiring the shares, along with their associates, is not permitted to vote in favour of the resolution.
• A unanimous resolution: This involves a resolution agreed to at a general meeting by all ordinary shareholders of the company.

How to Lodge Required Documents with ASIC

A strict timeline for lodging documents with ASIC must be followed to ensure the whitewash process is valid. As a result, the company providing the financial assistance cannot proceed with the transaction until all lodgement requirements and waiting periods are satisfied.

The key lodgement steps include:

1. Initial lodgement: The company must lodge a Form 2602 with ASIC, which includes the notice of the general meeting and the explanatory statement. This must be done at least 22 days before the financial assistance is granted.
2. Resolution lodgement: After the shareholders have passed the resolution, the company has 14 days to lodge a Form 2205 with ASIC, attaching a copy of the special resolution.
3. Final approval lodgement: The company must then lodge a Form 2601, which confirms that the financial assistance has been approved by shareholders. This form must be lodged at least 14 days before the assistance is actually provided, and the transaction can only proceed after this 14-day waiting period has passed without any objection from ASIC.

Structuring Guarantee & Security Packages for Share-Backed Deals

Integrating the Whitewash Process into Facility Documentation

Lenders must ensure that their facility agreements, guarantees, and security documents are consistent with the terms approved by shareholders during the whitewash process. The commercial details outlined in the transaction documents, a core component of loan structuring and documentation, should directly reflect what was presented in the explanatory statement and approved in the special resolution. Ultimately, this alignment is critical for the enforceability of the security package that underpins the acquisition financing.

When preparing the documentation for a share-backed deal, key considerations include:

• Board papers and minutes: These documents should record the board’s assessment of the financial assistance and the decision to seek shareholder approval.
• Transaction documents: The loan agreement, guarantees, and any security documents must be drafted to match the specifics of the whitewash approval.
• Notice of meeting and explanatory statement: These materials must clearly explain the proposed assistance, its terms, and the expected impact on the company, providing a transparent basis for the shareholder vote.

Addressing Upstream Security & Cross-Guarantees

A common complexity in acquisition finance arises when a subsidiary provides a guarantee or security for the debts of its parent company, known as upstream security. This arrangement requires careful attention to ensure it complies with directors’ duties under Corporations Act. Specifically, directors must act in the best interests of the company providing the security, and the entity must derive a sufficient corporate benefit from the transaction.

For wholly-owned subsidiaries, Section 187 of Corporations Act may allow the subsidiary’s directors to act in the best interests of the holding company, provided this is permitted by the subsidiary’s constitution. As a result, lenders often require this provision to be in place.

Furthermore, acquisition facilities typically include a guarantor coverage test. This test mandates that entities representing a specified percentage (often 80-95%) of the target group’s assets and EBITDA must provide guarantees and security.

Managing Timing Risks & Conditions Precedent at Closing for Lenders

Diligencing the Borrower Group & Identifying Whitewash Issues Early

Lenders involved in a share acquisition should conduct early legal due diligence to confirm if financial assistance is a factor. It is important to map out any potential assistance at the beginning of the deal to ensure the borrower has enough time to complete the necessary approvals.

Failing to plan for the whitewash procedure can disrupt the commercial timeline for the acquisition. To avoid this, lenders should scrutinise the transaction structure to see if the target company is providing any support for the purchase of its own shares. This proactive approach prevents situations where:

• the need for a whitewash process is identified late in a transaction, causing significant delays to closing; and
• the borrower group attempts to resolve the problem too close to the settlement date, which can jeopardise the funding arrangement.

Mapping the Statutory Waiting Periods into CP Lists

To protect their position, lenders must incorporate the mandatory waiting periods of the whitewash procedure into the conditions precedent (CP) list of the facility agreement. A critical timeline is the 14-day waiting period that begins after the company lodges the required shareholder approval documents with ASIC. Ultimately, the financial assistance cannot be legally provided until this period has passed without any objection from ASIC.

By making compliance a condition precedent, the lender ensures that funds are not released until the whitewash process is complete and legally effective. This step is non-negotiable as it ensures the validity and enforceability of any guarantee or security provided by the target company for the acquisition. As a result, lenders will not settle a deal until they receive confirmation of the following:

• all required forms have been lodged with ASIC; and
• the statutory waiting period has expired.

Lender Liability & The Consequences of Breaching Section 260A of Corporations Act

Civil Penalties & Criminal Liability for Involved Persons

If a company provides financial assistance in breach of Section 260A of Corporations Act, the transaction itself remains valid. This means that any contracts, agreements, or security connected to the financial assistance are not automatically void.

However, any person involved in the contravention may be subject to penalties. This includes individuals who aided, abetted, or were knowingly concerned in the breach, such as:

• Company officers;
• Legal advisers;
• Accountants; and
• Lenders.

These individuals can face civil penalties, and if dishonesty was a factor in their involvement, they may also be exposed to criminal liability.

Conclusion

For private lenders involved in buying a business, identifying financial assistance early in a share acquisition is critical to ensuring compliance with Section 260A of Corporations Act. Strictly following the whitewash process for shareholder approval is the standard market practice to protect against liability and ensure the enforceability of any guarantee and security packages.

If you are structuring an acquisition finance deal, our team at GRM LAW has the expertise to guide you through the complexities of the whitewash procedure. Contact our private lender and non-bank finance lawyers at GRM LAW today to ensure your transactions are structured correctly and your security is protected from the risks of non-compliance.

Frequently Asked Questions