Carelessly formulated conditions precedent: undesirable effect on the transaction?

The intention of a party that stipulates a condition precedent (“opschortende voorwaarde”) is clear: he wants to make the exigibility of his commitment subject to certain facts or acts, of which it is still uncertain at the time of signature whether they will occur. Making a commitment subject to the fulfillment of one or more conditions precedent, is in principle valid. In a transaction practice, this technique allows to already proceed with the signing of the agreement – and bind the parties – although certain essential steps have not yet been taken. Just think of a buyer of shares who wants to make his acquisition (and payment) commitment subject to the condition of, for example, obtaining the required financing, a satisfactory outcome of the due diligence investigation still to be completed, obtaining a permit, the bank’s approval of the change of control, the approval of the competition authority, etc.

However, conditions precedent are not to be taken lightly. Indeed, in certain cases, due to their object or because of their inaccurate wording, they will be qualified as being “purely potestative” and will therefore be invalid. Parties are not always aware of the consequences of such an invalid condition precedent. It will not only make the condition precedent itself null and void, but also the entire agreement (see below under II).

1. Qualification as a “purely potestative” condition precedent

A “purely potestative” condition precedent exists when its fulfillment solely depends on the will of the person who made the commitment under condition precedent. In other words, the debtor of the commitment (e.g., the buyer of shares who makes the acquisition and payment obligation subject to certain conditions precedent) has control over whether the condition will be fulfilled, and therefore whether his commitment will become exigible. In this situation, there is, in fact, no binding obligation on the part of the debtor (read: “I, as the buyer, will decide later whether I agree to buy”).[1]

The situation is different when the condition precedent depends only partly on the will of the person who made the commitment under condition precedent, and partly on chance, on an external factor or on the will of an (independent) third party. Such condition is valid.

It is obvious that conditions whose fulfillment depends entirely on chance, on an external factor or on a third party do not create a legal problem either.

Applied to the specific matter of a share purchase agreement, what about the condition precedent that:

• stipulates that the buyer will only have to proceed to the acquisition and the payment on condition that the findings of the due diligence investigation still to be completed, are acceptable or satisfactory to him?

Such a condition precedent risks being qualified as “purely potestative”. Indeed, formulated in such a way, its fulfillment is purely dependent on the buyer’s own assessment of the due diligence findings; he will be able to decide himself whether the outcome is satisfactory to him or not. The fact that a third party conducts the due diligence investigation (e.g., an independent technical, legal or tax advisor) does not change the analysis. After all, the final decision on the acceptability and therefore the execution of the acquisition commitment still rests with the buyer.

The ‘purely potestative’ nature of the commitment can be avoided by describing objective criteria that clarify what a “satisfactory” outcome of the due diligence process exactly entails (such as quantifying the maximum financial impact of any risks found). A more meticulous wording avoids that the exigibility of the commitment merely depends on the will of the buyer, and thus eliminates the risk that the condition will be qualified as “purely potestative” and invalid.

• stipulates that the buyer-legal entity will only have to proceed to the acquisition and the payment provided that its board of directors approves the transaction under the stipulated terms?

Knowing that the board of directors is the internal decision-making body that makes decisions on behalf of the legal entity, a condition worded as such will also be qualified as “purely potestative”.

• stipulates that the buyer will only have to proceed to the acquisition and the payment, on condition of obtaining a permit or acquisition financing, the bank’s approval of the change of control or the approval of the competition authority?

Obviously, obtaining a permit, financing or an approval assumes in the first place that an application for such purpose is submitted (which implies that a minimum action is indeed required on the part of the debtor of the commitment), but it is ultimately the decision of the (independent) third party (government, bank, etc.) that determines whether the condition precedent is fulfilled. Therefore, the condition set out as such, will not be qualified as “purely potestative” (but at the most as “mixed potestative”).

1. Consequence of the qualification of a condition precedent as “purely potestative”

The legislator is clear about the unlawful nature of a “purely potestative” condition. The relevant legal provisions state the following with regard to commitments/contracts that fall within their respective scope:

• Article 5.141, first paragraph of the Belgian Civil Code: “An event on which the validity of the contract depends cannot be stipulated as a condition by the parties. Thus, the commitment cannot depend on a purely potestative condition precedent on the part of the debtor.”
• Article VI.91/4, point 1°, of the Code of Economic Law (regarding agreements between enterprises): “Are unlawful, the stipulations that aim: 1° to provide for an irrevocable commitment on the part of the other party while the performance of the enterprise’s obligations is subject to a condition of which the fulfillment depends exclusively on its will;”
• Article VI.83, point 1°, of the Belgian Code of Economic Law (regarding contracts with a consumer): “In agreements concluded between an enterprise and a consumer, are in any case unlawful, the terms and conditions or the combinations of terms and conditions that aim: 1° to provide for an irrevocable commitment on the part of the consumer while the performance of the enterprise’s obligations is subject to a condition of which the fulfillment depends exclusively on the enterprise’s will;”

Regarding the concrete consequences of a commitment to which such an unlawful condition is linked, the aforementioned provisions remain vague. That is however precisely what the parties are interested in: is the clause in question as such null and void, but without affecting the agreement that otherwise remains intact (read: the agreement must be executed as if the condition precedent had not been included)? Or do we have to conclude that the acquisition commitment entered into by the buyer is in its entirety affected by nullity? Then, what about the seller’s commitment, and by extension the share purchase agreement as a whole?

The Explanatory Memorandum to the Civil Code offers insights in this regard and states as follows: if it appears that under a “purely potestative” condition lies the absence of the actual consent from the debtor (who has underwritten the commitment subject to the condition) to bind him, the contract as a whole will be affected by nullity. It must then be concluded that the required consent from each of the contracting parties is missing, which consent is a general condition for the validity of the existence of a contract. Indeed, the general rule in Belgian law is that a contract is validly concluded in the event of a mutual willingness-to-agree between both parties, which assumes the consent of both parties.

Translation into the context of a share purchase agreement: the underwriting by the buyer of a (acquisition and payment) commitment subject to a “purely potestative” condition precedent, leads to the conclusion that at the time of signing he had not yet consented to the conclusion of a sale-purchase agreement. Therefore, the signed agreement is affected in its entirety by nullity. This leads to the situation that the seller cannot enforce the transaction with regard to the buyer (contrary to the situation in which the mere condition precedent itself would be null and void!). But also the other way around: the buyer must be aware of the risk that the seller could also invoke this point, in the absence of a validly formed share purchase agreement (which was nevertheless signed). And this is not what the buyer, who signed an agreement with a condition in his favor, had in mind.

The Code of Economic Law (lex specialis with regard to the Civil Code, as to agreements between enterprises or agreements with a consumer) expressly states that the “purely potestative” condition is “unlawful” (see cited articles above), and provides as follows in the following article: “Any unlawful clause is prohibited and null and void. The agreement remains binding on the parties if it can continue to have effect without the unlawful clauses.” A strict reading could lead to the conclusion that nullity therefore only affects the condition precedent itself but does not affect the commitment to which it was linked. That reading thus leads to a completely different outcome. In that case, the buyer risks the annulment of the condition precedent, as an unlawful clause under the Code of Economic Law, while the acquisition commitment remains valid and can be enforced by a seller.

It was probably not the legislator’s intention to create this discrepancy and to link other consequences to “purely potestative” conditions depending on whether the commitment or agreement in question falls within the scope of one or the other regulation. It therefore seems to be arguable under the Code of Economic Law  as well that the nullity of a “purely potestative” condition, as an unlawful clause, also affects the commitment itself and by extension the validity of the entire agreement, in the absence of the required consent between both parties, and this based on the idea that, from the debtor’s point of view, the condition was an essential element, without which he would not have committed himself to the acquisition transaction.  However, there is no explicit legal base for that argument.

This conclusion leads all the more to the advice to be careful when using and drafting conditions precedent, considering the risk that they might be qualified as “purely potestative” and given the (probably undesirable) effect of it on the transaction.

Anneleen Steeno and Kim Van Herck, intui attorneys

anneleen.steeno@intui.be and kim.vanherck@intui.be

[1] Pro memoria: our analysis concerns the conditions precedent (“opschortende voorwaarden”) and leaves aside the conditions subsequent (“ontbindende voorwaarden”). A commitment is subject to a condition subsequent when the fulfillment of the condition leads to the termination of the commitment. A condition subsequent can definitely be “purely potestative”. It corresponds in fact to a (permitted) termination option (e.g., a tenant enters into a rental agreement, under the condition subsequent of his move abroad – the rental agreement comes into effect pending the condition, and the tenant can decide whether and when he moves abroad and, therefore, also terminate the agreement).