A guarantee agreement is the most widely accepted and common basis for a number of solutions used in M&A transactions. Therefore, its correct application is of fundamental importance for this practice. Meanwhile, judgments issued in recent years by the Supreme Court of Poland on the nature and normative sources of such obligations have caused doctrinal controversies and uncertainty among trade participants. It is therefore worth briefly summarising where the case law stands and the conclusions that can be drawn from it.
Representations and warranties, indemnities, and prohibitions of competition covering third parties are standard elements of share purchase agreements in large M&A transactions. In each of these cases, once a specific state of affairs occurs, the obligor automatically provides a specific benefit to the obligee, often consisting of compensation for damage arising in those circumstances. Guarantee agreements are commonly used to achieve such results (although, for example, representations and warranties may also be relevant in the context of liability under contract or warranty, or for mistake or deception).
Such liabilities can be substantial, possibly running to millions or even billions of zlotys. The criteria for their correct formulation should be as clear as possible and rely, in particular, on consistent holdings from the Supreme Court. Nevertheless, in recent years the Supreme Court has taken rather archaic, ambiguous and sometimes contradictory positions on important aspects of guarantee agreements, namely:
- The model framework for guarantee obligations under Art. 391 of the Civil Code
- The admissibility of guarantee obligations with a broader scope than this framework.
Therefore, from a practical point of view, it is of paramount importance to determine whether, in light of these decisions, the prerequisites for guarantee liability (events triggering the guarantee) may be:
- Assumption or performance of an obligation by a third party
Such a prerequisite for guarantee liability falls within the scope of Art. 391 of the Civil Code, but under the principle of freedom of contract it is permissible to link it, in particular, to the obligation to pay lump-sum compensation.
- Performance of a factual act by a third party not resulting from an existing obligation
Such a prerequisite for guarantee liability also falls within the scope of Art. 391 of the Civil Code, but only if framed as a guarantee by a third party to assume an obligation to perform a specific factual act. Alternatively, it would also seem acceptable to cover such third parties’ factual acts with guarantees constructed within the limits of the principle of freedom of contract.
- Existence of specific facts (representations and warranties)
Holdings by the Supreme Court regarding approved guarantee conditions have focused on third parties’ behaviour and not on the existence of certain facts not constituting behaviour by third parties. Notwithstanding the firm views in the legal literature and the economic significance of representations and warranties, it is not certain from the wording of these holdings whether such facts are permissible guarantee conditions within the limits of freedom of contract.
The scope of the legitimate application of the grounds referred to in the last two points above will primarily result from the accepted understanding of the “nature” or “statutory limits” of a guarantee agreement. In this case, the views of the Supreme Court are either very general or have met with almost unanimous criticism in the legal literature. In its judgments, the Supreme Court has indicated in particular that as long as the guarantee “does not infringe mandatory statutory norms or threaten legally protected interests,” its application should remain in the sole discretion of the contracting parties, and “the limits of freedom to shape the object of the guarantee should be sought first and foremost by taking into account its economic purpose.”
As there are discrepancies between the case law, the legal literature, and commercial practice, until the Supreme Court clarifies its position it is worth considering the use of arbitration clauses in agreements including representations and warranties, indemnities, and other guarantee constructions.
Michał Gintowt, attorney-at-law, M&A and Corporate practice, Wardyński & Partners