The issue of long-term contracts in transactional practice | In Principle

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The issue of long-term contracts in transactional practice

Remarks on problems related to the ability to modify contract terms to reflect changing circumstances, and the duration of long-term contracts

At the stage of preparing for transactions involving acquisition of shares in a company or acquisition of the enterprise or assets of a company, the possibility of carrying contractual relationships forward after the closing is essential, but so is the time horizon over which the contractual relationships will continue in their present form. For the investor, it is not just important under what terms the potential target operates, but also how long those terms will remain in force.

In commercial practice, key contracts involving cooperation with major suppliers and customers are often concluded for a definite period exceeding one year. These types of arrangements are regarded as long-term contracts.

There are generally two types of potential issues surrounding long-term contracts. First is the issue of whether or not it is possible to modify the terms as the circumstances change over time. Second is the issue of the binding effect of such contracts over a long time horizon, and any restrictions or exclusions on early termination of long-term contracts.

If the parties did not include an adjustment clause when concluding a long-term contract, enabling modification of the contract terms to adapt to evolving circumstances, the possibility for one party to make unilateral amendments (or simply terminate the contract) due to changing circumstances during the period the contract is in force is very limited under Polish law.

For this reason, when conducting due diligence it is important to determine whether the company is a party to particular contracts that are vital to its business, and if so, whether they were concluded for a definite or indefinite period. If for a definite period, it should be determined which obligations should be regarded as long-term contracts, i.e. exceeding one year. The termination provisions in such contracts should also be reviewed.

Finally, considering not only the duration of the contractual relationship but also its stability, due diligence should identify any contractual provisions which permit subsequent influence over the terms of the contract, after the contract has been concluded, beyond the extent permitted by the Civil Code.

If key long-term contracts of the target are identified which contain unfavourable provisions giving the other party a right of early termination, the buyer may demand that the seller undertake measures to amend or terminate the contracts accordingly. At a minimum, a written undertaking should be obtained from the other party demonstrating its intention to continue performing under the contract over an acceptable time horizon.

Dr Jarosław Grykiel and Maciej Szewczyk, Mergers & Acquisition Practice, Wardyński & Partners

See also J. Grykiel, M. Szewczyk & I. Zielińska-Barłożek, “Duration of Contracts,” in P. Ciećwierz & I. Zielińska-Barłożek (ed.), Legal Risks in M&A Transactions, Warsaw 2013, pp. 501 and following (in Polish).