Change of Control Clauses: Points to Check for M&A, Capital Policy and Continuity of Business Relationships
Hello, I'm Noriaki Asato, Representative Attorney at LegalAgent.
One of the clauses that tends to be overlooked in contract review and M&A due diligence is the change of control (CoC) clause. It is a clause that receives little attention in ordinary dealings, but when a share transfer, merger, capital alliance or similar event comes along, it emerges as a clause that directly determines whether contracts with major business partners can be continued. In English it is written as "Change of Control," and in Japanese it may be described as a change in control, a change in shareholder composition, a change of parent company and so on.
Even when a share transfer takes place, the legal entity that has concluded the contract remains the same, and the contracting party does not change as a matter of law. However, where a CoC clause is included, separately from the identity of the party, the contract may provide for notice to the counterparty, obtaining its consent, a termination right for the counterparty or similar consequences, triggered by the transfer of management or control.
Definition and Scope of a Change of Control
Typical triggering events under the clause include a transfer of a majority of voting rights, a change of parent company, a merger or company split, and an acquisition by a competitor. On the other hand, some contracts have a broad definition that extends to transfers of minority stakes, changes in major shareholders, and even dilution of ownership ratios due to issuance of new shares. The broader the definition, the more likely it is that merely raising funds for business growth will fall within the clause.
The main purpose of including this clause is to respond to changes in the business partner's credit standing or competitive environment. For example, if a party holding your confidential information is acquired by a competitor, you would want to secure an opportunity to review the contract. Conversely, from the perspective of a company aiming to grow, an overly broad clause may restrict even ordinary capital policy and intra-group reorganizations, and may affect the progress of the whole transaction as a condition for completing an M&A deal (closing condition).
Notice and Consent Procedures
The burden of responding differs greatly depending on whether, when a change of control occurs, after-the-fact notice is sufficient, prior notice is required, or even prior written consent is required. While an M&A transaction is in progress, there are many situations in which confidentiality must be maintained until closing, so whether business partners can be notified at an early stage is also an important issue.
Where consent is required, check whether the clause provides that the counterparty may not unreasonably withhold consent, and what effect arises if consent is not obtained. Also confirm the content and method of notice and the consequences of failing to give notice, together with the timing.
Whether the counterparty is granted a termination right is also a point to assess carefully. The weight of the risk for the target company changes completely depending on whether the clause allows unconditional termination upon any change of control, or limits termination to cases where there is a reasonable ground or an acquisition by a competitor. A design limited to transfers to competitors is easier to justify, but if the scope of "competitor" is vague, opinions tend to diverge later, so clarifying the scope is key. Also check whether there is a grace period for cure and whether the event gives rise to damages or indemnification.
Carve-Outs for Capital Policy and Relationship with Anti-Assignment Clauses
Whether intra-group reorganizations, ordinary trading of shares on a listed market, investments from venture capital or financial investors, an IPO, a move to a holding company structure and the like are carved out from the CoC clause in advance is of enormous significance for companies that raise funds repeatedly. These carve-outs are not automatically recognized by law; they are the kind of thing that must be spelled out through contract negotiations.
At the same time, sort out the relationship with general anti-assignment clauses. Assignment of contractual status, business transfer, merger as a universal succession, and CoC clauses triggered by changes in shareholding each have a different legal mechanism. For each contract, you need to work out whether multiple clauses will apply in overlap to a single transaction, each requiring separate procedures or consents.
Points to Check Depending on Each Party's Position
For the party that includes the clause, the aim is to prevent a situation in which the premises of the transaction collapse because the counterparty's control relationships change. Rather than binding the counterparty's activities in general, limiting the clause to specific risks, such as a transfer of management control to a competitor or an acquisition accompanied by credit concerns, makes it easier to reach agreement in contract negotiations.
The party accepting the clause should check whether future investment rounds, issuance of preferred shares or dilution of the founders' stakes will be restricted. In an M&A transaction, the seller and the target company should identify CoC clauses in major contracts at an early stage and design whether obtaining the counterparty's consent will be a closing condition and how indemnification will be provided if the transaction is completed without consent. For the buyer too, whether the customer contracts and key licenses forming the target company's revenue base can be maintained after the acquisition goes to the heart of the investment decision itself.
Furthermore, the confidentiality perspective must not be forgotten. When control is transferred, the persons and organizations with access to the counterparty's confidential information may change. Even where the contract continues, arrangements may be needed to restrict access to information or to wall off information from competing divisions.
Reviewing These Clauses in Capital Policy and M&A
CoC clauses tend to be buried in day-to-day contract management, but they become a major issue when fundraising or M&A actually moves forward. LegalAgent supports the review of individual contract terms and the design of these clauses through the following services.
Services connected to this topic