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BRAZIL: An Introduction to Brazil

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Corporate/Commercial: An Introduction to Brazil-wide

Freitas Ferraz Capuruço Braichi Riccio Advogados

Corporate/Commercial – Recent Scenario and Forecasts 

These are unprecedented times. After the emergence of the COVID-19 pandemic, entrepreneurs, companies, directors, officers, and shareholders from small to large operations have been facing a wide range of challenges to maintain themselves in business.

In Brazil, the way people consume goods and services has been changing continuously, and we expect further repercussions around most industries, which will have to adapt in order to diminish the impacts of the pandemic.

As for the economic scenario, which directly affects companies doing business in the country, recent prognoses by international and domestic entities expect Brazil's GDP to drop between 5-9% in 2020, breaking the most positive perspective of a national economy thriving and growing as a result of the recent labour and social security reforms. Nevertheless, to stimulate the market, the base annual interest rate (SELIC) has been constantly reduced to historic record lows.

Naturally, the desire for profitability in a low interest rate environment shifts investors' attention to opportunities in the capital markets, which have shown a substantial increase in the number of transactions even after the shrinkage at the beginning of the pandemic.

Besides that, from a health and sanitary standpoint, the exponential spread of the virus, the lack of tests, and the difficulties for the development and mass production of a vaccine to control the pandemic add even more pressure on companies, which now face a dilemma of whether opening the doors might be safe and beneficial to their businesses.

Despite the difficulties surrounding the imposed isolation, flight restrictions, and health crisis, disruptions appear to be a way out for those who seek growth and market opportunities during these uncertain times. As amid every crisis, great opportunities arise. That is the case of companies in industries such as retail, which were already investing in ecommerce and are now seeing the benefits from such strategies resulting in high sale volumes.

The Brazilian government has announced several legislative and normative changes, and there are high expectations for those measures to be undertaken. We list below major topics that deserve attention from those who invest, operate, and trade in Brazil.

Mergers and Acquisitions and Corporate Contracts 

M&A transactions are historically susceptible to market changes, and by following the intense activity seen along the last years - which was driven by a series of structural reforms to raise 'investors' confidence -, we expect traditional M&A strategies to be remodelled due to the above-mentioned uncertainty. Such impact may result not only in call-offs or suspensions of the transactions currently under negotiation, but also in the need of inserting the concerns of the post-pandemic effects in the agreements.

As in any economy, this may bring many opportunities, but primarily for strategic buyers. From our perspective, many deals are being negotiated to exploit discounted prices, mostly of small and medium-sized companies, which may be explored by buyers not only to grow their core activities but also to pursue new strategies by developing ancillary activities and technologies (for instance, to expand the digital presence that arose from the high demand of internet solutions). For those with strong balance sheets (including steady cash position, low debt, and stable cash flow generation), such strategic acquisitions are even more advantageous.

Therefore, despite the uncertainty, we expect for the next quarters an improvement on more strategic M&A deals and corporate restructuring to enable economic groups to become more efficient in the post-pandemic increase of competitiveness. The upturn of IPO in the Brazilian capital markets – observed right after the start of the economy reopening – will also foster M&A transactions, primarily involving medium and big-sized companies.

For financial buyers, the market for leveraged debt financing will probably be more impacted by some difficulties in raising funds, which may result in the stand-down of private-equity firms for a while.

Narrowly, aside from the openness of the market for M&A transactions, it is crucial to analyse the economic situation's impact within the deals. Foremost, we expect due diligence processes' complexity level to increase significantly. On the one hand, for the evaluation and distinguishment of the pandemic impacts on the target, which will echo in a crucial aspect: valuation. On the other hand, to guarantee a focused assessment of cybersecurity, considering both the intense exchange of data due to working from home practices and the enforcement of Law No. 13.709/2018 (routinely called the Brazilian General Data Protection Law).

As previously mentioned, a critical point of M&A transactions during a weak economy is valuation and price negotiation. A well-conducted negotiation and tailor-made documents will ascribe the right mechanisms to reduce or extinguish valuation gaps between buyer and seller, enabling the parties to reach an agreement and the intended transaction to close. Contractual mechanisms – such as earn-out provisions, material adverse change (MAC) clauses and indemnities for liabilities will be crucial for deals that will take place in the post-pandemic scenario.

Debureaucratization and Incentives for Businesses 

Recent legislation also brought significant changes for the debureaucratization of business activities in Brazil. We expect such changes to significantly alter procedures not only for the incorporation of companies but also for the daily business activities that for years have been marked as challenging to implement due to bureaucratic and nonessential demands.

With the advent of Law No. 13.874/2019 (routinely called as Law of Economic Freedom), business activities are being positively impacted by structural reforms alongside Brazilian Registries of Commerce, Federal and State Revenue Offices, and other governmental authorities. One of the trends readily seen is the recent change of the Brazilian Civil Code, which authorized limited liability companies to be incorporated as a wholly-owned company (sociedade limitada unipessoal) and brought significant progress to business activities.

Besides that, a relevant change to the Brazilian business environment was the advent of Law No. 14.030/2020 that created the possibility for the main types of business entities to hold shareholders’ meetings entirely through electronic means, reducing the formalities required to carry out such meetings.

The debureaucratization movement can also be seen through relevant resolutions enacted by the Brazilian National Department of Registry of Commerce (DREI) such as the Normative Instruction 81/2020, which replaced a significant portion of past normative instructions and consolidated registry instructions in a more straightforward and modern document.

One of the main benefits of this great variety of measures to facilitate the daily activities of businesses in Brazil is the reduction of time taken for the incorporation of companies in the country, an aspect that, for many decades, was the topic of complaints by domestic and foreign entrepreneurs.

Tax Reform 

A broad tax reform, focusing mainly on the simplification of the Brazilian tax system and correction of distortions on taxation over consumption, has been discussed in Brazil more consistently at least for the past four years.

Some key issues that are being discussed are: (i) the unification of consumption taxes aiming at simplifying and reducing the tax legislation, (ii) reduction of ancillary obligations to improve Brazil's discreditable positions on international rankings as one of the most complex countries on tax matters in the world, and (iii) taxation on profits and dividends paid to members and shareholders.

Regarding the taxation on profits and dividends, it is essential to highlight that most of the corporate and tax restructurings that occurred in past years rely directly or indirectly on current exemptions of such payments. Therefore, any taxation-driven modification on that matter will demand a wide review of most companies' corporate and tax structures, such as foreign investment vehicles.

Regarding states' taxation, there is also a strong debate on initiatives to increase taxation on donations and inheritances. For instance, some initiatives of draft laws pending in São Paulo state provide for a rate increase from 4% to 8% and also an increase in taxable basis and broader scope of incidence. At the same time, other initiatives are also underway in National Congress to increase the maximum authorized rate, currently held at 8%.

This buzz over donation and inheritance tax has fuelled clients' demands for estate and tax planning and similar, in the hope they will not be caught off guard by changes in legislation.

Tax reform or any other change in tax legislation is undoubtedly a very relevant matter for Brazilians and anyone interested in doing business in Brazil. We expect that for the next quarters it will be subject to intense discussions amongst interested stakeholders.