Key pensions considerations for Venture Capital (VC) investors on legal due diligence of investee companies

Due to the nature of VC investments it has historically been common for pensions to be carved out of due diligence on investee companies. However, changes in legislation which include potential criminal sanctions have increased the risk profile associated with UK defined benefit pension schemes ("DBPS"). This seismic shift has changed the way DBPSs are being considered by mainstream lenders and in corporate VC and M&A transactions. This is something VC investors need to be aware of when deligencing new business and considering options in the event of default.

Since October 2021, the Pensions Regulator (TPR) has had significantly enhanced powers including:

• the ability to compel a scheme employer or a person associated or connected with an employer to provide financial support to a DBPS;
• criminal sanctions against any person whose acts or failures to act has a materially detrimental effect on a DBPS, where they knew or ought reasonably to have known the act would have such an effect and they have no reasonable excuse. If convicted of such an offence the penalties are up to 7 years imprisonment and/or an unlimited fine; and
• the ability to request information, inspect premises and interview under caution anyone they consider relevant to the use of their powers.

These new powers are purposefully broad and have been designed to capture anyone whose behaviours could impact a DBPS. This includes lenders and minority investors.

A particular concern for VC investors is where:

• a minority investment in a company, could result in them being "associated or connected" with a DBPS employer as a result of the investee company or another group company participating in a DBPS;
• where debt in a company with a DBPS in its group is converted to equity thereby making the VCs associated or connected with an employer of the DBPS; and
• where an enforcement event has an impact on a DBPS employer, causing the detriment to the scheme.

The above is not an exhaustive list. Ultimately, any activity which could have a negative impact on a DBPS or one of its employers could be caught. This can also include "shadow" director type behaviours.

These new requirements are not designed to frustrate business as usual and should not deter VC investors from working with DBPS employers. However, it is important to diligence pensions at the outset. Where there is a DBPS in an investee company's group, consideration will need to be given to how to manage the potential risks here. This can involve contractual protections, discussions with the DBPS trustees and engagement with TPR.

Please note that the above is being provided as a general guide specifically relating to one key pensions aspect of legal due diligence. Specialist advice should be sought on a case by case basis.

If you would like to talk to us about our expertise and commitment supporting investors, lenders and corporates in respect of pensions issues, please contact us.