Recent changes to the Takeover Code

Kavita Bassan and Darius Lewington, solicitors in the Lexis®PSLCorporate team, outline what corporate lawyers need to know about the recent changes to the City Code on Takeovers and Mergers introduced by the Code Committee’s latest instrument.

Original news

Takeover Panel published Response Statements on three consultations, LNB News 23/10/2015 126
 
The Takeover Panel has published amendments to the City Code on Takeovers and Mergers (the Code), following consultations on dividends, restrictions and suspensions of voting rights and the inclusion of additional presumptions in the definition of ‘acting in concert’. The amendments will take effect on 23 November 2015.

What is the background to the proposed changes?

The Code Committee (the Committee) issued three public consultation papers earlier this year with the aim of amending the Code to clarify the application of certain provisions and codify the existing practice of the Panel Executive (the Executive), in relation to the treatment of dividends, restrictions and suspensions of voting rights and the inclusion of additional presumptions in the definition of 'acting in concert'.
 
The Executive has adopted the substance of the amendments proposed in the consultations (with some alterations in light of comments from respondents).
 
The full text of the amendments to the Code are set out in Instrument 2015/3 and a summary of responses and background to the proposed changes are set out in Response Statement 2015/1 (Dividends), Response Statement 2015/2 (Restriction and suspensions of voting rights) and Response Statement 2015/3 (Additional presumptions to the definition of acting in concert).

What are the main changes to the treatment of dividends?

The principal changes are in relation to:

  • requiring certain offer documentation to include a statement of the offeror's rights to reduce the offer consideration by the amount of any dividend (or other distribution) which is paid or becomes payable by the offeree to offeree shareholders
  • the effect of a dividend where an offeror has made a ‘no increase’ statement
  • the impact of dividends on a minimum offer price established by share purchases

The amendments are intended primarily to clarify the application of existing provisions of the Code and to ensure greater alignment of the Code with existing practice of the Executive.

Reserving the right to reduce the offer consideration

Rule 2.5(a) provides that where a potential offeror makes a statement in relation to the terms on which an offer might be made, the potential offeror will be bound by that statement if an offer is subsequently made except:

  • where it specifically reserved the right not to be so bound in certain circumstances (and those circumstances subsequently arise), or
  • in wholly exceptional circumstances

Rule 2.5(a)(i) in particular provides that where the statement relates to the price of a possible offer (a Rule 2.5(a)(i) statement), any offer made by the potential offeror for the offeree must be made on the same or better terms. This is to ensure that market participants are able to rely on the statements made regarding the value of a possible offer and make their investment decisions accordingly.

In PCP 2015/1, the Committee proposed new Notes on Rule 2.5 (possible offer announcements), Rule 2.7 (firm offer announcements) and Rule 24.3 (offer documents) which would provide that:

  • an offeror may reserve the right to reduce the offer consideration by the amount of all or part of a dividend subsequently paid by the offeree
  • if an offeror does not reserve that right in each of (i) any Rule 2.5(a)((i) statement, (ii) its firm offer announcement, and (iii) the offer document, it will not normally be permitted to reduce the offer consideration by all or part of a dividend which is subsequently paid by the offeree

Respondents were generally supportive of the proposals, but concern was expressed that the proposed changes might operate harshly against a potential offeror that had inadvertently omitted to include the appropriate reservation in a Rule 2.5(a)(i) statement.

To address this concern, the Committee modified its original proposal so as to require:

  • an offeror, in each of a Rule 2.5(a)(i) statement, firm offer announcement and offer document, to state that it will have the right to reduce the offer consideration by the amount of any dividend (or other distribution) which is paid or becomes payable by the offeree to its shareholders, unless and to the extent that the offeror expressly states that offeree shareholders will be entitled to retain all or part of a specified dividend (or other distribution) in addition to the offer consideration—these changes will be made by the introduction of a new Note 4(a) to Rule 2.5 (possible offer announcements), a new Rule 2.7(c)(xii) (firm offer announcements and new Rule 24.17(a) (offer documents)
  • the offer document to include a term that where the offeror exercises its right to reduce the offer consideration by all or part of the amount of a dividend (or distribution) that has not been paid, the offeree shareholders are entitled to that dividend (or distribution)—this offeree shareholder entitlement is introduced by new Rule 24.17(b)

Effect of a dividend where offeror has made a 'no increase statement'

Rule 32.2(b) of the Code provides that, if an offeror which has announced a firm offer makes a 'no increase statement', the offeror will not be allowed subsequently to amend the terms of its offer in any way, even if the amendment would not result in an increase in the value of the offer, except:

  • where the offeror specifically reserved the right to do so in certain circumstances at the time the no increase statement was made, and those circumstances subsequently arise, or
  • in wholly exceptional circumstances

Rule 2.5(a)(ii) contains a similar provision where a possible offer announcement includes reference to the fact that the terms of a possible offer 'will not be increased' or are 'final', or uses a similar expression.

A new Note 4 on Rule 2.5 and a new Note 6 on Rule 32.2 have been introduced, which clarify that an offeror which has made a 'no increase' statement will normally be required to reduce the value of its offer by the amount of any dividend (or other distribution) subsequently paid or which becomes payable by the offeree, unless a specific reservation was included in the ‘no increase statement’ which provides for offeree shareholder entitlement to such dividends (or distribution) in addition to the offer consideration.

Impact of dividends on a minimum offer price established by share purchases

Rules 6, 9.5 and 11.1 set out provisions relating to the minimum amount, and form, of offer consideration where the offeror (or any person acting in concert with it) has acquired interests in offeree shares during certain periods specified in those Rules. Broadly, the consideration offered must be no less than the highest price paid by the offeror (or any person acting in concert with it) for an interest in the shares of the offeree during the relevant period or during the offer period.
 
Note 5 on Rule 6 previously provided that when accepting shareholders are entitled under the offer to retain a dividend declared or forecast by the offeree but not yet paid, purchases in the market or otherwise by an offeror or any person acting in concert with it may be made at prices up to the net cum dividend equivalent of the offer value without necessitating any revision of the offer. Note 4 on Rule 9.5 and Note 9 on Rule 11.1 broadly mirrored Note 5. These provisions ensured that a shareholder who received a dividend and accepted the offer received the same overall value as a shareholder who sold its shares to the offeror in the circumstances described, in accordance with the requirement in General Principle 1 for offeree shareholders to be afforded equivalent treatment.
 
Following the consultation, the Code has been amended to:

  • clarify when shares will be regarded as trading cum dividend
  • address the situation where offeree shareholders are not entitled, under the terms of the offer, to receive a dividend in addition to the full amount of the offer consideration
  • explain the potential impact on the minimum offer price of purchasing shares after the ex-dividend date

Note 5 to Rule 6 has been deleted and replaced by Note 5(a) and Note 5(b).

Note 5(a) on Rule 6 provides that where, in addition to the offer consideration, accepting shareholders are entitled to a dividend which has been announced but where the ex-dividend date has not occurred:

  • when establishing the minimum level of the offer, the offeror is able to deduct the amount of the dividend to which offeree shareholders are entitled from the highest price paid by it, and
  • following the announcement of an offer value, purchases made during the 'cum dividend' period by the offeror may be made at prices up to the aggregate of the offer value and the amount of the dividend without requiring any revised offer to be made

A revised offer will be required if the offeror purchases shares after the ex-dividend date at prices exceeding the offer value.

Note 5(b) on Rule 6 provides that where accepting shareholders are not entitled to a dividend which has been announced by the company in addition to the offer consideration:

  • when establishing the minimum level of the offer, the offeror cannot deduct the amount of the dividend from the highest price paid by it, and
  • following the announcement of an offer value, purchases made during the 'cum dividend' period by the offeror can be made up to the offer value without requiring a revised offer to be made

A revised offer will be required if the offeror purchases shares after the ex-dividend date at prices exceeding the offer value less the dividend.

Note 4 on Rule 9.5 and Note 9 on Rule 11.1 have been amended to provide that Note 5 on Rule 6 also applies to acquisitions made during the period to which those Rules apply.

How will new Note 5 on Rule 6 operate in practice?

PCP 2015/1 provides some helpful illustrations of how Note 5 will operate in practice:

  • if the offeror is offering consideration of 100 pence in cash and, under the terms of the offer, offeree shareholders are entitled to receive an announced dividend of 2 pence per share in addition to the offer consideration, the offeror will be permitted to purchase shares which are trading cum dividend for up to 102 pence without being required to increase its offer. However, after the shares commence trading ex dividend, the offeror will only be permitted to purchase shares for up to 100 pence if it is to avoid being required to increase its offer
  • if the offeror is offering consideration of 100 pence in cash per share and, under the terms of the offer, offeree shareholders are not entitled to receive a dividend of 2 pence per share in addition to the offer consideration, the offeror may purchase shares which are trading cum dividend for up to 100 pence without being required to increase its offer
  • if, notwithstanding the terms of the offer, offeree shareholders become entitled to receive the dividend by virtue of being on the register of members on the dividend record date, the offeror may decide to reduce the offer consideration by the amount of the dividend, provided that it had reserved the right to do so. If the offer consideration is so reduced, the offeror will be permitted to acquire shares after the ex-dividend date for up to only 98 pence if it is to avoid being required to increase its offer. This is because, following the ex-dividend date, shareholders will have become entitled to the 2 pence dividend which, when added to the 98 pence purchase price, would result in a selling shareholder receiving an aggregate of 100 pence per share. Alternatively, provided the offeror has not made a 'no increase statement', the offeror may decide to revise its offer so as to allow offeree shareholders to keep the 2 pence dividend in addition to the 100 pence offer consideration, in which event the offeror will be permitted to acquire shares after the ex-dividend date for up to 100 pence without being required to increase its offer

What will the amended definition of voting rights cover?

The Committee proposed that the definition of ‘voting rights’ be amended to address two points:

  • to clarify that where a shareholder is, for any reason, currently restricted from exercising the voting rights attaching to shares, those (restricted) voting rights should nevertheless be taken into account in considering the application of the Code in relation to that person and to other shareholders in the company
  • to eliminate the existing scope for a company to issue ‘suspended voting shares’ as a means of avoiding the normal application of Rule 9 of the Code, including the requirement for a company to obtain a whitewash

Respondents were supportive of the Committee’s proposals in PCP 2015/2. The Committee has adopted the substance of the amendments set out in PCP 2015/2 with some modifications in light of comments from respondents (in particular in relation to the definition of treasury shares).

Key changes to the Code include:

  • the deletion of the definition of voting rights and the introduction of a new definition so that, except for treasury shares, shares that are subject to either a restriction on the exercise of voting rights or a suspension of voting rights will normally be regarded as having voting rights exercisable at a general meeting (ie, such shares will be taken into account in considering the application of the Code in relation to that shareholder and other shareholders in the company), and
  • the expansion of the definition of treasury shares to include treasury shares held by a company other than as a result of the purchase of its own shares out of distributable profits

The Committee has also made consequential amendments to Rules 11.1 and 11.2 (and their accompanying Notes) and minor amendments to the Note on Rule 9.7 and Rule 9.7.

How will the definition of acting in concert be different?

Persons who are ‘acting in concert’ are treated under the Code as a single person such that, for example, their interests in shares must be aggregated when considering the application of the mandatory offer requirements in Rule 9. The definition of acting in concert includes categories of persons who are presumed to be acting in concert. The Committee felt that the definition did not include certain categories of persons that the Executive had been treating in practice as acting in concert. The Committee therefore proposed in PCP 2015/3 to introduce new presumptions to the definition of ‘acting in concert’ in relation to each of these categories of persons.
 
The Committee reported in RS 2015/3 that the proposals in PCP 2015/3 were generally supported. Accordingly, the Committee has adopted the amendments to the Code which were proposed in PCP 2015/3. The key changes include the introduction of:

  • a new definition of ‘close relatives’
  • three additional categories of persons presumed to be acting in concert:
  1. a person, the person's close relatives, and the related trusts of any of them, all with each other
  2. the close relatives of a founder of a company to which the Code applies, their close relatives, and the related trusts of any of them, all with each other, and
  3. shareholders in a private company who sell their shares in that company in consideration for the issue of new shares in a company to which the Code applies, or who, following the re-registration of that company as a public company in connection with an initial public offering or otherwise, become shareholders in a company to which the Code applies

Presumption (2) has been amended so that the related trusts of the close relatives of a company’s director are also presumed to be acting in concert with the company (presumption (2)).

The Committee has also made consequential amendments to various Notes, including Notes on exempt fund manager and exempt principal trader, Note 5 on Rule 8, Note 1 on Rule 19.2 and also Rule 9.6.

Are there any areas of concern for corporate lawyers?

The majority of changes codify the existing practice of the Executive, so should not come as a big surprise to practitioners.
 
However, the amendments to the definition of voting rights may raise concerns for companies that have previously issued suspended voting shares which are still in issue. The Committee recommends that the Executive should be consulted in such circumstances so that it may obtain a ruling regarding the application of the Code to the company.
 
In addition, while it is common for firm offer announcements and offer documents to include a statement reserving an offeror's right to reduce the offer consideration where a dividend is paid by the offeree, this is not always the case for possible offer announcements. Under the new rules where a possible offer announcement includes a statement relating to the price at which an offer may be made, it must include a statement setting out the offeror's rights to reduce the offer consideration by the amount of any dividend (or other distribution) which is paid or becomes payable by the offeree.
 

Relevant Articles
Area of Interest