Alternatives To Standart Rights Issues
Rights issues are sometimes effected in order to fund acquisitions. An alternative way of structuring the financing of an acquisition is to do a vendor placing. In a vendor placing the acquiring company allots its shares as the consideration for the acquisition but then arranges for the shares to be sold in the market for the benefit of the vendor. The net result of the vendor placing is that the vendor receives cash for the assets which have been sold but because, technically, the acquiring company allots its shares for a non-cash consideration, namely the assets acquired, the pre-emption requirements do not apply since they only come into operation when shares are allotted for cash
The non-application of the Companies Act 1985, s 89 to issues of shares for non-cash consideration is based on the practical consideration that there may be circumstances when a company wants to acquire a unique piece of property but its owner will only give it up in return for shares. This is not the case in a vendor placing where the vendor actually wants cash and the allotment of shares is little more than a device designed to put the transaction outside the scope of s 89 pre-emption requirements.
For this reason, the practice of vendor placings has been criticised by institutional investors on the grounds that it is prejudicial to the interest of existing shareholders, as others are being given an opportunity to acquire shares in the company often at a discount to the market price; and the holdings of existing shareholders are being diluted without an opportunity being given to them to maintain their percentage stakes in the issuer (this opportunity being described in practice as a 'clawback').
The current view of institutional investors is that shareholders are entitled to expect a right of clawback for any issues of significant size or which are offered at more than a very modest discount to market price. It is expected that issues involving more than 10 per cent of issued equity share capital or a discount greater than 5 per cent will be placed on a basis which leaves existing shareholders with a right to claw back their pro rata share of the issue if they so wish. In cases where the limits are exceeded an open offer may be made instead of a rights issue in the traditional form.
The MMC Report on the matter was published in February 1999. The MMC found that complex monopoly situations existed in established underwriting practice and that the standard practice operated against the public interest.
Yet it did not suggest that direct legal measures to curb the practice were required. Instead, its recommendations sought to use information disclosure and accountability requirements as mechanisms for shifting market practice. Its first recommendation was that the Securities and Futures Authority (and relevant recognised professional bodies) should issue guidance to corporate financial advisers reminding them of the Financial Services Authority's principle on information for customers and recommending that they should advise their clients of alternatives to underwriting at standard fees.
Secondly, it recommended that the London Stock Exchange should change The Listing Rules to require directors to explain their choice in those cases where their company undertook an underwritten share issue on the standard basis without incorporating the competitive tender process which is described in the next section of this chapter for at least two-thirds of the sub-underwriting. The third recommendation was that the Bank of England should publish guidance for companies on share-issuing good practice which should encourage the use of tendering and explain the advantages of deep discounting.
These recommendations were adopted by the Secretary of State and, at the time of writing, discussions are ongoing with the relevant authorities with a view to their implementation.
Also at the recommendation of the MMC, the Secretary of State has referred to the general review of company law which is outlined in 19 of this book the question whether there is scope for reducing the minimum length of the offer period for a rights issue which, under the Companies Act 1985, s 89, presently stands at 21 days. The perceived tax disadvantages of deep-discounted issues for investors (which, broadly, stem from the capital-gain tax rules that apply when shareholders sell their rights) are to be examined further by the Treasury.
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