Summary

  • The Takeovers Panel’s frustrating action policy has often caused uncertainties for target boards.
  • The Panel has published proposed changes aimed at providing more guidance for target boards and setting out when some bidders may not get the benefit of the policy.
  • The changes, if implemented, would provide better clarity for the market and may change market behaviour.

Introduction

Earlier this month, the Takeovers Panel released a consultation paper on its proposed amendments to its Guidance Note on 'frustrating action'.1

The amendments are aimed at providing further guidance to target boards by reducing the ambiguity as to what instances of frustrating action might be 'unacceptable' – hence allowing them to respond to a bid, and conduct the affairs of the target company during the bid, on a surer footing.

This is an issue which Herbert Smith Freehills has raised in several earlier articles.2 As well as opinion pieces3 and panel submissions.4

The proposed amendments are welcome, and – if implemented – will provide further clarity to target boards as well as establishing a more appropriate balance between bidders and targets (and target shareholders) in hostile takeovers.

Refresher on frustrating action

The Panel’s policy on frustrating action is designed to ensure that target shareholders, rather than target boards, have the final say on whether a takeover bid succeeds.

However, the policy often has a significant impact on target companies during a hostile takeover bid. Its effect is that, in general, material transactions and initiatives – no matter how attractive or value-accretive – cannot be implemented by the target company, without express approval from shareholders in general meeting, as, typically, they would breach a condition of the bid.

The problem with that is that counter-parties are generally unwilling to agree to a transaction when the company subject to the bid must seek shareholder approval, effectively giving it an option to withdraw.

The rough edges

Critics have argued that the current policy potentially extends too far, and that bidders may be gaining excessive advantage from the actual or perceived restrictions that the current policy imposes upon target boards. They argue that the threat of being found to have engaged in unacceptable frustrating action is excessively limiting the actions that target boards are able to take in both responding to a bid and managing the company through a potentially drawn-out and destabilising bid period.

Several commentators – Herbert Smith Freehills included – have argued that there is ambiguity in how far the policy extends, and that there are situations where target boards might feel that their hands are unjustifiably tied when seeking to manage the company through a bid.

This issue has come to the fore as more and more bids have been accompanied by extensive and restrictive conditions, leading to two effects:

  • first, by purporting to restrict a wide array of arguably business-as-usual activities of the target, these conditions leave target boards feeling powerless to take even commercially reasonable and usual actions, hence leaving them more exposed to bidders; and
  • secondly, the ambit nature of some conditions means that they will almost inevitably be breached at some point, with or without the involvement of the target. Bidders are not required, until very late in the bid period, to announce whether they will rely on such breaches to cause their bid to lapse – meaning that they have, in effect, a free exit option. It is unfair that, while shareholders have no certainty that the bid will actually proceed, the target remains bound by the frustrating action policy.

Proposed reforms

The proposed reforms re-work the policy to give greater guidance on the situations where frustrating action will be considered unacceptable. In particular, the amendments further emphasise:

  • that the policy will only have teeth where a bid provides a 'genuine opportunity' for shareholders to dispose of their shares. In other words, if there is lack of funding certainty, the bid is demonstrably dead in the water, or the bid expressly depends on a target recommendation which is not forthcoming, then the policy will not restrict the target board; and
  • that the policy won’t apply where it would be 'otherwise unreasonable' to do so. These situations include common-sense situations such as actions to alleviate financial distress and compliance with legal requirements. They also include non-compliance with overly restrictive conditions, conditions that are invoked unreasonably, and the situation where another condition has been breached by the bidder has not confirmed within a reasonable time whether it will waive the breach (ie the 'exit option' conundrum).

The draft guidance note will emphasise these principles and frame them in a more definitive manner. This will provide comfort to target boards as to where their actions are likely to be unacceptable. The proposed amendments also quote the policy basis which accompanied the original legislation underpinning the policy, noting that it was aimed at preventing only “illegitimate spoiling action” by target boards.

Commentary

The proposed amendments are a welcome evolution of the frustrating action policy. If implemented, they will provide further clarity to target boards, and should dissuade bidders from imposing opportunistic and excessive conditions upon targets.

The Panel has sought submissions by 24 October 2016.