- There is often a commercial need for smaller listed companies to obtain underwriting or sub-underwriting commitments from substantial shareholders to successfully close a rights offer.
- The Takeovers Panel decision in ABM Resources NL 01R provides a reminder of the factors which should be considered by boards undertaking such rights offers to ensure that the offer does not give rise to unacceptable circumstances.
- The decision also indicates the potential for greater scrutiny of underwriting arrangements that are conditional on a minimum level of sub-underwriting support.
- The decisions illustrate that the Panel does not consider it appropriate to negotiate the terms of a transaction that is the subject of a proceeding before it. However, it is prepared to consider granting orders that will give companies commercial certainty on the implementation of a transaction (although, ultimately, it did not do so in ABM Resources NL 01R).
Background and initial Panel proceeding
The Takeovers Panel’s decisions in the recent proceedings relating to the proposed rights issue by ABM Resources NL (ABM) again highlight some key issues faced by boards of smaller listed companies when they look to raise capital.
On 9 March 2016, ABM Resources NL (ABM) announced:
- a 3 for 5 non-renounceable rights issue at an issue price of $0.04 per share to raise a total of approximately $8.2 million (Rights Issue), fully sub-underwritten by its major shareholder, Pacific Road Capital Management Pty Ltd (PRCM), and
- a $3.8 million debt facility with PRCM (Debt Facility), which was subject to conditions including that the Rights Issue proceed with PRCM as sole sub-underwriter.
PRCM held 19.85% of ABM. If no other shareholders took up their rights under the Rights Issue, PRCM stood to end up with voting power of 49.91%.
ABM’s other major shareholder, APAC Resources Capital Limited (APAC), applied to the Panel for a declaration that the Rights Issue amounted to unacceptable circumstances. APAC held 14.83% of ABM. APAC also proposed an alternative funding option, being a renounceable rights issue at $0.015 per share (subsequently increased to $0.0225) to raise $14 million, fully underwritten by APAC.
The initial Panel considered that the Rights Issue was not structured in a way that ‘genuinely mitigated’ the potential control effect of the Rights Issue, identifying (amongst other things):
- limited attempts made to identify alternative sub-underwriters,
- the structure of the issue (including the process for determining the issue price) being unattractive for underwriters, and
- the conditions linking the Debt Facility to the Rights Issue.
The initial Panel ordered that ABM must not proceed with the Rights Issue (Initial Order). Although various alternative proposals were presented to the initial Panel, it did not consider it appropriate to negotiate the commercial terms of the Rights Issue and so granted the Initial Order on the basis that it would allow ABM to put together a revised transaction.
Review Panel proceeding
ABM commenced review Panel proceedings seeking orders setting aside the Initial Order on the basis that ABM would undertake a restructured rights issue with modifications intended to address the initial Panel’s concerns (Restructured Rights Issue). Those modifications included:
- appointing Patersons Securities Limited (PSL) as the sole underwriter and manager, with PSL responsible for market testing the issue price and arranging the sub-underwriting,
- steps to minimise the control effect of the Rights Issue by:
- making the issue renounceable,
- including a shortfall facility,
- PSL undertaking marketing to attract sub-underwriters not affiliated with ABM’s major shareholders and giving those non-affiliated sub-underwriters a priority allocation; and
- inviting each of ABM’s major shareholders to act as sub-underwriters, and
- removing the debt facility.
PSL and ABM entered into a mandate to undertake the Restructured Rights Issue during the review Panel proceedings (PSL Mandate). The PSL Mandate was subject to a number of conditions, including PSL securing sub-underwriting support for all of the amount to be underwritten (Sub-Underwriting Condition).
Despite submissions by APAC to the contrary, the review Panel accepted that it had jurisdiction to consider the Restructured Rights Issue. The review Panel also noted that it was mindful that there were potential commercial benefits in opinion on the Restructured Rights Issue, reflected in ABM’s submission that without orders from the review Panel that the Restructured Rights Issue could proceed it would be difficult to involve a professional underwriter (the lack of which had been a key concern of the initial Panel).
Ultimately, the review Panel did not make the orders sought by ABM as it considered that the Restructured Rights Issue, as presented to the Panel, was not sufficiently complete to justify the making of those orders. However, the review Panel did state that the Restructured Rights Issue was ‘unlikely to be unacceptable’ if implemented on the terms presented to the Panel.
Analysis of Sub-Underwriting Condition
The review Panel also considered a submission made by ASIC that the Sub-Underwriting Condition meant that the PSL underwriting and any sub-underwriting would not be a genuine underwriting agreement that would satisfy item 10 of section 611 of the Corporations Act (which allows underwriters and sub-underwriters to increase their holding above the takeovers threshold of 20% via the underwriting arrangements).
The review Panel did not determine this issue, acknowledging ABM’s submission that the Sub-Underwriting Condition was contained in the PSL Mandate (not a formal underwriting agreement). However, the Panel indicated that it would share ASIC’s concerns if the underwriting arrangements ultimately entered into allowed PSL to avoid its underwriting obligations if a sub-underwriter defaulted on its obligations.
The review Panel decision indicates that although rights issues can have a significant control impact through underwriting by substantial shareholders, such arrangements are not unacceptable per se. What is of critical importance is ensuring that genuine attempts are made to pursue all avenues to minimise the potential control effects. If efforts are not considered sufficient it may result in a declaration of unacceptable circumstances.
The Panel’s observations regarding the Sub-Underwriting Condition were made with reference to ASIC’s position in Regulatory Guide 6 that underwriting arrangements must involve ‘some element of risk taking by the underwriter’1 in order to be genuine underwriting arrangements that satisfy the item 10, section 611 exception.
It is not clear from the Panel’s observations whether it sees a distinction between, on the one hand, a condition to an underwriting commitment relating to sub-underwriting commitments that, once satisfied (along with any other conditions), would result in a binding underwriting commitment, and, on the other hand, a termination right exercisable where a sub-underwriter defaults on its obligations. Arguably, in the first case, the underwriter is still assuming risk – once the condition is satisfied, the underwriter is on risk for defaults by the sub-underwriter.2
This is an area that we expect to be a continuing focus for ASIC and, potentially, the Panel. It will be important for companies to carefully consider the terms of the underwriting arrangements where the underwriter (or a sub-underwriter) may need to rely on the item 10, section 611 exception, and it will also be important to carefully consider the disclosures made to shareholders regarding the underwriting arrangements even where item 10, section 611 is not relevant.