The UK Financial Conduct Authority has recently imposed on Asia Resource Minerals plc (formerly Bumi plc) a £4.6 million fine for breaching the Listing Rules in connection with the company’s failure to properly implement its policy and procedures on related party transactions. The fine has highlighted the importance of ensuring that all subsidiaries of listed companies, wherever incorporated and whatever their local governance arrangements, have in place proper systems and controls to ensure the subsidiaries comply with the Listing Rules.

Overview

On 17 June 2015 the UK Financial Conduct Authority (the FCA) published a final notice imposing a fine of £4.6 million on Asia Resource Minerals plc (ARM) for breaches of the UK Listing Principles, Listing Rules and Disclosure and Transparency Rules (DTRs). The breaches occurred as a result of ARM having failed to ensure that its related party transactions policy was understood and implemented by all the relevant individuals responsible for running and overseeing the operations of its Indonesian subsidiary, PT Berau Coal Energy Tbk (PT Berau Coal).

As a result of the failures, PT Berau Coal entered into a number of transactions with related parties (RPTs), totalling US$12,700,000 in value, without ARM having consulted its sponsor as to whether the transactions in question could be RPTs or, where they were, informing the UK Listing Authority (UKLA) in writing of the proposed transactions and taking the other steps required by chapter 11 of the Listing Rules.

Discovery of the related party transactions, together with other financial irregularities, meant ARM could not publish its annual financial results for 2012 within four months of the financial year end, as required by the DTRs, which resulted in trading in the company’s shares being suspended. Trading eventually resumed in July 2013, after the company had confirmed, at the request of the UKLA, that it was compliant with the relevant Listing Principles.

Relevant Listing Rules and Listing Principles

Chapter 11 of the Listing Rules sets out rules designed to prevent persons who are in a position to influence decision-making by the parent company’s board from taking advantage of their position, and to prevent any perception that they may have done so. Such persons, who are known as related parties, include (i) current and recent directors of the listed company or any of its subsidiary undertakings (for convenience referred to below as “subsidiaries”); (ii) substantial shareholders – i.e. those owning or controlling 10% or more of the share capital of the listed company or any of its subsidiaries; and (iii) “associates” of such persons.

In most cases, a stock market announcement must be made and shareholder approval obtained before a listed company - or any of its subsidiaries - completes a non-ordinary course transaction or arrangement with, or that benefits, a related party. However, for certain “smaller” transactions these requirements are modified; and certain other transactions are completely exempt.

Under LR 8.2.3, if a listed company or any of its subsidiaries proposes to enter into a transaction that could be a RPT it must obtain the guidance of a sponsor to assess the potential application of LR 11. (In the final notice, however, the FCA helpfully says: “A transaction which is in the ordinary course of business or clearly falls beneath the percentage threshold set out in LR 11 Annex 1(1) [for “small” transactions, which are exempt from LR 11] will not amount to an RPT. A listed company may itself be well placed to determine whether a transaction is an RPT - for example, where the transaction is clearly in the ordinary course of business or falls within the small transaction exemption. However, where there is sufficient uncertainty as to whether a proposed transaction is an RPT, a Sponsor must be consulted.”)

Under the Listing Principles a listed company must take reasonable steps to establish and maintain adequate procedures, systems and controls to enable it to comply with its obligations as a listed company. In practice, before joining the Main Market a company will usually work with its sponsor and advisers to (i) identify and maintain a list of all persons who are or could be related parties; (ii) put in place internal policies and procedures designed to ensure that any transaction that could be a RPT is identified at an early stage and brought to the attention of executives, internal lawyers and/or compliance officers who are familiar with the requirements of LR 11; and (iii) provide training on the policies and procedures to all relevant employees and executives.

Where a listed company has subsidiaries outside the UK, it can be challenging to ensure that the policies and procedures are communicated to and understood by all local management, that all relevant individuals attend appropriate training sessions, and that the policies and procedures are actually implemented in practice. Difficulties can include simple logistics, language barriers, different time-zones, cultural differences, competing legal regimes and different standards of record-keeping and transparency. The latter, in particular, can make it difficult to identify everyone who is an associate of a related party. However, as the FCA’s enforcement action against ARM makes clear, such difficulties will not be regarded by the FCA as a legitimate excuse for any failure to ensure that robust policies and procedures are implemented promptly and effectively.

If a company that is already listed subsequently acquires a new business, it must similarly ensure that appropriate procedures, systems and controls are put in place in the acquired entity.

ARM’s overseas subsidiary

PT Berau Coal was listed on the Indonesian Stock Exchange. In 2011, before ARM joined the UK Main Market, ARM had acquired 84.7% of the shares in PT Berau Coal. The local management of PT Berau Coal were therefore presumably familiar with the requirements of the Indonesian Stock Exchange, but the Listing Rule requirements may have been new to them.

Problems at ARM

ARM announced in September 2012 that it had become aware of allegations of potential irregularities in PT Berau Coal’s operations, and shortly afterwards conducted an internal investigation of certain historic potential RPTs entered into by PT Berau Coal. The investigation identified a number of transactions, three of which were determined by ARM’s financial advisers as being RPTs, plus a number of other transactions totalling $225,300,000 in value where the ultimate third party could not be identified.

The identified counterparties were all entities within the Recapital group, which was controlled by Mr Rosan Roeslani. Mr Roeslani was a non-executive director of ARM from 11 April 2011 to 19 December 2012 and President Director (equivalent to CEO) of PT Berau Coal from July 2010 to 7 March 2013. Mr Roeslani was therefore a related party of ARM. As the relevant transactions were entered into with an associate of Mr Roeslani, they were therefore RPTs. The transactions comprised: (a) a loan to a company where the interest rate was lower than the normal commercial rate; (b) costs incurred by PT Berau Coal for private jet hire where the majority of use was not in the ordinary course of business; and (c) the purchase of a vessel which was not in the ordinary course of business.

As a result, at the time when PT Berau Coal proposed to enter into these transactions it should have escalated them to appropriate individuals within ARM, so that if necessary ARM could consult its sponsor to determine whether or not the transactions did in fact constitute RPTs. If they did so, ARM should have complied with the relevant requirements of LR 11.

Red flags

In the FCA’s view, various factors should have made ARM aware that members of its group, especially PT Berau Coal, might well enter into RPTs and therefore of the importance of having in place across the group robust systems, procedures and controls to ensure that it complied with the Listing Rules on related party transactions. In particular:

  • the fact the subsidiary was an Indonesian company with senior management who were unfamiliar with rules and regulations applicable to companies listed in the UK;
  • the increased risk of potential RPTs given that a number of board directors of both ARM and PT Berau Coal held senior management or board positions in other companies in the same industry and were involved in other operations and financial interests in Indonesia; and
  • past concerns that had been identified in an independent analyst report published shortly before ARM’s UK listing.  Given these factors, and the fact that the board of ARM included directors nominated by founder shareholders, “it should therefore have been understood at a senior level within the Company that the composition and nature of the group created a high risk of RPTs. This being the case, the Company should have paid especially close attention to ensuring that it took reasonable steps to establish and implement an effective RPT Policy, including at Subsidiary level.”

Failure to implement the RPT policy

Prior to listing, ARM created and approved an RPT policy (the Policy) to identify such transactions before they were entered into. But for a number of reasons the Policy was not effectively implemented. In particular:

  • ARM’s Conflicts Committee, which was responsible for implementing the Policy, only met infrequently and its members had only limited oversight of PT Berau Coal.
  • Certain key members of the board of PT Berau Coal did not attend training sessions, and there was a failure to follow up on attendance or keep a record of who had attended the training, as well as a failure to provide training to employees below director or senior management level.
  • ARM was over-reliant on the senior management of PT Berau Coal implementing the Policy.
  • There was a delay of four months post-listing before the Policy was communicated to PT Berau Coal, a further month’s delay before the Policy was approved by PT Berau Coal, and a total of eight months delay post-listing before the Policy was communicated to members of senior management of PT Berau Coal.
  • Neither ARM nor PT Berau Coal kept a complete list of RPTs by PT Berau Coal, and ARM failed to check the adequacy of the information it received from PT Berau Coal.
  • PT Berau Coal did not provide ARM with adequate financial information. This was due to a mixture of incompetence, lack of resources, a lack of quality processes and skilled professionals, and uncooperative behaviour by the relevant individuals.

Breaches

ARM therefore breached:

  • The Listing Principle that required it to take reasonable steps to establish and maintain adequate procedures, systems and controls to enable it to comply with its obligations as a listed company. The FCA emphasised that simply having a relevant policy and board committee is not enough: the company must ensure that the policy and associated procedures are implemented effectively. This is particularly important where the history and governance arrangements of the group mean that there is an increased risk of RPTs.
  • The relevant rules in LR 11 for “smaller” transactions, by failing to inform the UKLA in writing of the proposed transactions; failing to provide written confirmation from an independent adviser that the terms of the transactions were fair and reasonable; and failing to undertake to include details of the transactions in ARM’s next published annual accounts. ARM also failed to aggregate the three RPTs that were entered into with the same related party or its associates within a 12 month period.
  • The requirement in LR 8 for the company to obtain the guidance of its sponsor when a transaction was proposed that could be a RPT.
  • The obligation in DTR 4 for the company to publish its annual financial report for 2012 within four months of the year end.