Scheme of arrangement
In 2020 there was a resurgence in listed companies incorporated in the Cayman Islands with links to Asia de-listing from global stock exchanges. This is a trend that has continued in 2021.(1) The majority of these transactions – whether they are sponsored by a founder or majority shareholder, trade buyer or private equity fund – are financed by a mix of equity and debt funding.
There are broadly three ways to take private a Cayman Islands-incorporated listed company:
- statutory merger;
- tender offer; and
- scheme of arrangement.
Different considerations apply to the financing of transactions affected by each of these methods.(2)
This article sets out the main financing considerations for each method outlined above from a Cayman Islands law perspective. Other considerations will also apply – notably, the rules of the stock exchange where the relevant Cayman Islands company is listed.
A take-private transaction by way of statutory merger usually involves the incorporation by the sponsor of a new company in the Cayman Islands (merger company), which will merge into the existing listed entity incorporated in the Cayman Islands (target) pursuant to the procedure set out in the Companies Act (Revised) of the Cayman Islands, with the target being the single surviving company of the merger.
A secured financing of this type of transaction (merger financing) would typically involve the lenders taking security (before the merger has taken effect) over the shares in the merger company and its assets as well as the shares in the target (on and from the effective time of the merger), as the surviving company, and its assets.
It is possible to take security over future assets as a matter of Cayman Islands law, as long as these assets are sufficiently identifiable for the security to attach to them at the relevant time. Therefore, the sponsor can provide security over both the currently owned shares in the merger company and the shares in the target that it will own on and from the effective time as a condition precedent to the merger financing. The relevant security documents may express that the security over the shares in the merger company will be automatically released at the effective time (reflecting the legal reality under Cayman Islands law, given that the merger company will cease to exist from that time) and that the security over the shares in the target will take effect from the effective time so that there can be a seamless transition of the security package once the merger has taken effect.
Section 236(1) of the Companies Act provides that as soon as a merger becomes effective, the rights, property and business of the merger company will immediately vest in the target (as the surviving company) and it will be liable for, and subject to, all mortgages, charges or security interests, as well as all of the merger company's:
- debts; and
Therefore, if the merger company is the borrower, its obligations under the merger financing will automatically pass to the target in accordance with Cayman Islands law. Pursuant to this provision of the Companies Act, it is also possible for the merger financing lenders to rely on the security granted by the merger company over its assets prior to the effective time to secure the target's assets on and from the effective time without the need for the target to grant new security. However, the legal effectiveness of such an approach under the governing law of the security documents and the law of the place where the secured assets are situated will need to be considered. In addition, practical considerations will also need to be taken into consideration, such as any change of bank account details or the need for delivery of updated notices to third parties to reflect that the account holder and security provider has changed from the merger company to the target.
Both the merger company and the target must obtain the prior consent to the merger from any secured creditors that it has pursuant to section 233(8) of the Companies Act. Given that the merger financing lenders will likely take security over the shares in and assets of the merger company as a condition precedent to the merger financing, they will technically need to give consent to the merger. This consent is normally included in one of the finance documents for the merger financing. If the target has any existing secured creditors at the time of the merger, consent will also need to be obtained from those creditors.
A certificate of merger issued by the Registrar of Companies in the Cayman Islands is prima facie evidence of compliance with the Companies Act requirements, and so, effectiveness of the merger. Therefore, delivery of a copy of this certificate is usually a condition subsequent under the merger financing. In addition, the terms of the merger financing usually require delivery to the lenders of the new memorandum and articles of association and register of the members of the target, reflecting its status as a private company wholly owned by the sponsor, within a specified period after the effective time. The merger financing lenders also typically require, as a condition precedent to funding, copies of the near final plan of merger and connected documents that will be filed with the Registrar of Companies in the Cayman Islands to effect the merger, together with evidence that the merger has been approved by the directors and requisite majority of shareholders of both of the merger company and the target.
A take-private transaction by way of tender offer involves a general offer by an offeror to buy the shares held by the public shareholders of a listed company at a specific price and time. Pursuant to section 88 of the Companies Act, the offeror must obtain the approval of 90% of the independent shareholders (ie, holders of those shares not already owned by the offeror or its affiliates (requisite shareholder approval)) in a listed target incorporated in the Cayman Islands to enable it to require the remaining shareholders to sell their shares therein.
In many cases, the offeror will require available financing for the tender offer (tender financing) prior to it achieving the requisite shareholder approval to assist the offeror in the acquisition of shares in the listed target incorporated in the Cayman Islands through the general offer, in order to obtain the requisite shareholder approval. In such instances, the conditions of funding under the tender financing that relate to the tender offer will be commercial and aimed at ensuring that the offeror has a minimum ownership percentage in the listed target incorporated in the Cayman Islands prior to funding and that the terms of the tender offer, as reviewed by the tender financing lenders, may not be materially changed. Lenders financing this type of transaction would typically take security over the shares in the listed target incorporated in the Cayman Islands already held by the offeror and those shares acquired by the offeror during the tender offer process.
It may not be the case that all of the issued shares in the listed target incorporated in the Cayman Islands that are acquired by the offeror through the tender process are held through a clearing system in dematerialised form (unregistered form shares). Sometimes the shares have not been dematerialised and the title to them remains evidenced by an entry in the register of members of the listed target incorporated in the Cayman Islands (registered form shares). In this case, the tender financing lenders should be advised to ensure that the security documents create effective security over both registered form shares (prior to their conversion) and unregistered form shares (following any conversion into this form). The requisite deliverables under the security documents may be heavily negotiated, given that at the time that the security is created, the offeror does not own 100% of the shares in the listed target incorporated in the Cayman Islands. Some of the questions that arise are:
- How will security be taken over shares that arrive in batches?
- How will any conversion of registered form shares into unregistered form shares during the tender offer process (if any) be dealt with?
Where any secured shares are registered form shares, additional questions will arise, such as:
- Is there any share certificate relating to those shares and how will that certificate be collected (to enable any conversion to unregistered form shares)?
- Where is the register of members of the listed target incorporated in the Cayman Islands located?
- How much assistance will be offered by the listed target incorporated in the Cayman Islands to complete steps which lenders would typically require when taking security over registered form shares in a wholly owned private company (such as placing a security annotation on the register of members of the listed target incorporated in the Cayman Islands and giving an instruction to the registered office provider or share registrar of said target in respect of the share security granted by the offeror)?
A balance will need to be struck between securing adequate protection for the tender financing lenders and making realistic proposals to the offeror that allow some room for it to adjust its strategy in response to the acceptances of its offer.
The tender financing lenders may wish to obtain evidence from the offeror of its receipt of the requisite shareholder approval and a copy of the new memorandum and articles of association and the new register of members (showing the offeror as the 100% owner and the annotation of the security in favour of the lenders on completion of the privatisation) as condition subsequent deliverables.
Scheme of arrangement
A take-private transaction by way of scheme of arrangement (scheme) normally involves a proposal by an offeror (scheme offeror) to reduce the issued share capital of the relevant listed company incorporated in the Cayman Islands (scheme target) by cancelling all of the shares of the public shareholders held in the scheme target. Each public shareholder is paid an agreed amount of consideration per share cancelled accordingly. Upon the capital reduction and share cancellation, the issued share capital of the scheme target is concurrently increased to the former amount by the issue to the scheme offeror of numerous shares in the scheme target equal to the total number of shares cancelled accordingly. The reserve created in the scheme target's books of accounts as a result of the capital reduction and share cancellation is applied in paying up in full the new shares so issued to the scheme offeror.
Pursuant to sections 14 and 15 of the Companies Act, a special resolution of the shareholders of the scheme target, followed by confirmation by the Grand Court of the Cayman Islands, will be required to effect the aforementioned capital reduction. The extraordinary general meeting of the scheme target's shareholders to obtain this special resolution will be convened for the same date as the scheme meeting(s) discussed below. The confirmation of the capital reduction by the Grand Court will be sought in the sanction hearing discussed below.
Pursuant to section 86(2) of the Companies Act, such a scheme will require the approval of a majority representing 75% of the members of each class of shares (requisite scheme approval) issued by the relevant scheme target. There will be at least two Grand Court hearings (or more where the scheme target has multiple classes of shares in issue). A convening hearing is held first to apply to the Grand Court to convene a meeting of each requisite class of shareholders in the scheme target to consider the scheme and pass the requisite scheme approval (scheme meeting(s)). A sanction hearing will be held next if the requisite scheme approval is obtained at the scheme meeting(s). During this hearing the Grand Court will decide whether to approve the scheme. Once the Grand Court approves the scheme, it will be binding on all the members of scheme target. The court's approving the scheme will not take effect until a copy of it is delivered to the Registrar of Companies in the Cayman Islands for registration.
Where the scheme target is listed on the Hong Kong Exchanges and Clearing Market, the public announcement made in respect of the scheme must confirm that the financial adviser to the scheme offeror is satisfied that sufficient financial resources are available to the scheme offeror for discharging its obligations in respect of the scheme. This means that the terms of any debt financing must be in place (subject to the satisfaction of the relevant conditions precedent to utilisation thereunder) before the public announcement of the scheme is made. Therefore, the scheme-related mechanics and provisions in the facility agreement for the scheme are based on the form of the draft public announcement most recently submitted to the stock exchange. The facility agreement will customarily contain undertakings through which the lenders can control the scheme offeror's conduct of the scheme and monitor the scheme's status and progress.
Because of the "all or nothing" nature of a scheme, lenders would typically require the scheme to be effective as a condition precedent to funding. This can be evidenced by the delivery of a copy of the court order, stamped by the Registrar of Companies in the Cayman Islands. The lenders would customarily obtain a copy of the new memorandum and articles of association and the new register of members of the scheme target (showing the scheme target as a wholly owned private company) as conditions subsequent to funding.
For further information on this topic please contact David Nelson at Ogier by telephone (+852 3656 6000) or email ([email protected]). The Ogier website can be accessed at www.ogier.com.
(1) For more information, please see "Snapshot: the resurgence of take-private transactions in Asia".
(2) For more information on the different ways to take private a Cayman Islands incorporated listed company, please see here. For a case study on the dissenting shareholder issues that emerged in the privatisation of eHi Car Services Limited by way of a statutory merger, please see here. For more information on the developments in the dissenting shareholder fair value process in privatisations by Cayman Islands statutory merger, please see here.