On 12 March 2010, the Italian Securities Authority (CONSOB), pursuant to resolution no. 17221, enacted new regulations for related party transactions (the New Regulation). The objective of the New Regulation is to provide increased protection for minority shareholders and shareholders having particular rights in a company in the context of mergers, acquisitions, dismissals, reserved share capital increases and similar transactions. In fact, these types of transactions commonly give rise to corporate governance issues and questions regarding potential conflicts of interest between the owners of the company on one side (shareholders) and the management (and some majority shareholders) on the other side.
The New Regulation provides:
- procedural requirements to safeguard the “presence of fair conditions” with respect to proposed related party transaction; and
- transparency requirements to ensure disclosure to the market of relevant information regarding the proposed related party transaction.
Which companies must comply with the New Regulation?
The following companies fall within the scope of application of the New Regulation:
- Italian companies with shares listed on regulated markets in Italy or in any other country in the EU; and
- Italian companies with shares “widely distributed amongst the public”, as defined in article 2-bis of Consob Regulation no. 11971 of 14 May 1999, as amended (Consob Regulation on Issuers).
Definitions of “related party” and “related party transactions”
The definitions of “related party” and “related party transactions” within the New Regulation are based on those contained in the current international accounting principles adopted by the EU (IAS 24). The New Regulation provides:
- “Related party” - An entity is a “related party” to a company if it:
- directly or indirectly (i.e., through a subsidiary, trustee or nominee):
- controls, is controlled by or is under common control of the company;
- holds a stake in the company such as to be in a position to exercise “significant influence” (defined below) on the company; or
- exercises control over the company jointly with others.
- is an associate of the company;
- is in a joint venture with the company;
- is a member of the key management personnel of the company or its parent;
- is a close relative of one the persons referred to in paragraphs (a) or (d) above;
- is an entity in which a person referred to in paragraphs (a) or (e) above exercises control, joint control or significant influence, or owns, directly or indirectly, a significant percentage (not less than 20 per cent) of the voting rights; or
- is a supplementary pension fund, collective or individual, Italian or foreign, incorporated for the benefit of the company’s employees, or to any other entity associated with it.
- “Related party transaction” - A “related party transaction” is any transfer of resources, services or obligations between related parties regardless of whether or not consideration has been paid. The following are examples of transactions which would be considered related party transactions under the New Regulation:
- mergers or spin-offs (by incorporation or strictly non-proportional), carried out with related parties;
- any transaction which would lead to granting of any type of economic benefit to any member of the Board of Directors, the Board of Statutory Auditors or “key management personnel” of the company.
The New Regulation also defines the terms: “control and joint control”, “significant influence”, “key management personnel”, “close relatives”, “subsidiary”, “associated company” and “joint venture”. For example, the New Regulation provides that, unless there is evidence to the contrary, “significant influence” is presumed when a person holds, directly or indirectly, 20 per cent or more of the votes that may be exercised in the shareholders meeting of the affiliate company.
New procedural requirements
The board of directors (or the management boards for two-tier board companies) of companies subject to the New Regulation must adopt procedures to ensure the “presence of fair conditions” relating to proposed related party transactions.
Depending both on the size of the transaction1 and the type of company involved, there are different procedures which may be adopted, as illustrated in the table below.
The “special procedure”
The “special procedure” is the most complicated and rigorous of the three types of procedures. The main characteristics of the “special procedure” are:
- A committee made up exclusively of independent and unrelated directors must be involved in the preliminary phase and negotiation of the proposed related transaction. The members of said committee must receive complete and timely information regarding the transaction so as to be in a position to request any clarification and formulate and make observations to the executives of the company. This committee is entitled to get external advice from independent experts, whose services are paid for by the company;2
- The corporate resolution regarding the transaction must be approved by the board of directors and the committee referred to in paragraph a) above must deliver a binding favourable opinion stating that the proposed transaction would generate “corporate benefits”, is “advisable” and is “substantially fair”. In the event that the said committee does not deliver a favourable opinion, then the transaction may nevertheless go forward if authorised by a vote at a company shareholders’ meeting pursuant to article 2364, paragraph 1, no. 5 of the Italian Civil Code. The resolution must be approved not only by vote of a majority of the shareholders (as required by the Civil Code) but also by a vote of the majority of the non-related shareholders (the so called “whitewash mechanism”);
- Complete and appropriate information regarding the proposed transaction must be provided “reasonably in advance” to the committee referred to in paragraph a) above and to the board of directors;
- The corporate resolution must be accompanied by an explanation of the motivations for pursuing the proposed transaction and in particular state that it is expected to result in “corporate benefits for the company” and that it is “substantially fair”; and
- Full disclosure, at least on a quarterly basis, must be made to the board of directors and the board of statutory auditors on the execution of related party transactions.
The “general procedure”
The “general procedure” is slightly less complicated than the “special procedure”. It requires that:
- Prior to the approval of the transaction, a committee comprised of non-executive and non-related directors, the majority of which are independent, express a non binding opinion on whether the proposed transaction is in the “corporate interest” of the company, as well as whether it is “substantially fair”. This committee is entitled to get external advice from independent experts, whose services are paid for by the company;3
- Complete and appropriate information regarding the proposed transaction be provided “reasonably in advance” to the committee referred to in paragraph a) above and to the board of directors;
- The corporate resolution must be accompanied by an explanation of the motivations for pursuing the proposed transaction and in particular state that it is expected to result in “corporate benefits for the company” and that it is “substantially fair”;
- Full disclosure, at least on a quarterly basis, must be made to the board of directors and the board of statutory auditors on the execution of related party transactions; and
- If the competent body approves the related party transaction notwithstanding a negative opinion of the committee of the type indicated in paragraph a) above, then the company must publish - within 15 days from the end of each financial quarter - a report describing the transaction (including, inter alia, details of the counterparty, purpose of the transaction and the consideration paid) and clarifying the reasons for having gone forward with the transaction notwithstanding the committee’s negative opinion.
The “simplified procedure”
The New Regulation provides that certain companies may use a “simplified procedure” even when the proposed transaction is “material”. The companies which have this right are:
- small cap companies (i.e., companies with a turnover and/or shareholder equity equal to less than €500 million);
- non listed companies with shares widely distributed among the public; and
- recently listed companies (i.e., companies whose shares were listed between the date on which the securities were admitted to trading and the date on which the financial statements relating to the second financial year following that listing were approved).
The aim of the simplified procedure is to avoid overburdening small caps (and non listed companies with shares widely distributed) with excessive organisational costs and, in the case of recently listed companies, to give these the time necessary to adopt an appropriate organisational structure.
New transparency requirements
The New Regulation introduces stricter disclosure requirements for material related party transactions as compared to those set out in articles 71-bis, 91-bis and 81, paragraph 1) of Consob Regulation on Issuers, which have now been repealed. A double disclosure regime now applies, as follows:
- Immediate disclosure: The company must publish an information document regarding the transaction within 7 days of the approval of the transaction. This timeframe is lengthened to 15 days for transactions executed with the same related party which are homogeneous or made under a unified design and which, in aggregate, exceed the relevant thresholds (Cumulative Transactions). The information document must be prepared in compliance with Schedule 4 of the New Regulation and must describe, inter alia, the characteristics of the transaction, the economic reasons for it and the corporate benefits to the company, as well as how the price was determined and the opinion of the independent experts or other advisors on the transaction;
- Periodic disclosure: The company must provide, in its annual or interim management report, specific information on (i) transactions entered into in the relevant period, (ii) other related party transactions entered into in the relevant period that have influenced in a significant manner the company’s financial situation or results, and (iii) significant developments or changes regarding related party transactions described in the annual report that have had a significant effect on the company’s financial statements in the period of reference.
The New Regulation provides for certain exemptions, as indicated in the table below.
In order to give companies the necessary time to modify or adopt internal procedures to meet the new procedural and transparency requirements, a transitional regime with two deadlines has been established:
- as regards the transparency requirements, the New Regulation will enter into force on 1 October 2010, except that provisions regarding cumulative transactions (i.e. Article 5, paragraph 2 of the New Regulation), will become effective on 1 January 2011
- as regards procedural requirements, the New Regulation will enter into force on 1 January 2011.