Preparation is key, as the court can sometimes have concerns if the supporting affidavit material contains a number of errors and/or is incomplete.
A members' scheme of arrangement involves an agreement which affects the rights and obligations of a company and its shareholders. It is a process commonly used in the Mergers & Acquisitions area to acquire all of the shares in a target company. The term "arrangement" is one that can cover a range of matters including:
corporate reconstruction or reorganization, which may involve an amalgamation or merger of companies;
the de-merger or break up of a company or a corporate group; and
changes of control that are functionally equivalent, and therefore an alternative, to a takeover bid.
This article provides an overview of the steps associated with the court approval process for a members' scheme of arrangement that seeks to effect a change of control (as an alternative to a takeover bid). It will also identify some practical tips that may be useful when involved with such an application.
The nature and purpose of a members' scheme
A members' scheme is a commonly used mechanism to effect structural change within a company or achieve change of corporate control of a target company. Schemes are an alternative to takeover bids under Chapter 6 of the Corporations Act 2001 and involve the drafting of an agreement that provides for all of the shares in the company being transferred for a set price or exchanged for shares in the acquiring company.
The primary advantages of using a members' scheme to achieve control of a target company are:
- it avoids the need for numerous agreements between the parties that would otherwise be necessary to achieve the same outcome;
- it can provide greater certainty concerning both the timing and outcome of the proposal, subject to court approval;
- it has a lower threshold for approval than a takeover bid; and
- if approved by the statutory majorities and by the court, the scheme is binding on those members who voted against the scheme.
The steps associated with the court approval process
The steps associated with the court approval process for a members' scheme of arrangement are identified in Part 5.1 of the Act, beginning at section 411. Those steps can be summarised as follows:
- A draft notice to convene a meeting of members and an explanatory statement in relation to the proposed scheme of arrangement is prepared – with notification to the Australian Securities and Investments Commission ("ASIC");
- An application is made to the court to convene a meeting (or meetings if there is more than one class) of members. At this hearing (the "First Court Hearing") the court will assess whether the relevant threshold considerations have been met (eg., whether the scheme documents provide sufficient disclosure of material matters to members, whether ASIC has received sufficient notice, whether ASIC has any objections at that stage). If satisfied, the court will order that a meeting of the members affected by the scheme be convened (the "Court Ordered Meeting");
- At the Court Ordered Meeting the "classes" of members will either vote for/against or abstain from voting on a resolution about the proposed scheme. For the scheme to proceed it must be approved by the requisite majorities of registered members set out in section 411(4)(a)(ii) of the Act (described in more detail below);
- If the scheme is approved by the requisite majorities at the Court Ordered Meeting, application is then made to the court to approve the scheme (the "Second Court Hearing"). If the court is satisfied that the voting and other procedural requirements have been met, the court may exercise its discretion to reject or approve the scheme (with or without alteration) or withhold approval until all conditions precedent to implementation have been fulfilled); and
- The court order is then lodged with ASIC (together with a copy of the company's constitution, unless dispensed with by the court order).
Step 1 – The First Court Hearing
To be able to proceed with an application at the First Court Hearing, the Applicant for the order approving the members' scheme (normally the target company) should address the following important matters in advance of the date set for hearing:
- A draft explanatory statement about the proposed scheme that will accompany the notice of the Court Ordered Meeting to members should be prepared well in advance (the draft explanatory statement is discussed further below);
- If applicable, the proposed scheme should carefully assess any 'lock up' devices (such as any "break fees" payable in the event that the scheme does not proceed and 'no shop' and 'no talk arrangements' to prevent discussions or negotiations with third parties during the period of the agreement) involving the target company, and ensure that they are reasonable, prominently stated and do not inhibit the directors discharging their duties;
- The draft explanatory statement should be provided to ASIC well ahead of the date anticipated for the First Court Hearing. This is because ASIC must be provided with a reasonable opportunity to examine the terms of the explanatory statement and comment on it. A period of 14 days is the bare minimum time required by ASIC to allow it to examine the draft explanatory statement and the terms of the proposed scheme. If possible, greater time should be allowed. If ASIC has been afforded sufficient time, it will generally provide a written statement regarding its views in relation to the proposed scheme prior to the First Court Hearing. Before providing this statement to the court, ASIC may suggest amendments to the draft explanatory statement and make enquiries about the terms of the proposed scheme. Plenty of time should be built into the process if possible, to make sure this essential step can be completed properly;
- Whether there are any distinct "classes" within the members of the target company that need to be dealt with for the purposes of the Court Ordered Meeting. The most commonly used definition of a "class" in the context of a scheme of arrangement is "those persons whose rights are not so dissimilar as to make it impossible for them to consult together with a view to their common interest". Where more than one class of members is ascertained, steps should be taken to ensure that the votes of each class can be identified and calculated separately. (In this context, separate meetings may be ordered by the Court);
- Originating process should be filed in the relevant court along with the supporting affidavit material that the Applicant intends to rely upon at the hearing (including a copy of ASIC's written statement mentioned above and the affidavit from the expert attaching his/her report which contains an opinion as to why the proposed scheme is in the best interests of the members of the target company); and
- Generally speaking, ASIC must also be given 14 days' notice of the First Court Hearing (this can be overcome if ASIC or the court permit a lesser amount of notice), so prompt service of court documents on ASIC is important.
At the First Court Hearing the court undertakes its "supervisory jurisdiction" to review both the proposed scheme and the explanatory statement and to raise any queries with the Applicant. The court's role is "to review the merger proposal, not on its merits or for its commerciality, but to ensure that the explanatory statement presents a fair picture of the proposal and will allow members a fair consideration."
In order to convene a meeting of members in relation to the scheme, the Court will need to be satisfied that the following requirements are met:
- the proposal fits within the statutory concept of an "arrangement";
- the level of disclosure in the draft explanatory statement is adequate; and
- the scheme was so conceived and presented as to its structure, purpose and effect that there is no apparent foreseeable reason why it should not receive the court's approval if the majority of members vote in favour of it.
The latter requirement noted above requires the court to make a preliminary assessment of whether or not the scheme is capable of approval. This requirement has been described as:
"...the scheme is of such a nature and cast in such terms that, if it receives a statutory majority at the creditors' meeting the court would be likely to approve it on the hearing of a petition which is unopposed."
Submissions at the First Court Hearing should therefore be directed to satisfying the court that, so long as the procedural requirements are met, the scheme is one which is likely to be approved by the court at the Second Court Hearing. (The court may refuse to order that the relevant meetings be convened on the basis that the proposed scheme is unlikely to be approved, even if the procedural requirements are met).
Importantly, at both court hearings there is an ex parte duty of disclosure which falls on the Applicant and its counsel that requires them to bring to the court's attention all matters that could be considered relevant to the exercise of the court's discretion. Broadly speaking, matters which fall for disclosure in accordance with this duty include:
- jurisdictional issues – that is, what is necessary to create the jurisdiction for the court to make the orders sought;
- transactional type issues – for example, whether there are any novel structures in the scheme or its associated transactional documents; and
- procedural issues – that is, matters which have arisen in the scheme which depart from normal procedure.
If the requirements for the First Court Hearing are met, the orders made by the court will generally address the following:
- the Applicant being directed to convene the Court Ordered Meeting;
- the appointment of the Chairman of the Court Ordered Meeting;
- the granting of power to the Chairman to adjourn the Court Ordered Meeting;
- (if relevant) the manner in which to deal with the vote of distinct "classes" of members;
- the amended form of the advertisement advising of the date of the Second Court Hearing (if required); and
- the approval of the draft explanatory statement for distribution to members.
Tips for successfully navigating the First Court Hearing
Don't run the scheme process on a too short or optimistic timeframe.
Make sure that ASIC is given plenty of time to review the draft explanatory statement and is promptly served with any court material. It has an active review function to perform and therefore sufficient time should be allowed to address any disclosure or other concerns it might raise with respect to the scheme.
Take a conservative approach to identify any matters that are likely to be subject to the duty of disclosure and discuss them carefully with Counsel so that, if required, they can be dealt with prior to or at the First Court Hearing.
Ensure that any break fee or no shop/no talk arrangements are within the scope of the matters set out in the Takeovers Panel, Guidance Note 7 and those previously approved by the courts.
Invest time and resources in preparing and carefully reviewing complete affidavit/s in support of the application at the First Court Hearing. (The court can sometimes have concerns about an application at the First Court Hearing if the supporting affidavit material contains a number of errors and/or is incomplete).
Step 2 – The Court Ordered Meeting
The statutory majorities
One of the requirements for a members' scheme of arrangement to be binding is that the Court Ordered Meeting must be held where a resolution in favour of the scheme is passed by:
- (unless the Court orders otherwise) a majority of members (or members in a class) present and voting (either in person or by proxy); and
- 75% of the votes cast on the resolution (if the body has a share capital).
Disclosure before the Court Ordered Meeting
A notice convening the Court Ordered Meeting must be provided to members and be accompanied by a copy of the explanatory statement. As noted above, the explanatory statement is normally approved for distribution to members at the First Court Hearing.
Broadly, the explanatory statement must explain the effect of the scheme, the material interests of any of the directors in the scheme and any other information that is material to a member's decision as to whether or not to vote or abstain from voting on the resolution about the scheme. The explanatory statement should include the prescribed information and any other information within the knowledge of the directors that has not previously been disclosed and which is material to the making of a decision by a member whether or not to agree to the arrangement. Information is material if it "would tend to influence a sensible member's decision on whether the scheme is in his interests".
A target company often retains at least one independent expert to provide a report to be included in the explanatory statement. Ordinarily the expert's report would make an independent recommendation as to whether or not the members should vote in favour of the scheme. ASIC Regulatory Guide 111 provides guidance as to the content of an expert report which is included in an explanatory statement.
The documents required to be sent to members for the purposes of the Court Ordered Meeting are often despatched by a commercial mailing agent. Complete records should be kept by the agent of the whole mailing process so that evidence of it can be produced to the court at the Second Court Hearing (via an affidavit from the person at the agency who had control of that process).
Sections 412(6) and (8) of the Act provide that, if the scheme is not a creditors' scheme, the explanatory statement must also be registered with ASIC. Listed companies also have additional disclosure requirements under the Australian Stock Exchange Listing Rules and must also notify the ASX of the application to the Court to approve the scheme.
The business of the Court Ordered Meeting is normally run by the Chairman of the Meeting who is appointed at the First Court Hearing. A running sheet for the Chairman assists with the efficient flow of business at the meeting.
The admission of registered members to the Court Ordered Meeting along with the essential task of collecting and counting of votes (including proxies) in relation to the scheme resolution is often dealt with by staff from the Company's share registry and the Chairman will commonly appoint one of those staff members to be the returning officer.
The work that is undertaken by the share registry staff should be closely recorded as it will almost certainly be necessary to provide detailed information about the conduct of the meeting to the court at the Second Court Hearing.
Procedural errors in relation to the conduct of the Court Ordered Meeting may result in the court refusing to approve the scheme at the Second Court Hearing.
Tips for successfully navigating the Court Ordered Meeting
It is recommended that an experienced commercial mailing agent be engaged to despatch documents for the Court Ordered Meeting to members (particularly if the volume of material is large). Make sure that the agency staff are well aware of the likely need to provide affidavit evidence about their work for the purposes of the Second Court Hearing, and that adequate records are kept of the steps and times associated with the despatch task.
Provide the Chairman of the Court Ordered Meeting with a running sheet so that the business of the Court Ordered Meeting flows efficiently. (It may also assist with guidance if it is anticipated that any particular interest groups might have particular agendas).
Engage an experienced share registry for the Court Ordered Meeting to deal with such matters as admission of members to the Meeting and the collection and counting of votes (including proxies). Again, make sure that its staff are aware of the likely need to provide affidavit evidence about their work for the purposes of the Second Court Hearing.
Step 3 – The Second Court Hearing
To be able to proceed with the application at the Second Court Hearing, the Applicant ought to address the following important matters in advance of the date set for hearing:
- it should be well advanced with its preparation of the draft affidavit material that will be required for the Second Court Hearing (particularly from staff of the commercial mailing agent and the share registry). In practice there is often only a small amount of time between the Court Ordered Meeting and the Second Court Hearing (often as little as two business days), so it is essential that the draft affidavits are as ready and complete as they can be before the meeting occurs;
- it ought to have published a notice of hearing of the application to approve the proposed scheme. The form of the notice of hearing and the timing of its publication (at least 5 days prior to the hearing) are prescribed and contemplate the notice being published after the Court Ordered Meeting is held. (If timing is likely to present a problem, due to a short timeframe between the Court Ordered Meeting and the Second Court Hearing, then orders for an amended form of notice of hearing to be published can be sought at the First Court Hearing); and
- it should promptly provide ASIC with the results of the vote at the Court Ordered Meeting on the resolution about the scheme. Importantly, it should also obtain a statement in writing from ASIC stating that it has no objection to the proposed scheme so that it can be included in the supporting affidavit material for the Second Court Hearing and be used to satisfy the requirements of section 411(17)(b) of the Act. (If a 'no objection' statement is ultimately obtained from ASIC it will preclude the court from considering the takeover avoidance purpose issue under section 411(17)(a), although it might still be considered in the exercise of its general discretion to approve the scheme).
Generally speaking, where there is an uncontested members' scheme, on proof of procedural fairness, voting regularity, full and fair disclosure and the obtaining of the statutory majorities at the Court Ordered Meeting , an approval order ordinarily follows at the Second Court Hearing.
The approach of the court at the Second Court Hearing can be summarised as follows:
- the court has a discretion whether to approve a scheme and is not bound to approve it simply because it made orders for the Court Ordered Meeting to be convened or because the statutory majorities were obtained. A favourable threshold at the Court Ordered Meeting simply provides a threshold before the sanction of the court can be sought. It is at the Second Court Hearing that the court's discretion to approve is relevantly exercised and that the "final determination" is made on the proposed scheme;
- the court will usually approach the task of deciding whether to approve a scheme on the basis that the target company's members are better judges of what is in their commercial interests than the court;
- matters considered by the courts are noted as including:
- whether the members have voted in good faith and not for an improper purpose;
- whether the proposal is at least fair and reasonable so that an intelligent and honest man or woman who was a member of the relevant class, properly informed and acting alone might approve it;
- whether the Applicant has brought to the court's attention under its duty of disclosure all information relevant to the exercise of the court's discretion;
- whether there has been full and frank disclosure of all information material to the members' decision;
- whether minority shareholders would be oppressed by the scheme.
another consideration that is taken into account is whether or not the scheme offends public policy.
The affidavit evidence relied upon at the Second Court Hearing and the submissions for that hearing should therefore focus on dealing with such matters as:
the despatch process to members of the notice of the Court Ordered Meeting and the explanatory statement;
the process undertaken to verify the accuracy of the information contained in the explanatory statement that was distributed to members regarding the proposed scheme;
the holding of the Court Ordered Meeting: the process undertaken to collate and count votes at the Meeting on the scheme resolution (including proxies) and details of the votes for/against and abstaining on the scheme resolution;
the obtaining of a written statement from ASIC confirming that it does not object to the proposed scheme;
details of any matters required to be disclosed to the court in accordance with the Applicant's ex parte duty of disclosure; and
the form of the orders sought by the Applicant.
If the requirements for the Second Court Hearing are met, the orders made by the court will generally address the approval of the proposed members' scheme and the lodgement of a copy of the approved scheme with ASIC.
A draft order should be prepared in advance so that it can be quickly finalised and sealed by the court as the target company will often intend to make announcements about the approval of the scheme to the ASX and/or the media.
Tips for successfully navigating the Second Court Hearing
Take steps to ensure that the notice of the hearing to approve the proposed members' scheme is published in a proper form and in accordance with the correct timeframe. Failure to do so is likely to mean that the application to approve the proposed scheme has to be adjourned, which serves only to increase costs and delay the timetable for the implementation of the scheme (if approved).
Make sure that staff from any commercial mailing agent and share registry are (and will be at the relevant time) available to provide a report to you to form the basis of an affidavit containing their evidence of the work they undertook in relation to the scheme. This will assist with the timely preparation of affidavit material for the Second Court Hearing.
Invest the time and resources necessary to be thorough in the preparation of complete affidavits in support of the application at the Second Court Hearing. As with the First Court Hearing, the court can sometimes have concerns if the supporting affidavit material contains a number of errors and/or is incomplete.
Summary for in-house counsel
The Court approval process for a members' scheme of arrangement involves the preparation of a draft notice to convene a meeting of shareholders and an explanatory statement to implement the scheme, followed by notification ASIC before any application to the court is filed;
it is essential to the success of the application for approval of the proposed scheme that:
any 'lock up' devices (such as any "break fees" and "no shop" and "no talk arrangements") be assessed for reasonableness before the draft agreement with the target company is signed;
the expert be adequately briefed with all of the information that may affect his/her opinion;
the draft explanatory statement set out all material information that may influence a member's opinion as to whether or not the scheme is in their interests;
ASIC be given adequate time to review the proposed scheme, suggest any necessary amendments to the draft explanatory statement (and review the company's responses) and provide its confirmation to the court that it has no objection to the proposed scheme;
there is often little time between the Court Ordered Meeting and the Second Court Hearing. The preparation of all of the draft affidavits that are anticipated as necessary should be well advanced by the date of the Court Ordered Meeting;
experienced commercial mailing agents and share registry staff should be employed to assist with the distribution of documents to members for the Court Ordered Meeting and the collection and counting of votes at the Court Ordered Meeting (including proxies); and
be generous with the time and resources necessary to prepare accurate and comprehensive affidavit material required for the First and Second Court Hearings. It is essential to the exercise of the court's discretion that it has full confidence in the fairness and adequacy of the process that has been undertaken by the Applicant.
This article was first published in Inhouse Counsel, July 2012, pp 270 - 276