Background

In September 2009, the Commission published proposals to amend the Prospectus Directive with the aim of simplifying its application and increasing efficiency.  The proposals culminated in the publication of Directive 2010/73/EU (the "Amending Directive") which amends the Prospectus Directive and came into force on 31 December 2010.  The Amending Directive has been implemented in the UK from 1 July 2012 and one of the key changes is to create a new proportionate disclosure regime ("PDR"). 

Under the PDR, certain information that would otherwise need to be included in a prospectus may be omitted by certain issuers or in relation to certain offers.  The creation of the PDR is driven by the recognition that the current disclosure requirements of the Prospectus Regulation can be disproportionately burdensome for some issuers and the costs involved in accessing the financial markets is likely to have a deterrent effect.  The new PDR will aim to ease these financial and administrative burdens whilst ensuring a harmonised approach to reduced disclosures. 

Key points for issuers

The PDR will:

  • apply to:
  • all offerings made by small and medium-sized enterprises ("SMEs") and issuers with reduced market capitalisation ("Small Caps");
  • rights issues made by companies with shares admitted to trading on a regulated market or on certain multilateral trading facilities ("MTF"); and
  • credit institutions issuing non-equity securities; and
  • be voluntary for issuers who are eligible for the PDR such that issuers could choose either to rely on the PDR or on the full disclosure regime.

The PDR came into force on 1 July 2012.

ESMA's technical advice

In January 2011, the Commission requested technical advice from ESMA in relation to the PDR which was published in October 2011. In providing its technical advice, ESMA stated that its goal was to ensure that prospectuses provide investors with easily accessible information on issuers so as to foster informed decision making and to maintain an appropriate level of investor protection.  The Commission has, however, deviated from certain respects of ESMA's advice with regard to the application of the PDR, in particular in relation to SMEs and Small Caps.  ESMA's advice and the Commission's response to such advice are considered below.

The Regulation

The Commission has published a delegated regulation (the "Regulation") which amends the Prospectus Regulation in regards to the disclosure requirements required for a prospectus.  The Regulation contains new disclosure schedules which set out the new PDRs.  The full text of the Regulation is available here.  For the purposes of this article, we will be focusing on the new regimes that will be applicable to SMEs and Small Caps and rights issues.

SMEs and Small Caps

The Regulation sets out a PDR that will apply to all public offers and all requests for admission of securities to a regulated market issued by:

  • Small Caps.  A company will be deemed to have a reduced market capitalisation if it is listed on a regulated market with an average market capitalisation of less than €100 million over the past three years based on end of year quotes; and
  • SMEs.  A company will be deemed to be an SME if it meets two of the following three criteria: (i) the company has an average number of employees during the financial year of less than 250; (ii) the company has a total balance sheet net asset value not exceeding €43 million; or (iii) the company has an annual net turnover not exceeding €50 million.  

The PDR for SMEs and Small Caps is aimed at reducing the costs involved for these issuers when accessing financial markets. 

Initially, ESMA was concerned that introducing a PDR for SMEs and Small Caps could dilute the regulatory framework applicable to regulated markets and therefore lead to reduced investor protection and confidence in such issuers.  ESMA also noted that the majority of competent authorities were not in favour of a PDR for SMEs and Small Caps.  Therefore, in order to maintain sufficient investor protection, ESMA recommended that a full prospectus should always be required where SMEs and Small Caps undertake an initial public offering of its shares or when such shares are first admitted to a regulated market.  Subsequent public offerings by SMEs and Small Caps listed on a regulated market and public offerings of SMEs and Small Caps not listed on a regulated market (whether initial public offerings or secondary offerings) would then benefit from the PDR.

The Commission, however, has taken the view that the new PDR will be applicable to all public offers by SMEs and Small Caps and all requests for admission to trading on a regulated market by SMEs and Small Caps, including initial public offers and secondary offers such as rights issues and open offers.  The Commission's rationale for extending the PDR is to avoid as far as possible the duplication in the prospectus of any information which is available elsewhere and to adjust the level of information required by the Prospectus Directive to better suit the size of SMEs and Small Caps.

The key amendments which can now be taken advantage of by an SME or a Small Cap are:

  • the operating and financial review ("OFR") may be omitted if the prospectus contains annual reports prepared in accordance with the Fourth Directive on annual accounts and the Seventh Directive on consolidated accounts (Directives 78/660/EEC and 83/349/EEC respectively) for the period covering the issuer's last two financial years;
  • details of the issuer's related party transactions for the period covering the issuer's last two financial years may be omitted if the IFRS adopted according to the IAS Regulation (Regulation (EC) 1606/2002) apply to the issuer.  However, the issuer will be required to disclose details of any related party transactions that have occurred since the end of the last financial period for which audited financial statements have been published; and
  • historical financial information does not now need to be contained in the prospectus but can be replaced with a statement noting where the historical financial information can be obtained.  

It is questionable whether the proposed changes will result in real costs savings for SMEs and Small Caps.  For example, the omission of an issuer's historical financial information is unlikely to create substantial costs savings as under the current regime, financial information may be included in a prospectus by reference.  Furthermore, there is little administrative burden involved in reproducing historical financial information in a disclosure document (although there are obviously printing costs associated with this). 

However, the changes to the OFR disclosure requirements may potentially result in significant cost savings as the OFR section is generally deemed to be one of the most costly aspects of a prospectus for an issuer to produce.  In its consultation, ESMA asked market professionals to estimate the cost of producing a prospectus.  From the responses obtained, it was estimated that the average cost of producing a prospectus was €900,000 and the cost of producing the OFR section of a prospectus was estimated at €22,500 to €113,000, which ranges between 2.5% and 12.55% of the total estimated cost.  This suggests that significant costs savings can be made by omitting an OFR section.  In addition, issuers will benefit from a considerable reduction of the time and administrative burdens which are placed on the directors (particularly the finance director) when preparing the OFR section. 

Rights Issues

Prior to 1 July, the Prospectus Regulation's disclosure requirements did not differentiate between the disclosure required for an initial public offer and the disclosure required for a secondary offer to existing shareholders.

However, the Regulation now contains new proportionate disclosure schedules that will apply to rights issues where the issuer already has shares of the same class admitted to trading on a regulated market or to certain MTFs. 

"Rights Issues" are defined and encompass the following types of offers which are used in the UK market:

  • a rights issue (whether or not it complies with statutory pre-emption rights);
  • a compensatory open offer where shareholders receive the proceeds of the excess of the sale price over the subscription price in relation to shares that they do not subscribe for; and
  • an open offer which complies with statutory pre-emption rights.  

Open offers which disapply statutory pre-emption rights and which are not compensatory will not qualify for the PDR.

All issuers on regulated markets will be able to use the PDR in connection with Rights Issues.  In addition, issuers on certain MTFs will be able to use the PDR in connection with Rights Issues if the rules of the relevant MTF require the publication on the issuer's website of: (i) annual financial statements and audit reports within six months of the end of each financial year; (ii) half-yearly statements within four months after the end of the first six months of each financial year; and (iii) inside information in line with the meaning contained in the Market Abuse Directive.  The MTF must also contain rules which prevent insider trading and market manipulation. 

The key amendments which can now be taken advantage of by an issuer undertaking a Rights Issue are:

  • no requirement for an OFR to be included;
  • audited historical financial information of only one year to be included;
  • no disclosure of capital resources or selected financial information is required;
  • details of the issuer's related party transactions for the period covering the issuer's last two financial years may be omitted if the IFRS adopted according to the IAS Regulation (Regulation (EC) 1606/2002) apply to the issuer.  However, the issuer will be required to disclose details of any related party transactions that have occurred since the end of the last financial period for which audited financial statements have been published; and
  • for issuers on a regulated market, no disclosure about remuneration and benefits and board practices is required.  

Issuers who are admitted to an MTF will be required to make disclosures in relation to the remuneration and benefits and board practices.

Conclusion

The changes to the disclosure regime are clearly aimed at reducing administrative burdens on certain issuers and promoting efficiency within the prospectus regime.  It will be interesting to see whether the PDR leads to an increased number of public offers by Small Cap and SME issuers and whether, given the distinction drawn between rights issues and open offers by the Regulation, more issuers will choose to opt for a rights issue or a compensatory open offer structure rather than an open offer (disapplying pre-emption rights) in the future.

To make it easier to see what's in and what's out for a prospectus produced under the new regime, we have produced a checklist showing at a glance what can now be omitted for an SME or small cap producing a prospectus and for a rights issue prospectus. Click here to see the checklist