A Part 5.1 scheme of arrangement recently proposed by Redflex Holdings Limited (Redflex) has raised for consideration the possibility that bidders who seek to obtain control of a company by way of a scheme may have flexibility to improve scheme consideration shortly prior to the meeting of shareholders without delaying that meeting. While this approach has not recently been approved by a court, it offers the potential for schemes to become a more flexible takeover device.
The proposed scheme and late improvement of scheme consideration
On 21 February 2011, Redflex proposed a scheme of arrangement under which a bidding consortium would acquire Redflex for A$2.70 per Redflex share (with the A$ scheme consideration to be reduced proportionately in the event that the A$ appreciated above US$1.02 or be increased proportionately in the event the A$ depreciated to below US$0.98).
The use of this exchange rate mechanism reflected the predominantly US$-denominated revenue-base of the underlying Redflex business and the fact that, because of this, the debt portion of the funding to pay the scheme consideration was to be in US$. Significantly, in the week leading up to the shareholder meeting on 9 May 2011, the A$ appreciated to as high as US$1.10. Had that exchange rate prevailed at the time of implementation, the scheme consideration would have been approximately A$2.50 – far below the "headline" price at the time of announcement.
In an attempt to shore up shareholder support for the scheme in the face of these "adverse" exchange rate movements, the bidding consortium put a proposal to Redflex after market close on the second business day prior to the shareholder meeting to set a price "floor" of A$2.75 per share. The proposal was on the condition that the scheme meeting went ahead on 9 May as scheduled. Failure of this condition would result in the increased offer falling away. The bidding consortium considered it to be commercially beneficial in the circumstances for Redflex shareholders to consider the higher offer at the scheduled meeting.
Legal issues arising from amendments to a scheme
Under a Part 5.1 scheme, the company convenes a shareholders' scheme meeting in compliance with a court order made at the first court hearing. Under a scheme (like the Redflex scheme), the court's orders specify the scheme of arrangement that is to be put to shareholders which reflects the terms agreed between the scheme company and the bidder (which includes the scheme consideration).
There is no requirement in the Corporations Act to return to court in order to amend a scheme which has already been ordered to a vote. The shareholders themselves, at the scheme meeting, may amend the scheme, including to impose a higher scheme consideration. Following the meeting, assuming shareholders have voted in favour of the revised scheme, the scheme company must return to court for a second court hearing at which the court's approval of the scheme is sought.
The court has "supervisory jurisdiction" over schemes and has broad discretion to withhold its approval of a scheme, even if the scheme is supported by a majority of shareholders. This, in part, reflects the fact that a court order approving a scheme effects a form of compulsory acquisition.
The court is concerned, amongst other things, to ensure that scheme shareholders are fully informed. Inadequate time to consider amendments to the scheme may raise doubt in the court's mind about the adequacy of disclosure. In addition, ASIC Regulatory Guide 60, which applies to schemes, recommends that all shareholders be given adequate time to consider any amendment to the terms of a scheme (and provides guidance that generally 10 days time to consider any supplementary information is appropriate).
Recent practice for improving scheme consideration and the approach taken in Redflex
There are several examples in recent years in Australia of a scheme company improving the consideration offered to shareholders between the first court date and the scheme meeting. However, in each case, the scheme company returned to the court for orders adjourning the original shareholders' scheme meeting, and approving additional disclosure material to be sent to shareholders informing them of the improvement in the terms of the scheme as a result of those legal and regulatory concerns. This practice reflects the approach that was taken by the parties (and ultimately sanctioned by the NSW Supreme Court) in Re Citect Corporation Limited (2006) 56 ACSR 663. It is interesting to note that in a decision that preceded Citect (Re McConnell Dowell Corporation Ltd (unreported, Federal Court, 1 August 2003)), the court upheld a scheme in which the scheme company declared an interim dividend two days prior to the scheme meeting (which indirectly increased the scheme consideration).
The practice that has emerged since Citect is also now enshrined by ASIC in Regulatory Guide 60, which as noted above, requires supplementary disclosure for any amendment to the scheme to be given to shareholders after first being given to the court for approval.
The combined effect of this practice and ASIC policy has been that scheme companies who are presented with any sort of improvement to the terms of the scheme have felt compelled to seek the court's imprimatur of any supplementary disclosure and of any decision about when the meeting is to be held (for example, in the Seven-Westrac merger in 2010, the scheme company sought confirmation from the court that it would proceed with the scheme meeting as scheduled where a major shareholder of Westrac had announced a change that would have had the indirect result of reducing his consideration were certain Westrac performance forecasts not been met).
This recent practice and policy makes it difficult for a bidder to increase its offer price close to the scheme meeting. If the bidder faces a competing takeover bid or dissentient shareholders, this can significantly reduce its flexibility of action.
The issue the bidding consortium and Redflex faced was whether putting to shareholders a revised scheme with improved scheme consideration on short notice without first seeking the imprimatur of the court (or even seeking orders from the court approving supplementary disclosure and adjourning the meeting to a later date to allow that disclosure to be considered) could jeopardise approval of the scheme at the second court hearing.
The bidding consortium elected to confront this issue because it sought to increase the offer without delaying the scheme meeting for commercial reasons. Due to the condition placed on the improved offer, Redflex had to proceed with the scheme meeting as scheduled in order for shareholders to have any chance of receiving the benefit of the improvement. The bidding consortium chose to proceed in this manner on the basis that there is no principle of law which should compel a court to withhold approval of a scheme which involves a change which can only be of benefit to scheme shareholders and which is adequately publicised in advance of the meeting.
Importantly here, the amendment to the scheme resulted in an incontrovertible benefit to shareholders and was capable of being easily explained. First, the headline cash price was increased from A$2.70 to A$2.75 and that price was fixed as a minimum price. Secondly, the exchange rate mechanism was modified so that it only applied to increase the A$ consideration if the exchange rate somehow fell below A$0.98 by implementation. This immunised Redflex shareholders from any downside exchange rate risk while preserving their upside potential.
Redflex released an ASX announcement on the Friday morning before the Monday meeting, which alerted shareholders to the proposed change, and appended a supplementary expert's report, affirming its earlier conclusion that the scheme was in the best interests of shareholders. There was also significant coverage in the press about the improvement to the scheme consideration.
In addition, Redflex approached the court on an urgent basis, as a matter of courtesy, the same day to provide an update. No orders were sought by Redflex and the court raised no concerns about the revised scheme being put to a vote by shareholders on the following Monday.
However, as a result of the adverse shareholder vote at the Redflex scheme meeting, the court was not asked to rule on the acceptability of this approach on this occasion.
In any event, Redflex represents a fascinating portent of the flexibility that schemes of arrangement, which are being used more frequently in "friendly" takeovers, could offer in the corporate control context.