In light of an announcement by the UK Financial Services Authority (FSA) of 13 June 2008 of a new requirement publicly to disclose certain short positions and its Policy Update on the disclosure of positions in contracts for differences published on 2 July 2008, this briefing is intended to be both a discussion of these new requirements and a reminder of the overall notification obligations of holders of interests in securities traded on a UK exchange. Holders of UK securities may have disclosure obligations to (i) the issuer, (ii) the FSA, and (iii) in those instances when the issuer is in a takeover situation (either as the offeror or offeree), the UK’s Takeover Panel.
These new requirements are in addition to pre-existing disclosure obligations. In January 2007, the UK implemented the requirements of the European Union’s Transparency Directive1 via changes to Part 6 of the Financial Services and Markets Act 2000 and the Disclosure Rules and Transparency Rules (DTR) of the FSA. The Transparency Directive, applicable in all European Member States, has a two-fold aim; requiring ongoing disclosure of information about major shareholdings (discussed here) and the disclosure of periodic financial information by listed issuers.
In most material respects, the DTR represent a continuation of requirements of the Companies Act 1985, which they replace.2
B. New Short Selling Disclosure Rule
As of 20 June 2008, the FSA is requiring the disclosure of “significant” short positions in stocks admitted to trading on prescribed markets when the issuer is undertaking a rights issue.3 A “significant” position is 0.25% or more of the issued share capital achieved via short selling or by any instrument giving an equivalent economic interest, including such positions acquired before 20 June 2008 and subsisting after that date.
The disclosure obligation is imposed upon the holder of the relevant short position. The position may be the net position after netting off long and short positions; however, short positions in existing undiluted shares cannot be netted against long positions in rights or against borrowed shares. As below, the disclosure obligation does apply to discretionary fund managers, and managers of multiple funds should aggregate across all of the funds they manage to determine whether or not there is a disclosable interest.
The new requirement has generated significant controversy, not least because the FSA has elected to forgo the consultation process usually undertaken when introducing material rule changes.
C. DTR Disclosure Requirements
1. What? Part 5 of the DTR (or DTR 5) titled “vote holder and issuer notification rules” requires a person who controls voting rights in a single issuer that meet or exceed certain threshold percentages to disclose the holding to the issuer and the FSA.
Disclosure obligations apply to those who are in control of the exercise of voting rights attached to securities, whether or not they own those securities directly -- this is a departure from the requirements of the Companies Act 1985, which applied to those acquiring “interests in shares”, whereby effectively interests could be of any kind and restraints on the exercise of interests were to be disregarded.
The DTR therefore can apply to those who do not actually own a threshold interest in a relevant security in the conventional sense, but who can control the exercise of voting rights; for example, a holder of a discretionary proxy will be caught if the proxy agreement relates to a percentage of voting rights that meets a relevant threshold. Collateral and other agreements whereby voting rights are assigned as part of the title/ownership to the collateral can also lead to the collateral holder incurring the reporting obligation, provided that the collateral holder has declared its intention to exercise the voting rights (see DTR 5.2.1R).
Disclosure obligations attach both to direct holdings of shares in a UK issuer, and to holdings of financial instruments that entitle their owner to acquire shares with voting rights, including futures, options, swaps, forward rate agreements and other derivatives. DTR obligations are cumulative and require the aggregation of all holdings, both direct and indirect.4 At the moment, positions in contracts for differences (CFDs) generally do not attract disclosure obligations as they simply represent an economic exposure to the underlying security, but the FSA currently is considering applying a disclosure obligation (see below).
2. Where? Obligations to report holdings apply to direct and indirect interests in listed UK securities admitted to trading on a regulated market (chiefly, the London Stock Exchange, or LSE, and the markets it operates5) or prescribed market (including the AIM6) and where the UK is the “Home State” for the purposes of the Prospectus Directive.7 That is, the obligation applies to an issuer that is either headquartered in the UK or which has elected to choose the UK as its Home State when publicly offering its securities.
Because of the way the threshold provisions work:
(a) Should the issuer be incorporated in a European Economic Area (EEA) state other than the UK and have its registered office outside the UK, DTR 5 will not apply, but the equivalent rules of the issuer’s Home State will apply; and
(b) DTR 5 will apply to non-UK issuers who are listed on a regulated market (LSE) and for whom the UK is the Home State.
(c) Should the issuer be a non-UK issuer listed on a prescribed market (such as AIM) DTR 5 will not apply (but see (e), below).
(d) The notification provisions in DTR 5 do not apply to any person in respect to the securities of an issuer that has its registered (or head) office in a non-EEA state whose laws have been assessed by the FSA to be “equivalent”.8 The FSA maintains a list of equivalent non-EEA states, which currently comprises USA, Japan, Israel and Switzerland.
(e) In the case of a non-UK company listed on AIM, AIM Rule 17 will apply, which requires the AIM-listed issuer to notify that market of changes to any of its shareholders’ “significant shareholdings” of 3% or more.
3. Thresholds? Holders of voting rights over securities issued by UK issuers that are traded on a regulated or prescribed market must notify the issuer once they reach the inception threshold of 3% of the total voting rights in the issuer, and when moving up or down through a whole percentage point after that inception threshold.9 The effect of the requirement to notify movements through whole percentage points is that an acquisition resulting in an increase in ownership of 3.05 to 3.95% would not be notifiable, but an acquisition resulting in an increase in ownership of 3.99 to 4.01% would be notifiable. A subsequent drop in ownership from 4.01 to 3.99% would likewise require a notification.
Higher thresholds apply when the issuer is a non-UK issuer whose shares are traded on a regulated market (London Stock Exchange) and whose Home State is the UK. In those cases, the inception threshold is 5%, and subsequent notifiable thresholds are 5, 10, 15, 20, 25, 30, 50 and 75%. The FSA maintains an indicative list of non-EEA issuers for which the FSA is likely to be the Home Competent Authority (i.e., the Home State) under the Transparency Directive.10
Thresholds can be passed passively, for example, on a further share issue, stock split or purchase of own shares by an issuer. Such passive crossings must also be notified, but to assist, issuers are required to inform the market at the end of each month of any changes to their issued share capital by reference to voting rights.
4. How? The buyer/seller must notify the issuer within two trading days of the threshold crossing, or four business days in the case of a non-UK issuer. Notifications are made electronically on FSA form TR-1. When the crossing relates to securities listed on a regulated exchange (the LSE), the buyer/seller must also notify the FSA electronically via form TR-1. The exchange will make the information public via a Regulatory Information Service.
5. Obligations For Investment Managers. Reporting obligations for investment managers, including the managers of offshore funds, are triggered at a threshold percentage of 5%, then at 10% and each whole percentage point after 10%.
The DTR also enable the FSA to determine that non-EEA investment managers may be subject to these same 5 and 10% obligations, again provided that they are subject to equivalent appropriate supervision in their home country. In Issue 14 of “List!”,11 the FSA stated that “We have been approached by representatives of US investment managers requesting similar treatment [to the circumstances outlined above]. Based on our examination of the general regulation and major shareholding disclosure obligations of investment managers in the US, we consider that ‘investment advisors’ regulated under the Investment Advisors Act 1940 to be subject to equivalent regulation. On the basis that there are no other impediments to prescribing US investment advisors these will for the purposes of DTR5 be treated in the same way as EEA investment managers.” This means that the obligation to notify will apply to a US investment adviser that is not required to register under the 1940 Act, though because they are unregistered, such investment advisers will be subject to the lower 3% reporting threshold.
6. Exceptions.12 When calculating thresholds, certain voting rights are disregarded. These include those voting rights attaching to:
- shares acquired for the sole purpose of the clearing and settlement cycle within the usual settlement cycle of T+3;
- shares held by a custodian or nominee, provided the custodian or nominee can only vote those shares under instructions;
- shares held by a market maker (subject to a ceiling of 10%), provided that the market maker does not intervene in the issuer’s management or influence the issuer to buy back the shares or support the share price;
- shares held in the trading book of any entity (subject to a ceiling of 5%), provided that the voting rights are not exercised or otherwise used to intervene in the management of the issuer;
- shares held by a collateral taker under a collateral agreement, provided the collateral taker does not exercise the voting rights and does not declare any intention of so doing; and
- shares held under a stock lending agreement, provided that the borrower on-lends or otherwise disposes of the shares by the end of the next business day and does not exercise any attached voting rights nor declare any intention of so doing. For lenders using standard lending agreements, loans will not amount to disposals for disclosure purposes.
In November 2007, the FSA issued a Consultation Paper on “Disclosure of Contracts for Difference”.13 This outlined three policy options for dealing with the perceived issues caused a lack of transparency around economic exposures in the CFD market. Effectively, the FSA only asked for comments on two of those options, as the first option of leaving the current disclosure regime as it stands was dismissed in the Consultation Paper as inappropriate. The two remaining options were:
(1) To deem CFDs to have voting rights, which count towards disclosure thresholds, unless stringent safe harbours are met.14 CFDs not meeting the safe harbours would be aggregated with shares and other financial instruments with voting rights to determine reporting thresholds.
(2) To require the disclosure of all economic interests in a single issuer above a 5% threshold held through CFDs and other derivatives. This threshold would operate separately to that for other interests with voting rights attached, and there would be no aggregation between the two sets of interests for disclosure purposes.
There has been a degree of criticism of the FSA’s proposals, and in particular, the bias it appears to show to option 2 (described at (1), above) by affording it a more favourable cost/benefit analysis. In the final analysis, the FSA’s “Policy Update on Disclosure of Contracts for Differences” published on 2 July 200815, moves away from option 2, and has elected to go with a modified form of option 3, coming into force at the latest in September 2009 (final rules are due for publication in February 2009).
The modifications are (i) to require aggregation of CFD holdings with share holdings and to make the initial, aggregated, disclosure threshold 3%, and (ii) to propose an exemption for writers of CFDs who essentially only act as intermediaries and provide liquidity.
E. Disclosures to the Takeover Panel
Disclosures to the Takeover Panel are entirely separate obligations to those set out in DTR 5.
Persons holding “relevant securities” in a UK company admitted to trading on a regulated market that is in a takeover offer period as defined by the Takeover Panel in the Takeover Code must disclose publicly all dealings in those securities.16
When a listed company is subject to a takeover offer (as defined), anyone holding 1% or more of any class of that target company’s securities, or of any class of the offeror company’s securities, must disclose any further dealings17 -- a 1% holding is therefore the gateway to this obligation, and once the holding drops below 1% the obligation to disclose dealings also drops away, provided the holding stays below that threshold. If the offer is a cash offer, there is no obligation to disclose any dealings in the offeror company’s securities.18 As the relevant interests to be disclosed are those that arise when a person has a long economic exposure to changes in the price of securities, CFDs, as well as other options and derivatives, will be subject to this disclosure obligation after the relevant threshold.