Consultation on changes to Rule 21 of the Takeover Code

The Takeover Panel has published PCP/2023/1 (the PCP). The consultation seeks views on proposed amendments to Rule 21 of the Takeover Code (Code) and other matters. In summary, Rule 21 restricts a target board from taking certain actions without shareholder approval, on the basis that those actions might result in an offer or a possible offer being frustrated. The consultation focusses primarily on Rule 21.1.

The Code Committee considers that Rule 21.1 operates satisfactorily for the most part and does not propose fundamental amendments. However, it believes that it would be helpful to restructure and amend Rule 21.1 to make it clearer as to what actions will be restricted and to give target companies increased flexibility in carrying on their ordinary activities, particularly those whose ordinary course of business involves buying and selling assets.

Proposed key changes to Rule 21.1

Restrictions on actions by the target board

The PCP proposes to amend Rule 21.1 so that it would not, in general, restrict a target board from taking an action that either is not material or is in the ordinary course of the target’s business, on the basis that:

  • such an action is not likely to frustrate an offer or possible offer; and 
  • it is inappropriate for the Code to prevent a target company from carrying on ordinary course business. 

However, the Committee considers that a proposed action relating to the target’s share capital, such as a share issuance, could have an impact on an offer or possible offer even when the action does not have a material effect on the target’s share capital, e.g. by requiring an offeror to extend the scope of its financing arrangements to fund the consideration for the offer (which could be expensive or difficult to achieve) and also manipulated so as to increase the likelihood that the target board will achieve its desired outcome, e.g. if shares are issued selectively to shareholders who support its view. The Committee does not, therefore, consider that there should be a materiality threshold for proposed actions relating to the target’s share capital. Therefore, issuing shares or convertible securities, granting options or awards over shares or redeeming or buying back shares or convertible securities outside the ordinary course of the target’s business would be a restricted action, even if not material.

If the proposed changes are adopted:

  • Disposals and acquisitions of assets would only be restricted if they are both outside the ordinary course of the target’s business and of a material amount.
  • Entering into, amending or terminating a contract would only be restricted if the contract is both outside the ordinary course of the target’s business and material.

Changes are also proposed to the Notes on Rule 21.1 to provide further clarity on the circumstances in which the Panel will normally consider that a proposed action by a target board is either not material or is in the ordinary course of business, including: 

  • Setting out when the Panel will normally consider employee incentivisation arrangements not related to the offer to be in the ordinary course of the target’s business.
  • Providing clarity that a redemption or purchase of own shares by the target under a programme with defined limits announced or established before the relevant period (see below) would normally be in the ordinary course of the target’s business. 
  • Disposals and acquisitions of assets - setting out when disposals and acquisitions of assets will be considered to be of a material amount (and giving the Panel the ability to consider other appropriate indicators of materiality in addition to the existing financial tests based on consideration versus market capitalisation, the value of the assets being acquired or disposed of versus the value of the assets of the target and the operating profit attributable to the assets to be disposed of or acquired versus the operating profit of the target, which can sometimes produce anomalous results) and clarifying that only disposals and acquisitions that are outside the ordinary course of the target’s business should be aggregated when determining whether such disposals and acquisitions are, in aggregate, of assets of a material amount. The Committee is also proposing a new Practice Statement 34 which will set out the matters that the Panel will consider when determining whether a disposal or acquisition is in the ordinary course of the target’s business (e.g. whether the transaction falls within the target’s established business model, whether the transaction terms are in line with normal practice by reference to a broader market or previous transactions entered into by the target or its peers and whether the transaction is part of an ongoing strategy (rather than a strategic change, e.g. entering a new geography or market)). 
  • Setting out when inducement fee arrangements will normally be considered to be a material contract outside the ordinary course of the target’s business.
  • Ordinary course contracts - providing guidance as to how other ordinary course contracts will be assessed as being material and in the ordinary course of business. Again, draft new Practice Statement 34 states that the Panel will assess whether a contract is material by reference to its financial size in comparison to other contracts entered into by the target (noting that it applies a low threshold for determining when a contract is material) and whether it is in the ordinary course of business by reference to all relevant circumstances, including, again, its size when compared to similar contracts entered into, the frequency with which the target has entered into similar contracts, whether the contract is of particular business importance, whether any non-market terms are onerous and any costs associated with terminating or amending the contract. The comparable size of a contract is therefore relevant to both whether a contract is material and in the ordinary course of business and if, for example, a contract represents a large proportion of the target’s revenue, it may be considered not to be in the ordinary course of business even though it relates to the target’s normal products or services. The draft new Practice Statement 34 also sets out certain examples of what the Panel would consider to be ordinary course contracts relating to capital expenditure, refinancing or raising new debt, property leases and settlement agreements

Other proposed changes include: 

  • A new Note 1(c) on Rule 21.1 to provide that the Panel may, in certain circumstances, treat entering into offer-related employee retention arrangements as a restricted action.
  • The restrictions in Rule 21.1(a) will apply during the “relevant period”. This is defined as the period from the earlier of the target board receiving an approach regarding a possible offer and the beginning of the offer period, until the end of the offer period or, where no offer period has begun, 5:00 pm on the seventh day following the date on which the latest approach is unequivocally rejected by the target board.
  • A new note 8 on Rule 21.1 to provide that where an offer or possible offer is a reverse takeover, Rule 21.1 will also apply to the board of the bidder as if the bidder were a target company and vice versa. 

Rule 21 and competitive bid situations 

The PCP also addresses two issues arising from the recent consultation on changes to the bid timetable in competitive bid situations:

  • A new note 10 on Rule 21.10 provides that, other than in exceptional circumstances, the Panel will consent to the restrictions in Rule 21.1(a) not being applied where a target board seeks to sanction a scheme in a competitive situation. 
  • Secondly, the PCP proposes allowing a bidder to extend a “mini-long-stop date” in relation to a scheme not only with the consent of the parties to the offer (as is currently the case) but also with the Panel’s consent in a competitive bid situation.

Proposed changes to Rules 21.3 and 21.4 – equality of information to competing bidders

Rules 21.3 and 21.4 require information provided to a bidder or potential bidder to be given to another competing bidder or potential bidder on request. The amendments being proposed here aim to ensure that access to information is not denied on a technicality and to reduce the administrative requirements where a request for information is made.

The proposed changes are: 

  • Deleting Note 1 on Rule 21.3, which provides that a bidder may not request information under Rule 21.3(a) in general terms and amendments to Rule 21.3(a) so that a target board is required to provide to an offeror or bona fide possible offeror all information already provided to another firm or possible offeror at the time of the request (regardless of whether the information has been specifically requested) and any further information that the target board provides to another firm or possible offeror in the seven days following the request. 
  • Amending Rule 21.4 to require the bidder or potential bidder, in the case of a management buy-out or similar transaction, to provide on request to the independent directors of the target or its advisers any information that it has provided, or subsequently provides, to external providers or potential providers of finance. 
  • Amending Note 2 to Rule 21.3 to permit the passing of information under Rule 21.3(a) subject to a condition that the firm or possible offeror receiving it must obtain the target’s consent before sharing that information with potential finance providers (such consent not to be unreasonably withheld). 

Impact of proposed changes 

The proposed changes to Rule 21.1 are intended to make sure that it is striking the right balance between:

  • ensuring target shareholders have the opportunity to consider an offer (without the target board being able to take actions that might otherwise prevent an offer being made or, if made, cause an offeror to seek to invoke a condition to lapse it, i.e. actions which are either material or outside the ordinary course of business (or both)); 
  • not hindering target companies the subject of a bid from operating their businesses freely for longer (and to a greater extent) than is reasonable; and 
  • protecting an offeror’s interest in seeing that a target does not change significantly in value or nature after an it is committed to its offer (and its terms).

Providing greater clarity around the types of non-material or ordinary course activities that target companies can undertake during an offer situation, as well as more detail on what the Panel will think about when determining whether a particular course of action is in the ordinary course of business or material will be welcomed, especially as bid timetables become more protracted, for example, where there are anti-trust, foreign investment or other regulatory approvals required.

The proposed amendments are likely to be of particular benefit to, and welcomed by, target companies with businesses involving buying and selling assets (such as real estate investment trusts).

Easing the administrative burden relating to the provision of equal information to competing bidders is also likely to be welcomed by parties to offers.

Next steps

Responses should be submitted by 21 July 2023. The Code Committee expects to publish a response statement with the final amendments in Autumn 2023, which will take effect around one month after that. 

If the changes are adopted, the Panel Executive plans to publish a new Practice Statement (see the draft at Appendix C of the PCP) setting out how it normally interprets and applies Rule 21.1.

Further reading 

PCP 2023/1 – Review of Rule 21 (Restrictions on frustrating action) and other matters.