- The Corporations Act 2001 (Cth) (Corporations Act) allows the responsible entity of a managed investment scheme to amend the scheme constitution without unitholder approval if the responsible entity reasonably considers that the changes are not adverse to unitholders’ rights.
- Based on the Seabrook case, there has been a commonly held view that constitutional amendments which only change the manner in which the issue price is determined do not alter rights of unitholders (only the potential value of their investment).
- In a recent Federal Court case, the court held that unitholders have a right to have units issued only on the terms specified in the constitution and therefore the responsible entity was unable to make pricing amendments absent a special resolution of unitholders.
Premium Income Fund (PIF) is an Australian registered managed investment scheme listed on the National Stock Exchange. Wellington Capital Limited (the RE) is the responsible entity of PIF. On 6 May 2011, the RE announced a placement and rights issue at an issue price of $0.10 per unit. The units had been trading at approximately $0.081 per unit over the previous several months.
At the time the capital raising was announced, the PIF constitution provided that the issue price of a unit must be either
- $1.00, or
- the net asset value of a unit (if the RE considered that the total net asset value per unit was less than $1.00 and was unable to access a particular asset support facility).
At the time of the capital raising, the asset backing was approximately $0.35 per unit, representing more than a 400% premium over the current unit trading price. Consequently, to facilitate the proposed capital raising, the RE entered into deed polls to amend the PIF constitution to allow units to be issued at an price referable to the volume weighted average traded price of units (VWAP).1 The amendments were made in reliance on section 601GC(1)(b) of the Corporations Act which allows a responsible entity to unilaterally amend a constitution if it ‘reasonably considers the change will not adversely affect members’ rights’.
The placement was completed on 13 May 2011. However, before the rights issue closed, certain unitholders sought a declaration in the Federal Court that the amendments were invalid under section 601GC(1)(b) and injunctive relief to require the RE to rescind the previous issue of units under the placement and to refrain from issuing units pursuant to the rights issue.2
Gordon J held that in the context of the PIF constitution, unitholders had a ‘right’ to have units issued only in the manner specified in the constitution. Consequently, if the RE wanted to amend the constitution to change the unit pricing provisions, it could only do so:
- with the approval of a special resolution of unitholders, or
- if the RE reasonably considered that the change is not adverse to unitholder rights.
It has been common market practice for listed funds conducting a capital raising to amend their fund constitutions to ‘hard wire’ an issue price where the existing issue price provisions are not sufficiently flexible. Issuers typically made these pricing amendments without unitholder approval pursuant to section 601GC(1)(b) in reliance on the Seabrook case. Under the analysis set out by the court in the Premium Income Fund judgment, issuers could only make such amendments if they reasonably formed the view those amendments to the unit pricing provisions were not adverse to the rights of unitholders to have units issued only as set out in the existing constitution (a logically difficult conclusion to reach).
In this case, the RE submitted that if it could not make changes to the pricing provisions in the constitution, it would be unable to raise capital in an efficient manner, particularly in difficult economic circumstances. Her Honour rejected this argument, stating that the RE could always amend the constitution via a unitholder resolution. However, this suggestion may be impractical for listed entities, which need to be able to take advantage of favourable windows in the capital markets, often on short notice.
What does this mean for you?
Issuers should review the issue pricing provisions in their existing constitutions to determine whether those provisions provide sufficient flexibility for the responsible entity to set an issue price it believes to be appropriate to the circumstances of a relevant capital raising.
Where the constitutions are restrictive, the issuers may elect to seek unitholder approval for appropriate constitutional amendments to ensure that they are able to raise capital quickly and efficiently in the future. However, in framing amendments, issuers will need to keep in mind the Corporations Act requirement that a scheme constitution make ‘adequate provision’ for unit pricing. ASIC’s view is that in the absence of relief (such as that provided under its Class Order 05/26), this provision requires the constitution to specify pricing in a manner that is not dependant on responsible entity discretion (although ASIC has not challenged any discretionary pricing provisions outside of the initial scheme registration process).
Because the court expressly declined to have previously issued units rescinded, issuers which have already conducted capital raising in reliance of constitutional changes made pursuant to section 601GC(1)(b) are unlikely to be affected by the ruling.