On 6 February 2011, the FSA's Guidance on concert party arrangements for the control of UK financial institutions (the "Guidance") came into force. This concluded a long period of consultation by the FSA, during which there has been continued focus in the UK on the terms of shareholder engagement following the financial crisis.
The Guidance is significant because of its role in balancing engagement between shareholders in financial institutions against the need to ensure that aggregate control over those institutions remains subject to regulatory approval. How has the Guidance addressed this balance?
Background: Acting in concert vs. aggregation of voting power
The Financial Services and Markets Act 2000 ("FSMA") contains the statutory framework which regulates changes in controlof FSA authorised financial institutions. As the FSA has noted, this framework implements Directive 2007/44/EC (the "Acquisitions Directive") and is intended to prevent control of these institutions falling into unsuitable hands.
It requires a person, when calculating the level of control held over a financial institution, to aggregate his shareholding with that of anyone else with whom he is "acting in concert". It also requires the aggregation of voting power in circumstances where there is an agreement between two or more persons which obliges them to adopt, by concerted exercise of the voting rights they hold, "a lasting common policy towards the management of the institution in question" (a "Common Policy Agreement").
Since this part of FSMA was amended to implement the Acquisitions Directive, it came into force with effect from 21 March 2009. As a result, the changes to this section pre-dated the conclusions of Sir David Walker’s review of corporate governance in UK banks and other financial industry entities.
Following the publication of that review, and in light of concerns about the compatibility of more active shareholder engagement with the UK's regulatory framework surrounding market abuse, disclosure of substantial shareholdings and changes in control of financial institutions, the FSA published in August 2009 a letter to the Institutional Shareholders’ Committee of the ABI setting out its views on this area.
This stated that the FSA was satisfied that there was "no fundamental inconsistency" between the requirements of the UK regulatory system and "collective engagement by institutional shareholders designed to raise legitimate concerns on particular corporate issues, events or matters of governance with the management of investee companies". In relation to changes of control, the FSA noted that it was not intended that the phrase "acting in concert" should capture:
"ad hoc discussions and understandings in good faith solely aimed at exerting influence intended to promote generally accepted principles of good corporate governance".
There should therefore be no need for shareholders, in these circumstances, to aggregate their holdings for the purposes of assessing whether or not their collaboration would constitute the acquisition of "control", triggering the requirement to seek prior FSA approval.
However, the FSA also said it would keep its approach under review, and has made the Guidance following that commitment.
Active shareholder engagement
The Guidance states that the FSA would not generally regard investors as being in a position in which they would need to aggregate their holdings for FSA controller approval purposes, where they had reached an agreement to vote together on a particular issue.
Specifically, the Guidance cites agreements to vote on the:
- rejection of a proposal for the remuneration of directors;
- appointment/removal of a particular director; or
- approval/rejection of an acquisition or disposal proposed by the firm's board of directors as falling into this category.
In these circumstances, investors would neither be "acting in concert" nor party to a Common Policy Agreement, conclusions which are broadly consistent with the approach set out in the FSA's letter to the ABI in 2009.
Acquisition of control
It is clear from the Guidance that the FSA now draws a distinction between agreements to vote on a specific issue and agreements to vote on an ongoing or sustained basis in relation to future issues generally, with the latter involving the relevant investors being viewed as "acting in concert" and also potentially as parties to a Common Policy Agreement.
Reasonably enough, the Guidance states that it cannot provide exhaustive examples of "acting in concert". The phrase is not defined in the Acquisitions Directive, and the Treasury did not provide one to be included in the FSMA. The three Level 3 European Committees produced Guidelines (the "3L3 Guidelines") which included the following definition:
"persons are "acting in concert" when each of them decides to exercise his rights linked to the shares he acquires in accordance with an explicit or implicit agreement made between them."
This definition is not easy to apply, but it is suggested that the concepts of "acting in concert" and "Common Policy Agreements" could be seen as complementary, with persons:
- "acting in concert" in the context of an acquisition of a stake in a UK financial institution; and
- obliged to aggregate their voting power because of a Common Policy Agreement concluded in relation to existing holdings.
The relevance of the Guidance to shareholder engagement would, on this footing, only be a question of the FSA's views on the point at which a Common Policy Agreement arose.
This concept will be familiar to many, as it is defined by reference to the Transparency Directive (2004/109/EC), which is separately implemented in the FSA's Rules on the public disclosure of significant shareholdings in publicly-quoted companies (see in particular section 2 of Chapter 5 of the FSA's Disclosure and Transparency Rules). The FSA considered the application of this regime in its letter to the ABI and similarly concluded that it was unlikely to catch ad hoc discussions between institutional shareholders in relation to particular issues or corporate events.
"Acting in concert"
However, the Guidance, curiously, takes a more expansive approach to the construction of the phrase "acting in concert", stating that it may be relevant to investors voting together on a specific issue in circumstances where there is no acquisition in contemplation. Although the Guidance expressly considers the definition contained in the 3L3 Guidelines, it disregards the reference contained there to the acquisition of shares.
This aspect is difficult to understand and is arguably incompatible with the Acquisitions Directive. The Guidance is clear that the FSA may construe investors as "acting in concert" in circumstances where they are not required to aggregate holding power as a result of a Common Policy Agreement, and where no acquisition of shares or voting power is in prospect, even if it considers that circumstances such as these are likely to be "exceptional".
The example given in the Guidance (which would require the aggregation of holdings) is where shareholders "who have no previous agreement in relation to the exercise of their voting rights agree to act together for the purpose of voting through the resolution(s) required to enable them to obtain control of the board of a firm […] if those shareholders have no 'lasting common policy' towards the firm's management".
This could be problematic: it is not clear how the FSA proposes to interpret the reference to "control" of a board of a firm, and, in particular, if it proposes to follow the approach taken in the Takeover Code in relation to "board control-seeking" proposals. While it seems likely that the FSA (or a court) would consider similar factors to those listed in the Takeover Code when considering what would constitute "control" of a board (such as, for example, the number of directors to be appointed or replaced compared with the total size of the board), the Guidance is at pains to clarify that the FSA's views on "acting in concert" should not be read across to the interpretation of the Takeover Code, and that the Takeover Panel's views relate only to the Takeover Code. Unfortunately, it is also therefore difficult to predict the FSA's approach to other areas covered by the Takeover Code, including when the FSA would consider that parties in these circumstances had ceased "acting in concert".
These matters are significant because, while there may be no immediate consequences to the formation of concert party arrangements for the purposes of the Takeover Code in the absence of any subsequent acquisition of shares, acquiring control without the FSA's prior approval, or reducing control without giving the FSA prior notice, is an offence under the FSMA, and, as set out above, these provisions may (in the FSA's view) operate even where there is no acquisition in contemplation.
The Guidance states that the FSA is willing to provide individual guidance in cases of uncertainty. However, and while the willingness of the FSA to provide individual guidance is to be welcomed, there must be some concern about the viability of this option, as the usefulness of FSA guidance will naturally depend on the speed of the FSA's response and its willingness to express a clear view. Obtaining comfort from FSA may be less time-critical when considering the corporate structure of an acquisition than in the context of discussions between shareholders.
The Guidance is helpful in many respects, and addresses a number of areas of the regime which have previously been difficult. The conclusions in the FSA's letter to the ABI of 2009 were also in many respects welcome. However, it remains difficult to understand why the Guidance appears to extend the concept of "acting in concert" to areas where shareholders agree to vote together on specific issues. It remains to be seen how the FSA applies this Guidance in practice and whether the validity of its approach is challenged.