As Canada gears up to legalize cannabis for recreational use (expected by July 2018), companies operating in the sector and those in ancillary markets are looking to raise capital to fund their business plans and expected expansions, some with an eye on opportunities to raise public capital for growth through acquisition.
A significant milestone for many companies in a growth sector is obtaining a listing on a stock exchange, whether by way of initial public offering or commonly in the cannabis industry, a reverse take-over. Canadian exchanges have quickly become the global leaders in this sector with the TSX, TSX Venture Exchange and Canadian Securities Exchange all having listings of issuers from the cannabis sector.
A public listing creates a market for investors to sell their shares and provides companies access to opportunities to raise public capital for growth, whether organically or through acquisition. In addition, publicly traded shares can constitute a valuable acquisition currency for public companies that are seeking to grow through acquisition. By the same token, a public listing may also open a company up to actions by other competitors or financial parties seeking to buy the company on an unsolicited (hostile) basis.
As the cannabis industry matures, we expect it will follow a pattern similar to other emerging industries, with the eventual consolidation of licensed producers and distributors by those who have seized the first-mover advantage and gained considerable size, or by participants in ancillary industries looking for the quickest way to become a significant player in the cannabis market. Furthermore, we believe that the relative high number of licensed producers in Canada, the expected regulatory oversight and related complexity, increased competition, and an opportunity for some early-stage investors to profit, are additional factors that may contribute to a consolidation trend in this sector.
This article provides an introductory summary of common acquisition strategies used by public companies and broadly held private companies, as well as defensive tactics that public companies can use against unwelcome take-over bids.
When a company builds a sufficiently large shareholder base, including by listing its shares on an exchange, the acquisition of that company will involve a more complex procedure than a simple share purchase agreement. In such cases, the buyer will need a mechanism to acquire all the securities (including possibly options, warrants and other exchangeable securities) from all of the securityholders in a context where individual negotiations with a large and diverse group of securityholders will be impractical. In addition, an offer to acquire 20 per cent or more of the voting securities of a public company or a private company with 50 or more shareholders (other than shareholders who are current or former employees) generally needs to comply with the detailed Canadian regulatory regime for take-over bids, subject to limited exceptions.
In Canada, most public company acquisitions occur through a negotiated, shareholder-approved transaction under applicable corporate law, as either a plan of arrangement or an amalgamation. Acquisitions can also be achieved through a take-over bid made directly to the target company’s shareholders. In recent years, this latter mechanism has primarily been used only in the context of hostile bids where the target company and its board are unwilling to accept an acquisition proposed by the buyer. The different structures vary in terms of their cost, complexity, speed of implementation, the level of director and shareholder support required, and the extent to which they are subject to various approvals, statutes and regulations.
Plans of Arrangements and Amalgamations
Most negotiated public company acquisitions in Canada are achieved under a shareholder-approved plan of arrangement structure. Plans of arrangement allow a company to conduct a court-sanctioned acquisition or reorganization transaction and therefore allows for complex, multi-party or multi-step transactions. A plan of arrangement provides a flexible means to reorganize rights between a corporation and its securityholders and creditors in circumstances where an alternative transaction is impracticable. An arrangement will involve the negotiation of an arrangement agreement between the target and buyer and will include a plan of arrangement, which will set out the specific set of transaction steps that will occur to effect the arrangement after obtaining shareholder and court approval.
A plan of arrangement will require approval by a court at two stages: first to approve the information circular to be provided to shareholders and the process for obtaining shareholder approval, and second, following the shareholder meeting, to approve the substance of the arrangement. The statutory level of shareholder approval required by the target company in an arrangement is 2/3 of the votes cast by the shareholders voting on the resolution. Court approval is typically a formality, especially if a high level of shareholder approval (above the required threshold) is obtained by the target company. The advantage of a plan of arrangement is that if the arrangement is approved by the required majority and by the court, then all securityholders are bound by the outcome of the transaction, other than shareholders who properly exercise statutory dissent and appraisal rights.
An alternative to the plan of arrangement is an amalgamation. An amalgamation is a statutory procedure in which two or more corporations combine into one corporation. In an acquisition context, this is often structured to have the target combine with a wholly owned special purpose subsidiary of the buyer, rather than having the buyer amalgamate with the target directly. Like a plan of arrangement, an amalgamation requires that the buyer and target enter into an agreement setting out the terms of the transaction, and the approval of the shareholders of the amalgamating companies by an affirmative vote of 2/3 of the votes cast by the shareholders voting on the resolution. Unlike arrangements, amalgamations do not require the court involvement.
For both types of shareholder-approved transactions, the target company will be required to prepare and mail to its shareholders a detailed information circular in advance of the shareholder meeting describing the transaction. If the buyer will be issuing any of its securities to the target’s shareholders as part of the consideration for the target company’s shares, then the circular will need to include detailed information regarding the buyer (including financial statements) equivalent to the disclosure that would be included in a prospectus.
Absent any delays caused by regulatory issues or third-party consents, plans of arrangement and amalgamations will typically take approximately 45 to 60 days following the execution of a definitive agreement in order to prepare and mail the information circular and hold the required shareholder meeting. The amount of time leading up to the execution of the agreement will vary depending on the circumstances, including the time required to complete due diligence and prepare and negotiate the definitive agreement.
A take-over bid is an offer to purchase that is made to each individual shareholder of the target company. In this procedure, a buyer sends an offer and take-over bid circular to all of the target company’s shareholders directly. The directors of the target company must also send a circular setting out the directors’ recommendation as to whether or not to accept the offer (or advising that they make no recommendation). The target company’s shareholders may either accept the offer and tender their shares or simply ignore the offer and retain their shares.
Even if the majority of shareholders accept the bid, it will not bind those shareholders who did not accept the bid. However, if the buyer acquires 90 per cent or more of the target’s shares, excluding the shares the bidder held prior to the commencement of the bid, the buyer can “squeeze out” the remaining holders by providing them with the same consideration offered in the bid, thereby acquiring the remaining shares. If the buyer does not acquire 90 per cent or more but wants to acquire the whole company, it must undertake a second stage transaction, typically by way of a shareholder approved amalgamation, to acquire the remaining shares. If the buyer complies with specified disclosure requirements in the original bid and offers the same consideration in the second stage transaction, it is generally entitled to vote the shares it acquired in the bid. For this reason, the buyer will usually set a condition to its obligation to acquire shares in the bid that 2/3 of the outstanding shares tender to the bid so that it has the necessary votes to approve a second stage transaction, if one is required.
Under the take-over bid rules, an offer must remain open for at least 105 days after commencement. This gives shareholders time to consider the bid and, if the target’s board does not support the bid, to seek an alternative transaction or otherwise convince its shareholders not to accept the bid. Take-over bids can be used for friendly acquisitions, in which case the target and buyer will often enter into an agreement before the bid is commenced under which the target’s board agrees to support the bid. However, in recent years, the added complexity and time involved in a take-over bid have meant that take-over bids are generally used only to accomplish a hostile take-over where the target’s board does not support the proposed acquisition.
Where a public company is the subject of an unsolicited acquisition proposal that the board of the target determines is not in the company’s best interest, it has available some defensive tactics to prevent the success of the offer.
Initially, targets communicate to their shareholders aggressively the reasons why the hostile bid is inadequate. Targets may also seek to solicit a “white knight” bidder to make a competing, superior offer, or enter into a financing or disposition transaction that makes the company less attractive to the particular hostile bidder. Traditionally, companies have adopted shareholder rights plans (often referred to as poison pills) that would heavily dilute the bidder and make the acquisition more expensive if an unsolicited bid proceeds. However, recent amendments to the take-over bid rules have lessened the utility of the plans. In any event, Canadian courts and securities regulators take the position that target boards cannot “just say no” to an unwelcome bid, and must eventually let the shareholders decide whether to tender or not. At that point, it will be in the shareholders’ hands to determine the transaction’s outcome and company’s fate.
Given the rising number of licensed producers expected to join existing companies in the cannabis industry, some companies are likely to face pressure to grow through acquisition, while others will seize opportunities to realize on an exit strategy by being acquired.
Potential buyers and sellers should be aware of the complex regulatory landscape for acquisitions of public companies and broadly held private companies, and appreciate that any such transaction will involve compliance with significant procedural, regulatory and disclosure requirements.