Securing major shareholder support is a key ingredient to the success of most rights issues, both as an endorsement of the company’s strategy in marketing the issue and often as a requirement to securing commercial underwriting.

There are however limits on the nature and extent of such major shareholder support (particularly through sub-underwriting arrangements) in circumstances which may give rise to control implications. While ASIC’s and the Panel’s policy guidance in this area is well settled, invariably the variety of commercial circumstances leading to a company’s decision to raise equity causes these policy settings to be tested.

Getting it wrong will at best result in delay (which of itself can be detrimental if equity markets tank, the proceeds are to fund an acquisition or a covenant re-testing is imminent) and at worst scuttle the raising (noting that most underwriting agreements will generally include broad regulatory ‘outs’).

There have been a number of recent rights issues and Takeovers Panel decisions which have provided greater clarity on just how far these policy settings can be pushed, most recently in Virgin Australia. This alert summarises these recent decisions and their impact on future issues.

Overview of regulatory framework

Takeovers prohibition and the rights issue and underwriting exceptions 

Chapter 6 of the Corporations Act 2001 (Cth) (the “Act”) prohibits a person increasing their voting power in a listed company to more than 20%, or if already above 20%, any increase above that level.

The Act provides specific exceptions to this prohibition where a shareholder increases its stake by taking up its entitlements under a rights issue or through an underwriting or sub-underwriting. The combined effect of these exceptions is to allow a major shareholder to underwrite or sub-underwrite a rights issue without offending the takeovers prohibition.

ASIC has a broad regulatory role in relation to the administration of the Act including the takeovers prohibition in Chapter 6. In the context of rights issues, ASIC typically exercises this oversight role when approving nominees to facilitate the sale of securities that would otherwise be offered to ineligible foreign shareholders. Despite the exemption for rights issues, ASIC (or another relevant stakeholder, such as a disgruntled shareholder) may nevertheless apply to the Takeovers Panel for a declaration of unacceptable circumstances if it is concerned that a proposed rights issue may be contrary to the principles and purposes underlying the exemptions to the requirement to make a takeover bid.

The Panel may make a finding of unacceptable circumstances if it believes the transaction offends the principles upon which the takeovers provisions in Chapter 6 are based. Importantly, a rights issue or underwriting arrangement may give rise to unacceptable circumstances even though it falls within the legal requirements of the Act.

Matters likely to give rise to unacceptable circumstances 

Takeovers Panel Guidance Note 17 (“GN17”) sets out the Panel’s approach to rights issues which will or may have an effect on the control of a company. The Panel’s guidance is supported by ASIC’s policy guidance in this area, in particular Regulatory Guide 6 (refreshed in June 2013), which includes guidance on the circumstances which ASIC may find objectionable. For example, the Panel will be more likely to make a finding of unacceptable circumstances in the following circumstances: 

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he factors outlined above are not exhaustive, and no particular matter should be considered a safe harbour. Both ASIC and the Panel will take into account the overall circumstances of a rights issue in considering whether regulatory action may be warranted.

In exercising its regulatory powers, ASIC will often make enquiries of the directors, underwriters and others to determine whether all reasonable options have been explored, and steps put in place, to minimise the potential control effect of a rights issue. The Panel’s position is that directors should consider all reasonably available options to mitigate that effect. A key consideration is whether the control effect of the rights issue exceeds what is reasonably necessary for the fundraising.

Summary of recent Panel decisions

One interesting insight which has emerged from a number of recent Panel decisions is the regulatory approach to control effects and what is likely to be unacceptable. Some of these key findings are summarised below.

Laneway Resources Limited

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Coppermoly Limited 

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Avalon Minerals Limited

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Virgin Australia Holdings Limited

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Other recent rights issues 

It is useful to contrast the matters outlined above which have recently come before the Panel with other recent rights issues with potential control implications which have not attracted any regulatory intervention. Three recent examples are considered below.

Australian Agricultural Company Limited (AACo)

AACo conducted a fully underwritten accelerated non-renounceable 7 for 10 rights issue at a 9.1% discount to the theoretical ex rights price (TERP). There was a shortfall facility for retail investors capped at 50% of entitlements.

One of AACo’s major shareholders (AA Trust), a 13.5% shareholder prior to the announcement of the rights issue, took up its full pro-rata entitlement and entered into a priority sub-underwriting agreement which capped its maximum total shareholding at 19.9% (ie within the takeovers threshold).

At the same time as the rights issue, AA Trust also subscribed for convertible notes, which, if converted in full, would entitle AA Trust to increase its holding to 29.2% (noting that any exercise of conversion rights could only be done in accordance with the Chapter 6 exceptions, such as under the 3% creep rule). Full details of the arrangement were disclosed in the cleansing notice and initial ASX releases issued to the market. 

Horizon Oil Limited (Horizon) 

Horizon conducted a fully-underwritten accelerated non-renouncable 1 for 7 rights issue at a 9.6% discount to TERP. There was also a shortfall facility for retail investors capped at 50% of entitlements. 

Horizon’s largest shareholder, Austral-Asia Energy Pty Ltd, committed to take up its full pro-rata entitlement and to sub-underwrite up to $10 million of any shortfall. The theoretical maximum control impact (as disclosed to the market) assuming no other shareholders took up their entitlements would be to increase Austral-Asia’s shareholding from 19.9% to 22.2%. This did not attract the attention of ASIC or the Panel. 

White Rock Minerals Ltd (White Rock)

White Rock conducted a non-renounceable 1 for 1 rights issue at a 20% discount to the pre-announcement trading price of White Rock shares. The rights issue was not underwritten and contained a shortfall top-up facility for eligible shareholders.

White Rock’s largest shareholder, Avalon Ventures (a 29.28% shareholder prior to the announcement of the offer), committed to take up its full entitlement. The maximum possible shareholding Avalon Ventures could have moved to assuming no other shareholders took up their entitlements was 45.29%. It is important to not however that this potential increase was only as a result of taking up entitlements and not through underwriting or sub-underwriting arrangements.

What this means for structuring rights issues 

Summary of recent issues

While clearly each of the examples noted above turns on its own unique circumstances (particularly in relation to the company’s circumstances, structure of the rights issue and potential control implications), it is interesting to assess which potential control implications have attracted regulatory attention in recent times.

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Conclusions

As the above analysis demonstrates, ASIC and the Panel have been busy in this area in recent times. The Virgin Australia example also demonstrates the willingness of other stakeholders to take issue with these arrangements and seek to intervene.

Accordingly, it is as important as ever to have regard to the Panel’s and ASIC’s guidance when structuring a rights issue and managing major shareholder expectations to minimise the risk of regulatory intervention. As Coppermoly and Avalon reaffirm, underwriters will not always be able to rely on the ‘regulatory outs’ in the underwriting agreements to walk away if there is in fact an issue. Similarly, the termination risk remains a live consideration for issuers.

It is clear that any control impacts which have the potential to cause a substantial shareholder to increase its voting power through or beyond 20% will come under close scrutiny, however, this is not to say it can’t be done. In this scenario, the focus on effective dispersion mechanisms and fulsome disclosure of the control implications are of heightened importance.

For companies considering raising equity in 2014, the recent Panel decisions and market examples provide some useful guidance in clarifying the practical approach of the regulatory bodies in applying their respective policies. It will be interesting to see how these trends develop.