At the end of December 2006, there were 1,606 companies traded on the main market for listed securities (the ‘Main Market’) of the London Stock Exchange (the ‘Exchange’) and a further 1,634 companies traded on AIM.
AIM is a market originally designed for smaller or newer companies which may not have been able to satisfy all the requirements for admission to the Main Market. However, in recent years, it has attracted a number of larger companies wishing to take advantage of its lighter regulatory regime.
The Exchange is the most international equities exchange by trading in the world. By the end of December 2006, 67 countries were represented, with 330 international companies on the Main Market and 306 on AIM. For the year to December 2006, £3,210,536 million of securities in international companies were traded on the Exchange.
For the year to the end of December 2006, the equity trading value for UK companies was £3,210,535.6 million, from 89,589,649 equity bargains and 830,200 million shares traded. For international companies, the equity trading value was £3,447,680, with 21,763,043 equity bargains and 555,658 million shares traded. The total value of equity trades in this time was £6,658,216 million.
There were 367 initial public offerings in the year to 31 December 2006, of which 89 were on AIM. Fund raising activities on the Main Market and on AIM raised a total of £28,811 million.
For the year to March 2006, there were 151 proposed takeovers concerning 143 companies, contrasting with 114 proposed takeovers for 109 companies for the year ended March 2005.
Of the proposed takeovers, 17 in 2006 and 11 in 2005 were not recommended at the time that the offer documents were posted. Eleven of the 17 (eight of the 11 for 2005) remained unrecommended at the end of the offer period and six in 2006 and three in 2005 then lapsed. At 31 March 2006, 17 were still unresolved compared with 21 at 31 March 2005.
The UK legislative and regulatory framework in relation to the offering of securities, by sale or subscription, is driven by the implementation of the EU Prospectus Directive (2003/71/EC) (the ‘Prospectus Directive’), which came into force through national legislation on 1 July 2005. The Prospectus Directive was implemented in the UK through amendments to the existing Financial Services and Markets Act 2000 (‘FSMA’).
FSMA is the legislation under which the UK’s financial regulator, the Financial Services Authority (‘the FSA’) was created and sets out its powers and duties. It also sets out the FSA’s regulatory objectives and contains details of the regulated and prohibited activities. Part VI of FSMA contains the provisions which deal with listing on the Official List and the FSA in its capacity as competent authority for listing. The FSA has issued a number of sets of rules based on the above powers known as the Prospectus Rules, the Listing Rules and the Disclosure and Transparency Rules. When applying the provisions of the Prospectus Directive and FSMA, the FSA also adopts the guidelines issued by the Committee of European Securities Regulators (known as ‘CESR’).
In addition, there are various other legislative obligations which impact on the offer of securities, including regarding the manner in which investment may be sought/promoted and dealing with insider dealing and market abuse (see paragraphs 12 and 13).
Where a company (also known as an ‘issuer’) is deemed to be making an offer of transferable securities to the ‘public’ for the purposes of the Prospectus Directive, the company must first publish an approved prospectus which complies with the Prospectus Rules. This applies whether the relevant company is a public limited company or a private limited company, unless it can make use of a relevant exemption (see paragraph 5.2).
A prospectus is also required where a company is seeking admission to trading on a regulated market: in the case of the UK, this means admission to the Official List and admission to trading on the Main Market.
In order to fall outside the Prospectus Directive in relation to admission to trading, AIM opted not to be a regulated market in the UK. Therefore, where a company is not offering its securities to the public but is seeking admission to AIM, there is no requirement for it to produce a prospectus but it must produce an admission document pursuant to the AIM Rules: the content requirements for an AIM admission document are less demanding than for a prospectus.
The UK operates a prohibition on certain types of marketing of financial services. Section 19(1) of FSMA provides that a person must not, in the course of business, communicate an invitation or inducement to engage in investment activity. For these purposes, ‘communicate’ means issuing all forms of written material (such as advertising, letters, emails etc) and oral communications (such as telephone calls and personal meetings) where the purpose of that communication is, broadly, for that person to buy or sell investments or to enter into an investment relationship, for example, an investment management mandate.
This prohibition is disapplied in a number of circumstances, of which the main ones are where:
The rules regarding prospectuses are set out in the Prospectus Rules. In addition, when a company applies for admission to the Official List (and therefore the Main Market) it must comply with the Listing Rules. Once admitted to the Official List, the Listing Rules continue to apply and, in addition, a company must comply with a revised set of rules regarding inside information and announcements to the market, known as the Disclosure and Transparency Rules (DTRs) which came into force on 20 January 2007.
Companies which are admitted to AIM must comply with the AIM Rules and, to the extent to which they apply to AIM companies, the Disclosure and Transparency Rules.
There is no legal distinction in the securities legislation between UK companies and companies incorporated in other jurisdictions.
Overseas companies can elect either to have a primary listing or a secondary listing on the Main Market. If a secondary listing is sought, the requirements of the Listing Rules are substantially modified, both for the purpose of the initial listing and the subsequent continuing obligations of the company. These modified provisions are set out in chapter 14 of the Listing Rules. It is likely that the chapter 14 rules and the names given to primary and secondary listings will change in the near future under FSA plans under consultation.
AIM is also attractive to overseas companies seeking a listing because of its lighter requirements. In particular, where an overseas company has been trading on an ‘AIM Designated Market’ (the list includes NASDAQ, Euronext and the Australian Stock Exchange) for at least 18 months, the company is able to gain admission to AIM without the need to produce an admission document: it must simply make an announcement 20 clear days prior to admission.
Securities are widely defined in the Prospectus Rules and Listing Rules to include shares, debt securities, warrants, certificates, options and other securities of any description. It is possible to list shares in registered or bearer form or in the form of depository receipts.
The Companies Act 2006 contains provisions in Part 34, which allows overseas companies to register a branch in the UK and requires certain documents to be delivered to the Registrar of Companies if a place of business is established in Great Britain, including specifying an address for service of documents.
There is, however, no legal requirement to register a place of business if the overseas company is seeking a listing or admission to trading on a regulated market. Any overseas company seeking a primary listing on the Main Market must comply with the same obligations as a UK company (save where local laws mean this would be impossible). An overseas company applying for a secondary listing, however, need only comply with Chapter 14 of the Listing Rules (and does not necessarily need to have a primary listing elsewhere, see paragraph 2.6 above). There is, for example, a requirement under the Listing Rules to issue any document to be sent to shareholders in English.
As stated above, the FSA is the UK’s financial regulator and, as such, it is responsible for the regulation of all authorised and approved persons, investment exchanges, clearing houses and collective investment schemes.
In relation to the offering of securities, the nominated competent authority for listing in the United Kingdom is the United Kingdom Listing Authority (‘UKLA’) which is part of the FSA.
AIM is regulated by the Exchange as a recognised investment exchange and AIM companies are subject to the AIM Rules.
The UKLA continually reviews and issues amendments to its rules to reflect current issues and practice. Its aim is to make the listing process as simple as possible whilst safeguarding the principles of investor protection and market confidence. The UKLA Prospectus Rules, Listing Rules and Disclosure and Transparency Rules (‘UKLA Rules’) have statutory force by reason of FSMA.
The Exchange issues a set of Admission and Disclosure Standards which set out its requirements for listing and, in effect, these largely mirror but are less detailed than the UKLA Rules. In addition, the Exchange regulates the way in which participants operate in the market.
The FSA also has a role as regulator in the secondary markets and these markets are monitored to identify unusual trading activity, price movements, potential breaches of the applicable rules, insider dealing, market abuse and other forms of market manipulation.
In order to obtain a primary listing on the Main Market, an issuer is required to appoint a sponsor, an authorised person approved by the UKLA, who has the necessary experience in market practice to advise.
Similarly, companies seeking to have shares traded on AIM are required to appoint a nominated adviser (Nomad) and broker to oversee the admission process. The role of the Nomad is akin to that of the sponsor but the Nomad remains in place following admission to trading on AIM. The Nomad is appointed by the company but has a duty to the Exchange to ensure compliance with the AIM Rules. If the Nomad resigns and is not replaced, trading in the AIM company’s shares will be suspended and, after a month, admission will be cancelled.
All issuers offering securities to the public for the purposes of the Prospectus Directive, irrespective of the market to which they are or will be admitted, and all issuers seeking admission to trading on the Main Market must produce a prospectus which complies with the Prospectus Rules.
Section 87A of FSMA dictates that a prospectus must contain the information necessary to enable investors to make an informed assessment of the assets and liabilities, financial position, profits and losses, and prospects of the issuer and of the rights attaching to the issuer’s transferable securities. In practice, this means that a prospectus will normally include a minimum of three years’ audited historical financial information prepared in accordance with IAS (subject to certain exceptions), a detailed description of the issuer, its management, its business and trading position, pro forma financial information (if appropriate), a description of the issuer’s dividend policy and a statement regarding any significant change which has occurred since the issuer’s last published financial information. There are additional requirements for property, mining, oil and gas companies.
The Prospectus Rules require a prospectus to contain a summary of key information and an analysis of the risks involved in making an investment in the issuer. In addition, it must include a full description of the offer of shares, together with an operating and financial review (OFR), working capital statement and a description of the issuer’s capitalisation and indebtedness position.
Where a company is seeking admission to trading on AIM and is not making an offer to the public for the purposes of the Prospectus Directive, it need only produce an AIM admission document, prepared in accordance with Schedule 2 of the AIM Rules. These disclosure requirements are based on the Prospectus Rules requirements for a prospectus but exclude a number of the more onerous requirements such as the obligation to include information on capital resources, an operating and financial review and pro-forma financial information.
The AIM Rules also contain an equivalent requirement to the general disclosure requirement for prospectuses in that, in addition to complying with certain elements of the Prospectus Rules, an AIM admission document must contain any other information which the company reasonably considers necessary to enable investors to form a full understanding of (i) the assets and liabilities, financial position, profits and losses, and prospects of the applicant and its securities for which admission is being sought; (ii) the rights attaching to those securities; and (iii) any other matter contained in the admission document.
The Prospectus Rules provide a number of exemptions from the requirement to produce a prospectus: these exemptions are taken from the Prospectus Directive. The exemptions from the obligation to produce a prospectus in relation to the making of an offer to the public include an offer made to qualified investors only, an offer made to fewer than 100 persons per EEA state, an offer pursuant to which the minimum consideration payable by any investor is 50,000, an offer pursuant to which the securities offered are denominated in amounts of at least €50,000 and an offer pursuant to which the total securities being offered cannot exceed €100,000. Other exemptions from the obligation to produce a prospectus under the public offer limb relate to shares issued in the context of certain transactions, bonus shares and shares issued pursuant to employee share schemes.
The exemptions from the obligation to produce a prospectus for companies admitted to trading on a regulated market include issues of less than 10 per cent of the issuer’s issued share capital over a 12 month period, issues of shares in the context of certain transactions, bonus issues, issues pursuant to an employee share scheme, shares which result from the conversion of securities and the exercise of rights and shares already admitted to trading on another regulated market (subject to certain conditions).
Prospectuses are prepared on the basis of information provided by the issuer and the document is developed through detailed discussions at drafting meetings. The prospectus is primarily the responsibility of the sponsor or Nomad, although the lawyers generally take drafting responsibility for the document, and the drafting process involves close co-operation between the sponsor/Nomad, the lawyers, the accountants and other advisers.
A prospectus may not be published until it has been approved by the UKLA: this is sought through a formal process which involves the submission of drafts of the prospectus, annotated to reflect compliance with the Listing Rules and Prospectus Rules.
AIM admission documents are agreed with the Nomad without external review.
Due diligence is integral to the preparation of prospectuses and admission documents and, generally, accountants and lawyers (acting for the issuer and the sponsor/Nomad) undertake due diligence work in accordance with the terms of engagement/instruction letters. Due diligence is also effected during drafting meetings and through in-depth discussions with the issuer’s management and senior officers. Depending on the nature of the issuer, environmental reports, valuations or other specialist reports may also be commissioned.
The sponsor or the Nomad (as the case may be) is required to ensure that the level and nature of the due diligence undertaken is appropriate for the nature of the issuer and type of offering being undertaken.
All the key offering documents (including presentations) are subject to verification to ensure the accuracy of the facts included and the reasonable foundation of statements of belief or expectation.
The issuer and its directors, including any individuals who are proposed as directors, have statutory responsibility for the information contained in a prospectus. The Prospectus Rules require a responsibility statement to be given by the issuer, the directors and any proposed directors. The required statement is that ‘to the best of the knowledge of the company and the directors (who have taken all reasonable care to ensure that such is the case) the information contained in the document is in accordance with the facts and contains no omission likely to affect the import of such information’. Other third parties may also be required to take responsibility for sections of the prospectus for which they have produced information: for example, the accountants are required to take responsibility for reports which have been produced for the purposes of and included in the document.
Persons responsible for a prospectus may, under section 90 of FSMA, be liable to pay compensation to any person who has acquired securities and suffered a loss as a result of any untrue or misleading statement or any omission in the document required to be included by reason of the statutory obligations under section 87A(2) of FSMA. There is a defence available in Schedule 10 of FSMA if an individual can demonstrate that he reasonably believed that there was a valid reason to believe that the statements were true or were not misleading at the time of publication of the prospectus.
Under the AIM Rules, the directors of the issuer take responsibility for the information contained in the admission document and the document must contain a similar responsibility statement. Whilst FSMA provisions in relation to compensation do not apply to offering documents which are not prospectuses, the AIM Rules require the production of a document containing all the information required by Schedule 2 of the AIM Rules: a failure to include such information constitutes a breach of the AIM Rules which could lead to a fine, censure (public or private) or cancellation of an issuer’s admission to AIM.
It is the custom to include disclaimers in relation to the marketing of the securities in jurisdictions outside the United Kingdom, in particular in relation to in the USA, Canada, Japan and Australia.
Under the Prospectus Directive regime, an issuer which has a prospectus approved in one member state can apply to that member state’s competent authority, for example the FSA in the UK, for a certificate of compliance with the requirements of the Prospectus Directive. This certificate, together with a copy of the approved prospectus, is then sent to the competent authority in each of the member states to which the issuer wishes to passport the prospectus. The issuer may then rely on the passported prospectus to market its securities in the member states into which it has been passported.
Under section 87G of FSMA, if, during the period between approval of a prospectus and the later of the closure of any offer and the admission to trading of the securities, a significant new factor, material mistake or inaccuracy relating to the information included in the approved prospectus is noted, the issuer must prepare a supplementary prospectus which provides details of the relevant change. The production of a supplementary prospectus entitles applicants for shares (who have not already received their unconditional allotment of shares) to withdraw their acceptance of the offer by the end of the second working day following publication.
In a share offering, the distribution group will generally be led by a bank which will take the role of sponsor (for an offering on the Official List) or Nomad (for an offering on AIM), global coordinator, lead manager and bookrunner. Depending on the size of the offer, other banks may be involved and these roles may be jointly held (other than the role of Nomad, which must be held by a single bank).
A company raising capital can issue equity securities by means of an initial or secondary offering.
The principal ways of undertaking an initial offering of securities, to raise new capital or to widen the shareholding base, are as follows:
Normally, in the context of institutional offerings, a book of demand will be built by the syndicate banks (a so called book-build) and the offering will be priced by reviewing the demand generated and establishing the highest price at which the whole offering can be allocated.
Depending on the size of the offering, it will be underwritten by the bank or banks who comprise the distribution syndicate. This will be effected pursuant to the terms of an underwriting agreement. This agreement will typically contain warranties by the company, the selling shareholder(s) (if any), and the directors as well as an indemnity in favour of the sponsor/Nomad and the underwriters, a lock-up over any material retained stake held by key shareholders, termination rights (including material adverse change and force majeure), settlement arrangements, fees and commission and the specific comforts and deliverables required by the sponsor/Nomad.
The underwriting agreement will specify the commissions payable to the underwriters and the fees payable to the sponsor/Nomad. Typically, underwriting commissions vary depending on the type of issue and the commitment taken.
The underwriting agreement for an equity offering may, depending on the size of the offering, make provision for the appointment of a stabilisation manager and for the grant to that manager of an option known as an over-allotment or greenshoe option. The stabilisation manager (typically one of the banks in the distribution syndicate) will seek to smooth the price of the shares immediately following the launch of the offering, usually for a period of 30 days, by means of market purchases. Technically, these purchases, which are designed to influence the price of the equity securities, could constitute market abuse. There is therefore a safe harbour under the MAD regime which prescribes certain disclosure and timing parameters. Stabilisation purchases which comply with the requirements of the safe harbour will not constitute market abuse.
The Listing Rules provide for admission of a range of debt securities to the Official List and contain parallel provisions for the eligibility of debt securities for listing. The Prospectus Rules set out specialised disclosure requirements for a prospectus in respect of debt securities. The applicable disclosure requirements differ depending on factors such as the nominal value of the securities (ie whether they are to be treated as ‘wholesale’ or ‘retail’ securities), whether the issuer is a sovereign state and whether the securities are guaranteed. There is also a separate disclosure regime for depositary receipts which are treated differently from both equity and debt securities for the purposes of the Prospectus Directive.
Debt securities, like all other listed securities admitted to the Official List, must comply with chapter 2 of the Listing Rules and chapters 1 and 2 of the Disclosure and Transparency Rules.
In order to be admitted to the Official List, an issuer must demonstrate that it meets the eligibility requirements set out in the Listing Rules (principally, chapters 2 and 6 for a primary listing and 14 for a secondary listing). For a primary listing, these requirements include the obligation to demonstrate that the issuer has a three year track record of unqualified, audited accounts, that it controls the majority of its assets, that at least 75 per cent of its business is supported by a historic revenue earning record and that it will carry on an independent business as its main activity. Other requirements include obligations in relation to the percentage of shares in public hands (the minimum is 25 per cent), working capital, free transferability of shares and minimum market capitalisation (this is £700,000).
Prior to starting to review the prospectus of a new applicant, the UKLA requires its sponsor to submit a letter explaining how it complies with the eligibility requirements of the Listing Rules. Once an issuer has been deemed eligible for listing, it then submits its prospectus for approval. The standard review period for the first draft of a prospectus of a new applicant by the UKLA is approximately ten working days and, thereafter, each subsequent draft submitted, blacklined to show all changes since the last draft, is generally reviewed in five working days. The UKLA will not accept a document for review until it is substantially complete and they generally expect to review only three good drafts.
It is common practice in the UK to commence marketing activities prior to the final approval of the prospectus. This is effected by the use of a ‘pathfinder’ document which is the prospectus in virtually final form save for the completion of certain specific details, such as the final number of shares to be issued and the price. A document in this format is considered an advertisement under the Prospectus Rules and therefore requires a clear disclaimer complying with the advertisement regime.
At approximately the same time as the document is being finally approved, the issuer is required to submit a formal signed application for admission to the Official List. Chapter 3 of the Listing Rules sets out the relevant application procedures and requires the lodging of certain documents 48 hours before the final document is issued and other documents to be lodged on the day of issue (see paragraph 8.4 for a description of some of these documents).
For an application for admission to trading on AIM, there is no formal approval process in respect of the document: in effect, the Nomad takes responsibility for ensuring that the requirements of the AIM Rules have been complied with. Ten days prior to the date a company wishes to be admitted to AIM, it is required to submit certain formal documents.
The FSA Handbook contains the procedures for disciplinary action in relation to the Listing Rules and Prospectus Rules and also the reasons for which the UKLA can refuse a listing, ie, unless it is satisfied that requirements of the Listing Rules and other requirements imposed by the UKLA have been complied with. The Regulatory Decisions Committee (RDC) is appointed by the board of the FSA (although only its chairman may be an FSA employee) and established to represent the public interest. One of RDC’s tasks is to review any decision of the UKLA to refuse an application for listing or to discontinue a listing (FSA Handbook DEC 4).
The London Stock Exchange is itself a listed company operating on both the Main Market and the AIM market. Whilst the majority of the regulatory powers are held by the FSA, the Exchange has a role in supervising and providing rules for participants in and members of the Exchange.
One of the documents required to be filed with the UKLA is an application for approval of the issuer’s prospectus; this contains an acknowledgement of the obligations of the issuer under FSMA, the Prospectus Directive Regulation and the Prospectus Rules. This document, known as a Form A, contains a number of confirmations in relation to the issuer’s status, the completeness of the information contained in the prospectus and the compliance of the application with all FSA requirements.
In addition, the sponsor gives a declaration of its independence from the issuer which must be countersigned by the sponsor’s compliance department.
The sponsor also signs a declaration on an application for listing in which it confirms that it has (1) carried out its duty as sponsor with due care and skill, (2) taken reasonable steps to ensure that the directors of the applicant understand the nature and extent of their duties under the Listing Rules and the Disclosure and Transparency Rules and (3) come to a reasonable decision, based on its professional experience and having made due and careful enquiry, that the issuer complies with various UKLA requirements. The sponsor is required to maintain adequate and appropriate records in relation to the application for listing to show the basis of its reasonable opinion of the matters covered by the declaration. Finally, the sponsor confirms that all matters of which it is aware which it considers should be taken into account by the FSA in considering the application for listing and in deciding whether to admit the securities have been disclosed with sufficient prominence in the prospectus or otherwise in writing to the FSA. The sponsor also agrees to inform the FSA of any further information which comes to its notice prior to admission.
The Nomad is required to provide a similar confirmation, known as a Rule 39 Letter, to the Exchange in connection with the application by a new applicant to be admitted to AIM.
As stated above, an issuer of equity securities seeking a listing on the Main Market must engage a sponsor. Whilst there is no requirement to retain a sponsor on an ongoing basis, a sponsor must be engaged in a number of other situations, including where the listed issuer undertakes a substantial transaction, a related party transaction or a further issue of shares.
A company admitted to AIM is required to retain its Nomad and broker on an ongoing basis.
In order to be approved to act as a sponsor, a firm must make a formal application to the FSA. This application must demonstrate that the firm is competent to perform the services which are required of it and has a broad range of relevant experience and expertise in providing advice to listed companies on the Listing Rules. In addition, a sponsor firm must provide evidence that it has in place adequate systems and controls.
Once accepted, sponsors are subject to a number of principles. These oblige the sponsor to:
(1) carry out its role with due care and skill, (2) ensure that directors of the company understand the nature of their responsibilities under the Listing Rules and the Disclosure and Transparency Rules, (3) deal in a proper way with the FSA and (4) be independent of the issuer and any envisaged transaction. In practice, these obligations mean that sponsor firms have a close working relationship with the UKLA and a good level of knowledge of the Listing Rules, Prospectus Rules and Disclosure and Transparency Rules.
The detailed obligations of sponsors in relation to a given transaction are set out in chapter 8 of the Listing Rules. These obligations generally focus on the provisions of confirmations to the UKLA and guidance to the listed company.
Costs for obtaining a listing can vary considerably but generally comprise adviser fees (sponsor, lawyers and accountants), marketing fees (presentations, roadshow, PR advisers) and other expenses such as printing costs.
Details of the UKLA’s fees for admission to the Official List and document vetting, as well as the annual fees paid by an issuer, are contained in the section entitled FEES 3 of the FSA Handbook.
Purchasers of securities are protected by a number of statutory and common law rights. These rights are in addition to the disclosure requirements of the Prospectus Rules and the AIM Rules. As described in paragraph 5.5 above, Section 90 of FSMA provides that a person responsible for a prospectus can be liable to pay compensation to any person who acquires any securities concerned and who suffers loss in respect of them as a result of any untrue or misleading statements or omissions from the prospectus.
In addition, at common law, a purchaser can bring an action for negligent misstatement if he has suffered a loss as a result of acting on that statement, where the loss was a reasonably foreseeable consequence of a negligent misstatement and that person owed him a duty of care. Liability can also arise under the common law of fraudulent or negligent misrepresentation or under the Misrepresentation Act. An action could also be brought for deceit.
FSMA defines market abuse in section 118 and provides for the FSA to regulate it pursuant to codes and statements of policy, with the power to investigate and to apply to the court for penalties to be imposed. Market abuse is, in essence, market manipulation or information abuse. The FSA has published a code of what constitutes market abuse: paragraph 12 below provides more detail on the market abuse regime.
9.2 Dispute settlement and court procedure
Any claimant in a legal action has to make application to the court in accordance with the Civil Procedure Rules.
In addition, Part XVI of FSMA set up the Financial Ombudsman Scheme (the ‘Ombudsman’), whose function is to provide a quick and informal dispute resolution service with the power to order authorised persons to pay compensation to certain types of mainly retail customers. The Financial Services Compensation Scheme also exists to compensate customers: it is divided into three sub-schemes (Accepting Deposits, Insurance Businesses and Investment Businesses) and provides for compensation for investors and small businesses. It should be noted that both schemes relate only to the default of the authorised person, not the issuer.
10. CONTINUING OBLIGATIONS
10.1 Disclosure and Transparency Rules
The first three chapters of the DTRs apply to issuers of all securities admitted to trading (or for which an application has been made) on the Main Market (therefore they apply both to equity and debt securities). Broadly, the first three chapters of the DTRs cover three key areas.
The first is the disclosure and control of inside information to the market. Inside information is defined by FSMA as information which is not generally available, which relates to one or more issuers of ‘financial instruments’ or the ‘financial instruments’ themselves and which would, if generally available, be likely to have significant effect on the price of the ‘financial instruments’ or the price of related investments (eg derivatives). Subject to certain limited exceptions, issuers must therefore notify all inside information in their possession as soon as possible to the market, via a Regulatory Information Service. They must also have in place appropriate mechanisms for the monitoring of information held by the company which may fall to be disclosed as inside information.
The second key area is insider lists. An issuer must maintain a list of those employees and advisers who have access to inside information. These lists must be updated and each update submitted to the FSA.
The third key area relates to transactions by persons discharging managerial responsibility (or ‘PDMRs’). The concept of PDMRs extends the obligation to notify transactions in the issuer’s shares beyond directors to senior executives who have both (1) regular access to inside information relating to the issuer and (2) the power to make managerial decisions affecting the future development and business prospects of the issuer. PDMRs must provide the issuer with details of transactions by themselves or their connected persons in the issuer’s shares or any financial instruments relating to those shares within four days of the transaction occurring. The issuer must then notify this information to an RIS as soon as possible.
Chapter 4 of the DTRs deals with periodic financial reporting (see paragraph 10.2), chapter 5 deals with shareholding notification obligations (see paragraph 16.1) and chapter 6 provides for a number of continuing obligations and rules in relation to access to information. Continuing obligations imposed by chapter 6 of the DTRs include the obligation to treat holders of securities equally and to publish details of changes to the issuer’s constitution, the rights attaching to the securities and other matters. Chapter 6 also provides a mechanism to allow issuers to communicate with security holders by electronic means.
10.2 Financial information
The DTRs state that a listed company must issue an annual financial report within four months of the end of each financial year. The annual financial report must comprise audited financial statements, a management report and responsibility statements. For an EEA issuer which produces consolidated accounts, the audited financial statements must be prepared in accordance with IFRS; if it does not produce consolidated accounts, the audited financial statements can be produced in accordance with the issuer’s national GAAP. For a non-EEA issuer, the audited financial statements may be produced in IFRS or an equivalent standard (this includes US, Canadian and Japanese GAAP). The audit report must be disclosed in full to the public. The annual financial report must also include a management report which gives a fair view of the issuer’s business and a description of the principal risks and uncertainties facing the issuer, together with a responsibility statement from persons responsible within the issuer which provides confirmations in relation to the true and fair view given by the accounts and in relation to the management report.
Listed companies must also produce half yearly reports which must be published within two months of the end of the period to which they relate, together with a comparison for the same period for the previous year. In a similar way to the annual report, the half-yearly report must consist of financial statements, an interim management report and a responsibility statement.
In addition, the DTRs require issuers who do not publish quarterly reports to produce interim management statements between ten weeks after the beginning, and six weeks before the end of the relevant six month period. These statements should provide an explanation of material events and transactions during the period and their impact on the issuer’s financial position, together with a general description of the issuer’s financial position and performance during the period.
10.3 Listing rules
In addition to their obligation to comply with the DTRs, issuers with a primary listing on the Main Market are subject to broad continuing obligations under chapter 9 of the Listing Rules. These obligations are designed to ensure fair and equal treatment between all shareholders.
The first category of obligations relates to information to be notified to an RIS under chapter 9 regarding changes to the company and its management: these include changes to share capital, board composition and directors’ interests.
The second category of obligations is set out in the Model Code which is annexed to chapter 9 and provides detailed restrictions on a PDMR’s ability to deal in the company’s securities. The aim of the Model Code is to prevent PDMRs and employees with inside information from abusing such information in the periods leading to the announcement of the company’s results.
The third category of obligations relates to the conduct of transactions by the listed company. These include rules governing the type of document which requires prior approval by the UKLA and the type of transaction undertaken by an issuer which requires shareholder approval (see 10.4 below).
In addition, chapter 9 includes an obligation on a listed issuer which has published unaudited financial information or a profit forecast to reproduce this information in its annual report and accounts and report on the difference between this information and the actual figures for the period concerned. Chapter 9 also requires an issuer, which determines to pay a dividend, to notify an RIS with a statement of dividends, setting out details of the dividend to be paid.
10.4 Substantial transactions
Chapter 10 of the Listing Rules sets out the rules governing transactions undertaken by listed companies.
Transactions are classified in accordance with four tests which are designed to reflect the size of the listed company in relation to the transaction undertaken (these tests are: profits, gross assets, consideration and gross capital). The rules to be followed are determined by the resulting ratio (or class) of the transaction. Transactions which are class 3 or class 2 (ie below 25 per cent on all class tests) require an announcement to the market. Class 1 transactions require the consent of shareholders in general meeting. The requirements for reverse takeovers (where the class tests show 100 per cent or more) generally result in a cancellation of the company’s listing and the requirement for readmission to be sought. Transactions must be aggregated for the purposes of the class tests in certain circumstances, including where they are with the same party or involve the securities of the same company.
10.5 Related party transactions
Chapter 11 of the Listing Rules supplements the chapter 10 rules in relation to transactions with related parties (which includes directors of the issuer, shareholders holding 10 per cent or more of the issuer’s share capital, 50/50 joint ventures and any other person exercising significant influence of the issuer). Shareholder consent is required for any related party transaction which is above five per cent on the class tests and, for all transactions other than the very smallest (0.25 per cent or less), an independent adviser must give an opinion on whether the terms of the related party transaction are fair and reasonable so far as the shareholders of the listed company are concerned.
10.6 Other listing rules
Chapter 12 of the Listing Rules deals with the regime governing the purchase by a listed company of its own shares; chapter 13 sets out the information to be included in a circular to shareholders; chapter 15 provides special rules which govern investment entities, including supplementary class tests and continuing obligations. It should be noted that the UKLA is in the process of making substantial amendments to chapter 15 which are due into effect in the first half of 2007.
10.7 AIM rules
AIM companies are subject to continuing obligations which are set out in the AIM Rules and which mirror, to a large extent, the Listing Rules obligations.
11. CORPORATE GOVERNANCE
11.1 The combined code
The principal instrument relating to corporate governance is the Combined Code which sets out the principles of good governance and the code of best practice. The 2006 version of the Combined Code applies to all accounting periods starting on or after 1 November 2006. It is attached to, but does not form part of, the Listing Rules and sets out how companies should conduct themselves in order to comply with the principles of good governance. Sensitive issues include the requirement to split the role of chairman and CEO and for there to be a balance of executive and non-executive directors. The Combined Code does not have the force of law although an issuer which produces a prospectus must explain whether it complies with the Combined Code and provide the reasons for any non-compliance.
Listed companies are also obliged to comply with the Model Code and good practice dictates that AIM companies will also often comply with its provisions.
11.2 Publication of internal regulations
The memorandum of association (which sets out the name and objects) and the articles of association (which sets out the by-laws) of a UK company are available for inspection from the Registrar of Companies but any private internal regulations would not normally be published. Some companies publish internal codes on their website if they wish customers or shareholders to be aware of them.
11.3 Responsibility of directors
A UK company has a board of directors, each of whom has similar fiduciary duties, primarily to act at all times in the best interests of the company. Executive directors are employed in the business of the company whereas non-executive directors are generally independent of the company.
The internal regulations of the company are usually structured such that certain matters are dealt with by non-executive directors: these include, for example, the audit committee, the remuneration committee and the nomination committee. However, executives or non-executives can sign the accounts.
11.4 Committees
The articles of association of each company include the power to appoint committees for specific purposes. Companies often adopt a set of rules and regulations describing the powers which are delegated by the board of directors to other committees; there are terms of reference for the audit committee, the remuneration committee and the nomination committee and there are frequently other committees such as a risk committee or a corporate governance review committee.
11.5 Shareholder consent
Every company is required to have an annual general meeting (‘AGM’) and to put the accounts, any dividend and the re-appointment of the auditors before the meeting.
In addition, directors are required to put themselves up for re-election every three years and any director appointed by resolution of the board since the date of the last AGM is also required to be put up for election. Each of those matters requires an ordinary resolution, namely, a vote in favour by at least 50 per cent of those attending (in person or by proxy) and voting at the meeting.
Certain resolutions require a special resolution and some require extraordinary notice. Special resolutions require a 75 per cent vote of those attending (in person or by proxy) and voting at the meeting.
The rules of the UKLA require shareholder approval to be sought for certain significant transactions whilst AIM rules require shareholder approval only on a reverse takeover or a disposal resulting in a fundamental change of the business.
11.6 Appointment/dismissal of directors
In practice, the appointment and dismissal of directors is generally dealt with by resolution of the board of directors.
If executive directors are dismissed from their executive position, the provisions of their service agreement usually state that they also cease to be a director. However, any such resolution will not prejudice a claim by the individual director for breach of his employment contract.
The articles of association contain provisions for circumstances where directors lose office, usually relating to misconduct or breach of duty, bankruptcy or other offence. Many articles of association provide that a resolution calling upon a director to resign and signed by all other directors has the effect of forcing that director to resign from the directorship of that company.
If shareholders wish to seek to remove one or more directors, they may produce a requisition notice signed by holders of 10 per cent of the issued shares which obliges the directors to convene a general meeting to put that resolution. If a meeting has been so requisitioned, the directors are obliged to convene that meeting within a 21 day period and are required to ensure that the meeting is held not more than 28 days after the date of the notice convening the meeting. The Companies Act provides that, notwithstanding anything in the company’s articles of association to the contrary, any director can be removed from his position by an ordinary resolution, by a vote of more than 50 per cent of those attending and voting at the general meeting voting against him.
11.7 Income and options for directors
Under the Combined Code, the report of the remuneration committee is put to the annual general meeting. There are a number of examples of the remuneration committee report being rejected but there is no legal consequence of such rejection.
The Combined Code provides, as a general principle, that the levels of remuneration should be sufficient to attract and retain the directors needed to run the company successfully but the company should avoid paying more than is necessary. A proportion of the executive directors’ remuneration should be structured so as to reward corporate and individual performance. The Combined Code also recommends that service contracts should not be of more than one year’s duration.
11.8 Directors’ liability
All directors, executive and non-executive, owe duties of care to the company and have fiduciary duties relating to that duty of care. There is no particular distinction drawn between executive and non-executive directors.
Directors’ liability can arise in the context of securities issues, trading, compliance with regulatory requirements and the carrying out of fiduciary duties but the complainant in an action against a director will be the company. English law is very restrictive in allowing claims to be made against directors otherwise than by the company, to whom the director owes his duty of care. There are specific provisions where directors may attract personal liability such as wrongful trading or fraudulent preference, and there are certain statutory liabilities.
12. MARKET ABUSE
12.1 The structure
The directive-based market abuse regime, which came into effect on 1 July 2005 (the ‘MAD regime’) and the previous regime (the ‘UK regime’) cover very similar ground and in a similar manner, but the Treasury in the UK did not attempt to make the UK regime fit the directive requirements; rather it simply superimposed the MAD regime over the UK regime thereby creating two market abuse provisions. In deciding whether conduct is abusive, one must therefore assess the position under both regimes.
In general terms, the MAD regime covers what it refers to as insider dealing and market manipulation. The MAD structures, together with the terms of the UK regime, are as set out in the table overleaf.
MAD structures
MAD regime UK regime
Insider dealing - s.118(2) FSMA Misuse of confidential information - s.118(4) Misleading impressions - s.118(8)(a) Market distortion - s.118(8)(b)
Disclosing inside information - s.118(3) Misleading transactions/artificial prices - s.118(5)
Fictitious devices - s.118(6)
Misleading impressions - s.118(7) Subject to the regular user test
As a result of criticism that the UK has two overlapping market abuse regimes, the Treasury has agreed that the UK regime will automatically disappear on 30 June 2008 under a so-called sunset clause (s 118(9)).
12.2 Scope
The MAD regime applies to any financial instrument admitted to trading on a regulated market in the EU or where an application to trading has been made (therefore covering grey market trading), any UK Recognised Investment Exchange (RIE) and to OFEX, whereas the UK regime covers only behaviour relating to instruments traded on UK RIE markets and OFEX (art 4 of the Prescribed Markets and Qualifying Investments Order). Conduct in the UK on a French regulated market, for example, may therefore be abusive under FSMA, whereas it is not under the UK regime.
As a corollary of the above, the MAD regime provides for dual territorial scope: both the member state where the insider dealing or market manipulation occurs and the member state where the relevant financial instrument is admitted can take action in relation to market abuse (s 118A(1)).
12.3 Defences
The structure of defences in the MAD regime is different from the original UK regime implemented in 2001 which benefited from both a number of safe harbours, that were absolute defences, and an overall provision that conduct is only ever abusive if, after it has fulfilled all the relevant requirements in FSMA and the FSA Rules, a regular user of the market in question would consider that it fell below the standard reasonably expected of a market user. The UK regime following MAD implementation retained the regular user test but lost the safe harbours in favour of general guidance on types of behaviour that, in the FSA’s view, will not be abusive.
The MAD regime does not contain any regular user test and has safe harbours only for the new stabilisation and buy back regime. The MAD regime defences are now to be found in a patchwork of legitimate purposes and accepted market practices tests and FSA guidance in the Code of Market Conduct about certain activities that it believes are or are not abusive. How these defences work is explained in the relevant sections below.
12.4 Insider dealing
The MAD regime insider dealing provision is more specific than the UK regime about who is an insider (s 118B) and what constitutes inside information (s 118C). Information is ‘inside information’ where it:
Additional guidance is given in s 118B(5) and (6) on when such information is precise and when it would be likely to have a significant effect on prices in order to prevent the definition of inside information becoming too wide.
The UK safe harbours in section 118(2) in relation to misuse of confidential information appear only as indications of conduct that the FSA believes not to be abusive (MAR 1.3).
In particular, the trading information safe harbour in the UK regime, which was an absolute defence, has been significantly cut back by the MAD regime. In general terms under the MAD regime front running will be abusive; dealing ahead of customer orders for hedging purposes or where a client may or may not deal in the future will only be acceptable where it meets certain conditions set out in MAR 1.3.10.
12.5 Market manipulation
The MAD regime in s 118(5) – (7) is very similar to the UK regime in section 118(8) and covers misleading orders and market squeezes (s 118(5)), fictitious devices (s 118(6)) and misleading information (s 118(7)).
12.6 Manipulating transactions
The prohibition on misleading orders to trade and squeezes covers similar ground to the UK regime but contains a number of non-exhaustive flags that the FSA will take into consideration in deciding whether abuse has taken place (MAR 1.6.4-11; 1.7.3; 1.8.4-5). These factors are not conclusive that abuse has taken place but certainly should be taken into consideration by market participants in assessing whether a proposed transaction or conduct would be abusive. The provision is subject to the defence that the trade in question was both for legitimate reasons and in conformity with accepted market practices. The FSA has given guidance on legitimate reasons in MAR 1.6.5, which are similar to the UK regime safe harbours but have greater conditions attached to them.
The ‘legitimate reasons’ guidance in the Code of Market Conduct is relatively particular and specific. In any market abuse case, the FSA would be called upon additionally to decide whether a particular activity is an accepted market practice. The FSA is not specific about what an accepted market practice is in advance of the event, which leads to uncertainty for market users and quite a wide discretion to the FSA in how it forms its view, although it is required to take various factors into consideration in forming that view (MAR1 Annex 2G). The most important factors for market participants are:
This list leaves two issues for market participants: first, to what extent the FSA will prefer existing practices to new practices in that it will be more difficult to show that a new practice is ‘accepted’. Although the FSA should not discriminate between new and old there will undoubtedly be a temptation to do so. Secondly, the UK regime’s position that a practice will not necessarily be acceptable merely because a large section of the market follows it has been retained. Indeed, the degree to which a practice is followed by the market is not a factor the FSA has indicated that it will use in forming its view.
12.7 Manipulating devices and dissemination
These offences largely rely on objective assessments of what the accused person knew or ought to have known about his conduct and the effect on the market and therefore introduce a wider negligence test than the UK regime that takes into consideration much more the person’s actual intention. Only in relation to dissemination of misinformation through an accepted market channel of communication is negligence the accepted standard in the UK regime.
There are no safe harbours or defences to this provision.
12.8 Criminal Liability
It is a criminal offence under section 397(1) and (2) of FSMA to make a statement, promise or forecast which a person knows to be misleading, false or deceptive in a material particular, or dishonestly conceals any material facts or recklessly makes (dishonestly or otherwise) a statement, promise or forecast which is misleading, false or deceptive in a material particular, where this is done for the purpose of inducing, or is reckless as to whether it may induce, another person to buy shares.
It is an offence under section 397(3) of FSMA to engage in a course of conduct which gives a false or misleading impression as to the market in or the price or value of any relevant investments if the course of conduct is carried out for the purpose of creating that impression.
13. INSIDER TRADING
13.1 The offence
The insider trading rules are set out in Part V of the Criminal Justice Act 1993 (CJA). The offence of insider dealing is contained in section 52 and the key provision is ‘an individual who has information as an insider is guilty of insider dealing if ... he deals in securities that are price-affected securities in relation to the information’.
It is specifically provided that the person or individual can be guilty of insider dealing if he encourages another person to deal in securities when he discloses the information, other than in the proper performance of his employment, office or profession, to another person.
13.2 Codes
Both the Takeover Code (see section 17 below) and the Listing Rules and DTRs reinforce the insider dealing law. The Takeover Code emphasises the CJA, as well as the provisions of FSMA regarding market abuse. The Model Code, which is appended to chapter 9 of the Listing Rules, refers to the insider dealing law, but also extends the restrictions and obligations on dealing in certain circumstances. The Model Code applies to all companies on the Official List.
13.3 Definitions
The key definitions for the offence of insider dealing are:
The CJA provides that an individual is only guilty of an offence if he, the market on which the dealing took place, or the professional intermediary through which it took place, was in the United Kingdom at that time. However, an individual can be guilty of an offence of procuring others to have dealt if both he and the recipient of the information were in the United Kingdom at the relevant time.
13.4 Sanctions
An individual guilty of insider dealing is liable to a fine or term of imprisonment not exceeding seven years or both. Proceedings can only be instituted in England and Wales with the consent of the Secretary of State or the Director of Public Prosecutions.
13.5 Defences
The principal defences are set out in section 53 of the CJA. They comprise:
There are also special defences set out in Schedule 1 to the CJA which relate to market makers, price stabilisation, bid facilitation and the provision of market information.
13.6 Major shareholders
Whenever a shareholder is approached with a view to a major transaction, care has to be taken to ensure that the shareholder understands that he will be an insider by being given information which prevents him dealing. This applies in a variety of potential transactions, from acquisitions to rights issues and takeovers.
13.7 Trading in certain periods
The Model Code provides that a PDMR should not deal in securities of a listed company during the close periods for the company. They comprise the period of 60 days immediately preceding the preliminary announcement of the full year results, the period of 60 days preceding the publication of the half yearly results and, if the company issues results on a quarterly basis, the period of 30 days immediately preceding that announcement. In addition, the Model Code provides that a PDMR should not deal in securities when he is in possession of unpublished price sensitive information.
13.8 Takeovers
The Takeover Code deals with acquisitions of shares in the context of takeovers. It prohibits dealings by any persons other than the offeror; the offeror itself has an interest in making the acquisition of shares. See paragraph 17 for details of the UK takeover regime.
13.9 Buying after closing of takeover bid
If an offer has closed and has been unsuccessful, the Takeover Code prohibits the acquisition of shares for 12 months, if such acquisition would result in a holding of 30 per cent or more and would therefore require a Rule 9 mandatory offer (see 17.3 below). The Takeover Code also prohibits the offeror if the offer has been unsuccessful, from subsequently within a six month period, making a second offer to acquire shares on better terms than those made available under the original offer.
14. MUTUAL FUNDS
14.1 FSMA Part XVII
Part XVII of FSMA contains the regulatory regime for collective investment schemes in the United Kingdom.
An investment trust company receives favourable tax treatment on the holdings and disposing of investments in securities and obtaining a listing under the Listing Rules. The structure of an investment trust company is identical to that of a company except that its sole purpose is to invest in other securities and it is under an obligation to distribute most of its income. It is not subject to the same, restrictive regime as a collective investment scheme. It is therefore not considered further in this section.
The regime which governs collective investment schemes was originally introduced into English law by the 1986 Financial Services Act following the first directive on undertakings for collective investments and transferable securities (‘UCITS’). However, the term ‘collective investment scheme’ also covers a wide range of non-UCITS compliant funds. Unlike other classes of investment, an unauthorised collective investment scheme cannot be marketed in the United Kingdom except to certain specific categories of persons. Authorised persons are generally prohibited from communicating (or ‘approving’) for regulatory purposes a financial promotion for such a collective investment scheme which is to be marketed outside the scope of those limited categories of person.
There is an exception for marketing certain retail mutual funds which comply with restrictive FSA or UCITS rules relating to their situation, including authorised unit trusts, authorised open ended investment trusts and recognised overseas schemes. Accordingly, these mutual funds can be offered to the retail markets.
14.2 Controlling power
The FSA is the regulator for the purposes of collective investment schemes.
14.3 Regulated functions
The FSA regulates the activities of institutions, brokers and distributors of collective investment schemes, marketed and sold both to the public and to other persons.
14.4 Exemptions
The Financial Services and Markets Act 2000 (Collective Investment Schemes) Order 2001 (‘Collective Investment Schemes Order’) contains a number of useful exemptions from the definition of collective investment schemes. Exemptions include arrangements which incidentally might constitute collective investment schemes (such as the exemptions for ‘pure deposit-based schemes’), schemes not operated by way of business (such as a syndicate of individuals owning a club or a racehorse), as well as certain particularly useful exemptions such as that which applies to ‘schemes for commercial purposes relating to existing businesses’.
14.5 Requirements for consent
An application for authorisation of a unit trust scheme and other collective investment schemes must be made to the FSA.
14.6 Retail funds
There are no material legal or regulatory obstacles to marketing a UCITS in the UK beyond notification and the authorisation process and the issues involved in using UK intermediaries. However, for UK purposes, a UCITS is inefficient in tax terms if it receives money from countries where there is a withholding.
To be an authorised unit trust, a scheme must be one of those prescribed by the FSA, CIS or COLL Sourcebooks which set out the permitted types of funds with detailed rules for each fund. An application for authorisation must be made by the manager and the trustee who must be independent of each other; they must be incorporated in the UK or another EU country; they must have a place of business in the UK; and they must be authorised persons with permission to serve in that capacity. There are restrictions on what may be included in the trust deed and the participants in the scheme must be entitled to have their units redeemed at a price related to net asset value and to be able to sell their units on an exchange.
The Open Ended Investment Companies Regulations 2001 set out the framework and the COLL Sourcebook deals with detailed operational matters for open ended investment companies which can issue and redeem shares on request at any time by the shareholders.
14.7 Foreign entities
There are three categories of foreign schemes recognised by the FSA. First, there are schemes constituted (by contract, trust or an open ended investment company) or authorised in another EU state or the EEA (member state schemes); these will be deemed to be recognised in the UK subject to the FSA receiving at least two months’ notice from the operator of its intention to promote the scheme in the UK, and the FSA not objecting. It will then be regulated by the home member state regulator although the operator must maintain an address for service of notice and other facilities in the UK.
Second, the FSA has the power to create designated territory schemes. Typical examples are schemes from the Channel Islands or the Isle of Man. Application for approval of the schemes is to be made to the FSA which, again, has two months to object.
Third, the FSA can be satisfied that other schemes managed outside the UK are appropriate if it believes that the participants in the scheme, the scheme’s construction and management and the operator, trustee and depository are all adequate having regard to comparable United Kingdom authorised schemes. The FSA has six months for approval of these schemes and it is not expected that many will qualify.
14.8 UCITS recognition
The procedure for recognition of a UCITS for marketing in the United Kingdom involves completing an application form and submitting it to the FSA, together with the fund’s constitutional documents, its current prospectus and recent annual and half yearly reports, the certificate issued by the home state and payment of the appropriate fees.
14.9 Relations with clients
The COLL Sourcebook sets out the mechanics for relations with clients.
14.10Reporting/guarantee systems
The UK requires any overseas scheme to establish facilities in the UK for copies of the fund documentation, details of prices of shares with units or redeeming shares with units. The COLL Sourcebook contains requirements on reporting.
14.11Extra disclosure requirements
Disclosure is required in accordance with the COLL Sourcebook.
14.12Manager
The registration requirement for managers is that managers have to be approved for the purpose of the collective investment scheme; they are to be responsible for all the arrangements with effect to the property of the fund. The participants must not have day-today control over the property of the fund.
The COLL Sourcebook provides details of the methods of applying for authorisation but in essence the management and the trustee have to be separate persons and described in the application form. Each must be a body incorporated in the United Kingdom or another EU state and have a place of business in the UK and the affairs of each must be administered in that country. The manager and the trustee must be an authorised person under the Act and the manager must have permission to act as a manager and the trustee as a trustee. In order to satisfy the object of the scheme the purpose of the scheme must be reasonably capable of being successfully carried into effect.
15. SECURITIES INSTITUTIONS
15.1 Regulation
FSMA also provides the regulatory framework for securities institutions, with the FSA operating as the regulator.
15.2 The approach
The FSA has adopted a risk-based approach to regulation which means that its approach is not wholly rule based but based on achieving its statutory objectives and the risks to those objectives, namely market confidence, public awareness, the protection of consumers and the reduction of financial crime. The FSA has analysed risk and has allocated institutions to different bands.
15.3 The FSA’s role
The FSA is the sole regulator for all authorised persons and all approved persons which effectively means all securities institutions and those employed at securities institutions. As such, it is empowered to make rules, issue guidance notes and codes in relation to a wider variety of matters, including the rules which govern the conduct of business by the prudential supervision of authorised persons, with formidable investigatory and disciplinary powers to back it up.
In addition, the FSA is responsible for the recognition and supervision of investment exchanges and clearing houses as well as the authorisation and recognition of collective investment schemes.
15.4 Power of FSA
The FSA has a wide range of powers to prosecute a broad range of offences concerning the regulatory markets. With FSMA having created the offence of market abuse in relation to investments, any action thereunder will be taken to the Financial Services and Markets Tribunal (‘Tribunal’) which is not a court.
Under FSMA, the FSA is the competent authority responsible for the maintenance of the Official List and accordingly has jurisdiction over the UKLA, although the Exchange has its own authority and responsibility as a recognised investment exchange. The FSA is also invested with substantial investigatory and disciplinary powers.
Whilst the FSA and its staff are immune from liability under FSMA for actions for damages in respect of their acts or omissions, there is no exemption in instances of bad faith or under the Human Rights Act 1998.
15.5 Appeal
There is specific provision in FSMA for reference to the Tribunal which has jurisdiction following a refusal of an application for permission to carry on regulated activities, the making of a prohibition order, the withdrawal of FSA approval, disciplinary action, market abuse cases and certain matters in connection with collective investment schemes. The Tribunal is effectively an independent quasi-judicial body.
15.6 Regulated activities
FSMA covers all regulated activities. The Act is supplemented by the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 (RAO) which sets out not only the scope of regulated activities carried out by securities institutions, but also those carried out in banking and insurance businesses. In effect, the core activities of financial institutions, brokers, market makers, dealers, underwriters, clearers and advisers are all likely to fall within the concept of a regulated activity.
15.7 RAO
The RAO also sets out the exemptions from the scope of regulation, the most important of which are a company issuing their own securities, actions which are essentially communication rather than promotion (such as the advice given in publications), certain sales of body corporates and certain activities carried out by ‘overseas persons’ which meet certain additional criteria.
16. NOTIFICATION OBLIGATIONS
16.1 Notification of major shareholdings
Under Chapter 5 of the DTRs, a person is required to notify its percentage of voting rights if the percentage of voting rights which he holds as shareholder or through his direct or indirect holding of financial instruments (or a combination of such holdings) reaches, exceeds or falls below an applicable threshold. The thresholds are three per cent of the voting rights in an issuer which is admitted to trading on a regulated or prescribed market and which has the United Kingdom as its home state (with disclosure at each one per cent increment above that level) or five per cent, ten per cent, 15 per cent, 20 per cent 25 per cent, 30 per cent, 50 per cent and 75 per cent for non-UK issuers admitted to trading on a regulated market which have the UK as their home state. The notification must be made simultaneously to the issuer and the Financial Services Authority within two trading days following the date on which the voting rights were acquired, or four trading days in the case of a non-UK issuer. Similarly, a notification obligation arises on a person ceasing to hold such percentage of the voting rights. The notification must be in electronic form and state the number of shares, the percentage of voting rights, the identity of the shareholder(s) and details of the relevant financial instrument. The notification obligations under the DTRs are wide ranging and cover voting rights held directly or indirectly attached to shares or financial instruments. They only apply to shares which are already issued and admitted to trading on a regulated or prescribed market.
In addition, under section 793 of the Companies Act 2006, a public company can serve a notice on any person whom the company knows is, or has reasonable cause to believe to be, at any time during the three years immediately preceding the date of the notice, interested in shares in the company, requiring that person to confirm that fact and to indicate whether or not he holds any interest in shares. This mechanism can be used to identify, for example, the building of a stake in a company prior to a takeover bid. If a person refuses to respond to a section 793 request, under section 794 of the Companies Act 2006, the company is entitled to apply to court for an order that those shares be subject to certain restrictions concerning transfer, dividend payment and exercise of votes.
16.2 Register
In the event that the company sends section 793 requests, the company is required under section 808 of the Companies Act 2006 to register any interests so disclosed. These registers are available for inspection without charge. A copy of the relevant register can be obtained on payment of a fee.
17. PUBLIC TAKEOVERS
17.1 Applicable laws and regulations
The Takeover Code (the ‘Code’) applies in the case of all offers for UK incorporated public companies whose securities are listed on a UK regulated market or a stock exchange in the Channel Islands or the Isle of Man, whether or not such companies are resident in the UK.
In the case of a UK incorporated public company whose securities are not listed on a UK regulated market, the Code will nonetheless apply if: 1) the company’s place of central management and control is considered by the Panel on Takeovers and Mergers (the ‘Panel’) to be resident in the United Kingdom; or 2) if the company’s place of central management and control is not considered by the Panel to be resident in the UK but its securities are traded on a regulated market elsewhere in the EEA (in which case the Panel will share jurisdiction with the takeover authority in the EEA state in which the company’s securities are listed).
In addition, the Panel will typically share jurisdiction over offers for overseas companies with registered offices in other EEA jurisdictions whose securities are listed on regulated markets in the UK and at least one other member state unless the company’s securities were not first listed on a UK regulated market and an election to submit to the Panel’s jurisdiction was not made by the company or agreed by the relevant authorities within the requisite periods set out in the EU Directive on Takeover Bids (2004/25/EC)(the ‘Takeovers Directive’), in which case the Code will not apply.
The Code has not historically had the force of law although certain Rules of the Code which are derived from the Takeovers Directive have a statutory basis. Notwithstanding these statutory powers to enforce the Code, it remains effectively enforced through a variety of formal and informal sanctions which can be made against the parties to a takeover offer and their respective advisers as well as other persons connected with an offer in respect of which the Code has jurisdiction.
The Code is designed principally to ensure fair and equal treatment of all shareholders and also to provide an orderly framework for takeovers. As a result of the fact that the Code has not historically constituted a legal binding statement of rules, and notwithstanding the UK implementation of the Takeovers Directive on 20 May 2005, there remains a certain amount of flexibility and discretion in the exercise of the Rules of the Code which are based on a set of General Principles providing for, inter alia, equality of information to shareholders, avoidance of false markets and principles as to how offeror and offeree companies and their respective directors should behave in the context of a takeover. The General Principles are then supplemented by detailed Rules.
In addition to the Code, any squeeze out of minority shareholders which may be effected once an offeror has received acceptances in respect of not less than 90 per cent in value of the shares to which the offer relates, or, alternatively, also any use of a Scheme (see 17.20 below) will be governed by the Companies Act 2006 and Companies Act 1985 (as applicable). Moreover, any delisting of a UK listed target company will be governed by the relevant provisions set out in the FSA’s Listing Rules or the AIM Rules, as appropriate.
Finally, it should always be remembered that any offer is also subject to UK common law principles of contractual offer and acceptance.
17.2 Authority
The Panel is an independent body whose members are appointed by the Bank of England and City of London bodies and whose principal role is to supervise and regulate takeover offers and related matters that are subject to the jurisdiction of the Code. It is also designated as the relevant supervisory body to carry out certain regulatory functions (including the amendment to existing and making of additional rules) pursuant to the Takeovers Directive.
It has an Executive, led by the Director-General, which is responsible for the general administration of the Code and day-to-day matters of interpretation, including conducting investigations. It co-operates with other regulatory authorities within the UK and elsewhere, including the FSA which require investment businesses to co-operate with the Panel.
17.3 Dealing disclosures and stake building
An offer period for a company begins with an announcement of a possible offer or, if later, the announcement by an offeror of a firm intention to make an offer pursuant to Rule 2.5. Thereafter, there is an obligation to disclose any dealings whatsoever by the offeror and any person acquiring or selling more than one per cent of the shares in the target to which the offer relates (or, if the offeror is offering its own shares, a person dealing in those shares) is also obliged to make a public disclosure (Rule 8 of the Code). This contrasts with the position under the DTRs, pursuant to which, outside an offer period, a person is only required to make a private disclosure to UK companies of interests exceeding three per cent of shares in issue and any whole percentage thereafter.
The principal Code provision relating to stake building is Rule 9 which requires any person acquiring interests in shares (which includes any derivative instrument which gives a person a long economic exposure to changes in a company’s share price) resulting in a holding of 30 per cent or more of the voting rights (or increasing his stake above 30 per cent) to make a mandatory offer for the target company: the result of this is that all shareholders in the target have the opportunity to sell on the same terms.
In addition, Rule 5 of the Code provides that a person’s interests in shares in a company (including, for these purposes only, interests by virtue of any irrevocable undertaking given by a shareholder to that person to accept an offer – see 17.7 below) must not go above 30 per cent of the company’s voting rights other than in certain prescribed circumstances, the most common being that the person in question is about to launch a recommended bid for the company or the acquisition of such interests is from a single shareholder and the only such acquisition in a rolling seven day period.
17.4 Nature and value of consideration offered
The Code requires an offeror to make a cash offer (or a cash alternative in the case of a share offer) if: 1) ten per cent or more of the voting rights of the target shall have been acquired by it or persons acting in concert with it in the 12 months immediately preceding the relevant offer period; 2) there is any purchase of shares for cash during the course of the offer itself; or 3) the offeror is making a mandatory offer pursuant to Rule 9.
Similarly, the cash consideration under the offer must be at the highest price paid by the offeror or any concert party during the course of the offer or during the relevant period preceding the announcement of its offer or possible offer which is usually three months (Rule 6) but may be 12 months if the offeror or persons acting in concert with it have acquired ten per cent or more of the voting rights of the target during that period (Rule 11) or if the offer is a mandatory offer (Rule 9).
17.5 Timetable
The Code prescribes a clear timetable for an offer which begins with the offeror’s announcement of its firm intention to make an offer for the target company pursuant to Rule
2.5 of the Code (see 17.9 below). Once the Rule 2.5 announcement has been made, the offeror has up to 28 days to despatch the offer document to target shareholders.
Typically, the offer document specifies a first closing date that cannot be less than 21 days after the date of posting and the target would respond within 14 days unless, in the context of a recommended offer, the offer document and target response circular are one and the same document. The offer must be conditional upon the offeror receiving valid acceptances over shares representing over 50 per cent of the voting rights in the target company although, often, an offeror will set a higher acceptance condition between 50 per cent and 90 per cent at which point it can squeeze out non-accepting shareholders under the Companies Act 2006 (in practice, offerors will usually reserve the right to waive this condition down to 50.1 per cent if it chooses to do so).
An offeror cannot close its offer until at least 21 days after posting its offer document and, unless otherwise agreed with the Panel, must satisfy the acceptance condition by no later than 60 days after posting.
Other relevant dates include the date on which the right for target shareholders to withdraw acceptances arises, which can be no earlier than 21 days after the first closing date (ie, day 42 at the earliest); day 39 from the posting of the offer document which is the last date when the target company is allowed to provide new information; and day 46 which is the last date on which an offer can be increased.
All other conditions to the offer have to be satisfied by the 21st day following the date that the offer has become unconditional as to acceptances (which can be no later than day 60) or the first closing date (day 21). Finally, the consideration payable to accepting target shareholders must be posted within 14 days of the offer becoming wholly unconditional or the date of receipt of the acceptance complete in all respects.
The timetable can become complicated if a competing offer is made, in which case it is restarted for both offerors as from the date of the competing offer document is posted.
17.6 Strategy
The requirements of the Code are strict on publicity, lobbying and advertising and directors of both an offeror and target company are required by the Code to control tightly any public announcements, briefings or other communications. The Code imposes obligations on directors to maintain confidentiality and to ensure that shareholders of the target have equal access to information and that information is carefully considered and presented (Rule 19). In addition, the Panel will typically bind participants to an offer to certain public statements made, for example, in relation to minimum levels of consideration on offer (Rule 19.3) or intentions to make/not make an offer (Rules 2.5 and 2.8 – see 17.9 below)
17.7 Irrevocables
A shareholder that wishes to accept the offer may simply wait for it to be made and accept it in accordance with its terms. However, an offeror my wish to ask major shareholders and/or directors of a company to assist it in securing enough shares in the target company to satisfy its acceptance condition. An offeror therefore has the alternative of persuading a shareholder either to sell his shares to the offeror or to give an irrevocable undertaking to the offeror agreeing to accept the offer, when made on agreed terms. An acquisition of shares needs to be considered carefully in the context of Rules 6 and 11 (nature and value of consideration offered – see 17.4 above) as well as any issues that this may present under Rules 5 and 9 (Dealing Disclosures and Stake building – see 17.3 above) and, in addition, shares acquired by an offeror prior to its offer being made will not count towards the 90 per cent threshold for the squeeze out. See also 17.8 (Buying shares) below.
However, subject to the restriction in Rule 5 set out in 17.3 above, the use of irrevocable undertakings to accept an offer should not give rise to any of these problems and is therefore often a favoured way for an offeror to seek certainty that it will meet its acceptance condition. Irrevocable undertakings vary between ‘hard’ undertakings (committed to accept the offer) and ‘soft’ undertakings (allowing the shareholder to escape from its commitment in the event of a higher offer). Sometimes, ‘semi-hard’ undertakings are sought, which allow shareholders to escape from their commitment to accept the offer in the event of a higher offer at no less than a certain fixed value above the offeror’s offer price.
17.8 Buying shares
UK insider dealing law applies to purchases of shares in the course of an offer but the offeror may avail itself of the bid facilitation defence of buying for the purpose of the offer, not for the making of a profit (ie it is dealing with inside knowledge of its own intention to bid).
However, if an offeror is aware of other inside information relating to a target company (ie other than knowledge of its own intention to bid), it should take legal advice as to the potential restrictions on purchasing shares in the target. The offeror is also prohibited by Rule 4 from selling securities in the target except until the prior consent of the Panel and following 24 hours’ public notice that sales may be made. Once any sales have been made, the offeror cannot then make purchases.
Otherwise the offeror can purchase shares in the market, although if it purchases shares at above the offer price, it is obliged to increase the consideration per share to the cash price paid in the market (Rules 6 and 11) and must always have regard to Rules 5 and 9 (see 17.3 above).
17.9 First announcement
The key announcement provided for in the Code is the Rule 2.5 announcement in relation to a firm intention to make an offer. That announcement must contain the terms of the offer, the identity of the offeror, all conditions including normal conditions relating to acceptances, a summary of procedures to be adopted for delisting of the target and squeeze out of minority shareholders upon the offer becoming or being declared wholly unconditional, details of any agreements or arrangements to which the offeror is party which may be relevant, details of any special arrangements with shareholders, and a confirmation from the offeror’s financial adviser that the offeror has sufficient funds to satisfy the consideration payable under the offer. The key practical effect of a Rule 2.5 announcement is that the offeror must proceed with its bid and post an offer document to target shareholders within 28 days.
If, however, an announcement is made of a possible offer but there is no subsequent Rule 2.5 announcement of a firm intention to made an offer, the Panel, at the behest of a target company, may require the offeror either to make an offer or to withdraw by a specified date (this is often referred to as a ‘put up or shut up’ order) so that the target company can get back to its principal business and its shareholders can have certainty as to whether a bid is forthcoming.
If a potential offeror publicly withdraws from a potential offer for a company by making a public statement that it has no intention to make on offer, it will not then be able to make an offer for a period of six months, subject to certain exceptions (Rule 2.8)
Pursuant to Rule 2, until the offeror has approached the target, it is under an obligation to make an announcement of its proposed offer in the event of a rumour of a bid or an untoward movement in the share price or the target. Once the approach has been made, the making of an announcement relating to the approach becomes the responsibility of the target.
17.10Announcement to posting
There is a maximum 28 day period permitted between the date of the Rule 2.5 announcement and the posting of offer document, although a much shorter period is usual. The offer document constitutes the making of the offer in law and starts the formal offer timetable described above.
17.11Contents
The offer document will typically contain a letter from the chairman of the offeror and, if the offer is recommended, from the offeree. It will also contain a letter from the offeror’s financial adviser setting out the terms of the offer in general, including price and other relevant information. The offer document will contain appendices with details which comply with the detailed requirements of the Code (largely set out in Rule 24 and, if the offer is recommended, Rule 25).
The offer document is required by Rule 24 to set out the offeror’s intentions regarding the target and its employees, financial and other information on the offeror, the offeree company and the offer (although the degree of financial information on the offeror is dependent on whether it is a UK company and whether the consideration for the offer is securities or cash). It is also required by Rule 24 to include, inter alia, details of the securities for which the offer is made, the consideration being offered, middle market quotations for the securities being offered, details of any special agreements or arrangements in relation to the conditions, a description as to how the offer was financed and a recommendation from the target, if recommended. It will also include shareholders and dealings of the offeror and offeree, together with a statement as to directors’ emoluments and special arrangements.
Following the implementation of the Takeovers Directive in the UK, it is now a criminal offence for an offeror and any of its directors, members, employees or agents to publish an offer document if they know that it does not comply with or are reckless as to whether it complies with certain of the Code Rules regarding the content of offer documents or if they have failed to take all reasonable steps to ensure that it does comply. A similar offence applies in relation to target company directors and officers.
17.12 Responsibility
All documents or advertisements sent to shareholders are required by Rule 19 to satisfy the highest standard of accuracy and care as if they were prospectuses. The directors of the offeror and target are each required to accept responsibility for the contents of their documents and for there to be included a statement to the effect that they accept responsibility for the information contained therein and that, to the best of their knowledge and belief (having taken all reasonable care to ensure that such is the case) the information contained in the document is in accordance with the facts and that it does not omit anything likely to affect the import of such information.
17.13 Despatch
It is normal to despatch the offer document to all registered shareholders. To the extent that the shares are held through brokers, nominees or advisers, the information is communicated by them to their clients.
17.14 Due diligence
Due diligence is a matter to be discussed between the offeror and the offeree. The offeree sometimes takes the view that, since any material information is required to be put into the public domain by the offeree pursuant to the FSA’s Listing Rules and DTRs or the AIM Rules, there is no material information that the offeree needs to make available. However, this is a matter for discussion and, frequently, due diligence information is provided by the offeree to the offeror, subject to appropriate confidentiality undertakings.
In relation to due diligence, Rule 20.2 requires a target to provide, if asked, the same information provided to one offeror or potential offeror to an other bona fide offeror or potential offeror, whether or not the second (potential) offer is less welcome.
17.15 Conditions
Although there are a number of conditions to an offer usually set out in the Rule 2.5 Announcement and repeated in the offer document, the Panel under Rule 13 will not allow an offeror any subjective conditions and, more importantly, will not let an offeror lapse its offer due to any failure to satisfy any conditions unless the circumstances are of material significance to the offeror. The only exception to this position is in respect of a failure to satisfy the acceptance condition or any applicable regulatory condition. It should be noted that, in the case of a mandatory Rule 9 offer, the only condition on which the offeror can seek to rely is the acceptance condition.
In addition, Rule 12 provides that it must be a term of any offer (whether mandatory or hostile) that the offer will lapse if it is referred to the UK Competition Commission for phase-two EC Merger Regulation proceedings.
17.16 Financing
As stated above, the Rule 2.5 announcement has to contain a cash confirmation statement from the financial advisers to the offeror to the effect that resources are available to the offeror sufficient to satisfy full acceptance of the offer. This typically leads to a cash confirmation exercise where the financial adviser ensures that there are no restrictions, conditions precedent, events of default or other matters that could prevent funds being available to the offeror to satisfy payment of the cash consideration in full.
17.17 Mixed consideration
It is possible to offer a variety of forms of consideration and typically consideration is either a cash consideration per share or a number of shares in the offeror, credited as fully paid. The consideration is sometimes a combination of shares and cash and in that case there can be a mix and match election so that, to the extent a certain number of shareholders prefer cash, others can have more shares.
17.18 Inducement fees
Inducement fees are regarded as permissible provided that the amount payable by the offeree company does not exceed one per cent of the offer value. They are, however, negotiated between the parties and require the prior approval of the Panel before being agreed.
17.19 Defences
Rule 21.1 of the Code prohibits certain types of ‘frustrating’ action by a target company during an offer period, or earlier if the target company has reason to believe an offer may be imminent, without obtaining approval by ordinary resolution of its shareholders in a general meeting. These include issuing securities, selling or acquiring assets or businesses and entering into contracts outside the ordinary course of business. Defence tactics are usually therefore limited to arguing on the true value of the company, finding a ‘white knight’ or structuring alternative proposals to be put to shareholders.
It is increasingly common in the UK for recommended offers to be effected by way of scheme of arrangement (‘Schemes’). Schemes are effected under the provisions of section 425 of the Companies Act 1985 with the shares of the target company being cancelled and then reissued to the offeror in return for consideration being transferred to the target’s shareholders. Technically, Schemes are an arrangement between the target company and its shareholders (who must vote in favour of the adoption of a Scheme in general meeting as to 75 per cent in value of votes cast and a majority in number of shareholders voting): this contrast with a conventional offer where the bidder posts its offer document to the target’s shareholders directly, each of whom can transfer their shares to the bidder whether or not their fellow shareholders do the same. It is therefore perceived that Schemes are more in the hands of the target which tends to detract from their appeal in certain (hostile) situations. Schemes also require court approval but this, in reality, will normally be a formality in the absence of a higher competing offer.
The main advantages of Schemes are that they are thought to give an offeror greater certainty of success on the basis that the required majorities for the necessary shareholder vote are lower than the 90 per cent required to effect a squeeze out of shareholders having declared an offer wholly unconditional. Although certain areas of a Scheme’s mechanics will be subject to the Companies Acts 1985 and 2006 and the rules of the UK courts, most of the Rules of the Code set out above will apply. The main differences are that Schemes have their own slightly shorter timetables (which is another potential advantage of Schemes over conventional offers) and that, typically, the offeror will not publish an offer document, rather the target company will issue a circular to shareholders which sets out the terms of the Scheme but which is otherwise very similar to an offer document.
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