Corporate Law Update
- The High Court confirms that a scheme to insert a new holding company was not prohibited by tax avoidance legislation
- The Court of Appeal finds that a requirement to pay a buy-out price was not triggered until the price had been determined
- The High Court approves a merger of two UK companies into a European company as part of Brexit planning, even though the wider scheme might never come into effect
- The FCA updates its technical advice on whether periodic financial information constitutes “inside information”
- Other items of interest
The High Court has sanctioned a scheme of arrangement that involved the cancellation of only one of two classes of share. It said the scheme fell within the exception to the ban on cancellation schemes.
Re Steris plc concerned the holding company for a healthcare group. Steris was, until 28 March 2019, listed on the New York Stock Exchange (NYSE).
Steris wanted to re-domicile from the UK to Ireland due to uncertainty arising from Brexit. To achieve this, it proposed a scheme of arrangement with its shareholders. Under the scheme:
- Steris’ share capital would be reduced and all of its ordinary shares cancelled.
- It would then issue new ordinary shares of the same value to a new Irish holding company.
- The new holding company would issue new shares to Steris’ former shareholders, and those shares would be listed on the NYSE.
In essence, the shareholders would be “swapping” their shares in Steris for shares in the new holding company, with Steris becoming a subsidiary of that holding company. This arrangement is known as a “cancellation scheme” and is commonly used to re-domicile from one jurisdiction to another.
Cancellation schemes were once a popular structure for public company takeovers, as, unlike other structures, they did not involve a transfer of shares, and so a bidder did not need to pay stamp duty.
In 2015 the law was changed to prevent cancellation schemes being used to avoid paying stamp duty. However, it is still possible to use a cancellation scheme to insert a new holding company, provided certain conditions are met. In particular:
- “all or substantially all” of the company’s shareholders must become shareholders in the new holding company; and
- they must hold their new shares “in the same or substantially the same proportions” as they held their original “equity share capital”.
As noted above, Steris’ ordinary shareholders would all become shareholders of the holding company. Their shares in Steris would be “flipped up” to the new holding company.
However, Steris also had a single preference shareholder. The preference shares would not be included in the scheme. Instead, Steris would redeem them after the scheme took effect, and the preference shareholder would not become a shareholder in the new holding company.
It was not clear, therefore, whether “all or substantially all” of Steris’ shareholders would be receiving shares in the new holding company, nor whether they would receive them in the right proportions.
What did the court say?
The court said the scheme fell within the exception. It gave three reasons:
- Steris’ preference shares were held by a single person. That person represented a “very small proportion” of Steris’ shareholders (initially just over 1% and, by the time of the court hearing, even less). It was therefore clear that Steris’ ordinary shareholders represented “all or substantially all” of its shareholders.
- The preference shares were not “equity share capital”, so the court could ignore them when deciding whether the shareholders would hold their new shares in the same proportions.
- Finally, the arrangement did not “infringe any mischief”. In other words, Steris was not attempting simply to avoid paying stamp duty.
What does this mean for me?
This is another helpful decision for companies looking to re-domicile or to insert a new holding company for other reasons.
Ultimately, the purpose of the ban on cancellation schemes is to prevent bidders from avoiding stamp duty. But where a new holding company is being inserted, there would usually be no stamp duty to pay, and so the ban serves no purpose. The court recognised this and was comfortable that the scheme was not being used to avoid tax.
The judgment follows the High Court’s decision back in September in relation to a similar scheme proposed by Unilever, where the court was satisfied that the scheme was permissible and not being used to avoid tax. See here for more information on that scheme.
Perhaps more importantly, the decision shows that the courts will not fixate rigidly on the “mirror” conditions that are required in order to fall outside the ban. Companies should be able to use the exception even if they have multiple classes of share that are not all being “flipped”.
A note of caution, though. In this case, the preference shareholder represented one out of almost a hundred shareholders, and the preference shares were clearly not equity share capital. The situation may be different where the shareholders who are not participating in the arrangement hold a greater proportion of the shares, or where there are equity shares that are not being included in the scheme.
The Court of Appeal has said that an obligation in a partnership agreement to buy an outgoing partner’s share could not arise until the buy-out price had been determined. The decision is relevant to any contract that includes a price determination or valuation mechanism.
Liddle v Liddle concerned a family-owned agricultural partnership. The partnership agreement stated that, if a partner were to retire or die, the continuing partners would effectively buy out the outgoing partner’s share in the partnership.
The mechanism was structured as a “put and call option”, which could be triggered either by the continuing partners or by the outgoing partner (or his/her personal representatives). The price was to be determined by the partnership’s accountants.
The mechanism required an initial up-front payment, followed by the balance in 40 instalments. The first balancing instalment was to be paid (broadly) four months after the outgoing partner left. However, if left unpaid for 21 days, the entire balance would become repayable immediately.
Between 2011 and 2013, two partners retired and one partner died. However, the partnership’s accountants did not provide a purchase price until June 2017 – well after the first date for payment in the partnership agreement – and the continuing partners did not accept that valuation until July 2017. This gave rise to two questions:
- Did the continuing partners really have to start paying the buy-out price four months after the outgoing partners left, even though the price had not yet been determined by the accountants? Read literally, this is what the partnership agreement seemed to require.
- If not, when should the payments have begun? Was it when the accountants determined the price, or when the continuing partners accepted that price?
What did the court say?
The court said the partnership agreement could not possibly require continuing partners to pay an unknown sum. Until the purchase price had been determined, there was “no price at all”, and there was nothing in the agreement to suggest that the partners had to engage in “guesswork”.
Instead, the court said the parties must have intended the price to become payable at the end of the four-month period or when the price was determined, whichever was later.
In this case, the court said the price had been determined when the accountants produced their figure, and not when the continuing partners accepted it. The accountants had produced the “correct” figure for the price in June 2017, and the continuing partners had merely confirmed this. It would be strange if a partner could “hold up” payment simply by “failing to agree … obviously correct … accounts”.
What does this mean for me?
Although this decision revolves around a rather select set of facts, the way the court interpreted the valuation and payment mechanism will be useful in other contexts.
Buy-out mechanisms are common features in joint ventures, shareholder and investment agreements, franchise arrangements and other commercial contracts. More broadly, price determination mechanisms often feature in other situations (for example, when determining the price payable under an option or warrant, or when adjusting the price in a business or property sale agreement).
The result in this case is clearly sensible. It would be odd to require a party to start making payments when it cannot know how much it is required to pay. However, the decision does highlight some important things to consider when drafting a payment and valuation clause:
- Make sure it is clear in your contract when payment is to begin. In particular, ensure that any valuation or price determination mechanism dovetails properly with payment obligations.
- Ideally, include parameters and timescale for the price-determination exercise. If the price is being set by a third party, it may not be possible to force them to work within these limitations, but this should at least establish the parties’ expectations of how the process will pan out.
- Consider whether the contract should include a mechanism for the parties to dispute the price. For example, it is relatively common to give one or more parties the right to challenge a valuation within a certain time period, failing which they will be deemed to have agreed it.
- If the contract is to include a dispute mechanism, set out how it will operate. Will the price be decided by an independent expert? Will it be final and binding on the parties?
The High Court has approved a proposal under which two UK companies would merge and become a European company, which would subsequently relocate to Malta.
Re Monarch Assurance plc concerned a company which provided insurance contracts from the UK into other European Union (EU) states under the EU’s freedom of services framework. This might no longer be possible if the UK were to leave the EU. The company therefore wanted to re-locate to Malta in order to continue its business.
To do this, a brand new UK company was incorporated purely for the purpose of the merger. The new company would merge with the existing company to form a new, UK-registered European company (or SE) under the European companies regime. That SE would then migrate to Malta. (Unlike domestic companies, SEs can migrate freely from one EU state to another simply by re-registering there.)
This gave rise to two questions:
- Given that the new company had been established purely to take advantage of the European companies regime, was there a genuine merger, or was it artificial?
- At the time, the UK was due to leave the EU imminently (on 29 March 2019). Even if the court sanctioned the merger, there was no time for the resulting SE to migrate to Malta before the UK’s departure. Once the UK left, the SE would convert automatically into a “UK Societas” and would not be able to migrate. Was there any point, therefore, in the court scrutinising the merger?
What did the court say?
The court approved the merger.
The judge was not put off by the element of artificiality. He referred to the recent case of Re Easynet Global Services Ltd, in which the Court of Appeal allowed a merger under the EU cross-border mergers regime even though one of the merging companies had been included solely to introduce a cross-border element. Using the same reasoning, the judge said that refusing the merger on the basis of artificiality would contravene the fundamental EU principle of freedom of establishment.
He also said that, even though there was insufficient time to relocate to Malta, it was still worth scrutinising the merger. If the migration to Malta could not take place, under prospective Brexit-related legislation, the resulting SE could still choose to convert to a UK public limited company or continue life as a UK Societas. Even though the court’s order might ultimately be “hollow” and the consequence of it “short-lived”, it was right to scrutinise and approve the merger.
In the end, the UK’s leaving date was postponed to 12 April 2019 and has now been further postponed until 31 October 2019 (although the UK may leave the EU earlier if it can agree a suitable withdrawal arrangement with the EU). So, there may well be time for the new SE to migrate to Malta.
What does this mean for me?
Cross-border mergers and mergers into European companies have recently become a popular mechanism for businesses looking to migrate into the EU in the run-up to Brexit.
This decision shows that, although there continues to be uncertainty over exactly when the UK will leave the EU, the courts should be willing to continue to consider merger applications right up until the wire. In this case, given the postponement of the UK’s leaving date, it may be that it was worth pursuing the application.
The situation may be different come October. The remaining EU member states (the so-called “EU27”) have signalled stronger opposition to postponing the UK’s leaving date any further than October. So, now really may be the last chance for companies looking to use one of these mechanisms to migrate business from the UK into the EU.
The Financial Conduct Authority (FCA) has updated its technical note (FCA/TN/506.2) on when and whether periodic financial information constitutes “inside information” that needs to be disclosed under the EU Market Abuse Regulation (MAR).
The updated note reflects the changes to the note proposed by the FCA in July 2018. Specifically:
- Issuers should begin by assuming that information relating to financial results could constitute “inside information”. But they should not take a “blanket approach” and assume that information in periodic financial reports will either always or never constitute inside information.
- An issuer in the process of preparing a periodic financial report may be able to delay disclosure if immediate disclosure would impact on the orderly production of the report and could result in the public incorrectly assessing that information. On this basis, an issuer should be able to delay disclosure until its periodic financials are ready. However, it will still need a “legitimate interest” to be able to delay disclosure.
- As a reminder, issuers cannot delay disclosure if doing so would be likely to mislead the public.
The updated note will continue to be relevant if the UK leaves the EU without a transitional arrangement (a “no-deal Brexit”), as in those circumstances MAR will continue to form part of UK domestic law.
- Audit. The Government has published a call for views on behalf of the independent review into the quality and effectiveness of audit, led by Sir Donald Brydon. The purpose of the review is to examine how the existing statutory framework in the UK can be improved to serve the wider public interest. Responses should be sent by 7 June 2019.
- Governance and stewardship. PIRC has published the 2019 issue of its UK Shareowner Voting Guidelines. The Guidelines set out PIRC’s views on issues such as board structure, remuneration policy and management of social and environmental issues. They give an indication of how PIRC is likely to recommend shareowners vote on particular issues. A copy of the Guidelines is available from PIRC for a fee of £350.