How the Code applies to lock-up agreements – continued from page 1

This objective is always satisfied in the case of a pre-bid lock-up agreement because other shareholders must be offered the same price as that provided for in the lock-up agreement.

The only issue which needs to be addressed is whether the potential for pre-bid contracts to limit the development of an auction between competing bidders is desirable.

There are good reasons for the Code’s approach in allowing prebid agreements. This is the subject of considerable discussion in Australia as it considers whether it should move from its present takeovers code to a mandatory bid code, more in line with the City of London code.

The Australian code focuses much more directly on the auction principle. In broad terms, pre-bid agreements are not permitted as they may inhibit the auction between competing bidders. However, this does have important consequences in the operation of the takeovers market.

An example of the flexibility that exists under the New Zealand Code was the sale by the controlling shareholder of its stake in United Networks to Vector. In effect, the seller and the company in conjunction with their financial advisers undertook a competitive process to achieve the best price for the controlling shareholder. This was possible because under the New Zealand Code the preferred bidder had the certainty through a pre-bid agreement with the seller that when the formal bid was ultimately made to all shareholders the controlling shareholder would sell into that bid. Equal treatment was achieved in that all shareholders received that same price. It is argued by many in the commercial world that the ability to undertake a commercial auction in this manner is efficient and also achieves the best outcome.

It is the inability under the Australian code to undertake the same process that has led to pressure to adopt the mandatory bid system. Under this system there would be no constraints whatsoever in undertaking the commercial auction to find the highest bidder for the controlling shareholder’s stake in the target company. In fact, a pre-bid agreement is not necessary as there is no restriction on a sale contract being entered into and completed. All that is necessary is for the bidder to subsequently make an offer to all remaining shareholders on the same terms and conditions. This is why the mandatory bid system is often referred to as being based on an exit principle whereby shareholders must be given the opportunity to exit the company, once the threshold has been passed, on terms no less favourable than those enjoyed by the initial sellers.

It can be seen from the above that strict adherence to the auction principle can inhibit commercial transactions which many would regard as efficient business practice. The approach to the New Zealand Code was to try to restrict as far as possible regulation inhibiting normal commercial activity except where

this was necessary to ensure that the fundamental policy objectives of the Code were fulfilled. The United Networks takeover is a good example of the flexibility of the New Zealand Code and the balance achieved between its various objectives.

INTRA-BID LOCK-UPS

The issue has also arisen recently as to whether during a bid a lock-up agreement can be entered into whereby a shareholder agrees that it will accept the offer as soon as the price has been increased to an agreed figure. Such an agreement is permitted by the Code subject to similar constraints that apply to pre-bid agreements. Just as the original bid must first be made before it can be accepted, so with a variation the variation must first take place in accordance with the provisions of the Code before the offer as varied can be accepted. Rule 20 requiring equal treatment ensures that all shareholders will receive the same price. It is not possible for the “pre-variation” agreement to actually effect a variation as this will result in the bid being varied in a manner which does not comply with the Code. This was the issue that arose in the Otago Power case. The only exception is where the purchase complies with the requirements of rule 36 which is most likely to arise when an offer has become unconditional. Rule 37 then deals with the variation of the offer that flows from any such acquisition at a price in excess of the price contained in the offer.

The important point with lock-up agreements is that the terms must be constrained to ensure that they do not breach the fundamental rule contained in rule 6(1) or rule 20 requiring equal treatment of all shareholders.

Policy issues

EXEMPTIONS FOR SCHEMES OF ARRANGEMENT

Last year the Panel formulated a policy on exemptions for schemes of arrangement effected under the Companies Act 1993. The policy explains the circumstances in which applications for exemption for these schemes are likely to be declined and circumstances where the Panel may grant an exemption.

Applications for exemption likely to be declined

If an exemption application relates to a scheme of arrangement that is for all intents and purposes a takeover, particularly if it involves expulsion of minorities, the Panel will treat the transaction as a takeover when it considers the application. The Panel is likely to decline such an application so that target company shareholders are not denied the benefit of the full protections of the Code.

Circumstances where exemption may be approved

An exemption to facilitate the use of a scheme of arrangement may be appropriate where there are clear and compelling reasons why the proposed transaction should not be structured as a takeover, or completed using one of the mechanisms permitted under the Code.