Guidance Note about the Role of Independent Advisers
for the purposes of the Takeovers Code
Third Edition
August 2007
REPORTS REQUIRED IN RELATION TO TAKEOVER OFFERS
19.
The Code requires independent advisers' reports to be prepared at the request of the target company for the offerees in all takeover offers made under the Code. In every case a report requested by the independent directors of the target company under rule 21 of the Code is required to accompany the target company statement. In some cases, where full or partial offers have been made and there is more than one class of equity security (full offers) or more than one class of voting security (partial offers) an additional report under rule 22 of the Code is required (obtained at the request of the offeror) to certify the fairness and reasonableness of the consideration being offered as between different classes of equity security.
20.
We make some observations about the requirements of these various reports in the next section of this paper. In all cases we recommend that the adviser ensures it has a thorough knowledge of how the relevant rules of the Code work.
Rule 22 Report - on the fairness between classes of a takeover offer
21.
Under rule 22 of the Code:
(1)
An offeror must obtain -
(a)
a report from an independent adviser if rule 8(3) or 8 (4) and 9(5) applies;
(b)
a report or an amended report from an independent adviser if rule 44(3) applies;.
(2)
In the report, the independent adviser must certify that, in the adviser's opinion, the offer complies with rule 8(3) or 8(4) or 9(3) as the case may be;.
(3)
If an independent adviser's report is obtained, the offer is deemed to comply with rule 8(3) or 8(4) or 9(5) as the case may be.
22.
Rule 8 of the Code states that where a person is making a full offer for all the voting securities of a company it must also make an offer for all the other classes of equity securities of the company. That offer must be "fair and reasonable" as between the various classes of equity securities
5. In order to ensure that the offer satisfies this requirement an independent adviser is required to certify that this is the case. Once the adviser has given this certificate then the offer is deemed to comply with the relevant rule. (Under rule 9 of the Code, dealing with partial offers, if there is more than one class of voting securities similar provisions apply.)
23.
A series of technical amendments made to the Code with effect from 1 July 2007 allows for a bidder to revise the terms of its offer (without the prior approval of the target company's directors) to include classes of securities of which it was unaware at the time it sent a takeover notice. In order to be able to rely on the procedure under the Code for this, a rule 22 report or amended rule 22 report (relating to the added classes of securities) has to accompany notification by the bidder to the target company, under rule 44(3), of the offer or offers for the added class(es) of securities.
24.
A rule 22 report is probably the narrowest of all in scope. It is not a report on the merits of the offer, but only on the relativity between the offers being made for each class of equity securities. It is likely to be quite technical in nature, starting with the consideration being offered for the target company's primary securities, and then assessing the relationship between that price and the value of the consideration being offered for other classes of equity security.
25.
Issues that might arise in the report could include the conversion price that has to be paid to exercise any options or convertible notes in order for them to be converted into voting securities, and the period the options or conversion rights have to run.
26.
Even if options are apparently worthless, because their exercise price exceeds current market value, the offeror under a full offer must still offer to purchase such securities. An assessment of the fairness of the price offered might include an assessment of the likelihood of the options having positive value in the future.
Rule 21 report - on the merits of a takeover offer
27.
Rule 21 of the Code states:
The directors of a target company must obtain a report from an independent adviser on the merits of an offer
Full offers
28.
At its simplest an independent adviser's report on a full takeover offer may be a valuation exercise comparing the consideration being offered by the offeror or bidder against various measures of the value of the target company. Questions the adviser could address, among others, include:
(a)
If a cash offer, is it worth more to the target company shareholder to stay in the company or to realise his or her investment for the price offered?
(b)
If the offer is a scrip offer, what is the value and the prospects of the company whose shares are being offered, against the value and the prospects of the target company?
(c)
Is it appropriate to include a premium for control? Does the offeror already have control of the target company?
29.
One practice followed by most advisers since the Code came into force has been to make a comparison between the consideration being offered under a takeover and the valuation of the target company as the adviser assesses it. If the consideration offered exceeded the valuation then the offer was described as "fair". If the consideration offered was less than the valuation then the offer was described as "unfair" or "not fair".
30.
The Panel recommends that advisers do not describe offers as "fair" or "unfair". A comparison of the offer price with the adviser's valuation should probably be made, but this is only one of a number of issues that the adviser may usefully discuss in its report on the merits of the offer.
31.
One exception to this recommendation is where the primary purpose of the report is to provide guidance to shareholders who are certain to, or at least very likely to, have their shares taken under compulsory acquisition as the result of an offer. In such cases it may be appropriate for the adviser to express a view on the "fairness" of the offer price.
32.
In preparing its report, particularly one involving a valuation, it is likely that an important issue for the adviser in making its valuation would be the reliance it should place on any forecast financial information available from the target company. This in turn could have a significant bearing on the quality of its final report. Issues that the adviser may need to consider could include, among others:
(a)
The extent to which the adviser should rely on forecasts of future financial performance prepared by the target company;
(b)
Whether the adviser should carry out its own "reasonableness tests" of prospective financial information provided by the target company before using that information in its report and any valuation it undertakes;
(c)
Whether the adviser should prepare its own financial forecasts for the target company based on its own analysis, but using source data from the target company;
(d)
The time period over which any forecast financial information does or should extend.
33.
It is also important that the adviser have regard to any applicable professional standards. The Panel draws advisers' attention to Advisory Engagement Standard No 2 Independent Business Valuation Engagements ("AES-2") issued by the Institute of Chartered Accountants of New Zealand in 2001, and effective for all valuation engagements undertaken by members of the Institute from 1 April 2002. However, advisers should always be mindful that reports under the Code are not simply valuations, but are reports on the merits of an offer.
34.
If there is any collateral transaction with one or more, but not all, shareholders of the target company in conjunction with the offer this is likely to raise the issue of the offer's compliance with rule 20 of the Code. Rule 20 states that an offer must be on the same terms and provide the same consideration for all securities belonging to the same class of equity securities under offer.
35.
The Panel expects independent advisers, as part of their assessment of the merits of any particular offer, to satisfy themselves, and comment accordingly in their reports, on the reasonableness of the terms and conditions of any collateral transaction. If the adviser cannot be satisfied on the reasonableness of any collateral transaction this will raise the issue for the Panel that the offer may not comply with the Code.
36.
The adviser may need to consider the position of the offerees if they opt not to accept the offer. These comments could cover, among others, matters such as:
(a)
Whether, if the offer is conditional on the offer reaching 90%, this condition can be waived at the discretion of the bidder;
(b)
The prospects of the consideration under the offer being increased if acceptances are coming in at a low level;
(c)
The position of minority shareholders if the offer falls short of 90% acceptance, and/or the offeror waives any 90% condition that may have been part of the offer. For example:
(i)
Could they be left as part of a small minority of shareholders, with an illiquid stock?
(ii)
How may the remaining minority shareholders be affected by the offeror's plans for the target company once it has control, but they remain minority shareholders? Might these plans add value to the company in the near or longer term?
(iii)
How does the offeror propose to deal with conflicts of interest if it is an existing competitor of the target company and that company remains with minority shareholders?
37.
The adviser may need to comment on the options available to the bidder under the Code if it reaches, or does not reach, the compulsory acquisition threshold. These comments could cover such matters, among others, as:
(a)
The ability of the offeror to subsequently acquire sufficient shares through "creeping" under rule 7(e) to reach that threshold. If so, the adviser could note that "creeping" is generally not possible for approximately twelve months from the conclusion of the offer period;
(b)
The rights of, and consequences for, the shareholder (as an outstanding security holder) under such a compulsory acquisition, having regard to Part 7 of the Code.
38.
The situation of competing bids may also need to be addressed. The adviser's comments could cover such matters, among others, as:
(a)
The likelihood of competing bids emerging if there are no known competing bidders;
(b)
A comparison of competing bids with the offer that is the subject of the report. What is the likelihood of one bid or the other being increased?
(c)
Public statements that may have been made by the parties as to their intentions. (In this regard advisers should bear in mind the provisions of rule 64 of the Code relating to the prohibition on misleading or deceptive conduct in takeovers, once those provisions come into force.)
(d)
The effects of the timing rules of the Code on the competition for control of the Code company. When should an offeree accept one offer or the other?
Footnotes:
The offer must be fair and reasonable as between classes of voting securities, and as between voting and non-voting securities, where applicable.
