The Takeovers Code has been in force for almost two years. The Code's second year has been both interesting and testing. The market's demands for approvals and exemptions, and enforcement activities have kept us busy. The Panel has endeavoured to act quickly and, despite the small size of our Panel, has made and published its decisions within tight time frames so as to inhibit the operation of the Takeovers market as little as possible.

The Code and its procedures have been tested in various ways during the year. We have identified some areas where minor technical amendments are needed to clarify some aspects of the Code and to improve some of its procedures and processes. This, of course, is not a surprise as with any new law some issues are bound to arise. We expect shortly to distribute for comment a range of suggested amendments. However, these are technical in nature and in no way affect the basic policy and procedures of the Code.

In this speech I will deal with various decisions and comment on various issues which I hope will give a broader understanding of the Code and the Panel's approach to the Code.

Exemptions

The power to grant exemptions is one of the most important powers granted to the Panel under the Takeovers Act. However I emphasise again that the exemption process is not a means of enabling takeover participants to circumvent the need to comply with the Code. This is apparent from the legislation itself which requires the Panel when granting an exemption to state why it is appropriate to grant the exemption and why the exemption is consistent with the objectives of the Code. Hence exemptions deal primarily with technical difficulties where it is difficult or impossible to comply strictly with the express requirements of the Code.

You will be aware of the class exemptions which were put in place before the Code came into force. These deal with buy-backs, allotments, lenders and receivers, proxies and corporate representatives, sharebrokers, underwriters, executors and trustees, nominee companies, bare trustees and intra-group transfers. Subsequently the Panel has also granted a class exemption relating to trustee companies. One further class exemption relates to the variation of full offers which are unconditional as to the level of acceptances. This exemption addresses some difficulties with the operation of the Code in this area.

A significant number of the specific exemptions granted by the Panel arise out of rules 7(c) and 7(d). These rules are exceptions to the fundamental rule. They permit acquisitions and allotments of voting securities which would otherwise breach the fundamental rule contained in rule 6 provided shareholder approval is obtained. As a side comment I mention that shareholder approval is not a general power to sanction deviations from the Code. In only a limited number of cases does the Code invoke shareholder approval and the most important are rules 7(c) and 7(d).

Difficulties arise with these two rules because the requirements of rules 15 to 19 of the Code, and in particular rule 16, cannot always be complied with in some of the more complex commercial transactions.

There are issues with options and convertible securities. The approach of rule 16 is to inform shareholders in the notice of meeting as to the change in voting power that will occur as a result of an acquisition or allotment of voting securities. The Code does not actually affect the issuing of options or convertible securities as they do not carry voting rights. However, when the options are exercised or the securities are converted voting rights are created which are subject to the restrictions contained in the fundamental rule.

Because of the nature of a transaction it may not be possible to specify in the notice of meeting the actual number of voting securities that will be allotted and the increased percentage of voting rights which will as a consequence be held by the shareholder. The Panel has addressed this difficulty by granting individual exemptions which vary the requirements of rule 16. This approach requires the notice to state the maximum number of voting securities in the Code company that could be issued and also the maximum percentage of voting rights which could be held by the shareholder concerned. The rationale is that if the shareholders approve the transaction on this basis, then they can be taken to have approved the position if in fact a smaller number of voting securities is issued and a smaller percentage of the total votes is acquired by that shareholder.

The Panel can impose conditions on exemptions to avoid an exemption being misused. In particular it imposes conditions which ensure that there is no change in the control of the shareholder that receives the approval to ultimately exercise the options or convertible securities.

Another common form of individual exemption under rule 7(d) deals with underwriting agreements. The class exemption for underwriters does not apply when the underwriter is a shareholder who may obtain a significant increase in voting rights if it is called upon to take up voting securities under the underwriting agreement. The Panel's approach is similar to that taken with options and convertible securities. Rule 16 is in effect modified to allow the notice of meeting to specify the maximum number of voting securities that could be issued to the underwriter and the maximum percentage of the voting rights in the Code company that could end up being controlled by that shareholder. Here again, the rationale is that if shareholders approve the transaction on this basis then they can be taken to be approving a lesser number of voting securities being taken up under the underwriting agreement. You will see on our website and in Code Word a number of exemptions of this type.

The Panel has also exercised its exemption power in relation to upstream reorganisations. For example, Guinness Peat Group plc is a company registered in the United Kingdom which was merging with a company called Brunel Holdings plc. As a result there was a change in the ultimate control of the voting securities held by GPG in Turners and Growers and Turners Auctions. The Panel formed the view that the offshore transaction would not result in a change in the effective control of the voting rights in the two New Zealand companies because the ultimate shareholding structure of the merged group would not be materially different from the structure and control of GPG prior to the merger. Accordingly we granted an exemption.

Similarly there was a change in the upstream control of Pacific Retail Group Limited and Eldercare New Zealand Limited resulting from a reorganisation of the affairs of Mr Eric Watson. The Panel formed the view that although the proposed reorganisation would result in an indirect change in the form of control of Pacific Retail and Eldercare, there would be no change in the effective control of the voting rights in those companies. Accordingly an exemption was granted.

It may interest you to know that a significant number of exemption applications have been declined. For example, some applications have sought exemption from rule 6 (the fundamental rule). These have been declined on the basis that the procedures contained in rules 7(c) and 7(d) can be utilised. The Panel resists "stepping into the shoes of shareholders" as commercial decisions are decisions for shareholders not the Panel.

An application for an exemption from the 90% compulsory purchase threshold was also declined. The exemption was sought on the basis that the applicant held only fractionally less than 90% of the Code company's voting rights. The Code's thresholds are clear and it is not the role of the Panel to modify those thresholds.

The Panel has also declined exemptions relating to the timing requirements of the Code. For example, we declined an application to modify the 14 day period within which the target company statement must be sent after the notice of the despatch of the offer. The timing requirements are to be observed so that all participants, including potential bidders, operate on a basis known and understood by all.

It is worth noting also that the Panel will resist granting blanket exemptions to deal with particular problems that may arise under the special provisions of a Code company's constitution. The Panel is always alive to the dangers of avoidance activities and prefers to deal with specific transactions where the effect on voting rights and the control of the Code company is absolutely clear.

Independent advisers

The role of independent advisers is fundamental to the Code's operation. An independent adviser's report is required with both full and partial takeover offers, for shareholder approvals to acquisitions or allotments under rules 7(c) and 7(d), and also for increases in voting control as a result of a buy-back under clause 4 of the generic class exemptions.

The Panel now asks to see the report at a draft stage to review whether the independent adviser is addressing the issues as contemplated by the Code. There is of course no intention to influence the independent adviser's assessment but it is another matter if issues upon which shareholders can expect guidance are not covered.

There has been some confusion between independent adviser reports under rules 21 and 22. Rule 21 is the key report. It is a report by an independent adviser on the merits of an offer. This is the report which accompanies the target company's statement. Rule 22 is an independent report of a much narrower nature. It applies only where different classes of equity securities are the subject of a takeover offer and an independent adviser, appointed by the bidder, certifies as to the fairness of the consideration as between the classes.

The Panel has issued a practice note requiring an explanatory note at the commencement of a report under rule 22 so that shareholders will not be misled into believing that the report is a report on the merits of the bid itself. This is one area where, notwithstanding the practice note, it may be desirable to change the procedures to prevent any risk of shareholders being confused by the two reports. In the meantime, target company directors should bear the risk in mind and ensure that their shareholders are not misled when a rule 22 report is required.

The Code's requirement for an independent adviser's report under rule 21 is a report on the "merits" of a takeover offer. It is not simply a valuation report. The Panel's practice notice emphasises the breadth of the word "merits".

Certainly with a full takeover offer the valuation will be the key component. However different considerations arise with partial offers.

With a partial offer shareholders will wish to know the reasons for a partial as opposed to a full offer. Furthermore they will wish to know how the level of control that the bidder is seeking will benefit the company and the shareholders who retain their shares.

If the bidder is seeking a percentage of the voting rights which does not exceed 50% then the Code requires the approval of the target company shareholders. This is a further aspect which needs to be addressed by the independent adviser. The requirement for shareholder approval is an important right and the Panel considers that there should be compelling reasons why approval should be given. What benefits will the bidder bring to the company to justify the approval of a percentage which may still amount to the passing of effective control of the Code company to the bidder?

Shareholder approval to acquisitions and allotments under rules 7(c) and 7(d) of the Code raises a different range of considerations for the independent adviser. Valuation may still be an issue but will not be the key issue. Here again the Panel is of the view that when shareholder approval is sought to a transaction which would otherwise not comply with the fundamental rule, approval should not be granted without good cause. The fact that the proposal may contain little, if any, negative aspects is not the key requirement. The Panel considers that shareholders should be made aware that there is no reason why the status quo should not continue unless there are good grounds to depart from it. In essence there is an onus of proof on the party seeking to increase its level of control to establish that there are real benefits to the company and the continuing shareholders.

Under clause 4 of the generic class exemption dealing with buybacks an independent adviser's report is required where a shareholder wishes to retain an increased shareholding as a result of the buyback which would otherwise be in breach of the Code. The independent adviser will consider the merits of the buyback itself, but the issue for the Code is the proposal to allow a shareholder to increase its level of control. Consequently the buyback may be eminently desirable but the issue is whether there are good reasons to allow the increase in control for which approval is sought .

Here again the Panel believes that the onus is on the applicant to establish that there are good grounds for the approval to be granted and that there will be benefits to the company and the remaining shareholders. One obvious issue that will arise is whether a buyback is a means by which a shareholder can obtain a greater level of control without paying a premium.

The Panel will be issuing a practice note dealing more fully with these issues .

Anti-avoidance

Last year the Panel issued a detailed explanation in Code Word on the anti-avoidance provisions of the Takeovers Code. I have from time to time highlighted the nature of the anti-avoidance provisions. I have emphasised the importance of the word "control" in relation to a voting right which means having "directly or indirectly, effective control of the voting right". The term "effective control" must be interpreted in a common sense fashion on the basis of the facts of each particular case.

The 20% threshold in the fundamental rule is calculated from the percentage controlled by a particular person, plus the percentage controlled by that person's associates. The term "associate" is also defined in the Code and is another component of the anti-avoidance network. The definition, and indeed the definitions generally in the Code, are not based on a black letter law approach. They deal more broadly with concept and principle which requires a common sense interpretation against the background of the purpose and intent of the Code.

An important part of the practice note relates to sub-clause 2 of rule 6 which contains a range of deeming provisions. One of the most important aspects of anti-avoidance is to prevent the Code being circumvented by clever structuring and utilising corporate vehicles. Consequently, rule 6(2) deals with a range of possible upstream transactions. A corporate shareholder may continue to hold and control voting shares in a Code company but changes in the ownership of that shareholder may, without the anti-avoidance provisions, enable a change in the control of those voting shares which would not be permitted if the transaction dealt directly with the Code company's voting shares.

When the Code was drafted it was recognised that, whilst the concept of "effective control" had a reasonably broad anti-avoidance effect, there were possible upstream transactions which needed additional anti-avoidance provisions. I intend to do no more than highlight the importance of this matter which is discussed in Code Word 7. It deals very fully with rule 6(2) and gives detailed examples of the way in which it operates.

Enforcement

The Panel has from time to time been involved with issues arising with takeover bids. For example, the bid for Otago Power Limited involved a number of meetings under section 32, which is the main enforcement section contained in the Takeovers Act.

Often sections 32 meetings depend on special circumstances or fact situations and accordingly I will deal only with one or two cases where there are points of principle which I wish to emphasise.

Firstly, the partial bid by GPG for Rubicon. In our determination (and all determinations can be accessed on our website) the Panel held that the Code did not permit partial bids in the alternative. A bid must be for a specified percentage and cannot accommodate alternatives or a range of percentages. The Code permits partial bids for more than 50% and it also permits bids for a lower percentage provided shareholder approval is obtained. The approval must be sought for a specified percentage and it is that percentage which will either be approved or rejected by shareholders. If approval is obtained then, of course, the second stage is whether in fact there are sufficient acceptances to reach that percentage.

Another matter that became before the Panel was the bid by Lowe Corporation for Blue Sky Meats. In this case a significant shareholder in Blue Sky Meats, Horizon Meats New Zealand Limited, also had a marketing contract with Blue Sky. As part of the takeover it was proposed that Horizon would receive a payment for the cancellation of that contract. The independent adviser in its report stated:

The effect of any over-compensation for terminating this contract could result in additional consideration being received by Horizon.

This statement was repeated in the target company statement. These statements left open the question as to whether Horizon may be receiving additional consideration for its shares not available to other offerees. This would be in breach of rule 20 of the Code which requires that an offer be made on the same terms and provide the same consideration for all securities.

Faced with these statements, the Panel had no alternative but to invoke the enforcement procedure under section 32 of the Takeovers Act and hold a meeting. The Panel determined that the consideration offered for the termination of the marketing contract did not contain additional consideration to Horizon for the purchase of its shares and consequently decided that there was no breach of rule 20. The Panel considers that this issue should have been dealt with by the target company and the independent adviser which would have avoided the need for a section 32 meeting and the time and costs involved with that meeting.

The last enforcement matter that I will refer to arose recently with the bid by PPCS for Richmond. In that case the offer was expressed as being conditional upon PPCS receiving acceptances in respect of at least 90% of the shares in Richmond. The offer also provided that this condition could be waived by PPCS. This condition and waiver right has been a feature of many takeovers. In this case it was challenged as being in breach of rule 25 of the Code which provides that it is not permissible to include a condition that depends on the judgement of the offeror or the fulfilment of which is in the power or under the control of the offeror.

The Panel was of the view that satisfaction of the condition depended upon the decision of third parties, namely the offerees, and consequently that the condition was not in breach of rule 25. The existence of a power of waiver, which is quite common in relation to conditions, does not affect the essential nature of the condition and is itself unobjectionable. The Panel did not accept the view that the condition and the power of waiver amounted to a power to vary the contract. This would have breached rule 27 which sets out the limited aspects of a bid which may be varied. The bid did, of course, still need to remain subject to the minimum acceptance condition contained in rule 23 of the Code which, with a full bid, requires that the bidder achieves control of more than 50% of the voting rights in the target company. This requirement was provided for in the PPCS offer.

Another aspect relating to this takeover was an allegation that the PPCS offer was misleading in its explanation of the effect of a High Court order on the offer. The Panel decided that the explanation was not misleading.

However, the Panel did emphasise the requirement in Schedule 1 of the Code that representatives of the offeror sign a certificate that to the best of their knowledge and belief and after making proper enquiry the information contained in the offer document is in all material respects true and correct and not misleading. Consequently if information contained in an offer document is misleading and the certificate is incorrect, then the offeror will be in breach of the Code. The same position applies with Schedule 2 of the Code which deals with the target company statement, and also requires a similar certificate.

The Panel has had some issues in takeovers as to the completeness and accuracy of the information provided under the schedules and I emphasise the importance of the certificates and the consequences of non-complying certificates.

Other issues

I have referred to some of the Panel's practice notes. Others have been issued, often dealing with more detailed issues arising with documentation. Two of these may be of particular interest.

The Panel was asked to clarify whether or not a condition that a takeover offer is subject to "approval of the shareholders of the offeror under section 129 of the Companies Act 1993" would comply with rule 25(1). This rule prohibits conditions, the fulfilment of which is effectively under the control of the offeror. The Panel pointed out that the intention of rule 25(1) is to promote certainty in takeover offers, and thus prevent an offeror from circumventing restrictions in the Code regarding the withdrawal of an offer. The Panel is of the view that the condition referred to could, in effect, allow an offeror to have an option over the shares of the target company, which would be inconsistent with the objectives of the Code. It is the Panel's view that any such condition would not comply with rule 25(1).

The same practice note refers to financing conditions, which are also subject to rule 25(1). In addition, however, clause 9 of Schedule 1 to the Code requires that a takeover offer must contain confirmation by the offeror that resources will be available to the offeror sufficient to meet the consideration to be provided on full acceptance of the offer. This requirement must be taken into account when considering the scope of a finance condition. In the Panel's view the important words are that "resources will be available to the offeror". Hence a finance condition would need to be very limited in its effect if the offeror is to be able to make the statement referred to in clause 9 and to certify as to its accuracy.

Practice notes are issued to assist the market and represent the view of the Panel when issued. However they are not legally binding on the Panel.

Securities Markets and Institutions Bill

This Bill has become law and amends the Takeover Act 1993. One constitutional change is that the Panel no longer has the power to formulate any amendments or changes to the Code. This power is now vested in the Minister. However, the Minister must consult with the Panel and the Panel retains the function of keeping under review the law relating to takeovers and recommending to the Minister any changes to the law that it considers necessary.

Another important change is that the Panel now has the power to accept undertakings which may be subsequently enforced by a court order.

The number of Panel members has be raised from eight to eleven which, given the heavy work load, is very welcome. Two new members have recently been appointed so that the Panel now comprises 10 members. There are a number of other changes of a legal or technical nature in the amending legislation.

International

The co-ordination of business law between Australia and New Zealand is very much a part of Government policy. Last year the Minister of Commerce appointed an Australian member to the Panel, Denis Byrne, who is a very experienced commercial lawyer and a member of the Australian Takeovers Panel. In turn I have been appointed a member of the Australian Panel.

These appointments are very useful in ensuring that the panels are both well-informed about each other's activities and the issues that are arising with takeovers. The Australian Panel is to be commended for hosting the first international takeovers conference. This took place in Melbourne in October last year and was attended by representatives of 18 countries. We expect this initiative to be continued. It is of great benefit to see how the different jurisdictions deal with the various issues that arise in the takeovers market.

Conclusion

In conclusion, we are seeking to promote some technical changes to the Code but to date have no reason to review the basic policies and procedures of the Code. The feedback from the marketplace seems to indicate general satisfaction with the Code. Takeovers are now taking place in an orderly fashion with investors being kept well informed.

Again I encourage you to visit the Panel's website and ensure that you receive Code Word, which will keep you up-to-date with the Panel's activities.