The COVID-19 pandemic has created cashflow issues for many UK listed companies, despite helpful measures such as the furlough scheme and, in some cases, forbearance from banks. Companies have naturally turned to the equity markets and their shareholders for support. The Pre-Emption Group, representing institutional investors, acted quicly to support companies needing to raise new equity quickly by revising its guidelines in relation to shareholder pre-emption rights. The success of this action raises the question of whether the temporary guidance should now become permanent to provide companies greater funding flexibility or whether investors wish to return to the pre-COVID-19 guidance.
On 1 April 2020, the Financial Reporting Council published a statement on behalf of the Pre-Emption Group (PEG) setting out its expectations for issuances during the economic turbulence caused by COVID-19 pandemic. The statement gave temporary support to companies looking to raise up to 20% of their issued share capital (ISC). UK listed companies have raised GBP 23.7 bn of new equity so far in 2020, with at least 125 issuances constituting emergency fund-raising. On 4 September 2020, the PEG extended its support from the original end date of 30 September to 30 November.
Issuances in the pandemic
The current (non-COVID-19) PEG Statement of Principles on Disapplying Pre-Emption Rights provides that a company can issue up to 5% of its issued share capital for cash for general corporate purposes with up to an additional 5% for specified acquisitions or investments, in each case on a non-pre-emptive basis. In order to help issuers raise equity capital in these difficult circumstances, the PEG recommended that investors, on a case-by-case basis and temporarily until 30 September 2020 (now extended to 30 November), consider supporting issuances of up to 20% of an issuer’s ISC.
The PEG stated that, an issuer wishing to make use of this temporary additional freedom should:
- fully explain its particular circumstances, including how the issuer is supporting its stakeholders;
- undertake the issue on a ‘soft pre-emptive’ basis, favouring existing shareholders in terms of participation as far as possible;
- ensure that its management team participate in the allocation process;
- properly consult a representative sample of the issuer’s major shareholders;
- where the issuance is up to 20% of its ISC, disclose in its next annual report information about the consultation undertaken prior to the issuance and the efforts made to respect pre-emption rights, given the time available; and
- not adjust existing share awards to negate the dilutive effect of the extended issuance.
The PEG noted that the directors of the issuer will be held accountable for their decisions at the AGM following its use. It plans a wider review of how the additional flexibility has been used by issuers following the end of this temporary period.
The PEG reminded issuers that the March 2015 Statement of Principles permits companies to request a specific disapplication of pre-emptive rights outside of the normal 5+5% limits, and this process should continue to be respected.
The Statement of Principles is intended to guide listed companies in seeking the disapplication of pre-emption rights at their AGM, with the result that the maximum headroom any listed company had available to raise new capital on a non-pre-emptive basis at the beginning of the COVID-19 crisis, other than for acquisition purposes, was 5% of ISC. Companies needing to raise more(as most would in the circumstances) would either need to seek shareholder approval or use a cashbox structure.
The urgent need for some companies to raise cash in the pandemic made cashbox placings particularly attractive as they can be completed within a couple of weeks (using an accelerated bookbuild). Given the need for speed and the lack of existing shareholder authorities, a large proportion of placings undertaken by UK listed companies since March 2020 employed the cashbox structure.
A cashbox structure involves the issue of new shares in return for the issue of preference shares in (usually) a Jersey subsidiary. Such shares are then almost immediately cancelled or redeemed, with the proceeds remitted to the listed company. The rationale is that the newly issued shares of the listed company be treated as issued not for cash, but in consideration of the issue of the subsidiary’s preference shares, so that statutory pre-emption rights should not apply.
In March 2015, the PEG addressed this market practice in its updated Statement of Principles. It recommended that investors should treat cashbox placing structures as being subject to the same 5+5% limits, even though for statutory purposes pre-emption rights do not apply.
Greater funding flexibility
With the summer pause in issuance over and the pandemic continuing, the PEG opted to extend the period in which issuers are afforded greater flexibility to raise equity to 30 November.
The number of issuers that have come to market and have been supported by investors does, however, raise the question of whether the PEG should consider a more flexible approach generally in future allowing companies to seek authority at their AGM to issue up to 20% of their ISC annually without pre-emption rights or simply revert to the 5+5% limit. An argument can be made that there is little to be gained from further extending the relaxation given all companies that could justify taking advantage of it to raise capital must already have done so, as they must have been aware of the deadlines.
A more revolutionary change to change the limits in the PEG’s Statement of Principles to 10% for general capital raisings, with a further 10% to fund acquisitions – would bring welcome funding flexibility to UK listed companies. Alternatively if If the PEG found that investors remained reluctant to allow companies to raise in excess of 5% of ISC without an acquisition to fund, the limits could be 5% plus an additional amount of up to 15%.
Shareholder consultation and approvals
Companies have long consulted shareholders over potential capital raisings and soft pre-emption is now normal practice. Companies and management can expect to be held to account by investors at their AGM, with shareholder advisory services likely to be vocal in criticism of companies seen to have misused the new freedom.
Larger fundraisings will generally still require shareholder approval. A rescue equity raise is likely to need at least an enlarged authority to allot new shares. A fundraising for a significant acquisition will usually trip one of the Class 1 shareholder approval thresholds in the Listing Rules or constitute a reverse takeover.
The emergence of specialist brokers allowing retail access to placings by listed companies effectively meets the concern that placings excluded retail investors.
Rights issues and open offers
Rights issues and open offers require a prospectus. At the 20% level, with parallel retail broker offers, it is difficult to see much if any advantage to the open offer. A rights issue brings uncertainty, expense and a lengthy timetable. UK listed companies looking to bid in M&A processes with equity funding can find themselves at a disadvantage if relying on a rights issue, unless they resort to standby (or volume) underwriting, which adds further to the cost and can look like a gun to shareholders’ heads.
End of the need for the cashbox structure
Finally, allowing listed companies to seek annual approval to raise up to 20% of their ISC would remove the need for companies to rely on the legal trick of the cashbox structure to get around the terms of the Companies Act, but instead raise money with the benefit of shareholder approval. The PEG acted expeditiously to help companies to raise money quickly during the pandemic, but to go back to its previous Statement of Principles after 30 November might encourage more companies, if they have strong shareholder support, to raise in excess of 10% of their ISC using the cashbox structure.
- UK listed companies have raised GBP 23.7 bn of new equity so far in 2020, much of it emergency fund-raising.
- Guidelines on pre-emption rights were relaxed and investors were asked to, temporarily and on a case-by-case basis, consider supporting issuances of up to 20% of an issuer’s issued share capital.
- The need for speed and the lack of existing shareholder authorities meant a large proportion of placings employed a cashbox structure.
- Instead of further extending the relaxation, the PEG should consider adopting a generally more flexible approach in future – giving UK listed companies greater funding flexibility, particularly in the context of M&A processes, and removing reliance on the legal trick of the cashbox structure.
The information held in this PDF / on this webpage is for general purposes and guidance only and does not purport to constitute legal or professional advice.