Australia: Saving Acceptance Facilities For Everyone

The later stages of Toll's bid for Patrick saw a Takeovers Panel challenge to Toll's institutional acceptance facility.

If successful, this could have hindered not only Toll's bid, but many other large M&A transactions in Australia.

That's because of the way that institutional investors and hedge funds increasingly determine M&A outcomes.

Institutions differ from retail investors because they are often subject to mandate restrictions (such as a requirement to maintain a percentage of invested funds in listed securities).

Mandates can create problems when a listed company becomes a takeover target. If the bidder get to over 90%, the target will usually end up delisted. However, it's always possible that the bidder only acquires between 50% and 90% - or fails altogether.

Funds with an index-weighting mandate want the premium from a bid, but don't want to sell out too early in case the bid falls short of 90% and the target remains listed. Institutions are also generally reluctant to accept conditional bids, given the very limited withdrawal rights under the Corporations Act and their desire to retain control over their shares until it's clear that a higher bid will not emerge, and that the conditions will be satisfied or waived so they will get paid.

Over the last five years, this has contributed to the phenomenon of stalled bids. Funds may want to accept the bid, but don’t want to sell into a conditional bid or out of a company that could remain listed.

One solution might be for all the institutional investors to agree to accept the bid at the same time. But any discussion or agreement to that effect is effectively outlawed by the Corporations Act. The result is a stand-off.

For their part, hedge funds will go wherever they can extract the maximum arbitrage. They want to have an optimal stake in the takeover, flexibility to switch horses and certainty that they'll be in the right place when the music stops.

When Mayne bid for Faulding in 2001 Mayne's advisers (including Clayton Utz) addressed this problem with a novel device called an institutional acceptance facility ("IAF").

An IAF is essentially a neutral "holding area" which allows funds to demonstrate their willingness to tip into a bid. Institutions and hedge funds effectively tell the IAF operator (the "collection agent") that they are willing to accept into the bid, provided particular conditions are met (typically, the bidder's receiving enough acceptances and IAF lodgements to guarantee its success). The collection agent is empowered to tip the institutions' acceptances into the bid once those conditions have been met.

Since the Faulding bid, the list of IAFs has been a virtual rollcall of major takeover bids in Australia - BHP Billiton/WMC, San Miguel/National Foods, Fosters/Southcorp and Woolworths (Bruandwo)/ALH, to name but a few.

This elegant solution was threatened when Patrick asked the Takeovers Panel to declare that Toll's IAF was unacceptable. The IAF was available to holders of 100,000 or more shares in Patrick who were professional investors within the meaning of the Corporations Act. There were about 220 such shareholders (0.6% of all Patrick shareholders) and between them they held approximately 81.8% of all shares in Patrick.

Patrick wasn't complaining that the Toll IAF had some unusual feature that made it unacceptable. It wanted the Panel, in effect, to declare that the concept underlying all IAFs was unacceptable.

Acting for Toll, Clayton Utz mounted a vigorous defence of IAFs.

Patrick argued that IAFs should be available to all target shareholders. Practically, this would kill off IAFs, because the cost of offering them to all target shareholders would be prohibitive. Even if a bidder set up a universal acceptance facility, the complex legal nature of the facility would be guaranteed to confuse and bog down its application to retail shareholders.

Patrick attacked IAFs on three fronts. It argued that:

1. IAFs are contrary to the Eggleston Principle that all target shareholders should have reasonable and equal opportunities to participate in the benefits under a bid;
2. IAFs give participating shareholders benefits which would be likely to induce them to accept the bid and are not available to all shareholders under the bid, contrary to the policy of section 623 and paragraph 602(c). Those alleged "benefits" included the ability to:

• indicate to the bidder in some binding form that the shareholder wishes to accept the bid; and
• withdraw acceptances and sell on-market or into a higher bid before the IAF acceptance condition is triggered; and

1. an IAF gives a bidder a virtual call option over the shares entered in the IAF.

Toll argued that there was no legal or policy basis for Patrick's complaints:

• IAFs do not allow institutional investors to "withdraw their acceptances" - because entering an IAF does not constitute a legal "acceptance" in the first place. Institutional shareholders can exit from an IAF at any time, and so are in the same position as retail investors in having control over whether or when to give a binding acceptance of the bid;
• IAFs confer no benefit on large shareholders that would induce them to accept a bid. At most, they allow shareholders to signal their willingness to accept the bid earlier than they might otherwise have done;
• IAFs do not give a bidder anything like a call option over shares in the IAF, because a participating shareholder can exit the IAF at any time until the acceptance condition is triggered. Even if an IAF did give a bidder an option over shares, this would be a benefit flowing from the shareholder to the bidder, not the other way around.

The Panel accepted Toll's arguments, and dismissed Patrick's complaints.

Among other things, it noted that retail investors could simply replicate the effect of an IAF by instructing their broker to accept into the bid once acceptances reached a certain level.

It's also worth noting (although the Panel didn't mention it) that IAFs provide a useful signalling system for the market and for retail shareholders in particular. Flowing from a previous Panel decision (ALH03) "acceptances" into the IAF are usually notified to the market in the same way as changes in the bidder's substantial holding in the target. By encouraging institutions to publicly flag their position, an IAF gives retail shareholders an objective indication of the intentions of the major players in the market. Without an IAF, those retail investors would essentially be in the dark, dependant on media reports and market rumours.

Does this decision mean that IAFs are now beyond challenge?

IAFs can now probably be regarded as a run-of-the-mill piece of takeover bid machinery. Of course, no two takeover bids are identical, and so it may be necessary to adapt - rather than simply adopt - the Toll IAF model. Once tweaks start to be made to the structure, it's possible that the facility may stray into either a contravention of Chapter 6 of the Corporations Act or into a finding of unacceptable circumstances by the Panel. Nevertheless, bidders can now establish IAFs with much more confidence as a result of this decision.

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