Should equity derivatives be regulated and disclosed like
shares? This is one of the possibilities raised in a new Treasury
The paper, released on Friday, rehearses many of the arguments
that surrounded the Austral Coal case in the Takeovers Panel back
in 2005. This time, however, the outcome may be changes to the
Corporations Act, rather than a Panel Guidance Note.
The issues paper looks at four types of derivative:
options (over both issued and unissued shares)
Specifically excluded are index-linked derivatives and
What Are The Issues?
Essentially, the issues discussed in the paper are those which
arose in the Austral Coal case and its aftermath: control and
The paper identifies a number of potential control issues
arising out of hedging by the issuer of a derivative:
a possible expectation that the issuer of the derivative will
transfer the hedge shares to the taker when the derivative matures,
even if the derivative is written as cash-settled;
the fact that, even if there is no physical delivery, hedging
can remove shares from the market, which can prevent a takeover bid
the possibility that the taker of the derivative may influence
how the issuer votes its hedge shares.
Rather than assuming the worst, the issues paper asks for
feedback on the extent to which these are real control issues in
the market place.
The second part of the paper looks at the question whether, if
these control issues are significant to the market, the
Corporations Act should be amended to take account of them. Three
possibilities are raised, two of which are focussed on
The first proposal, which was extensively debated in the wake of
Austral Coal, is whether, if derivatives do give rise to concerns
about control, those concerns can be addressed by greater
disclosure to the market. Specifically, the paper asks whether the
substantial holder and beneficial ownership tracing provisions
should be expanded to include equity derivatives.
The second, and most far-reaching, is whether Chapter 6 should
be applied to equity derivatives.
"If substantial holder notice provisions were expanded to
include equity derivative positions, should the law be amended so
that positions over 20 per cent must also comply with the takeover
provisions? Should the assessment consider whether the takeover
provisions in the Corporations Act 2001 would benefit from an
expansion to include equity derivatives holdings?"
However, the issues paper appears to take the view that such a
step might not be necessary if improved disclosure would provide
sufficient protection to investors:
"If the requirements for substantial holder notices are
amended to incorporate equity derivative positions, it is arguable
that this apparent gap in the takeover legislation may not be an
issue because the market can be relied on to price in a control
premium, thereby rewarding other shareholders with the premium that
an acquirer of direct stakes normally has to offer in a takeover
bid. Arguably, the Takeovers Panel could address such an issue when
it arises in practice."
Finally, in the wake of last year's furore about disclosure
of directors' margin loans, it is not surprising that there is
a directorial angle to equity derivatives. The paper appear to
favour the expansion of the disclosure requirements for
directors' shareholdings to include equity derivatives over the
company's shares: it describes the fact that derivatives are
not currently disclosable as "a gap in the law".
Where To From Here?
The issues paper is simply the first step in the reform process.
It is possible (albeit not probable) that Treasury will conclude
that the current law does not require amendment. It is more likely,
however, that, at some point down the track, there will be a set of
firm proposals or even a draft Bill issued for discussion. The
extent and form of the changes will depend upon how Treasury
assesses the responses to this issues paper and regulatory
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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