The Canadian Securities Administrators published for comment a proposed new regulatory framework for rights plans under proposed National Instrument 62-105 Security Holder Rights Plans and proposed Companion Policy 62-105CP Security Holder Rights Plans (collectively, "62-105"). If adopted, 62-105 would provide issuers with a game changing tool to respond to hostile take-over bids, where a target board will be able to use a rights plan as leverage to negotiate with a potential bidder.
What is a Rights Plan?
Rights plans, also known as poison pills, are defensive tactics which provide for the potential dilution of a bidder in response to a hostile take-over bid. A rights plan generally provides a mechanism which issues rights to shareholders to acquire more shares at a discount if a bidder acquires a certain percentage of the issuers' shares, typically 20%. As a result, a bidder can practically only take up shares under the bid if the target's board waives or redeems the rights or if a regulator cease trades the rights plan. The purpose of the rights plan is to provide sufficient time for the board of directors to evaluate unsolicited take-over bids and to explore and develop alternatives to maximize shareholder value.
Current Treatment of Rights Plans
The current approach of securities regulators to rights plans is that "there comes a time when the pill has got to go". Bidders typically apply to securities regulators for a decision to cease trade a target's rights plan, and in such decisions regulators have applied the principles set out in National Policy 62-202 Take-Over Bids - Defensive Tactics ("62-202"). 62-202 attempts to address the potential divergent interests of management and shareholders of a target in the context of a hostile take-over bid, where there is a concern that management may implement defensive measures that deny shareholders the ability to respond to a bid. Generally, securities regulators cease trade rights plans within 45 to 55 days after the launch of a take-over bid.
Problems with the Current Approach
There are several problems with the current approach of securities regulators to rights plans.
- The current approach provides less leverage for boards to negotiate with a hostile bidder, particularly when an auction or other alternatives cannot be generated, because a hostile bidder can apply to have any rights plan cease traded.
- Once a rights plan is cease traded, security holders may be coerced into tendering to a hostile bid to prevent being in a position of holding a minority position with a reduced likelihood of receiving a control premium in a less liquid stock if there is only a partial take up by the bidder.
- In recent years, there have been inconsistent decisions by securities regulators regarding rights plans, particularly where shareholder approval of the rights plan has been obtained, creating uncertainty for market participants.
Proposed Framework of 62-105
In addition to providing more certainty, the framework proposed by 62-105 is intended to solve the above noted problems by providing shareholders with a mechanism for approving or terminating rights plans. As a result, a target board will be able to use a rights plan to gain leverage with a hostile bidder while still allowing shareholders the ability to terminate a plan and then tender to a bid. Below are the highlights from 62-105 which provide the proposed "rules of the game" with respect to rights plans.
Adoption of a Rights Plan
- A rights plan is effective when it is adopted by an issuer's board of directors.
- A rights plan must be approved by security holders within 90 days from the date of adoption or, if adopted after a take-over bid has been announced or commenced, within 90 days from the earlier of the date the take-over bid was commenced and the date of adoption.
- To continue to be effective, the rights plan must be approved at each annual meeting following the initial security holder approval.
Termination of a Rights Plan
- A rights plan ceases to be effective if it is not approved by security holders.
- Security holders can terminate a rights plan by majority vote at any time.
- An issuer whose rights plan was not approved or was terminated cannot adopt a new rights plan for at least twelve months thereafter, except in response to a new formal take-over bid.
Application of a Rights Plan
- If the rights plan is waived or modified by the target board in favour of a bidder making a take-over bid it must be waived or modified with respect to all take-over bids.
- A rights plan can only be effective against take-over bids or acquisitions of securities.
In addition, 62-105 contains more specific requirements for security holder approvals and amendments to rights plans, an exclusion for new reporting issuers, and filing and disclosure requirements. 62-105 also provides securities regulators with the ability to grant exemptions from 62-105.
Take Away for Issuers
If 62-105 is adopted, issuers will need to consider implementing appropriate rights plans, and tactical rights plans will become an important strategic consideration for targets in the face of an unsolicited hostile bid. The terms of the rights plan, particularly a tactical rights plan, will need to be carefully crafted. The rights plan should provide more leverage to a board to be able to negotiate with a hostile bidder and encourage a favourable friendly deal. However, if the plan is too obstructive, target boards may find themselves facing a more costly proxy battle where hostile bidders engage shareholders directly in an attempt to terminate the rights plan.
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