Effective today, companies listed on the Toronto Stock Exchange (TSX) will be required to obtain buy-side shareholder approval for public company acquisitions that would result in the issuance of more than 25% of the issued and outstanding shares of an acquiring company on a non-diluted basis. As a consequence of this new bright line requirement, any regulatory uncertainty that previously existed regarding the circumstances in which an acquiror shareholder vote might be required has now been eliminated. However, there are also expected to be significant implications for mergers and acquisitions practice in Canada.
Historically, a TSX-listed issuer that proposed to acquire a public company target in a transaction involving the issuance of its capital stock generally was not required to obtain the approval of its shareholders. The exception to that rule involved the issuance by an acquiror of its shares that would "materially affect" the control of the acquiror. In those circumstances, shareholder approval was required to be obtained. Accordingly, the TSX always had the discretion to (and generally would) require shareholder approval for a dilutive share issuance that materially affected the control of the acquiror.
Today, the discretionary authority of the TSX to require a shareholder vote in the event of a dilutive share issuance that "materially affects" the control profile of an issuer continues in effect. However, now in the context of an M&A transaction, a bright line test will apply to an acquiror seeking to issue shares representing dilution in excess of 25% – in contrast to the discretion that was historically exercised by the TSX in mergers and acquisitions contexts.
Implications for M&A Practice
As a consequence of the new TSX rule, regulatory uncertainty regarding when an acquiror shareholder vote might be required has now been eliminated in the M&A context. However, the new rule is expected to impact the Canadian M&A landscape in several significant ways:
- Now, more than ever, cash remains king;
- We may see less M&A activity;
- There may be more equity and debt financings to support cash deals;
- Transaction structures and, in particular, the decision whether to use take-over bids or arrangements, may be impacted by the requirement to obtain shareholder approval;
- Acquirors may need to pay a price – in the form of a transaction premium or deal protection – to account for the inherent risk and uncertainty introduced by the requirement to obtain shareholder approval; and
- On the one hand, the new TSX rule has resulted in the loss of a distinct tactical advantage for Canadian acquirors; on the other hand, Canadian capital markets now conform to several other cross-border and foreign stock exchanges.
Each of these implications is discussed in greater detail below.
Cash Remains King
Parties to M&A transactions value deal certainty and, to that end, seek to minimize execution risk. To avoid the uncertainty and risk inherent in a buy-side shareholder vote, acquirors may increasingly choose to use, and targets may increasingly demand, cash as full or partial purchase price consideration in exchange for target company securities. In a competitive situation, the ability to arrange committed sources of financing is likely to be even more important to prevail as a buyer, as target boards of directors can be expected to show a preference for suitors that can demonstrate a high level of transaction certainty.
Less M&A Activity
Strategic acquirors may not have adequate cash resources available to support an acquisition structured with a significant cash component. Indeed, the TSX observed during its notice and comment period that Canadian resource issuers in particular tend to be active in M&A, frequently offering securities as consideration because they do not have the resources to offer cash. In addition, these types of issuers generally complete more dilutive transactions simply due to their smaller size. Even larger resource issuers, usually operating in highly cyclical industries, often prefer to preserve cash for exploration and development and other operating expenditures by offering securities in acquisitions. Accordingly, the new shareholder approval requirement may disproportionately affect resource issuers and companies with smaller market capitalizations. In this regard, the new TSX rule may serve to prevent some transactions from taking place, either because acquirors are not willing to expose themselves to the complication of a shareholder vote or the risk of shareholder rejection, or because shareholders in fact fail to approve some transactions. As a consequence, we may see somewhat less M&A activity taking place overall than would otherwise have been the case, particularly in market sectors where cash flow is inconsistent and/or financing is difficult to obtain.
More Equity and Debt Financings
It is also possible that acquirors of public companies will go to extra lengths to seek to raise cash for acquisitions rather than assume the execution risk of a shareholder vote. This may encourage the development of an acquisition financing debt market in Canada analogous to the equivalent market in the United States. However, as debt capital markets continue to present challenging conditions we may, in the shorter term, see a move to an increased use of acquisition-related equity financings as a way of addressing the shareholder approval requirement. Indeed, the new TSX rule highlights the absence of an equivalent, bright line shareholder approval requirement related to equity financings, such that issuers can theoretically issue shares without any applicable limit that would attract a shareholder vote. Canadian issuers can also take advantage of the relatively rapid timelines available under Canadian "bought deal" transactions.
Nevertheless, issuers will need to exercise care and caution in the context of equity capital raising initiatives in at least two respects. First, depending on the materiality of the acquisition, the offering prospectus used in connection with the equity financing may attract disclosure obligations having regard for the proposed acquisition. For example, in circumstances where the transaction is a "probable acquisition" or a "significant acquisition," incremental disclosure, including pro forma financial information, will be required to be made. Further, depending on the timing of the financing and the ripeness of the proposed transaction, sensitive disclosure decisions in general about a proposed transaction may need to be made having regard for the requirement to provide "full, true and plain disclosure" of all material facts relating to the securities issued. Second, the TSX has recently demonstrated that it will scrutinize public offerings and potentially intervene in the setting of pricing and other transaction terms – including on at least one occasion by requiring shareholder approval. The most widely publicized example of this kind of intervention concerned the public offering of securities earlier this year by OPTI Canada Inc. (See the October 2009 issue of the Osler Corporate Review.)
Transaction Structures May Be Impacted
Dilutive share exchange take-over bids could now become subject to both take-over bid regulation and shareholder meeting and proxy solicitation rules if the new shareholder approval threshold is crossed by an acquiror. Among other things, the take-over bid rules require that an offeror prepare its take-over bid circular in accordance with prescribed disclosure requirements, send its take-over bid materials to target company security holders and allow shares to be deposited under the bid for at least 35 days from the date of the bid. If a shareholder vote of the offeror is also required, among other things, it would be required to prepare proxy solicitation materials in accordance with prescribed disclosure requirements, set a record date and a meeting date, and arrange to mail the meeting materials to its own security holders entitled to vote on the proposed share issuance at least 21 days before the date fixed for the meeting.
In negotiated acquisitions, parties may prefer not to structure their deals as share exchange take-over bids so as to avoid the cumbersome, parallel process of complying with the regulatory requirements governing the conduct of a take-over bid on the one hand, and the meeting and proxy solicitation requirements governing a shareholder vote on the other hand. In this regard, an acquisition structured as a voting transaction, such as a plan of arrangement or an amalgamation, could be accomplished on effectively a singular timetable governing the shareholder votes for the target company shareholders (in respect of the share exchange transaction) and the acquiror company shareholders (in respect of the share issuance proposal). Further, a single disclosure document could be used by the target company and the acquiror in the form of a joint proxy circular that is disseminated to all shareholders – a practice that is very common in the United States and common in "merger of equals" transactions in Canada.
In the unsolicited context, it seems likely that the disincentive effect of a shareholder vote would be particularly strong to the extent that the incremental risk, time and complication introduced by a shareholder vote may be viewed as prejudicial to a bidder's chances of success. An additional level of complication would also arise in the context of amending or otherwise managing the conduct of a bid after the shareholder meeting materials had already been mailed. As a result, it seems likely that the new TSX rule will discourage the future use of share consideration in unsolicited take-over bids.
Acquirors May Pay a Price
In negotiated public company acquisitions, it has become common
practice for acquirors and target companies to agree upon deal
protection measures in the acquisition agreement. These measures
(i) exclusivity/non-solicitation ("no shop") provisions that effectively bind the target to the transaction contemplated by its acquisition agreement;
(ii) limited exceptions to the "no shop" in the form of a "fiduciary out" that enables the target to respond to unsolicited acquisition proposals that could result in superior value to the transaction-at-hand;
(iii) termination fees ("break fees") and expense reimbursement to compensate the acquiror in the event it is outbid by a superior proposal; and
(iv) "force the vote" provisions that require a target company to submit a transaction for shareholder approval even in circumstances where its board of directors has changed its recommendation of the transaction.
The new TSX rule may result in boards of directors of target companies seeking some degree of reciprocal deal protection from acquirors in the event that the acquiror's shareholder approval is required and not obtained. Alternatively, a target may simply require a higher purchase price to compensate for the incremental deal risk associated with a shareholder vote relative to other transaction proposals. In addition, target companies can be expected to insist upon voting support agreements from an acquiror's significant shareholders, where attainable, to mitigate the incremental execution risk associated with a buy-side shareholder vote.
Tactical Advantage Lost
As a result of the new TSX rule, there will be increased risk and uncertainty associated with the execution of transactions that attract a buy-side shareholder vote. We believe that in the past, TSX-listed companies placed a high degree of importance on the certainty of knowing that they had the ability to structure a public company acquisition without shareholder approval. On the one hand, the elimination of that modest but meaningful tactical advantage may be viewed with regret as Canadian companies do not, as a general matter, possess many tactical advantages in the international transactional marketplace. On the other hand, the TSX generally now conforms to several other cross-border and foreign stock exchanges. For example, under the NASDAQ Listing Rules and the New York Stock Exchange Listed Company Manual, shareholder approval is required for share issuances equal to or in excess of 20% dilution. In an increasingly global market, the new TSX rule may be a welcome development by some capital markets participants having regard for good corporate governance and the fostering of efficient capital markets.
A brief background leading up to the implementation of the new TSX rule follows.
October 12, 2007
The TSX publicly announced its first of two requests for comments on its security holder approval requirements for public company acquisitions.
The TSX review appears to have been inspired by shareholder activism that culminated in the contested all-stock acquisition of Glamis Gold Ltd. by Goldcorp Inc. In that instance, Goldcorp's largest institutional shareholder commenced litigation to compel Goldcorp to hold a shareholder meeting to vote on the acquisition on the grounds that Goldcorp's shareholders would experience dilution in their current holdings and a reduction in the market price of their shares if the acquisition was completed. The Ontario Superior Court held that the approval of Goldcorp's shareholders was not required as a matter of Canadian corporate and securities law. The transaction was completed in November 2006 without a buy-side shareholder vote.
January 23, 2009
The Ontario Securities Commission (OSC) rendered its decision in the regulatory proceedings involving the proposed merger transaction between HudBay Minerals Inc. and Lundin Mining Corporation and, in doing so, ordered an acquiror shareholder vote despite an earlier decision of the TSX that did not require a shareholder vote to be conducted.
By way of background, in November 2008, HudBay agreed to acquire Lundin by way of an all-stock plan of arrangement that would have resulted in excess of 100% dilution to HudBay shareholders. Consistent with its past practice, the TSX did not require HudBay (i.e., acquiror) shareholder approval of the proposed share issuance. The OSC overturned the TSX's decision on the grounds that permitting the transaction to proceed without a buy-side shareholder vote would undermine the quality of the marketplace and be contrary to the public interest. The decision effectively resulted in the termination of the transaction.
April 3, 2009
Following the OSC's decision, the TSX issued a second request for comments and further proposed a bright line test requiring a company to obtain shareholder approval when issuing more than 50% of its shares on a non-diluted basis in connection with a public company acquisition. In setting the proposed dilution at a level that exceeded 50%, the TSX considered the comparative size and maturity of issuers listed on the TSX as compared to other stock exchanges. The TSX also noted the significant number of resource issuers which tend to be more active in M&A and which frequently use securities as acquisition currency rather than cash.
September 25, 2009
The TSX announced that, following its requests for comments, it had adopted a new rule under which TSX-listed issuers would be required to obtain buy-side shareholder approval for public company acquisitions that result in excess of 25% dilution. The announcement came as somewhat of a surprise given the lengthy comment periods that had lapsed prior to the official announcement and the TSX's earlier proposal that contemplated a shareholder vote at a 50% dilution threshold.
November 24, 2009
The new TSX rule requiring buy-side shareholder approval for public company acquisitions exceeding 25% dilution is in effect as of this date.
Emmanuel Pressman is a partner in Osler's Corporate Practice Group and Co-Chair of the firm's Mergers & Acquisitions Specialty Group. Doug Bryce is a partner in the firm's Business Law Department practising in the Mergers and Acquisitions, and Corporate Finance Practice Groups. Brooke Hales is an associate in the Corporate Group of the firm's Toronto office.
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.