The inconsistency between the technical requirements of the substantial holding provisions in Chapter 6C of the Corporations Act 2001 (Cth) (Corporations Act) and the Takeovers Panel (Panel's) expectations on disclosure of equity derivative instruments have long given rise to considerable uncertainty for some market participants.
This is particularly the case when it comes to cash-settled equity derivatives, which give the holder of the equity derivative (the taker) an economic interest but not a relevant interest in the underlying securities – that is, where the taker does not have a right to acquire or control the disposal or voting of the underlying securities.
The Panel's expectations in such circumstances are set out in Panel Guidance Note 20 Equity Derivatives which requires that where there is a control transaction, all long positions of 5% or more (including both physical plus derivative exposure) should be disclosed, even if disclosure is not required under Chapter 6C of the Corporations Act.
However, market participants have taken varied approaches towards disclosure in circumstances where there is no pending control transaction with many participants electing not to make any disclosure. Some participants even take the view that long positions on cash-settled swaps above the 20% takeovers threshold are permissible. These conflicting positions will soon come to an end, however, with the publication of the Panel's revised Guidance Note 20 (Revised GN 20).
The Panel has advised that, for the moment, the original Guidance Note 20 will continue to apply given the market disruption caused by the COVID-19 pandemic. Market participants will be given three months' notice before the Revised GN 20 comes into effect.
The key updates introduced in the Revised GN 20 and our views on these changes are summarised below.
Revised Guidance Note 20: what has changed?
Disclosure of equity derivatives
In the Revised GN 20, the Panel states that disclosure should be made where the long position of a person and their associates:
- is 5% of more; and
- if already 5% or more, changes by at least 1% or falls below 5%.
Significantly, disclosure is now expected to be made regardless of whether or not a control transaction has commenced. The factors that the Panel may take into account when considering whether a failure to disclose gives rise to unacceptable circumstances are also set out, and include:
- the effect of non-disclosure on the control or potential control of an entity and the acquisition or potential acquisition of a substantial interest; and
- whether non-disclosure is contrary to an efficient, competitive and informed market.
Helpfully, the Revised GN 20 also provides various examples of situations in which the Panel may find unacceptable circumstances.
Long positions over 20%
In the Revised GN 20, the Panel addresses an important question not covered in the original Guidance Note 20. The acquisition of a long position that would breach the 20% rule (in section 606 of the Corporations Act) if it were comprised entirely of a physical holding may also result in unacceptable circumstances, even if the taker does not have an actual physical holding in the underlying securities and therefore the acquisition does not technically contravene section 606 of the Corporations Act. The Panel may consider the following factors in determining whether such an acquisition gives rise to unacceptable circumstances:
- whether the taker has attempted to exercise control or influence over the entity;
- if and when the long position was disclosed; and
- whether the taker could have relied on an exception in section 611 of the Corporations Act if the taker had made the acquisition by way of a physical holding.
Form of disclosure
The Revised GN 20 does not contain any material updates in respect of the form of disclosure required. The Panel provides a list of information that it considers should be disclosed, which remains consistent with the list of information provided in the original Guidance Note 20. Importantly, the Panel has reiterated that the identity of the writer of the equity derivative need not be disclosed.
Where unacceptable circumstances exist, the Revised GN 20 specifies that the Panel has a broad power to make 'any order (including remedial orders) it thinks appropriate', including:
- disclosure of the derivatives;
- disposal of any securities; and
- cancellation of agreements.
In making the orders, the following factors may be taken into account by the Panel:
- any effect on the control or potential control of an entity (including the effect on any control transaction or proposed control transaction);
- the nature of the equity derivative; and
- the period for which the equity derivative is held and the timing of any disclosure made.
In our view, overall the Panel's revised approach to equity derivatives as set out in the Revised GN 20 is sensible, helpful to the market and provides clarity that was perhaps lacking in a number of specific areas in the original Guidance Note 20.
Three key takeaways are set out below:
- All long equity derivative positions of over 5% now need to be disclosed, irrespective of whether or not a control transaction has commenced. As mentioned previously, the original Guidance Note 20 stated that disclosure in these circumstances would only be necessary where there was a control transaction. The uncertainty that was inherent in determining exactly what constituted a 'control transaction' led to a situation where there were inconsistent approaches taken in the market in relation to the definition of 'control transaction', and therefore to the application of the disclosure regime contained in the original Guidance Note 20.
The removal of the control transaction requirement in the Revised GN 20 addresses this issue and promotes consistency in respect of the disclosure requirement for equity derivatives in line with the substantial holding requirements. This in turn more effectively promotes the Eggleston Principles – in particular, that any acquisition of control should take place in an efficient, competitive and informed market. A good example in which the market was surprised by the disclosure of a significant long derivative position in circumstances where disclosure would have been required at an earlier point in time had there being a strict rule on disclosure regardless of a 'control transaction' was the Crown's acquisition of a 10% economic interest in Echo Entertainment in 2012.
- We feel the guidance on this point is helpful in that it clearly signals that the Panel's expectation is that all long positions should be disclosed. The final version of the Revised GN 20 following consultation does include some additional language which provides the Panel with some flexibility to determine that non-disclosure does not constitute unacceptable circumstances. However, we interpret this language as simply reiterating that the Panel will take into account the same considerations it does in determining whether a failure to comply with the substantial holding provisions constitutes unacceptable circumstances. At the same time, it also provides some comfort to 'market makers' which made submissions to the consultation about disclosure of positions in certain specific scenarios not being helpful to the market or needing to be disclosed in order to promote an efficient, competitive and informed market. This language does not qualify in any way the change in policy to generally require disclosure of all long positions regardless of whether a control transaction exists.
- Long equity derivative positions over 20% may give rise to unacceptable circumstances. The Panel's original Guidance Note 20 did not express a view as to whether or not long equity derivative positions above 20% would be an issue giving rise to an unacceptable circumstance. The Revised GN 20 clarifies that such an acquisition may result in unacceptable circumstances. This approach comes as no surprise, as most market participants would have expected this to be the case. However, the Panel's clarification of its position in the Revised GN 20 is helpful as it also confirms that the exceptions to the 20% rule contained in section 611 of the Corporations Act (such as the '3% creep' exception) may also be taken into account when considering whether the acquisition is unacceptable.
The Panel's position on this issue also appears to be consistent with the position taken by ASIC in requiring Bruce Gordon and associated entities to divest of interests in Prime Media Group Limited such that their total economic interest in Prime did not exceed 20%. This was despite their relevant interest in Prime already having being reduced to less than 15% at the time, which meant that, strictly speaking, there was not at that time any contravention of section 606 of the Corporations Act.
- Legislative amendment of substantial holding provisions. In an Issues Paper released in 2009 and a Scoping Paper released in 2012 by Treasury, it was previously proposed that the Corporations Act be amended such that the substantial holder notice provisions also apply to equity derivative positions. No legislative amendments have yet been introduced following the release of these papers. While some respondents to the consultation suggested that it would be preferable for the change in policy to be effected by way of legislative change (including due to there being some doubt about jurisdiction and the practicalities of making disclosures and enforcing compliance) our view is that Revised GN 20 is for the most part sufficient, and that following the updated guidance there is now no urgent need for legislative change.
In fact, given the ability of the Panel to take into account all the circumstances relevant to the particular application (including the involvement of market makers) in determining whether to make a declaration, it may be that the regulation and disclosure of equity derivatives are issues that are better dealt with more flexibly by the Panel on a case-by-case basis.
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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