This section presents the results of the review in the area of takeovers. It takes stock of the criteria and mechanisms that may motivate and allow flexibility and proportionality in the implementation of rules and regulations relating across the 39 jurisdictions that responded the survey used for the review. It also includes a case study of the Portuguese corporate governance framework in the area submitted by Juliano Ferreira from CMVM.
Flexibility and Proportionality in Corporate Governance
Corporate Governance
Chapter 9. Takeovers
Abstract
Introduction
Takeover regulations
As discussed by the Committee in 2016,1 a takeover is conventionally identified as an offer by a third party, made to the shareholders of a company, to acquire their shares in sufficient quantity to give the acquirer control of the firm. In short, this triggers two main regulatory concerns that takeover regulation tends to address, both arising from the fact that the transaction is organised as a deal between the third party buyer and the shareholders of the target firm. First, since the board and managers of the target firm are not part of the transaction, their own incentives to promote or oppose the deal and the tools they may have at their disposal to intervene constitute one important set of issues to be dealt with. Second is the range of issues with respect to the fairness of the terms of the offer made by the buyer to the shareholders of the target firm. The impact of the acquisition on the market and its effects on competition and related issues is another area of concern, but that is often analysed beyond the scope of corporate governance rules.
The OECD Corporate Governance Factbook keeps track of takeover regulations in the 47 jurisdictions covered by the report. In 2016, 41 of them had introduced mandatory takeover bid rules. Others had opted for regulating voluntary takeover bids but not requiring mandatory ones (New Zealand). The United States is a particular case, as neither statutes nor rules impose a requirement that a bidder conduct a mandatory tender offer, leaving it to the bidder’s discretion as how to approach the transaction.
Four-fifths of the jurisdictions imposing takeover regulations take an ex-post approach, where a bidder is required to initiate a bid after acquiring shares exceeding a certain threshold (e.g. after obtaining what is considered control of the target company), and another eight take an ex-ante approach, where a bidder is required to launch a bid in order to acquire shares which would allow her to obtain control (Figure 9.1). The control threshold is most commonly set around a 30-33% ownership, considering also the shares held by all affiliated parties to the buyer.2
Figure 9.1. Takeover bids rules
Note: This Figure shows the number of jurisdictions in each category.
Source: OECD 2017 Corporate Governance Factbook.
From those jurisdictions with mandatory takeover bid rules, more than four-fifths establish a fairness mechanism to determine the minimum bidding price for the remaining outstanding shares, which is often determined by the highest price paid by the offeror for the shares of the target within the last 3 to 12 months; the average market price of the shares at within 1 to 12 months; or a combination of the two.3
Issues and trends
From an economic perspective, takeover regulations play a key role in setting the stage for a market for corporate control that can ensure an effective use and continuous reallocation of an economy’s productive resources. An effective market should allow that control can be transferred to those shareholders that believe that they can, and are willing to pay for, improving the use of the corporation's assets. In order to gain such control, the buyer is typically willing to pay all or part of existing shareholders a premium over existing stock price. This premium reflects, in principle at least, the increase in the net present value of the firm after the more efficient use of its assets has taken place less the private benefits for the aspiring new controller, whatever they may be.
As already discussed by the Committee, the market for corporate control is an ever-present, and often necessary, disciplinary complement to other corporate governance mechanisms. Because of this, the quality of takeover regulation and the use of flexible and proportional means in takeover regulation could have an important effect in the quality and the effectiveness of the framework for changes in corporate control.
As discussed in one of the background reports for the 2016 Committee roundtable on the topic,4 an important development over the last decades has been the increase in cross-border activity on takeovers (and more generally on mergers and acquisitions, "M&A"). An annual average of 3 433 cross-border deals seeking to acquire a listed company were completed in the period between 2008 and 2015, representing a 15% increase over the period 2000 to 2007.
This increase in cross border M&A activity is partly explained by a shift in the nationality of the acquirer and the target companies towards emerging markets. During the second half of the 1990s, transactions where both the acquirer and the target were located in emerging markets represented less than 10% of the total of transactions. In about 80% of cases, both were located in advanced markets. In recent years, the number of deals within emerging markets has reached almost 35% of all transactions, even if the transactions involving larger volumes are still predominantly taking place in developed markets.
These developments, taken together with the trend in ownership concentration towards more institutional and more foreign ownership discussed in the chapter on related party transactions of this report, offer a background against which a flexible and proportional approach may offer national frameworks an ability to accommodate the differences in corporate ownership and stock market structures needed by an efficient market for corporate control.
The view of the G20/OECD Principles
The G20/OECD Principles argue that the markets for corporate control should be allowed to function in an efficient and transparent manner and take the position that anti-takeover devices may be an impediment to their functioning. For this, they state that
The rules and procedures governing the acquisition of corporate control in the capital markets, and extraordinary transactions such as mergers, and sales of substantial portions of corporate assets, should be clearly articulated and disclosed so that investors understand their rights and recourse. Transactions should occur at transparent prices and under fair conditions that protect the rights of all shareholders according to their class (OECD, 2015).
The annotations further clarify that both investors and stock exchanges have expressed concern over the possibility of widespread use of anti-takeover mechanisms, which may shield the management or the board from shareholder monitoring and accountability. Even if they may help in some cases to overcome short termed or opportunistic bids that could destroy value, in others they may allow for the entrenchment of bad management. Because of this, the Principles recommend that when implementing any anti-takeover mechanisms and in dealing with takeover proposals, the board must be guided by its fiduciary duty to shareholders and the company.
Flexibility and proportionality with respect to takeovers
Most of the policy interventions in takeover regulation tend to force someone to do something that they may not voluntarily choose to do on their own. In some cases is a matter of preventing the managers and board of the target company from deploying anti-takeover measures that could save their jobs at the expense of the firm's interest. In others is to force the buyer to give all other shareholders a chance to tender their own shares on fair terms. In this context the use of flexibility and proportionality may seem counter intuitive, but it is not. It may be argued that precisely because the takeover regulations impose important burdens on their targets, at critical times in their activity, a flexible and proportional approach may be the best way to ensure that the policy objectives are met without causing large unintended consequences.
In the EU, the 2004 Takeover Directive5 takes a similar approach by carefully listing the options that member states can adopt in its implementation at the national level (Box 9.1).
Box 9.1. Optional rules under EU Takeover Directive
Member States may opt out of two important provisions of the EU Takeover Directive (the frustrating action and breakthrough rules described below) in respect of companies with their registered offices in the respective Member State. If a Member State chooses to opt out, it must allow companies in its jurisdiction the opportunity to opt back in by a shareholder resolution.
A company opting back in will (if the rules of its State Member provide) be subject to disapplication of the opt-in (so that the frustrating action and/or breakthrough rules do not apply to it) if it is the subject of an offer from a company which itself does not apply the frustration action and/or breakthrough provisions to the same extent as the target company.
Frustrating action: Target companies shall not take action to frustrate a bid without shareholder approval. The directive requires Member States to apply this prohibition from no later than the announcement of a bid, though they are permitted to apply this prohibition from an earlier stage such as when the target board becomes aware that a bid is imminent. In either case, the prohibition continues until the bid completes or lapses.
''Breakthrough'' rules: During the period of acceptance or an offer: (i) restrictions on transfers of shares, whether constitutional or in shareholder agreements, may not be applied vis-à-vis the bidder; and (ii) restrictions on voting rights and the use of multiple voting rights do not apply at any general meeting to approve any frustrating action.
Moreover, once a bidder has acquired 75% of the capital carrying voting rights in the target, any special arrangement for appointing board members cease to apply and multiple voting rights are ignored at the first general meeting called by the bidder following closure of the bid. Shareholders deprived of rights under these provisions are entitled to compensation on an equitable basis on terms to be determined by Member States. None of these requirements apply to state-held ''golden shares''.
In the United States, on the other hand, the securities regulatory and legal framework, state corporate laws, and exchange listing standards address the rights, equitable treatment of shareholders, and how takeover transactions take place without imposing a mandatory bid rule, which is another manifestation of the flexible and proportional approach. Since the law does not define the term “takeover” nor “tender offer,” the determination of whether any acquisition attempt is a tender offer and consequently subject to the U.S. federal securities laws is therefore ultimately dependent upon the facts and circumstances, which allows for a degree of flexibility and proportionality in the application of the framework, with the aim to provide disclosure and certain procedural safeguards to shareholders whose shares are the subject of the offer.6
Survey results
Out of the 39 jurisdictions included in the survey, 32 reported at least one criterion or optional mechanisms to allow flexibility and proportionality in the area of takeovers (Figure 9.2.).
Figure 9.2. Jurisdictions with at least one criteria of optional mechanism in the areas of regulation
Source: OECD Survey.
Figure 9.3. Overall use of criteria across all areas of regulation
Source: OECD Survey.
Figure 9.4. The use of criteria with respect to takeovers across jurisdictions
Source: OECD Survey.
As described in the main chapter of this thematic review, among all the criteria that jurisdictions employ to promote flexibility and proportionality in their corporate governance frameworks, the criterion of listing/publicly trading and the criterion of size are by far the most used when considering all areas of practice. Aligned with the general results, the listing/publicly traded criterion is also the most used in the area of takeovers, followed closely by ownership/control structure (Figure 9.3.). Figure 9.4 shows the frequency and distribution among different types of criteria that jurisdictions have reported.
The use of listing/publicly traded as criterion for flexibility and proportionality
Listing/publicly traded is used in the area of takeovers by 16 jurisdictions and is present in the corporate governance framework in several dimensions, with the listing venue as the most common dimension used to introduce flexibility and proportionality (Figure 9.5.).
Most jurisdictions report that they use listing/publicly traded as a criterion in the sense that only listed companies are subject to the takeover regulations. That is the case in Chile; Denmark; Russia; South Africa; Slovenia; and Switzerland.
However, several jurisdictions also introduce differentiated rules for companies whose shares are traded in regulated markets or in alternative trading platforms (ATPs). This is the case in Australia; France; Hungary; Lithuania; Portugal; Spain, and Sweden.
In Italy and Spain, firms whose shares are admitted to trading in the alternative trading markets (AIM Italy and AIM Spain) are required by the exchange to consider the adoption of a mandatory takeover bid rule in their by-laws as the law prescribes for listed firms.
Figure 9.5. Use of the listing/publicly traded criterion for takeovers
Source: OECD Survey.
Debt only-listings are also subject to more flexible rules in some jurisdictions, including Ireland; Saudi Arabia, and the United States. In some jurisdictions, like Singapore, in cases of cross-listing a firm primarily listed in a foreign jurisdiction is excluded from the requirements for a mandatory bid under domestic rules.
Non-listed firms may also be subject to takeover regulations when they are the holding company for a listed firm, as it is the case in Chile, where the acquisition of the shares of the privately-held holding trigger a mandatory bid for the shares of the listed subsidiary, or in South Africa, where the requirement is extended to private firms that are large enough to be required to conduct external audits.
The use of ownership/control structure as criterion for flexibility and proportionality
The ownership/control structure criterion is used by 14 jurisdictions (Figure 9.6.), mostly in relation to the presence of a controlling shareholder, in which case the rules may deem that the acquisition does not pertain to a real change of control but rather to a change of the degree of existing control, therefore relaxing some of the requirements.
That is for example the case in Italy, but the controlling shareholder dimension is also used in Germany; Ireland; Portugal; Saudi Arabia; Spain; Turkey; the UK, and the United States.
Figure 9.6. Use of the ownership/control structure criterion for takeovers
Source: OECD Survey.
The use of size as criteria for flexibility and proportionality
Nine jurisdictions report using size as a criterion for flexibility and proportionality for takeovers (Figure 9.7).
In some cases, the size criterion is used in relation to the number of shareholders, in the sense that when the number of shareholders is bigger than a given size, often around 50 shareholders, the takeover rules apply even if the company is not listed. That is for example the case in Australia; Singapore, and Slovenia. In others it is related to the size of the equity, the revenues, or of the assets of the company, allowing the application of rules that either extend the mandatory bid requirement to large private companies or that carve out exceptions that grant more flexibility for small and medium sized firms.
Figure 9.7. Use of the size criterion for takeovers
Source: OECD Survey.
A large number of jurisdictions also described that an important source of flexibility and proportionality in their takeover regulations is achieved by granting authority to their Takeover panels and/or regulatory agencies to allow for derogations based on a large range of criteria, including many of those listed in the survey. This is reported in the case in Austria; Belgium; Brazil; Finland; Ireland; Sweden, and the UK.
The use of opt-in and opt-out mechanisms for regulating takeovers
Opt-in and opt-out mechanisms are used for the regulation of takeovers by 15 jurisdictions (Figure 9.8.), many of which are members of the EU, which included optional rules that jurisdictions could include in their national implementation of the 2004 Takeover Directive (Box I.1. offers an overview of some of these options, which were reported by several jurisdictions).
Figure 9.8. Use of opt-in and/or opt-out mechanisms for takeovers
Source: OECD Survey.
The use of sectoral criterion for flexibility and proportionality
An analysis of the results per sector of activity reveals that flexibility and proportionality criteria for takeovers are used by less than half of the jurisdictions (16), with a varying degree of scope (Figure 9.9.). Most jurisdictions that present flexible sectoral regulations report having special takeover rules for the financial sector and for their State-owned companies.
Figure 9.9. Use of flexibility and proportionality in different sectors for takeovers
Source: OECD Survey.
Case study: Portugal
Overview
Following approximately 15 years of negotiations and tied votes in the EU Parliament, the Takeovers Directive was finally approved on April 2004. In the end, several compromises were made in order to approve the Directive, and therefore, its initial goal to create a level playing field for takeovers in Europe was not entirely met. This means also, therefore, that the Directive allows for significant flexibility to the EU member states, thanks to the alternative granted to opt-in/opt-out in respect of certain provisions of the Directive. Portugal, as an EU member state, has transposed the Takeover Directive into the Portuguese law by the end of 2006.
Given the relatively small size of the Portuguese market (with only 45 companies with shares admitted to trading on a regulated market), takeover bids are not very common; nevertheless, since the transposition of the Takeover’s Directive at the end of 2006 and until 2018, 35 takeovers were registered by the CMVM, at an average of 3 per year, the majority of which corresponding to mandatory takeovers. This trend shows that, in a small market with listed companies with a highly concentrated shareholder structure and low levels of free float, takeovers are not primarily looked at as means to acquire control, but as a legal consequence with the purpose to legitimate control acquisitions (deriving from private negotiations with the previous controlling shareholder).
Table 9.1. Overview of takeovers in Portugal 2007-2017
1. Excluding tender offers of debt instruments and acquisitions of own shares
Source: CMVM.
In most of the mandatory takeovers launched during said period the consideration initially offered was deemed non-equitable (considering the applicable regime detailed below) and an independent auditor was appointed to determine the applicable minimum consideration. This circumstance is intimately connected with the way change of control usually occurs in the Portuguese markets: once the control is acquired from the previous controlling shareholder, the consideration paid is suspected to be inequitable or unfair, given the private negotiations leading to the referred change in control. In this case, the intervention of an independent auditor is the only measure provided by law to prevent the risk of the parties to establish among them a fictionally low consideration, expecting this price to be the one offered to minority shareholders.
In the context of proportional and flexible legal mechanisms, the Portuguese regime provides for certain derogations to the mandatory bid rule, if the control over a given company is acquired as a result of (and provided that certain additional requirements are met):
Prior voluntary bid,
Merger, approved by the shareholders of the companies involved,
Financially distressed situation of the target company.
A few cases over the past ten years met the criteria mentioned above, as follows.
Table 9.2. Derogations in Portugal 2007 – 2017
Source: CMVM.
In addition, a suspension from the mandatory bid rule may also apply, provided that a compromise to put an end to the situation triggering the mandatory bid rule is submitted to the CMVM. From 2007 until the date hereof, two announcements of suspension from the mandatory bid rule were presented to the CMVM.
Description of law and practice on the Mandatory Bid Rule (MBR)
The Portuguese Securities Code
The mandatory bid rule (MBR) was foreseen in Portuguese law way before the Takeover Directive,7 but was adapted to the later in due time. Its aim is well known, and actually quite simple: protection of minority shareholders in case of a change of control. Nevertheless, it is still very hard to find two Member States with the same legal provisions, the same perspective on its grounds and even more difficult to achieve harmonization on the circumstances under which the exemptions to the MBR shall apply.8 In fact, under its apparently simple configuration, the MBR implementation can be very challenging, especially with regards to the determination of the triggering event and the adequate circumscription of its exemptions.
Portugal law, duly interpreted from a systematic and teleological point of view, includes mechanisms that ensure flexibility and proportionality. It should be read as imposing a bid only when a change of control actually occurs, and not in an exclusively formal perspective. The starting point is article 5 of the Takeover Directive, which clearly states that «[w]here a natural or legal person (…) holds securities of a company (…) giving him/her control of that company, Member States shall ensure that such a person is required to make a bid as a means of protecting the minority shareholders of that company».
The rationale for such duty lies, according to the wording of the Directive itself, in the need to protect minority shareholders against the emergence of a new controlling position. The reference to the crossing of certain percentages of voting rights has led most Member States to solely rely on a formal and quantitative perspective of control, assuming that it exists when fixed thresholds are exceeded.
However, this path may lead to results which are contradictory to the spirit of the Directive, imposing this duty in cases where there is no control, and stopping short to impose it on cases where it actually exists. Therefore, the MBR should be read as requiring a qualitative and material assessment of a change of control, based on a formal and objective verification of a quantitative sum up of voting rights, crossing a predetermined relevant threshold.
The crossing of a certain percentage of voting rights should, thus, be taken as part of a broader set of circumstances that point to an actual acquisition of control. For this purpose, control should be construed as holding voting power that allows its holder to determine the path of the company.
The Takeover Directive states that «[t]he percentage of voting rights which confers control (…) shall be determined by the rules of the Member State in which the company has its registered office». In Portugal, the percentage was set at 1/3 and 1/2 of voting rights. This can be seen as a mechanism of flexibility and proportionality. Depending on the specific shareholding structure and free float of the target company, one may assess whether controlling 1/3 of voting rights actually confers the power to exercise dominant influence over the company or if that power only comes up with the crossing of the 1/2 threshold.
The criteria are to determine when a controlling position emerges are: i) holding the majority of voting rights, ii) having the power, by virtue of a shareholder’s agreement, to determine how the majority of voting rights are exercised, or iii) having the power to appoint or dismiss the majority of the members of the board of directors or of the supervisory board. In companies with a widespread free float and historically absent shareholders’, control is quite often achieved below the ½ threshold of the company’s share capital.
In short, the MRB should be read as based on a qualitative assessment that follows the crossing of quantitative thresholds. Control lies on whoever has the voting power to determine the company’s will through shareholders’ resolutions. Differently, in some other European Member States, the MBR is based solely on quantitative thresholds, complemented by a series of derogations and/or by the power of the National Competent Authority to derogate the MBR, on a case by case basis. That was also the case for Portuguese Law until the enactment of the Securities Code in 2000.
Derogations to the MBR were then significantly reduced, promoting a higher level of predictability and transparency as to when the MBR is actually triggered and, at the same time, ensuring the protection of minority shareholders. Recently, the European Commission has addressed this issue in its report. The attention was drawn to the fact that setting forth a long list of exemptions to the MBR would probably not be in accordance with the strict requirements imposed by the Takeover Bids Directive on Member States.
With the enactment of the Securities Code in 2000, CMVM´s powers to grant exemptions was suppressed, as it constituted a source of uncertainty to whether the MBR would actually become enforceable. Investors always seek an exemption, leaving minority shareholders uncertain as to whether they would be able to sell their shares or note. The powers of the CMVM are thus limited to the assessment of whether a legal derogation applies or not in each specific case (see section 3.2. below).
Currently, the Portuguese Securities Code foresees three derogations, applicable only in circumstances where it has been proved that a change of control has already occurred. They are an ex post tool to mitigate or correct certain inequities that could arise from the strict application of the MBR. The rule is derogated when:
Someone acquires control as a consequence of a voluntary bid to acquire all shares of the company, complying with the price requirements of the MBR;
Someone acquires control as result of a merger where the controlling position had been clearly pointed out and effectively approved at general shareholders’ meetings; and
Someone acquires control in the context of a financial recovery plan, when the company is in a financial distressed situation.
These derogations are complemented by other mechanisms to correct potential iniquities. E.g.: a person who has acquired control unintentionally and did not exercise said control may be exempt from the MBR if it renders control within a certain period. All these mechanisms promote flexibility and proportionality.
CMVM’s intervention
CMVM is the Portuguese authority responsible for the supervision of securities market and for the enforcement of the Takeovers’ Directive, namely with regards to the mandatory bid rule. CMVM exercises its supervisory powers in accordance with a set of principles established by law, the most important of which is investors’ protection. In this context, the CMVM supervises the takeover bids’ procedure, from the disclosure of the preliminary announcement to the publication of the offer's results.
The CMVM is legally empowered to decide on a wide range of key issues, including the assessment of whether a change of control actually occurred and other aspects of the enforcement of the MBR. Therefore, investors who think the MBR is not applicable in a specific case must prove it to the CMVM. Likewise, investors who seek a derogation to the MBR, must prove to the CMVM the fulfilment of the corresponding requirements.
The role of the CMVM may be seen as providing flexibility and proportionality to the takeover bids’ regime. However, when deciding on the application of the relevant legal provisions, CMVM is legally bound to grant a derogation or to recognize the absence of control only when the defined legal requirements are met.
As such, CMVM is not legally granted a discretionary power to decide on a case by case basis, thus providing market participants with greater predictability, transparency and legal certainty. The specific circumstances of the case are only relevant within the remit of the rules which apply to the referred mechanisms. CMVM’s is bound to apply the law according to an adequate balance between minority shareholders’ protection and the interests of investors acquiring major shareholdings in a listed company.
When enforcing the MBR, CMVM also plays a key role in the assessment of the consideration to be paid in the mandatory bid. CMVM must assess whether the proposed consideration meets the legal requirements, namely if it is duly justified and equitable. CMVM has the legal duty to verify if the consideration presented by the offeror is not lower than (i) the highest price paid by the offeror in the last six months for the acquisition of shares of the same category as those object of the offer; and (ii) the average price of these securities in a regulated market in the same period.
If it is not possible to determine the minimum consideration based on those criteria or if the CMVM considers that the proposed consideration is not duly justified or equitable, consideration must be determined by an independent auditor appointed by the CMVM. The Securities Code foresees three cases where the consideration is presumed non-equitable, forcing the appointment of an independent auditor:
the highest price was set by means of an agreement between the purchaser and the seller, in the context of a private negotiation;
the targeted securities have low level of liquidity with reference to the regulated market in which they are admitted to trading;
the consideration has been determined on the basis of the securities market price and either said price or the market in which the securities are trading was affected by extraordinary events (e.g., a long suspension of trading).
In short, the role played by the CMVM promotes flexibility and proportionality, which is especially evident when:
assessing the emergence of a controlling position, in order to enforce the MBR;
evaluating the evidence that the holder of more than 1/3 and less than 1/2 of voting rights does not control the company;
verifying the applicability of a legal derogation to the MBR; and
ensuring that the consideration to be paid is duly justified and equitable.
Flexibility and proportionality within the regulatory framework
The ability to prove the absence of control in a two tier relevant thresholds’ model
As mentioned before, for the purposes of the Portuguese MBR, exceeding the relevant thresholds of voting rights is only relevant when someone actually acquires control the company. For that reason, and in order to ensure compatibility with the Takeover Directives’ principles, Portuguese law allows that a person who has crossed the 1/3 threshold to prove before the CMVM that, nevertheless, he does not control the company.
One third of voting rights usually confers the possibility to control company, considering relatively large free floats and low levels of attendance at general meetings. However, shareholders may prove that, under specific circumstances, such voting rights do not provide them with the power to control the company.
The shareholder may, e.g., demonstrate that another shareholder controls the company, based on a higher voting power: shareholder A has acquired shares representing 35% of voting rights, while shareholder B already held a 51% stake; shareholder A proves the absence of control by arguing that shareholder B holds control over the company. If shareholder A proves the absence of control he is not forced to bid.
Another possible way to prove the absence of control is by arguing that the 1/3 voting rights do not carry a relevant voting power due to voting caps set forth by the articles of association: the owner of a 15% stake in a public company – which articles of association state that votes cast are necessarily limited to 20% of the share capital – that increases his stake to 40% must inform the market for transparency purposes, but will still have its voting power limited to 20%, considering the voting cap. Therefore, it will not be forced to bid.
The number of votes above the voting cap tends to be irrelevant in terms of voting, as they may not be exercised at general shareholders’ meetings. For as long as the voting caps are in place, the shareholder’s voting power will not exceed the voting cap, preventing him to control the company.
However, the proof of absence of control is only valid for as long as the person that had proved such absence of control does not reinforce his stake up to a controlling position. If that becomes the case, the MBR will apply, regardless of the thresholds that might have – or not have – been crossed. This will be the case when, by reference to the examples provided above, shareholder B sells its 51% stake to various unrelated shareholders (thus shareholder A becoming the one with the higher voting power), or when voting caps are removed.
From the combination of these elements, we conclude that the MBR will only be enforceable when the crossing of voting rights entails acquisition of a controlling position. Otherwise, the MBR would be imposed on those who do not effectively control the public company. As such, the proof of absence of control really comes out as an important mechanism of flexibility and proportionality in the Portuguese legal framework, with regards to the enforcement of the MBR.
Derogations to the MBR
The derogations to the MBR are another important legal mechanism introducing flexibility and proportionality. Its intention is to prevent iniquities deriving from the imposition of the MBR in cases where minority shareholders do not require the protection of such mechanism, because they have been protected by other means. That is the case when control arises:
as a consequence of a previously launched voluntary bid;
in the context of a merger, approved by the shareholders of the companies involved;
in the context of the recovery of a financially distressed company.
Acquisition of control following a voluntary bid: The MBR shall not apply when the acquisition of control results from a prior voluntary takeover launched over all shares of the target company, complying with the equitable price rules of the mandatory bid, mentioned above.
The rationale for this derogation is that minority shareholders had the chance to exit by accepting the previous offer. A further mechanism to protect them would impose a disproportional burden to the offeror.
In addition, if the offeror, in the context of the voluntary takeover, reaches 90% of the voting rights of the target company and acquires 90% of the shares subject to the voluntary takeover, the minority shareholders have the right, during a 3-month period, to request that the (new) dominant shareholder acquires their shares. This mechanism is deemed as an additional option to exit the target company.
Acquisition of control in the context of a merger: In addition, the MBR shall also not apply whenever the control holding results from a merger, which is necessarily approved by the shareholders of the companies involved, including the company that would be the “target company” if this derogation would not apply.
The information disclosed prior to the general meeting of shareholders must clearly disclose that the MBR would apply if this derogation was not provided for, as well as the criteria for attribution of shares and/or the new shareholders structure, including a new control.
The merger must be registered with the Companies Registrar, which may refuse to register it in specific circumstances where it causes losses to certain shareholders. In this case, registration is only permitted if such shareholders give their consent, in addition to the shareholders resolution taken at the general meeting. In this context, additional mechanisms to protect minority shareholders – such as the MBR – are deemed unnecessary.
Acquisition of control of a company in a financially distressed situation: The MBR is also derogated when control is acquired within a (administrative or judicial) process of recovery of the company in a financially distressed situation. This includes any recovery process established under Portuguese law, including, for instance, any resolution measures or write-down and/or conversion of own funds of financial institutions.
This derogation is meant to avoid delays or difficulties in implementing such recoveries processes, thus accepting a reduced protection of the shareholders in order to enhance any chances of survival of the company and taking into consideration the company’s obligations towards its creditors and stakeholders in general.
The commitment to cease the triggering event and the suspension of the MBR
The MBR may be suspended upon inadvertent or undesirable acquisitions of control. The law provides for this flexible solution whenever the shareholder undertakes before the CMVM to put an end to the control situation and not to exercise control. From the moment the shareholder publicly announces its intention, he’s given a 120 days period to, for instance, sell at least the sufficient number of shares in order to ensure that his controlling position comes below the relevant thresholds, to persons not acting in concert with him. During this period, the exercise of voting rights is inhibited, as a preventive measure.
Although the selling of shares is usually the most adequate and obvious way to put an end to a controlling position, that is not the only way to achieve this goal. Where the controlling position does not lie on the ownership of shares but on other mechanisms (shareholders’ agreements), that sale might not even allow that result.
In all circumstances, it is imperative to reduce the voting power to the extent that the shareholder can no longer assert any dominant influence over the company. It is somehow irrelevant how the controlling position ceases, since what matters is that the controlling shareholder ceases to control, either because of a capital increase diluting his position, or because of an amendment to the company’s articles of association introducing a voting cap (see below).
The commitment to cease the triggering event and the assumption that the control was not yet, and will not be, exercised by the new controlling shareholder, are key features of a proportional approach to the conciliation of conflicting interests. Minority shareholders are protected because the controlling ability is suspended – as no voting power can be exercised at general meetings – and the controlling shareholder is given a 120 days period to cease the triggering event. The controlling shareholder not intending to exercise control over the company is given the chance to revert this situation, without ever benefitting from it.
The imposition of the MBR under these circumstances would not be in accordance with the Takeover Directive’s scope of protection and would come out as a very disproportionate consequence, considering that minority shareholders do not require protection from a controlling position which is immediately suspended, following the acquisition of control.
Case studies on proportional and flexible mechanisms within the Portuguese securities market
In the context of corporate restructuring
Several cases of corporate restructuring were submitted to the CMVM for analysis under the MBR. Such cases involved changes in the chain of control (e.g., by including a new company or by changing the relevant holdings by companies within the group).
CASE 1: Company A is listed in the Portuguese regulated market and its major shareholder (Mr. X, a natural person holding more than 50% of its share capital) sets up Company B (with a 99.99% stake) to which it transfers its controlling stake in Company A. The question was if Company B was subject to the MBR, as the new major shareholder of Listed Company A.
CMVM understood that the control stake of Company B was not different from the prior position of control of Mr. X. Such control was neither changed nor replaced by a new position, as the ultimate beneficial owner remains the same. Therefore, Company B is a mere vehicle for Mr. X, who remains in control of Listed Company A.
Figure 9.10. The Portuguese securities market: Case 1
Source: CMVM
CASE 2: CMVM was called upon to decide, in advance, whether a corporate restructuring (essentially for tax purposes) should give rise to a mandatory takeover. In the context of this corporate restructuring, Company C, incorporated in another Member State, would acquire the controlling stake in a Portuguese listed company (Company A) from Company B, a Portuguese company. The chain of control of Company C was specifically set up to reproduce the existing chain of control of Company B.
Having analysed the chain of control and the corporate bodies planned for Company C, CMVM concluded that the transfer of this controlling stake was not a change of control, but merely a formal transfer to another company, controlled by the same shareholders, in the same manner. The position of control remained unchanged. Therefore, Company C was not subject to the MBR.
Figure 9.11. The Portuguese securities market: Case 2
Source: CMVM
CASE 3: Similar to Case 1 above. Mr. X, a natural person that was indirectly (via Company C) the major shareholder of Company A (a Portuguese listed company), through Company B (incorporated in Portugal), intended to transfer said major holding to Company C (incorporated in another Member State). As in Case 1, CMVM decided that the transfer to Company C would not give rise to a mandatory takeover, provided that the ultimate beneficial owner remained the same.
Figure 9.12. The Portuguese securities market: Case 3
Source: CMVM
CASE 4: Company B held a controlling stake of more than 50% in Company A — a Portuguese non-listed public company (sociedade aberta) — and was, in turn, controlled by Company C, which was fully owned by Company D, the ultimate beneficial owner of control over Listed Company A. Company C intended to acquire from Company B its stake in Company A, as part of an intragroup corporate restructuring.
The CMVM concluded that the restructuring would not involve a change of control (although Company C has directly crossed the 50% threshold in Listed Company A), as the ultimate beneficial owner of Company A remained unchanged (Company D).
Figure 9.13. The Portuguese securities market: Case 4
Source: CMVM
CASE 5: Mr. X and Mr. Y, natural persons, jointly controlled Company A which, in turn, held a major stake in Company B (a Portuguese listed company). Mr. X and Mr. Y intended to enter into a shareholders’ agreement and add, in relation to each natural person, a new company in the chain of control.
The CMVM resolved that, although the mechanism of joint control was different, the transaction did not involve a change of control.
Figure 9.14. The Portuguese securities market: Case 5
Source: CMVM
Voting caps as proof of lack of control and as a remedy for inadvertent acquisitions of control
Case study A: Voting caps as proof of lack of control. As described above, crossing 1/3 threshold of voting rights is deemed as acquiring control the company, given the theoretical high level of free float and the fact that not all shareholders attend general shareholders’ meetings.
This is a (rebuttable) presumption that may be out of touch with the specific circumstances of a given listed company. As such, the shareholder crossing said threshold (but not the 1/2 threshold), may prove to the CMVM that, in fact, he is not in control of the company, because he does not hold the voting power required to determine the decisions of its corporate bodies (article 187/2 of the Securities Code).
In 2012 there was one such case, involving a Portuguese listed bank. One of its shareholder (which initially held approx. 30% of its share capital and voting rights), acquired a new block of shares and its stake in the bank raised to 48.97% of its share capital and voting rights.
Figure 9.15. The Portuguese securities market: Case study A
Source: CMVM
Having crossed the 1/3 threshold, the shareholder tried to prove to the CMVM that he did not control the company, and, as such, should not be forced to launch a takeover bid. He alleged that the exiting voting cap limited his voting power below the relevant threshold. He further stated that, considering two other relevant circumstances, he could not actually control the bank. These other two relevant circumstances were (i) the fact that there were two other unrelated shareholders with an approximately similar voting power (close to the voting cap), with the power to block any intention to exercise control, and (ii) the fact that he had not appointed and, therefore, was not “represented” in the board, by the majority of its members.
CMVM held that the concept of control, foreseen in the PSC – as understood in accordance with the Takeover Directive –, is mainly a qualitative concept, although based in quantitative thresholds (as mentioned above). The qualitative element of control is the possibility of exercising a dominant influence, reflected, for example, in the possibility of exercising the majority of the voting rights or of appointing (or removing) the majority of the board members. The quantitative thresholds (a fixed percentage of voting rights) are the means to determine whether someone actually holds control over a listed company. Such thresholds alone do not trigger the MBR.
Therefore, a shareholder crossing the 1/3 threshold is not forced to bid if he proves to the CMVM that, notwithstanding the number of voting rights he controls, he does not have the power to exercise control over the listed company. This is known as the proof of lack of control. A typical example is the case in which another shareholder, not related to him, holds a higher stake in the company (v.g., 51%).
In this specific case, nevertheless, there was no shareholder with a higher stake, but there were several factors that, combined altogether, forced CMVM to the conclusion that the relevant shareholder did not control the company. Perhaps the most relevant factor was the existence of a voting cap. This cap actually converted a 40% qualified stake in a limited voting power of 20%. With such limited voting power, the shareholder was not able to determine, on its own, the company’s decisions, including the election of the members of the corporate bodies.
Besides, the relevant shareholder was not the only one with a relevant position, as it was followed closely by two other unrelated shareholders with a similar position in the company’s share capital (shareholders with an historical frequent high level of attendance at the general meetings). Together, these two circumstances lead to another relevant one, which was the fact that this shareholder’s position did not grant him the possibility to appoint and be “represented” by the majority of the board members.
In short, the relevant shareholder had only a formal controlling position – a stake higher than 1/3 of the company’s voting rights – but did not have the substantial power to actually determine, on its own, the company’s will. Thus, he was not materially in control of the company.
A few years later (2016), the previously described situation would undergo a relevant modification. As the financial situation of the listed company became significantly affected by the financial crisis, shareholders were forced to take measures to recapitalize and strengthen its financial situation. In this context, the voting cap was blocking further investments in the company, as shareholders had an incentive not to subscribe additional shares over the voting cap. That would have created a gap between the financial risk taken and their voting power.
Reverting the voting cap became an issue. As shareholders failed to reach an agreement, the Government enacted a new law, allowing voting caps at financial institutions to be revoked under a breakthrough rule. As long as revocation was proposed by the board, a simple shareholders resolution with no voting caps and no supermajorities would suffice.
Based on this new law, voting caps were revoked in this bank, turning the formal control of the aforementioned relevant shareholder into a material one. Therefore, said shareholder could no longer prove a lack of control and was forced to bid. In this case, the duty to bid arose independently from the acquisition of any additional shares. The MBR relies not only on the acquisition of shares, but also on other relevant changes in the voting power of a specific shareholder, including entering into shareholders agreements or abolition of voting caps.
Case study B: voting caps as a remedy to inadvertent acquisitions of control. In 2011, Company A, facing a financially distressed situation, decided to convert some of its debt into capital. In order to achieve this goal, it issued non-voting preferred shares that were subscribed by its major creditors. With the proceeds of the issuance of those preferred shares, Company A reimbursed part of its debt.
The Portuguese legal regime on non-voting preferred shares entitles the holders of these shares to receive a priority dividend and, if such priority dividends are not paid two years in a row, they become entitled to voting rights.
At the annual general meeting of 2014, Company A confirmed non-compliance with the obligation to pay said priority dividend for two years in a row, therefore entitling the holders of the non-voting preferred shares with voting rights. At that time, shareholders B and C – both controlled by shareholder D – acquired an additional voting power, causing D to overcome the 1/3 threshold. Therefore, shareholder D was forced to announce a mandatory bid (art. 187/1 of the Securities Code). Under the transparency rules, the shareholders B and C informed the CMVM and the company that they became to hold voting rights representing 43.89% of the total share capital.
Figure 9.16. The Portuguese securities market: Case study B
Source: CMVM
Shareholder D could not prove lack of control because it was, in fact, able to exercise control. However, shareholder C, which held approximately 1/3 of the voting rights (by virtue of its preferred shares), argued that it did not intend to exercise control, as its shareholding was of a purely financial nature. Therefore, these shareholders intended to suspend their duty to announce a bid and put an end to their control over Company A, under article 190 of the Securities Code. This mechanism is intended to cover situations of inadvertent acquisitions of control.
They submitted to the CMVM a list of measures intended to put an end to the referred controlling position within the 120 days legal deadline (following the occurrence of the event constituting the obligation). However, shortly after, it became clear that, although D did not intend to exercise control over A (nor ever exercised it), it was not feasible for it to sell sufficient shares in the market (without causing a significant depreciation) as to lower its voting power below the relevant legal threshold.
The shareholders then suggested, as an alternative, to include a voting cap of 33.3% in Company A’s articles of association. This solution would safeguard the interests of minority shareholders who would benefit from the stabilization of the shareholding structure of the company and from the fact that no one would have a controlling position over the company. This solution was approved at a shareholders meeting within the 120 days foreseen in article 190 of the Securities Code.
The CMVM then concluded that, considering the voting cap and the major stakes of each shareholder, shareholder D did not actually control Company A and, therefore, was not subject to the MBR.
Conclusions of the case study
Portugal, as member of the European Union, is legally bound to European Directives and Regulations. This implies that the Portuguese regime governing takeovers must be in accordance with the Takeover Directive (Directive 2004/25/EC of the European Parliament and of the Council) transposed into national law in 2006.
The transposition of this Directive, however, did not lead to significant changes in the pre-existing regime, considering that it was already aligned with most of its rules. Takeover Directive is deemed as a minimum harmonization Directive, thus providing various options to the Member States. For that reason, this Directive encloses mechanisms of flexibility and proportionality, by virtue of allowing EU member states to opt-in/opt-out in respect of certain provisions.
Taking advantage of this flexibility, and bearing in mind the main goal of the Directive –protection of minority shareholders in the event of a change of control –, the Portuguese regime seeks to reconcile the confronting interests, determining that the protection to be granted to minority shareholders through the possibility of selling their shares at a fair and equitable price shall only be imposed on a third party whenever this third party has actually acquired the power to exercise a controlling influence over the company.
In cases where certain thresholds have been crossed without acquiring a controlling influence, the MBR shall not apply, because shareholders do not require to be protected against an inexistent controlling position.
In certain circumstances, it is up to the holder of a qualifying position to demonstrate to the competent authority that, despite the attribution of voting rights, no power to exercise control over the company exists, in order to discharge the MBR.
Along with these, other situations exist where a controlling position effectively put in place does not lead to the enforceability of the MBR: this is the case when the control was acquired following a takeover bid, in the context of a merger or in the context of the recovery or insolvency plan. In these cases, not only minority shareholders protection is ensured by means different from the possibility of selling their shares in the context of a mandatory takeover bid, but also other interests are deemed relevant.
Lastly, another mechanism of flexibility and proportionality is the possibility of suspension of the MBR, allowing the possibility of the holder of control to undertake before the CMVM to put an end to the control situation, without ever exercising its controlling position.
The combination of the applicable rules and principles allow the identification of a mandatory bid rule regime with flexibility and proportionality mechanisms, foreseen in order to promote the adequate composition of the interests involved, ultimately aimed at safeguarding the protection of minority shareholders faced with an effective change of control.
Conclusions
The survey results shows that three quarters of the jurisdictions covered by the report have provided for flexible or proportional means to implement takeover regulations in their corporate governance frameworks. This is regardless of the different approaches to takeover regulation adopts across jurisdictions, which the OECD Corporate Governance Factbook describes as including include mandatory as well as voluntary regimes, some operating ex-ante and others ex-post.
As argued in the chapter, in dealing with an area of regulation that may impose important burdens on their targets (i.e. preventing the board of the target company from deploying anti-takeover measures or force a buyer to give all other shareholders a chance to tender their own shares) at critical times in a firms' life, a flexible and proportional approach offers a way to ensure that the policy objectives are met without causing large unintended consequences.
This is part of the EU Takeover Directive approach as well, which includes mechanisms of flexibility and proportionality by allowing EU member states to opt-in or out with respect to certain provisions. The Portuguese case study offers a window into the thinking behind the choices the Portuguese authorities have adopted in implementing the Directive. For them, a combination rules and principles allows for the identification of a mandatory bid rule regime with flexibility and proportionality mechanisms, thought to promote the adequate equilibrium that can effectively protect minority shareholders' interest.
References
Hermalin, B. (2005), “Trends in Corporate Governance”, The Journal of Finance, Vol. 60/5, pp. 2351-2384, http://dx.doi.org/10.1111/j.1540-6261.2005.00801.x.
OECD (2015), G20/OECD Principles of Corporate Governance, OECD Publishing, Paris, https://doi.org/10.1787/9789264236882-en.
OECD (2017), “OECD Corporate Governance Factbook 2017”, http://www.oecd.org/daf/ca/Corporate-Governance-Factbook.pdf.
Pepper, A., J. Gore and A. Pepper Dba (2013), “The economic psychology of incentives: an international study of top managers The Economic Psychology of Incentives: An International Study of Top Managers The Economic Psychology of Incentives: An International Study of Top Managers”, http://dx.doi.org/10.1016/j.jwb.2013.07.002.
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Notes
← 1. The roundtable discussed the importance of a well-functioning and transparent market for corporate control for industrial restructuring and effective allocation of productive resources.
← 2. In two jurisdictions with ex-ante frameworks (Japan and Korea), acquisition of 5% of voting rights from more than 10 shareholders within a certain period is also prescribed as a trigger for mandatory takeover bids. In Italy, the triggering threshold is differentiated with reference to the size of companies. While SMEs may establish in the bylaws a threshold in the range between 25% and 40% of voting rights, the threshold for other companies is 25% of voting rights.
← 3. There are other mechanisms, used less often and particularly in situations involving illiquid stocks, such as the price being fixed by an appraiser firm or calculated based on net assets divided by number of shares.
← 4. See DAF/CA/CG/RD(2016)8.
← 6. Under Delaware corporate law, flexibility and proportionality is also present in the permissibility of corporations to adopt a dual class capital structure; adopt a 'poison pill' shareholder rights plan; structure the terms of directors so that re-election is staggered; not enable shareholders to act by written consent; and not provide a mechanism by which shareholders can call a special meeting. All of these defensive provisions, collectively and individually, may affect the company’s ownership and control structure and, in turn, its attractiveness to not only receive takeover offers in the market for corporate control, but also offers reflective of fair market value even if made.
← 7. Directive 2004/25/EC of the European Parliament and of the Council of 21 April 2004 on takeover bids, OJ L 142/12 of 30.03.2004, p.38. Available at htp://ec.europa.eu/internal_market/ company/official/index_en.htm.
← 8. Report from the Commission to the European Parliament, the Council, the European Economic and Social Committee and the Committee of the regions, on the application of directive 2004/25/EC on takeover bids, available at
https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:52012 DC0347&from=PT.