Out-Law Analysis | 07 May 2020 | 10:16 am | 9 min. read
In the UK, investors have backed existing companies to the tune of £2.8 billion in the last six weeks, representing around 60% of total primary issuance in Europe since the start of the crisis. The indications are that fund managers remain supportive and, like the rest of us, have switched to video calls to participate in 'virtual' investor roadshows.
We expect this trend to continue, but there are a number of factors which companies must consider when deciding on the most appropriate structure. We also expect the investor community to continue to welcome well thought-out fundraisings where the company has considered the size of the fundraising, the use of proceeds and detailed analysis of the impact of Covid-19 on the business as well as, for companies with external bank debt, supportive lenders.
A primary equity capital raising is generally an attractive option for listed companies looking for a quick way to raise finance to shore up their balance sheets and manage the short-term impact of Covid-19, particularly when debt may be harder to access for those companies which had covenant issues before the crisis or when it may take longer to receive bank loans while the banks grapple with processing the high volumes of applications for the new government schemes.
The principal options available to UK listed companies looking to raise additional capital by undertaking a secondary issue are:
One advantage of open offers over rights issues is that where there are any conditions attached to the fundraising - such as the passing of shareholder resolutions at a general meeting - the offer period can run concurrently with any notice period or other conditions rather than consecutively. The result is that the company can receive the money raised up to three weeks earlier than would be the case for a rights issue.
A placing involves an issue of shares for cash to a selected group of investors rather than to shareholders generally. It is the simplest and quickest way of raising equity on the basis it does not typically require a prospectus or shareholder approval.
If the relevant shareholder authorities are already in place, the placing can be completed in a matter of days. Even if shareholder approval is required, the timetable will be two or three weeks less than for a rights issue. Recently, we have seen a number of company directors participate in the fundraising by way of a direct subscription of shares rather than joining in the placing itself. This is most likely to avoid any delays in sorting out 'know your customer' (KYC) issues with the relevant bookrunners.
The preferred method of carrying out a placing, particularly at present, is an accelerated bookbuild (ABB). This involves the placing being undertaken on a compressed timetable, with little or no marketing of the offer. No prospectus is required since the fundraising targets institutional investors only, and the shares are offered based on a detailed press announcement.
One trend we have observed recently is the return of the 'cash box' structure, allowing a company to issue new shares without having to disapply the pre-emption requirements in the 2006 Companies Act (CA06). A company using a cash box structure will place its shares in exchange for ordinary and preference shares in a special purpose vehicle (SPV) 'cash box' company, which is often Jersey incorporated.
Over a third of recent placings have adopted a cash box structure. They are particularly attractive in the current market as the structure can be used for a fundraising of up to 19.99% of a company's share capital. An issue of 20% and above would require a prospectus.
A placing is often combined with an 'open offer' - an offer of new shares made to existing shareholders on a pre-emptive basis, i.e. pro rata to their existing holdings.
One advantage of open offers over rights issues is that where there are any conditions attached to the fundraising - such as the passing of shareholder resolutions at a general meeting - the offer period can run concurrently with any notice period or other conditions rather than consecutively. The result is that the company can receive the money raised up to three weeks earlier than would be the case for a rights issue. Where timing is critical, the open offer tranche is limited to €8 million to avoid the need for a prospectus, while still giving existing shareholders the opportunity to participate.
Typically, when an open offer is combined with a placing, all of the new shares that are made available under the open offer are pre-placed with institutional investors which effectively 'underwrite' the fundraising by ensuring that all new shares will be taken up even where existing shareholders do not take up their pro rata entitlements. Any shares not subscribed for, or 'clawed back', by existing shareholders are automatically taken up by the institutional investors.
For shareholders, the disadvantage is that subscription entitlements are not transferable in an open offer unlike nil paid rights in a rights issue.
A rights issue is an offer of new shares made on a pro rata basis to existing shareholders. The right to subscribe for the new shares is of value in itself so a shareholder can sell that right in the market 'nil paid'; that is, before being required to pay for the shares. Even if the shareholder takes no action, it retains the right to receive any value above the subscription price if the shares that it could have taken up are sold in the market at a premium.
Shareholder groups prefer rights issue for larger fundraisings, as they give the company's shareholders the ability to preserve their pre-emption rights while also giving them an opportunity to profit without having to participate. However, rights issues take significantly longer to complete than placings, given that an approved prospectus needs to be published. For companies wishing to raise funds quickly, this delay can be off-putting.
Usually a number of factors will influence the method a company chooses to raise cash including the amount to be raised, the likely reaction of the market and existing shareholders, the intended use of the proceeds and the proposed timetable for raising funds. Other factors are likely to be particularly influential against the backdrop of the current crisis.
One of the factors which will impact the timing of any fundraising is whether the company has adequate shareholder approvals. Do the directors have sufficient authority in place to allot shares, and to what extent can they allot shares on a non pre-emptive basis?
If insufficient shareholder approvals are in place, a general meeting will need to be built into the timetable. This will delay completion by around 16 days, pushing back the date on which the company will receive the funds. The government's social distancing requirements will also need to be factored into convening and holding a general meeting.
Speed of completing a raise is likely to be a critical factor in deciding the best structure in the current climate. Companies will rightly want to 'strike while the iron is hot' and funds and shareholder support are available. Given the shorter timetable available when using placings, whether ABB or cash box, the vast majority of recent deals have used this structure. If a fundraising is not urgent, or a larger fundraising is contemplated, companies may well opt for a rights issue and we expect rights issues to become more common from the end of May or early June.
Companies should also consider if any emergency funding is needed from lenders before they receive the proceeds of the fundraising. Lending banks typically require companies to have received the placing proceeds before they will permit debt draw down, and so inter-conditionality of the equity fundraising and any bank facility will need to be factored in.
If a prospectus is needed, this will obviously increase the time needed for completion of a fundraising. This is likely to be one of the reasons why we have not seen any rights issues announced in the last six weeks.
Companies should consider how they will undertake the due diligence required for a prospectus given the impact of Covid-19 and the social distancing requirements, as well as how they will give a working capital statement and how to assess and formulate appropriate risk factors.
The use of cash box structures has accelerated hugely in the last six weeks, as companies can use them for a fundraising of up to 19.99% of the share capital. In the past, these structures have been criticised by shareholder groups because they enable the issuer to circumvent statutory pre-emption rights. Indeed, some practitioners fear they are open to challenge, but the prevailing market view is that they legitimately make use of the exemption from the statutory pre-emption rights in section 565 of CA06.
Ultimately, if the majority of the shareholder base is supportive, companies should have nothing to fear. Nevertheless, prudent companies should engage with key shareholders before launching a cash box exercise.
If so, who will underwrite the raise: an investment bank, or a key shareholder? Or will there be an effective underwrite by institutional shareholders of an open offer combined with a placing?
One factor to bear in mind is whether any investor or its concert party could end up with a resulting holding of 30% or more of the company's shares, as this would require a 'whitewash' circular and independent shareholder approval of the proposed transaction. Advisers would need to liaise with the UK Takeover Panel in connection with this, thereby lengthening the process.
Companies should consider whether any other consents are needed. For example, is consent needed under existing bank facilities? Or is shareholder consent needed under the Listing Rules if a premium listed Main Market company intends to issue shares at a discount of more than 10%? Is a fair and reasonable opinion needed depending on the size of the issue, or whether directors or major shareholders are participating in the placing?
On 1 April, the Pre-Emption Group (PEG) temporarily relaxed its position on pre-emption rights to recommend that investors consider supporting a fundraising on a non pre-emptive basis of up to 20% of the share capital rather than its usual recommendation that investors support an issuance of up to 5% for general corporate purposes and an additional 5% for specified acquisitions or investments.
The PEG's relaxation is intended to assist companies looking to strengthen their balance sheets as a result of the impact of Covid-19, and is not intended to be a more general relaxation of the long-standing principle. In addition, in order to benefit from the additional flexibility, companies must have regard to their particular circumstances and how they are supporting stakeholders, consult with major shareholders, make any issuance on a 'soft pre-emption' basis and ensure that management take part in the allocation. Companies will therefore need to assess whether their particular circumstances will allow them to make use of this relaxation.
Concerns have been raised about large non pre-emptive offerings bypassing retail shareholders, especially on the largest cash box placings. As noted above, one of the PEG's expectations is that companies will observe 'soft pre-emption', but this is not possible in the case of individual retail shareholders unless a company has the time to issue a prospectus.
PrimaryBid, an investment platform application partnered with the London Stock Exchange, allows retail shareholders to make orders in primary capital raisings at the same price as institutional investors. In recent weeks, PrimaryBid has been able to bridge the gap for retail investors where companies have not had the time to make a rights issue or open offer. There were three PrimaryBid offers during April, each connected to an accelerated placing, and PrimaryBid has completed 54 deals since its launch.
PrimaryBid is not a perfect solution in these cases. It operates a 'first come, first served' allocation policy and is open to any retail investor who uses the app, with no requirement to be an existing retail shareholder before participating in a placing. Additionally, PrimaryBid must structure its accelerated offers within a prospectus exemption, meaning no more than €8 million can be raised from retail shareholders in any PrimaryBid offer. This means that, for the largest fundraises by companies with the broadest registers, the only way for them to fully include their retail shareholders is by launching a rights issue or open offer with a prospectus.
Additional contributions by Gareth Jones and Alasdair Weir of Pinsent Masons, the law firm behind Out-Law.
23 Apr 2020