On April 8, 2020 the Financial Conduct Authority (FCA) announced a package of measures intended to assist companies to raise new share capital in response to the coronavirus crisis, whilst retaining an appropriate degree of investor protection.
In this briefing, we consider the key areas covered by these measures and their practical application.
The FCA urges market participants to carefully review and consider the guidance published by the Pre-Emption Group on April 1, 2020 (PEG Guidance), which recommends that investors consider supporting non-pre-emptive issuances of up to 20 per cent on a case-by-case basis in order to help companies in the current exceptional circumstances.1
The PEG Guidance explains the conditions that should be applied where companies are seeking this additional flexibility, including that (as far as possible) the offering should be made on a soft pre-emptive basis. In this context, the FCA notes that so-called soft pre-emption involves the bookrunner allocating shares to investors in accordance with an allocation policy which seeks (to the extent possible within the constraints of the exercise) to replicate the existing shareholder base, although the limitations of the exercise mean that it is unlikely that all shareholders will be able to participate.2 The FCA also makes the point that issuers can play an important role in delivering soft pre-emption and encourages them to exercise their right to be consulted on/direct bookrunners’ allocation policies.
The FCA notes that it will be monitoring how the new practices are applied and whether any risks to market integrity or consumer protection arise as a result.
Market participants are also reminded that, where inside information is being disclosed during the process of consultation with shareholders, following the market soundings procedure under the Market Abuse Regulation (MAR) will provide protection against allegations of unlawful disclosure.
Given the current volatility of the markets and the fact that companies may need to move quickly to raise capital, the endorsement of the PEG Guidance by the FCA is helpful. As noted by the FCA, the PEG Guidance has also been welcomed by the Association for Financial Markets in Europe (AFME) which has recommended that its members follow the guidance.
More generally, and consistent with the PEG Guidance, certain investors have also indicated a willingness, in appropriate circumstances and subject to certain provisos, to support significant equity fundraisings (including by way of cashbox) by companies with a long-term sustainable business.
Use of shorter form prospectus
Where a company is issuing a prospectus in connection with an equity raise to recapitalise itself in response to the coronavirus crisis, the FCA encourages the use, where possible, of the simplified form of prospectus for secondary issues introduced under the Prospectus Regulation in July 2019.
This option is available to companies that have been admitted to trading on a regulated market (such as the Main Market of the London Stock Exchange) or SME growth market (such as AIM) for at least 18 months. When compared to a traditional prospectus, disclosure under this regime is more focused on changes that have occurred since the last annual report as well as the rationale for the offering, and certain of the customary prospectus disclosure requirements (for example the need for an operating and financial review) do not apply.
Although the form of prospectus permitted for secondary fundraisings is simplified in certain respects, its production and the need for it to be approved by the FCA in the usual way will still involve additional time and expense for issuers. As a result, where companies are looking to raise funds in a short timeframe we would expect the focus (at least in the immediate term) to continue to be on non-pre-emptive placings that do not require a prospectus, consistent with recent market activity.
Where the structure of a fundraising means that a prospectus is required (for example a rights issue or open offer), although the option to produce a simplified document may be welcome for some issuers, as the FCA notes it may not be feasible in all circumstances – in particular, where the offering is being extended into other jurisdictions such as the US and compliance with relevant securities laws may mean reduced disclosure is not permitted. This will be of particular relevance for companies with a material overseas shareholder base or for fundraisings where the underwriters require the flexibility to place shares into specific jurisdictions – in these scenarios an assessment of compatibility with relevant overseas securities laws will be required.
Working capital statements
Prospectuses must include a working capital statement covering a period of at least 12 months – this can either be given on a “clean” basis or on a qualified basis (i.e. stating that the issuer does not have sufficient working capital, in which case it must also include further disclosure on the reasons for this and the issuer’s proposals to remedy the shortfall).
The FCA notes that the uncertainty created by the coronavirus pandemic and the economic impact of the public policy response makes the financial modelling underpinning the working capital statement uniquely challenging – in particular, the requirement under recommendations published by the European Securities and Markets Authority (ESMA Recommendations) that, in terms of sensitivity analysis, issuers should assess whether there is sufficient margin or headroom to cover a reasonable “worst-case scenario”. The FCA notes that many issuers are currently unable to model a reasonable worst-case scenario and, without modification, the approach in the ESMA Recommendations would result in a significant number of working capital statements published as part of recapitalisation exercises being qualified – i.e. stating that the issuer does not have sufficient working capital for its present requirements. The FCA doubts that this is useful to existing or potential investors and notes that investors should be provided with the necessary information to distinguish (for example) otherwise financially sound companies that need to strengthen their balance sheet due to coronavirus-related disruption to the business from those companies with more profound problems, which do not have sufficient working capital to cover at least the next 12 months.
As a result, the FCA will temporarily adopt a different approach to working capital statements in prospectuses (and in circulars published by premium listed issuers which are required by the Listing Rules to include a working capital statement) for the duration of the coronavirus crisis. Full details are set out in a technical supplement published by the FCA. In summary:
- Issuers making an otherwise clean working capital statement will be permitted to disclose key modelling assumptions underpinning the reasonable worst-case scenario.
- These assumptions must be clear, concise and comprehensible and may only be coronavirus-related. The technical supplement sets out examples of factors that may be included in such additional disclosure, as well as examples of disclosures the FCA would not expect to see.
- There must be a statement that the working capital statement has otherwise been prepared in accordance with the ESMA Recommendations and the technical supplement referred to above.
This approach can only be followed where both of the following conditions are met:
- The issuer and its advisers are of the opinion that the issuer and its group have sufficient working capital for at least 12 months from the date of the prospectus/circular and this is supported in the usual way, with the normal standard of preparation for a working capital statement having been observed (including the comforts produced by the reporting accountants and other advisers and compliance with the ESMA Recommendations).
- The coronavirus assumptions underpinning the reasonable worst-case scenario are considered to be subject to significant uncertainty (it is noted that this may be expressed, for example, as an emphasis of matter paragraph in relation to this uncertainty in an otherwise unqualified comfort letter by the reporting accountants).
As such, additional disclosure of coronavirus assumptions may not be appropriate for all issuers proposing to make a clean working capital statement and, equally, a qualified working capital statement may still be appropriate for some issuers.
Unsurprisingly, the FCA notes that disclosure in the working capital statement should be consistent with disclosures in the document as a whole (including, among other things, risk factors, trend information, business overview and significant change statements). Issuers are also reminded that, where the working capital statement takes into account existing bank facilities or the proceeds of an issue, this will only be consistent with a clean working capital statement to the extent that the proceeds are fully underwritten/the bank facilities are contractually committed for the relevant period. In this context, the FCA notes that issuers and their advisers should consider whether force majeure/material adverse change clauses in underwriting or facility agreements can be triggered by events linked to the coronavirus crisis and the degree to which any risks arising from this will impact the working capital statement.
The FCA also notes that, where the issuer and its advisers determine that material changes are required to be made to the assumptions disclosed in relation to the working capital statement as a result of new information coming to light after publication, the issuer should consider its obligations in relation to supplementary prospectuses under the Prospectus Regulation (or, in the case of a circular, in relation to supplementary circulars under the Listing Rules).
Additional guidance for companies and advisers in relation to the form and content of working capital statements is to be welcomed – as the FCA notes, this is a uniquely challenging area for issuers and their advisers given the current uncertainty generated by the pandemic. However, there will still be a number of practical difficulties inherent in formulating a view on the company’s working capital position and prospects. The nature and formulation of the reasonable worst-case scenario and appropriate assumptions underpinning it (together with the justification therefor) will also present challenges for companies and their advisers notwithstanding the ability to make disclosure of these where appropriate. In light of the rapidly evolving situation, any assumptions will also need to be kept under ongoing review, and as the FCA notes additional disclosure may be required to the extent the position changes following publication. It will be interesting to see how market practice develops in this area.
General meeting requirements under the Listing Rules
The FCA acknowledges that issuers may be facing challenges in holding general meetings as a result of the coronavirus pandemic and that, in addition to this, the notice period for convening a general meeting extends transaction timetables and may jeopardise an issuer’s ability to complete a critical fundraising quickly.
The FCA has therefore published a further technical supplement temporarily allowing companies (on a case-by-case basis) to apply for a dispensation from the requirement under the Listing Rules to convene a general meeting to approve a Class 1 or related party transaction. In summary, a dispensation will only be granted where both of the following conditions are met:
- The issuer has obtained (or will obtain) written undertakings from shareholders who would be eligible to vote on the relevant resolution(s) under the Listing Rules, confirming that they approve the proposed transaction and would vote in favour of it were a general meeting to be held – there must be sufficient undertakings to meet the relevant threshold for obtaining shareholder approval. The technical supplement contains further guidance on the terms of the undertakings – in particular they must be clear, unequivocal and not subject to caveats (the FCA notes that certain caveats included in some “irrevocable” commitments used in the market at the moment would not be considered acceptable under this dispensation). Proxy forms that have been completed and returned by shareholders cannot be taken into account in establishing whether the threshold has been met (and written undertakings must be given by shareholders not by proxies).
- The issuer confirms to the market that it has obtained sufficient written undertakings to meet the threshold to pass the resolution(s) and, subject to the dispensation being granted, is not proceeding with a general meeting.
An RIS announcement and circular must still be published containing the information required under the Listing Rules. The issuer should also engage with shareholders to ensure they are appropriately informed and aware of its actions.
Where the issuer has already obtained sufficient written undertakings from shareholders at the time the circular is published, the transaction can complete once the circular has been published (subject to the satisfaction of any other conditions that may apply). Where the issuer has not yet obtained sufficient written undertakings at the time of publication of the circular, it must release an additional RIS announcement once sufficient undertakings have been obtained, at which point the transaction can complete (again, subject to satisfaction of any other conditions).
Where there is a material change to the terms of the transaction after obtaining shareholder approval but before the transaction has completed, companies would need to re-run the process of gaining shareholder undertakings.
The FCA notes it is possible that, in some circumstances, individual shareholder undertakings could constitute inside information – in particular, where the transaction is announced and the circular is published before sufficient shareholder undertakings have been received, the ultimate success of the transaction could turn on the receipt of individual undertakings. All parties will therefore need to consider the application of MAR in this context.
The FCA also makes it clear that the usual requirements for issuers to appoint, or seek guidance from, a sponsor continue to apply. Services provided by a sponsor in relation to a Class 1 transaction or related party transaction remain a sponsor service and, as such, sponsors should continue to meet their obligations to the FCA, even if a dispensation from the requirement for a general meeting is sought.
While additional flexibility in this context is to be welcomed, as a practical matter, this approach will only be available where companies can achieve the necessary approval threshold. For controlled companies or those with a number of significant shareholders this may be feasible, but it will be more challenging for companies with a more fragmented shareholder base. The derogation also only applies to resolutions required under the Listing Rules to approve Class 1 and related party transactions – where shareholder approval is needed for other reasons (for example, to seek authority for an associated share issue) a general meeting will still be required. For a more detailed discussion of issues around the logistics of convening and holding a general meeting in light of current social distancing measures and other restrictions see our separate briefing Impact of COVID-19 on UK AGMs: An update (which discusses issues arising where meetings of shareholders are required).
Although a derogation from the requirement to hold a shareholder meeting will help to shorten the overall transaction timetable, the fact that a circular will still need to be prepared, approved and published means issuers will still need to consider the impact on timetable, the management time involved (particularly during a period when management teams are likely to be significantly stretched) and transaction work streams more generally – in particular in the context of a Class 1 transaction, given the detailed disclosure requirements that apply.
Where a derogation is sought, we expect that companies will likely prefer (where possible) to obtain the necessary confirmations prior to publication of the circular so that the transaction can complete as soon as possible.
Companies and their advisers should also note that the FCA does have existing powers under Chapter 10 of the Listing Rules to modify the usual requirements to prepare a circular and obtain shareholder approval in relation to Class 1 disposals by companies in severe financial difficulty. However, this requires a number of conditions to be met including (among other things) confirmation from the company that negotiation does not allow time for shareholder approval and that all alternative methods of financing have been exhausted and confirmation from the sponsor that (in its opinion) the company is in severe financial difficulty and will not be in a position to meet its obligations as they fall due unless the disposal takes place according to the proposed timetable. As a result, these existing powers will only be relevant in a limited number of circumstances.
Control of inside information under MAR
The FCA notes that it remains important for issuers and advisers to continue to manage and control inside information and reminds companies that they are still required to comply with their obligations in relation to identification, handling and disclosure of such information. In the context of recapitalisation issues this will, in particular, include sharing inside information in accordance with MAR and maintaining appropriate insider lists.
For a discussion of companies’ disclosure obligations under MAR, see our separate briefing COVID-19: Disclosure issues for UK listed companies under MAR.
In the current challenging climate, any move to increase flexibility and facilitate equity fundraisings will be welcomed by issuers. It is helpful that the FCA has implemented new measures adapting its usual approach in relation to working capital statements and general meetings, as these are both areas that raise particularly thorny issues in light of COVID-19. Highlighting the PEG Guidance and reminding market participants about the simplified prospectus route that may be available for secondary fundraisings is also positive. Whilst, as noted above, there may be practical limitations on the extent to which companies are able to take advantage of some of these options depending on their individual circumstances, the FCA will, of course, have been keen to ensure that a balance is struck between the interests of issuers and maintaining an appropriate degree of investor protection in this context.
The FCA notes that its response to the coronavirus crisis will continue to evolve as the situation develops and that it would welcome feedback from stakeholders on the measures it has implemented as well as views on any future actions or clarifications which would address arising risks and help to ensure the market functions well.
For a further discussion of the different financing options that may be available to companies, please also see our separate briefing Raising finance in challenging markets: Key considerations for corporates.