Recalibrating functional claiming: A way forward
What are the misconceptions and what should be done to recalibrate functional claiming standards accordingly?
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On December 6, 2018 the draft Market Abuse (Amendment) (EU Exit) Regulations 2018 were published together with an explanatory memorandum.
This instrument is being made in order to address deficiencies in retained EU law in relation to market abuse arising from the withdrawal of the UK from the EU. This instrument amends retained EU law relating to market abuse, including the EU Market Abuse Regulation No 596/2014 (MAR), the tertiary legislation made under MAR, and the UK legislation which complemented MAR, to ensure that the relevant legislation continues to operate effectively at the point at which the UK leaves the EU.
When the UK leaves the EU, UK trading venues will cease to be EU trading venues. Consequently, MAR would not apply to financial instruments admitted to trading or traded on UK venues. If not addressed, this would leave UK markets and market participants without the current protections in MAR. As a result, this instrument amends retained EU law related to market abuse so that it applies to financial instruments admitted to trading or traded on UK as well as EU trading venues. This will ensure that UK markets and financial instruments continue to be subject to the same requirements and protections as under MAR. This is deemed necessary to maintain confidence in the integrity and reputation of UK markets as the UK withdraws from the EU.
Other key amendments resulting from this instrument include:
If approved, regulations 1 (Citation and commencement), 2 (Amendment of the Criminal Justice Act 1993), 3 (Amendment of the Financial Services and Markets Act 2000) and 6 (Amendment of the Financial Services and Markets Act 2000 (Market Abuse) Regulations 2016) will enter into force the day on which the regulations are made, with the remainder taking effect on exit day.
On December 7, 2018 the London Stock Exchange (Exchange) announced a public censure and fine of £700,000 for breaches by Bushveld Minerals Limited (Company) of the AIM Rules for Companies, discounted to £490,000 for early settlement of the proceedings.
Summary of events
The Company was admitted to AIM in March 2012. In or around March 2016 the Company was considering entering into exclusivity arrangements in relation to a potential transaction to acquire an interest in a vanadium mine and plant. The transaction, if completed, would constitute a reverse takeover pursuant to AIM Rule 14. Pursuant to the terms of an exclusivity agreement entered into on March 24, 2016 relating to the transaction, the Company was required to place US$500,000 (Exclusivity Fee) on deposit with its lawyers, subject to a solicitor’s undertaking to release the Exclusivity Fee to the proposed vendor upon fulfilment of certain conditions.
The Exclusivity Fee was, at the time, a material sum in the context of the Company’s financial position. The Company’s nominated adviser advised the Company that, when the undertaking was given, the Company had committed itself to a binding obligation regarding the Exclusivity Fee which gave rise, on account of its materiality, to a without delay disclosure obligation pursuant to AIM Rule 11. Further, such notification would involve disclosing the reverse in contemplation and, pursuant to the guidance to AIM Rule 14, the Company’s securities would be suspended on notification.
The Company disagreed with the nominated adviser and sought separate advice from its lawyers on its AIM Rules disclosure obligations. The advice conflicted with that of the nominated adviser. The Company’s preference was to avoid or delay suspension of its shares until a point in time when it was more likely, in its view, that the reverse in contemplation would proceed. This was because the Company considered that a suspension would be prejudicial to its plans to complete a fundraising to provide funds for the transaction, to fund the development of its existing assets and, it hoped, reduce the materiality of the Exclusivity Fee.
When the undertaking was given on April 7, 2016, this gave rise to a without delay notification obligation but the Company did not inform its nominated adviser that the undertaking had been given. This was notwithstanding that during the period when its nominated adviser was providing AIM Rules advice and/or liaising with the Exchange, the Company knew or ought to have known that the nominated adviser was operating under the assumption that the undertaking had not yet been given (and therefore that the development which gave rise to a notification obligation had not yet arisen).
Breaches of AIM Rules
The AIM Rules that the Company breached are as follows:
In the Disciplinary Notice, the Exchange comments that, in its discussion with an AIM company, a nominated adviser should be able to have confidence that the AIM company will be providing it with all relevant information. An AIM company’s failure to be fully transparent is detrimental to an AIM company’s ability to comply with its AIM Rules obligations, as the nominated adviser cannot provide advice and guidance on the rules with a full understanding of the facts. In this case, the Company knew or ought to have known that, given the nominated adviser’s advice on disclosure, it was relevant to tell the nominated adviser that the undertaking had been given.
Further, where there is a question about the interpretation or application of a rule to the specific circumstances, a nominated adviser can seek guidance from the Exchange. However, the Company was aware that, having asked the nominated adviser to liaise with the Exchange, it had not provided it with the full facts thereby potentially affecting the Exchange’s ability to make fully informed regulatory decisions.
The Company did not wait for the fundraising to be completed before the undertaking was given although it was aware or ought to have been aware, from the advice of the nominated adviser, that a notification obligation had arisen. Accordingly, the breaches by the Company of the AIM Rules are serious and have resulted in this public censure and fine.
The Exchange notes that it has set out guidance in respect of AIM Rule 11 and 31, in public notices and Inside AIM. Accordingly, AIM companies should be in no doubt as to what is required for compliance with these obligations and where there is a breach of these fundamental rules, the Exchange reserves the right to pursue disciplinary action and seek to impose significant fines.
On December 6, 2018 the Financial Reporting Council (FRC) published its “Audit quality thematic review – Other information in the annual report” (Audit Review).
The Audit Review highlights that work on the information in the front end of company reports outside the financial statements does not consistently meet the requirements of Auditing Standards. Inconsistency in the extent and quality of the work in part reflects the non-prescriptive requirements in the Audit Standards. In addition, firms’ guidance to their auditors in some cases lacks prescription, which has led to changing approaches being taken to work, even by different audit teams within the same firm.
Although the FRC has identified some areas of good practices, the Audit Review notes that too frequently insufficient work was performed to support the statements made by auditors in respect of the other information in their audit reports. If it is materially inaccurate, other information can undermine the credibility of the audited financial statements or may inappropriately influence the decisions of users of the annual report. To improve the quality and consistency of their work on other information, the FRC expects auditors to:
On December 5, 2018 Companies House announced the implementation of additional checks in the application to register certain types of body corporate. The checks assess whether such applications contravene United Nations (UN) financial sanctions.
The UN imposes financial sanctions on individuals and corporate bodies because of the nature of their activities, such as genocide and terrorism. The UK Office of Financial Sanctions Implementation maintains two lists containing details of the individuals and entities that are subject to financial sanctions under UK or EU legislation (designated persons). As a company is considered an economic resource, if a corporate body is formed with a designated person in the corporate structure, it would constitute making an economic resource available in contravention of the UK sanctions regime, and could expose the Registrar of Companies to prosecution due to its involvement in the registration process.
From December 12, 2018 Companies House will be checking all applications to register UK companies, Societas Europaeas, LLPs and Scottish limited partnerships. Companies House will reject any applications to register if the details of its proposed directors, secretaries, members or people with significant control match the details of a designated person. Rejected applications can be resubmitted with evidence that the person concerned is not a designated person, so that Companies House can reconsider whether the application can be approved.
On November 28, 2018 the Quoted Companies Alliance (QCA) and Hacker Young published the Corporate Governance Behaviour Review 2018/19 (Review).
The Review looks at companies’ disclosures against the QCA Corporate Governance Code (QCA Code) after the instigation of the change to AIM Rule 26 on September 28, 2018. It also looks at the state of disclosures before that time, for comparison. The Review benchmarks the corporate governance disclosures made from a random selection of 50 AIM companies and compares these against the disclosures contained in the revised QCA Code, which was published in April 2018.
A group of institutional investors examined the results at a discussion roundtable and their reflections led to five recommendations for companies to improve their corporate governance disclosures:
The Review found that, in general, the number of company governance disclosures were significantly higher after the AIM Rule 26 change, particularly those regarding the disclosure of detailed information on independent directors and board performance.
Some of the highest increases in the number of companies making a particular disclosure related to corporate culture. Before September 2018, only 24 per cent of the companies explained how the board ensures that the company has the means to determine that ethical values and behaviours are recognised and respected. After the September 28 rule change, this rose to 80 per cent.
In addition, pre-September 28, 2018 only 10 per cent of the companies made reference in the Chair’s corporate governance statement to how the culture is consistent with the company’s objectives, strategy and business model in the strategic report. After September, this increased to 62 per cent.
However, some areas still require progress. For example, while 100 per cent of the companies already disclosed the identity of directors, only 4 per cent explained how each director keeps his/her skillset up-to-date – this rose to 32 per cent post-September 2018. Similarly, only 4 per cent included a detailed description of the board evaluation process, and this rose only to 12 per cent post-September 2018. In addition, pre-September 2018, none of the companies in the sample disclosed any information on plans for evolution of their governance framework in line with the company’s plans for growth. After September 2018, this rose to 9 per cent of companies.
On November 30, 2018 the Department for Business, Energy and Industrial Strategy published the Business Contract Terms (Assignment of Receivables) Regulations (Regulations). The Regulations prevent the parties to certain types of contract from restricting the assignment of receivables.
Regulation 2 of the new Regulations, made under the Small Business, Enterprise and Employment Act 2015, provides that, subject to certain exceptions, a term in a contract entered into on or after December 31, 2018 will have no effect to the extent that it prohibits or imposes a condition, or other restriction, on the assignment of a receivable. A receivable is defined as “a right to be paid any amount under a contract (other than an excluded contract) for the supply of goods, services or intangible assets”.
So far as corporate transactions are concerned, Regulation 4 sets out exclusions for specific types of contract, including a term in a contract "entered into for the purposes of, or in connection with, the acquisition, disposal or transfer of an ownership interest in a firm, wherever it is incorporated or established, or of a business or undertaking or part of a business or undertaking, and which includes a statement to that effect". “Firm" in this context has the same meaning as in the Companies Act 2006, meaning any entity that is not an individual and includes a body corporate, a corporation sole and a partnership or other unincorporated association.
The Regulations came into force on November 24, 2018 and apply to any term in a contract entered into on or after December 31, 2018.
What are the misconceptions and what should be done to recalibrate functional claiming standards accordingly?
On February 18, 2020, the Financial Reporting Council (FRC) published guidance for companies on the disclosure of risks and other reporting consequences arising from the emergence and spread of the coronavirus.