schemes of arrangement under the new companies act: better or worse?
A scheme of arrangement (a "Scheme") is one of the methods of effecting a take-over. A Scheme is particularly useful because it allows for the offeror to use the target company to negotiate with its shareholders collectively and then bind them to the arrangement agreed to by the 75% majority. Ordinarily, the common law and company law rights of the shareholders of the target company can only be modified with the consent of each of them, however in terms of a Scheme this is altered because, once implemented, the Scheme will also bind the shareholders who did not approve it.
Schemes, currently dealt with in terms of section 311 of the Companies Act No. 61 of 1973 (the "Old Act"), are retained under the Companies Act No. 71 of 2008 (the "New Act"). However, whilst many provisions remain the same, there are certain important differences to be considered by any offeror contemplating a take-over.
Under the Old Act the procedure to be followed if a take-over is to be implemented in terms of a Scheme is as follows:
- The target company would apply to court for leave to convene a scheme meeting of its shareholders to consider the Scheme.
- If the court grants leave to convene a scheme meeting, then the target company will send a circular to its shareholders covering the scheme meeting.
- If 75% of the votes exercisable by the shareholders present and voting at the scheme meeting agree to the Scheme then the target company will apply to court for an order sanctioning the Scheme.
- The court will then consider whether or not to sanction the Scheme. The decision whether or not to sanction the Scheme is within the court’s discretion, although in practice courts routinely sanction Schemes in terms of the Old Act provided the 75% majority is obtained and no shareholder who voted against the Scheme provides a material reason why the court should not so sanction the Scheme.
- If the court sanctions the Scheme, such sanction will only have effect once a certified copy thereof has been lodged with, and registered by, the Registrar of Companies.
- The Scheme will, of course, fail if: (a) the requisite 75% majority does not vote in favour of the Scheme at the scheme meeting; or (b) the court refuses to sanction the Scheme.
Under the New Act a Scheme falls into a category of transactions dealt with in terms of sections 112 to 116 (the "Fundamental Transactions"). The other two Fundamental Transactions are a sale of all or the greater part of a company’s assets or undertaking and a merger or amalgamation. The Scheme process under the New Act appears to be simpler than the one under the Old Act, in that the involvement of the court need not necessarily be required. However, the New Act also introduces a new concept of an "appraisal right" which is applicable to all three of the Fundamental Transactions and, as discussed below, this needs to be taken into account when implementing a Scheme under the New Act.
Under the New Act there are three key matters which are applicable to all of the Fundamental Transactions, namely: (a) shareholder approval in all circumstances; (b) court approval in limited circumstances; and (c) the appraisal right in all circumstances. In terms of the New Act a Scheme may only be implemented if it is approved by a special resolution of shareholders entitled to exercise voting rights on such matter at a Scheme meeting where persons who are entitled to exercise at least 25% of the voting rights on that matter are present. However, despite the aforesaid special resolution having been adopted, court approval will be required before a Scheme under the New Act can be implemented as follows:
- if the special resolution was opposed by at least 15% of the voting rights that were exercised on that resolution then any person who voted against such resolution has the automatic right to require the company to seek court approval;
- if any person (the "Applicant") who voted against the special resolution successfully applies to court for leave to require court approval (the implication being that this mechanism would be used where less than 15% of the votes were against the special resolution and so the mechanism in paragraph 5.1 cannot be used). In this situation there is no "automatic" right to require court approval and the court can only grant leave to the Applicant if the court is satisfied that the person applying for leave is: (a) in good faith; (b) appears prepared and able to sustain proceedings; and (c) has alleged facts which, if proved, would allow the court to set such resolution aside. If leave is granted, then the Applicant will be entitled to require court approval before the transaction can be implemented; or
- in the case of paragraph 5.1, or in the case of paragraph 5.2 if the court grants the person leave, the court may only set aside the special resolution (and thus decline approval of the Scheme) on the basis that: (i) the resolution is manifestly unfair to any class of shareholders; or (ii) the vote was materially tainted by conflict of interest, inadequate disclosure, failure to comply with the New Act, the memorandum of incorporation of the target company, applicable rules of the target company or any other significant and material procedural irregularity.
Further, any shareholder will be entitled to seek an appraisal remedy in terms of section 164 of the New Act in regard to the Scheme if that shareholder: (a) notified the company in writing prior to the special resolution which is to be voted on that it intends to oppose the special resolution on the Scheme; and (b) was present at the meeting and actually voted against that special resolution. The appraisal remedy is a new shareholder protection provided in section 164 of the New Act, in terms of which the company must, if so demanded by a shareholder in the aforesaid circumstances, pay such shareholder the fair value for all of the shares held by that shareholder in the company in cash.
The three most important distinctions between Schemes under the Old Act and those under the New Act are that: (a) in terms of the New Act there now exists an appraisal right, where no such right existed under the Old Act; (b) in terms of the Old Act two court approvals/orders are always required (one to convene the scheme meeting and one to sanction the Scheme), whereas in terms of the New Act court approval is only required under the limited circumstances described in paragraphs 5.1 to 5.3 above; and (c) in terms of the New Act a report, which appears to be akin to a "fair and reasonable" report, must be provided by an independent expert to the board and distributed to shareholders.
The advantage of the Scheme under the Old Act is that it is tried and tested, has no appraisal right and no fair and reasonable report requirement. The disadvantage is that it requires two court applications. The advantage of the Scheme under the New Act is that it only requires court approval in limited circumstances. The disadvantages are that it is not tried and tested, has the appraisal right and has the fair and reasonable report requirement. As can be seen from the aforegoing, the simpler Scheme process introduced by the New Act may not necessarily be more advantageous to the target company than that which is currently in force under the Old Act. Accordingly, persons who have the luxury of electing whether to implement a Scheme now under the Old Act or to wait for the New Act would do well to consider these issues before making the election.
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