Essential Corporate News – Week ending October 19, 2018

Welcome to Essential Corporate News, our weekly news service covering the latest developments in the UK corporate world.

On October 17, 2018 the Code Committee of the Takeover Panel (Panel) published PCP 2018/1 proposing amendments to Rule 29 of the Takeover Code (Code) which relates to asset valuations.

Having conducted a review of the purpose and operation of Rule 29, the Panel notes that it does not currently reflect certain aspects of the Panel Executive’s practice. Although it is not intended to materially alter the way in which Rule 29 is currently applied, it is proposed that a revised Rule is introduced in order to (amongst other things) provide better clarity in certain areas and codify current practice.

The following are the key proposals:

• Valuations to which Rule 29 applies - It is proposed that Rule 29 should apply to an asset valuation published by the offeree company or a securities exchange offeror: during the offer period; in the 12 months prior to the commencement of the offer period; or more than 12 months prior to the commencement of the offer period, but only if attention is drawn to that valuation by the offeree company or the securities exchange offeror (as applicable) in the context of the offer. However, irrespective of when it is published, Rule 29 should not apply to a valuation that is not considered by the Panel to be material to offeree company shareholders in making a properly informed decision as to the merits or demerits of the offer.
• Types of asset to which Rule 29 applies - The current practice of applying Rule 29 principally to valuations of land, buildings, plant or equipment, mineral, oil or gas reserves and unquoted investments, is to be codified. However, it will continue to be capable of being applied to valuations of other types of assets in addition to these as well as to valuations of liabilities.
• Net asset values and adjusted net asset values - If an offeree company or a securities exchange offeror publishes, or has published, a net asset value figure or an adjusted net asset value figure in circumstances where Rule 29 would apply if a valuation had been published in respect of the underlying assets, Rule 29 will require a valuation of those underlying assets to be published.
• Requirements for a valuation report - A valuation published during an offer period will need to be in the form of, or accompanied by, a valuation report and a valuation published before the commencement of an offer period will need to be confirmed in, or updated by, a valuation report. A valuation report will need to be prepared by a valuer who satisfies a number of criteria (including that they are considered by the Panel to be independent and appropriately qualified) and the report must also comply with specific contents requirements. If the date as at which the assets were valued is not the same as the date of the document or announcement in which the valuation report is published, the relevant document or announcement must include a statement that the valuer has confirmed to the directors that an updated valuation would not be materially different.
• Other proposals - The current requirement for a statement as to the tax consequences if the assets the subject of the valuation were to be sold at the amount of the valuation will be retained, but the new Rule 29 clarifies that an estimate of the amount of the tax liability which would arise should also be given unless the Panel consents otherwise. If the Panel does give its consent, an explanation will have to be provided as to why a meaningful estimate cannot be given and as to the tax consequences of the sale of the assets.

A new requirement to consult the Panel in advance if the publication of information contained in valuation report could constitute a profit forecast is also being introduced.

The existing rule that a party to an offer is not normally permitted to publish a valuation of the assets of another party unless supported by an unqualified valuation report is to be retained with minor amendments.

Response to consultation

Comments on the amendments to the Takeover Code proposed in the PCP are requested by December 7, 2018.

(Takeover Panel, PCP 2018/1 – Asset valuations, 17.10.18)

On October 12, 2018 the Department for Business, Energy and Industrial Strategy (BEIS) published a notice in relation to cross-border legal entities and EU-specific entities. The notice explains the implications for legal entities operating across the UK-EU border, or which are European specific entities, in the event that the UK leaves the EU in March 2019 with no agreement in place.

After March 29, 2019 if there is no deal, the Government will ensure that the UK continues to have a functioning regulatory framework for companies and that, as far as possible, the same laws and rules that are currently in place continue to apply.

The notice states, amongst other things:

• For companies incorporated in countries outside the EU that operate via a branch in the UK, they will remain third country businesses and the overseas company regime in the Overseas Companies Regulations 2009 will continue to apply to them.
• EU companies that operate branches in the UK will become subject to the same information and filing requirements as other third countries’ companies' branches.
• An EU company with a branch in the UK that is required by the law of the EEA state where the company is incorporated to prepare, have audited and disclose accounts, will be required to file in the UK accounting documents which will include the accounts, any annual directors' report, any auditors' report on the accounts, and any auditors' report on the directors’ report. An EU company with a branch in the UK which does not meet this description will, after exit day, have to comply with the provisions of Part 15 Companies Act 2006 that have been applied (with modifications) to overseas companies by the Overseas Companies Regulations 2009.
• UK citizens may face restrictions on their ability to own, manage or direct a company registered in the EU, depending on the sector and EU Member State in which the company is operating.
• UK businesses that own or run business operations in EU Member states are likely to face changes to the law under which they operate, depending on the sector and EU Member State in which the company is operating.
• UK companies and LLPs that have their central administration or principal place of business in certain EU Member States may no longer have their limited liability recognised, such as in jurisdictions that operate the real seat principle of incorporation.
• Cross-border mergers involving UK companies will no longer be able to take place under the Cross-Border Mergers Directive, although they can be structured through private contractual arrangements, and since the UK will no longer be an EU Member State, other EU Member States will not be required to give effect to cross-border mergers that do not complete prior to the UK exiting the EU.
• For Societas Europaea and European Economic Interest Groupings registered in the UK that have not made alternative arrangements before exit, the Government will put in place a way of automatically converting them into a new UK corporate structure so that they will have a legal status post exit. For Societas Europaea this will include maintaining the employee involvement provisions.
• Societas Europaea have the option of converting to a UK public limited company provided they have been registered as a Societas Europaea for at least two years or have had two sets of annual accounts approved or they may want to consider whether they wish to move their seat of incorporation to another EU Member State.

(BEIS Guidance: Structuring your business if there’s no Brexit deal – 12.10.18)

On October 12, 2018 the Department for Business, Energy and Industrial Strategy (BEIS) published a notice explaining the implications for accounting, corporate reporting and audit if the UK leaves the EU in March 2019 with no Brexit agreement in place.

The notice states that if after March 2019 there is no deal, the Government will ensure that the UK continues to have a functioning regulatory framework for companies and that, as far as possible, the same laws and rules that are currently in place continue to apply, but certain changes will be necessary to reflect that the UK is no longer an EU Member State.

Audit

A number of points, including the following, are made:

• The rules relating to audits of UK companies operating solely within the UK will be unchanged but there will be additional requirements relating to the audits of UK companies operating cross-border and to the provision of audit services cross-border.
• The UK will provide individual auditors with EU qualifications with a transitional period, from exit until the end of December 2020, during which they can apply to be recognised as auditors in the UK subject to passing an aptitude test. At the end of the transitional period EU auditors will cease to benefit from automatic recognition of their qualifications in the UK and may no longer be offered an aptitude test.
• Audits of EU companies seeking to raise capital by issuing shares or debt securities on a regulated market in the UK will need to be undertaken by an auditor registered with the Financial Reporting Council (FRC). The audits will need to be included in a cycle of inspections, in which the FRC will visit the registered auditor in the EU Member State where the business is incorporated until that Member State is recognised in the UK as having an equivalent audit regulatory framework.
• Audits of UK businesses seeking to raise capital by issuing shares or debt securities on a regulated market in the EU will need to be undertaken by an auditor registered as a ‘third country auditor’ in the EU Member State in which the market operates. The audit will then be in scope of a cycle of inspections by the recognised authority for that market.
• EU businesses operating in the UK seeking to raise capital by issuing shares or debt securities on a regulated market in the UK may wish to consider securing the services of an auditor registered with the FRC and UK businesses who wish to raise capital by issuing shares or debt securities on a regulated market in the EU may wish to consider securing the services of a ‘third country auditor’ registered in the relevant Member State.

Accounting and corporate reporting

A number of points, including the following, are made:

• UK incorporated subsidiaries and parents of EU businesses will continue to be subject to the UK’s corporate reporting regime but certain exceptions in the Companies Act 2006 relating to the preparation of individual accounts will no longer be extended to companies with parents or subsidiaries incorporated in the EU. For example, a UK company is currently exempted from having to prepare individual accounts if it is dormant and part of a group of companies with an EU parent company that prepares group accounts. This exemption will only continue to apply after exit if the parent company is established in the UK.
• UK businesses with a branch operating in the EU will become third country businesses and will be required to comply with specific accounting and reporting requirements for such businesses in the Member State in which they operate.
• UK companies listed on an EU market may also be required to provide additional assurance to the relevant listing authority that their accounts comply with International Financial Reporting Standards as issued by the International Accounting Standard Board. This will need to be done in accordance with EU third country requirements.
• Subsidiaries and parents of EU companies established in the UK will need to make themselves familiar with the exemptions in the Companies Act 2006 relating to accounting and reporting requirements that will no longer be extended to UK companies with parents or subsidiaries incorporated in the UK.
• Branches of EU companies established in the UK will become subject to additional requirements under the overseas companies regime, and after exit will be subject to the same accounting and reporting requirements as non-EU companies that have a branch here.

(BEIS: Accounting and audit if there is no Brexit deal guidance – 12.10.18)

On October 18, 2018, the Financial Reporting Lab (Lab) of the Financial Reporting Council (FRC) published a report which considers how reporting practice in relation to both business model reporting and risk and viability reporting has changed since the Lab published its “Business model reporting” report in October 2016 and its report on “Risk and viability reporting” in November 2017. The report also examines how companies have responded to suggestions for good practice disclosure that were presented in those reports and it highlights examples where companies have thought about and demonstrated how to enhance the value of their disclosures.  

• Business model reporting - The report notes that investors do not expect key information about the business model to always reside within the business model disclosure itself, as they appreciate the need for flexibility and for companies to structure their communications in a way that best meets their stakeholders’ needs. However, investors do seek clear disclosure that builds understanding either directly or through cross-referencing and coherent, meaningful linkage. There are concerns that many disclosures of business models are falling short in that they add neither broad understanding nor company specific detail, and lack connections to wider information within the annual report. As a result, the report includes some questions for boards on business model disclosure.
• Risk and viability reporting - So far as risk reporting is concerned, the report notes that there continues to be a lack of detail in certain areas, such as mitigating actions and links to the business model and key performance indicators, and this lack of detail is heightened by overall changes in the risk environment. By way of example, while many companies highlight that various Brexit scenarios create a principal risk, the report notes that investors expect more detail on the level of preparedness, the current state of implementation of mitigating activities and numerical breakdowns to help them assess the impact.

In relation to viability reporting, the report notes that there are some promising developments with companies separating the viability statement into an assessment of prospects, then an assessment of viability, providing more disclosure on both. However, investors would like to see more disclosure on scenario and sensitivity analysis that supports the statement, and reasoning behind the period selected.

The report includes questions for boards on both principal risks and the viability statement.

(FRC, Financial Report Lab Report – Business model reporting; Risk and viability reporting – Where are we now? - 18.10.18)

On October 15, 2018 the Financial Conduct Authority (FCA) published a Discussion Paper (DP18/8) which explains how climate-related matters are relevant to the FCA’s statutory objectives and its proposed approach. The FCA is responsible for ensuring that issuers of listed securities admitted to a regulated market are meeting their disclosure obligations, which can include disclosures about climate change risks, and so aspects of the Discussion Paper consider whether greater encouragement is needed to ensure issuers give investors appropriate information, and whether issuers require clarity over what is expected of them.

Proposals and questions for respondents in the Discussion Paper include the following:

• The FCA will be consulting on guidance to issuers about how the current regulatory regime might be interpreted to apply to climate change-related risks, which will reflect the FCA’s view that existing disclosure obligations would capture the reporting of implications of climate change on a business where it is material to its prospects.
• Should a materiality threshold be reached in a specific scenario and would use of a framework such as the Financial Stability Board’s Taskforce on Climate Related Disclosures (TCFD) help issuers take a consistent approach to disclosing climate-related risks?
• Should issuers be required to “comply or explain” against the TCFD framework?
• Should a new requirement be introduced for financial services firms to report publicly on how they manage climate risks to their customers and operations?

Views on these questions are requested by January 31, 2019.

(FCA, Climate change and green finance, DP18/8 - 15.10.18)

In October 2018, the Investment Association (IA) published guidance for companies on “Update Statements”, being an update, published within six months of an Annual General Meeting or General Meeting at which 20 per cent or more of the votes have been cast against a board recommended resolution, on the views received from shareholders and actions taken by a company since that meeting. This is required by Provision 4 of the 2018 UK Corporate Governance Code.

Update Statements will appear on the Public Register maintained by the Investment Association and which highlights companies who receive a high vote against, or withdraw a resolution. The Public Register provides companies with the opportunity to highlight to investors and other stakeholders the steps they have taken to engage with shareholders in such situations.

The guidance provides information on the features investors would like to see in Update Statements. These should:

• Not be published alongside other news or announcements but should be released as a standalone statement.
• Describe the original resolution and voting outcome.
• Provide information about the engagement undertaken by the company in order to understand the views of shareholders following the vote and summarise the views heard.
• Describe any actions taken by the company as a result of shareholder views, and, where the company has decided not to take any further action, outline why this is appropriate in the company’s circumstances.
• Describe future actions the company intends to take, including further shareholder engagement, and refer to the final update to be included in the next annual report.
• Where the company has appeared on the Public Register for the same resolution in consecutive years, the Update Statement should acknowledge and set out actions to address this.

(The Investment Association: Guidance for companies on Public Register update statements – 10.10.18)

On October 18, 2018 Institutional Shareholder Services Inc (ISS) launched a consultation on aspects of their benchmark voting policy for the UK, Ireland and Europe.

In light of increased scrutiny of the role and performance of auditors, and signs of investors’ willingness to hold auditors directly accountable for perceived failures in audit quality, ISS is proposing to track significant audit quality issues, with a focus on accounting controversies, at the lead engagement partner level, wherever such information is available for UK, Irish and European companies.

ISS research reports will note any lead audit partners (and/or partnership firms) who have been linked with significant auditing controversies and, where they are engaged in the audit for other public companies, this will be raised for investor attention even if no audit concerns have been identified at the subject company. A negative recommendation on auditor ratification may be applied in the most severe cases, for example, where the lead audit partner has previously been linked with a corporate failure scenario or other material destruction of shareholder value arising from fraud or other accounting issues.

ISS specifically seeks feedback from investors on the following:

• Would they consider the lead audit partner’s involvement in a significant accounting controversy, even if this occurred at another company, to be a potential area of concern?
• Would they support ISS adopting in future a similar approach in other markets (outside the UK and Europe) where disclosure of the lead engagement partner is available?

Comments are requested by November 1, 2018. These will be taken into consideration when ISS finalises its benchmark voting policies to be applied for shareholder meetings taking place on or after February 1, 2019.

(ISS Consultation: Auditor Ratification (UK/Ireland and Europe) – 18.10.18)