Li & Fung/IDS: special treatment for 1 shareholder
28 September 2010
Following our article of 24-Sep-2010, Li & Fung Ltd (Li & Fung, 0494) and Integrated Distribution Services Group Ltd (IDS, 2387) have today announced that "successful arrangement has now been made" to allow CCASS Shareholders (defined in the circular as "Beneficial Owners who have deposited their respective IDS Shares with CCASS") to elect to receive Li & Fung shares in the privatisation offer, without withdrawing their shares from CCASS and becoming registered shareholders. The deadline for election for the share alternative has also been extended by a week to 29-Oct-2010, 22 days after the shareholder meeting to decide on the scheme.
However, the announcement repeats the warning that:
"As set out on page 14 of the Scheme Document, no Scheme Shareholder is permitted to elect a combination of the Cash Alternative and the Share Alternative. Accordingly, CCASS Shareholders are reminded that they must not elect to receive a combination of the Cash Alternative and the Share Alternative."
While they don't explicitly say so, the announcement can only mean that HKSCC Nominees Ltd (HSCCN), the nominee which holds all the shares in CCASS, is being given special treatment by IDS as a scheme shareholder to allow it to elect a combination of the shares and cash. This makes it different to all other scheme shareholders, including other nominees, who cannot make partial elections.
The formal scheme, to be submitted to the Supreme Court of Bermuda for sanction, is set out on pages S-1 to S-8 of the Scheme Document. Paragraph 2 makes clear that each scheme shareholder in the share register will receive either cash or, if they elect, Li & Fung Shares, for every Scheme Share held. It does not give discretion to the company to make exceptions to this all-or-nothing rule. Similarly, the election form only allows an all-or-nothing choice.
One Scheme, two classes?
By allowing HKSCCN to make a partial election, the company is giving special treatment to one shareholder and arguably creating two separate classes of shareholders for the purposes of the scheme, one class being HKSCCN, and the other class being all other registered shareholders. Normally the courts would take a dim view of allowing classes with different treatment to vote together on the scheme, and would require separate meetings and votes to be conducted in each class. Li & Fung and IDS must be hoping that the Supreme Court of Bermuda either doesn't notice or permits this behaviour. To reduce the risk of an uninformed judgement, we will fax the court a copy of this article.
Special deal for 1 shareholder?
It is at least arguable that the special treatment of HKSCCN is a "Special deal" under Rule 25 of the Takeover Code (PDF p180), which says:
"Except with the consent of the Executive, neither the offeror nor any person acting in concert with it may make any arrangements with shareholders...during an offer...if such arrangements have favourable conditions which are not to be extended to all shareholders."
It appears that the SFC either consents to this special arrangement with HKSCCN or thinks that Rule 25 does not apply.
The special arrangement also creates an incentive for any registered shareholder who is a nominee, including, for example, bank nominees, to deposit any shares they hold into CCASS in order to benefit from the special treatment. That's because if bank nominees (with more than 1 customer) do not deposit their shares into CCASS, then they will be unable to offer the share alternative to beneficial owners.
What CCASS will do
Speaking with Webb-site this morning, Derrick Fung, Head of Clearing at HKEx, which runs CCASS, explained that all CCASS Participants except Investor Participants will be allowed to make partial elections on the IDS shares in their account. So banks, brokers and custodian participants will be included. Investor Participants are deemed to be holding as beneficial owners, so they will be treated like registered shareholders. He agreed that HKSCCN was getting special treatment above other registered shareholders.
Mr Fung also agreed that the warning from IDS quoted above, that custodians should not allow beneficial owners to make partial elections, was in practice unenforceable, because CCASS is not party to the relationship between custodians and their clients, so it cannot know whether an election made by a custodian represents complete elections from beneficial owners or includes partial elections. Indeed, some custodians in CCASS are sub-custodians to other custodians, so these sub-custodians must allow their master custodians to make partial elections, so that they in turn can serve beneficial owners.
If, near the election deadline on 29-Oct-2010, the Li & Fung share price is close to $35.90, then the share alternative would be close to the cash offer of $21. We would then expect some clients to want cash, some to want shares, and some to hedge their bets. At that point, the privilege of standing behind a CCASS Participant would come into play.
While this outcome will benefit CCASS Participants, it plays fast-and-loose with the Bermuda Companies Act and the Takeover Code. It would have been better to amend the scheme to allow all registered shareholders to make partial elections, rather than coming to an "arrangement" with one registered shareholder outside the terms of the scheme. We hope that those contemplating future schemes of arrangement will take notice of this case and not offer all-or-nothing choices to shareholders.
© Webb-site.com, 2010