Another high-profile listed company was taken private when AWG was taken over by a consortium of infrastructure investors. Freshfields Bruckhaus Deringer’s Simon Weller gives a blow-by-blow account of the deal
Last year one of the UK’s largest utility companies, the owner of Anglian Water AWG, was acquired by a consortium of financial investors comprising Canadian pension fund Canada Pension Plan Investment Board, Commonwealth Bank of Australia investment arm Colonial First State, UK private equity house 3i and Australian pension fund manager Industry Funds Management, pursuant to a £2.2bn recommended takeover. The buyers acquired AWG using a specially incorporated company owned by them called Osprey Acquisitions Limited.
The offer was originally announced on 2 October 2006, some two weeks after rumours of a takeover first circulated, with the AWG board agreeing to recommend a takeover offer of £15.55 per share from the Osprey consortium. Osprey made several large market purchases of AWG shares and increased its offer price to £15.78 on 9 October 2006 before finally closing out the deal. Osprey’s offer document (which contained the formal recommended offer to AWG shareholders to acquire their shares at the revised offer price) was despatched to AWG shareholders on 12 October 2006.
The AWG takeover shows the approach that bidders are taking towards deal protection in the likelihood of competitive bids and also shows the influence that hedge funds can have on takeovers.
TARGET BOARD RECOMMENDATION
Under the Takeover Code, a target company’s board of directors has to inform the target’s shareholders of its opinion on the offer – as well as any alternative offers. They are also required to share with their shareholders the substance of the advice they receive from independent advisers (which they are required to obtain by the Takeover Code). In deciding whether to recommend an offer, the target board will consider the effect of the offer on all the target’s interests, in particular employment, and also the bidder’s strategic plans for the target and the likely repercussions on employment and the target’s places of business. If the target board does not recommend an offer, then the offer is considered ‘hostile’.
Obtaining a recommendation from a target board can be crucial, as the target will only offer deal protections (such as break fees – see below) to a bidder if it supports the offer. Additionally, many financial buyers (particularly private equity houses) are unable to make hostile bids because of restrictions in their funding documents.
EARLY MARKET PURCHASES
Given the current competitive nature of public takeovers in the UK –exemplified by the bids for BAA and Associated British Ports – bidders have been looking for ways to increase the likelihood of their bid succeeding, particularly as an unsuccessful bid can be very costly from both a financial and reputational perspective. Market purchases (or stakebuilding) of shares in a takeover target are an increasingly common tactic as they can provide a strong foothold for a bidder.
Broadly, the key shareholding thresholds that a bidder will have in mind when considering stakebuilding are 10 per cent – which is sufficient to block another bidder from using the statutory compulsory squeeze-out procedure in relation to shareholders who have not accepted a takeover offer – and 25 per cent – which is sufficient to block the passing of special resolutions which would be required to delist a company or to give security to a bidder in relation to bid financing. In nearly all cases, a bidder will not want to build a stake of 30 per cent or more as that would trigger a mandatory bid under Rule 9 of the Takeover Code with only a 50 per cent acceptance condition, rather than the usual 90 per cent acceptance condition which can be waived down below that level. Additionally, there may be regulatory restrictions which apply at other shareholding thresholds.
Immediately following the announcement of the takeover, the Osprey consortium was able to acquire an 11.47 per cent stake in AWG from AWG’s largest institutional shareholder. As these shares were bought before Osprey despatched its offer document to AWG shareholders, they were not shares to which Osprey’s offer related and so had to be ignored for the purposes of assessing whether Osprey had sufficient acceptances or agreements to acquire AWG shares to meet the 90 per cent threshold for squeezing out dissenting shareholders.
HEDGE FUND ACTIVITY
Despite Osprey’s large market purchase, AWG’s share price immediately rose above £16.00 as the market (and, in particular, hedge funds specialising in investing in takeover situations) anticipated another hotly contested takeover. Indeed, at 8.30am on the morning of the offer announcement, the AWG board announced that it had received other approaches.
Under the Takeover Code, if a bidder buys shares in the target after announcing an offer at a price above its offer price, it is required to immediately increase its offer price to the highest price paid for those shares. Therefore Osprey could not acquire any further AWG shares at that time without triggering an automatic increase in its offer price.
Hedge funds and other investors continued to buy into AWG stock, keeping its share price well above the Osprey offer price in the hope it would either flush out another bidder or a further increase by Osprey in the offer price. In particular, as the sale of Thames Water (an unlisted company owned by German utilities company RWE) was going on at the same time and expected to conclude some time in October 2006, there was some expectation that an unsuccessful bidder from that sale might refocus its attention on AWG.
TRIGGERING AN OFFER PRICE INCREASE
The Osprey consortium held its ground, and on 9 October 2006 managed to buy a further 9.64 per cent of AWG shares from another significant institutional shareholder at £15.78 per share, bringing its total stake to 21.11 per cent. This triggered an automatic increase in Osprey’s offer price to £15.78.
Despite the consortium’s large stake in AWG, the share price remained above the new offer price. Indeed, it was not until AWG released an announcement on 1 November 2006 confirming that all other possible third-party bidders had walked away that the share price fell to below the offer price. AWG was then able to acquire a further 6.3 per cent at £15.78 to bring its stake in AWG to 28 per cent. At that level, no third parties would be able to block special resolutions of AWG.
OFFER WHOLLY UNCONDITIONAL
AWG finally declared its offer wholly unconditional on 23 November 2006 when Osprey’s share purchases and offer acceptances amounted to approximately 77.3 per cent of AWG’s shares. It took another three weeks before Osprey had sufficient acceptances (90 per cent of AWG shares to which the offer related) to allow it to initiate the squeeze-out of non-assenting shareholders.
On a recommended takeover, a bidder will normally seek a range of deal protection measures from the target before announcing its offer. AWG agreed a break fee arrangement worth 1 per cent of the offer value (the maximum permitted under the Takeover Code) – approximately £22m – that would be paid by AWG to Osprey if Osprey’s offer failed or if a competing offer was successfully made or if the AWG board withdrew its recommendation. The giving of such break fees is now market practice on UK takeovers and any potential competing bidder would need to factor the cost of any break fee into its proposed offer price.
As well as a non-solicit undertaking (whereby AWG agreed not to actively solicit a competing bid), AWG also gave a ‘right to match’ to Osprey. This gave Osprey a period to match any competing bid (during which the AWG board could not switch its recommendation) and, if Osprey did match, the AWG board was required to recommend Osprey’s revised bid. AWG also agreed not to offer a break fee to any other party unless Osprey had not exercised its matching right. Such arrangements may be considered aggressive and bidder-friendly, but financial buyers are less willing to commit to offers without these types of protection.
The takeover is yet another example of financial buyers clubbing together to buy assets. Acting together allows financial buyers to acquire much larger companies than they would be able to do on their own, particularly as some have restrictions on investment size. Consortia can also help spread risk, as each participant limits its exposure to a particular investment. There may also be strategic reasons for clubbing together, for example complementary assets or expertise. In addition, acting together allows investors to share deal costs – particularly relevant on unsuccessful or abort transactions.
The consortium will agree a shareholders’ agreement to govern their relationship and this agreement will deal with corporate governance (such as decision making and board appointments), transfer of interests in the target and exit. In addition, the consortium will need to agree the form of its investment in the deal. Negotiation and documenting these arrangements can be a complicated and time-consuming process.
THE LAWYERS’ ROLE
Freshfields Bruckhaus Deringer advised the Osprey consortium on its successful bid for AWG. The firm’s role included advising on legal issues under the Takeover Code, dealing with the Takeover Panel, preparing the takeover offer announcements and documentation, providing tax structuring advice, providing competition and regulatory advice, negotiating the acquisition debt finance and documenting the legal relationships among the consortium members.
Break fee: Also known as an inducement fee. In a public takeover context, this is usually a payment from the target to the bidder if the deal does not proceed. It is capped by the Takeover Code at 1 per cent. Common situations that trigger a break fee payment are the target board changing its recommendation or a competing offer succeeding.
Hedge funds: A fund which aims to make absolute returns in all market conditions, as opposed to traditional funds which aim to beat the market return on the class of asset in which they invest. Hedge funds adopt a range of investment strategies for making money and, although many of those strategies involve some sort of hedging, many do not.
Institutional shareholder: Shareholders of public companies are generally considered to be either ‘retail’ (the general public) or ‘institutional’. Institutional shareholders include pension funds and insurance companies.
Squeeze-out: In a takeover situation, if a bidder has acquired or unconditionally contracted to acquire not less than 90 per cent in value of the shares to which the takeover relates and not less than 90 per cent of the voting rights carried by the shares to which the offer relates, it has the right to compulsorily acquire the non-assenting shares, and thus squeeze out the minority, under Part 28 of the Companies Act 2006.
Takeover code: The acquisition of UK public companies, and in particular public companies listed on the London Stock Exchange, is governed by the City Code on Takeovers and Mergers, also known as the ‘City Code’, ‘Takeover Code’, or the ‘Blue Book’.
Wholly unconditional: A takeover offer is subject to a number of conditions. These include the ‘acceptance condition’ (which relates to the number of acceptances that the bidder has received and is usually at the 90 per cent level at which squeeze-out can be effected, with an ability for bidders to waive the acceptance condition at a lower level provided they will have a majority of target shares), any necessary regulatory conditions as well as broader ‘material adverse change’ type conditions relating to the target. An offer is wholly unconditional – or unconditional in all respects – when all of its conditions have been satisfied or waived by the bidder.