Ahead of the Deal - Australian M&A briefing
Key insights
- In the recent scheme of arrangement for the acquisition of Magnetic Resources by Genesis Minerals, the Supreme Court of Western Australia held not only that holders of nil paid "contributing shares" in Magnetic formed a single class with holders of fully paid ordinary shares, but also that they were entitled to one vote for each nil paid share – even though under the Magnetic constitution the nil paid shares had nil voting rights at a general meeting.
- That approach to class composition is consistent with previous authorities that have held that holders of fully paid and partly paid shares form a single class in respect of members' schemes.
- The approach to voting, however, sits somewhat at odds with the typical approach taken by the Courts to partly paid shares, which is that holders of partly paid shares have voting rights in proportion to the amount paid up on those shares, consistent with the voting rights of partly paid shares under the scheme company's constitution.
- Notwithstanding that, we consider that the Court's approach in the Magnetic scheme reflects a sensible approach in the circumstances so as not to deny holders of nil paid shares a vote on a scheme which would result in the acquisition of their shares.
"all members at a [scheme] meeting… have a vote on the proposed compromise or arrangement, even if these shareholders would not be entitled to vote at a general meeting of the company."
In a members' scheme of arrangement involving a scheme company that has both fully paid and partly paid shares, there are two key matters for the scheme company to consider and the Court to determine:
- whether the holders of the fully paid and partly paid shares form a single class that vote together; and
- the voting rights that will attach to the partly paid shares in those circumstances.
These issues were considered in two recent schemes both before Justice Hill in the Supreme Court of Western Australia, being the scheme of arrangement for the acquisition of Magnetic Resources NL (Magnetic) by Genesis Minerals and the acquisition of Hartshead Resources NL (Hartshead) by ACAM. The Magnetic scheme was of particular significance as Magnetic had on issue nil paid shares and after the Court concluded that the holders of nil paid shares should form a single class with fully paid shares, the Court also determined that the holders of nil paid shares would be entitled to a full vote for each nil paid share at the scheme meeting.
Class composition and consideration offered for partly paid shares
The common interest test
In a members' scheme of arrangement, shareholders in the same class vote together at the scheme meeting. The test for identifying a class of shareholders in a scheme of arrangement is well settled. As articulated by Bowen LJ in Sovereign Life Assurance Co v Dodd [1892] 2 QB 573, a class must be "confined to those persons whose rights are not so dissimilar as to make it impossible for them to consult together with a view to their common interest". The test is not one of identical treatment but of community of interest.
Different rights will usually attach to partly paid shares and fully paid ordinary shares, for example partly paid shares will usually have proportionate voting rights at a general meeting based on the amount that those shares are paid up. In addition, holders of partly paid shares are typically offered reduced consideration to acquire their partly paid shares under a scheme of arrangement compared to the consideration offered to holders of fully paid shares – reflecting the lower amount paid up on them.
Various different approaches have been taken in schemes as to the calculation of the reduced consideration payable to holders of the partly paid shares. However, the Courts have held that regardless of the details of the consideration calculations, holders of partly paid shares can form a single class with holders of fully paid shares for the purposes of a scheme meeting where the holders of partly paid shares are being treated proportionately to their existing rights and fairly compared to holders of fully paid shares and a sufficient community of interest between them exists.
Magnetic
Magnetic had on issue fully paid ordinary shares and contributing shares, which were separately quoted for trading on the ASX, and paid up to nil and unpaid as to $0.20 (Contributing Shares). On payment of the unpaid amount in full, a Contributing Share became an ordinary share. The ordinary shares and the Contributing Shares ranked equally in all respects, save for three differences:
- the Contributing Shares were subject to a call for the unpaid amount of $0.20 per share;
- the Contributing Shareholders had voting rights on a poll in proportion to the amount paid up on their shares, which in this case was nil; and
- the Contributing Shareholders had the right to participate in bonus issues in proportion to the amount paid up on their shares (also being nil).
Under the Magnetic scheme, Magnetic shareholders could elect between three consideration alternatives being all cash, all new shares in the acquiror or mixed consideration. In the case of the all cash and mixed consideration alternatives, for the holders of Contributing Shares the cash consideration was reduced by $0.20, being the amount unpaid on the Contributing Shares. In the case of the all scrip consideration alternative, for holders of Contributing Shares the scrip consideration was reduced by the equivalent value of $0.20 in scrip. This approach is consistent with the common approach taken in schemes involving partly paid shares of reducing the scheme consideration payable to holders of partly paid shares by the dollar value of the amount unpaid on the partly paid shares.
At the first court hearing for the scheme, Hill J held that the holders of ordinary shares and Contributing Shares would form a single class and vote together. Her Honour noted that the differences between the ordinary shares and Contributing Shares did not make it impossible for them to consult together with a view to their common interest. Under the scheme all shareholders would give up their shares in return for a combination of cash and new shares in the acquiror (subject to any consideration elections) in the same proportion relative to their current shareholding in Magnetic. The ordinary shareholders and Contributing Shareholders would receive identical treatment under the scheme with the difference in consideration representing the unpaid amount on the Contributing Shares.
Hartshead
Hartshead had fully paid ordinary shares and partly paid shares on issue. The partly paid shares ranked equally with fully paid shares in all respects, other than being subject to a call for the unpaid amount, and the holders of partly paid shares had voting rights on a poll in proportion to the amount paid up on the shares.
A different approach to the calculation of the scheme consideration for partly paid shares was taken in the Hartshead scheme compared to the Magnetic scheme. The scheme consideration for the partly paid shares in Hartshead was 1/20th of the consideration payable for a fully paid share, which was proportionate to the amount paid up on each partly paid share.
At the first court hearing for the scheme Hill J concluded that the differences in rights between ordinary shareholders and partly paid shareholders did not result in them being in separate classes. Her Honour held that there was sufficient commonality of interest for the holders of ordinary shares and partly paid shares to form a single class.
Other approaches to consideration for partly paid shares
A combination approach was taken in the Mosaic Oil NL scheme of arrangement for its acquisition by AGL (2010) where:
- in the case of the cash consideration alternative, the scheme cash consideration payable for partly paid shares was reduced by an amount equal to the unpaid amount on the partly paid shares; and
- in the case of the scrip consideration alternative, the scrip consideration issued to the holders of partly paid shares was in proportion to the amount paid up on each share.
The Court was satisfied in that scheme that the partly paid shareholders were being treated fairly, and that the "community of interest between them and the fully paid shareholders is such that they do not form a separate class."
Applying a dollar for dollar reduction to the scheme consideration is not possible where partly paid shares are 'out of the money' – that is, where the unpaid amount exceeds the scheme consideration. In the Foster's Group Ltd scheme of arrangement for its acquisition by SABMiller (2011), the partly paid shares had a range of unpaid amounts and most were out of the money. Deducting the unpaid amount from the scheme consideration would have produced a negative value for most of the partly paid shares.
In the Foster's scheme, a Black-Scholes option valuation methodology was employed from which the amount to be paid per tranche of the Foster's partly paid shares was derived. The Black-Scholes valuation methodology took into account the differential in the issue prices and unpaid call liability as between the tranches of the Foster's partly paid shares on issue and used the scheme consideration amount as the starting price of the Foster's fully paid shares. This approach recognised that each partly paid share had option-like characteristics arising from the call limitation (no call could be made unless the market price equalled or exceeded the issue price for the preceding 40 business days).
The Court accepted that the consistent application of this methodology to all tranches of partly paid shares maintained the requisite community of interest to allow all Foster's shareholders to consult together, even where individual holders received different dollar amounts. The Court referred to Barrett J's observations in the MIA Group Ltd scheme of arrangement, endorsing the Black-Scholes method for options with different exercise prices and expiry dates as producing "consistent relativities of value."
In the Viridian Financial Group Ltd (Viridian) schemes for the acquisition of Viridian by TA Associates, L.P. (2025), the scheme company was a public unlisted company with two classes of shares on issue: ordinary shares and 'sentinel shares'. The sentinel shares were issued to employees, had no voting rights attached to them and comprised both fully paid and partly paid shares (Sentinel Shares).
The transaction involved two inter-conditional schemes of arrangement, one in respect of the Viridian ordinary shares and one in respect of the Sentinel Shares (Sentinel Share Scheme).
Under the Sentinel Share Scheme, Sentinel Shareholders were able to elect to receive all scrip consideration (representing $5.35 for each Sentinel Share) or a mixed percentage of cash and scrip consideration (representing in aggregate $5.35 in value for each Sentinel Share). There was no deduction from the $5.35 of value of the scheme consideration for any amount unpaid on the Sentinel Shares.
The Court accepted that the mere fact that there exists a difference in rights of certain shareholders under a scheme compared to the rights of all other shareholders does not result in the creation of a separate class. Identicality of treatment between shareholders is not required. The Court held that the difference in the paid up amount on the various Sentinel Shares was outweighed by the areas of common interest between all Sentinel Shareholders so as to make it possible for all Sentinel Shareholders to consult together and no separate class needed to be created for the different partly paid Sentinel Shares. The Court observed that the overall effect of the Sentinel Scheme would be the same for all Sentinel Shareholders. Each Sentinel Shareholder gave up their shares and, in return, received consideration in the same proportions relative to their holding of Sentinel Shares (regardless of paid up status).
Voting rights for holders of partly paid and nil paid shares at a scheme meeting
Proportionate voting rights for partly paid shares
The voting rights of shareholders at a scheme meeting are determined by the Court. The Courts have accepted that, in the case of voting rights of holders of partly paid shares who are in the same class as holders of fully paid shares, it is appropriate to follow the scheme company's constitution. This typically means that holders of partly paid shares have voting rights proportional to the amount paid up on those shares.
That approach was taken by Hill J in the Hartshead scheme of arrangement. Her Honour made orders that the holders of partly paid shares were entitled to 1/20th of a vote for each partly paid share held, being the proportion that the partly paid shares were paid up.
Magnetic: a full vote for nil-paid shares
In the case of Magnetic, the Contributing Shares were paid up to nil and, under the Magnetic constitution, carried no voting rights at a general meeting of the company. If the proportional voting approach traditionally taken by the Courts was followed in that case, Contributing Shareholders would be denied any vote at all.
Counsel for Magnetic submitted that the Contributing Shareholders should nonetheless be entitled to vote at the scheme meeting. They argued that:
- if the scheme were implemented, Contributing Shareholders would be giving up their shares and should have a say in whether this occurred; and
- allowing Contributing Shareholders to vote would be consistent with the requirement in section 411(4)(a)(ii) of the Corporations Act, which requires all members at a scheme meeting to vote on the proposed compromise or arrangement – "even if those shareholders would not be entitled to vote at a general meeting of the company."
Hill J accepted this submission and agreed that the Contributing Shareholders would be entitled to one vote for each Contributing Share held at the scheme meeting, as the resolution was to be passed by a majority of "members in that class" pursuant to section 411 of the Corporations Act.
Her Honour also noted that "at ASIC's request, Magnetic has agreed to 'tag' the votes of the Contributing Shareholders for the purposes of the Scheme Meeting", so that those votes could be separately recorded. This left it open for her Honour to take into account whether the votes of Contributing Shareholders were determinative in the requisite shareholder approval threshold for the scheme being met at the scheme meeting when considering the question of fairness of the scheme for target shareholders at the second court hearing. At the second court hearing Her Honour noted that "even if separate meetings had been held for Shareholders and Contributing Shareholders, this would not have had any impact on the outcome of the Scheme Meeting as the resolution would have been passed by a significant majority of both".
Conclusion
In terms of class composition, the approaches taken in the recent Magnetic scheme and Hartshead scheme are consistent with the previous authorities, which have held that holders of fully paid and partly paid shares form a single class in respect of members' schemes where the members are treated fairly under the scheme such that a sufficient "community of interest" exists. While slightly different approaches were taken in those two schemes as to the calculation of the reduced consideration payable to holders of the nil paid or partly paid shares, the Court held in both of those schemes that the differences between the rights of the ordinary shares and rights of the nil paid or partly paid shares did not make it impossible for holders of those shares to consult together with a view to their common interest.
The decision in the Magnetic scheme is of significance as it represented the first instance of the Court considering voting rights for holders of nil paid shares voting together with holders of fully paid shares. The approach taken in the Magnetic scheme of giving holders of nil paid shares full voting rights at the scheme meeting, notwithstanding that under the constitution they had nil voting rights at a general meeting, appeared in that scheme to be a pragmatic and sensible approach in the circumstances, and ensured that holders of the nil paid shares were afforded a vote on a transaction that would result in the acquisition of those shares.
The approach of giving nil paid shares full voting rights in Magnetic does however sit somewhat at odds with the typical treatment of partly paid shares in schemes – and so raises the question of what would be the appropriate approach to voting rights where a scheme company has on issue fully paid, partly paid and nil paid shares. Following the Court's decision in Magnetic, it is possible that a Court may take the view in those circumstances that the partly paid and nil paid shares should have full voting rights at the scheme meeting together with the holders of fully paid shares, with votes of partly paid and nil paid shares being tagged so that the impact of this approach can also be appropriately considered by the Court at the second court hearing when considering whether to approve the scheme.
Other author: Juliet Garro, Graduate
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