Elkington v CostaExchange Ltd
[2011] VSC 501
•5 October 2011
| IN THE SUPREME COURT OF VICTORIA | Not Restricted | |
AT MELBOURNE
COMMERCIAL AND EQUITY DIVISION
COMMERCIAL COURT
CORPORATIONS LIST
No. S CI 2011 4914
| IN THE MATTER OF COSTAEXCHANGE LTD GORDON BRADLEY ELKINGTON | Plaintiff |
| v | |
| COSTAEXCHANGE LTD (ACN 002 687 961) | Defendant |
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JUDGE: | FERGUSON J | |
WHERE HELD: | Melbourne | |
DATE OF HEARING: | 27 September 2011 | |
DATE OF JUDGMENT: | 5 October 2011 | |
CASE MAY BE CITED AS: | Elkington v CostaExchange Ltd | |
MEDIUM NEUTRAL CITATION: | [2011] VSC 501 | |
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CORPORATIONS – Selective reduction of capital by cancellation of shares held by minority – Independent expert opinion that consideration not fair on control basis but reduction of capital fair and reasonable to company’s shareholders as a whole – consideration more than value assessed on minority basis but less than value assessed on control basis - interpretation of “fair and reasonable to the company’s shareholders as a whole” - ASIC regulatory guide 111 - application to restrain selective reduction of capital - Corporations Act 2001 (Cth) ss 256B(1)(a), 1324
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APPEARANCES: | Counsel | Solicitors |
| For the Plaintiff | Mr G McEwen | Aldgate Lawyers |
| For the Defendant | Mr A J Myers QC with Dr P Vout | Maddocks |
TABLE OF CONTENTS
Summary.............................................................................................................................................. 2
The regulatory framework................................................................................................................ 3
Reduction of share capital – s 256B(1) Corporations Act........................................................... 3
The Court’s power to grant an injunction – s 1324 Corporations Act...................................... 8
CostaExchange Limited and the proposed reduction in share capital..................................... 8
The independent expert’s report................................................................................................... 10
Is the selective reduction of capital fair and reasonable to the Company’s shareholders as a whole? 13
Conclusion......................................................................................................................................... 23
HER HONOUR:
Summary
The plaintiff, Gordon Bradley Elkington, is a minority shareholder of the defendant, CostaExchange Ltd (“the Company”). The Company intends to selectively reduce its share capital by cancelling the shares held by minority shareholders and paying them $0.86 for each share cancelled. The shareholders approved the making of the reduction at meetings held on 12 September 2011. Dr Elkington says that ss 256B(1)(a) and 256D(1) of the Corporations Act 2001 (Cth) will be contravened if the capital reduction proceeds. Those sections prohibit a company from reducing its share capital if the reduction is not fair and reasonable to the company’s shareholders as a whole. Dr Elkington claims that the price of $0.86 offered for each minority share is unfair because it is less than the value of a share in the Company when the shares are valued on a control basis. An independent expert, Deloitte Corporate Finance Pty Limited, valued the shares in the Company, on a control basis, in the range of $0.97 to $1.15 and has estimated their value on a minority basis as between $0.65 and $0.78. After taking a number of matters into consideration, the independent expert formed the opinion that the selective capital reduction was fair and reasonable to the shareholders as a whole.
Dr Elkington seeks an injunction under s 1324 of the Corporations Act to restrain the Company from making the capital reduction.
The issue is whether the reduction is fair and reasonable to the Company’s shareholders as a whole. If it is not, then consideration would need to be given to whether it would be appropriate for the Court to grant an injunction in the terms sought.
The term “fair and reasonable” conveys a single concept. In assessing what is fair and reasonable to the shareholders as a whole, many factors will be relevant with the price to be paid being only one consideration. Further, under the current legislation, the interests of all shareholders, not just the minority, are to be considered in determining whether the selective capital reduction is fair and reasonable. Here, the independent expert determined that the proposed selective capital reduction is fair and reasonable to the shareholders as a whole. Dr Elkington’s criticisms of the expert’s report and conclusions are not persuasive. The application should be dismissed.
My more detailed reasons are below. I will deal first with the regulatory framework and then with the relevant facts concerning the Company, the reduction in share capital and the expert’s report. Finally, I will consider the submissions of the parties and set out my reasons leading to the conclusion that the application should be dismissed.
The regulatory framework
Reduction of share capital – s 256B(1) Corporations Act
Prior to the current legislative regime, s 195 of the Corporations Law provided for reduction of capital upon a shareholder vote and with Court confirmation. Section 195(5) provided:
The Court may, if satisfied [that creditors’ interests have been satisfied in certain ways,] make an order confirming the reduction on such terms and conditions as it thinks fit.
In determining whether the reduction ought to be confirmed, the courts had regard to whether the reduction was “fair and equitable” between different classes of shareholders. The courts would also ensure that the correct procedure for the reduction was followed, that creditors were not prejudiced and that the reduction was not detrimental to the public.[1]
[1]Re Rancoo Ltd (1995) 17 ACSR 206.
The changes to the statutory requirements for share capital reductions introduced by the Company Law Review Act 1997 (Cth) abolished court confirmation for capital reductions, leaving approval of the reduction to the shareholders. However, one of the protections included in the new statutory regime was that the reduction must be “fair and reasonable to the company’s shareholders as a whole”. If this requirement is not met, a dissatisfied shareholder may seek relief from the Court.
The current statutory framework for share capital reductions is contained in Part 2J.1 of the Corporations Act. The purpose of the Part is set out in s 256A as follows:
This Part states the rules to be followed by a company for reductions in share capital…. The rules are designed to protect the interests of shareholders and creditors by:
(a)addressing the risk of these transactions leading to the company’s insolvency
(b)seeking to ensure fairness between the company’s shareholders
(c)requiring the company to disclose all material information.
A company must not reduce its share capital unless it complies with s 256B(1) of the Corporations Act.[2] That section provides that a company may reduce its share capital in a way that is not otherwise authorised by law if the reduction:
(a)is fair and reasonable to the company’s shareholders as a whole; and
(b)does not materially prejudice the company’s ability to pay its creditors; and
(c)is approved by shareholders under s 256C.
[2]Section 256D Corporations Act.
The requirements for shareholder approval under s 256C were satisfied in this case and there was no suggestion that the reduction will materially prejudice the Company’s ability to pay its creditors. The only issue is whether the reduction satisfies the “fair and reasonable” criterion in paragraph (a) of s 256B(1).
Both parties accepted that “fair and reasonable” should be treated as a composite term. This interpretation is consistent with the Explanatory Memorandum to the Company Law Review Bill 1997 (which introduced s 256B) and with the authorities. Regard may be had to certain extrinsic material (including Explanatory Memoranda) to assist in ascertaining the meaning of an ambiguous legislative provision.[3] The Explanatory Memorandum stated:
‘Fair and reasonable’ is intended to be a composite requirement. Factors that might be relevant to determining whether a capital reduction is fair and reasonable to shareholders as a whole include the following:
(a) the adequacy of any consideration paid to shareholders
(b)whether the reduction would have the practical effect of depriving some shareholders of their rights…
(c)whether the reduction is being used to effect a takeover and avoid the takeover provisions
(d)whether the reduction involves an arrangement that should more properly proceed as a scheme of arrangement.
[3]Section 15AB(1)(b)(i) Acts Interpretation Act 1901 (Cth). That Act applies to the interpretation of the Corporations Act: s 5C of the Corporations Act.
There is no current regulatory guide issued by the Australian Securities and Investments Commission in respect of selective capital reductions. However, ASIC has issued Regulatory Guide 111 entitled “Content of expert reports”. The Guide notes that a control transaction, when a person acquires or increases a controlling interest in a company, can be achieved through a selective capital reduction and that it is important for an expert to focus on the substance of the transaction rather than the legal mechanism used to achieve it.[4] The Guide states that the “fair and reasonable” test for takeover bids under s 640 of the Corporations Act comprises two separate criteria and the phrase is not to be treated as a compound term.[5] It goes on to state that an offer is “fair” if the value of what is offered is equal to or greater than the value of the securities that are the subject of the offer.[6] Guidance is given as to how the expert ought to approach the task of valuation and says, for example, that the expert should not discount the value of the shares to be acquired because they represent a minority parcel of shares.[7] ASIC indicated that it did not intend to appear at the hearing of Dr Elkington’s application and it did not do so.
[4]Australian Securities and Investments Commission Regulatory Guide 111, Content of Expert Reports, March 2011, RG 111.7, RG 111.8.
[5]Ibid, RG 111.10.
[6]Ibid, RG 111.11.
[7]RG 111.11.
In Re Rancoo Ltd,[8] Hayne J dealt with an application in this Court for confirmation of a selective capital reduction. The independent expert in that case had opined that the proposed selective capital reduction was “not fair, but reasonable”. The independent expert valued the shares of the company at a figure less than that to be paid to the outgoing shareholder. However, the selective capital reduction was only part of a broader transaction, the effect of which was to the overall benefit of the remaining shareholders. On that basis, the expert concluded that the selective capital reduction was reasonable.
[8](1995) 17 ACSR 206.
The independent expert’s report followed the approach in ASIC Policy Statement 75 (which was a predecessor of the current Regulatory Guide 111). In considering the Policy Statement, Hayne J stated:
Policy Statement 75 expresses the views of the commission about the expression “fair and reasonable”. It does so in a way that seeks to attribute different meanings to the words “fair and reasonable”. The policy statement does not treat the expression ”fair and reasonable” as a single portmanteau statement conveying a meaning to the listener but, rather, seeks to take each element of the expression and attribute a different meaning to it. Thus, the policy statement expressly contemplates the circumstance that an expert might conclude that a particular offer is not fair but nevertheless is reasonable.
I must say that, for myself, I find the proposition that an offer may be “not fair” and yet still “reasonable” one which presents some difficulty. Perhaps that view stems from the impression I have that the expression “fair and reasonable” is but a single expression intended to convey a single overall meaning which is not to be identified by reference to particular constituent elements….
Again, it would seem to me that to divide the expression “fair and reasonable” as the policy statement would have it, is to invite the expert to engage upon a task
which requires consideration, in the first case, of circumstances that may be divorced to some extent from those which in fact obtain, while at the same time requiring that expert, later, to give an overall assessment of the worth of the proposal. Perhaps an approach of the kind described in PS 75 is useful in connection with the particular provisions of the law which are mentioned in it. I need express no view about that. It is enough if I say that I doubt that it is an approach that is particularly helpful in connection with a reduction of capital. Indeed in some cases it may obscure more than it illuminates.[9]
[9]Ibid at 208 – 209.
His Honour determined that the reduction should be confirmed.
In Zenyth Therapeutics Ltd v Smith,[10] application was made for approval of a scheme of arrangement under s 411(4) of the Corporations Act between Zenyth Therapeutics Ltd and its shareholders and a separate scheme of arrangement between Zenyth and its option holders in respect of 14 series of options that were issued. In relation to the option scheme, the independent expert opined that the total amount payable to the option holders was less than the total value of the options (although some individual option holders would receive more and others less than the independent expert’s valuation for the relevant options). Dodds-Streeton J considered Re Rancoo Ltd[11] and observed:
There is great force in Hayne J’s reservations about an offer which, although not fair, is nevertheless reasonable. Although Re Rancoo Ltd constitutes an example of a reduction of capital which was recognised to be such, persuasive applications of the distinction are likely to be rare.[12]
[10](2006) 60 ACSR 548.
[11](1995) 17 ACSR 206.
[12]Ibid at 568.
Her Honour continued:
Courts should adopt a cautious approach to the approval of any scheme which the independent expert considers “not fair”, particularly when it may involve expropriation at an undervalue. In my opinion, a scheme involving an offer of an undervalue, which is not fair, should generally not be considered reasonable unless it is accompanied by some positive compensatory feature. The fact that the security holders are unable to exact fair, or better, consideration through any avenue alternative to the scheme would not necessarily render an unfair scheme reasonable in the relevant sense.
In Re Rancoo Ltd, the party whose shares were cancelled received more than their estimated value. In the present case, the holders of six series of options will receive less than their value as estimated by the independent expert. Moreover, the option holder’s scheme is not, as in Re Rancoo Ltd, part of an interconnected “swings and roundabout” process, whereby those deprived of full value for their options (in the expert’s view) will receive a compensating windfall as part of a total series of transactions. There is no apparent overall benefit to the option holders from a related transaction.[13]
[13]Ibid.
Her Honour commented that the material before the Court did not enable it to conclude that the option scheme was not fair or, if not fair, nevertheless reasonable. The Court’s role was to assess the independent expert’s explanation for its conclusion. Her Honour found that the expert’s conclusion that the option scheme was reasonable was not clear or logically compelling and in the exercise of the Court’s discretion, the option scheme was not approved.
The Court’s power to grant an injunction – s 1324 Corporations Act
Section 1324 empowers the Court to grant an injunction where a person has engaged or proposes to engage in conduct that is or would constitute a contravention of the Corporations Act.[14]
[14]Section 1324(1) Corporations Act.
In relation to applications involving a contravention of s 256B(1)(a) of the Corporations Act, s 1324(1B) provides, so far as relevant, as follows:
If the ground relied on in an application for an injunction is conduct or proposed conduct of a company or other person that it is alleged constitutes, or would constitute:
(a) contravention of paragraph 256B(1)(a)
…
the Court must assume that the conduct constitutes, or would constitute, a contravention of that paragraph, section or provision unless the company or person proves otherwise.
Dr Elkington relies on evidence of the conduct of the Company which he alleges constitutes a breach of s 256B(1)(a). As such, the Company bears the burden of proof that the proposed selective reduction of capital does not contravene the legislation.
CostaExchange Limited and the proposed reduction in share capital
The Company is an unlisted public company. It is heavily indebted and must refinance its current facilities by 29 October 2011.
On 20 July 2011 various parties with an interest in the Company (“Costa Group”) entered into a share sale and subscription deed (“SSSD”) with P&P COS Holdings B.V. (“P&P”), a private equity firm based in the United States of America. From the Company’s perspective, the aim of the arrangement was to enable it to raise capital and reduce its debt. Under the SSSD, a share sale and a subscription for new shares will result in P&P acquiring an indirect interest in 50% of the Company (“Proposed Transaction”). In addition, if the SSSD is completed, a syndicate of banks has agreed to provide new debt funding.
It is a condition precedent of the SSSD that the shareholders approve a selective capital reduction of the Company. The reduction is to occur through the cancellation of 8% of the shares. I will call the holders of those shares the “Minority Shareholders.” The other 92% of the ordinary shares of the Company are held by Costa Exchange Holdings Pty Ltd and Six Oaks Pty Ltd and their respective related entities (“Remaining Shareholders”).
P&P has indicated that it will not waive the condition precedent in relation to the selective capital reduction. For this reason, the Proposed Transaction and the selective capital reduction were treated as interdependent by the independent expert and each of the three requisite shareholder resolutions was conditional on the passing of the other resolutions.
On 17 August 2011, the Company issued notices of meeting and an explanatory statement relating to the proposed restructure of the Company and the proposed selective reduction of its share capital. As noted previously, the amount to be paid to the Minority Shareholders in consideration for the cancellation of their shares is $0.86 for each share.
At the General Meeting of shareholders, the shareholders passed:
(a)with 80.87% of the vote, an ordinary resolution[15] approving the acquisition of the relevant interest in the Company by P&P; and
(b)with 98.45% of the vote, a special resolution[16] approving the selective capital reduction.
[15]Requiring a 50% majority.
[16]Requiring a 75% majority.
At the Special Meeting of the Minority Shareholders, a special resolution was passed with 81.23% of the vote approving the selective capital reduction.[17]
[17]Requiring a 75% majority.
The independent expert’s report
The explanatory statement which accompanied the notices of meeting[18] of shareholders included an independent expert’s report prepared by Deloitte Corporate Finance Pty Limited. The report assisted the Company in complying with its obligations under s 256C(4) to disclose to the shareholders all information material to their decision on how to vote on the resolutions.
[18]Two meetings were required – a general meeting of all shareholders and a special meeting of the Minority Shareholders.
The expert noted that the Proposed Transaction and selective reduction of capital are interdependent and referred to them together as “Combined Transactions”. The expert considered whether the Combined Transactions were fair and reasonable from the perspective of the Minority Shareholders. It did so by having regard to both the advantages and disadvantages to them of the Combined Transactions. In relation to the Remaining Shareholders, the expert considered whether the selective capital reduction was fair and reasonable to them by having regard to both the advantages and disadvantages to them of the reduction.
As noted above, the expert valued the shares in the Company, on a control basis, in the range of $0.97 to $1.15. It undertook this valuation having regard to what is said in ASIC’s Regulatory Guide 111. However, the expert considered that a key determinant in whether the Combined Transactions are fair and reasonable to the Minority Shareholders is whether they are in a better position after completion of the Combined Transactions compared to their position in the absence of those transactions. This led the expert to value the shares on a minority basis. The expert was of the opinion that the fair market value of the shares on a minority basis was likely to be lower than the estimated fair market value of the shares on a control basis. In arriving at that conclusion, the expert took into account that:
(a) the Company is an unlisted public company;
(b)in the absence of finding an alternative source of funding, the Company was unlikely to reduce its gearing level significantly and fund near term capital expenditure required to maintain and grow the business;
(c)this would limit the Company’s ability to generate a return for shareholders;
(d)shareholders have not received a dividend on their shares since 2006;
(e)Minority Shareholders are limited in their ability to sell their shares as the shares are not publicly traded; and
(f)the Minority Shareholders (holding approximately 8% of the shares) are unable to influence the current operations of the Company or the future growth strategies, nor are they able to control the cash flows of the business.
In calculating the estimated lower value, the expert applied a 25% discount to the control basis estimated value and made other adjustments. The expert arrived at a fair market value in the absence of the Combined Transactions (on a minority interest basis) of between $0.65 and $0.78. The expert opined that a Minority Shareholder may not even be able to achieve those values as the shares are not readily marketable.
As to the amount of $0.86 to be paid to the Minority Shareholders, the expert noted that the value of this consideration could be in the range of $0.81 to $0.95 depending on the tax profile of the individual Minority Shareholder.
The expert observed that whilst the consideration of $0.86 was below its estimate of the fair market value on a control basis, it is above the range of the fair market value on a minority basis.
The expert concluded that the Minority Shareholders are likely to be better off if the Combined Transactions are completed:
Minority Shareholders have not received dividends from [the Company] since 2006. In the absence of the Combined Transactions proceeding, [the Company] is unlikely to have the capacity to undertake the significant capital expenditure programs required to enhance the profitability of [the Company]. As a result, Minority Shareholders may not receive future dividends from [the Company] for a significant period of time due to [the Company’s] financial position and constrained growth prospects. Furthermore, since [the Company] is an unlisted public company, which is presently 92% owned by [CostaExchange Holdings Pty Ltd], the likelihood of the Minority Shareholders receiving an alternative offer from another bidder is low.
The Combined Transactions will allow Minority Shareholders to immediately realise their investment in [the Company] for a known cash amount. Minority Shareholders will not face the future risks associated with the operations of [the Company], including the effect of adverse weather, or [the Company’s] ability to raise debt or capital to fund future development.
The expert also noted disadvantages of the Combined Transactions for Minority Shareholders as being that they would not participate in the future growth of the Company’s business; they would not have any opportunity to receive a control premium for their shares (although the expert noted that there was a limited ability for them to sell their shares); they may not have an opportunity to invest in an agribusiness company with similar operations in Australia; and there may be potential disadvantageous tax consequences for Minority Shareholders.
Having considered the position of the Minority Shareholders, the expert turned to consider whether the selective capital reduction was fair and reasonable for the Remaining Shareholders, assuming that it was implemented and the other conditions precedent of the Proposed Transaction were met. The expert noted that the advantages of the reduction for the Remaining Shareholders were a simplified capital structure (which would reduce reporting requirements and associated fees and may result in benefits arising from tax consolidation); the Company and its related entities would have less debt; and there may be benefits arising from P&P’s part ownership of the Company (experience, expertise and another source of capital). The expert stated that the disadvantage of implementation of the reduction of capital for the Remaining Shareholders is the possibility of deadlock at board level in the Company’s ultimate holding company (with three directors to be appointed by P&P and three by the Costa family).
The expert made the following observations:
(a)if the Combined Transactions were assessed through separately assessing fairness and reasonableness in accordance with ASIC’s Regulatory Guide 111, the consideration offered ($0.86) is not fair, but is reasonable, to the Minority Shareholders, when compared to the value of a share in the Company on a control basis;
(b)ASIC Regulatory Guide 111 provides no definition for the term “fair and reasonable to the company’s shareholders as a whole”;
(c)therefore, the expert had regard to previous guidance issued by ASIC in relation to selective capital reductions and acquisitions, the Explanatory Memorandum to the Bill[19] which inserted s 256B, the Corporations Act and advice from Senior Counsel, “all of which prescribe that the term “fair and reasonable” for the purposes of selective capital reductions is intended to be treated as a composite term”;
(d)value is only one element to be considered in the assessment.
[19]Explanatory Memorandum, Company Law Review Bill 1997 (Cth).
Bearing these matters in mind, the concluded opinion of the expert was:
(a)so far as the Minority Shareholders are concerned:
(i)the advantages of the Proposed Transaction outweigh its disadvantages; and
(ii)the advantages of the Combined Transactions outweigh their disadvantages;
(b)the advantages of the selective capital reduction outweigh its disadvantages to the Minority Shareholders and the Remaining Shareholders;
(c)based on the above, the selective capital reduction is fair and reasonable to the shareholders as a whole.
Is the selective reduction of capital fair and reasonable to the Company’s shareholders as a whole?
It was contended by Mr McEwen on behalf of Dr Elkington that the expert’s reasons for concluding that the selective reduction of capital is fair and reasonable to the Company’s shareholders as a whole are not compelling. It was submitted that it can only be concluded that Minority Shareholders would, in the longer term, be “out of the money”, and that the benefits of a present sale at an undervalue are not apparent. Put another way, it was said that the purported benefits to the Minority Shareholders are no more than being relieved of the risks they took when they made their original investment. In any event, it was contended, the factors such as non-receipt of dividends in the past and in the future were presumably factored in to the valuation of the Company.
Further, Mr McEwen submitted that the expert arrived at the value of the minority shares by applying a discount of 25% in the absence of the Combined Transactions, that is to say, on a “minority interest basis” and pointed to the following text which appeared immediately beneath the table of the evaluation of shares on a minority interest basis:
In the absence of the Combined Transactions, or some other liquidity event, Minority Shareholders may not even be able to achieve the values set out in the table above as the shares are not readily marketable.
Thus, it was argued, the lack of marketability (where there is no control premium) appears to have figured in determining the value of the shares held by the Minority Shareholders. It was submitted that as the consideration offered of $0.86 is above the upper range of the minority discount value of $0.78, it would appear that lack of marketability still influenced such an offer. However, in concluding that the consideration was reasonable, it was contended that the expert must be taken to have again relied on the non-marketability of the minority shares, thus apparently applying that factor twice. It was put that as non-marketability had already been taken into account to reduce the value of the shares, the same factor could not render reasonable an offer concluded to be unfair.
Mr McEwen relied on Melcann Ltd v Super John Pty Ltd.[20] In that case, when determining the fair value of the shares to be cancelled, the expert failed to take into account the synergies that were available to the majority shareholder in merging the company’s operations with its own. As this was not taken into account, McLelland CJ was not satisfied that the proposed reduction of capital would be fair to the minority shareholders. Mr McEwen submitted that there was a similar omission in the present case. He submitted that it would appear that the expert has unfairly failed to take into account what he termed the “special benefits” to the acquiring company being the tax advantages obtained from group consolidation and which could only be obtained by elimination of outside shareholders.
[20](1995) 13 ACLC 92.
Mr McEwen also submitted that it is clear that a selective reduction of capital really amounts to a takeover by another name; cancelling for cash (or shares) all the external shareholdings except that of the new holding company. It was put that it is functionally equivalent to a takeover or compulsory acquisition by a 90% shareholder under Chapter 6A of the Corporations Act. In such a case, an expert must provide a report stating whether the terms in the proposed takeover or compulsory acquisition notice give a fair value for the securities concerned.[21] Counsel submitted that these provisions and the capital reduction provisions should be interpreted in a way that is mutually supportive. Counsel relied on Catto v Ampol Ltd[22] a case in which the New South Wales Court of Appeal considered an application for confirmation of the reduction of capital under the former s 123 of the Companies (New South Wales) Code1981. Kirby P favoured a harmonious interpretation of the two statutory regimes for reductions of capital and takeovers:
…in construing [section 123 of the Companies Code] I regard it as legitimate and appropriate for a court to keep in mind the provisions of the Acquisition of Shares Code. The two Codes should be read together. They are addressed, substantially, to the same actors. Often they operate upon the same events. Their operation is of great importance to the corporations of this country which are, in turn, of vital significance for our economic well-being. So far as the language and apparent purposes of the Code permit, a court should endeavour to provide an interpretation of them which affords a harmonious, practical and mutually supportive operation to each.
[21]Section 667A Corporations Act.
[22](1989) 16 NSWLR 342.
Mr McEwen submitted that it would be a surprising result if, by structuring the acquisition as a selective capital reduction, rather than as a takeover or compulsory acquisition, the fair value provisions of s 667C could be disregarded. Under s 667C, the minority shares are valued according to their proportionate value of the company as a whole (without allowing a premium or applying a discount for particular shares).
Mr McEwen also relied on the following passage of Rogers AJA from Catto v Ampol Ltd:
Commercially, there is nothing wrong with paying … a premium to a shareholder, who, by transferring shares, delivers control. However, the whole spirit which animates the Companies (New South Wales) Code and the [Companies (Acquisition of Shares)(New South Wales) Code] is an attempt to ensure that those who are in a minority get equality of treatment.[23]
[23]Ibid at 358.
The nub of Mr McEwen’s submissions was that the Minority Shareholders were not being offered a fair price. Picking up the words of Dodds-Streeton J in Zenyth Therapeutics Ltd v Smith[24], counsel submitted that this is not one of the rare cases of persuasive application of the distinction between fair and reasonable such that the Minority Shareholders should be denied fair value. Mr McEwen’s submission was that the Court is required to look at the elements of “fair” and “reasonable” separately and then weigh them up to determine whether the composite term “fair and reasonable” is met. Counsel submitted that here, the price is unfair and there is nothing in the expert’s report which balances that so that as a composite term it can be construed as reasonable and it certainly does not satisfy the “fair and reasonable” test.
[24](2006) 60 ACSR 548 at 568.
Counsel for the Company contended that as “fair” and “reasonable” are used in s 256B in the same context (a proposal for capital reduction), there is a conceptual impediment to distinguishing between the operation of the terms. In this regard, counsel relied on the analysis of Hayne J in Re Rancoo Ltd[25] and Dodds-Streeton J in Zenyth Therapeutics Ltd v Smith.[26] Mr Myers, senior counsel for the Company, contended that if “fair and reasonable” is a composite expression, then there are not two separate requirements, each of which has to be teased out. Rather, Mr Myers argued there is one idea embodied in whether the transaction is fair and reasonable. In this regard, it was contended that in determining whether the reduction is “fair and reasonable” a very broad range of circumstances must be examined. One of those circumstances would be whether the price to be paid is a decent price. But there are many other matters to take into account in determining whether the reduction is fair and reasonable in relation to the interests of all shareholders, not just the minority. Counsel noted that in the present case, the independent expert had regard not only to the value of the Company’s shares on a control or minority basis, but also to considerations such as the Company’s high level of gearing and inability to maintain and grow the business in the absence of the Combined Transactions; the non-payment of dividends since 2006; the limited ability of the Minority Shareholders otherwise to sell their shares; and the fact that as a result of the Combined Transactions, the Minority Shareholders will avoid the vagaries of “adverse weather, or [the Company’s] ability to raise debt or capital to fund future development”.
[25](1995) 17 ACSR 206.
[26](2006) 60 ACSR 548.
Counsel for the Company noted that the complaint in Re Rancoo Ltd was that the consideration for the cancellation of shares was above the expert’s estimated value of the shares but that in the present case, the complaint is that the consideration is below the estimated value of a share in the Company on a control basis, notwithstanding that it is above the estimated value on a minority basis. Counsel contended that that factual distinction alone should not alter the outcome.
Mr Myers submitted that it is wrong to say that the expert had not taken into account the potential benefit arising from tax consolidation – it is referred to in the expert’s report when consideration is given to the benefit to the Remaining Shareholders of the capital reduction.
Mr Myers submitted that the requirements that pertain to reductions of capital are quite distinct and different from the requirements that pertain to takeovers. In this regard, Mr Myers distinguished the decision in Catto v Ampol Ltd[27] on the basis that the test for the purposes of s 667C was whether the value was fair, which is a different expression altogether. Mr Myers contended that one of the aims of the current reduction of capital provisions is to leave approval to the shareholders and to avoid the types of arguments that the Courts had to entertain under the old legislation when the Court was required to confirm the reduction. So, it was put, the current regime is a completely different one from that which applied previously and the legislature now treats reductions of capital quite differently from the law concerning the regulation of takeovers. Mr Myers referred to the following passage from Winpar Holdings Ltd v Goldfields Kalgoorlie Ltd:
So far as the Gambotto principles called for procedural and substantive fairness, as well as seeking to ensure fairness between the shareholders the legislature had required disclosure of all material information (s 256A(c)); and it had required that the capital reduction be fair and reasonable to the company's shareholders as a whole (s 256B(1)(a)), thereby providing its own test of substantive fairness which looked to the whole rather than to the class selectively affected and leaving it to that class to make its decision upon fairness through the class meeting.[28]
[27](1989) 16 NSWLR 342.
[28](2001) 166 FLR 144 at 172.
Mr Myers argued that it should be of concern to the Court that Dr Elkington has participated as a shareholder in the entire process and at a time when the transaction is to be given effect he has come to Court to stop the implementation of the reduction. This is particularly so, it was put, in circumstances where the vote approving the reduction was by a handsome majority, even of the Minority Shareholders. Mr Myers characterised the application by Dr Elkington as a collateral attack on the fairness of an aspect of the reduction, which was mounted by an interpretation of the words of the expert report without the Court hearing from the expert or without some competing expert evidence.
Counsel noted that the expert did not opine that the capital reduction was unfair to those whose shares are to be cancelled. Rather, it concluded that, adopting the approach contained in ASIC’s Regulatory Guide 111 and treating “fair” and “reasonable” as separate elements, “the consideration offered under the Combined Transaction is not fair, but is reasonable, to Minority Shareholders, when compared to the value of a share in [the defendant] on a control basis”. Counsel submitted that there is no reason why a person whose shares are to be cancelled should receive consideration that included a “control basis” premium. In the present case, such shareholders have never had, and will never have, such control.[29] Counsel referred to the following passage from Winpar Holdings Ltd v Goldfields Kalgoorlie Ltd:
Taken to the full, if an acquiring majority had to pay the last cent to an acquired minority a pecuniary value for every benefit flowing from the capital reduction, there would be no reason to make the capital reduction. [30]
[29]Counsel noted that nevertheless, the Minority Shareholders were offered a 20% premium on the median minority basis valuation of the defendant’s shares.
[30](2001) 166 FLR 144 at 177.
In that case, the complaint was that the special benefit of a decrease in head office costs was allocated pro rata over all the issued shares and was not allocated solely to the shares to be cancelled. The Court of Appeal upheld Santow J’s ruling on the facts that such an allocation did not contravene the requirement in s 256B(1)(a).
Finally, counsel for the Company submitted that relief under s 1324 of the Corporations Act is discretionary. The Court “may” grant an injunction on such terms as the Court thinks appropriate. It was contended that it would not be “appropriate” for the Court to exercise its discretion to restrain the reduction given the potentially adverse consequences for the company’s solvency should the Combined Transactions not be completed expeditiously and in view of the legislative policy behind the introduction of s 256B and the abolition of court confirmation. Counsel submitted that should shareholders be given a license to object to reductions of capital on grounds of fairness and reasonableness separately, the number of proceedings arising from selective capital reductions would multiply as parties dispute two terms rather than one phrase, thereby re-introducing court approval of capital reductions by a side-wind. Here, all relevant information was placed before the shareholders, including the expert’s assessment that if fairness was considered separately from reasonableness, the price to be paid for the cancelled shares is not fair, but is reasonable to the Minority Shareholders when compared to the value of a share in the Company on a control basis.
It was put that the Court should only exercise its discretion to intervene by injunction where there is a clear breach of the Corporations Act and in circumstances where the law must be vindicated.
In summary, counsel for the Company submitted that there is no evidence that the present reduction offer is anything but “fair and reasonable” to the Company’s shareholders as a whole. There is no evidence that the consideration for the cancellation of shares is unfair except by comparison with a control basis valuation of the shares, as opposed to on a minority basis and where “fair” and “reasonable” are treated as separate. It was contended that for these reasons, both the shareholders generally and those whose shares are to be cancelled approved the reduction by overwhelming majorities. It was submitted that, consistently with the policy of s 256B, the shareholders’ wishes should not be lightly thwarted by the Court.
In my opinion, there is no proper basis for granting the relief that is sought by Dr Elkington. There are a number of difficulties with the submissions for Dr Elkington. The first is that despite stating that the phrase “fair and reasonable” should be treated as a composite term, the submissions proceeded on the basis that the test is controlled principally by one consideration, that is what is “fair” based on value. However, the phrase “fair and reasonable” conveys one merged concept. In assessing what is fair and reasonable, a wide range of matters relevant to the particular circumstances of the case will need to be taken into account. Value will necessarily be one of the important considerations. However, it is not the sole relevant consideration. In some cases, it may not be the most influential factor.
The second significant difficulty with the submissions for Dr Elkington is that they are founded on a supposed entitlement that does not exist. That is, that the interests of the Minority Shareholders should dominate those of the Remaining Shareholders. One of the aims of the selective capital reduction provisions is to ensure fairness between the company’s shareholders.[31] This requires consideration of the positions of both the Minority Shareholders and the Remaining Shareholders and balancing those interests. Further, s 256B(1)(a) itself requires consideration of what is fair and reasonable to the company’s “shareholders as a whole”. Again, this militates for the adoption of an holistic approach to the task.
[31]Section 256A Corporations Act. See [9] above.
Further, the legislation includes its own protection for minority shareholders as a group from being overborne by the majority and in effect gives the minority a power of veto. If the selective reduction of capital involves the cancellation of shares, the reduction must be approved by a special resolution of the shareholders whose shares are to be cancelled.[32] In the present case, 81.23% of the Minority Shareholders voted in favour of the selective capital reduction. Prior to the vote, the Minority Shareholders had the benefit of the expert’s report, including the expert’s assessment that the consideration was not fair when compared to the value of the shares on a control basis and when fairness is considered in isolation. Nevertheless, the Minority Shareholders voted in favour of the capital reduction resolution. They did so by more than the 75% majority required.
[32]Section 256C(2) Corporations Act.
Another troublesome aspect of the submissions for Dr Elkington is that they concentrate only on that part of the expert’s report that concludes that from the perspective of the Minority Shareholders, the consideration is not fair when compared to the value of a share in the Company on a control basis. No doubt the expert felt bound to include that conclusion because of what is said in ASIC’s Regulatory Guide 111. However, for the purposes of s 256B(1)(a), what is relevant is whether the reduction is fair and reasonable to the shareholders as a whole which, as stated above, necessitates a different approach. The expert has opined that the reduction meets the relevant requirement in s 256B(1)(a).
The expert’s opinion appears well reasoned. There is no evidence to establish that it is flawed. There is no reason why the expert’s assessment ought not to have been based on the estimated value of the shares on a minority basis. The expert has taken into account a wide range of relevant factors in arriving at the conclusion that the reduction is fair and reasonable to the shareholders as a whole.[33]
[33]See the section of these reasons dealing with the expert’s report commencing at [30].
Mr McEwen’s attack on the expert’s conclusions as to the fairness and reasonableness of the reduction and the method by which the expert arrived at a value of the shares on a minority basis[34] is not persuasive. There is no evidence to contradict the conclusions of the expert or to suggest that the expert did not have a proper basis for the methodology employed to value the shares. The report, on its face, does not suffer from the problems that were evident in the report before Dodds - Streeton J in Zenyth Therapeutics Ltd v Smith.[35] Even if valid, the criticism by Dr Elkington that the benefits to the Minority Shareholders are no more than being relieved of the risks they took when they made their original investment does not mean that the expert’s opinion is not sound. The removal of a risk voluntarily assumed may be a relevant factor to be weighed in the assessment of what is fair and reasonable. The suggestion that the expert has, as it were, erroneously double counted non-marketability of the shares in its evaluation is not made out. Factors which are relevant to valuation of the shares may also be relevant when considering the advantages and disadvantages to the shareholders of the capital reduction to arrive at an overall conclusion as to whether it is fair and reasonable. In any event, the submissions were founded on the implicit assumption that the consideration to be paid is at an undervalue. However, as noted previously, there is no proper reason why, for the purposes of s 256B(1)(a), the comparison of the consideration should be with the value of the shares on a control basis, rather than on a minority basis. On a minority basis valuation, the consideration to be paid is at an overvalue.
[34]See [41] – [43] above.
[35](2006) 60 ACSR 548.
The submission that the expert has omitted to take into account potential tax advantages to the acquiring company is misguided. As Mr Myers noted, there is specific reference to this in relation to the benefits that might be obtained by the Remaining Shareholders from the selective capital reduction.
The comparison with the takeover method of valuation is of little assistance. When dealing with a capital reduction, what is relevant is what is required by Part 2J.1 (including s 256B(1)) of the Corporations Act.[36] Further, the statutory regime that now applies is different from that which applied when the decision in Catto v Ampol Ltd[37] was handed down, and care must be exercised when considering what the court said in that case. No longer is court confirmation an integral part of the approval process for all selective capital reductions. The emphasis now is on approval by the shareholders with the requirement expressed to be fairness and reasonableness to the shareholders as a whole.
[36]In this regard, see Winpar Holdings Ltd v Goldfields Kalgoorlie Ltd (2001) 166 FLR 144 at 168, [83] per Giles JA.
[37](1989) 16 NSWLR 342.
As noted above, the Company bears the burden of proof under s 1324(1B) of the Corporations Act. Based on the evidence, including the expert’s report, the Company has established that the proposed selective reduction of capital does not contravene the legislation.
Conclusion
For the reasons given, the application should be dismissed.
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