Changing the board

The most effective of these rights is probably the right to requisition a shareholder meeting and change the board.  It is generally advisable to plan such a change carefully because:

• Attempts to change board members tend to be resisted by incumbent directors.  Often, they will claim that corporate governance rules prevent the changes requested.  Under the FRC Corporate Governance Code (which applies to premium listed companies), at least half the board, excluding the chair, should be non-executive directors whom the board considers to be independent.  The FRC Code also recommends that the Remco should lead the process for appointments and that the composition should reflect objectives regarding diversity and gender balance.
• These requisition rights are highly technical and companies will frequently refuse a requisition for even a minor technical breach.
• Traditional long-only institutional shareholders are often wary of a company falling under the influence of a material shareholder so the activist needs a strategy to gather support from shareholders sufficient to support the resolution being proposed.
• Under the Takeover Code, a mandatory bid can be triggered if the board change is deemed to be ‘control seeking’ (e.g. the nominees are to key positions and non-independent); and there is collective action by supportive shareholders buying shares or derivatives at or around the 30% mandatory bid threshold.

Placing a nominee on the board can have drawbacks.  For example:

• The nominee director will owe fiduciary duties to the company and the company will impose restrictions on what information the director can share with the investor.  For example, it will not be possible routinely to share inside information or confidential information.
• Even if the parties do not intend to share inside information, the fact that the investor has a nominee on the board may restrict the investor from dealing in shares in a close period.
• The company may try and insist that the investor enters into a  relationship agreement even where no such agreement is required under applicable corporate governance.  This agreement can become a mechanism for restricting the freedom which the investor has to acquire or dispose of shares in the company or restrict how its votes are exercised.

Forcing the Board to change strategy

The articles of association of a UK listed company will vest management of a company in the Board.  Because of this, a shareholder cannot direct strategy by proposing an ordinary resolution (which requires a 50% majority in favour). It may be possible to propose an advisory ordinary resolution but it would not bind the company and the company may decide to reject it.  

Most articles of association will enable a special resolution to be proposed which directs the management to carry out a corporate action or to change the articles.  However because a special resolution requires a 75% majority in favour, this is a difficult bar to reach.  Also, this type of resolution may still be resisted, particularly if the incumbent board rejects a proposal as not being practicable for implementation (e.g. due to tax or accounting considerations).

Legal action for breach of fiduciary duty 

Legal action by activists against directors of UK companies for breach or alleged breach of fiduciary duty are rare.  One key reason is that the action is technically taken in the name of the company since the entity to which the duties are owed is the company. Consequently, damages for breach of fiduciary duty are payable to the company not the investors.  

For this reason, most UK cases for breach of fiduciary duties or misuse of powers arise during or following insolvency proceedings where the liquidator is seeking to maximise assets for the benefit of creditors.  

 Claims under the Financial Services and Markets Act 2000 (“FSMA”)

Investors can bring claims under:

• Section 90 FSMA for loss due to untrue or misleading statements or omissions in a prospectus (no reliance need be proven); or 
• S. 90A FSMA due to a misleading statement or dishonest omission in certain published information relating to the securities (e.g. public statements), or a dishonest delay in publishing such information (where the claimant can show reliance).  

These actions take time and are more commonly used to seek redress for missteps by a company rather than to influence actions an investor wants a company to take.

Research into the public company

Researching the market in which it operates,  performance relative to peer group companies and methods of maximising the value of a company can set up the conditions for a successful activist strategy.  

Direct dialogue with the company and its investor relations team or with the company’s corporate broker or retained financial adviser.  

This dialogue is especially effective if the company needs or is likely to need shareholders to vote in favour of corporate action, e.g. resolutions to effect an issue of shares or to approve corporate actions such as a divestment, acquisition, demerger or a scheme of arrangement to effect a takeover. 

An activist needs to be very careful not to receive inside information in any dialogue with the target company as this will then restrict the investor from dealing in shares whilst it remains an insider.  It is not sufficient simply to request that the company does not provide inside information as the shareholder has to make its own assessment of whether it has received inside information.  

The danger of speaking to a listed company whilst trying to preserve freedom to deal in shares  is highlighted in the FCA decision in 2012 relating to inside information received by David Einhorn of Greenlight from Punch Taverns Plc.  At the request of Einhorn/Greenlight, the call with Punch Taverns Plc was expressly set up on a ‘non-wall crossed’ basis.  However, the FCA concluded that the call nevertheless conveyed inside information and that Einhorn/Greenlight breached the insider dealing restrictions by selling Punch Taverns Plc shares after the call (which enabled Einhorn/Greenlight to avoid losses).

Dialogue with other shareholders in the company

Persuading other shareholders to align themselves to the changes being advocated can be especially effective since the board will feel under pressure to respond.  The pressure will be more intense if the investor can enlist the support of traditional long only funds in addition to hedge funds.  

Investors must be careful not to share inside information (e.g. information on what action they intend to take which may be price sensitive); or organise collective action which might be construed as board control seeking action under the Takeover Code.  

Point out misalignment between what the company is proposing and applicable laws and corporate governance

Holding the company accountable to its own goals and obligations can be an effective way of harnessing support of other shareholders and influencing the board.  

Formal letters to the board 

A formal letter outlining suggestions as to how the company should change or implement strategy can be effective in persuading the board of the investment case being put forward.  If the target adopts the suggestions and makes them its own, so much the better.  These letters can be private or made public if the company is not receptive to the suggestions.  Making reference to the investment case for these suggestions and inferring that consent may be withheld for an impending corporate action can increase the pressure.

Creating a website 

A website which acts as a repository of letters and opinions of the activist shareholder can be effective means of increasing pressure.  Activist shareholders must take care over public statements to avoid becoming vulnerable to claims for defamation.

Speaking with media 

Speaking with the media to promote alternative views, whether on a named or unnamed basis can also create pressure and force the target company to respond and answer criticism.  

Buying additional shares or converting derivative interests to voting shares 

In theory, the greater the stake, the more the target board should feel pressure to acknowledge the views of the activist.  However, boards will often become more obdurate and claim to be looking after the interests of the minorities if a single material shareholder drives a personal agenda.  So it can in fact be counter-productive to accumulate a material non-controlling stake.  It is best to get the support of a wide and representative selection of shareholders to demonstrate that the outcome is not simply being advocated by a single investor.

Pressing the target company to disclose internal reports 

If there is a key strategic decision to make, the board will often commission internal or external reports.  These can be used to validate corporate actions being proposed and opposition to what an activist is suggesting.  Although a company can generally resist full disclosure, it will generally need to disclose the key recommendations it is relying upon.

The 1% threshold

If the target company is in an offer period, enhanced dealing disclosure rules apply under the Takeover Code.  The normal threshold for disclosure of dealings is 1% for shareholders.  However, if the investor is an identified potential bidder then all dealings (i.e. below this threshold) must be disclosed. 

Dealing disclosures must be made in the securities of the target and the bidder (unless the bidder has announced that the offer will be in cash only).   Derivatives, options and short positions are disclosable.

Under the Code, disclosures must be made by 3.30 pm (London time) on the business day following the date of the relevant dealing.

A full summary of the disclosure requirements contained in Rule 8 of the Code can be found here.

The 3% threshold

Provided the target is not in an offer period for the purposes of the Takeover Code, an investor can covertly build a stake in a UK listed company up to the 3% disclosure threshold.  Disclosure is required when the investors’ interest hits 3% with further disclosure at each 1% threshold above 3% up to 100%.  

Under disclosure requirements in DTR 5, agreements between investors may also be disclosable if the relevant threshold has been reached.  Specifically, a voting rights agreement (which obliges the parties to adopt, by concerted exercise of the voting rights they hold, a lasting common policy towards the management of the target); a temporary transfer of voting rights; or a proxy giving voting discretion to the holder are all indirect disclosable interests under DTR 5.2.1R.

Notification by the investor must be made as soon as possible, and two trading days for UK issuers but not later than four trading days in the case of a non-UK issuer.

The 5% threshold

There is a useful exemption where the shareholder is an investment manager (e.g. the investment management subsidiary of an activist which invests the assets of the activist investment fund).  In this situation, holdings need only be disclosed at 5% or above (as opposed to 3%) and further notification arises if holdings reach, exceed, or fall below 10%. At 10%, the exemption no longer applies so disclosures are required for every 1% increase or decrease above this threshold.   This exemption does not apply if the target company is in an offer period.

If the listed company is a non-UK issuer, the investor need only disclose its aggregate interest at 5%, 10%, 15%, 20%, 25%, 30%, 50% and 75%.  If the issuer is incorporated in the USA, Japan, Israel and Switzerland, then the disclosure obligations are governed by the rules applicable in these jurisdictions.

Derivative interests

For disclosure purposes, a holder of a derivative interest is treated the same way as person who holds the shares and controls the voting rights, subject of course to the interest reaching the relevant 1%, 3% or 5%  threshold.  This rule applies regardless of whether the derivative is cash settled or the investor has the right or discretion to physically settle.

Disclosure upon being served a notice

Under s. 793 of the Companies Act 2006, a UK public company can investigate the identity of any person it knows, or suspects, is (or was at any time in the preceding three years) ‘interested’ in its shares by sending a notice requiring the person to confirm certain information, such as details of its interest in the shares; or any agreement between two or more persons that includes provision for the acquisition by any of them of interest in shares and the agreement contains mutual obligations or restrictions (esp. as to exercise of shareholder rights).  

The working assumption should be that a derivative interest in shares must be disclosed if a s. 793 notice is received, although it is arguable that a purely cash settled derivative is not a notifiable interest.

Control thresholds

Acquiring material influence

In certain circumstances, consent may be required before influential stakes above 10% are acquired. 

For example –

• If the target is in a regulated sector (e.g. financial services), there may be lower thresholds (sometimes as low as control of 10% of the voting rights) which require the investor to be approved by the relevant UK regulator before voting interests above threshold can be acquired.  This must always be checked by reference to the sector the target company operates in. 
• Once a shareholder controls 10% of the shares of a premium listed company (or exercises significant interest over the company) it is a substantial shareholder for the purposes of the FCA Listing Rules.  A transaction or arrangement between a premium listed company and such a shareholder (or a person who was a substantial shareholder within 12 months) which is outside the ordinary course of business pursuant to which the investor invests in the company or from which it benefits is a related party transaction which requires approval by shareholders (excluding the related party and its associates).
• Competition/anti-trust thresholds can arise at levels as low as 15% under the UK Enterprise Act.
• The new UK National Security and Investment Act 2021 is introducing new rules for foreign investors which can arise at 25% (or 15% using similar material influence criteria as the Enterprise Act).  This Act will introduce mandatory and/or voluntary notification requirements (by sector); and powers to block or unwind transactions.  Although these new rules are not yet in force, the UK Government will have the power retroactively to call in transactions for review which took place after the Bill was introduced to Parliament.  

Acquiring control

A mandatory bid will be triggered under Rule 9 of the Takeover Code if the investor’s total interest in shares (together with any persons acting in concert with it) exceeds 30%, including derivative interests.  

Shareholder activism in the UK: Insider dealing and market abuse

Laws and regulations on insider dealing and market abuse must be considered.  This article does not purport to summarise these rules but some key highlights are:

1. No dealings should take place if the investor has inside information.  
2. Investors should not share information with other persons (e.g. target shareholders) on what action they intend to take as that information may be inside information.  
3. Investors must also be careful that their public statements are accurate and do not amount to market abuse (i.e. if inaccurate statements might improperly influence the share price) 

APPENDIX

This Appendix sets out the relevant thresholds for the main rights in the Companies Act 2006, Financial Services And Markets Act 2000 and Takeover Code.  

It is always important to review the target company’s articles of association, but as a general principle, statutory rights of shareholders in the Companies Act cannot be overridden in the articles. 

Published – 29/04/21