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The protracted, public and often messy attempted aggressive takeover of Aspen by Endurance again highlighted the way in which a scheme of arrangement can potentially be used to force through such a deal. Bermuda:Re+ILS explores whether the use of this tactic could become more commonplace.
A scheme of arrangement has traditionally been viewed as being an extremely aggressive move, one that although possible under company law, has rarely been used as a takeover tactic—until now.
The question being asked, as mergers and acquisitions (M&A) in the re/insurance industry are picking up pace, is will it be used in the future as a tool to force through a takeover against the will of the board of the target company?
In Bermuda, Validus Holdings was the first company to use a scheme of arrangement to try to push through a takeover—in that case of IPC Holdings. The tactic was again used unsuccessfully in Endurance’s extremely high profile bid to take over Aspen.
“As soon as I heard of Validus’ plan to use a scheme to push through the acquisition of IPC I thought ‘wow, how do they think they will get away with that?’ It was really unusual. My reaction was ‘that is way out of the park’,” says Mike Morrison, managing director, advisory, at KPMG in Bermuda.
The re/insurance industry is experiencing a softening in the market coupled with alternate reinsurance capacity competing particularly in catastrophe reinsurance lines, resulting in many reinsurers looking to diversify their revenue streams, or simply to be bigger and remain relevant, through a merger.
The former is the driving force behind the proposed PartnerRe/Axis merger and industry experts believe M&A activity is going to be a fixture of 2015 as executives pursue a ‘bigger is better’ approach which, in particular, will put more pressure on the smaller firms to become big players.
As well as the PartnerRe/Axis deal, recent announcements also include RenaissanceRe agreeing to buy Platinum Underwriters Holdings and XL Group buying Catlin Group. It seems likely that more companies will be the target of takeover bids in 2015.
Appeal to the shareholders
“A hostile scheme of arrangement is an aggressive tactic and is all about putting pressure on the board of the target company. The questions is: will this type of tactic be used more in the future?” asks Morrison.
“In a hostile bid situation like those described earlier I can see it being used again—hostile bids involve pressuring the board and attempting to access shareholders directly.
“The scheme is a way of attempting to usurp the usual governance environment and making a proposal directly to the shareholders.” Mike Morrison
“The scheme is a way of attempting to usurp the usual governance environment and making a proposal directly to the shareholders with the aim of reaching an agreement through a scheme which is binding on all shareholders.
“The same tactic could be used in hostile bids in the UK and the Commonwealth but it’s extremely rare. I think that’s because the bar to obtaining court sanction to promote a scheme to the target’s shareholders is extremely high, although it is not impossible to achieve.”
A hostile scheme of arrangement involves bypassing the board and going straight to the shareholders—when the aggressor believes there is sufficient support.
A court will convene a meeting where shareholders can vote on the proposal. It will succeed if a majority representing 75 percent of the shares of those voting, vote in favour at the meeting.
An English export
The origin of the Bermuda scheme is in English legislation which has been exported into other common law jurisdictions such as Australia, New Zealand, Canada and Singapore. Although it has always been known that it could be used to pursue a hostile takeover, its use has usually been consensual and limited to areas such as restructuring and bankruptcies.
In one case in1981, Trust House Forte, which was part of Forte Group, a British hotel and restaurant company bought by Granada, tried to use a scheme of arrangement to take over London’s Savoy Hotel. It was unsuccessful.
In 2009, the use of a scheme to force through a hostile bid emerged again when Validus Re used it unsuccessfully to try to take over IPC Re, followed in 2014 by the Endurance bid.
According to Robin Mayor, a director and head of insolvency & restructuring in the Bermuda office of Conyers Dill & Pearman, the implementation of a hostile takeover by way of a scheme of arrangement has always been a theoretical possibility.
The Bermuda Companies Act 1981 permits the Supreme Court of Bermuda to order a meeting of target members to approve an arrangement proposed between the target and its members on the application of any of the target’s members.
“There are however significant practical difficulties in seeking to implement a takeover by way of a scheme where the target board does not support the proposed scheme,” says Mayor. “The difficulties arise largely because the scheme process is controlled by the target.
“In 2009 the court considered an application by Validus Holdings requesting the court to order a meeting of the IPC members to consider an arrangement which, if approved at the court meeting and subsequently sanctioned by the court, would have enabled Validus to acquire IPC.
“While it is settled law that a scheme requires the agreement of the company, the court held that the company in a general meeting is competent to provide the company’s agreement where the board of the company is not in support of the scheme.
“However, the court’s power to order a meeting is entirely discretionary. The court held that where a member, whose real interest is as a bidder, brings an application its interests are quite distinct from those of the other shareholders.”
Mayor quotes Richard Ground, the Bermuda Chief Justice, in his Supreme Court judgment on the Validus Holdings, IPC Holdings and Max Capital action in 2009.
Ground said: “Whatever the practical difficulties with a hostile scheme process, it seems to me that as a matter of principle I should not initiate it on the application of a bidder without some real and solid indication of independent shareholder support to show that it has some reasonable hope of success.”
Jonathan Betts, senior associate at law firm Cox Hallett Wilkinson, agrees. He believes that in the Endurance-Aspen deal, the tactic was used simply as a way of putting further pressure on the board.
“I’m not sure I agree that the Endurance bid for Aspen may, legally, have opened up the possibility that shareholders may have more potential to circumnavigate the boards of companies going forward,” Betts says.
“Generally, the insurance sector has seen very few successful hostile takeovers, especially in the case of Bermuda reinsurers. Against this backdrop, it would appear that Endurance’s goal was to gain enough momentum by garnering shareholder support for the proposed acquisition so that Aspen’s management team would be induced to start negotiations.
“There are significant practical difficulties in seeking to implement a takeover by way of a scheme where the target board does not support the proposed scheme.” Robin Mayor
“Endurance abandoned its bid once it realised that Aspen’s shareholders’ response to the offer was muted and there was a strong likelihood that the Bermuda Court would not consider ordering a shareholder meeting to consider the proposed hostile scheme of arrangement.
“There is, and has always been, the potential for the shareholders of a company to circumnavigate the board of directors when a hostile offer is made but, as demonstrated in the comments of the Chief Justice, the bar is set sufficiently high to make it a significant challenge for those shareholders who are amenable to an offer to effect change without board support.”
Use of a scheme
Mary Ward, counsel in the corporate department in the Bermuda office of Conyers Dill & Pearman, adds that the use of a scheme to implement a hostile takeover is only likely to be successful where there is broad independent shareholder support for the proposed acquisition.
“The court is unlikely to consider it appropriate that the target company’s shareholders bear the risk of proceeding with a scheme that is not capable of implementation on the terms proposed. The reality is that to date, there has not been a successful hostile scheme implemented.
“While the use of a hostile scheme may have the potential to weaken the position of a publicly-listed board of a Bermuda company the uncertainties associated with its implementation and lack of judicial precedent make the reality of a successful hostile scheme practically less of a concern.”
Asked whether legislation in Bermuda needed to be changed in order to better protect businesses from schemes of arrangement, Mayor says: “If a scheme is intended to be used as a mechanism to implement a hostile takeover then certain provisions should be adapted to facilitate its use in a hostile context.
“In particular, if the scheme documents were to be controlled by the bidder in a hostile scheme, then the directors should have defences with respect to any liability associated with the disclosure.
“But the use of a scheme in a hostile context is far from clear and until that uncertainty is resolved changes would appear premature at this time.”
“Bermuda law permits staggered boards which generally in the case of most Bermuda public companies cannot be removed midterm without cause,” Ward adds.
“The absence of a board approval requirement for the implementation of a scheme means that a bidder might be able to complete a deal which does not have the support of the board without replacing a majority of the target board which, in the case of a staggered board, could take two years.”
Endurance declined an opportunity to comment on this article.
Aspen, Endurance, mergers and acquisitions, M&A, Validus, catastrophe, reinsurance, Catlin, XL, Mike Morrison