‘Light-touch’ regulation has been a factor. In recent years, companies have been given more leeway to finance acquisition opportunities as and when they arise without having to convene an emergency meeting, thereby providing greater flexibility – or ‘optionality’ – on the M&A front. They have been able to issue a greater percentage of their existing share capital without regard to statutory pre-emption rights.
Companies are also able to bypass statutory pre-emption rights by means of a special resolution of shareholders. So, it stands to reason that institutional shareholders will have a much greater say in the way in which companies go about raising capital.
Unlike most retail investors, institutional investors routinely take into consideration the appropriate level of pre-emption from the perspective of cost of capital, specifically the impact that corporate actions will have on the value of the companies in which they invest over the long run. It’s unlikely that most private investors have the resources to employ sophisticated risk management modelling to gauge the long-term impact of capital raising on their portfolios.
All this came to mind recently, after some readers got in touch regarding several recent share placings, the terms of which have drawn their ire from differing perspectives.
In February, Simon Thompson outlined the investment case for Kromek (KMK), a radiation detection technology specialist operating out of Sedgefield. The company had announced a placing and open offer to raise £19.9m net of expenses to fund an increase in manufacturing capacity following on from the award of a $58m (£46.4m) seven-year medical imaging contract.
With an order book exceeding $100m, it’s hardly surprising that Kromek decided to tap the market. But our reader was far from impressed by the 1:65 entitlement ratio linked to the open offer, particularly as the shares in issue had increased by just under a third. The company had placed 80m shares with new and existing shareholders, while releasing just over 4m shares under the open offer at a price of 25p a share.
Kromek made the point that a full pre-emptive offer, either via a rights issue or open offer worth more than €8m (£7.08m) would have necessitated the issue of a prospectus, entailing “significant time and cost”. The rationale is straightforward enough, but one is left wondering whether institutional pressure played a part.
At any rate, our reader thought the terms of the open offer “derisory”, but further opprobrium was directed at an accelerated bookbuild conducted by Gordon Dadds, subsequently renamed The Ince Group (INCE), which not only bypassed retail investors in favour of institutions, but was also struck at a 25.9 per cent discount, a problem given “that the new shares were so easily placed”.
Another reader highlighted the apparent iniquities of a recent placing by Primary Health Properties (PHP), specifically the fact that directors could participate in the issue, whereas ordinary investors were surplus to requirements. He went on to point out that when the company said the shares were issued at a 4.3 per cent discount, the figure was predicted on the intra-day price when the placing was agreed, rather than the price at the previous day’s close. If the latter date is employed the discount rate nearly doubles.
In light of the examples provided, it’s worth noting that under the 2015 Principles of the Pre-Emption Group, in which the Financial Reporting Council acts as Secretariat, when companies are issuing equity securities non-pre-emptively “any discount at which equity is issued for cash will be of concern, but companies should, other than in exceptional circumstances, seek to restrict the discount to a maximum of 5 per cent, including expenses”.
Given the growing preponderance of nominee holdings, it’s perhaps inevitable that minority shareholders would become less involved in the decision-making processes of public companies. But this has negative implications, not only from the perspective of the investors themselves, but also in terms of corporate governance. Theoretically, an individual shareholder’s right to vote ensures that directors are held accountable for their actions, but given the disproportionate influence of institutions, you're sometimes left with the impression that the tail is wagging the dog.
