What the impact of the reforms to the Listing Rules might mean for you and your M&A / corporate activity

Companies on the main market of the London Stock Exchange

M&A: Shareholder approval no longer required for significant transactions (class 1 transactions)

• Transaction announcement: The requirement for a class 1 circular and shareholder approval for significant transactions is being replaced by an obligation to announce the transaction and include certain prescribed disclosures in the announcement. (Significant transactions in this context means 25% or more in the class tests under the Listing Rules, usually triggered when the value of acquisition target (or business being disposed) is 25% or more of the listed company's market capitalisation). The announcement must include details of the transaction to enable a shareholder to assess the terms of the transaction including details of: any break fee arrangements; the effect of the transaction on the listed company; any risks to the company; and a statement by the board that it considers the transaction to be in the best interests of shareholders as a whole. There is no longer any working capital statement requirement. Announcements of disposals must contain historical financial information, but the position on announcements of acquisitions is more flexible and will depend upon what is available and what the company considers necessary to make available to shareholders.
  
  
• Removing competitive disadvantage: The requirement for shareholder approval on larger transactions by London listed plcs has long been considered to be a competitive disadvantage in an M&A context, particularly when participating in a competitive auction. Removing this procedural point of friction should make things easier for London listed companies seeking to expand by M&A activity.
  
  
• Timetable and cost efficiency: Obtaining shareholder approval required preparation of a class 1 circular, including the requirement to have the target's historical financial information restated to the purchaser's financial reporting standards. There are still some requirements to include financial information on the target in the deal announcement, but nowhere near as detailed. Preparation of the circular and satisfying the disclosure requirements as well as the associated comfort package from third party advisers had significant lead time. Pushing the class 1 circular through the FCA's review process also had timing implications. Often the exercise would be run in parallel with the due diligence adding cost when the risk of abort remained relatively high. Removing the requirement for a class 1 circular will have significant process (and cost) efficiencies for acquisitive London listed plcs. Equally, London listed plcs should be able to dispose of unwanted businesses more quickly than they have been able to in the past.
  
  
• Potential changes to M&A deal terms: We expect that removing the shareholder approval requirement also means that some "standard" terms on deals involving London listed plcs may change:

• No liability cap: there is no longer a requirement for shareholder approval when a listed company enters into an agreement with an uncapped liability or a liability cap that exceeds the class 1 threshold (be that related to an indemnity / warranties etc). Instead, there is an announcement obligation if these terms are entered into.
  
  
• No consideration cap: on some transactions, the consideration clause would be carefully drafted so that it did not trigger the class 1 thresholds and require shareholder approval, especially on earn-outs or other variable consideration that could not be determined at the time the agreement is entered into. This limitation will no longer be relevant but will require announcement.

• No limit on break fees: likewise, there is no longer a requirement for shareholder approval if the amount of the break fees is to exceed 1% of market capitalisation. Instead there is an announcement obligation. This may result in an increase to the typical UK market standard 1% fee, particularly where there is a US counterparty.

Joint ventures / deal structures

The application of the class tests to joint venture arrangements and to issues of shares by a listed company's subsidiary has always involved complex considerations under the Listing Rules. The class tests were sometimes inadvertently triggered or imposed restrictions that discouraged listed companies from pursuing joint ventures or third party investments due to the complexity in obtaining shareholder approval, especially for transactions involving new ventures where there was no certainty of outcome. With the shareholder approval requirement removed, there may be an increased potential for joint venture arrangements or other deal structures not previously contemplated, particularly involving third parties (eg PE funds making a direct investment into a listed company's subsidiary etc).

Related party transactions

The requirement for shareholder approval of related party transactions above a certain size (5%) has been removed. Related party transaction being any agreement outside ordinary course entered into between a listed company and its significant shareholders (10%+) or its board members. The requirement for shareholder approval of related party transactions was always a concern as the scope was wide and the understanding of "ordinary course" transactions being exempt from the approval requirement was quite narrow, meaning too many transactions were caught. Whilst there was some resistance to changes in this area, the general consensus was that the position could be addressed through good corporate governance and appropriate disclosure. The requirement for a "fair and reasonable" opinion from a sponsor will be retained for related party transactions above 5% and the transaction announcement for transactions above 5% must contain the statement that the board considers the position fair and reasonable.

Director exposure

One concern in removing the shareholder approval requirement(s) is that directors are no longer operating with the "safety net" of shareholder approval on these transactions. The prevailing view is that prior consultation with shareholders should still be possible and encouraged, even if not formalised in a shareholder voting process. Practices may develop whereby boards will seek fairness opinions from advisers (akin to that still required for larger related party transactions) as to the merits of a transaction and confirmation that the terms are considered reasonable. This approach is quite prevalent in the US. More detailed board consideration (and more detailed minutes of the board considerations) may also be merited.

Funding / capital raise

One obvious mechanic to confirm shareholder support for the transaction is to obtain shareholder financial support through an equity financing or otherwise. This would essentially provide de facto investor support. We can see a trend developing whereby listed plcs seek equity fundraising on a significant transaction as a matter of course even where it is not strictly required. Equity financings are already on the rise in any event given the increased costs of debt funding. It should be remembered that listed plcs are now permitted to issue shares representing up to 24% of their share capital (on capex transactions) without having to go to shareholders for pre-emption disapplication (provided they have sought the maximum pre-emption disapplications at their AGMs). 24% was the revised permitted pre-emption disapplication limit introduced by the Investment Association guidelines during Covid and has been retained since. This is up from the 10% limit set in 2015 (and the limit was just 5% before 2015).

Premium and standard listing categories combined into one

• The Listing Rules previously had two listing categories for commercial companies. Premium and standard. Standard listed companies were those that did not meet the requirements for a premium listing (or chose not to meet those requirements due to the restrictions eg requiring shareholder approval for significant transactions). The two categories are now being merged into one. This is not relevant for most London listed plcs as most were listed in the "premium" listing, but companies with a standard listing have a decision to make if they want to step up to the additional obligations now applicable to a main market listing (or consider an alternate listing venue like AIM).
  
  
• The FTSE indices only included premium listed companies. There may be some slight movement in the indices with previous standard listed companies now joining the indices.

 

Companies on AIM

No changes to AIM Rules: The AIM Rules are not changing in response to the Listing Rules reforms. AIM is typically a preferred public trading venue for companies seeking to be able to raise equity capital more quickly and grow through M&A activity without having all of the compliance requirements of a main market listing. Some of these points of distinction have fallen away following the reforms of the Listing Rules. AIM companies may well come under pressure from some investors to step up to the main market where there is increased liquidity and, now, similar flexibility on transactions. The largest companies on AIM are of a market capitalisation that would qualify for the FTSE 250 or even FTSE100. However, making the step up at the moment would require the onerous preparation of a full prospectus as if the company were a new market entrant conducting an IPO. It is also worth noting that AIM shareholders currently enjoy tax benefits that would not carry over onto the main market, especially the business relief available from inheritance tax, EIS and VCT tax benefits and stamp duty exemptions for trading shares in smaller cap companies.

 

Prospectus requirements

At the moment the prospectus regime is the same as it has been for a while (basically since 2005); so a new full prospectus would be required if a listed plc is issuing 20% or more of its current share capital (if on the Main Market) and/or public offers raising more than €8m. There are changes in the pipeline to simplify the prospectus requirements for a listed plc seeking to raise more capital through an equity financing. These changes are due to go under consultation this year and expected to come into effect in Summer 2025. The changes will simplify the processes (and speed up the timetable) for rights issues and other forms of equity fundraising. (These changes may well see a divergence from the approach in Europe as many of the current prospectus requirements are driven by EU regulation retained after Brexit).

 

Things that are not changing

• Remuneration reports & executive incentives: The requirements for a report on directors' remuneration and shareholder votes on the report and the remuneration policy is set out in the Companies Act not the Listing Rules and is not changing. There are conversations taking place to change the UK approach to remuneration to align more closely with the US and attract the best talent etc, but, for now, this does not appear to be a priority for the new government. Consequently, the same applies to broader share incentive plan arrangements where the UK is slightly out of step with the US.
  
  
• Annual Reports: The content requirements and detailed disclosures required to be included in a listed company's annual report are a source of frustration for many directors (and investors). There has been quite a bit of noise around the length of the annual reports and the information required (as well as the cost of production). Many reports run to 200-300 pages and the position taken by some is that anything meaningful is lost in the volume of the document. The contents are prescribed in part by the Companies Act although there are also some Listing Rules content requirements, including on Climate related financial disclosures, diversity & inclusion disclosures and governance reporting. The FCA has made clear that these requirements are not changing in the Listing Rule reforms.

 

IPO Candidates / PE Exits / PE Investments

• Fewer barriers to entry: Alongside making life easier for market incumbents, the other main tenet of the Listing Rules reforms is to remove barriers to entry for companies seeking to join the market. Applicants for a premium listing were required to have a three year financial track record, a revenue earning track record (unless concessions applied for particular sectors such as life sciences) and provide a statement that they had sufficient working capital for the coming year. These requirements have been removed. This should allow high growth companies to join the markets at an earlier stage (but could also increase potential risk profile – buyer beware). Market entrants will still be required to publish a prospectus and that prospectus will require such information to be included, if such information is available. Investors still need the information available to make an informed investment decision. Relaxing the requirements may improve the number and variety of sell-side IPO candidates, but also needs the buy-side to be willing to invest in those candidates. Improving investor appetite is a far wider market operation consideration.
  
  
• Flexible on business model: Previously there was a requirement that the IPO candidate had to be an independent business and control all of the assets necessary to carry on its business. This requirement has been removed and instead, provided the situation is disclosed to investors, and the company is able to meet its reporting requirements, the IPO candidate is not required to have an independent business or control all of its business. This should allow companies with different business models to join the market, although again, the key will be presenting a proposition that is attractive to investors
  
  
• Flexible on share classes: At least 10% of the IPO candidate's shares must be in public hands once on the market. It was (until 2021) a requirement that all of the shares should all be of the same class and no shareholder would be entitled to enhanced rights. This position changed in 2021 and will be tracked through into the Listing Rules reforms to allow dual class share structures. The desire is to enable some shareholders (particular founders) to have enhanced (weighted voting) rights if this is seen as acceptable to investors. The weighted voting rights cannot vote to approve a delisting, LTIP schemes, share offer discounts or share buybacks, but otherwise can vote on most other matters. Interestingly, the original proposal was to allow these enhanced rights for founders / individuals only, but the reforms have also extended this to institutional investors. There is no prescribed sunset provision on the dual class structure involving natural persons, but transfer restrictions and a 10 year sunset provision apply for institutional investors and other legal persons. This type of structure may be attractive to PE houses and venture capitalists on spin outs to preserve some of their ownership rights, while also having access to the public equity markets.
  
  
• IPO Candidates: The Listing Rule reforms mean that the range of potential market entrants is wider and the regulatory hurdles have been removed, however, the position still remains that in order to achieve a successful IPO, the IPO candidate needs to present a compelling investment case. Investors will likely seek a financial track record (or projections) and, if appropriate, a revenue earning track record. The decision as to what makes an investable IPO candidate will lie with the investors, rather than regulatory market entry requirements. It will be interesting to see whether or not investors are willing to move away from the conventional expectation of a three year record and other historical requirements. The relaxed entry requirements should attract companies joining the market at an earlier stage for investment (but also increases the risk profile). The nature and extent of disclosure will be the key here (and also brings the associated risk of litigation if any information is incorrect).

Whilst not directly linked to the Listing Rule reforms, you may also be interested in:

Wider market reforms

• Pension funds and British ISA: The Listing Rules reforms (and forthcoming Prospectus Rules reforms) are very much a field of dreams "build it and they will come" approach, but there are wider reforms under discussion around making the UK markets more liquid and encouraging (or even mandating) investment in UK shares. The pension funds are a particular point of focus given the decline in their UK allocated investment over recent years. This was referenced in the Chancellor's first speech and we can expect pensions and investments by pension funds (as well as British ISAs etc) will come under increased focus under the new government. Removing stamp duty on share trades is also a perennial hot topic when it comes to making the London markets more attractive (such tax does not appear on similar markets).
  
  
• PISCES: Further ahead, the London Stock Exchange is seeking to bridge the gap between public equity capital markets and private equity by exploring an intermittent trading venue (latest acronym PISCES - Private Intermittent Securities and Capital Exchange). The aim is to enable occasional trading of privately held stock, allowing an exit route for employees / founders / investors while not committing the company to all of the compliance requirements of a full time listing (and not subjecting the shares to the vagaries of daily trading). This idea is in the nascent stages and a sandbox has been set up. It has caught a lot of international attention especially from PE Houses and if the LSE can make it work has the potential to become a very interesting stepping stone between the public and private investor groups.

 

Further Guidance

For further information or advice on any of the matters discussed in this publication, please get in touch with your usual Corporate contact at DLA Piper.