With a whimper, not a bang? Pre-emption rights are the cornerstone of investor protection in London, a market that tends to guard its reputation for gold-standard corporate governance with evangelical gusto.
The notion, enshrined in company law no less, that existing shareholders have rights of first refusal when raising equity rather than having their stakes cut by new money, was last year described as a “sacrosanct feature” by Mark Austin, the lawyer conducting a review of capital raising.
That review, however, is set to recommend that the limit on non-pre-emptive fundraising is lifted from 10 per cent to 20 per cent — as it was during the pandemic — allowing companies to raise more money without the arduous business of running a rights issue.
What’s more, this change is likely to receive the support of the Pre-Emption Group, a rather informal band of investor grandees, market users and shareholder bodies that generally acts to safeguard the City’s standards. What gives?
The answer seems to be part pragmatism and perhaps part horse-trading, in a review that aims to spark a bigger modernisation of the UK’s markets.
There is, in fairness, general agreement that the Covid-era flexibility worked reasonably well and wasn’t abused by issuers. So-called soft pre-emption, where shareholders are informally offered first dibs, was generally respected. Companies raised what they needed, rather than shooting for the limit.
It wasn’t perfect: companies were raising emergency funds at deep discounts to beaten-down share prices. And individual and retail shareholders were largely shut out of the process, a serious bone of contention at the time. But, rather as with homeworking, the pandemic seems to have got the City on board with something that previously might have provoked horror at the very suggestion.
There remains quiet unease. Some fund managers see a politically-motivated, drip-drip effort to water down standards across the piece, such as the separate moves to allow dual-class shares or reduce free floats. This is another weakening of the overall framework, to their mind.
So the proposals — expected to be published next week — will include additional measures, which try to put the onus on companies to disclose and explain what they’re doing and on investors to hold them to account for that.
Issuers will have to report on how a fundraising was conducted, including efforts around soft-pre-emption and some semblance of inclusion of retail shareholders, which should at least focus board minds. Investors can and should use that to decide whether to reapprove the 20 per cent threshold at an annual vote — or indeed to nod through even more flexibility, with a suggestion that high-growth companies could choose to seek a higher pre-emption threshold still. A beefed-up, formalised group with additional resources will oversee the new rules.
But the ultimate aim here — of companies being able to raise money quickly and efficiently while respecting the position of all their existing shareholders — will require more than tinkering with the current market rules. Rights issues are slow and clunky precisely because that is, as it stands, the only way to run a robustly-fair process from the top to the bottom of the register, observed one expert.
Genuine inclusion for retail shareholders or drastically shortened timeframes for bigger pre-emptive issues arguably rely on the modernisation of archaic market infrastructure and the digitisation of shareholder registers — an idea long discussed and also long stymied by vested interests (and the fact that it is really quite hard).
That is the longer-term ambition in Austin’s review and should be the carrot here. Issuers can’t really include retail investors properly in capital raisings (or important votes) if they don’t know who they are or how to contact them quickly. Greater efficiency is a pretty hollow promise within the confines of a paper-based system.
The quid pro quo of allowing more flexibility in the current system should be a real commitment to a more fundamental overhaul.
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