Q&A - Guernsey Court of Appeal rejects "oppressive" Scheme of Arrangement

What was the background to the transaction?

Puma Brandenburg Limited (Puma), a Guernsey company, had a number of shareholders, including one majority shareholder (also a director of Puma) whose holding amounted to approximately 65%.  The transaction was designed to effect a takeover of Puma by that majority shareholder, but with the takeover being structured as a selective share buyback of the other shareholders by Puma itself under a court-sanctioned scheme of arrangement (Scheme).  The effect of this would have been to leave the majority shareholder with sole control of Puma and its assets, without any direct payment by him for that acquisition.

How did the case reach the Court of Appeal?

It is very rare for a scheme of arrangement to be contested, let alone make it to the Court of Appeal. The Scheme was contested at the sanction court hearing by a large minority shareholder who contended that the Scheme was flawed as it didn’t comply with the statutory requirements for a share buyback under Guernsey law and who disagreed with, amongst various other things, the calculation of the offer price (being a 43% discount to NAV) and the fact that at the requisitioned scheme meetings, the Scheme was only approved by shareholders closely connected or related to the majority shareholder (including his brother) in whose favour the scheme was designed.

Under Guernsey law, a share buyback can only be used where the consent of the shareholder whose shares are being acquired is given. The minority shareholder did not give its consent to the buyback of its shareholding and it contended that the Royal Court did not have the jurisdiction to provide that consent on its behalf.

The Scheme was successfully contested and the Royal Court refused to sanction the Scheme, agreeing with the submissions of the minority shareholder.

Puma appealed the decision of the Bailiff on the basis that he erred in his statutory interpretation of the requirements around "consent" under the share buyback provisions.

So why was the takeover not successful?

The transaction structure was fatally flawed from the start. It appears that a scheme of arrangement, rather than a traditional takeover bid under Part XVIII of The Companies (Guernsey) Law, 2008 (Companies Law), was the chosen transaction structure due to the significant blocking stake held by the minority shareholder which would have prevented a statutory "squeeze-out" had the takeover been undertaken by a third party bidder. The primary issue with the Scheme was that Puma attempted to structure its selective buyback of shares as a court-sanctioned scheme of arrangement – a transaction where there is no similar example in any jurisdiction.

Puma's difficulty in this case, however, was that the Companies Law sets out specific provisions as to how a company may buy back its own shares, including a requirement that the company must obtain the "consent" of the shareholder whose shares are to be bought back. The minority shareholder did not give its consent to the buyback of its shareholding and the Court of Appeal agreed that a court's consent could not be substituted for a shareholders individual consent requirement. As a result, the statutory requirements for a share buyback were not complied with and the Scheme failed.

Does this decision affect a share buyback in Guernsey?

No, it doesn’t. Guernsey companies still have the ability to undertake share buybacks in accordance with provisions under the Companies Law and this decision has not changed what is market practice for these transactions.

Does this decision affect schemes of arrangement in Guernsey?

No, it doesn't.  This decision confirms that a scheme of arrangement cannot be used to overcome or circumvent other specific requirements of the Companies Law, but it absolutely remains a valuable and effective means of effecting a traditional takeover or other arrangement between a company and its members (or indeed creditors). If anything, this judgement should reassure investors in Guernsey companies that Guernsey as a jurisdiction will not allow the scheme machinery to be misused.

Had the scheme been sanctioned by the court it would have set a dangerous precedent, undermining the confidence of investors in Guernsey companies – our law is clear that a company cannot buy back the shares you hold in it without your consent, and this formed an important part of the Court of Appeal's judgment.

Were there other factors at play in the Court of Appeal's decision?

Yes.  Before sanctioning a scheme, the court must be satisfied, in short, that firstly it can sanction the scheme (the "jurisdiction test") and secondly that it should do so (the "discretion test").  In this case the court found that it did not have the power to sanction the scheme – largely because to do so would have breached the clear requirement for shareholder consent – and that, even if it had had such jurisdiction, it would not have exercised its discretion to do so. This second finding was based on a number of factors: 

1. Firstly, the court was not satisfied that the shareholders who had voted for the scheme were in fact acting in the best interests of the class as a whole.  It essentially confirmed that there were class issues which weren’t appropriately dealt with.
2. Secondly, the court was not satisfied with the level of disclosure contained in the scheme documentation such that the court did not believe the arrangement was one which an "intelligent and honest man" might reasonably approve.
3. Finally, the court found that there was a "blot" on the scheme, in that it amounted to oppression on shareholders by pressuring them to sell their shares at an offer price unconnected to their true value (a 43% discount to NAV) by the threat that Puma may not offer any other form of liquidity event in the future.

Isn't this a bad result for those shareholders who voted in favour of the scheme and wanted to sell their shares back to Puma?

Not at all – in fact, by the time of the appeal hearing, Puma had separately undertaken a traditional tender offer, which had been accepted by all of those shareholders and completed in the usual way (i.e. quite outside of the proposed Scheme).  The result was that at the time of the appeal hearing, the Court of Appeal was being asked by Puma to sanction a scheme which would only affect those remaining shareholders who had either voted against the scheme, or had not voted – that is, the shareholders who clearly had not given their consent.  By this time, the Scheme itself was futile.

What's the key takeaway?

In short – buybacks are still permissible, and schemes of arrangement (properly constructed) remain an important takeover mechanism, but a selective share buyback cannot be affected by way of a court-sanctioned scheme of arrangement without the consent of the shareholders whose shares are being acquired.