Takeover Panel to review CFDs in relation to takeover bids

United Kingdom

The Panel on Takeovers and Mergers ("the Panel") (the regulatory body that administers the City Code on Takeovers and Mergers ("the Code")) is proposing to publish a consultation paper in early 2005 specifically addressing the issue of regulating contracts for differences ("CFDs"in relation to takeover bids.

By way of background a CFD is a derivatives product whereby value is derived from the underlying equity. In its simplest form, a CFD is an agreement where two parties agree to exchange the difference between the opening and closing prices of a particular share, multiplied by a specific number of shares, on pre-determined dates. The payments essentially reflect the increase or decrease in the underlying shares' value and, therefore, mirror actual ownership. A CFD investor receives the benefit of equity ownership, such as receiving payments equivalent to any dividends actually declared and paid on the underlying equity and any increases in value, without actually owning the shares. This is advantageous in a number of ways. For example, unlike a purchase of shares, buying a CFD does not give rise to stamp duty. Further, while purchasers of shares usually pay the full value of the shares on purchase, in a CFD transaction only a small percentage of the value of the underlying contract is usually paid up front. In addition, shareholders appear on the company's register and are subject, in certain circumstances, to disclosure requirements. A CFD, in contrast is not normally subject to most of the disclosure rules relating to share ownership. These factors make CFDs a very useful economic tool, but there is potential for the product to be abused by those who enter into CFDs to circumvent regulatory restrictions that would have applied if they had held the underlying shares. It is this aspect of CFD use that has led the Panel to take action.

In the past, the Panel has issued numerous clarifications on the role of CFDs in takeover bids and is of the view that the rules governing CFDs require amending. The Panel published a consultation paper in June 2004 that addressed a number of broad market-related issues, including CFDs and disclosure requirements. The consultation period for this ended in October. The further consultation paper will address CFD disclosure requirements in detail as, at present, a company's register of shareholders may not accurately reflect who is trading in the shares and can give an inaccurate picture of the ownership of the company. It is commonly expected in the market that the Panel will seek to toughen the rules relating to CFDs in relation to takeover bids

Issues to be addressed by the Panel include revision of the current rule that, when a takeover bid is launched, a holder of derivatives in the target company need only declare their holdings if they also hold at least 1 percent of the underlying equity. The Panel also intends to revisit the rule that requires holders of more than 15 percent of the voting rights in a company to disclose share dealings, to determine whether this should also apply to derivatives. The Panel will also review the rules on mandatory takeover bids. At present, a holder of between 30 and fifty percent of a company's voting shares is required to make a mandatory takeover bid for all the other shares. This rule does not currently cover, for example, a holder of 29% of a company's shares who also has control of a further 2% of that company's shares through CFDs.

For more information on this topic please contact Jason Harding on +44(0) 207 367 3138 or at [email protected] or Stephen Hewett on +44(0) 207 367 2970 or at [email protected] or Claire Reid on +44(0) 207 367 3378 or [email protected]