Capital raisings:
When companies raise extra cash, they need to look after smaller investors too, not just the big end of town
Several ASX-listed companies have garnered cash to support themselves through the coronavirus pandemic via capital raisings, a process that shores up balance sheets but also offers existing shareholders an opportunity to increase their holdings at a discounted rate. So should you participate in a capital raising? While most sharemarket observers saw capital raisings as a necessary move in an economic crisis, there have been calls to ensure smaller investors do not find their positions diluted. Dilution occurs when you own, say, 100 out of 1000 shares (10%) issued by Company A – and then Company A decides to do a capital raising by issuing a further 100 shares to a fund manager. You would now hold 100 out of 1100 shares (9.09%), meaning you’ll get a proportionately smaller slice of profits.
“It is a form of corporate financial ethics,” says Mike Robey, a director at the Australian Shareholders’ Association (ASA). “The three major things companies should do is be fair to all shareholders, be transparent in the way they go about business and be a responsible citizen in their community, and that includes environmental, social and governance aspects. If companies are not being fair to all shareholders they’re, in part, diluting that first principle of fairness.”
STRAPPED FOR CASH
To assist companies that need to raise funds urgently because of Covid-19, the regulator ASIC and the ASX are allowing the use of “low doc” offers to be made to investors, even if companies do not meet all the normal transparency requirements. Regardless, it is still best to seek professional financial advice before participating in any raisings.
The ASX has also increased the limit on the size of a placement from 15% to 25% of a company’s share base (this applies until July 31). So that these increased placements aren’t always giving large institutional investors an upper hand and further diluting small holdings, companies must also make a follow-on proportional (pro-rata) entitlement offer at the same or lower price than the placement. This gives smaller investors a greater ability to participate in the capital raising and buy an allocation (for example, to buy one share for every five shares they already own).
Philip Foo, director of research at proxy voting advisory company CGI Glass Lewis, says the firm would ordinarily prefer a pro-rata entitlement offer that would allow all shareholders to participate up to their allocation.
“If companies elect not to give such an existing
entitlement, and shareholders would like to participate, companies are going to need to justify why they haven’t given existing shareholders the opportunity, otherwise they’re likely to face criticisms of unfairness,” he says.
The raisings have occurred at a time when investors also may be strapped for cash, meaning you’re not able to take advantage of discounted offers even if you see value in them.
“If you’re a single shareholder, the amount of the placement could constitute a large percentage of your holdings,” says Robey. “One of the things you have to do is make sure you’re not using up all your money in the first couple of raisings, so that you can’t take advantage of future ones.”
Robey cites the $3.5 billion capital raising by National Australia bank – it comprised a fully underwritten $3 billion institutional placement and a $500 million share purchase plan at $14.15 each, representing an 8.5% discount.
Even though NAB’s retail shareholders make up about 48% of its total shareholding, only 28% took up the offer. “The principle reason was probably that [retail shareholders] didn’t have the cash, and the irony is that in order to get the cash they could have sold shares and bought back at a lower price,” says Robey.
RIGHTS TO BE PROTECTED
The ASA believes that companies should ensure fairness by issuing a “pro-rata accelerated institutional with tradeable retail entitlement offer” (PAITREO), which is structured as a renounceable right that individual shareholders can sell if they choose not to take advantage of a discounted capital raising.
“It’s a renounceable right – if you can’t find the money or if you don’t want to add more of that particular stock, you can sell that right,” says Robey. “If it’s one where you can’t participate, you can sell your participation rights and therefore your dilution is absolutely managed.”
Vas Kolesnikoff, head of Australia and New Zealand research at ISS Governance, says the structure for how existing shareholders can participate in capital raisings is one key governance issue, but also points to another group of shareholders – executives and founders in particular.
Flight Centre is an example. It raised $701 million through a $282 million institutional placement and $419 million pro-rata non-renounceable entitlement offer, priced at $7.20 a new share, representing a 27.3% discount. As a smaller investor, if you couldn’t or didn’t want to buy this offer it wasn’t available to be traded – and if you were in a position to buy, there was potential that the founders would buy all their allocation ($175 million), diluting your holdings further. The founders bought $25 million and publicly said that buying the full allocation would have annoyed smaller investors.
ISSUES ON THE AGENDA
To address these and other concerns, governance experts and shareholder representatives are looking to the possibility that the full annual general meeting season later this year will have to be held in virtual or hybrid form (some shareholders attend physically and most attend virtually). This has implications for proxy voting and asking boards questions about annual reports.
In March, ASIC announced it would take no action if AGMs for companies whose financial year ended on December 31 are postponed for two months – until the end of July, 2020, rather than May – and will support the use of appropriate technology to hold hybrid or virtual AGMs, where permitted under a company’s constitution and provided shareholders are afforded a reasonable opportunity to participate.
“Make sure you’re not using up all your money in the first couple of raisings”
While groups representing various stakeholders in the AGM process recognise the changes brought about by this crisis, they are also engaging with regulators and companies to safeguard shareholder rights to have questions answered, along with other concerns.
Virtual AGMs are giving companies “a whole lot more power they never had before,” allowing them to control the context in which questions are asked more tightly than at live events, says Robey.
“One of the things that’s quite galling is that virtual meetings ask shareholders to put questions in a week early, or at best two days early,” he says. “Very few will take voice questions. It gives them too much ability to censor. Some try not to, but it’s the company secretary that’s doing the moderating. We would rather that an independent moderator, if possible, is moderating voice questions.”
Philip Foo expects that the structuring and conduct of share placements will be a topic of engagement with company boards leading up to and perhaps during the AGM season.
“The question for shareholders, especially those who may not have the ability to participate in a placement, will be, ‘Are you happy with how that placement has been handled, has the board justified to your satisfaction why you were not offered these entitlements?’, and there will be questions around fairness there,” says Foo.
ALTERNATIVE TO SHAREMARKETS
At the other end of the market for raising money, equity crowdfunding platforms are reporting that the number of deals and the amount of capital raised is below projections for 2020.
Equity crowdfunding is a way for companies with less than $25 million in gross assets to raise up to $5 million a year. Retail or smaller investors can invest directly into private companies, up to $10,000 per company a year. In exchange for providing capital, investors receive equity. There is also a five-day cooling off period, where investors can withdraw their bid within five business days (see breakout).
Jonny Wilkinson, co-founder and director of Equitise, says the platform saw three deals close at the end of March and beginning of April and achieve 20%-30% less in funding commitments, which he attributed largely to the uncertainty and volatility in the market.
“Due to the risky and illiquid nature, a lot of people won’t make investments because they want the option of holding cash, or to get it in and out quickly with a more liquid investment,” says Wilkinson.
Since the passage of the Corporations Amendment (Crowd-sourced Funding) Act in 2017, ASIC has licensed seven equity crowdfunding groups: Big Start, Billfolda, Birchal Financial Services, Equitise, Global Funding Partners, iQX Investment and OnMarket.
In the past two years, crowdfunding platforms have been educating sophisticated investors about the role that equity crowdfunding can play, and Equitise says that work continues.
Matt Vitale, co-founder of the Birchal platform, says the Seabin Project, which raised $1.8 million before its campaign closed at the end of March, is helping clean up the rubbish in our oceans.
“It was encouraging that people were looking to invest in companies that have higher purpose and longer-term propositions,” says Vitale.
“They did have a couple of larger investors that just evaporated. Their max target was $3 million and they’d agree that they felt they had a good chance of meeting that but for Covid-19.”
MRachel Alembakis is the managing editor of the Sustainability Report, a title also published by Rainmaker Group. She has more than a decade’s experience covering investment issues for a range of publications in Australia and overseas.