Managing shareholder activism - who is in the driver's seat?

In brief

The recent New South Wales Supreme Court decision of Molopo Energy Limited v Keybridge Capital Limited reflects the continuing growth of shareholder activism in the Australian corporate landscape. The case is a reminder that boards need to remain aware of developing activist strategies, particularly where attempts are made to usurp the powers vested in the directors. Litigation Partner Kim Reid, Corporate Partner Kate Towey and Senior Associate Jack Power report on this decision and the implications for directors of listed companies in responding to activist shareholders.

The shifting landscape in shareholder activism

Shareholder activism, as examined in our Focus: Shareholder activism in Australia, continues to rise in Australia and 2014 saw the ongoing use of US-style activist campaigns in Australia. This activity appears to be growing at significant rates as evidenced by the number of activist funds and the size of assets under management.

As each shareholder activist or group will have their own particular agenda, the strategies employed to advance them will vary. Tools which are used by activist shareholders include:

• calling a general meeting (s249F of the Corporations Act 2001 (Cth)) or requisitioning the directors to call a general meeting of the company (s249D);
• notifying the company of a resolution proposed to be moved at a general meeting (s249N);
• requesting distribution of a member statement (s249P);
• requesting a company's register of members (s173);
• exercising the right to speak at an annual general meeting (s250S); and
• voting in favour of a 'spill meeting' to spill a board of directors if a company has received 'two-strikes' on its remuneration report (ss 250U-250Y).

Forcing a shareholder meeting

One of the most common and effective tactics employed by shareholder activists is to utilise the law requiring directors to call a general meeting if requested by a shareholder or shareholders with at least 5 per cent of shares (s249D(1)(a)). Typically, shareholder activists will acquire just over 5 per cent of shares in a company to requisition a general meeting to be convened for a particular resolution to be proposed. In doing so, they generally aim to effect a substantial change in the targeted company, such as the reconstitution of the board, without expending the necessary capital to acquire a controlling stake in the company.

A similar avenue that shareholder activists might utilise to force a meeting is the '100-member rule' (s249D(1)(b)), which requires a company to hold a general meeting on the request of at least 100 shareholders who are entitled to vote at the general meeting. The Federal government has proposed to remove this alternative avenue as part of the Corporations Amendment (Deregulatory and Other Measures) Bill 2014, as referred to in our Client Update: 100 member rule to be abolished. The Bill has been referred to the Senate Economics Legislation Committee for inquiry and report and, if passed, would remove one tool open to shareholder activists in Australia. A group of 100 members would continue to be able to place matters on the agenda of general meetings that are convened otherwise.

Towards the close of last year, there was yet another example of a shareholder activist seeking to employ the s249D strategy – Keybridge Capital Limited (Keybridge), an ASX-listed, Australian financial services company, sought to require Molopo Energy Limited (Molopo), an ASX-listed oil and gas exploration and production company, to carry out a capital reduction of approximately A$55 million.

Capital reductions: who controls the process?

Keybridge reached a shareholding of more than 5 per cent in Molopo in October 2014. It then issued two requests under s249D of the Corporations Act for the holding of a general meeting for shareholders to consider resolutions relating to the reduction in Molopo's share capital:

• The first request sought to requisition a general meeting to consider resolutions to:
  • amend the constitution of Molopo to provide that the company's power to reduce its share capital under Part 2J.1 of the Corporations Act could be exercised by the company in general meeting; and
  • approve and effect the capital reduction proposed by Keybridge (Molopo's board did not support the proposed reduction).

• The second proposed resolutions for the removal and appointment of directors to the board of Molopo, which resolutions were conditional on the resolutions in the first request not being passed.

Molopo sought declarations from the New South Wales Supreme Court that its directors were not required to call the meetings. The decision, handed down by Justice White on 19 December 2014 (Molopo Energy Limited; Molopo Energy Limited v Keybridge Capital Limited [2014] NSWSC 1864), held that Molopo was not required to convene a meeting for shareholders to vote on the resolutions proposed in the first request, but was required do so for those resolutions sought in the second request.

In arriving at this decision, Justice White made several important findings that could impact future strategies of shareholder activists, both in seeking to effect a capital reduction and more generally:

• A company's power to undertake a capital reduction under s256B of the Corporations Act is vested in the directors. The function of the shareholders is to approve a decision by the directors. This division cannot be altered by an amendment to the company's constitution, and means that shareholders cannot force the directors to convene a meeting to vote on a capital reduction if opposed by the company's directors.
• The principle in NRMA v Parker (1986) 11 ACLR 1, that directors need not include a proposed resolution in a notice of meeting if the object of that resolution 'could not lawfully be effectuated', was affirmed.
• Molopo's proposed capital reduction could not be lawfully effectuated, as it would breach s256B(1), which prohibits a company from making a reduction of capital unless the reduction 'does not materially prejudice the company's ability to pay its creditors'. In reaching this conclusion, Justice White held, on the facts of the case, that it was sufficient for a proposed capital reduction to breach s256B if it 'might' materially prejudice a company's ability to pay its creditors, rather than such prejudice being certain. As a result, contingent liabilities, in particular those arising from ongoing litigation (as was the case here), can be sufficient to establish that a proposed capital reduction is unlawful.
• A requisition under s249D is not invalid merely because a proposed resolution is conditional.

Being prepared·

With shareholder activism on the rise, companies should be prepared to identify and protect against the diverse range of tactics that activist shareholders may utilise. Boards need to respond quickly and decisively to requisition requests that seek to require action that they consider will not be in the best interests of the company.

Becoming 'shareholder activist ready' can include:

• building strong communications between the company, major institutional investors and the broad base of shareholders;
• engaging the board and management in ongoing dialogue to ensure that they understand investor sentiment;
• monitoring share registers for early signs of activist investments;
• utilising outbound communication with investors and the public as part of a concerted communications strategy, which includes proactively addressing any perceived issues in relation to financial performance, corporate governance and executive remuneration;
• evaluating and revising the company's governance policies and constitution for potential measures that could be used in the event of an activist campaign; and
• developing and implementing an activist response manual.