Until recently, the United Kingdom had no process by which companies could engage in a true merger, which is to say the absorption as opposed to the acquisition of one company by another by way of a typical M&A purchase-oriented friendly deal that typically did not engage the courts. Accordingly, pure mergers, even in the domestic context, have not historically taken place in the U.K.
The arrival of the Companies (Cross-Border Mergers) Regulations 2007 in December 2007, however, has made mergers possible in the cross-border context. The regulations implemented the European Cross-Border Mergers Directive of 2005, which allows companies incorporated in any European Economic Area (EEA) country to merge with a company or companies incorporated elsewhere in the EEA.
“What we have now is a court-approved process for cross-border mergers that has distinct advantages over other available options,” says Gary McLean, a mergers and acquisitions partner at Allen & Overy. “The very distinct advantage of the regulations is that they incorporate the concept of universal succession by operation of law, which means the elimination of the cumbersome steps–including liquidation of the transferor — typically required to efficiently amalgamate businesses following acquisition.”
Uptake, however, has been slow, with nary a transaction using the new procedure for more than a year after it came into force. But thanks to the advantages of a merger over the traditional acquisition or transfer process, the trend is upward.
“Companies started to use these regulations early in 2009, but there have been only about a dozen cases to date [that took advantage of the process],” says Helen Johnson, a corporate partner at CMS Cameron McKenna. “So while the regulations remain largely unknown, there have been an increasing number of cross-border mergers sanctioned recently by the English courts.”
Using the regulations involves a court process that occurs concurrently in the jurisdictions of the transferee (the absorbing entity) and the transferor or transferors (the entity or entities being absorbed). Each of the merger companies must obtain a “pre-merger certificate” from the appropriate court or tribunal in its country of incorporation.
The U.K. procedure requires the U.K. company to present a merger report containing the draft terms of the merger; a directors’ report citing the effect on shareholders, creditors and employees; and an independent expert’s report confirming that the valuation methods and share exchange ratios are reasonable.
The expert’s report, however, can be waived if the shareholders unanimously agree to do so and if the merger is an absorption of a wholly owned subsidiary or the transferee already holds at least 90 percent of the transferor’s securities.
Seventy-five percent of shareholders, by value, of each shareholder class must approve the merger. Creditors can also ask the court for a creditor approval vote, which requires the same majorities.
After obtaining the premerger certificates, the transferee applies for final approval to its domestic court. Once it approves the transaction, the assets and liabilities, including employees, of the transferor automatically transfer to the transferee, and the transferor ceases to exist. No further liquidation or transfer proceedings are required, and the shareholders of the transferor automatically become shareholders of the transferee.
“The fact that the regulations involve a court process scares a lot of people,” Johnson says. “You have to retain counsel, and there are usually a few hearings.”
And the notion of a court process brings the prospect of undue delay of a transaction to the minds of many.
“You could be looking at a six- to 12-month delay if you used this process in a typical M&A transaction,” says Tom Mercer, a senior associate at Ashurst.
There’s also a certain inflexibility to the scheme.
“It’s true that after you jump through the hoops and get your approval, all the assets and liabilities transfer automatically,” says Nigel Gordon, a securities partner in the London office of Fasken Martineau Dumoulin. “But what if you didn’t want to transfer all the assets and liabilities, as might be the case for the transferor’s pension liabilities?”
The process also requires the protection of any employee participation rights (like rights to board-level representation) that exist in any of the merging companies.
“This could result in employee participation rights being given to U.K. employees where none previously existed, as where a company incorporated in a country such as Germany or Sweden, which mandate employee participation rights, merges with a U.K. company,” McLean says.
And finally, the regulations may not deal adequately with third-party contractual rights prohibiting a transfer of the rights and liabilities imposed by the agreement. For while the regulations provide that all assets and liabilities be transferred, it also requires that the transferee take the legal steps necessary for the transfer to be effective in relation to other persons.
“Our view is that to give effect to contractual provisions that prohibit transfer would defeat the purpose and intent of the directive and the regulations, and third parties affected by the transfer would be limited to suing for damages for breach of contract if they could prove losses from the transfer,” McLean says.
The upshot of the equation is that the regulations may not be the most effective tool for typical M&A transactions. But they would seem particularly suited to situations where shareholder and third party consent are not live issues.
“Initially at least, the greatest use of the regulations has been in intracorporate group cross-border mergers, where it is advantageous to have one entity operating branches in different jurisdictions as opposed to having separate corporate subsidiaries in each of those jurisdictions,” McLean says.
Intracorporate cross-border mergers in regulated industries, such as banking and insurance, may find the greatest benefits in the regulations. Goldman Sachs, HSBC, XL Insurance and several international fund managers are among those to take advantage of the process so far.
“Financial institutions can benefit from having fewer regulated subsidiaries, particularly where capital has to be allocated separately to those subsidiaries or where the regulatory regimes governing the subsidiaries are otherwise stricter than the one governing the parent,” McLean says.
The regulations also could simplify restructurings.
“It would certainly give parties to an insolvency proceeding a greater choice regarding the most appropriate jurisdiction in which to carry out their restructuring,” McLean says.
Johnson, for one, is trying to spread the word. “This will turn out to be quite useful for lawyers and their clients,” she says. “I hope the procedure becomes better known quickly, and I think it will.”