To preserve cash in response to the economic effects of the COVID-19 pandemic, many companies are considering the issue of securities in lieu of cash remuneration to directors and senior management. An entity’s board of directors should have regard to the following matters in considering whether to issue securities in such circumstances:
- Is shareholder approval under the ASX Listing Rules (Listing Rules) or Chapter 2E of the Corporations Act 2001 (Cth) (Corporations Act) required for the issue?
- At what price do you value the securities and is an independent valuation required?
- What disclosure is required to be made to the market, and when should such disclosure be made?
Price or Value of securities being issued
The issue of securities in lieu of directors’ fees or management’s salary is, to a certain extent, a more simple process for a board to consider than when it issues incentives or bonuses. Rather than considering an appropriate amount for remuneration, the proposed value of the securities to be issued is already known, being based on the recipient’s entitlement to salary or fees for the relevant period.
However, the board still has to consider the pricing and timing of issue of the security (which will affect the value) and the type of security to be issued, which will likely have accounting and/or taxation ramifications on the entity and the individual receiving securities.
If a board resolved to issue shares at a certain price and, subsequently, by the date of issue of the shares, the trading price of the entity had materially changed, the difference between the value of the shares and the amount of remuneration being compensated may be material (notwithstanding the intention to issue the securities at that price has been previously disclosed – as discussed below). Therefore, for issues of quoted securities which require shareholder approval, a board should consider whether it is more appropriate to price the security based on the volume weighted average price of the security at the time of approval of the issue rather than the time that the issue has been agreed.
If the entity is considering issuing options or performance rights to directors, AASB 2 Share-based payment provides a guide to the methods used to value equity securities and the application of various pricing models to determine fair value of the securities on the grant date (being either the date of the agreement to issue the securities or, if the securities require shareholder approval, the date of approval).
Independent valuations are not required under Chapter 2E of the Corporations Act in respect of financial benefits given to related parties. However, in the context of issuing securities to directors in lieu of fees, ASIC recommends obtaining an independent valuation if the financial benefit is difficult to value. The independent valuation will need to be included in any notice of meeting seeking shareholder approval for the issue of the securities. If no independent valuation is being obtained, the entity will otherwise need to disclose how it has determined the value of the securities.
Is shareholder approval required for the issue?
Related parties of a public company include the directors of the company, entities controlled by the directors and certain direct family members of the directors.
Under the Listing Rules, unless an exception applies, listed entities are prohibited from issuing, or agreeing to issue, equity securities to a related party of the entity without first obtaining shareholder approval.
The acquisition of equity securities by a related party of a listed entity under an employee incentive scheme also requires shareholder approval under the Listing Rules.
In addition to considering whether shareholder approval under the Listing Rules needs to be obtained, an entity must also consider the requirements of the Corporations Act.
Chapter 2E of the Corporations Act prohibits a public company (or an entity that the public company controls) from giving a financial benefit to a related party of the public company, unless either giving the financial benefit falls within one of the nominated exceptions to the provisions or shareholder approval to give the financial benefit is first obtained (Related Party Provisions).
A proposed issue of securities to directors constitutes giving a financial benefit, and therefore the Related Party Provisions need to be considered in the issue of securities to directors (or other related parties of an entity).
Two relevant exemptions to the Related Party Provisions to be considered by a board are:
- Arms’ length exemption, which states that member approval is not needed to give a financial benefit on arm’s length terms, or terms that are less favourable than arm’s length terms; and
- Reasonable remuneration exemption, which states that member approval is not needed to give a financial benefit to a related party as an officer or employee of that company (or certain related companies) that is reasonable in the circumstances of the entity and the related party.
For either of these exemptions to apply, the board will need to be able to form a quorum of two directors, or a quorum in accordance with the entity’s constitution, that do not have a material personal interest in the issue (meaning that they will not be receiving securities) and vote on the application of the exemptions to each separate issue of securities.
In relation to securities issued as bonuses, obtaining an independent assessment of the proposed value of the remuneration based on comparable entities in the market can assist a board in its consideration of the application of exemptions.
What disclosure is required to be made to the market?
The Listing Rules require a listed entity to announce the proposed issue of securities immediately after the board has resolved to approve their issue in the form of an Appendix 3B. Relevantly however, where such securities are issued to directors under an employee incentive scheme, the proposed issue must be notified to ASX via an Appendix 2A (for securities to be immediately quoted) or otherwise via an Appendix 3G within 5 business days of the issue of securities. The entity will also need to lodge an Appendix 3Y in relation to any securities issued to a director.
Our teams across the nation are available to advise on these matters. Please contact us if you have any queries.
This article was written by Shaun Hardcastle, Partner, Hanna Posa, Senior Associate and Rita Mikhael, Solicitor.