Squeeze-out and sell-out: the reform of the Stock Market

María del Pilar Galeote. Professor. IE Business School

31 January 2007

By transposing the new EU directives on takeover bids into national legislation, Spain is increasing market transparency and reinforcing minority shareholder rights.

Last October 13, the Spanish cabinet sent to Parliament for approval the draft bill for the reform of the Stock Market Act 24/1988, which calls for revising the current rules on takeover bids and issuer transparency. This bill incorporates two Community directives into Spanish legislation: the directive on takeover bids and the directive regulating transparency. Among other changes, the reform seeks to protect the rights of minority shareholders and to clarify when a takeover bid must be launched for 100% of a company’s capital. It also lays down the rules for takeovers when at least 30% of the voting rights of a target company are acquired.

The reform includes two types of rights regarding takeover bids: obligatory purchase and sale rights. In the case of the right to obligatory purchase, a shareholder acquiring at least 90% of a company’s voting capital has the right to acquire the remaining shares (squeeze-out). The aim it to enable the majority shareholder, if he so wishes, to acquire all the company´s share capital, which would free him up to take decisions on his own, without depending on others. Because this right benefits majority shareholders, the minorities holding the remaining shares (they represent a minimum stake after the success of the takeover bid) are entitled to sell their equity at a "fair" price (sell-out). As a result, this prevents minority shareholders from having to continue in a company in the case of a change in management control or other circumstances. The reform calls for transposing into Spanish legislation these two rights, which have already been included in the directive governing takeover bids.

However, we need to look further. Incorporating these rights into stock market legislation has paved the way for the introduction of public-to-private (PTP) transactions—a legal vehicle often used by capital risk investors to keep companies from being listed so that their restructuring can be carried out. Normally, investors face resistance from minority shareholders who, through ignorance, fear or other reasons, reject PTP transactions, preferring instead to maintain their stake in the company. This makes it difficult for the investors who take over the company to manage it. At the same time, the introduction of the rights to obligatory purchase and sale reinforce minority rights, because small shareholders no longer find themselves holding an investment in a company that they cease to want because of changing circumstances.

Before this reform, a company didn’t have the right to buy the shares it failed to acquire through a corporate takeover bid. Ways were found to get around this roadblock. The most common alternative was to reduce share capital through the amortisation of shares, as laid down in Article 16 4.3 of the Spanish Limited Companies Act. The objective of the new law is to allow companies to win a controlling stake in target companies from shareholders, including minorities, while complying with the requirements of a fair compensation price, to the benefit of society. Therefore, the transposition of the new directive regulating takeovers is very positive and has provided the market with a legal mechanism that ensures the transparency and legal security that this type of transaction requires.

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