Shareholder disclosures – proactive and reactive

Good investor relations starts with an excellent understanding of your share register. After all, unless you know where you are today, how can judge where you want to get to, or indeed how to get there. And a key part of the analysis of targeting new investors begins with an analysis of the existing shareholders.

A typical register analysis will include the detailed shareholder and beneficial owner identification, the classification of the fund type, a geographic analysis, and frequently a shareholder movements report, of buyers, sellers, and new entries and exits.

The problem however is that in the UK, as in many other countries around the world, most companies struggle with identifying the holders of their equity because the holders of equities will frequently hide their identities behind a Nominee name. Most UK stock is held in custody on behalf of underlying client (institutional or retail). Historically nominees were used for both administrative & secrecy purposes. Custodians register their shares in companies through nominees.

These can be done either:

• on a 'pooled' basis – where the nominee reflects all the stock held by the custodian. It is possible for pooled nominees to represent over 50% of the stock. And with Increasing consolidation in custody industry, this is leading to fewer nominee companies with larger tranches of stock.
• Or on an 'unpooled' basis, where the nominee reflects an individual customer – investor - of the custodian.
  

The result of this is that the share register has become less transparent. Working out who the beneficial owner of the stock is very difficult, leading to severe difficulties in strategising which investors to target.

Companies have 2 legal tools at their disposal – which are unique in the world.

The first is reactive. Under Section 198 of the Companies Act 1985 and the UKLA Listing Rules, an investor is obliged to tell the Company of the ownership of more than 3% of the shares and 1% boundaries thereafter. More specifically if the person has a ‘material’ interest of greater than 3% of the relevant share capital, or if the Person has any type of interest either ‘material’ or ‘non-material’ of greater than 10%, he is obliged to tell the company.

Material vs non material. In this context it means the difference between direct ownership e.g. an investor owns those shares directly or indirectly (e.g. the shares are managed for a variety of different owners, each of whom retains their own voting rights. There are a whole raft of definitions of what constitutes ‘material’ or ‘non-material’ and they are described in S199 and S209. The important exclusions are such as Unit Trusts or Investment Trusts managed by an investment manager.

Once the owner has to notify the company, he has to do so in writing, and within two days following the day on which the interest becomes notifiable. . The owner must tell the company the amount of shares it now owns and the registered name of the owner of those shares. There is no format in which this must be done, although Form 10 – maintained by many of the service providers – is frequently used.

From the IRO’s perspective, notifications by the issuers are valuable information, however they also always require careful inspection. Look for unusual references, for indications that the stock might held through stock lending, and any oddities in voting authority. The FSA has completed a prosecution under which a organisation claimed to be the beneficial owner, but in fact held the shares under a Contract For Difference.

The second legal tool which IRO’s find helpful is proactive - the so called 212 notice.

Once you have completed the register analysis, and identified a series of nominee names, you will want to get behind those names to find out who – individually – controls the investment decisions of that fund.

UK law gives you a very useful device with which you can do this. Section 212 of the Companies Act allows a public company to write to anybody that it has ‘reasonable cause’ to believe has owned shares in the company at any time within the last 3 years. That person is then obliged to provide details of the beneficial ownership and institutional control of the shares. This could be himself, or a custody client, or the person to who he sold the shares in the past.

In practical terms, many 212’s are issued by the company’s registrar, They will write to the person concerned (for example the nominee name), and demand information. Importantly, this law is equally applicable to overseas holders. Some overseas holders may say that they are US citizens and UK law does not apply. This is not true.

Those receiving a 212 notice are obliged to respond within a reasonable time (case law is Lonhro and Edleman). If they do not, there is a series of sanctions that the company can bring. These range from withholding the dividend, and withdrawal of the vote, and ultimately not allowing the shares to be transferred (making them effectively worthless).

In practical terms, the major investment firms are largely highly familiar with the 212 process, and will comply as soon as possible. More difficult are the smaller firms, and especially those in countries with privacy laws, such as Switzerland. However the experience of most IRO’s is that a combination of a polite request and determined follow up, is usually enough to gain access to the details of the beneficial owner.