Corporate Finance Law

Principles and Policy

Louise Gullifer, Jennifer Payne

• Publisher: Hart Publishing
• Year: 2020
• Print ISBN: 9781509929177
• eBook ISBN: 9781509929191
• Edition: 3
• Topic: Jura
• Subtopic: Gesellschaftsrecht

The third edition of this acclaimed book continues to provide a discussion of key theoretical and policy issues in corporate finance law. It has been fully updated to reflect developments in the law and the markets. One of the book's distinctive features is its equal coverage of both the equity and debt sides of corporate finance law, and it seeks, where possible, to compare and contrast the two. This book covers a broad range of topics regarding the debt and equity-raising choices of companies of all sizes, from SMEs to the largest publicly traded enterprises, and the mechanisms by which those providing capital are protected. Each chapter provides a critical analysis of the present law to enable the reader to understand the difficulties, risks and tensions in this area, and the attempts by the legislature, regulators and the courts, as well as the parties involved, to deal with them. The book will be of interest to practitioners, academics and students engaged in the practice and study of corporate finance law.

1

Introduction

The purpose of this book is to consider and analyse UK corporate finance law. We consider the principles and policy behind the law in this area, and examine the substantive provisions in light of that discussion. In particular we aim to consider both the debt and equity aspects of corporate finance law, and the interrelationship between the two. Before stating in more detail what we aim to achieve, it might also be helpful to set out some of the things we do not seek to achieve. First, although we hope that this book will be read by practitioners, as well as academics, students and policy-makers, and that practitioners will find it interesting and useful, this is not predominantly a how-to guide for practitioners. We do not aim to put the reader in a position to be able to carry out in practice the corporate finance transactions described here. By way of example, the chapter dealing with takeovers (chapter fourteen) does not provide a step-by-step guide as to how to conduct a takeover in the UK. Rather it considers why jurisdictions generally regulate takeovers, why different jurisdictions regulate this issue in different ways, how the UK system compares to other jurisdictions (principally, in that chapter, the US) and then, once the aims of the UK regulation have been established, assesses the UK regulations against that background.

This raises another point, namely that while the book’s focus is UK corporate finance law, other regimes are considered, and this comparative analysis can have a number of benefits. Some aspects of UK corporate finance law can only be understood if other regimes are discussed. For example, in a number of areas UK law is very heavily influenced by European developments. An obvious example of this are the disclosure requirements for prospectuses, discussed in chapters ten and thirteen. At other points we examine other jurisdictions as a comparison with the UK provisions in order to provide fresh insight as to the suitability and utility of the UK provisions. This is not intended to be a comparative text, but examining other jurisdictions can help us to better understand domestic provisions. For example, much of the jurisprudence on the policy issues relating to security interests comes from the US, and notice filing schemes such as the ones in Canada and New Zealand are discussed in the context of reform of the UK law on secured transactions.

Although we have said that the purpose of this book is to consider and analyse UK corporate finance law, it must be remembered that the UK consists of four countries: England, Wales, Scotland and Northern Ireland. While the law of England and Wales is the same for all relevant purposes, there are often significant differences between English and Scots law, and some between Northern Irish law and English law. The differences are most notable with regard to non-statutory law, such as property law and contract. Scots law, especially, comes from a different origin (the civilian tradition) and resembles, in some respects, the law in some European countries, although in other respects it resembles the English common law.¹ However, virtually all company law which is statute based is the same for the whole of the UK.² The same is true of most of the regulation discussed in this book, particularly securities regulation, much of which is now derived from European legislation. Other statutory provisions, though, are different as regards English law and Scots law.³ The reader therefore needs to be aware of this issue. In general, in the debt sections of the book, the law discussed is that of England and Wales, while in the equity sections generally what is said is true for the whole of the UK.

Another general point is that this book is not intended to be comprehensive in any sense. The term ‘corporate finance’ is not a term of art, and can mean very different things to different people. In deciding what to include we have started from our own conception of what ‘corporate finance’ means and what it includes, which may well be different from that of others. In part we have also been guided by our interests, but, having taught this subject for many years, we have also been guided by what interests and stimulates others about this topic. We will no doubt have included some topics that others do not consider need to be present in a book dealing with corporate finance law, and left out other topics that others would wish to have seen included.

It might be helpful, therefore, to explain what our conception of corporate finance entails. Our starting point is that corporate finance primarily concerns how a company can obtain money to finance its operations, and therefore corporate finance law consists of the legal rules that govern these issues. However, the term ‘corporate finance law’ is misleading to some extent since it is not one single body of law. Indeed, as will be clear on reading this book, the law described here includes, variously, general contract law, property law, company law and corporate insolvency law as well as more specialist regulatory law dealing with securities, takeovers and other issues. We restrict our analysis to the financing of companies limited by shares. We do not consider unlimited companies or companies limited by guarantee.⁴ Neither do we cover the financing of limited liability partnerships, partnerships more generally, sole traders, charities, mutual funds, trusts or other similar structures.

In relation to the financing of companies, there are three basic sources of finance: share issues, debt and retained profits. To a large extent, therefore, we concentrate in this book on the mechanisms by which companies can raise equity capital, and what use they can make of that capital once it has been raised, and on the different methods by which they can raise debt financing. Debt financing is broadly defined, so as to include both loans and debt securities, and also other forms of credit such as trade credit extended to a company by other companies. However, it does not include all the money of which the company makes use, for example money which is owed by the company to a third party and which the company uses to finance its operations in the interim. One example of this might be a third party who has a tort claim against the company; another is someone who has a claim in respect of defective goods purchased from a company.

Thus, for the purposes of this book, we concentrate on the category of creditors who lend money or extend credit to the company and whose intention is to finance the company’s activities, rather than on those who are not intending to become creditors, even though they may have chosen to contract, or otherwise deal, with the company. The additional category of creditors (not lenders) highlighted here, such as tort claimants, is not our predominant concern. This does not mean that they will be ignored in this book. They are of importance in policy discussions, since the contractual arrangements entered into between creditor-lenders and the company can impact on them. In general they are in a weak position to protect themselves (for example if they are involuntary creditors) and so the question arises as to whether the law should step in to protect them. The term ‘lender’ is used throughout the book generically to include all those who consciously lend to or extend credit to a company. In this context, the company is called the ‘borrower’.⁵ However, when wider issues about the protection of all those to whom the company owes money are discussed, the term ‘creditor’ is used to include both lenders and others such as tort and breach of contract claimants.

Any regulation imposed by the law will impact on those groups that are within the contemplation of this book, that is, those who buy shares or consciously lend or extend credit to a company. Generally speaking, investors in shares are protected primarily by regulatory law, although their contractual relationships, in particular with the company or with other shareholders, can be important. By contrast, those who lend or extend credit to a company are protected largely by contractual or proprietary rights for which they bargain, and only by regulatory law in certain specific circumstances.

It follows from this that this book concentrates on companies that are raising finance via equity and debt financing. There are companies (banks and other finance companies) whose business is predominantly to lend money to others. We are not concerned with those types of companies and the topic of banking regulation falls outside the remit of this book. However, the financing of companies that extend credit to other companies is discussed at various points.

As regards the companies that do fall within the ambit of this book, it is clear that there is considerable variety in terms of both the size of companies and the business of those companies, and this necessarily impacts on their financing needs and options. One point which we want to make clear from the outset is that there is not a one-size-fits-all approach to financing which will suit all companies in all situations.

The business in which a company engages will have a significant impact on its financing choices. Companies may be categorised in terms of what they do—for example financial companies, real property companies, construction companies, manufacturing companies, retail companies, services companies, investment companies, or special purpose vehicles (SPVs), engaged, for example, in project finance or securitisation. The type of business conducted by the company will be crucial in determining, for example, whether it has assets over which security can be taken, whether it will depend on trade credit, or whether lenders can make use of some of the quasi-security devices such as retention of title clauses. There is likely to be all the difference in the world between the financing profile of the archetypal company manufacturing and supplying widgets, a large listed pension fund company whose main business is investing in other companies, and an SPV set up to carry out a project finance operation. So, for example, a manufacturing company will have to raise finance to buy equipment and stock, as well as to meet employment and other running expenses. Its main assets will be tangible (land, equipment, stock) and intangible (receivables, maybe intellectual property and goodwill). It could be financed through loan finance, secured on its assets, or alternatively by asset-based finance, including receivables financing and retention of title finance in relation to the acquisition of equipment and stock. The listed pension fund company’s assets will be equity and debt securities issued by other companies, and it will look to borrow in transactions using these as financial collateral. The project finance SPV will typically only have one asset, namely the revenue-generating contract, on the strength of which it will raise loan or bond finance. Another significant consideration might be whether the company operates within a group of companies and, if so, what role within the group that company performs.

As regards the size of companies, significant differences emerge according to whether the company in question is a private company or a publicly traded company, and whether it has a small group of shareholders who are heavily involved in the management of the company or a wide and dispersed shareholding profile. Consider, for example, a small private company which is effectively an incorporated sole trader. The shareholders and directors are likely to be the same people. As regards financing, it is likely that the director/shareholders will put in a relatively small amount of equity, and that the majority of the financing will be via loans either from the shareholder/directors and/or a bank. The primary purpose of shares in such a company is likely to be their control function rather than any capital raising device. Given the significant risk of insolvency for such a business, the bank will be very keen to protect against this eventuality. It is unlikely that the business itself will have significant assets, and usually the debts will be guaranteed by the director/shareholders personally and/or secured on their personal assets. In this situation, the relationship between the bank and the company is very important, and the bank will monitor the affairs of the company closely for signs of financial distress.

By contrast, in a somewhat larger private company, with some division between the shareholders and directors, shares become useful as finance-raising devices. However, the illiquidity of private company shares can make them unattractive as an investment, and therefore it may not be straightforward to persuade external investors to invest by way of share capital. One model is to seek a significant injection of equity capital from venture capital (discussed in chapter sixteen). The company is likely to still depend heavily on bank lending (an overdraft and maybe also a longer term loan) and again the bank will be keen to protect itself against the risk of insolvency by taking security (both fixed and floating charges) over the company’s assets. The bank would decide to lend based on the previous and projected cash flow of the company, and there would still be an ongoing relationship between the bank and company, involving monitoring. However, such a company may also borrow using asset-based finance, where the amount lent is directly related to the amount of assets the company has. The assets may be sold to the lender (as in the case of receivables) or the lender will take a charge, fixed if possible, over available assets. Depending on the nature of the company’s business it may rely on financing supplied via trade creditors, customers etc.

Ultimately, for companies looking to increase significantly their levels of external equity finance, there is the option of issuing the company’s shares to the public (discussed in chapter ten). An offer of shares to the public allows the company to have access to outside investors who can participate substantially in the company. This access to significantly increased levels of equity capital is one of the major advantages of offering shares to the public, especially when combined with a listing. Obtaining a listing for the shares creates liquidity. Not only is there a ready market for the shares, but they must be freely transferable.⁶ An alternative equity funding option for larger companies is the leveraged buy-out model, whereby a private equity fund injects significant equity financing and purchases a majority stake in the company.⁷ Larger companies, whether public or private, will raise debt finance from a number of lenders. Thus loan finance may come from a syndicate of banks, and the company may decide to issue debt securities to a selected number of financial institutions or, in rare instances, to the public. Both of these techniques, which enable the risk of non-payment to be spread across many parties and therefore enable more debt finance to be raised, are discussed in chapter eight. Liquidity is available from the free transferability of debt securities, and, to a more limited extent, from the ability of the lender to novate or assign a syndicated loan or to transfer the risk by other techniques. Transfer of debt is discussed in chapter nine. Smaller companies can raise money from the public by using equity crowdfunding and peer-to-peer lending platforms.

A final, general point regarding the aims of this book relates to tax. We ...

Table of contents

• Cover
• Title Page
• Preface and Acknowledgements
• Summary Contents
• Contents
• List of Abbreviations
• List of Common Texts
• Table of Cases
• Table of Legislation
• 1. Introduction
• 2. Overview of Financing Options
• 3. The Relationship between Equity and Debt
• 4. Issuing Shares
• 5. Legal Capital
• 6. Creditor Protection: Contractual
• 7. Creditor Protection: Proprietary
• 8. Multiple Lenders
• 9. Transferred Debt
• 10. Public Offers of Shares
• 11. Ongoing Regulation of the Capital Markets: Mandatory Disclosure
• 12. Ongoing Regulation of the Capital Markets: Market Misconduct
• 13. Regulation of Debt
• 14. Takeovers
• 15. Schemes of Arrangement
• 16. Private Equity
• Index
• Copyright Page