When a fixed life
investment trust nears the date on which it is obliged to repay
capital to shareholders, typically by way of compulsory winding up
provisions, its directors’ thoughts turn to the options available
for its future.
Despite its apparent finality, the end of a
fixed life need not mean the end of a successful, popular
portfolio; with sufficient shareholder support, a successor vehicle
can be created from the ashes of the old company.
Alternatively, the time-consuming and costly
nature of such arrangements has led some companies to seek out new
ways to entirely avoid winding up, allowing investors to stay on
board if they wish, while providing fair value for those looking
for an exit.
The need to liquidate a mature portfolio to
repay capital will not necessarily be in line with the wishes of a
significant proportion of investors, particularly if it has
consistently performed well.
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For example, many of these portfolios contain
a high proportion of relatively illiquid assets, such as smaller
companies or unlisted stocks, which may be difficult to liquidate
for a fair value.
Existing investors may also be enticed by the
prospective tax benefits of staying invested, in that they avoid
crystallising a capital gain.
Where a company has a sector specific focus,
it may not be possible to gain a similar exposure to that sector
In addition, there may well be appetite
among would-be new investors who, as well as benefiting from the
mature and potentially well managed portfolio, would also avoid the
set-up or portfolio acquisition costs associated with an entirely
With such new investors potentially replacing
those looking for an exit, companies may be tempted to seek
alternative options to a straightforward winding up.
Traditional options often include delivering a
successor vehicle either through the operation of a
court-sanctioned scheme of arrangement, or by rolling over
interests into a new vehicle through a liquidation process under a
Section 110 scheme.
These routes have been favoured, as they were
regarded as the safest way to ensure departing shareholders, who
required their capital to be returned, could be repaid.
However, while creating a successor
vehicle has its attractions, it is both expensive and time
consuming, sometimes to the point where any benefits are lost in
the significant costs involved.
In recent years, therefore, directors have
explored new ways to continue the existing company, while still
delivering both the capital return to exiting shareholders and
ensuring new investors can come on board to preserve the size of
One such innovative restructuring was
implemented in December 2009 by Premier Energy & Water Trust
PEWT has two classes of shares: ordinary and
zero dividend preference shares, known as zeros, which deliver a
capital return at the end of a set period at a predetermined
The zero shares have a gearing effect on the
portfolio for the ordinary shares, so potential total return on the
ordinary shares is influenced by the final capital entitlement, or
gross redemption yield (GRY), of the zero shares.
Essentially, a lower GRY on the zeros means a
better the return for ordinary shareholders.
The pricing of the zero – the level at which
the GRY is set – is affected, among other things, by the capital
cover on the zeros, the perceived risks in the underlying portfolio
and the prevailing level of interest rates and bond yields.
Extending a life investment
PEWT was approaching the end of its fixed
life, set for the end of 2010, but the directors recognised there
was appetite for continuing the company beyond that date. They were
also aware of investor sentiment that new investment may be
possible, given the company’s recent track record. Because of the
existence of zeros, there was also scope to take advantage of
increased market appetite for paying tax on capital gains, as
opposed to income, in the UK.
The company devised a package of proposals
which extended its life, while offering a tender option for both
ordinary and zero shareholders who wished to exit.
This was combined with a matching purchase
facility and placing, where new and existing investors who wished
to increase their holdings could be matched with departing
The interesting dimension to the
proposal was how the board would balance the interests of
shareholders – both departing and continuing – with the need to
attract prospective investors when fixing the price for the ‘new’
zeros. The exit price was also the purchase price for any new
In response to this challenge, PEWT offered a
variation of the concept of a reverse tender, where shareholders
are invited to bid for the lowest price at which they would be
prepared to sell their shares.
In PEWT’s case, shareholders were invited to
indicate the level of GRY at which they were willing to remain
invested in zeros in PEWT, and below which they would, therefore,
sell their shares.
New investors were similarly invited to
indicate the lowest level of GRY at which they were prepared to buy
in. The GRY was set at the level which permitted the optimum size
for the company going forward.
This mechanism enabled the company to set the
GRY at a level which was directly linked to market demand for zero
shares, thus ensuring the ordinary shares were not penalised by the
zeros being priced more generously than was necessary.
Such mechanisms are not without their
potential pitfalls, not least because backroom systems must be able
to operate the facility being offered.
The documentation also needs to accurately and
fairly describe the complexities of the mechanism, to ensure that
shareholders can, and do, participate in the proposition.
Similar challenges are likely to face
other companies looking for an innovative solution as their wind up
However, particularly in the current difficult market
conditions, the potential advantages for shareholders – whether
they wish to remain or exit – may still make it worth reconsidering
the options available.
Maria McCormick is a lawyer in the Financial Services Group
at national law firm Maclay Murray & Spens LLP, which advised
PEWT on its restructuring.