One of the unique features of the merger of Alamos Gold Inc. and AuRico Gold Inc. is the private placement of shares, whereby Alamos bought $83-million, or 9.9 per cent, of new Aurico shares (some equals, it seems, are more equal than others).MICHAEL DALDER/Reuters
I am not a big reader of Buzzfeed, but I like weird tricks that make hard things easy, so I was excited when my Streetwise colleague Tim Kiladze highlighted one weird trick to help get a merger completed. Namely, having the target company privately issue shares to the acquirer without making the acquirer purchase them on the open market.
The merger (by way of plan of arrangement) between Alamos Gold Inc. and AuRico Gold Inc. has two somewhat unique features. The first is that it's being done as a pure share swap – instead of one company buying the shares of the other, the two companies are swapping shares to create a new entity.
The more controversial point, however, is that the merger-of-equals was announced almost concurrently with a private placement of shares, whereby Alamos bought $83-million, or 9.9 per cent, of new Aurico shares (some equals, it seems, are more equal than others). By sucking up the new Aurico shares, and their all important shareholder votes, Alamos makes it harder for potential rivals to bid for Aurico.
Regulators have taken issue with such transactions in the past. The Ontario Securities Commission first dealt with the issue when a merchant bank asked the Commission to review HudBay Minerals Inc.'s takeover of Lundin Mining Corporation, when Lundin issued 19.9 per cent of its shares to HudBay. This brought HudBay's shareholdings in Lundin to 36.8 per cent, over half of the two-thirds shareholder approval Hudbay needed to get the deal green-lighted. In dicta (a legal term for an aside, not directly relevant to the outcome of the case), the OSC stated that, "an acquirer should not generally be entitled, through a subscription for shares carried out in anticipation of a merger transaction, to significantly influence or affect the outcome of the vote on that transaction."
The Alberta Securities Commission later dealt with the same issue in Re: ARC Equity Management, where a large shareholder objected to Profound Energy Inc. issuing convertible warrants to Paramount Energy Trust that would convert into common shares if Paramount's bid to Profound failed to reach a certain level of shareholder support. When the bid failed to reach that level of support, Paramount converted the warrants into shares to push itself over the two-thirds threshold. Despite casting a skeptical eye on the transaction, the ASC ultimately concluded that the transaction was not abusive to capital markets.
The Alamos-Aurico transaction raises these issues again, and may even add additional layers of complexity. Unlike in Re: ARC Management, the private placement was not done at a premium to the market price of the shares, but merely at the market price (though, it's worth noting that securities laws allow companies to do private placements below the market price of the shares). And, unlike in Hudbay, there's a very good chance that rules giving minority shareholders the chance to approve the transaction through a minority shareholder-only vote will not apply, as Alamos's shareholdings in Aurico may be below the 10 per cent threshold required to trigger such requirements.
It's easy to understand why these transactions give off, to some, the slight whiff of impropriety. A private placement during a friendly merger seems a little... cozy.
But compare this to the alternative, in which these transactions are routinely rejected by securities commissions or stock exchanges. In that world, an Alamos would use another technique to gain a foothold in an Aurico – it would purchase shares on the open market. This would likely push up the price, but Alamos would still be able to vote those shares when it eventually launched a bid or entered into an agreement. The only difference is, instead of Aurico getting cash for 9.9 per cent of its shares, it would get nothing. It's no secret that Aurico needs cash, and it's no secret that Alamos has about $358-million of it, collecting dust. With the private placement, Aurico gets much needed cash – cash that will be there even if the deal falls through – and Alamos gets certainty that its deal won't fall through.
It seems less like a loophole and more like a nice technique that undercapitalized companies can use to get money, and both parties can use to protect their deal. And it also seems like a straightforward example of directors exercising their judgment.
So why the controversy, especially given that Alamos could easily execute the same tactic on the open market without Aurico gaining any benefit? In some ways, it may be cultural. Canadian securities law tends to favour open auctions for companies, and one company tying up another's shares after announcing a merger seems to contrary to the principle of an unencumbered bidding process designed to maximize shareholder returns. But, as we know, directors don't have a duty to maximize shareholder returns at all costs; they have a duty to act in the best interest of the company and all its stakeholders. Sometimes, this means maximizing shareholder value, but sometimes this means shoring up a balance sheet and improving the chances of a deal going through (and avoiding the price effects of issuing shares to the market! And saving on underwriting and, yes, legal fees.)
As with all tactics, there remains the potential for abuse. The TSX has a listing rule that helps protect against such abuses – issuances of 25 per cent or more of a company's shares in conjunction with a public company acquisition require shareholder support. However, these transactions, especially with relatively small private placements, are materially better for the company issuing stock than the alternative – having the acquirer furtively acquire shares on the open market.
All of this makes that one weird trick seem a little less sexy than it did at the start of this piece. It's like when you read an article and discover the one weird trick for weight loss is consistent exercise and a sensible diet. In this case, it's good strategic planning and the clever use of securities laws. Disappointing, I know.
Adrian Myers is a lawyer at Torkin Manes LLP.