Client Update: Singapore – Mergers & Acquisitions – 8 April 2008

Singapore Exchange warns companies on use of profit guarantees

In brief: The Singapore Exchange has warned directors and financial advisers of listed companies to pay particular attention to the interests of shareholders when assessing the commercial terms of acquisitions supported by profit guarantees. Partners Robert Clarke (view CV) and Stefanie Yuen Thio, Senior Associate Ian Stewart and Lawyer Jonathan Teo report on the use of profit guarantees and the recommendations of the Singapore Exchange.

What does this mean for you?

Singapore listed companies and companies entering into acquisitions involving Singapore listed companies will need to take account of the views expressed by the Singapore Exchange (SGX) if profit guarantees are to form part of the terms of their deal.

Further, as the SGX has indicated that it will be seeking further input on whether or not specific amendments to the SGX Listing Rules may be required to address this issue, companies should continue to 'watch this space'.

Background

The use of profit guarantees in listed M&A transactions (including, in particular, reverse takeovers) has become increasingly prevalent in Singapore during the past 12 months.

Acquisitions structured to be conditional upon a target company achieving a certain level of profitability (and/or incorporating a right of compensation if such levels are not met) have been viewed by some as an effective way of allaying investor concerns over deals involving targets with an insufficient financial track record.

However, amid growing concerns that such arrangements do not always sufficiently take into account the interests of investors, and in light of a number of high-profile deals involving profit guarantees that failed to complete (such as the S$2.7 billion reverse takeover of Rowsley by Perfect Field Investment and the proposed S$600 million acquisition of Aretae by Oculus), the SGX has recently issued a press release outlining the responsibility of a company's directors and its financial advisers when considering undertaking acquisitions that include profit guarantees.

Responsibilities of directors and financial advisers

In its press release, the SGX has outlined for directors and their financial advisers a number of issues to consider when evaluating any proposed acquisition involving profit guarantees, including:

• assessing whether the profit guarantee is realistic, taking into account the historical performance and forecasts of the business, or of the assets to be acquired;
• considering whether the compensation payable is adequate where the profit guarantee is not met (particularly in circumstances where the compensation amount, unlike the purchase consideration, is not based on a price earnings multiple);
• ensuring proper safeguards are implemented to ensure the company's right of recourse if the profit guarantee is not met (for example, the use of bank guarantees or escrow arrangements to hold compensation consideration); and
• complying with all relevant SGX rules and regulations (for example, the SGX's requirements on 'very substantial acquisitions', 'major transactions' and 'discloseable transactions').

In terms of specific responsibilities, the SGX has noted that to satisfy a company's general duty to disclose material information to shareholders on a timely basis, directors should:

• promptly inform shareholders of their assessment of the commercial merits and the basis for their decision regarding such proposed acquisitions;
• justify the adequacy of the compensation payable for a failure to meet guaranteed profit levels (where the purchase price is based on a multiple of price earnings but the compensation is not); and
• provide comprehensive disclosure in relation to a failed acquisition (including the reasons for the non-completion of the transaction, the legal recourse available to the parties and the financial impact of the non-completion on the company).

The SGX also expects that, following an acquisition, companies should make timely announcements regarding whether the guaranteed profit has been met and, in the event the guaranteed profit is not met, disclose in appropriate detail:

• the amount of the shortfall;
• the reasons for the shortfall; and
• the manner in which the company would be compensated due to the non-completion of the proposed acquisition.

The SGX has suggested that the board of directors should seek an opinion from the company's financial adviser as to whether an acquisition is on normal commercial terms and whether the acquisition is prejudicial to the company and its shareholders. The SGX also notes that financial advisers should be prepared to fully disclose the basis for their opinion if asked by the board of directors, the company shareholders or by the SGX.

Further developments

Moving forward, the SGX plans to seek feedback from market participants on whether specific amendments need to be made to the SGX Listing Rules in order to give directors and their financial advisers a clearer understanding of their responsibilities in assessing acquisitions involving profit guarantees.

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For further information, please contact:

Robert Clarke International Partner, Singapore Ph: +65 6535 6622 Robert.Clarke@aar.com.au		Ian Stewart Senior Associate, Singapore Ph: + 65 6535 6622 Ian.Stewart@aar.com.au
Stefanie Yuen Thio Director, Allens Arthur Robinson TSMP, Singapore Ph: +65 6216 9494 syt@tsmp.com.sg		Donald Hess International Partner, Hong Kong Ph: +852 2903 6201 Don.Hess@aar.com.au
Ewen Crouch Partner, Sydney Ph: +61 2 9230 4958 Ewen.Crouch@aar.com.au		Jon Webster Partner, Melbourne Ph: +61 3 9613 8832 Jon.Webster@aar.com.au

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