In brief
The Western Australian Supreme Court has handed down a decision that has significant implications for the drafting of pre-emptive rights clauses in both joint venture/operating agreements and shareholders' agreements. The decision also has ramifications for the conduct of sale transactions that involve assets or shares subject to rights of pre-emption. Partner Igor Bogdanich, Managing Associate Penny Alexander and Law Graduate Malak Johnson report.
How does it affect you?
- Pre-emptive rights clauses are common, and are found in many joint venture/operating agreements and shareholders' agreements.
- Parties should be cautious when issuing notices under a pre-emptive rights clause to ensure that each notice strictly complies with the specific requirements of the relevant clause.
- Where a pre-emptive rights clause allows for the inclusion of additional 'relevant' terms and conditions in a pre-emptive rights notice, the notice should only include the terms and conditions that bear upon, operate upon, or are otherwise closely connected to the interest of the party that is the subject of the pre-emptive right.
- If a sale transaction involves assets subject to pre-emptive rights, parties should be careful to ensure that the transaction documents (and the underlying commercial deal itself) are consistent with the contractual requirements pertaining to the pre-emptive rights.
Background
Pre-emptive rights clauses are found in many, if not almost all, joint venture/operating agreements and shareholders' agreements. They operate to ensure that each party is empowered to exclude a new co-venturer or shareholder by conferring the right to purchase an outgoing co-venturer or shareholder's interest if it so desires.
The decision
Santos Offshore Pty Ltd v Apache Oil Australia Pty Ltd [2015] WASC 242 (Santos v Apache) concerned a joint venture between Santos Offshore Pty Ltd and three other entities (Apache Oil, Apache East Spar and Apache Kersail, each referred to in this article as an Apache Participant), which were wholly owned by Apache Energy Ltd. Under a sale and purchase agreement, Santos sold to each Apache Participant a corresponding interest in a petroleum retention lease owned by Santos. The Joint Operating Agreement between the parties (the JOA) provided that, if a participant wished to transfer its participating interest to a third party, or if there was a proposed change in control of that participant, the other participants would have a right of pre-emption to acquire the outgoing participant's participating interest.
In April 2015, Viraciti Energy Pty Ltd agreed to purchase all of the shares and voting rights in Apache Energy Ltd, under a share purchase agreement. There was no dispute that this transaction would constitute a change in control for each Apache Participant, triggering pre-emptive rights under the JOA.
On 15 May 2015, each Apache Participant issued a notice (the Pre-emptive Rights Notice(s)) to Santos (in more or less identical terms) that advised of the proposed change in control, and offered to sell the relevant Apache Participant's participating interest to Santos on the terms and conditions set out in the Pre-emptive Rights Notice.
Santos argued that some of the terms and conditions contained in the Pre-emptive Rights Notices did not comply with the clauses set out in the JOA and that, accordingly, the Pre-emptive Rights Notices were invalid. The court upheld this argument. The court also held that the invalid terms and conditions in each Pre-emptive Rights Notice could not be severed from the Pre-emptive Rights Notice and that, therefore, each Pre-emptive Rights Notice was wholly invalid. This was because the JOA required the terms and conditions to be accepted as a whole, without reservations, in order to constitute an acceptance of an offer.
What does this mean for joint venturers, shareholders and sale transactions?
Santos v Apache is a reminder that, where joint venture interests or shares are subject to a pre-emptive right, a joint venture participant or shareholder that proposes to transfer its interest should take care to ensure it strictly complies with the relevant pre-emptive rights clause. Santos was able to successfully challenge a number of the terms and conditions in each Pre-emptive Rights Notice, and therefore successfully invalidate the entire Pre-emptive Rights Notice.
Share sale and business/asset sale transactions will also frequently involve the sale of interests that are subject to pre-emptive rights – whether those interests are one, or a combination, of equity interests (such as shares), rights (such as joint venture rights) or physical assets. The documents to effect such transactions (generally in the form of a sale and purchase agreement) should be drafted to address the learnings from Santos v Apache regarding invalid conditions within the pre-emptive rights notice.
The learnings from this decision should also be kept in mind when drafting pre-emptive rights provisions in joint venture/operating and shareholders' agreements.
Practical learnings from Santos v Apache
The principal lesson from the Santos v Apache decision is that, when drafting a pre-emptive rights clause in a joint venture/operating agreement or a shareholders' agreement, particularly where the clause is intended to cover a change in control transaction relating to a participant, parties should ensure that they clearly and unambiguously set out the requirements for any pre-emptive rights notice.
In addition, the following emerge as key points that could be kept in mind when drafting or reviewing pre-emptive rights clauses:
- The joint venture/operating or shareholders' agreement under which the pre-emptive rights offer is required should provide that such an offer is made on equivalent terms and conditions as reasonably determined by the outgoing participant, and that those terms and conditions will be deemed to be valid unless the acquiring participant objects. In the case of such an objection, the terms and conditions could be determined by an expedited expert determination arrangement.
- Wherever possible, agreements should refrain from requiring the parties to include 'all relevant' information in a pre-emptive rights notice. What one party considers relevant (or, just as importantly, irrelevant) may well differ from another party. If agreement cannot be reached, an independent adjudicator (such as an expert or the court) will be left to decide whether or not the terms included were relevant, and also whether other terms that should have been included (based on relevance) have been omitted.
- Be wary of setting out new or additional obligations on the co-venturer/shareholder receiving the pre-emptive rights notice. This decision stands as a warning that notices containing additional terms (eg indemnities or purchase price adjustment provisions) may not be valid if such terms are not expressly contemplated by the pre-emptive rights provision in the underlying joint venture/operating or shareholders' agreement.
- Where a joint venture involves a number of participants that belong to the same corporate group, parties may wish to allow the group participants' interests to be treated collectively for the purposes of the right of pre-emption.
- In order to minimise the likelihood of a pre-emptive rights notice being rendered wholly void, it may be appropriate for the agreement to expressly provide that the invalidity of certain terms and conditions in the notice does not affect the validity of the notice. However, the effectiveness of such a provision is not entirely clear because pre-emptive rights clauses usually require the co-venturer/shareholder receiving the notice to wholly accept the terms and conditions of the pre-emptive rights offer in order to exercise the pre-emptive right, and such a requirement was found in Santos v Apache to be incompatible with severing invalid terms and conditions from the pre-emptive rights notice.
- When preparing for a share sale or business/asset sale transaction that involves interests subject to pre-emptive rights, parties should take care to ensure that the transaction documents take into account the pre-emptive rights and the contractual requirements in relation to those rights. This is particularly important when considering the nature of the consideration to be paid. In a straight cash deal, it may not be difficult to reflect the equivalent sale price in the pre-emptive rights notice. However, where the consideration involves scrip or other non-cash consideration, it may be necessary to obtain a valuation of the interest being disposed of in order for the notice to be valid.
Next steps
Justice Pritchard's decision in Santos v Apache has not been appealed, so currently stands as good authority. The decision emphasises that parties should be careful to, first, clearly draft pre-emptive rights clauses and, secondly, ensure that they strictly comply with those clauses when issuing pre-emptive rights notices to ensure that the proposed change in control or transfer of interests can proceed smoothly and, importantly, without delay in a commercial context.
The decision also highlights the need for parties in a share sale or business/asset transaction involving interests that are subject to pre-emptive rights to diligently consider the contractual requirements relating to those rights and then draft the sale documentation carefully.