An Ocean Apart: the Mandatory Takeover Rule in Brazil and in Europe

• Publication year: 2022

An Ocean Apart: The Mandatory Takeover Rule in Brazil and in Europe

Jorge Brito Pereira
jbp@jlegal.pt

AN OCEAN APART: THE MANDATORY TAKEOVER RULE IN BRAZIL AND IN EUROPE

Jorge Brito Pereira

ABSTRACT

The common statement that there are two different regulatory systems concerning the mandatory takeover rule - the market rule system and the equal opportunity system - is, in practice, overly simplistic: facing the choice between freedom and strict regulation on whether the control premium should be proportionally shared with all non-controlling shareholders, some jurisdictions have adopted a hybrid solution. The Brazilian mandatory takeover rule (re)approved in 2001 is a good example. This paper will comprehensively analyse the Brazilian and European rules on mandatory takeover bids, using empirical data about the Brazilian markets and details of various cases that tested the limits of the existing regulation.

TABLE OF CONTENTS

INTRODUCTION............................................................................................67

I. HISTORICAL CONTEXT OF THE MTR IN THE TAKEOVER DIRECTIVE ... 71
II. HISTORICAL CONTEXT OF THE MTR IN THE BRAZILIAN LSA............80
III. THE MTR AS A MERE PREMIUM-SHARING RULE AND (ALSO) AS AN EXIT RULE........................................................................................87
IV. EQUITABLE PRICE.............................................................................92
V. THE CONTRACTUAL MTR OF BRAZILIAN COMPANIES LISTED ON THE NOVO MERCADO..............................................................................96

CONCLUSION............................................................................................. 100

INTRODUCTION

There are two coexisting regulatory systems concerning the mandatory takeover rule (MTR). In countries such as the United States (US), the seller of the controlling stake receives the control premium in full, and the acquirer of the controlling stake is free to decide whether to propose acquiring the remaining

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shares and, if so, on what proposed terms and conditions. This is designated as a market rule system, a private negotiation rule system, or a 'street' system. In other countries such as European Union (EU),¹ following a regulatory path dating back to the 1972 version of the United Kingdom's (UK's) City Code on Takeovers and Mergers,² the acquirer of a controlling stake in a listed company (30-33% of voting shares) must extend an offer to purchase the shares of all other shareholders on equivalent terms and conditions. This is designated as a sharing rule system or an equal opportunity system.

The US has no general federal MTR, which means the bidder may acquire a large block of shares (or several large blocks of shares) in a bilateral negotiation or the stock exchange or may launch a takeover bid to acquire some or all the target's shares, regardless of the voting threshold it thereby meets. At the state level, the only (limited) exceptions are Pennsylvania, Maine, and Utah.³ The equal treatment of shareholders under the Williams Act (since its original text of 1968) is limited to federal rules requiring a tender offer to pay the same price for each acquired share and treat all tendering shareholders equally. These rules ensure pro rata tender offers, not that all shareholders can necessarily sell all their shares on conditions equivalent to those offered to the controlling shareholder.

Differences in takeover regulation between Europe and the US go far beyond the existence of an MTR, even if this is probably the most iconic; further examples include the actual role and fiduciary duties of the board of directors during a takeover (neutrality duty or passivity rule) and the effectiveness of defence strategies. Generally, the two regulatory approaches are philosophically different: while the European approach involves relevant restrictions for bidder and target, as well as larger protection for minority shareholders, the American approach accepts more freedom for both players.⁴

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There are multiple explanations for this regulatory gap. Lucian Bebchuk points out that the dynamics of regulatory competition between different US states favour solutions preferred by the incumbent management of listed corporations.⁵ Scholars such as John Armour and David Skeel argue that the respective structures of regulation - informal guidance by the UK's Panel on Takeovers and Mergers versus Delaware jurisprudence and federal regulation - explain why Britain grants shareholders extensive authority whereas significant managerial discretion is dominant in the US.⁶ According to Andrew Johnston, the City Code rules were designed to address common law's incapability of establishing a regulatory system under which takeovers viably assure managerial accountability to shareholders - in particular, common law considered sales of shareholdings as private matters with no implications for those outside the contract, and so would not regulate equal treatment of shareholders in a change-of-control event.⁷ Others, such as Marco Ventoruzzo, call attention to (a) the consequences of the typical dispersed ownership structures of listed companies in the US and (b) the general efficiency of robust financial markets as central reasons for the divergence.⁸ Finally, scholars like Ferrarini and Miller point to the political forces operating at different geographical levels under different conditions.⁹

There are indisputably fundamental differences between the market rule and sharing rule systems - most prominent are differences in takeover dynamics and market efficiency, in the behaviour of bidder and shareholders, in the discipline of the board, in the protection of minority shareholders, and in the efficiency of the market for corporate control. In this sense, any mandatory takeover regulation implies a trade-off between the protection of non-controlling shareholders and the efficiency of the market for corporate control. These implications have been thoroughly discussed and debated, particularly in

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European legal and economic literature during the decades preceding the approval of the Takeover Directive.¹⁰

This paper does not intend to dive into the specificities of the two systems, the reasons for the discrepancies, or the radically different economic effects of each solution. It acknowledges that there is a gap with tremendous implications between the American and European regulatory approaches to the MTR. However, I wish to focus on the hybrid solution developed by Brazil, among other jurisdictions: on many levels, this solution is quite distant from the letter and the spirit of the European rule and, in practical terms, may even be slightly closer to the dynamics of market rule jurisdictions. Because of the (limited) harmonization effects of the Takeover Directive, EU Member States ceased to apply hybrid solutions from 2004. By contrast, Brazil still has a hybrid regulatory solution.¹¹

Such hybrid solutions are interesting on different levels. First, looking at the past, they make clear the historical context and the path dependence of each regulatory solution. This is one of those cases where history indeed matters. Second, looking at the future, such hybrid solutions are a relevant indicator of how market forces are operating in that specific jurisdiction, showing us if the regulation is stable or if it is being pushed in the direction of the market rule system or the sharing rule system.

I will conclude that there are strong forces pushing the Brazilian regulatory solution in the direction of the sharing rule system. To explain this trend, this paper undertakes a comprehensive historical and critical analysis of the Brazilian MTR, in part by comparing it against article 5° of the Takeover Directive. I argue that in a context of low ownership concentration, the ineffectiveness of the Brazilian MTR in article 254-A of the Lei das Sociedades por Ações (Joint-Stock Companies Law) of 1976 (LSA) opened the door for aggressive self-regulation led by, and serving the interests of, incumbent blockholders. This

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movement led to provisions that generally work as pure defences against hostile takeovers, and not as proper, balanced responses to the MTR's insufficiencies. The result is that minority shareholders still lack protection; in fact, their position is probably worse now than two decades ago.

This paper is structured as follows. Section 2 describes the long and troubled road of the MTR in the Takeover Directive, from its original roots in the 1972 version of the UK Takeover Code, and the 1974 Pennington Report, until its final approval by the European Parliament in 2004. Section 3 does the same exercise for the history of the MTR in Brazil, from the contemporaneous roots of the preparation of the LSA to the approval of its 2001 revision that reinstated the MTR. I will point out how the original roots of the MTR in the Takeover Directive and in Brazilian regulations, dating back about half a century, have dramatically impacted the solutions adopted today. Section 4 dives into the most remarkable difference between the two regulations: whereas the MTR in the directive is triggered by the acquisition of securities above a certain threshold of voting rights, regardless of the cause of the acquisition, the Brazilian rule is triggered only by a secondary transfer of a controlling stake, thus presupposing - as was the case for most Brazilian listed companies until recently - that a transfer of control depends on the agreement of the incumbent controlling shareholder. Section 5 then describes the most important differences between the systems concerning the price of the mandatory bid. Section 6 explores how several companies listed on the Novo Mercado have recently used specific provisions in the articles of associations to trigger the obligation for a mandatory takeover bid, with thresholds usually set between 10% and 35% of...