ASIC has issued Consultation Paper 142: Related Party Transactions, foreshadowing revisions to Regulatory Guide 76. ASIC has conducted a review of public company related party transactions, and ASIC considered that companies may have too readily relied on the "arm's length" exception to the prohibition on provision of financial benefits to public companies.
Among other things, ASIC proposes to provide guidance about the application of the "arm's length" exception. The proposed guidance (subject, of course, to the outcome of consultation) is fairly prescriptive and perhaps taken a more limited view of what might constitute an arm's length transaction than what may be reflected by at least some market practises.
ASIC considers that comparable transactions are a good indicator of arm's length transaction terms. This is common sense. Expert guidance may be required to determine what is reasonable (or "fair and reasonable") and hence arm's length.
But ASIC goes further and suggests that in the absence of comparable transactions, it will be difficult to determine the "hypothetical reasonable arm's length terms". That is true to an extent, but surely a Court, with the assistance perhaps of suitable expert evidence, could come to a conclusion on this question, even in the absence of data from comparable transactions. The ultimate question is what would be reasonable in the circumstances if the parties were dealing at arm's length, even if the transaction is unusual.
ASIC also appears to insist that an "arm's length" bargaining process is required to show that the terms are arm's length. But there is nothing in Chapter 2E to require an arm's length bargaining process (although director's duties and conflict requirements may mandate decision making by disinterested directors). Once again, the ultimate question is reasonableness. An arm's length process might be of assistance - or it may be no more than window dressing.
ASIC considers that companies should seek member approval if there is doubt whether the transaction confessing a financial benefit is at arm's length. So much is common sense, but this should not be put too highly. The arm's length exception is just that - an exception and will be a matter to be established by those wishing to rely upon it. But what does ASIC mean by "doubt"? Surely ASIC is not insisting on shareholder approval unless is beyond any doubt that the transaction is arm's length?
ASIC is proposing to revise RG 76 to state that it may be necessary to include an independent expert's report with a notice of meeting for a Chapter 2E member approval where:
ASIC acknowledges that there is no explicit statutory requirement for an expert's report in Chapter 2E, and this administrative requirement is reminiscent of generally requiring expert's reports for shareholder approved acquisitions under the takeovers provisions in Chapter 6. However, there is no reason - in principle at least - why directors cannot seek expert assistance with giving shareholders proper disclosure for Chapter 2E purposes without going as far as appointing an independent expert.
So far as expert's reports are concerned, ASIC considers that a "fair and reasonable" test should be used but, as in the takeover and scheme context "fair and reasonable" is a "composite" test. A transaction might be not "fair" but nonetheless "reasonable" where there are special circumstances.
ASIC also proposes guidance on disclosure of related party transactions in prospectuses, PDSS, scheme booklets and takeover documents.
ASIC considers that information about related party transactions is almost by definition material to investors. This is, at best, arguable as a matter of investment analysis but it is true that the existence of related party transactions says something about the governance of the company. But ASIC goes further and states that all related party transactions must be disclosed, whether or not they are material. This is not warranted - if a related party transaction is not material, how can it be material to an investment decision? However well intentioned, this is law reform, not a statement of administrative policy.
Public companies need to be aware of ASIC's views as outlined in the Constitution Paper. Submissions are due by 17 December 2010, with an updated RG 76 to be issued in March 2011.
Download the consultation paper here.
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