Legal development

Ashurst Governance & Compliance Update – Issue 46

By Will Chalk and Rob Hanley

22 December 2023

Ashurst Governance & Compliance Update – Issue 46

Equity Capital Markets

1. FCA publishes consultation on UK Listing Rules reform

The Financial Conduct Authority has published the long-awaited follow-up consultation to CP 23/10 in which it sets out its detailed proposals for far-reaching reforms of the UK's listing regime, including the first tranche of the new UK Listing Rules sourcebook (see FCA press release in relation to CP23/31 here).

CP 23/31 broadly follows the proposals put forward in CP 23/10 (CP 23/10 - see our update: UK Listing Reform – a New Chapter) with some notable refinements and additions. It retains the philosophy of a shift towards a more disclosure-based framework, which seeks to enhance the attractiveness of the listing regime for a wider range of companies.

Key features of CP23/31

Listing category

The FCA has maintained the central reform outlined in CP 23/10 of creating a single category for UK listings of equity shares in commercial companies. This single category would replace the current premium and standard listed share categories for commercial companies with or seeking a new ‘primary’ equity share listing in the UK. It is envisaged that existing premium listed issuers would be automatically mapped to the new commercial companies category when the new listing regime goes live.

Other new categories include a shell companies category, a secondary listing category for shares in overseas commercial companies and a transition category, which seeks to maintain the status quo for current standard ‘primary’ listings of commercial company shares (excluding SPACs and other shell companies), allowing them sufficient time to move to the commercial companies category when ready.

Eligibility requirements - existing financial information requirements

With a view to encouraging a more diverse range of issuers to list and to do so at an earlier stage, the FCA proposes removing the premium listing eligibility requirements relating to a three year financial and revenue earning track record and a 'clean' or unqualified working capital statement. The FCA stresses, however, that this simplified approach is predicated on disclosures of up to three years of historical financial information and a working capital statement falling within the remit of the prospectus regime, which is also in the process of a fundamental review.

Eligibility and continuing obligations

Independence and control of business

The FCA is proposing to follow the disclosure-based approach set out in CP23/10 and to not prescribe eligibility requirements and continuing obligations regarding independence of business (other than where a controlling shareholder is present) and control of business in the commercial companies category.

Controlling shareholders

The FCA has reconsidered its proposals on controlling shareholders put forward in CP 23/10 – where it proposed to remove the requirement for a controlling shareholder agreement. The FCA notes that the controlling shareholder regime currently applied to premium listed companies continues to play an important safe-guarding role and, as such, the FCA has decided to retain the regime, broadly unchanged. The FCA intends to carry over within the new commercial companies category the requirement that an applicant with a controlling shareholder demonstrates, via a controlling shareholder agreement, that it is able to carry on its main business activity independently from such controlling shareholder. The FCA also proposes to carry over the existing premium listing approach for approving cancellation of listing and the election or re-election of independent directors when the company has a controlling shareholder.

Dual class share structures

The FCA has developed its CP 23/10 proposals relating to dual class share structures (DCSS), outlining a more permissive approach to DCSS for the purpose of the commercial companies category. The FCA has abandoned the concept of any time-related sunset requirement to restrict the exercise of enhanced voting rights, having proposed a 10-year sunset period in CP23/10, and instead looks to market practice to determine what would be appropriate. In addition, the category of persons entitled to hold enhanced voting rights has been broadened to include natural persons who are shareholders and employees of the applicant (amongst others).

It is envisaged that holders of enhanced voting rights shares would be entitled to vote on a reverse takeover and in relation to the election and re-election of independent directors when there is a controlling shareholder but would be prohibited from voting to approve employee share schemes and long-term incentive plans, discounted option arrangements and share offers or placings at a discount of more than 10 per cent without a pre-existing authority, amongst other things, on the basis that such transactions have the potential to damage ordinary shareholders economically.

Continuing obligations

Significant transactions

CP 23/31 follows the streamlined and disclosure-based approach to the significant transaction rules set out in CP 23/10 which aimed to address a friction for premium listed issuers, particularly those competing in the global M&A space. For transactions at the current class 1 threshold (25 per cent), the FCA is proposing to remove the current obligation to obtain prior shareholder approval (with the exception of reverse takeovers) and instead to require enhanced market notifications.

With the enhanced notification proposal – an update from CP 23/10 – the FCA is seeking to capture the most useful information from its current premium listing disclosure requirements for class 1 circulars, to ensure investors have a clear understanding of the transaction. Importantly, the envisaged content requirements are much reduced as compared with the current class 1 circular requirements; for example, a working capital statement would not be required and pro forma financial information would not be required to be published to prospectus standards. As a result of these changes, financial information published in connection with notifications would no longer be subject to mandatory third-party scrutiny.

The FCA is not proposing to carry forward the current premium listing notification requirements for class 2 transactions (those between five per cent and 25 per cent in size).

Transactions undertaken by companies facing financial difficulty

As promised in CP 23/10, the FCA provides some colour on significant transactions undertaken by a company facing financial difficulty, including a reconstruction or refinancing. For these types of transactions, the FCA is proposing to apply the revised significant transaction regime with enhanced disclosure requirements where the transaction meets the specified size threshold. Nevertheless, while shareholder approval would not be required, approval may still be required under other legislation.

Related party transactions

Similar to the approach for significant transactions, the related party transactions regime in the commercial companies category is framed as a disclosure-based regime but with additional safeguards to address the related party element.

For issuers in the commercial companies category, the following requirements would apply to related party transactions meeting the five per cent threshold on the class tests:

board approval (excluding any conflicted directors);
market notification of the transaction; and
a 'fair and reasonable’ statement in the market notification, with confirmation from a sponsor.

The key differences as compared with the current premium listing rules are therefore the removal of (i) the mandatory shareholder vote (and related FCA-approved shareholder circular) for larger related party transactions and (ii) the notification requirement and fair and reasonable opinion from a sponsor for smaller related party transactions.

Next steps

The consultation period for the new UK Listing Rules proposals (including comments on the second tranche of the new UK Listing Rules expected to be published later in Q1 2024) closes on 22 March 2024. The FCA expects to publish a Policy Statement and final UK Listing Rules at the start of the second half of 2024. A short implementation period of two weeks is envisaged before the new rules come into force.

An earlier closing date of 16 February 2024 applies for proposals relating to sponsor competence with the relevant changes expected to be implemented by mid-Q2 2024.

2. Unlawful disclosure of information: FCA publishes latest Primary Market Bulletin

The FCA has published Primary Market Bulletin 46 in which it:

addresses questions raised by stakeholders in relation to Article 10 of UK MAR (unlawful disclosure of inside information) and market conduct issues more generally in the context of shareholder co-operation regarding ESG stewardship; and
covers observations from the FCA's initial review of how sponsors have made changes to assess whether new applicants have procedures in place to comply with the TCFD-aligned disclosure requirements for premium listed commercial companies.

Here we deal with the first issue given its relevance to existing listed issuers.

Unlawful disclosure and ESG stewardship

In December 2022, the FCA published Primary Market Bulletin 42 in which the FCA examined the Final Notice issued earlier that year to Sir Christopher Gent in relation to unlawful disclosure of inside information (see AGC Update, Issue 25). Following the publication of the Final Notice, the FCA has received enquiries in relation to Article 10 of UK MAR in general and also its application in certain specific scenarios, including whether a major shareholder’s voting intentions on significant transactions, potentially influenced by ESG stewardship concerns, might constitute inside information, thereby restricting trading by that shareholder.

Continuing relevance of prior FCA publications

The FCA highlights the following materials published by its predecessor, the Financial Services Authority, which it states are of continuing relevance and assistance when considering obligations under the market abuse regime:

A letter sent by the FSA to the Association of British Insurers titled 'Shareholder engagement and the current regulatory regime' in August 2009; and
FSA Market Watch 20 published in May 2007.

FCA approach to assessing shareholder engagement

Both publications addressed shareholder activism and shareholder engagement, amongst other things, and were generally supportive of collective shareholder engagement with the boards of investee companies. The FCA highlights that the Sir Christopher Gent Final Notice does not signal any change in its approach to Article 10 in general. As set out in PMB 42, the outcome should not inhibit or stifle high quality engagement between companies and their shareholders. The FCA goes on to say that its regulatory requirements should also not prevent collective engagement by institutional shareholders designed to raise legitimate concerns on particular corporate issues, events or matters of governance with the management of investee companies, including matters related to ESG considerations. The FCA cites Recital 19 to UK MAR in support of this: 'This Regulation is not intended to prohibit discussions of a general nature regarding the business and market developments between shareholders and management concerning an issuer. Such relationships are essential for the efficient functioning of markets and should not be prohibited by this Regulation.'

Strategy and voting intentions

As stated in Market Watch 20, the FCA is unlikely to consider that market abuse rules have been contravened where a shareholder trades based simply on its own intentions and knowledge of its own strategy. However, the FCA may reach a different conclusion if other market participants also trade based on the knowledge of that party’s voting intentions or stewardship plans. In general, the FCA does not consider that this situation is likely to arise in the context of bona fide discussions between shareholders in relation to ESG stewardship.

Disclosure of major shareholdings

The FCA reminds shareholders, when they are collaborating in respect of ESG (or other) stewardship, of the disclosure obligations under DTR 5.2.1R(a), which may require shareholdings to be aggregated in certain circumstances.

AGMs in 2024

3. ISS publishes Proxy Voting Guidelines Updates for 2024

ISS has published its Global Proxy Voting Guidelines Updates for 2024. The changes will be effective for shareholder meetings taking place on or after 1 February 2024.

As we flagged in our last AGC Update, the changes to the voting guidelines for the UK and Ireland are not material – for example, one changes simply reflects the publication of the Investment Association's updated Share Capital Management Guidelines (see AGC Update, Issue 33). An overview of ISS's changes can be found at Appendix B of the Update.

ESG

4. UK Anti-Deforestation Regime to tackle illegal deforestation in supply chains

At the COP28 Nature Day, the UK government announced that it would bring forward legislation to tackle illegal deforestation in UK supply chains. The Environment Act 2021 contains provisions prohibiting the use of forest risk commodities or products derived from them unless relevant local laws on that commodity are complied with. The Environment Act also requires in-scope companies to establish a due diligence system for any forest risk commodity or derived product used in their UK commercial activities and to report annually on their due diligence. Secondary legislation is required to provide details on the prohibition and due diligence requirements and how the new regime will be enforced.

The announcement confirms that the forest risk commodities to be covered by the new regulations will be palm oil, cocoa, beef, leather and soy and their derivative products. Timber and timber products are not included as they are already covered by the GB Illegal Timber Regulation.

The new regime will apply to three fewer forest risk commodities than envisaged in the government's June 2022 response to its December 2021 consultation (see AGC Update, Issue 21). Maize, rubber and coffee appear to have been excluded. The commodities to be covered are not completely aligned with those covered under the EU's Anti-Deforestation Regime (see AGC Update, Issue 45).

The government has confirmed that the regulations will apply to businesses with a global annual turnover of over £50 million and that use over 500 tonnes of regulated commodities a year. This is at the lower end of the range of thresholds considered in the 2021 consultation.

The announcement does not specify when the legislation will be introduced. Organisations will have a grace period to allow them to prepare for regulation before the beginning of the first reporting period.

Other nature-related announcements made at COP28 included a roadmap to deliver the UK's '30by30' commitment to protect 30 per cent of terrestrial, inland water, and coastal and marine areas for biodiversity and ecosystem functions and services by 2030. The roadmap indicates the areas in England that could count towards the delivery of 30by30.

5. Legislation proposed on supply chain due diligence for human rights and environmental harms

A Private Members' Bill has been introduced into the House of Lords which focuses on supply chain due diligence for human rights and environmental harms. If the Bill becomes law, it would place a duty on commercial organisations and public authorities to prevent human rights and environmental risks in their own operations, products and services and of those of their subsidiaries and in their value chains.

In particular, the duty would require in-scope organisations to conduct reasonable due diligence to assess and address the actual or potential human rights and environmental harms in their value chains. What amounts to reasonable would be determined by (amongst other things) the size of the organisation, its sector and region of operations as well as the severity of the potential harms. All commercial organisations over a turnover threshold (to be specified) would be required to report on the effectiveness of human rights and environmental due diligence actions taken in the preceding financial year and the due diligence procedures to be adopted in the next financial year.

Failure to prevent human rights or environmental harms would be subject to both civil and criminal liability. Directors and responsible persons would also be criminally liable if their organisation did not undertake the necessary due diligence or if their due diligence reports contained information that they knew contained, or were reckless as to whether it contained, materially false or incomplete information. The regulator would be able to take a range of enforcement actions including fining commercial organisations up to 10 per cent of global turnover for failure to prevent human rights or environmental harms, to conduct the necessary due diligence or to comply with reporting requirements.

While most Private Members' Bills never become law, this Bill evidences the calls for the UK government to introduce requirements on ESG supply chain due diligence that provide an equivalent UK regime to the EU's CSDDD proposals (see The Corporate Sustainability Due Diligence Directive proposal).

6. Report on the financial sector and the UK's net zero transition

The House of Commons' Environmental Audit Committee (EAC) recently published 'The financial sector and the UK's net zero transition', which reports on the financial sector's progress achieving net zero greenhouse gas emissions by 2050.

The report considers the financial sector's impact on energy security, reporting requirements, investing for net zero and the effect of UK government policy on global and local investment.

The report's conclusions and recommendations include that the government:

Publishes quarterly reports to show how the UK is moving towards greater energy independence while staying on track to meet its net zero target.
Sets a clear date for ending new oil and gas licensing rounds in the North Sea and that this date should fall well before 2050.
Includes consideration, in its forthcoming consultation on transition plans, as to whether it should be compulsory to have and disclose a transition plan.
Introduces regulations to ensure companies develop and discloses transition plans in accordance with the Transition Plan Taskforce guidance.
Sets out regulatory expectations for Transition Plans and establishes an independent mechanism for monitoring, evaluating and verifying them.
Publishes further guidance to advise how transition principles should be considered within the transition plan framework and incorporates into the framework the company's contribution towards halting and reversing nature loss.
Sets out an overarching implementation timetable for the Sustainability Disclosure Requirements, including Taskforce on Nature-related Financial Disclosures reporting, and commits to making TNFD reporting mandatory.
Consults on TNFD definitions and phases in compulsory TNFD disclosures over the next three to five years, starting with the largest companies.
Seeks to introduce the UK green taxonomy as soon as possible and ensures reporting against the green taxonomy becomes mandatory no less than two years after the beginning of a voluntary period, during which it should monitor and report quarterly.
Launches its promised consultation on voluntary carbon markets without delay and develops a UK carbon border adjustment mechanism.

7. ESMA consultation on draft guidelines on enforcement of sustainability information

The European Securities and Markets Authority has published a consultation paper on draft guidelines on enforcement of sustainability information, as required by the Corporate Sustainability Reporting Directive (CSRD).

ESMA indicates that the main goals of the draft guidelines are to:

Ensure national competent authorities carry out their supervision of listed companies’ sustainability information under the CSRD, the European Sustainability Reporting Standards and Article 8 of the Taxonomy Regulation in a coherent manner.
Establish consistency in, and equally robust approaches to, the supervision of listed companies’ sustainability and financial information to increase connectivity between the two types of reporting.

ESMA is seeking views on the guidelines, including:

The proposed scope of the guidelines.
The types of examination enforcers can use when they examine sustainability information.
The process for the enforcer’s examination.
The conditions enforcers should apply when they offer issuers pre-clearance of sustainability information.
The considerations enforcers should apply when they identify an infringement in the sustainability information and have to determine the enforcement action to use.

In preparing the guidelines, ESMA has aimed to align them as closely as possible with the ESMA guidelines on enforcement of financial information.

The deadline for responding to the consultation is 15 March 2024. ESMA expects to publish the final guidelines in Q3 of 2024.

8. California passes local ESG disclosure laws increasing regulatory and litigation risk for companies

In October 2023, legislation took effect in California which imposes climate-related disclosure requirements for companies with revenues over $1 billion annually that do business in California.

Additional new laws have also been introduced relating to voluntary carbon market disclosures and to combatting greenwashing.

The new climate-related disclosure requirements are in accordance with the Greenhouse Gas Protocol, the world’s most widely used climate disclosure framework. Companies will have to start disclosing emissions from their direct operations and energy use (Scope 1 and 2) by 2026. Emissions reporting from supply chains and other indirect sources (Scope 3) is required by 2027.

The intent of the Californian climate-related disclosure requirements is increasing transparency regarding the impact of big businesses on the environment. However, the law goes further than the US Securities and Exchange Commission’s proposed rules in requiring disclosure of Scope 3 emissions. As a result, regardless of materiality, companies cannot omit information about Scope 3 emissions from their SEC filings if they earn more than $1 billion and are doing business in California. This increased disclosure opens companies up to litigation risk where otherwise they would be under no duty to disclose.

Narrative and Financial Reporting

9. FRC announces areas of supervisory focus for 2024/25

The Financial Reporting Council has announced its areas of supervisory focus for 2024/25, including priority sectors for corporate reporting reviews and audit quality inspections.

The priority sectors for selection of company accounts and audits are:

Construction and materials.
Food producers.
Gas, water & multi-utilities.
Industrial metals and mining.
Retail.

The priority sectors are only one risk factor amongst the many which the FRC takes into account when making selections of companies for review. Companies and audits from all sectors are included in the FRC’s monitoring. The financial services sector, including banking and insurance, continues to be a focus of reviews and is included annually in the selections made.

As covered in its Annual Review of Corporate Reporting (see AGC Update, Issue 42), the FRC’s programme of corporate reporting reviews and audit quality inspections will pay particular attention to the following areas:

risks related to the current economic environment (for example: going concern, impairment, recoverability and recognition of tax assets/liabilities);
climate related risks, including TCFD disclosures;
implementation of IFRS 17 – Insurance Contracts; and
cash flow statements.

10. FRC Lab reports on digital reporting in annual financial statements

The FRC Lab has published a report on structured digital reporting in annual financial reports required under Chapter 4 of the FCA's Disclosure Guidance Transparency Rules. In doing so the Lab reviewed a sample of UK filings, as well as data from the FCA and feedback from companies and service providers.

The report reviews the mandatory use of the electronic reporting format requirements set out in DTR 4.1.15-23 and Primary Markets Technical Note 507.1, which replaced the UK version of the EU Transparency Directive's regulatory technical standard for the European Single Electronic Format.

The report highlights areas for improvement, setting out reasons why reports have been rejected in the past. It also makes recommendations for better practice.

The report reminds companies to familiarise themselves with the FCA guidance on submission to the FCA and that the FCA rules (DTR 4.1.3 and DTR 6.3.5) require companies to file their report with the National Storage Mechanism within four months after the end of the reporting period.

Public offers and admissions

11. Public offers and admissions to trading regime: FCA summary of engagement

The FCA has published a summary of engagement feedback on the new public offers and admissions to trading regime. The feedback summary follows the six FCA Engagement Papers published earlier this year (see AGC Update, Issue 37), which set out the FCA's initial thinking on aspects of the new regime. Whist the summary focuses on written responses to the Engagement Papers, it also reflects feedback received during FCA outreach events and meetings.

The Public Offers and Admissions to Trading Regulations, which were laid before Parliament in November, will create a new regulatory framework for public offers and admissions to trading, with the setting of detailed requirements being delegated to the FCA. The Regulations represent the first step in the reframing of the prospectus regime and will be followed by the FCA's rules, which together will implement the new regime. See recent Insights into the Mansion House reforms and, more recently, our overview of the Regulations themselves.

The Engagement Papers focused on the following aspects of the new regime:

Admissions to trading on a regulated market.
Further issuances of equity.
Protected forward-looking statements.
Non-equity securities.
The public offer platform.
Primary multilateral trading facilities.

Further to this initial phase of engagement, the FCA is continuing to develop detailed policy proposals for making its rules to support the public offers and admissions to trading regime. The FCA does not indicate in the feedback summary its proposed approach, which will be set out in future consultation paper(s). The FCA may also undertake follow-up engagement with stakeholders on key topics to inform its thinking on specific proposals.

In terms of timings, the FCA is aiming to consult on its proposals in summer 2024. Subject to consultation responses and final approval by the FCA Board, the final FCA rules are expected in the first half of 2025.

Authors: Will Chalk, Partner; Rob Hanley, Partner; Vanessa Marrison, Expertise Counsel, Becky Clissmann, Counsel, Eleanor Reeves, Partner, Joanna Fox, Senior Associate, Marianna Kennedy, Senior Associate