The ASX, ASIC and the Federal Government yesterday revealed they have agreed to loosen Australia’s already highly flexible capital raising rules in order to help our 2200 ASX listed companies get through the corona crisis.
The specifics are that from today until July 31, companies will be able to issue 25% of their ordinary voting stock to non-shareholders at whatever discount the directors believe is appropriate without shareholder approval in any 12 month period.
The current limit for ASX 300 companies is 15%, but New Zealand moved to 25% during the GFC as a temporary measure and never came back.
Similarly, again borrowing from New Zealand, companies will also be able to do a two-for-one pro-rata entitlement offer without shareholder approval, when the current limit is a one-for-one.
Do we really want to see a repeat of the GFC capital raising rip-offs that diluted ordinary mum and dad investors out of more than $10 billion of value and delivered almost $2 billion of easy fees to the investment bankers of Wall Street (plus Macquarie)?
The proxy advisory firm Ownership Matters has gone public with a report detailing the GFC rip-offs and spelling out the arguments against such a move.
Perhaps the easiest way to demonstrate the arguments here is to look at the options both existing Virgin Australia shareholders and the federal government have in terms of bailing out the teetering airline.
Virgin has 8.5 billion shares on issue and the stock at 9.5 cents on Tuesday, valuing the company’s equity at around $800 million.
Under the current law, the directors can issue 15% of the company to a non-shareholder at whatever price they like, the size of the discount only being constrained by the requirement that directors act in the best interests of the company.
As Virgin advised the ASX yesterday, it is asking the government for a $1.4 billion loan. The government is in a strong negotiating position given that the airline is bleeding cash and is already lumbered with a $5.3 billion debt. It is dead broke without a bailout.
Virgin has five foreign airline shareholders collectively controlling 91% of the shares on issue, all of which are distressed and therefore highly unlikely to singlehandedly bail out the company, with the possible exception of Singapore Airlines and Etihad.
So here’s the government bailout deal under the existing ASX capital raising rules.
The government first agrees to become a cornerstone shareholder in Virgin, taking a 15% placement of new shares at 5 cents each. That would entail the issuance of 1.5 billion shares for a total of $75 million, lifting the total shares on issue to 10 billion, the most of any ASX listed company.
Given that the five foreign airlines all have board representation, the government would get a board seat for their 15% and I’d suggest either former Qantas chairman Leigh Clifford or, even better given his operating experience, former Qantas CEO Geoff Dixon for that job.
However, $75 million is not nearly enough as Virgin needs to raise a lot more equity and this is where we test the financing capacity of the five incumbent foreign airlines who collectively share control.
The board then approves an accelerated one-for-one non-renounceable share issue at 6 cents to raise $600 million, under-written by the Federal government. Using our normal capital raising system, the institutional and airline shareholders would have 48 hours to sign up and a week to settle, with Virgin’s 17,000 retail shareholders given three weeks to make their decision.
Assuming no shareholder chose to take up the offer, the government would pick up an additional 10 billion shares for $600 million, bringing the total taxpayer investment to $675 million. Not one dollar would go to the existing shareholders. It is all new money injected into the airline, which could still yet go broke, without the existing shareholders salvaging anything from the wreckage.
This scenario would leave the federal Government as the biggest shareholder with 11.5 billion of the 20 billion shares on issue, or some 57.5%. All of this can be done perfectly legally and with no shareholder vote required.
If you went to the maximum of the law being proposed with these capital raising changes, the government could take a 25% placement at 6 cents a share and the government underwritten entitlement offer could be a two-for-one at 6 cents. Again, assuming no take-up by existing shareholders, this would leave the government with 25.6 billion of the 34 billion shares on issue or some 75.3% after injecting $1.5 billion.
In this scenario, the existing six largest shareholder blocks would become subservient to the government after being diluted as follows:
- Government: 75.3%
- Etihad: 20.94% down to 5.2%%
- Singapore Airlines: 20.09% down to 4.97%
- Chinese conglomerate Nanshan Group: 19.98% down to 4.97%
- Chinese tourism conglomerate HNA: 19.82% down to 4.93%
- British billionaire Richard Branson: 10.42% down to 2.48%
- 17,000 minority shareholders: 9% down to 2.3%
Without ever making a takeover bid or paying a cent to the incumbent shareholders, the government would have seized control of Virgin and could throw all the other airline nominees off the board.
It could then turn its attention to running the airline and dealing with Virgin’s debt holders.
The point of all this is to demonstrate the dangers of the proposed capital raising rule changes, which is all about reducing the risks for Wall Street investment banks and making it easier for directors to do bail out deals whilst trashing the property rights of existing shareholders.
So, what should Josh Frydenberg do? For now, and take a 15% placement in Virgin at 5 cents for $75 million to tide them over.
After that, see how Virgin travels for another month and move onto the next 25 massively important decisions which need to be made to get Australia through this crisis.