Ashurst London
November 2008
Corporate briefing
Porsche and VW: is this the final lap?
1
What happened?
to five per cent of the VW ordinary shares in order to
increase the trading volume.
The rocketing of the VW ordinary share price at the
2
Background
shares of Volkswagen AG (VW) increased by almost
2.1
Successive build-up of equity positions
147 per cent on 27 October and by a further 81.73 per
by Porsche since 2005
cent the following day. The closing price on 28 October
Since 2005, Porsche has continuously been increasing
2008 for a VW ordinary share was €945, making VW,
its interest in VW. By March 2007, Porsche held an
interest of 27.3 per cent.
end of October 2008 had a dramatic effect on the
German Stock Index (DAX). The price of ordinary
measured by market capitalisation of about €278bn,
the second most valuable listed company in the world.
By exercising an option for the purchase of a further 3.6
The remarkable upturn was triggered on 26 October by
per cent, Porsche's shareholding in VW rose to over 30
Porsche AG's announcement that it planned to increase
per cent at the end of March 2007. Therefore Porsche
its interest in VW to 75 per cent. Porsche voluntarily
was obliged, according to German takeover law
announced that it not only held around 35 per cent of
provisions, to make a mandatory offer to all VW
VW ordinary shares, as had previously been disclosed,
shareholders. The offer price was the legally prescribed
but that it had increased its shareholding to 42.6 per
minimum price of €100.92 (the average of the market
cent, and further that it had economic exposure to an
price for the last three months) which was considerably
additional 31.5 per cent by means of "cash-settled
below the market price at the time. As expected, the
options" (see box for further information). The
offer was not widely accepted. By making this offer to all
aggregate of Porsche's physical and cash-settled
shareholders, Porsche was free to acquire further shares
in the future without having to make another offer.
holdings in VW equated to around 74.1 per cent of the
VW ordinary shares carrying voting rights.
According to the announcement made by Porsche on
This meant that only around five per cent of the VW
26 October, its shareholding in the meantime had built
ordinary shares remained in free float (the state of
up to 42.6 per cent; unnoticed by the market. The
Lower Saxony has the remaining 20.25 per cent
same announcement stated that Porsche had secured
shareholding). The scarcity of ordinary shares sparked
indirect access to a further 31.5 per cent of VW
panic among many hedge funds and other investors
ordinary shares by way of derivative transactions, so-
who had bet on falling stock prices for VW by selling
called "cash-settled options". This announcement was
VW ordinary shares short. These investors then sought
presumably made on a purely voluntary basis, since
to buy VW ordinary shares in order to be able to meet
Porsche was not required to make another mandatory
their redelivery obligations and close out their short
offer and no reporting requirements pursuant to
positions (see box for further information). According
section 21 et seqq. of the German Securities Trading
to unofficial information, the short positions amounted
Act (Wertpapierhandelsgesetz – WpHG) had to be
to 12-15 per cent of VW's equity. The considerable
observed. This is because once the 30 per cent
demand for available VW ordinary shares pushed the
threshold is passed, the next relevant reporting
price for the VW ordinary shares to a record high.
threshold is 50 per cent. The "cash-settled options" do
Additionally, those fund managers whose portfolio
not count towards the mandatory takeover threshold
positions included VW-related indices (e.g. DAX or
or the notification requirements under WpHG (see
point 2.2 below for further information).
Euro Stoxx) were forced to buy VW ordinary shares to
maintain the correct weighting. On 29 October 2008,
Porsche announced its intention to make available up
ABU DHABI BRUSSELS DUBAI FRANKFURT LONDON MADRID MILAN MUNICH NEW DELHI NEW YORK PARIS SINGAPORE STOCKHOLM TOKYO
2.2
Access to shares by cash-settled options
According to Porsche's announcement, the company
has secured access to a further 31.5 per cent of VW
ordinary shares by way of cash-settled options.
"Cash-settled options" and reporting
requirements
In the recent takeover of Continental AG (member of
DAX) by Schaeffler KG in July 2008, where positions
were built by "cash-settled total return equity swaps",
the German Federal Financial Supervisory Authority
(Bundesanstalt für Finanzdienstleistungsaufsicht BaFin) stated that the swaps were not disclosable and
so there had been no breach of reporting requirements
under the WpHG (see BaFin statement of 21 August
2008). In particular, the reporting requirement
pursuant to section 25 of the WpHG for holding other
financial instruments was not breached since the
swaps did not contain a right to delivery of shares.
According to BaFin, such financial instruments must
only be reported where they entitle the holder of the
financial instrument to unilaterally purchase shares
which carry voting rights and are already issued.
BaFin also held that ownership of the shares
underlying the swap transaction could not be
attributed to Schaeffler KG. If the principles imposed
by BaFin in the Continental AG case are applied to the
Porsche/VW case, ownership would only be attributed
to Porsche if further agreements existed according to
which (i) the banks or third parties hold the VW
ordinary shares on behalf of Porsche, (ii) Porsche
Cash-settled options
"Cash-settled options" are not classical share options
transactions which are characterised by a direct right
to receive shares. Rather they are an agreement
between two parties requiring only payment of cash
equivalent to the profit which would have been
obtained by exercising a traditional option, but
without physical delivery of the shares.
Concurrently with the option transaction, the other
party, in most cases a bank, usually buys the
corresponding shares in order to fully hedge its
potential risk of loss. If the share price then
increases and the bank is obliged to pay a cash
amount to its client, it may make up for its loss by
at the same time by selling the shares which have
increased in value. In the present case, however,
given the size of the holding, it is unlikely that this
could be achieved without substantial price impact.
The counterparty to the option transaction has no
legal entitlement to the shares, and the bank is not
legally obliged to hold, or deliver, the shares to any
person. It is nevertheless possible that following
termination of the option transaction, the bank
could settle the outstanding payment obligations by
transferring the underlying shares to the client at
the market price. The frequency with which this
settlement route is adopted is one of the factors
that led to the changes in the UK Takeover Code
which now treats cash-settled derivatives as
effectively the same as a physical holding.
would be able to acquire the VW ordinary shares by a
unilateral declaration of intent, or (iii) the voting rights
from VW ordinary shares would be exercised jointly by
Porsche and the banks. However, if such agreements
do not exist, there is no breach of reporting
requirements and BaFin's intervention would not be
necessary.
On the basis of BaFin's approach in the Continental AG
Short selling
Short selling shares is a common trading practice. In
a short sale, an investor acquires securities in return
for a fee, usually under a securities lending
agreement, and sells these directly on into the
market. It "bets" on the fact that the price of these
case, it would seem that disclosure of the "cash-
securities will fall. It purchases the shares at a later
settled options" acquired by Porsche would not be
required.
date in the market in order to comply with its
redelivery obligations at a fixed date of redelivery or
3
value of the share has fallen by the date of return,
Is it manipulation?
BaFin has announced a formal investigation into the
recent market price turbulence of the VW ordinary
shares in order to check whether there has been illegal
market manipulation. However, BaFin has emphasised
that it has no specific suspicion. In order to preserve
the reliability and accuracy of price determinations on
stock exchanges and markets, parties are, in
particular, prohibited from entering into transactions
which may create an artificial price level (so-called
trade-supported manipulation practices). A price level
is artificial if it does not correspond with the true
when redelivery is demanded by the lender. If the
the investor pays a lower price than the one realised
when selling and thus generates a profit. If the value
has risen, the investor will make a loss, since he
must buy the share at a higher price in order to
comply with his redelivery obligation.
It is currently still unclear who lent the VW shares
to hedge funds and other investors. Porsche has,
however, emphasised that it has not lent any
shares to short sellers.
economic conditions or the market price or if it no
total voting rights with further disclosures required at
longer reflects the result of an uninfluenced market
development.
would not therefore be possible to build such a
A typical trade-supported manipulation practice is so-
significant stake in a listed company without disclosure
to the market.
increments of one per cent. Under this new regime, it
called "cornering". This can occur if a market
participant causes a shortage in supply of financial
4.2
instruments in order to cause other participants to
Every one per cent change for shares and physically-
enter into transactions at inflated prices. This kind of
settled derivatives must be disclosed – there is no gap
manipulation primarily occurs with regard to
comparatively illiquid stocks.
between 30 per cent and 50 per cent as there is in
Germany.
The relevant German legislation (section 20a WpHG)
4.3
does not require direct intent on the part of the party
Although DTR 5 in its current form would not have
committing the market abuse, however, the party
applied to the Porsche holdings of cash-settled options,
would need to have known and approved the
under the UK Takeover Code the purchaser would not
circumstances which a prudent third party would have
have been able to acquire such a large stake without
concluded could lead to the creation of an artificial
triggering a second mandatory bid. On 29 May 2007,
price level. Whether or not BaFin concludes that
Porsche owned just over 31 per cent of VW and had
Porsche acted with the necessary intent and
already made a mandatory cash offer. We do not know
knowledge is difficult to determine, particularly as
when the cash-settled options were entered into but
there are no precedents. However, BaFin is likely to
had any purchases of options been made in a similar
take into account its assessment of whether Porsche
UK scenario, Rule 9.1(b) of the UK Takeover Code
knew or must have known the quantity of the short
positions taken in the VW stock.
would have required a second mandatory cash offer.
Disclosure thresholds
Takeover Code
This would trigger an offer period and an obligation
under Rule 8.3 to disclose any further dealings in
Further, the offence is not committed where the
cash-settled options during the offer period. Porsche
transaction is in line with market practice and the
acquired a total physical shareholding of 35.14 per
perpetrator's reasons are legitimate in terms of capital
cent of VW ordinary shares on 16 September 2008
markets law i.e. they do not run contrary to
(increased from 31 per cent). This too would have
recognised principles, structures, mechanisms and the
triggered a mandatory bid even if the cash-settled
integrity of the market. The legislator has set out a
options had not been entered into at that stage. Again,
number of factors BaFin is to consider when looking at
Rule 8.3 would have then required disclosure of
permissible market practice. These include market
further cash-settled options entered into during the
transparency, market liquidity and fairness vis a vis
offer period. In either case, the offer price would have
each market participant. Factors that BaFin might
to be at the highest price paid by the offeror during
the prior 12 months (Rule 9.5(a)).
consider in this case include whether there was a
breach of applicable disclosure requirements, that
market liquidity was prejudiced and the fact that the
Conclusion
market was aware of Porsche's overall aim of
obtaining a majority of VW's shares.
It is difficult to make a meaningful comparison
between the UK and German regulatory analysis in
4
UK perspective
4.1
Disclosure of major shareholdings
this case. This is because questions of market abuse
are inextricably linked with the expectation of the
relevant market participants and also with the
Currently, the UK disclosure of major shareholdings
underlying disclosure and mandatory bid requirements
regime (as set out in Disclosure and Transparency
applicable in each market. In a UK context, it is
Rule 5 (DTR 5)) does not require disclosure of cash-
unthinkable that a shareholder could move from a 30
settled options. DTR 5 only applies to physically-
per cent holding in a stock subject to the UK Takeover
settled derivatives or contracts which convey an
Code to a 75 per cent holding, whether directly or
entitlement to control voting rights. However, the UK
through cash-settled derivatives, without the market
Financial Services Authority (FSA) published a
becoming aware at an early stage of what was going
consultation paper and draft rules on 23 October 2008
on. This is because the UK Takeover Code's mandatory
which propose that changes are made to tighten the
bid requirements cover cash-settled positions as well
disclosure regime for cash-settled derivatives, to come
as direct equity stakes. It is very difficult to predict the
into force in September 2009. The proposed rules will
result of the BaFin investigation, but they are likely to
give significant weight to the fact that no disclosure
require cash-settled call options to be disclosed at an
initial threshold, for UK issuers, of three per cent of
requirements appear to have been breached by
Porsche.
so that it requires more than one mandatory bid and
(ii) the disclosure regime, so that holdings of cashsettled derivatives would require disclosure in the
Having said that, it is unacceptable for the market to
same way as direct physical holdings. It should be
proceed for so long on the basis of a false assumption
noted that under the disclosure regime currently
as to availability of, and control over, shares in a
applicable in Germany, if Porsche had acquired VW
company. Lessons will need to be learned. In practice,
shares directly instead of cash-settled derivatives they
a likely outcome would be a change to either or
would only have had to make a disclosure at the 50
possibly both of (i) the mandatory bid regime under
per cent and 75 per cent levels. So the change to
the German Takeover Code, such that it was triggered
disclosure rules relating to cash-settled derivatives
by cash-settled derivative purchases and/or by
(which is currently under discussion) would not be
sufficient to eliminate the risk of recurrence.
acquisitions at levels between 30 and 50 per cent and
Contacts
Jonathan Haines
Partner
T: +44 (0)20 7859 1396
E: jonathan.haines@ashurst.com
Nicholas Holmes
Partner
T: +44 (0)20 7859 2058
E: nicholas.holmes@ashurst.com
Nikolaus von Jacobs
Partner
T: +49 (0)69 97 11 28 16
E: nikolaus.vonjacobs@ashurst.com
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© Ashurst LLP 2008 Ref:11291021 4 November 2008