Disclosure in a volatile market: ASX and ASIC warnings

Recent market volatility, in particular the controversy that has surrounded the sharp sell downs of stock of by directors of a number of high profile listed companies, has led to the Australian Securities Exchange (ASX) and the Australian Securities and Investment Commission (ASIC) to respond by issuing new disclosure guidelines to listed entities. 

ASX and ASIC issued a joint media release on 29 February 2008 announcing that the regulators would work together in monitoring disclosure by listed entities and, if necessary, take enforcement action.  Two Companies Updates accompanied the media release, warning listed entities of the importance of making the appropriate disclosures to ensure the market is fully informed, particularly in the context of financing arrangements and margin loans held by directors and where an entity is seeking a trading halt or suspension of their securities.

On 6 March 2008, ASX and ASIC also issued further media releases to remind market participants of their disclosure obligations in respect of stock lending and stock borrowing.

Financing arrangements and margin loans

Companies Update 02/08 issued on 29 February 2008 focuses on disclosure of material information relating to financing arrangements of listed entities and new or existing financing arrangements that directors have in place in relation to their shareholdings.  ASX Listing Rule 3.1 requires the immediate disclosure of any information of which a listed entity becomes aware that a reasonable person would expect to have a material effect on the price of the entity’s securities.  ASX states that where a listed entity has in place or enters into new material financing arrangements or alters existing material financing arrangements disclosure of such arrangements may be required under Listing Rule 3.1.   This is likely to be particularly relevant where the arrangements contain terms that may be triggered upon the occurrence of events beyond the entity’s control, such as market movements.  ASX indicates that disclosure may be required of:

• the nature and terms of the arrangements;
  
  
• the trigger events; and
  
  
• other material information, such as the impact the trigger would have on the financial position or performance of the entity.

If the entity is not able to immediately release the information, ASX may consider it appropriate to put a trading halt in place.

ASX also draws attention to margin loans or similar funding arrangements held by directors and advises that Listing Rule 3.1 may operate to require an entity to disclose the key terms of such arrangements they have in place in relation to a material number of the entity’s securities.  These terms may include:

• the number of securities involved;
  
  
• the trigger events; and
  
  
• the lender’s right to unilaterally sell the securities.

The entity will need to decide whether a margin loan arrangement is material having regard to the nature of the entity’s operations and its particular circumstances.

Stock lending and short selling

Stock lending is described by ASIC to be the practice by which securities are transferred from one party to another, with the borrower obliged to return an equivalent number of securities either on demand or at the end of an agreed term and is often undertaken to 'cover' what would otherwise be regulated short selling transactions under Corporations Act and ASX market rules.

ASIC is of the view that a person engaged in stock lending or stock borrowing should carefully examine the disclosure obligation to lodge substantial holding notices in a timely manner.

ASIC is further of the view that entry into a stock lending agreement and/or the allocation of securities by the lender to the borrower ‘engages’ the relevant interest provisions of the Corporations Act such that those provisions, as well as the takeover provisions of the Corporations Act, must be considered (although the ASX acknowledges that there may be differing interpretations of the provisions and that it has approached the Government regarding any required amendments).  ASIC expects strict compliance with disclosure obligations and will be monitoring trading and related disclosures.

ASIC has also warned market participants against manipulating the market by deliberately spreading false and misleading information about securities in order to make profits from the short selling of securities on the market.

The ASX notes that a combination of legislative provisions and ASX rules require that (whether or not the short sale is ‘covered’):

• clients must inform their broker that a sale is a short sale;
  
  
• brokers must inform clients of their obligations;
  
  
• brokers must inform their clearer that the sale is a short sale, and must ensure that the clearer has secured a minimum 20% initial margin over the short position;
  
  
• brokers must advise ASIC as soon as possible that they are executing a short sale; and
  
  
• brokers must report to ASX their unsettled net short sale position as at 7.00 p.m. by no later than 9.00 a.m. the next trading day.

Because short selling activity has the potential to give rise to settlement risk, ASX also limits the class of listed securities in which uncovered (or ‘naked’) short selling can occur.

Trading halts and suspensions

In the February Companies Update, the regulators also remind listed entities of their continuing disclosure obligations when an entity has requested a trading halt or suspension.  Under Listing Rules 17.1 and 17.2, ASX may grant a trading halt or suspend trading in an entity’s securities at the request of an entity.  Such request must be in writing if ASX so requests.  In Companies Update 01/08, ASX makes it clear that it will insist that requests for trading halts and suspensions be made in writing for release to the market, and include the following information:

• reasons for the trading halt or suspension, which should be specific;
  
  
• how long the entity expects the suspension or trading halt to last (for trading halts more than 2 days);
  
  
• the event the entity expects to happen that will end the suspension or trading halt;
  
  
• a statement that the entity is not aware of any reason why its securities should not be suspended or placed in a trading halt; and
  
  
• any other information necessary to inform the market about the suspension, or other information that ASX requests.

Where the entity does not provide a written request including the required information, ASX may consider it more appropriate to suspend the entity’s securities without request.  The ASX also reminds entities that back-to-back trading halts will only be granted in exceptional circumstances and that a delay in finalising information to be released to the market would not constitute “exceptional” circumstances.

Focus on disclosure

It is clear that compliance with disclosure obligations will be an important focus of the regulators in light of the recent market volatility and controversy surrounding recent sell downs of securities by directors of high profile companies, such as ABC Learning Centres, MFS and Allco Finance and the sell downs of securities borrowed by Opes Prime.  Directors and shareholders of many listed companies had margin loans over a substantial portion of their shareholdings.  This made them especially susceptible to a sharp fall in the price of securities in those companies, because it would trigger margin calls, and possibly the sale of those shares if the call could not be met. 

The ASX and ASIC have highlighted that the information that is material and of which the market should be informed will evolve over time such that existing financing arrangements, disclosure of which has not previously been made, may, in light of changing market conditions, need to be disclosed.  Accordingly, financing arrangements that were determined not to be material such as to warrant disclosure at a particular point in time, may need to be disclosed in light of changed market conditions. 

Accordingly, listed entities should:

• review their existing debt arrangements and consider whether any disclosures should be made in light of the nature and terms of the arrangements, particularly if they contain market related trigger events;
  
  
• review their debt policies and procedures to ensure that an assessment of disclosure requirements is made prior to entering to new financing arrangements; and
  
  
• ensure that appropriate procedures are followed and disclosures made with respect to margin loans held over the entity’s securities by directors and officers.

Whilst listed entities have long been subject to strict disclosure requirements, there is no doubt that in the current climate of market volatility, there will be increased scrutiny of the disclosures made, or not made, by listed entities.  The ASX and ASIC disclosure guidance supports this and appears to suggest that a higher level of disclosure is required in the current volatile market than what was previously expected by regulators and the market.

Of course, disclosure of such information may potentially trigger a sell off of a listed company’s securities and encourage predatory behaviour by the likes of hedge funds looking to profit from short selling.  The regulators will have to be quick to act against  any illegal attempts to influence the market to ensure its integrity and that such disclosures do not unfairly disadvantage the effected companies.

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