Supreme Court New South Wales Medium Neutral Citation: In the matter of Energy Developments Limited [2015] NSWSC 1517 Hearing dates: 3 September 2015 Date of orders: 03 September 2015 Decision date: 03 September 2015 Jurisdiction: Equity - Corporations List Before: Brereton J Decision: Orders made convening scheme meeting and approving (subject to amendments) explanatory statement and scheme booklet. Catchwords: CORPORATIONS – arrangements and reconstructions – schemes of arrangement or compromise – application for order convening meeting of members to consider scheme of arrangement – whether scheme fair and reasonable – whether independent expert's report understates company's value and renders scheme more attractive – whether scheme sufficiently explained – inclusion of "no shop" and "no talk" exclusivity provisions – inclusion of break fee – performance risk – requirement of amending scheme booklet to include notice of second court hearing and information regarding instructions for opposing scheme. Legislation Cited: (CTH) Corporations Act 2001, s 411, s 411(1), s 411(2), s 412, s 412(6), s 412(8), s 1319 Category: Principal judgment Parties: Energy Developments Limited ACN 053 410 263 (plaintiff) Representation: Counsel: A S Bell SC w P Munro (plaintiff) P Foreman (by leave) (DUET EDL Pty Ltd) Solicitors: Gilbert + Tobin (plaintiff) File Number(s): 2015/230020 Judgment (ex tempore) 1. HIS HONOUR: By an originating process filed on 6 August 2015, Energy Developments Limited ("EDL") seeks orders pursuant to (CTH) Corporations Act 2001, s 411, for the convening of a meeting of shareholders for the purposes of considering and, if thought fit, agreeing to a proposed scheme of arrangement between the company and its members and approving the Explanatory Statement required to accompany the notice of the meeting in the form of a scheme booklet, which is in evidence. 2. EDL is a public company listed on the Australian Securities Exchange ("ASX"), primarily engaged in the business of owning and operating remote and clean energy power generation projects in Australia, Europe and the United State. Its remote energy business comprises providing electricity, via power plants, to remote towns, communities and mines not connected to a power grid infrastructure, and its clean energy business involves generating power from methane gas extracted from underground mines or landfills. At present, EDL has in excess of 170,000 fully-paid ordinary shares quoted on the ASX and a further 750,000 fully-paid issued shares not presently quoted due to arrangements arising from the issue of those shares to an EDL executive, pursuant to which they are to remain unquoted until a certain loan is repaid. 3. The proposed scheme, in concept, is a relatively simple one. It involves the acquisition by a special purpose vehicle, DUET EDL Pty Ltd, of all the shares in EDL for a consideration payable to EDL shareholders of $8 per share. 4. On an application for an order convening a meeting and approving an Explanatory Statement, the Court at this so-called "first hearing" is primarily concerned to consider whether there is any fundamental problem with or defect in the scheme by reason of which it could not be approved at a second hearing, and whether the Explanatory Statement complies with the formal requirements as to the prescribed contents, and fairly presents the scheme to shareholders and fairly informs them of the options and courses of action available to them. 5. Both in considering the sufficiency of the draft Explanatory Statement and in considering whether there would be any ultimate fundamental objection to the scheme, it is relevant and important to consider whether, prima facie, the scheme is fair and reasonable and, in particular, whether it would deal fairly with any minority interests. For that purpose, the view of the independent expert and the basis upon which that view is reached is ordinarily important. 6. In this case, the independent expert has concluded that the scheme consideration is fair and reasonable: fair, in that the consideration is within the range of the value that the independent expert attributes to shares in the company, and reasonable in that, being fair, it is necessarily reasonable (although a scheme can be reasonable, even if not fair, in some circumstances). 7. The independent expert has concluded that the estimated fair market value of an EDL share is in the range of $7.84 to $8.97, and that the consideration of $8 plainly enough falls within, though towards the lower end of, that range. 8. The independent expert has valued EDL by use of discounted cash flow methodology. The report discloses the discount rate selected for different parts of EDL's relatively complex business, and the considerations taken into account in selecting that discount rate. What has troubled me and continues to trouble me is that the report does not disclose, even in a summary way, the other integer of the discounted cash flow equation, namely the projected cash flows. I do not for a moment suggest that it would be necessary to report in detail the various components of the cash flows, but the methodology necessarily involves the application of a discount factor to a figure representing the future cash flows, and it is nowhere possible to ascertain from the report what that is. 9. If this were a case in which there were doubt as to whether the report sufficiently rigorously valued the company, and in particular whether it might understate the value of the company, so such that the scheme might appear relatively more attractive than it truly is, that would be a matter of great moment and one which I venture to think would preclude me from approving the Explanatory Statement. However, in this case, a number of alternate check methodologies enable me to be comfortably satisfied that, however the independent experts have reached their valuation, it is most unlikely to be unduly conservative and, if anything, might overstate the value of the company and its shares. 10. In summary, those reasons or cross-checks can be identified as follows. First, net asset backing. The audited financial statements, as summarised in the independent experts' report, indicate that, as at June 2015, the company's net asset backing was $371 million. The valuation of the independent expert has the effect of attributing to the company a total enterprise value of between $1.916 billion and $2.132 billion and an equity value of between $1.5 billion and $1.75 billion. In very rough terms, that seems to represent in excess of five times net asset value. 11. Secondly, future maintainable profits. The financial performance summary at page 24 of the independent experts' report reports net profit after tax of $55 million for FY13, $45 million for FY14 and $57 million for FY15. One might surmise that that indicates net maintainable profit after tax of, very roughly, $50 million per year. The enterprise value of in the order of $2 million implies a multiplier of 40 on net profits after tax which, prima facie, is an uncommonly, if not extraordinarily, high one. 12. Thirdly, dividend yields. The independent expert's report indicates that EDL has communicated a "progressive dividend policy", whatever that might mean. In October 2014, EDL paid a fully-franked dividend (presumably for FY 2013/2014) of 28 cents per share equivalent to a payout ratio of 46 percent of net operating cash flow less maintenance capital expenditure. An interim dividend was paid in April 2015 of 20 cents per share. Even if one were to assume an annual dividend of 50 cents per share – which is significantly greater than that history indicates – it would take some 16 years for an investor to recover an $8 per share investment. 13. Fourthly, a perhaps sounder appreciation is provided by the value at which EDL shares have traded on the market. The independent experts legitimately point out that trading has been relatively thin, which detracts from the value of market evidence as an indicator of the inherent value of the shares, but nonetheless, particularly on the question of reasonableness, market prices are important because they indicate what a shareholder might reasonably expect to be able to gain from a sale of shares in the absence of an offer such as the present one. As set out at page 5 of the independent experts' report, the weighted average price of an EDL share for one week, one month, three months and six months prior to the announcement of the proposed scheme was $7.74, $7.59, $7.33 and $6.86, respectively. The consideration of $8 represents a premium of between 3 per cent and 17 per cent. It is observed that the share price has been volatile in the last 12 months prior to announcement of the scheme, being as low as $4.93 per share in August 2014 and as high as $7.86 per share on 10 July 2015. Immediately prior to the announcement of the proposed scheme, it was $7.72 per share. Since then it has tracked in the range of $7.85 to $7.98 per share. As the independent expert points out, there is at least a significant risk that if the proposed scheme does not proceed, the market price may revert to pre-offer levels. The premium that the consideration represents over the price at which EDL shares have traded on the market is perhaps the most important consideration in my concluding that, notwithstanding what I consider to be the defects in the independent experts' report, the conclusion it expresses is a reasonable one. 14. Finally, it may be observed that a large body of shareholders, in the order of about 85 percent by value, have already expressed an intention to vote in favour of the scheme and thereby accept the offer. None of those shareholders has any connection with DUET. 15. For those reasons, I am satisfied that there is no evident, let alone insuperable, objection to the fairness and reasonableness of the proposed scheme consideration. 16. The scheme and scheme implementation document contain a number of other provisions, which conventionally attract attention in this context. The scheme implementation document includes "no shop" and "no talk" exclusivity provisions. These were included at the request and insistence of the offeror, who would not have been prepared to enter into the transaction without them. As they contain a fiduciary carve out, they are not an objection, let alone an insuperable onen, to ultimate approval of the scheme. They are referred to and disclosed in the draft Explanatory Statement. 17. The scheme implementation document also includes a break fee, again at the insistence of the offeror DUET. As the fee represents less than 1 per cent of the capitalised value of EDL on the footing of the scheme consideration of $8 per share, it is within the tolerances customarily accepted in this area and permitted by the Takeover Panel's guidance. 18. The scheme contains a deemed warranty by shareholders that their shares are unencumbered and transferred free from encumbrance. Reference is made to that warranty in the draft Explanatory Statement and, again, it is conventional to accept such a warranty as reasonable, on the footing that it ensures that all shareholders are dealt with equally. 19. As to performance risk, the scheme provides for the offeror to deposit the whole scheme consideration in cash into an account to be held on trust for scheme shareholders the day before implementation, so that no shares will be transferred to DUET pursuant to the scheme unless and until the aggregate scheme consideration has been so deposited. Together with a guarantee by the offeror's holding company of performance by the offeror, that adequately meets considerations about performance risk. 20. Subject to three matters to which I will refer, I am satisfied that the scheme booklet, in the context of this particular scheme, adequately explains the scheme to shareholders and provides them with the requisite information. 21. Those exceptions are, first, that the scheme booklet does not include a notice of the second court hearing, together with the right of any scheme shareholder to appear at that hearing and oppose the approval of the scheme and be heard, including in opposition to the approval of the scheme, if so advised. In my view, such notification should be included in the "Important Notices" section at the commencement of the scheme booklet. 22. Secondly, the "Frequently Asked Questions Section" should include a question to the effect, "What should I do if I oppose the scheme", with answers along the lines of obtaining further information by enquiring from some nominated source, attending the scheme meeting in person or by proxy and voting against the resolution for its approval, lodging a notice of intention to appear at the second hearing and appearing at that hearing to oppose the scheme. 23. Thirdly, the independent experts' report requires a correction at page 5, where the weighted average price sequence has been inverted. 24. Subject to those matters, I would be inclined to approve the Explanatory Statement in the context of this scheme for distribution, notwithstanding that, were I not otherwise satisfied of the adequacy or the fairness and reasonableness of the scheme, I doubt that I would approve it given the current form and content of the independent experts' report. 25. I am satisfied by the terms of the ASIC letter in PX01 that for the purposes of Corporations Act, s 411(2), ASIC has had 14 days' notice of the hearing of the application and has had a reasonable opportunity to examine the terms of the proposed arrangement and the draft explanatory statement and to make submissions to the Court in relation thereto if it wished to do so. ASIC has provided its "usual letter" indicating that it does not propose to appear at this first hearing or to make submissions at this hearing in relation to the proposed arrangement or draft explanatory statement. 26. The scheme not being one with creditors, is one to which s 412(6) applies. Accordingly, EDL is prohibited from sending out an explanatory statement unless a copy of that statement has been registered by ASIC, and ASIC must not register the statement by reason of s 412(8) unless it appears to comply with the Act and ASIC is of the opinion that it does not contain any matter that is false in a material particular or materially misleading in the form and context in which it appears. The draft explanatory statement provides for registration by ASIC before it is distributed and the evidence establishes that that is the course proposed to be adopted. 27. So far as the supplementary directions for the meeting are concerned, for reasons discussed, it does not seem to me appropriate to make the direction sought in paragraph 2C: the question of quorum can be left to the corporate constitution. The other directions are appropriate. 28. The necessary amendments to the Explanatory Statement to which I have referred above have now been formulated in a document, which I shall entitle "Amendments to Scheme Booklet", initialled by me, dated this day and placed with the papers. 29. The Court orders that: 1. Pursuant to Corporations Act, s 411(1), Energy Developments Limited (ACN 053 410 263) convene a meeting of all holders of shares in EDL ("Scheme Meeting") for the purpose of considering and, if thought fit, agreeing (with or without modification) to a scheme of arrangement ("the Scheme"), substantially in the form of the draft scheme, a copy of which is attachment C to Tab 2 of Exhibit HN-1 to the affidavit of Mr Hiroshi Narushima affirmed on 1 September 2015, being Exhibit PX03 herein. 2. The scheme meeting be held at 10am on 8 October 2015 at the Treasury Room at the Intercontinental Hotel, 117 Macquarie Street, Sydney. 3. Subject to the amendments to the important notices and frequently asked questions sections and page 5 of the independent expert report contained in the document entitled "Amendments to Scheme Booklet" initialled by me, dated this day and placed with the papers, the explanatory statement for the Scheme in the form substantially equivalent to the form that is Tab 2 of Exhibit PX03 herein, is approved for distribution to EDL shareholders for the purpose of Corporations Act, s 411(1). 4. Pursuant to Corporations Act, s 1319: 1. EDL may determine that for the purposes of the scheme meeting, all the shares in EDL be taken to be held by the person, persons or bodies corporate who held them as at 7 pm on 6 October 2015, in accordance with the register held and maintained by Link Market Services Limited (Link); 2. EDL may determine that only the proxy forms in relation to the scheme meeting received by EDL or Link by no later than 10 am on 6 October 2015 are valid; 3. at the scheme meeting, each EDL shareholder present and entitled to vote will be entitled to one vote for each fully paid ordinary share in the capital of EDL that the EDL shareholder is registered as holding at 7 pm on 6 October 2015; 4. the chairman of the scheme meeting shall be Mr Robert Ilar Koczkar or, in his absence, Mr Gregory John Walton Martin; 5. the chairman of the scheme meeting has the power to adjourn the scheme meeting in his absolute discretion for such time and to such date as he considers appropriate; 6. voting at the scheme meeting on the resolution whether or not to approve the scheme is to be conducted by way of poll; 7. EDL is to place an advertisement in the Australian newspaper, in the form substantially equivalent to the form that appears in Tab 5 of Exhibit PX03, not later than five days prior to the date fixed for the hearing of any application to approve the scheme; and 8. on or before 7 September 2015, there be despatched to: 1. each EDL shareholder who has nominated, via Link or otherwise, an electronic address for the purposes of receiving notices of meeting and proxy forms from EDL, at such address, an email substantially in the form of Tab 11 of Exhibit PX02, including URL links to the scheme booklet and a proxy form in respect of the scheme meeting substantially in the form of Tab 10 of exhibit PX02; and 2. each other EDL shareholder, by hand or prepaid post, to the address of that EDL shareholder as set out in the register of members of EDL, a copy of the scheme booklet and proxy form and a reply paid envelope addressed to Link. And such dispatch will be taken to be sufficient notice of the scheme meeting. 1. The proceedings be stood over to 12 October at 10 am for hearing of any application to approve the scheme. 2. There be liberty to apply on two days' notice by arrangement with my associate. 1. These orders can be entered forthwith. ********** DISCLAIMER - Every effort has been made to comply with suppression orders or statutory provisions prohibiting publication that may apply to this judgment or decision. The onus remains on any person using material in the judgment or decision to ensure that the intended use of that material does not breach any such order or provision. Further enquiries may be directed to the Registry of the Court or Tribunal in which it was generated. Decision last updated: 14 October 2015