City Law in Practice: The battle for BAA

The battle between Ferrovial and a Goldman Sachs-led consortium for control of BAA highlighted a number of issues that arise in the world of hostile takeovers. By Alison Linfield

On 6 June 2006, after a night of frantic negotiations, the board of BAA (the UKs largest airport operator, and owners of Heathrow, Gatwick and Stansted airports) accepted a takeover offer of 10.1bn from a consortium led by construction group Ferrovial. Two days later, the rival bidder (a consortium led by Goldman Sachs) pulled out of the bidding war, leaving the path clear for Ferrovial to complete one of the largest and most hotly contested takeovers to date.

It was not hard to understand why BAA was an attractive target. It owns seven UK airports, handles hundreds of millions of passengers a year and has stakes in numerous overseas airports and a property portfolio worth around 2bn.

Ferrovials offer for BAA was actually worth less (950.25p a share) than the amount the Goldman Sachs consortium had announced that is was offering (955.25p a share). So why did BAA recommend a lower offer?

It is thought that BAA favoured the Ferrovial offer because it had already been cleared by the competition regulator and was fully financed. The offer also included stub equity, which would have been attractive to institutional shareholders since it would allow them to participate in any share price rise after the takeover was completed.

Ferrovial had also bought 28.7 per cent of BAA through market purchases of BAA shares (known as stakebuilding) and thus ensured that the Goldman Sachs consortium could never reach the 75 per cent shareholding threshold necessary to pass special resolutions of BAA: this dealt a knockout blow to the Goldman Sachs bid. But Ferrovials tactics had been smart from the outset. Heres a closer look at how they outmanoeuvred the competition.

Clearance from the competition regulator

The takeover of a UK company can give rise to merger-control or antitrust issues in the UK, the EU and other national jurisdictions. Obtaining clearance from the relevant competition authorities can be a long and complex task and many takeover offers will be made conditional upon such
clearances being obtained.

From the outset, the Ferrovial consortium invested a great deal of time discussing its proposals with the competition authorities and other regulators in order to obtain the necessary clearances. This enabled the consortium to present BAA with a definite proposition.

Full financing

The City Code on Takeovers and Mergers provides that an offer should only be made where the bidder has every reason to believe that it can and will continue to be able to implement the offer. In connection with this, the bidders financial adviser will be required to confirm in the offer document sent to target shareholders that sufficient cash resources are available to the bidder to satisfy the cash element of the offer in full.

Before approaching the BAA board, the members of the Ferrovial consortium had each committed funding to the takeover and had entered into certain debt-financing arrangements with several banks. The consortium was therefore able to present a fully financed proposal to the BAA board that would fulfil the certain-funding requirements.

Stub equity

Bidders have to decide at the outset of a takeover whether they intend to offer the target shareholders cash, shares or loan notes (or a mixture of all or any of these) as consideration for their target shares.

The answer will usually depend on a mixture of
factors, including the tax treatment of each form of consideration, whether the bidder has sufficient access to cash resources at competitive rates to acquire all the target shares for cash, and which forms of consideration the target shareholders are likely to find most attractive.

Bidders who are listed public companies may choose to offer their own shares as consideration for the target shares. This may be attractive to target shareholders who wish to retain an interest in the enlarged bidder group and participate in any share price rise after the takeover is completed.

Bidders that are private companies (the shares of which are not freely tradable) and bid consortia can, in order to offer a share alternative, set up a new company (Newco), list it on the Alternative Investment Market (the secondary market to the London Stock Exchange, which has less rigid listing requirements and less onerous continuing obligations) and offer Newco shares (known as stub equity) as a form of payment under the offer.

On completion of the takeover, Newco would own a shareholding in the target company and thereby allow the Newco shareholders to participate in any increase in the value of the target. The name stub equity is used because this share consideration will normally form only a small part of the payment made available to the target shareholders.

The Ferrovial consortium chose to offer BAA shareholders cash for their shares with a stub equity alternative. This meant that BAA shareholders could elect to receive some of their consideration in the form of shares in a quoted investment company that would own some of BAA after completion of the takeover. The Ferrovial consortium introduced stub equity into its offer to give it a competitive advantage over the proposals made by the Goldman Sachs consortium as it was thought it would make the Ferrovial offer more attractive to certain institutional shareholders. In the end, however, the stub equity alternative was not issued to BAA shareholders as an insufficient number of shareholders elected to receive it.


While these factors clearly influenced the BAA boards decision to make a recommendation,
Ferrovial also employed more aggressive tactics to ensure its offer prevailed.

On the mornings of 6 and 8 June, the Ferrovial consortium made market purchases of (in aggregate) 28.7 per cent of the BAA shares. This not only meant far fewer shareholders would now need to accept Ferrovials offer in order for it to gain control of BAA, but also meant that the Goldman Sachs consortium could never reach the 75 per cent shareholding threshold necessary to pass special resolutions of BAA (which could be required to, for example, de-list the company or approve the giving of security by the BAA group in relation to the bid financing).

A bidder may consider building up a stake in the target either before it announces an intention to make an offer or once the offer period has begun (it commences on the announcement of an offer or possible offer). However, bidders must consider the implications of any market purchases carefully as they may have serious consequences for the amount and form of consideration that must be offered to shareholders. For example, if a bidder makes share purchases during the three months prior to the offer period or during any period between the commencement of the offer period and the bidders announcement of its firm intention to make an offer, then the takeover offer must not be made on less favourable terms than the share purchases.

In addition to these restrictions, the Takeover Code and the Companies Act 1985 impose disclosure obligations, requiring bidders to notify the target company and/or make an announcement when their target shareholdings reach certain levels. This is obviously a key concern in hostile takeovers.

Additionally, a bidder must also ensure that its share acquisitions do not constitute insider dealing or market abuse under the provisions of the Criminal Justice Act 1993 and the Financial Services and Markets Act 2000 respectively.

The lawyers role

Freshfields Bruckhaus Deringer advised Ferrovial and the Ferrovial consortium on the takeover of BAA. The firms role included documenting the legal relationships between the individual consortium members, dealing with the Takeover Panel and advising on legal issues arising from the code, giving tax-structuring advice, liaising with the competition authorities, drafting the takeover offer documentation and negotiating the acquisition debt financing. Herbert Smith, meanwhile, advised BAA.

Completion of the takeover

On 24 July, the Ferrovial consortium announced that it had acquired over 90 per cent of the BAA shares and proceeded to invoke the statutory compulsory acquisition procedure to squeeze out the remaining shareholders. BAA was de-listed from the London Stock Exchange on 15 August 2006.

What is a takeover?
In the UK, the term takeover is used to describe a transaction where a bidder seeks to obtain 100 per cent control of a company whose shares are held by the public (the target). The other method of obtaining 100 per cent control is through a scheme of arrangement under Section 425 of the Companies Act 1985.
Takeovers in the UK are governed by the City Code on Takeovers and Mergers, which is issued by the Takeover Panel. The code aims to provide an orderly structure and timetable for UK takeovers. It is principally designed to ensure that shareholders are treated fairly, are not denied an opportunity to decide on the merits of a takeover and are afforded equal treatment. Following the implementation of the EU Directive on Takeover Bids (2004/25/EC), the rules set out in the code have a statutory basis.

Alison Linfield is a corporate associate at
Freshfields Bruckhaus Deringer