Why Co-ops can have corporate directors

Last April Dave Hollings of Co-operative and Mutual Solutions Limited asked me two questions. He's kindly given me permission to shares the Q & A's on here.

Both questions are about co-operative societies. Apparently they were raised by a co-operative consortium planning to operate across national boundaries. there's currently lots of interest in that model in the worker co-op sector. For example, both Altgen and uniteddiversity are working on developing the model.

Question 1 was answered in my last post. Here's question 2:

2. Whilst the Act says clearly there can be corporate members, can there be corporate directors as in Companies?

Yes:

A corporate body can be a member of a society - s32 CCBSA 2014.

A "person" can be a committee member - s 30(3) CCBSA 2014.

In any Act "unless the contrary intention appears", the word "'Person” includes a body of persons corporate or unincorporate" - s5 & sched 1 Interpretation Act 1978. Therefore the answer seems to be "yes".

Ian Snaith 2015

 

Need Co-op Shares Be in GB£?

 Last April Dave Hollings of Co-operative and Mutual Solutions Limited asked me two questions. He's kindly given me permission to shares the Q & A's on here.

Both questions are about co-operative societies. Apparently they were raised by a co-operative consortium planning to operate across national boundaries. there's currently lots of interest in that model in the worker co-op sector. For example, both Altgen and uniteddiversity are working on developing the model.

This post is on Question 1 the next one will be on Question 2.

Q 1 Does the minimum shareholding have to be in pounds or could it be in US dollars?

It would be interesting to designate share capital in US dollars (or any other currency) to see whether the FCA raise a problem on registering the rules but we can't be sure of the outcome until a court (or the FCA on rule registration) come down on one side or another. Anyone know of a society already registered with shares not in £GB?

Here's why: There is no direct law on societies as far as I know. However, the leading Company Law case, Scandinavian Banking Group PLC says that company shares can be in any currency or different classes in different currencies so long as a PLC has enough in sterling to meet the minimum of £50,000 that they are required to have issued - because that has to be in sterling.

By analogy, the argument against allowing non-sterling shares in a society is that the maximum holding in section 24 is expressed in sterling. However, that only applies to withdrawable shares so maybe non withdrawable shares could be designated in e.g. US Dollars. The problem with that is that sections 37 to 40 dealing with nominations of shares by members and other transfers on the member's death impose a limit stated in the Act in sterling. Maybe that means that all shares have to be designated in sterling so that those limits are clear.

On the other hand, the reason for the problem with the PLC £50,000 limit was that the EU Directive requires the limit to be set in national currencies and it has prioity over conflicting national law (pp 103-104 attached judgment). Society law is unaffected by any EU Directives in this area therefore that argument does not apply to them and maybe the courts would be willing to allow any currency to be used as they do for other purposes as is explained in the Scandinavian Banking Group case (attached). The rest of the judgment shows courts willing not to let the tail (e.g. amount required to requisition meeting) wag the dog of allowing shares in other currencies (p 104 paras B to E). That argument could be applied to sections 37-40 of the CCBSA 2014 in our context. That is in line with the courts' wish to be liberal when it comes to facilitating commerce.

Ian Snaith 2015

New Start

After a six month unplanned "sabbatical" from this blog, I'm back to blogging and tweeting around legal issues affecting co-ops and community benefit societies.

Ian Snaith 2015

New Co-op Laws Fully in Place 1st August 2014

Many of you will have heard about the legal changes that have come into force this year. At some point I'll tidy up this website to give them more prominence as a resource for readers, whether lawyers, co-ops, bencoms or housing or co-op development workers.

In the meantime, here are some brief thoughts an their implications followed by detailed legal references with links to the legislation itself. The one missing piece of this jigsaw is the FCA document about how they intend to apply the new law. That is expected later this year.

You can also visit Co-operative UK's website for their input as well as the ABCUL, Anthony Collins LLP, Croftons, DWF LLP, and Trowers and Hamlyn  websites.

Legal Changes: What To do Now

Co-ops of all kinds and Bencoms, such as housing associations, and their advisors need to be aware of the changes described below. The implications to think about are:

Might the increased availability of share capital by individual or company members of societies be useful?

If the former £20,000 maximum holding limit for withdrawable shares is written into the rules, rather than a formulation such as the maximum allowed by law, the rules will have to be amended to take advantage of the new limit of £100,000 or a lower limit with which the society is comfortable for liquidity reasons.

Do society rules need to be reviewed in the light of the availability of new insolvency and Scheme of Arrangement options to e.g. allow for dissolution after administration?

If society rules refer to specific named legislation rather than the law currently in force they could be changed to refer to the 2014 Act.

Societies, especially energy co-ops, need to be prepared to deal with the new FCA advice publication expected later this year and the increased reporting requirements and more fully explained limits on return on capital that it is likely to include.

Co-op development workers, business advisors, lawyers, and accountants advising clients setting up a new business need to be aware of the availability of the co-operative and community benefit society structures as well as companies limited by shares or guarantee, partnerships (registered or unregistered), and Community Interest Companies to advise on the full range of choices. Spread the word

With the help of a team of practitioner colleagues, a newly updated second edition of my Handbook of Co-operative and Community Benefit Society Law is to be published by Co-operatives UK and Jordan Publishing in September 2014 and can be pre-ordered now.

More Detail and Links

Four new pieces of legislation and new regulatory guidance reform the law that applies to co-operative societies and community benefit societies in 2014:

From 1st August 2014 the Co-operative and Community Benefit Societies Act 2014 ("CCBSA 2014") consolidated and brought together all the legislation governing societies and changed their name. It also introduced registration as either a co-operative or a community benefit society rather than as a society which shows it is one or the other.

From 6th April 2014 six statutory instruments changed the law to facilitate the use of co-op and bencom societies for business:

The Industrial and Provident Societies and Credit Unions (Arrangements, Reconstructions and Administration) Order 2014 SI 2014/229 used the power granted by section 255 of the Enterprise Act 2002 to apply the insolvency rescue procedures of creditors' voluntary arrangements, administration and schemes of arrangement under the Insolvency Act 1986 and the Companies Act 2006 to societies. This puts insolvent societies in the same effective position as insolvent companies.

The Co-operative and Community Benefit Societies and Credit Unions (Investigations) Regulations 2014 SI 2014/574 applied part 14 of the Companies Act 1985 to societies so that the FCA have powers equivalent to those available to the Department for Business Innovation and Skills (BIS) for companies where they take the view that fraud or other wrongdoing requires the inspection or investigation of a society. This should increase confidence in societies as they are subject to the same investigation regime as companies.

The Industrial and Provident Societies and Credit Unions (Electronic Communications) Order 2014 SI 2014/184, made under sections 8 and 9 of the Electronic Communications Act 2000, permitted the electronic submission of a single registration document to the FCA when an application was made to register a society. Its amendment of the 1965 Act is consolidated by section 3(1)(b) CCBSA 2014. This adds to the ability of societies to use electronic communications.

The Industrial and Provident Societies (Increase in Shareholding Limit) Order 2014 SI 2014/210 used the power available to HM Treasury under section 2 of the Industrial and Provident Societies Act 1976 to raise the limit on the amount of withdrawable share capital that a person other than another society can hold in a society from £20,000 to £100,000. That provision is consolidated from 1st August 2014 by section 24 of CCBSA 2014. This increases the access of co-operatives and community benefit societies to capital.

The Co-operative and Community Benefit Societies and Credit Unions Act 2010 (Commencement No. 2) Order 2014 SI 2014/183 adds section 22E to the Company Directors Disqualification Act 1986 to apply the disqualification provisions to committee members and officers of societies. This applies the same discipline to directors, executives and committee members of societies as apply to company directors.

The Nature of Co-operative and Community Benefit Societies and effect of the new Legislation

These societies have been called “industrial and provident societies” since 1852. From 1st August 2014 they have officially been called co-operatives or community benefit societies. There are two types of society using one legal structure.

The legal structure is used by co-operatives. They are businesses owned and controlled by their consumer, employee or supplier members and not by outside investors who own shares. They include the large scale consumer co-operatives which have been in the news recently as well as credit unions (savings and loan co-operatives), village shops or pubs rescued from closure and businesses owned and democratically controlled by employees.

The structure is also popular with community benefit societies, such as housing associations and green energy producers, which do not benefit their own members but rather serve and benefit the community or pursue wider social aims.

Both types of society are registered by the Financial Conduct Authority (FCA) Mutual Societies Team but are not otherwise regulated by the FCA or the Prudential Regulation Authority (PRA) unless they operate in financial services, which most don't. They share with companies the key features of corporate personality, limited liability of members for society debts and the ability to use shares and loan capital to raise funds. They differ from companies because, to be able to register and remain registered, they must prove to the FCA's satisfaction that they are either a co-operative or a community benefit society and their registration can be cancelled if they no longer meet those conditions.

The Co-operative and Community Benefit Societies Act 2014 provides a boost for this legal structure and will facilitate its use by people setting up co-operatives and community benefit businesses by reducing the time and trouble needed to find, apply and understand the law that applies to them.

The increase in capital limits allows greater use of members' share capital by societies while encouraging the use of withdrawable shares which can be effectively redeemed or bought back by the society allowing the member to realise their capital investment.

However, new guidance expected from the FCA in August 2014, to coincide with the coming into force of the 2014 Act, is expected to underline the limited return societies are expected to provide to investors in shares or loan capital as well as increasing reporting requirements for societies to provide the FCA with information to show that they still meet the co-operative or community benefit registration requirements.

Societies compete in the market place with companies so on issues such as insolvency law, director disqualification, electronic communications with their registrar (the FCA) and powers of investigation and inspection they have now been placed in the same legal position.

Challenges from the New Laws

These reforms provide a golden opportunity for lawyers, accountants and other business advisors to offer clients a wider range of legal choices when businesses are established or change ownership.

With the help of organisations such as Co-operatives UK www.uk.coop and the FCA Mutual Societies Team http://www.fca.org.uk/firms/firm-types/mutual-societies lawyers can offer clients the possibility of a structure which enjoys all the benefits of corporate personality, limited liability and share capital while serving the needs of the community or preserving control by employees, consumers, suppliers or other stakeholder groups. Societies also enjoy some exemptions from the FSMA rules on financial promotion when shares are offered to members and can issue withdrawable shares and so ease the problem of exit from members who invest.

Important Dates

The 1st August 2014 saw the new legal framework for societies fully in place. New FCA guidance is expected to be issued later in 2014. Increased capital limits, the application of insolvency rescue provisions, new investigation powers, and director disqualification all came into force on 6th April 2014.

© Ian Snaith 2014 This work is licensed under a Creative Commons Attribution-ShareAlike 2.0 UK: England & Wales License.

Myners' Interim Report: A design for Modern Co-op Governance?

Yesterday, the Interim Progress Report from the Myners Review was published. It answers many of the issues I raised yesterday about what was reported to have been agreed in principle by the Group Board earlier this week.

The Myners Interim Report is a carefully thought out but blunt piece of work that faces up to a lot of realities to improve the existing system. As Ed Mayo tweeted, no punches were pulled.

Let's look at its recommendations one by one:

"The creation of a new Group Board made up of an independent chair with no previous association or involvement with the Group, six to seven independent non-executive directors, and two executive directors. The non-executive directors would have the skills and experience of NEDs sitting on the boards of The Co-operative Group's primary competitors. This new, far smaller Board would replace the existing 20-strong elected Board; it would be responsible for all commercial and financial matters and would have full power and responsibility for the operation and management of the Society."

This would ensure director competence and the accountability of executives to people with commercial experience but what about member control, including election by members, and other mechanisms for members to influence their society? The answers are found (to some extent) in later recommendations. To understand those we need to see the next recommendation - a National Members' Council (NMC).

"The establishment of a National Membership Council (NMC) of around 100 individuals, including provision for representation of around 20 employees. This new Council would have powers to ensure that the Group adheres to co-operative values and principles, and that these are reflected in its corporate vision, strategy and operating practices. The NMC would elect from its membership an Executive Committee of 12 which would also include corporate representation from independent societies."

This representative body is not the same as, for example, the old CRS Council which had no powers. It can propose people to the Nominations Committee for Board approved nomination in the Board Elections (below). It protects the Group from demutualisation by being able to veto certain rule changes, and it oversees the social programme, holds the board to account on ethics, stewardship, strategic leadership and operational performance. Much will turn on the precise roles and responsibilities of the NMC, and the powers underpinning those roles and responsibilities; but clearly a radical new constitutional settlement between commercial competence and democratic representativeness is needed, and this proposal has real credibility.  There is an important and necessary tension between those two elements of member-based governance, and any new settlement must capture that tension.  Importantly, it is proposed that the NMC has a secretariat of its own, and this needs careful thought.

"Group Board directors would be subject to annual election/re-election by all members. Vacancies would be openly advertised and candidates would be appointed on merit against clear criteria of skills and experience. A Nominations Committee of the Group Board would be established on which two members of the NMC would serve. The Nominations Committee would also be responsible for commissioning an annual review of board effectiveness and reporting to the Annual General Meeting in light of this review.

The NMC would be encouraged to propose Co-operative Group members possessing the requisite competence to the Nominations Committee for consideration as Group Board candidates."

This would combine an electoral process with a system designed to vet competence. It is similar to the one used in building societies but there are member reps on the Nominations Committee. If people pass the nomination process they are Board recommended candidates in annual elections in which all members participate. I assume that there would also be a rule allowing other nominations from the membership but only those vetted would be "Board Candidates". They would probably stand a better chance of winning as in the building society model but there would also be member input to the Board nomination process. There will be much debate about whether this approach preserves ultimate member control, but assuming that nomination to the board by members as well as by the board would be possible then in electoral terms it is clearly arguable.

The Nomination Committee's annual review of board effectiveness gives genuine feedback to all members through the annual general meeting on how the board is doing. The NMC could presumably comment on that report and it could be debated both there and at the AGM.

One Member One Vote – both to the Board and the NMC – is fully preserved and indeed extended fully within the Co-op Group for the first time - currently it is mediated through the sales proportions of regions and the area committee and regional board system.

Elections to the Group Board and the NMC would be conducted on the principle of “one member, one vote”. NMC members would be elected by all members for a term of three years. Detailed voting arrangements, including the structure of regional/national constituencies and the method of voting would be the subject of analysis and consultation in Phase 2. Once the proposed arrangements were approved, the present membership architecture would be disbanded and transitional arrangements put in place. A revised remit and role would be developed for Area Committees."

The detail on the fuller role of the NMC then follows. I have referred to parts of it above.

The NMC would have two primary roles: first, as guardian of the values and principles of the Group's constitution. The NMC would protect the Group‟s position as a member owned organisation. In this capacity it would hold certain powers to veto further changes in the revised constitution; nothing would be done to increase the vulnerability of the Group to takeover or demutualisation. The NMC would also hold the Group Board to account on ethical matters and oversee the Group‟s social goals programme.

That answers the classic building society problem of demutualisation by bribing members with shares in the PLC it will become as the elected NMC stands in the way of that. It therefore helps to secure the co-operative structure while giving all members a voice through OMOV.

The second primary role of the NMC would be to hold the Group Board to account for its stewardship and strategic leadership of the organisation and for the operational performance of the Group. In this capacity, the NMC or its Executive Committee would have the right to be consulted on key strategic and operational initiatives along with any aspects of the management of the Group. A “significant transaction rule" would be introduced, giving the entire membership a vote on large deals which can currently be approved by the Group Board alone."

If the point about a "significant transaction rule" finds its way into the new constitution, it will give co-op members, for the first time, the same legal rights  as PLC shareholders to decide on major transactions instead of a more watered  down "consultation meeting" as the Co-operative Code  for consumer societies currently recommends (see paragraphs 22 to 24 on page 8) but most society rules do not require. That boosts democratic control.  However, here again the details of the roles and responsibilities of the NMC will be important.  The “right to be consulted” may need to be developed further if member control is to be firmly established.  Holding the Board to account for its strategic leadership will be of limited value if the Board has unfettered powers to determine strategy.

"To facilitate its work, the NMC and its Executive Committee would be supported by a secretariat. Arrangements would be put in place to safeguard confidentiality of information shared by the Group Board and Executive with NMC members."

This provides the back up needed to do the NMC's job effectively across the whole business. The regional structure has always had the problem that, while it made sense in a delegate based democratic structure, it bore no relation to the way the nationally controlled businesses were managed.

"Independent societies would cease to sit on the Group Board and a new enhanced structure would be established to promote trade and protect interests in common between the Group and these independent societies. The independent societies have a high and necessary dependence on a viable, efficient and competitive Co-operative Group.

Independent societies would cease to sit on the Group Board and a new enhanced structure would be established to promote trade and protect interests in common between the Group and these independent societies. The independent societies have a high and necessary dependence on a viable, efficient and competitive Co-operative Group."

The Group’s structures need to support the current business and business relationships, including with corporate members.  This proposal completes the process of removing independent societies from positions of major influence, in a society which was founded and for more than a century controlled by independent societies.  Whilst this is logical in the context of the proposals as a whole, its acceptance by independent societies will depend upon the “new enhanced structure” referred to, and upon any changes to the current capital owning arrangements.

 "All rule changes would contain a so-called “sunset clause”, under which the constitution of The Co-operative Group would return to the current status quo after a period of four to five years without a member vote to retain the new structure"

This gives members a chance to revert to the present system if they don't vote to support the new one after five years. So even voting through these changes in May is intended not to be irrevocable.

So this is the outline of a new governance structure to address the problems of the old one.  The outline of the overall architecture is becoming clear, though the shape and functions of the annual members meeting will be an important part of this.

Many will find this Interim Report painful reading.  Whilst much detail needs to be worked out – some of which will be in stage 2 –these proposals have the makings of a practical and democratic structure for a large 21st century co-operative.  The absolute priority for all of us is to secure a basis for the survival of the Co-operative Group as a co-operative.  This means engaging with the process and supporting the development of detailed arrangements which will be fit for purpose; fit for purpose for a business of this scale, but also fit for purpose to provide an even stronger basis from which to challenge conventional investor-owned businesses.

That is the prize. For the sake of the future of UK Co-operation, we must all do what we can to help the Group to win it.

© Ian Snaith 2014 

 

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Ways Forward Conference 17.01.2014

Don't miss this important event at  Central Hall, Oldham Street, Manchester M1 1JQ. A wide range of co-operative activists and commentators will be discussing the lessons of the roller coaster highs and lows of 2013.

It's open, free of PR and is serious and democratic in format - a real treat with a choice of stimulating and informative workshops and plenary sessions open to all for just £24 delegate fee.

Just a few days left to register by 09.01.14. Thanks to the folks at Co-operative Business Consultants for organising it.

It's just what we all need in the New Year. I'm looking forward to it.

See you there.

Co-op Bank Now Demutualised but Name Debate Continues

On Friday, phase 1 of the deal to rescue and demutualise the Co-op Bank was finalised. It was supported at all necessary meetings of classes of creditor and shareholder and approved by the Court. Effective majority control of the Bank has now passed to investors with the issue of new ordinary shares and the cancellation of the Group's existing shares.

However, the question of the Bank's continued use of the word "Co-operative" in its name remains open. Back in early November when the basic effects of the deal were announced, I expressed my views and outlined the relevant legal provisions about its continued use of the word "Co-operative" in its name.

That led to Letters in the print edition of the Co-op News of 19.11.13 to 03.12.13 from my old mate, Iain Williamson, fellow Co-op news scribbler and secretary of the Co-operative Press, and Brian Taylor, long time co-op activist and employee, arguing that it's OK for the name to be used by a PLC 70% owned by investors.

Some readers of this blog may not subscribe to the paper edition of the Co-op News. So here's my reply to Iain and Brian, published in the print edition of 03.12.13 to 17.12.13:

"23rd November 2013

Dear Sir,

Co-op Bank, Co-op Group, The Name and the Brand

Please allow me to respond to the letters that appeared in the print version of the Co-op News of 19th November to 3rd December from Iain Williamson and Brian Taylor.

First, I heartily agree with Iain Williamson's comments on the Bank rescue and the current Group CEO. The leadership  shown by Mr Sutherland and the job that he and his colleagues have done in seeking to rescue what they can from the Bank disaster is excellent. They had a very poor hand in the negotiations and played it very well. We must all hope and pray that the recapitalisation plan is supported by the necessary majorities of each class of creditor and by the preference shareholders on 11th December when they meet.

I also agree with Brian Taylor's comments on the importance of the “Co-operative” brand and its value as an intangible asset, although I think he may have overstated the effect on the share price of a suitable name change for the Bank within a year or two of the recapitalisation.

However, the argument of Messrs Williamson and Jones that the Bank never was a co-operative is disingenuous. While the legal entity of the Bank has long been a PLC, the Co-op Group has always argued that the whole “family of businesses” is one Co-operative family. That was based on the Group’s status as a bona fide co-operative owned and controlled by its corporate and individual co-operative members and, crucially, its 100% ownership of the Bank PLC and the Co-operative Insurance Society.

That is a wholly different situation from  the retention of the name “Co-operative” by a Bank 70% owned by stock market investors. This new situation is a long way down a slippery slope. The recapitalisation deal actually permits the continued use of the name if the Group's stake reduces to 20% and the stake of the investors rises to 80%. The Group is already legally committed not to use the word “co-operative” or any similar word in conjunction with the word “bank” for many years.  That disposal of an aspect of the brand was presumably a necessary price for retaining a 30% stake in the Bank and getting the constitutional entrenchment of ethical values. That is certainly in the interests of all the stakeholders in both the Bank and the Group.

However, the Group is neither the whole UK Co-operative Movement nor the whole global Co-operative Movement. That wider interest requires that only organisations which conform with the ICA definition should be regarded as co-operatives. In many countries that is legally achieved by preventing the use of the name by any entity not registered under a specific Co-operative Law. In the UK we have the flexible and liberal approach of allowing co-operatives to use any business structure that they wish. However, the restriction on the use of the name “co-operative” by business structures other than I & P societies is the legal price paid for that. As I have noted elsewhere, the restriction only applies to new company registrations but there is power to prohibit the use of a misleading name at any time in a company’s life. That explains Paul Gosling’s observation on page 4 of the same issue of the News that a change of name ordered under those provisions is listed in the Prospectus as a risk factor for investors. That shows that the point is not merely “academic”. It is with a heavy heart that I re-emphasise this issue because it is obviously one that is irritating and worrying for the Bank and Group Executives and Boards.

However, the wider interests of cooperatives cannot be ignored and BIS is the ultimate guardian of those interests in this situation as it is the only agency that can force a change. Surely consideration of a transition to another “ethical” name for the Bank within the next couple of years would be helpful to all the bank’s stakeholders - especially the investors who may well have rescued it from oblivion. Such an approach might also help to deal with any process by BIS that results from complaints about the use of the name and could help to  avoid an abrupt forced name change. I appreciate that any change will have be made some time after the recapitalisation plan has been carried out, as the unfettered use of the name by the Bank is the basis on which next month’s votes take place.

I hope that I am acting as a critical friend on this. As Daren Hale implies in his letter on the same page of the News as Brian Taylor’s, an absence of critical debate may have contributed to the development of these problems. We should all try to prevent any repetition of that by encouraging more robust, better informed and sympathetic debate as well as more thorough scrutiny by members and the press of management and boards.

Yours faithfully,

Ian Snaith"

Vince Cable has indicated that, if complaints are received, he will consider requiring that the name no longer be used. That possibility was highlighted in the Bank prospectus as a risk for investors. Surely it is time for the Bank to look at phasing out the use of the word "Co-operative" in the name to deal with that risk?

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Co-op Bank and Co-op Group: At Last Some Good News!

On Friday, the first stage of the recapitalisation plan for the Co-op Bank got massive support from the retail investors most at risk of not meeting the special majorities needed to get the  plan approved.

“The Co-operative Group and The Co-operative Bank are delighted at the overwhelming levels of support for the Liability Management Exercise at this critical juncture, and we would like to thank all our bondholders and Preference Share holders for backing the Recapitalisation Plan. Based on the votes received so far, we expect the proposals to be approved at the meetings of the holders of the Preference Shares, 13% Bonds and 5.5555% Bonds on 11 December 2013. Successful completion of the Liability Management Exercise is also dependent on the success of the Scheme - holders of the Dated Notes are currently due to vote on the Scheme on 11 December 2013. We are now highly confident that our £1.5 billion Recapitalisation Plan for The Co-operative Bank can be achieved.” - Statement of 29.11.13

This means that the next stages of the Liability Management Exercise part of recapitalisation and demutualisation of the Bank should go ahead without problems.

The demutualisation of the Bank is sad but this outcome should prevent the  Bank from entering "resolution" bank insolvency proceedings. That  lifts the threat to the Group of liability on cross-defaults triggered by a bank insolvency.

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Last Minute Change to Co-op Bank Plan? Aurelius sell Stake to Perry Capital?

Hedge Fund Cock Up?

More news on the Co-op bank Recapitalisation Scheme today.

This morning's Times carried this enigmatic piece on page 56:

"Co-operative Bank: Hedge funds planning to take control of the lender have been left with a potentially expensive loophole. At issue is £125 million of new capital that lower tier bondholders, led by the funds Aurelius Capital and Silver Point plan to inject."

This afternoon the FT explains what has happened thus:

"A group representing the hedge funds and other lower tier two investors on Thursday pledged its support for the restructuring, after asking the Co-op to make a last-minute amendment to the terms.

The change is intended to close a loophole that was providing an opportunity for brokers and traders to undermine the new equity issuance by submitting claims for larger numbers of shares than they were entitled to. This could have meant that the LT2 group ended up with a smaller equity stake than they expected.

“The LT2 Group confirms its support for the recapitalisation of the Co-op Bank and . . . is fully supportive of the new management team for the bank,” it said"

The detail of the new announcement on the Co-op Group website reveals that the Bank may apply to court to modify the Scheme of Arrangement. Some of the holders of LT2 bonds have requested that and the Bank is considering whether or not to make the application. The statement says that  no slippage in the timing of the deal beyond 31.12.13. would be permitted. That is a PRA deadline on the capital. The legal obligation of some of the holders of these securities to support the Scheme (the "lock in agreement") would stay in place whether the Scheme is modified or not.

Here's the change the announcement outlines. Under the existing Scheme as proposed these holders get:

"a combination of:

• £100 million of 11 per cent. Subordinated Notes due 2023 to be issued by the Bank (“Bank T2 Notes”); and

• 112,500,000 new ordinary shares in the Bank (“New Ordinary Shares”) representing 45 per cent. of the total issued share capital of the Bank following completion of the LME.

The holders of the Dated Notes will also be entitled to subscribe for 62,500,000 additional new ordinary shares in the Bank (the “Additional New Ordinary Shares”) at a price of £2.00 per new ordinary share representing 25 per cent. of the total issued share capital of the Bank following completion of the LME, for an aggregate consideration equal to £125 million, pursuant to, and on the terms of, the Scheme with such subscription being underwritten by certain persons who were holders of Dated Notes as at 4 November 2013. The Scheme provides that any holder of Dated Notes is entitled to elect to subscribe for between a minimum election of 50,000 (for an aggregate subscription price of £100,000) and a maximum election of 62,500,000 Additional New Ordinary Shares."

If the Co-op Bank made an application to court and the court agreed the modification they would get:

"a combination of:

• £100 million of Bank T2 Notes; and

• 141,666,666 new ordinary shares in the Bank representing 56.67 per cent. of the total issued share capital of the Bank following completion of the LME.

The holders of the Dated Notes would also be entitled to subscribe for 33,333,334 additional new ordinary shares in the Bank at a price of £3.75 per new ordinary share representing 13.33 per cent. of the total issued share capital of the Bank following completion of the LME, for an aggregate consideration of £125 million3(iii), pursuant to, and on the terms of, the Modified Scheme. This subscription would be fully underwritten by, amongst others, the Ad Hoc Group.  The Modified Scheme would provide that any holder of Dated Notes would be entitled to elect to subscribe for between a minimum election of 26,667 (for an aggregate subscription price of £100,001.25) and a maximum election of 33,333,334 additional new ordinary shares. The allocation mechanism for the allocation of additional new ordinary shares described in the explanatory statement dated 18 November 2013 relating to the Scheme would otherwise remain unchanged."Note 3(iii) reads: '33,333,334 (representing the balance of 13.33 per cent. of the total) will be available for subscription by holders of Dated Notes pursuant to, and on the terms of, the Modified Scheme for an aggregate consideration equal to £125,000,002.50 (representing an effective subscription price of £3.75 per share)'."

This appears to mean that they would get more shares up front and subscribe for fewer further down the line. However,:

"The total number of new ordinary shares in the Bank issued to holders of Dated Notes as a class under the Modified Scheme would be the same as the number to be issued under the Scheme."

I fear I am at the limits of my ability to interpret this information here but maybe a failure to get the Scheme modified could cost them £125m without changing the overall percentage holding they would have?

Maybe this was an error in transcribing what was agreed to the detail of the official Scheme documents or maybe it was only realised later that there was an issue about the timing and minimum and maximum permitted subscriptions by this Group and its effect on their stake?

The position of the classes of creditors and preference shareholders deciding by tomorrow whether to take extra money for early agreement will be unaffected by the proposed change so maybe a court would grant a modification if it was asked to?

 Aurelius Sale?

The FT reported at 4.47pm today that Aurelius has "walked away" by selling most of its stake to another Hedge Fund.

"Aurelius piled into Co-op Bank’s lower tier two bonds as a severe capital shortage emerged at the lender in the summer. Along with several other hedge funds, including Silverpoint Capital and Beach Point Capital, it built up a blocking stake in the bonds, which it used to secure a far better deal for creditors than had originally been offered by the bank.People familiar with Aurelius’s decision to sell said it was based purely on economic value, as its bonds performed strongly after the restructuring deal was announced."

However, because key parts of the deal have already been contractually agreed, the obligation to vote for the Scheme and the commitment to the ethical aspects of the Bank's constitution will still bind the new owner of the Aurelius stake.

Flowers and the Chancellor

The announcement on the Co-op Group website also warns investors:

"On 22 November 2013 the Chancellor of the Exchequer ordered an independent investigation into events at the Bank and the circumstances surrounding them to take place under section 77 of the Financial Services Act 2012. Separately, the Financial Conduct Authority and the Prudential Regulation Authority each announced on 22 November 2013 that they are considering whether they should also launch their own formal enforcement investigations. The precise scope and timing of these investigations is yet to be determined.

The regulatory and other investigations that have been recently announced are likely to subject the Bank to greater scrutiny from regulators, will take management time and result in the Bank incurring costs not currently included in its business plan which cannot be quantified at this time. Recent events may have caused some brand and reputational damage, but it is too early to form a definitive view as to the extent of such damage.  These recent events, together with the competitive landscape in which the Bank operates, the introduction of seven day account switching and the associated increased competitor marketing activity at a time when the Bank has been constrained in its ability to undertake its own marketing activity, may be a contributing factor to an increase the Bank has seen in the switching out of current accounts.  However, the Bank's retail deposit base remains broadly stable and it is too early to identify any significant trends at this point.  Further, the Bank's liquidity position remains stable.  Overall, the Bank's performance has been consistent with or, in the case of costs, slightly better than, management’s expectations."

Interesting times indeed..........but lets hope the Scheme gets approval.

© Ian Snaith 2013 This work is licensed under the 
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