Corporate law update: 25 - 31 March 2023

In this week's update:

• An automatic share conversion under a company's articles was ineffective because class consent was not obtained
• The UK Government confirms it intends to update the UK's criminal market abuse regime
• Draft legislation is published to regulate promotions of cryptoassets
• The FRC publishes its three-year plan from 2023

Conversion from preference to ordinary shares was invalid

The High Court has held that a conversion of preference shares into ordinary shares was invalid because it amounted to a variation of class rights that had not been properly approved.

Ventura Capital GP Ltd v DnaNudge Ltd [2023] EWHC 437 (Ch) concerned a medical and health technology company that was partly financed by venture capital.

The company issued preferred shares to two investors, raising a total of £44m. The preferred shares carried the same rights, and had the same nominal value, as the existing ordinary shares in the company, except that the preferred shares carried a right to a cumulative preferred return on any dividend or capital distribution.

The company's articles of association allowed an Investor Majority to convert the preferred shares into ordinary shares by sending written notice to the company.

The articles defined an "Investor Majority" as "the holders of a majority of the (preferred shares) and (ordinary shares)in aggregate as if such (shares) constituted one class of share." The ordinary shares accounted for 86.7% of the company's shares, meaning that the ordinary shareholders had the power to form an Investor Majority without the preferred shareholders.

Finally, the articles also stated that any variation or abrogation of the rights attaching to any class of shares required the consent in writing of the holders of more than 75% in nominal value of the issued shares of that class.

Ordinary shareholders served notice on the company purporting to convert the preferred shares into ordinary shares. The preferred shareholders objected, claiming that the conversion amounted to a variation of class rights and was invalid because no consent had been obtained under the articles.

The ordinary shareholders claimed that there had been no variation of class rights, because the articles stated that conversion was to be "automatic" on service of the relevant notice. This, they claimed, left no room for conversion to be conditional on obtaining class consent.

The court held that:

• the conversion did amount to a variation of the rights of the preferred shareholders as a class;
• there was an incompatibility between the conversion mechanism and the provision in the articles requiring class consent for a variation of class rights which created ambiguity;
• that ambiguity was resolved by reading in wording that made the conversion mechanism conditional on first obtaining class consent under the articles;
• because that consent had not been obtained, the variation was ineffective and void; and
• had the variation been effective, the preferred shareholders would have been unable to challenge it under s.633 Companies Act 2006, because, although they would have suffered prejudice from the conversion, that prejudice would not have been unfair.

Read more about the case in our separate in-depth piece.

FCA and Treasury to review criminal market abuse regime

HM Treasury (HMT) and the Financial Conduct Authority (FCA) has published a joint announcement on the UK's criminal market abuse regime (which is set out in the Criminal Justice Act 1993).

The announcement notes that HMT and the FCA have completed a review of the criminal regime, which has identified a number of areas where the Government believes updates are appropriate.

The review was undertaken within the wider context of regulatory reforms in financial services, known as the Future Regulatory Framework (FRF) Review. As part of the FRF programme, the Government intends in due course to repeal the UK version of the Market Abuse Regulation (including the UK's civil market abuse regime) and replace it with new UK-specific legislation.

The announcement states that the Government will consider changes to the UK's criminal regime alongside any reforms to the Market Abuse Regulation through the FRF Review.

Draft legislation published to regulate promotions of cryptoassets

Draft legislation has been published which, if it becomes law, will regulate the promotion of certain types of cryptoassets.

Under section 21 of the Financial Services and Markets Act 2000, a person must not, in the course of business, communicate an invitation or inducement to engage in investment activity unless they are authorised to do so by the Financial Conduct Authority (FCA) (the general prohibition). Breach of the general prohibition is a criminal offence.

The Financial Services and Markets Act 2000 (Financial Promotion) Order 2005 (the Order) sets out what amounts to engaging in investment activity and provides exemptions from the general prohibition.

The new legislation would amend the Order with the following effect.

• Certain types of cryptoasset would come within the scope of the general prohibition, meaning it would be an offence to promote dealing in cryptoassets without FCA authorisation.
• The general prohibition would apply to a cryptoasset only if it is both fungible (meaning it can be freely exchanged for identical cryptoassets) and transferable. For example, the prohibition would extend to cryptocurrencies (such as Bitcoin and Ethereum) and so-called "coins", but it would not extend to non-fungible tokens (NFTs) (such as pieces of digital art).
• The general prohibition would not be extended to electronic money (e-money). This is currency that is stored electronically but backed by fiat currency. It does not include cryptocurrencies.
• The prohibition on promoting cryptoassets would include promotions to high-net worth individuals and sophisticated investors, which normally fall outside the general prohibition.
• However, the extended prohibition would not apply to promotions by cryptoasset exchange providers and custodian wallet providers who are registered with the FCA.

The changes will come into force four months after the new legislation becomes law.

FRC publishes three-year plan

The Financial Reporting Council (FRC) has published its three-year plan for 2023-2026.

In the plan, the FRC notes that it had anticipated that legislation creating the new Audit, Reporting and Governance Authority (ARGA) would be enacted in 2023. However, as that has not happened yet, the FRC is now planning for its transition to the ARGA to occur in 2024.

The remainder of the plan sets out the FRC's approach to regulation, its five strategic objectives, its proposed operational impact and its priorities and deliverables for 2023/2024.