Capital raising for exploration companies in Canada’s mining sector has become progressively more difficult over the last few years. During the “boom years” ending in 2011, exploration companies routinely raised millions of dollars by private placements to dozens of investors. In the years since then, private placements have increasingly been conducted with private equity interests and with senior mining companies. Private placements to one or two investors are now common.
The gross proceeds from private placements remain relatively high, and on closing, the investors frequently hold more than 10% of the then-issued shares of the exploration company. Investors acquiring significant shareholdings in a listed exploration company take the position that they are entitled to impose conditions on the investment. This has led to a proliferation of “investor rights agreements” which accompany a private placement. Some rights favour the investor, some favour the company, and others are neutral.
Rights favouring the investor
- Participation right: For so long as the investor holds a minimum shareholding in the company, the investor has the right to participate in equity offerings in order to maintain the investor’s then current shareholding in the company. The minimum shareholding is typically 5% or 10%, depending on the size of the original investment.
- Top-up right: Similar to the participation right, a top-up right entitles the investor to maintain a specific percentage shareholding in the company in circumstances where the participation right does not apply, such as the exercise of incentive stock options or non-cash share issuances.
- Right of first refusal: If the investor is itself in the mining business, and made its investment in part because of the potential of one or more of the company’s properties, it will likely wish to have a right of first refusal in connection with the proposed disposition of an interest in the properties. Similarly, if the investor is a royalty/streaming company, it will wish to have a right of first refusal or right of first offer in connection with any proposed royalty sale or streaming transaction.
Rights favouring the company
- Trading restrictions. For many reasons, a listed company does not wish to have a major shareholder sell its shares in an unstructured and uncontrolled manner. The perception that the shareholder is “dumping” the stock could have a domino effect among other shareholders. To mitigate this risk, companies can require trading restrictions that range from a total prohibition on trading for a certain length of time following closing, to simple notice of a proposed sale and the opportunity for the company to find a “friendly” buyer. Under the latter arrangement, the investor would give the company notice of a proposed trade, together with proposed price, and the company would have a period of time in which to find a buyer for the shares.
- Standstill: A standstill will prohibit the investor increasing its shareholding over a certain level, or taking any other action potentially adverse to the company’s management for a finite length of time following the initial investment. The standstill may apply only to the acquisition of additional shares (typically with a cap at 19.9%), but may also extend to acquisitions of interests in the company’s properties and to actions connected with influencing management or replacing a director.
Board representation. Again, subject to a minimum shareholding, the investor has the right to have one of its nominees appointed to the board of directors of the company. Since a director takes on additional duties and responsibilities, not all investors exercise this right immediately, if at all. Since the appointment of an investor nominee as a director may need to be made at a time other than the annual general meeting, the agreement may require the company to create a vacancy on the board to permit the appointment of the investor nominee. Such occasions could include the appointment of a special committee or a situation where the investor was becoming apprehensive about the direction of the company. From the company’s perspective, having a director with a different background could bring new energy and ideas to board deliberations.
As long as “traditional” private placements remain difficult to arrange, investor rights agreements will continue to develop and to become further customized to the specific requirements of both parties. The creation of relatively large share positions will also increase the likelihood of mergers and acquisitions.
GRAHAM H. SCOTT is a partner at Bennett Jones LLP, based in Vancouver.