Going public is a decisive step for a company, but the success of the operation is not measured only on the day of the first listing. The period that follows is just as decisive in building investor confidence and ensuring the long-term value of the stock. Excessive volatility or a lack of trading can quickly damage the reputation of the newly listed company. To provide a framework for this delicate phase, financial law has made provision for specific mechanisms: stabilisation transactions and liquidity contracts. Although regulated, these tools are essential to a company's stock market life. Understanding how they work and their legal framework is essential for any manager wishing to control the aftermath of a company's crisis. complete legal guide to initial public offerings.
Stabilising the share price after the IPO
Immediately after an IPO, the share price may come under strong selling pressure, particularly from investors looking to make a quick profit. This can lead to an artificial fall in the share price, disconnected from the company's real value, and dent market confidence. Stabilisation operations are designed precisely to counter this phenomenon.
Definition and objective of stabilisation operations
Stabilisation, as defined by European regulations, covers any purchase or offer to purchase securities made by a financial institution in connection with a major issue. The sole purpose of these operations is to support the market price of the security for a given period. In practice, this means that the underwriting syndicate, led by the lead bank, buys the shares on the market to offset excessive selling pressure and thus avoid a sharp fall in the share price. This reassures investors and encourages a more orderly movement in the share price in the first few days of listing.
Irrefutable presumption of legitimacy and conditions
By their very nature, massive purchases designed to support a share price could be classified as market manipulation. However, European regulations have established a strict framework that gives such transactions an irrefutable presumption of legitimacy, provided that a number of requirements are met. These conditions form a safe harbour for intermediaries.
Firstly, there is an obligation of total transparency. The public must be informed, even before the offer begins, of the possibility of stabilisation transactions, their purpose, the identity of the intermediary responsible and the period during which they may take place. Secondly, the duration of stabilisation operations is limited. Stabilisation may not exceed thirty calendar days from the start of trading. Finally, a price constraint is imposed: stabilisation purchases may under no circumstances be made at a price higher than that of the initial offer. Compliance with this framework ensures that stabilisation remains a temporary support mechanism and not a tool for manipulating prices.
The relationship with the "green shoe" option
Stabilisation transactions are almost always combined with an additional mechanism: the over-allotment option, better known as the "green shoe". This option, granted by the issuing company to the underwriting syndicate, allows the latter to allocate to investors a greater number of shares than initially planned in the offer, generally up to 15 additional %. To deliver these additional shares, the lead bank borrows the corresponding shares from an existing shareholder. This is where the link with stabilisation comes in.
If the share price falls after the IPO, the bank uses the funds from the over-allotment to buy back shares on the market as part of the stabilisation process. The repurchased shares are then used to repay the lending shareholder. If, on the other hand, the share price rises, the bank has no interest in buying back shares at a price higher than the offer price. It then exercises its "green shoe" option to subscribe for new shares in the company at the IPO price, and uses them to repay its loan. The over-allotment option is therefore an essential hedging mechanism for the bank conducting the stabilisation operations.
Liquidity contracts: ensuring the regularity of listings
Beyond the initial post-IPO phase, a listed company must ensure that its shares remain attractive. A market is considered to be 'liquid' when investors can buy and sell shares easily, without even modest trading volumes causing large price swings. For small and mid caps, maintaining liquidity can be a complex task. A liquidity contract is the best way to achieve this.
Definition and role of the service provider
A liquidity contract is an agreement whereby an issuing company mandates an investment services provider, known as a "market maker", to trade in its own shares on its behalf. The market maker's task is to encourage regular liquidity in transactions and to avoid major price shifts that would not be justified by the general market trend. In practical terms, the moderator positions himself permanently for buying and selling in the order book, thereby reducing the price 'range' between supply and demand and facilitating the conclusion of transactions. He acts as a regulator, providing the necessary counterparty when it is lacking.
Market practice accepted by the AMF and conditions
Like stabilisation, the interventions of a market maker could be analysed as price manipulation. To avoid this pitfall, the Autorité des Marchés Financiers (AMF) has recognised the liquidity contract as an "accepted market practice", provided that it scrupulously complies with the rules set out in a code of conduct drawn up by the Association Française des Marchés Financiers (AMAFI). This recognition provides legal certainty for the issuer and its service provider.
Several strict conditions must be met. The issuer must inform the market by press release of the signature of the contract, the identity of the host and the resources (in securities and cash) allocated to the programme. The lead manager's independence is a fundamental condition: the issuing company must not give him any instructions and he must be the sole judge of the appropriateness of his actions. Half-yearly reports on the implementation of the contract must also be published. These requirements ensure that the liquidity contract serves the interests of the market and not the particular interests of the issuer.
Implementation procedures and recent reductions
The implementation of a liquidity contract relies on share buyback programmes, which are governed by the French Commercial Code. An order of 30 January 2009 considerably relaxed the terms and conditions of these programmes when they support a liquidity contract. Previously, the legal ceiling of 10 % of the capital that a company could buy back was calculated on a gross basis, which severely limited the interventions of the market maker, who was constantly buying and selling. Now, as specified in Article L. 225-209-1 of the French Commercial Code, this threshold is calculated on a net basis, i.e. by deducting shares resold from shares purchased during the term of the authorisation. This change has given greater flexibility to managers. In addition, shares acquired under a liquidity contract are no longer required to be held in registered form, which facilitates their circulation and reduces transaction costs.
Preventing price manipulation and market misconduct
Market integrity is an essential condition for investor confidence. Stock market law severely punishes market misconduct, foremost among which is price manipulation. Price manipulation consists of distorting the price formation mechanism through manoeuvres or the dissemination of misleading information. Stabilisation transactions and liquidity contracts, because they involve interventions designed to influence the price or liquidity of a security, are on the borderline of this prohibition.
It is precisely for this reason that European and French regulations have established strict legal frameworks for these practices. Safe harbour" status for stabilisation and "accepted market practice" status for liquidity contracts are not authorisations to act without constraint. They are legitimate exceptions to the ban on price manipulation, but their benefit is conditional on absolute compliance with the rules of transparency, duration, price and independence. Any deviation from this framework exposes the company and its service providers to sanctions. Strict supervision by the authorities is therefore exercised, and the AMF's power to impose sanctions ensures that these tools remain at the service of the smooth running of the market.
Solent Avocats: securing your company's stock market position
Managing post-IPO obligations is a complex process that requires in-depth knowledge of the regulations in force. Setting up a liquidity contract or supervising stabilisation operations is not something that can be improvised, and requires rigorous legal structuring to avoid any risk of it being reclassified as a market failure. The consequences of an error or breach can be significant, both financially and in terms of reputation.
On the strength of its our expertise in banking and financial lawOur firm assists listed companies in securing their stock market transactions. We help you negotiate and draft your liquidity contracts, and advise you on the legal framework for stabilisation transactions to ensure that they comply with AMF regulations. Our aim is to provide you with the legal certainty you need so that you can concentrate on your development. For an analysis of your situation and tailored support, contact our team.
Sources
- Regulation (EU) No 596/2014 of the European Parliament and of the Council of 16 April 2014 on market abuse (MAR Regulation).
- Commission Delegated Regulation (EU) 2016/1052 of 8 March 2016 supplementing Regulation (EU) No 596/2014 as regards the conditions applicable to buy-back programmes and stabilisation measures.
- French Monetary and Financial Code, in particular articles L. 465-1 et seq. and L. 621-1 et seq.
- French Commercial Code, in particular articles L. 225-209 et seq.
- General regulations of the Autorité des marchés financiers (AMF).
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