Key points underpinning the shareholder opposition to the Metlifecare (MET) scheme of arrangement (MET Scheme). 12 October 2020 ResIL Investments Limited (ResIL) is a shareholder and bondholder of MET. The sole director and shareholder of ResIL is Craig Priscott. ResIL is opposing the MET Scheme at the forthcoming final orders hearing. ResIL owns 1,000 shares in MET, but is making a principled opposition to the MET Scheme on behalf of all MET shareholders who voted almost 15 million shares against the scheme at the recent meeting (9.14% of those voting, worth approximately $90-$105 million at $6-$7 per share). And further on behalf of all the other MET shareholders who ResIL believes may have voted against the MET Scheme, had they been fully informed. Numerous other organisations have also publicly confirmed their opposition to the MET Scheme, including the New Zealand Shareholders Association, Salt Funds Management, and Mint Asset Management. This level of opposition is unusual for a scheme of arrangement, but warranted in these circumstances. It is notable that those opposing the MET Scheme are primarily NZ-based shareholders with medium term investment horizons. The MET Scheme is supported, however, by substantial foreign interests with a very short term agenda. In order to inform its views on the MET Scheme, ResIL commissioned independent advice from Campbell MacPherson, a corporate advisory business with specialist expertise in these matters. MET seeks to minimise ResIL’s objection This information is being released because ResIL believes that MET has not appropriately disclosed the seriousness of these matters to shareholders (via the NZX), and instead seeks to trivialise ResIL’s opposition in the media. As is evident from the information set out below, ResIL’s concerns have been carefully considered, fully articulated, are underpinned by independent professional advice, and go the heart of the MET Scheme. Summary of ResIL’s objections 1. That the information provided to shareholders did not include all necessary and material information, such that shareholders could not make a fully informed decision as to the merits of the MET Scheme; 2. $6 per share is not a reasonable price; 3. That MET bondholders are materially prejudiced by the MET Scheme. Details of ResIL’s objections Breaches of the High Court’s initial orders and the Takeovers Code 1. The High Court’s initial orders require the inclusion of all information set out in Schedule 2 of the Takeovers Code (as adapted for schemes). However ResIL has identified a number of material breaches of these Schedule 2 requirements: a. MET has breached clause 20 of Schedule 2, which requires that when valuations are referred to in the scheme booklet, the key underpinning assumptions must also be provided in the scheme booklet. Those valuations must also be made available to shareholders1. Yet while all of MET’s CBRE valuations were clearly referred to in the table on p58 of the scheme booklet, the CBRE assumptions were not provided. Calibre Partners relied heavily on these CBRE valuations in its analysis. b. MET has not complied with clause 21 of Schedule 2, which stipulates that if ‘prospective financial information’ is provided in the scheme booklet, the principal assumptions underpinning that information must be included in the scheme booklet2. However MET has not provided the key assumptions (particularly the price growth assumption) underpinning the FY21 Budget set out on page 68 of the scheme booklet. This FY21 budget was conceived after the first lockdown, and was out of date by the time the scheme booklet was published. Without the key assumptions, shareholders could not make an informed judgement as to the reasonableness of this projection. The FY21 Budget was critical because it was used as justification for the underlying profit adopted by Calibre Partners on page 81. c. For all the reasons set out below, MET has also breached other clauses of Schedule 2 (notably 14 and 24) which require the provision of all material information, and that the information provided is not misleading. 2. ResIL has referred these matters to the Takeovers Panel, requesting that the Panel refuse to provide the typical ‘no-objection’ letter to the Court under s236A(2)(b)(ii) of the Companies Act. Deficiencies in the Independent Adviser Report 3. An earlier Independent Adviser Report (IA Report) pertaining to the original $7 Scheme, also completed by Calibre Partners (previously KordaMentha), was finalised on 5 June 2020. The independent valuation range from that first report was $5.80-$6.90. 4. Despite the significant changes in MET’s key value drivers between 5 June 2020 (when the first IA report was finalised) and 25 August 2020 (when the second IA report was finalised) the second IA report came back with the same valuation range. The key changes between these two dates were: a. house prices had actually increased in June and July rather than decreased, and as a result house price forecasts were materially more optimistic by the end of August, relative to prior expectations; b. interest rates decreased significantly (yield on 10-year NZ Govt bond yield decreased from 0.98% to 0.54%); c. reflecting these improvements, the share prices of the 4 listed comparators increased on average by 14%. 1 The Takeovers Panel guidance on this matter can be found from para 4.12, here: https://www.takeovers.govt.nz/guidance/guidance-notes/target-company-statements/ 2 See footnote 1 above, from para 4.2 5. With the benefit of Campbell MacPherson’s advice, ResIL believes the new IA Report was deficient in material respects: a. There were subtle but impactful changes in the IA’s valuation methodologies between the two IA reports. For example in the 5 June report the estimate of MET’s ‘underlying profit’ included the wage subsidy of $6.8m, whereas the second report excluded it. As a second example, subtle changes in the IA’s cost of capital methodology meant the IA’s cost of capital rose to 9.1% from 9.0%, despite interest rates having fallen significantly. These changes were not advised to shareholders, or justified in any way. b. Outdated information was included in the IA Report. Critical information in the scheme booklet was stale, and out of date. For example, the house price forecasts in Section 3.4.3 of the IA Report were in most cases from many months earlier, and by 25 August had been superseded by more recent forecasts that were significantly more optimistic (but were inexplicably omitted from this table) 3. Stale forward interest rates dating to 30 June 2020 were used in the cost of capital calculations for the DCF valuation, despite significant declines in Govt bond rates since then (see Appendix 2 for magnitude). c. There were methodological errors in the valuation. For example the Capitalisation of Earnings approach used valuation multiples from comparator companies that contained minimal Covid-19 effect (due to the end date of their financial year being much earlier, and because they included the wage subsidy), but then applied those multiples to MET’s underlying profit which had been Covid-affected (3.5 months’ worth) and did not include the wage subsidy. This is comparing apples with oranges. d. CBRE valuations dated 30 June 2020 should have been updated. Since the 30 June CBRE valuations, house price forecasts had significantly improved, MET’s unit pricing had outperformed the CBRE assumptions, interest rates had dropped dramatically, and sector share prices had rallied. In such a volatile environment, these CBRE valuations were effectively stale by the time of the scheme booklet, to such an extent they were misleading. Even CBRE and MET acknowledged that given the heightened uncertainty, ‘it may be necessary for the [CBRE] valuation to be reviewed periodically over the coming months’4. However this did not occur, and is a material omission for shareholders. 6. Notably, all of these deficiencies, without exception, had the effect of depressing the valuation range in the second IA Report. Further material information has arisen since the finalisation of the IA Report, and since the scheme booklet was distributed, yet this has not been provided to shareholders, and nor have the implications been explained. 7. There continues to be significant improvements in MET’s key value drivers, even to this day, and all of it is positive for any valuation of MET shares. Yet shareholders have not been provided with any update to the scheme materials as is customary in these situations. In particular: 3 For example on 21 July 2020, ANZ upgraded its 2020 house price inflation forecast from -7.0% to -1.6%. And on 18 August, Westpac upgraded its 2020 house price inflation forecast from -4.7% to +0.2%. These are significant changes. 4 See Note 3 of MET’s 2020 Annual Report. a. House prices have continued to appreciate, and house price forecasts continue to be further upgraded by economists5; b. The MET CFO confirmed at the scheme meeting that rather than unit prices declining by 1.4% as Calibre Partners assumed in its valuation, they had actually increased over the last 3 months. This is very material to the DCF valuation6; c. Other listed retirement business continue to report positive sales and volumes; d. The share prices of the four listed comparable entities continue to rally, presumably reflecting resilience in the residential housing market, and lower interest rates. In fact the average increase in the these four listed comparable companies since 18 August 2020 (the cutoff date for the IA Report) is 19.6%. This is highly material for shareholders, as it would directly affect the IA’s capitalisation of earnings valuation. Impact for shareholders 8. If the IA Report was corrected for the out-of-date information, the changes in valuation methodology, the methodological errors, and the material information that has emerged since the IA Report was finalised, then the valuation range would be materially higher than the $6 price, meaning the $6 price is unfair. Other disclosure deficiencies in the scheme booklet 9. There was poor, or no, disclosure around the context in which the $6 Scheme came about: a. There was poor disclosure around the macro context in which the $6 Scheme was forced upon MET by EQT, in particular the uncertainty around Covid-19 and house prices, the closed borders precluding alternative bidders, and in particular the significant presence of hedge funds on the MET register that were desperate to sell after the failed $7 Scheme. These factors skewed the deal in favour of EQT and against MET shareholders. b. The role played by the hedge funds in the formation of the $6 Scheme was not disclosed at all in the scheme booklet, or in NZX releases. In particular, it appears from media reports that these hedge funds were so desperate to exit, that they sought to place inordinate pressure on the MET directors to conclude a transaction with APVG, at almost any price. The influence of the hedge funds in the majority directors’ acceptance of the $6 Scheme was finally revealed at the scheme meeting by the directors, but by then it was too late. The lack of disclosure in the scheme materials meant MET shareholders were not informed as to the short-term nature of these hedge funds, and therefore could not judge whether their own interests were aligned with these hedge funds. Furthermore, how could shareholders judge the weight to place on the directors’ recommendations, which seemed to be influenced by significant shareholder support for 5 See comments from Westpac economist at https://www.westpac.co.nz/assets/Business/EconomicUpdates/2020/Monthly-Files-2020/NZ-Home-Truths-September-2020-Westpac-NZ.pdf 6 See DCF sensitivity analysis on p80 of the scheme booklet, which confirms that for every 2% positive delta from the Year 1 forecast of -1.4% would increase the DCF valuation by 28 cents per share. the $6 Scheme, when they did not know the exact nature of the pressure threatened by these hedge funds? However you cut it, this is a bad deal for shareholders, and not one that ‘an intelligent person of business’ would accept. Nor is it ‘fair and equitable’ 10. These are some of the tests that the High Court will consider in determining whether to approve the MET Scheme. 11. Even if $6.00 was an acceptable price back in early July when the deal was agreed (which ResIL disputes7), there have been such dramatic changes in MET’s key value drivers that this can no longer be the case. By way of example, the share price graph in Appendix 1 demonstrates that: a. There has been a significant rally in the share prices of these four comparator companies since 3 July 2020 (the day before the $6 Scheme was announced). On average the share prices of the four listed comparators have increased by 31% over this period, versus only 14% for MET (which has been constrained by its $6.00 ceiling); b. This rally has been so pronounced, that as at 9 October 2020, every single one of the comparator companies has outperformed MET over that period, despite the $6 Scheme supposedly incorporating a premium for control (and despite Ryman suffering from Melbourne lockdowns). This implies that: i. Assuming MET shares had moved consistently with the rest of the sector, MET shareholders would have been better off if the $6 Scheme did not exist (in which case they would have benefitted from the average 31% rise); ii. While the scheme booklet notes that the $6.00 price is 14.9% over the preannouncement price on 3 July 2020, if the 31% average rise in sector share prices is factored in, $6.00 is now a material discount to what its performance would have otherwise been; iii. It raises the prospect that, once some of the hedge funds exit in the days/weeks following the MET Scheme being rejected by the High Court (if this occurs), the MET share price could actually increase rather than decrease (unlike other failed takeovers where the share price typically falls). 12. Furthermore, $6 cannot be a reasonable price, when if all the deficiencies noted in this paper were corrected, $6 would be well below the bottom of the revised IA range. 13. Against this background, ResIL is not surprised that the scheme appears to have low levels of support from retail and NZ-based investors, who have a longer-term view of their MET shareholding. 7 Noting that even the recommending majority of directors only tepidly endorsed the scheme back on 10 July 2020, commenting that it was a ‘finely balanced’ and ‘difficult’ decision. Bondholder complaint in addition to shareholder complaint 14. In addition to the $6 Scheme being a bad deal for shareholders, there is material prejudice for MET bondholders (including ResIL). If the MET Scheme is implemented, bondholders will end up losing many protections they currently enjoy – no requirement for independent directors, less disclosure as the MET shares will no be longer listed, and the new private equity owner might materially increase debt levels. The last time (that ResIL is aware of) that retail bondholders were heavily involved with a private equity owned issuer was Blue Star Print Group…things didn’t end well. ResIL’s professional advisers ResIL’s legal representative is Timothy Lindsay of Lindsay LA. ResIL’s corporate finance advisor is Campbell MacPherson Limited, assisted by Jai Basrur of CGB Consulting Limited. Craig Priscott For and on behalf of ResIL Investments Limited (craig@pagetcapital.co.nz) Appendix 1 – share prices of comparable companies versus MET Share price movements (indexed) since 3 July 2020 1.55 1.45 1.35 1.25 1.15 1.05 0.95 3-Jul 10-Jul 17-Jul 24-Jul 31-Jul 7-Aug 14-Aug 21-Aug 28-Aug 4-Sep 11-Sep 18-Sep 25-Sep 2-Oct MET Arvida Ryman Summerset Oceania 9-Oct Average (excl. MET) Source: Yahoo finance, ResIL analysis Appendix 2 – forward interest rates Forward rates for each year (key input of WACC) 2.00% 1.50% 1.00% 0.50% 0.00% 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 -0.50% Forward rates at 30 June Forward rates at 30 Sept Source: NZ Treasury, at https://www.treasury.govt.nz/information-and-services/state-sectorleadership/guidance/financial-reporting-policies-and-guidance/discount-rates/discount-rates-and-cpi-assumptionsaccounting-valuation-purposes