Last month, the FTC filed an administrative complaint seeking to block Tapestry Inc.’s $8.5 billion proposed acquisition of Capri Holdings. This fight is all about purses, folks, because the FTC says that the deal would eliminate competition between Capri’s Coach & Kate Spade brands and Tapestry’s Michael Kors. The FTC alleges that the deal would significantly increase concentration in the “accessible luxury” handbag market and permit Tapestry to dominate that market.
These sound like pretty conventional antitrust concerns, but this excerpt from a recent Freshfields’ blog points out that the FTC has managed to work in some of the more novel concerns laid out in the 2023 Merger Guidelines into its complaint:
In addition to the horizontal overlap between Tapestry and Capri, the FTC alleges other theories of harm advanced by the 2023 Guidelines:
Labor Market Harms: The FTC alleges that the transaction would not only lead to a reduction of competition between the parties for sales of handbags, but also in the purchase of labor. The Guidelines specifically acknowledge that when a merger combines competing buyers of labor, it can result in a lessening of competition that may slow wage growth and worsen conditions for workers. This is particularly the case in labor markets that are highly specialized and have high switching costs.
The FTC has similarly brought labor market harms as an additional theory of harm in prior merger challenges—for example, in Kroger / Albertsons, the FTC alleged potential harm to a subset of employees, particularly by weakening union leverage. However, in its challenge to Tapestry/Capri, the FTC does not focus on any particular category of labor (e.g., sales) or highly specialized labor. Instead, the complaint alleges that the combination of the parties could harm competition in light of their combined “more than 33,000 employees worldwide . . . in a variety of locations and functions.”
Serial Acquisitions: The FTC harkens to another part of the Merger Guidelines scrutinizing serial acquisitions, arguing that the deal “builds on a deliberative, decade-long M&A strategy by Tapestry. . .to achieve its goal to become the major American fashion conglomerate” through successive acquisitions of fashion brands. Citing to its documents, the FTC noted that it has no plans to slow its acquisition strategy.
The blog highlights the fact that this is the latest in a series of cases in which the FTC has trotted out some of novel theories of harm in its 2023 Merger Guidelines. It says it is unclear if the FTC would’ve been willing to bring these claims on a standalone basis to block the deal, but the case is another signal that companies should anticipate that the FTC will throw new theories of harm into the mix, particularly when it challenges deals between competitors.
By the way, I was thinking that if Kors, Kate Spade & Coach handbags form the “accessible luxury” market, maybe the knockoffs those guys camped out on Broadway around Times Square peddle should be classified as the “accessible larceny” market.
Wachtell recently published the 2024 edition of its “Guide to Distressed Investing, Mergers & Acquisitions.” This 230-page publication provides an in-depth review of the legal and process issues associated with acquiring or investing in distressed companies both in and out of bankruptcy proceedings. Here’s an excerpt from the Guide’s discussion of buying claims as a strategy for gaining control of a distressed company:
An investor seeking to acquire a controlling stake in a reorganized debtor generally will want to accumulate the so-called “fulcrum” security—i.e., the most junior class of claims or interests that is not entirely “out of the money” and is therefore entitled to the debtor’s residual value. When a debtor has adequate collateral to refinance or reinstate all of its secured debt, the fulcrum security is likely to be the unsecured debt.
In contrast, when a debtor can reinstate or repay its first-lien lenders, but not lenders with junior liens, the company’s second- or even third-lien debt will be the fulcrum security. And in situations where a debtor is solvent, prepetition equity interests are the fulcrum security. Regardless of which security is ultimately at the fulcrum, its holders are in a position to control a reorganized debtor if that security is converted into a significant portion of the new equity.
There are also several reasons why it may be beneficial for an investor seeking control to accumulate claims or interests other than just the fulcrum security. For one, the ability to ensure confirmation (or rejection) of a plan generally depends on the tally of votes of various classes. To influence the process, it can be beneficial to hold large positions in other classes in addition to the one that holds the fulcrum security.
The guide also covers out-of-court workouts & acquisitions, pre-packaged and pre-negotiated plans of reorganization, Section 363 acquisitions and acquisitions through the conventional plan process.
Last month, I blogged about reverse mergers and highlighted a WilmerHale memo discussing some of the reasons that a reverse merger might be an attractive alternative to an IPO for some companies. This Mintz memo addresses several FAQs about reverse mergers, and this excerpt points out that the traditional reverse merger scenario involving a deal with a “fallen angel” public company isn’t necessarily the only game in town:
Are there types of reverse mergers other than fallen angel deals?
Yes. There is an alternative public offering process that has been used by a number of companies with prominent private investors: The company merges with a true Form 10 shell company; raises capital from institutional investors and retail investors in a concurrent PIPE; trades on the over-the-counter market after closing; and then uplists to Nasdaq when positive business developments or other circumstances permit it to raise $40 million or more in a public offering.
This can be very attractive for certain private companies, as all shareholders after the deal will have decided to invest in that company (not the former business of a fallen angel), and the company’s true IPO and up-listing to Nasdaq can be timed with good market conditions, positive business developments, or other results. In addition, the true IPO can then typically be closed in around a month, because the company’s disclosure will have already been reviewed by the SEC as part of the reverse merger process.
Other topics addressed in Mintz’s memo include whether a reverse merger is a good IPO alternative, how difficult it is to identify potential fallen angel partners, the advisability of doing a simultaneous PIPE financing, the ability of foreign companies to obtain a Nasdaq listing through a reverse merger, and the implications of recent comments from the Corp Fin Staff on the ability of reverse merger companies to register shares of their affiliates for resale.
In March, the Delaware Bar proposed DGCL amendments designed to addresses the issues created by the Chancery Court’s Crispo, Moelis, and Activision Blizzard decisions. However, some of the proposed changes, particularly a proposed amendment to Section 122 of the DGCL, attracted a lot of criticism. That amendment would have overruled Moelis by permitting a Delaware corporation to enter into governance agreements with stockholders that would restrict it from taking action, require specific approvals before it takes action, and require the board, stockholders and others to take, or refrain from taking, contractually specified actions.
Critics of the proposed revision pointed out that it would undo some pretty fundamental propositions of Delaware law:
On its face, the Amendment seemingly authorizes corporations to enter any contract changing any aspect of corporate governance. But that cannot be its intended effect. Do the Amendments intend, for example, to empower a corporation to promise its directors that it will never sue them, even for an intentional tort or bad faith act? Do the Amendments intend to empower a board to cede 100 percent of its decisionmaking power to a single person? The answers to these questions cannot be yes.
The Amendments would also conflict with other parts of the statute. DGCL 141(b) provides that only natural persons can serve on a board, but the Amendments would enable a corporation to contractually cede one or more seats to an outside entity. Is this an intended consequence? If so, then far more is at stake than the agreement rejected in Moelis.
In response, the Delaware Bar tweaked the language of the proposed amendments to Section 122. In a recent blog, Prof. Ann Lipton summarized the effect of the revisions:
The new amendments are a little different, in that they do not permit contracts that would confer governance powers beyond what could be included in the charter, or would be contrary to Delaware law. In other words, if there are certain core powers that must remain with the board and can’t be visited in someone else via the charter, then, these amendments to the amendments would not allow those powers to be transferred via stockholder contracts. The new language provides:
no provision of such contract shall be enforceable against the corporation to the extent such contract provision is contrary to the certificate of incorporation or would be contrary to the laws of this State … if included in the certificate of incorporation.
But also, in determining what these “core” board powers are, courts can’t rely on the fact that the power is one that is statutorily conferred on the board. As the amendments put it, “a restriction, prohibition or covenant in any such contract that relates to any specified action shall not be deemed contrary to the laws of this State or the certificate of incorporation by reason of a provision of this title or the certificate of incorporation that authorizes or empowers the board of directors (or any one or more directors) to take such action.”
So anyway, that’s where we are now. When I was at Tulane’s Corporate Law Institute a few months ago, the Delaware justices in attendance indirectly addressed the ongoing “let’s get out of here and move to Nevada or Texas!” kerfuffle. The justices strongly defended Delaware’s judiciary, but I came away feeling that this whole controversy has caused some real alarm. The lightning speed with which the Delaware Bar responded to these decisions and the scope of the changes it proposed – and now this rapid backpedaling – has kind of left me with the same feeling.
Earlier this week, the FTC entered into a consent decree with ExxonMobil allowing the company’s proposed acquisition of Pioneer Natural Resources to move forward. However, the FTC’s order included a novel term prohibiting ExxonMobil from honoring a commitment to appoint Pioneer’s founder and former CEO to its board. This excerpt from the FTC’s press release announcing the order explains the reasoning behind this unusual provision:
The proposed consent order seeks to prevent Pioneer’s Sheffield from engaging in collusive activity that would potentially raise crude oil prices, leading American consumers and businesses to pay higher prices for gasoline, diesel fuel, heating oil and jet fuel.
The FTC alleges in a complaint that Sheffield has, through public statements and private communications, attempted to collude with the representatives of the Organization of Petroleum Exporting Countries (OPEC) and a related cartel of other oil-producing countries known as OPEC+ to reduce output of oil and gas, which would result in Americans paying higher prices at the pump, to inflate profits for his company.
In the FTC’s complaint against Mr. Sheffield, it alleges that allowing him to serve on ExxonMobil’s board would increase the likelihood of anticompetitive coordination to reduce output:
By giving Mr. Sheffield a larger and more powerful platform— as well as decision-making influence over and access to competitively sensitive information of the largest multinational supermajor oil company and the largest producer in the Permian Basin—the Proposed Acquisition would increase the likelihood of anticompetitive coordination amongst crude oil producers and likely make existing coordination more effective.
This Wilson Sonsini memo on the FTC’s action explains that voting a prospective director “off the island” based upon an anticompetitive coordination argument is a pretty novel approach:
Merger challenges premised on a so-called “coordinated effects” theory of harm are far less common than challenges that are based on the likely unilateral conduct of the combined firm post-merger. The 2023 U.S. Department of Justice and FTC Merger Guidelines (“2023 Merger Guidelines”) state that “[a] merger may substantially lessen competition when it meaningfully increases the risk of coordination among the remaining firms in a relevant market or makes existing coordination more stable or effective.” The 2023 Merger Guidelines list three “primary factors” that the FTC and the DOJ assess in determining whether a merger materially increases the risk of coordination, although only one factor need be met for the agencies to conclude that the merger may substantially lessen competition: whether the market is highly concentrated, evidence of prior actual or attempted attempts to coordinate, and elimination of a maverick.
The two Republican commissioners dissented from the FTC’s decision, noting that although Mr. Sheffield’s conduct was extremely troubling and warrants close scrutiny, the complaint “fails to articulate how the ‘effect of [the] transaction may be substantially to lessen competition” and doesn’t provide reasons to believe that the merger itself violates the antitrust laws.
This recent SSC/Intralinks blog discusses how natural language processing (NLP), an AI-powered machine learning technology, may be about to transform M&A. The blog notes NLP’s potential to assess corporate culture, unlock potential synergies, and, as this excerpt discusses, even help identify likely buyers and sellers:
Can NLP predict whether a firm will be acquired or be an acquirer? Based on an NLP analysis of a large set of Form 10-K filings, the answer is “yes.” A study by Carnegie Mellon used the frequencies of words and phrases, showing an improvement in predicting merger targets and acquirers. Further advancing the field, two academics at the University of Münster applied the RoBERTa algorithm, a sophisticated pre-trained transformer neural network capable of handling text cohesively. Their findings showed that textual disclosures in both the business description and the management discussion and analysis sections of Form 10-K filings can significantly enhance predictions of corporate acquisition targets, going beyond traditional financial metrics.
Like many people, I find a lot of this AI stuff a little unnerving, although I draw some comfort from the fact that the real-world AI applications I’ve seen so far look less like the HAL 9000 from 2001: A Space Odyssey and more like 1980s pop culture icon Max Headroom.
The 7th Circuit was one of the first federal courts to take a dubious view of mootness fee awards in M&A disclosure litigation, and its decision last month in Alcarez v. Akorn, (7th. Cir; 4/24), suggests that the Court’s views haven’t mellowed with time.
In Akorn, Judge Easterbrook ruled that an intervening shareholder had standing to challenge the Akorn board’s decision to pay mootness fees to a group of plaintiffs’ attorneys as part of the settlement of M&A disclosure claims, but rejected the shareholder’s allegations that the board breached its fiduciary duties in agreeing to pay those fees. As this Alston & Bird memo explains, the Judge then turned his attention to the district court’s decision to order the return of mootness fees:
Easterbrook next turned to the district court’s ruling on the mootness fees, finding that the court was authorized to consider whether sanctions—including return of the fees—were warranted pursuant to the Private Securities Litigation Reform Act’s (PSLRA) mandatory judicial review provision. The Seventh Circuit confirmed that because the disclosure claims were pursued through a putative class action, the provisions of the PSRLA applied. Easterbrook also expressed his displeasure with disclosure claims generally, citing a previous opinion from the Seventh Circuit that had described the claims as a “racket.” Easterbrook then remanded the case to the district court for further consideration of potential sanctions.
Unfortunately, the decision is a bit of a mixed bag for boards. The good news is that the Court endorsed the view that boards may enter into agreements to pay mootness fees without breaching their fiduciary duties. The bad news is that plaintiffs have been anticipating a ruling like this, and have moved away from filing disclosure claims as class actions in order to avoid the potential imposition of sanctions authorized by the PSLRA.
If you’ve been reading this blog for a while, you know I’ve got a soft spot for M&A history. That’s why this CLS Blue Sky Blog discussing a new article on the history of private equity caught my eye. The blog says that although most M&A professionals would probably say that PE really began in the mid-1970s with the birth of LBO shops like KKR, it actually goes back a lot further in time than that:
Private equity’s effective origination can, if fact, be traced back to the 1870s rather than 1970s. Indeed, in many ways, the great U.S. investment banking pioneer John Pierpont (JP) Morgan could arguably lay claim to being America’s (if not the world’s) original private equity trailblazer in the late-nineteenth and early-20th century. Although fundamentally a transactional intermediary (rather than principal) in the orthodox investment banking sense, JP Morgan was nonetheless known to make significant personal equity investments in especially promising ventures which his banking firms underwrote.
The most notable example of this was Morgan’s personal funding of Thomas Edison’s pioneering Electric Light Company, in 1878, which included providing 50 percent of the principal capital for the construction of a new power station for the company in New York. Moreover, as early as the 1880s, Morgan – via his original banking firm Drexel, Morgan & Co – was accustomed to buying significant blocks of equity in underperforming companies, which his banking firm would subsequently reorganize with a view to making a capital gain in addition to professional fees for their services. This arguably made Drexel, Morgan & Co something of a prototype for the LBO boutiques that would come to inhabit the same Manhattan streets almost a century later.
The article also says that the perception that PE is a uniquely American invention is also incorrect, and that PE-like activity was also going on in the UK long before the rise of the LBO in the 1970s and 1980s.
The Delaware Supreme Court doesn’t appear to be seeing eye-to-eye with the Chancery Court when it comes to disclosure of advisor conflicts. In March, the Court overruled the Chancery Court and held that allegations of undisclosed conflicts of interest involving a special committee’s legal and financial advisors were sufficient to deny the defendants’ motion to dismiss breach of fiduciary duty claims. Last week, it was “deja vu all over again,” because the Court did the exact same thing in City of Sarasota Firefighters Pension Fund v. Inovalon Holdings, (Del. Ch.; 4/24).
The case arose out of the sale of Inovalon Holdings to a private equity consortium led by Nordic Capital, a Swedish private equity firm. In a bench ruling, the Chancery Court rejected the plaintiffs’ fiduciary duty claims and concluded that the transaction satisfied the MFW standard and was entitled to deference under the business judgment rule. On appeal, the plaintiffs contended that the transaction didn’t meet MFW’s “ab initio” test because of substantive negotiations engaged in by the founder before a special committee was formed, and because conflicts of interest involving two of the special committee’s financial advisors were inadequately disclosed, the stockholder vote approving the deal was not fully informed.
The Supreme Court reversed the Chancery’s decision based on the disclosure claims and did not address the alleged violation the ab initio requirement. This excerpt from Debevoise’s memo on the case explains the Court’s reasoning:
The Court found that the Inovalon proxy statement failed to adequately disclose conflicts of both financial advisors. It found that language stating that the second advisor “may provide” services to Nordic and its co-investors was misleading given that the advisor was in fact providing such services, creating a concurrent conflict. In the case of the first advisor, the Court held that disclosure that the bank would receive “customary compensation” in connection with disclosed concurrent representations was insufficient because it kept stockholders from “contextualizing and evaluating” the conflicts. It also found that the proxy statement failed to disclose the first advisor’s fees for prior work for members of Nordic’s equity consortium, which amounted to nearly $400 million in the relevant two-year period.
The Court stated that while “there is no hard and fast rule that requires financial advisors to always disclose the specific amount of their fees from a counterparty in a transaction,” the question is subject to a materiality standard. The Court found that in this case that materiality standard was met, noting that the undisclosed compensation was roughly 25 times the disclosed fees that the first advisor received from Nordic and 10 times the fees that it received in the transaction, thus creating a misleading picture.
The plaintiffs also challenged disclosure regarding the extent of one advisor’s role in soliciting bidders, and although the Court observed that the proxy disclosures concerning this matter were an uneasy fit with the record reflected in the minutes, it did not use this as an additional basis for overruling the Chancery’s decision.
SRS Acquiom recently released its annual M&A Deal Terms Study for 2024 (available for download). This year, SRS Acquiom analyzed more than 2,100 private-target acquisitions that closed from 2018 through 2023. Here are some of the key findings summarized in the introduction:
– Strategic buyers (both U.S. public and private) were more active in 2023, with a corresponding substantial drop by U.S. private buyers backed by private equity (e.g., portcos).
– “GAAP consistent with the target’s past practices” is for the first time no longer the majority practice when establishing the accounting methodology for PPAs; the “worksheet” approach is now used on more than one third of deals. The median size of separate PPA escrows has now reached 1% of transaction value.
– One third of 2023 deals included an earnout, which is more than a 50% increase year over year (close to one fifth of deals in the previous three years included an earnout). The amount of contingent consideration tied to earnouts also ticked up slightly.
The study dedicates a slide to additional information on each of these points, plus valuation, deal structure, deal escrows, indemnification and RWI.