The continuing saga of Swiss pharmaceutical giant Roche’s efforts to acquire the 44% of Genentech that it does not already own added a chapter on Monday, when Genentech’s special committee unanimously voted to recommend against Roche’s most recent $86.50 per share bid. Last month, Roche broke off negotiations with Genentech’s special committee and withdrew its proposal for a negotiated transaction, opting instead to launch a hostile bid after Genentech balked at its $89 per share offer (the company is asking $112 per share).
At first blush, it is tempting to conclude that this whole process is a bit contrived. After all, didn’t Roche’s decision to launch a unilateral tender offer make things easier on everyone under Delaware law? The Unocal Exploration and Siliconix decisions established that a unilateral tender offer followed by short form merger offered controlling shareholders (and subsidiary boards) a path to freeze out minority shareholders without subjecting the transaction to entire fairness review, so why bother with negotiations? Pure Resources made things a little more complicated and Cox Communications suggested that we’d be better off if Delaware just started over, but Delaware law still provides a roadmap for avoiding the entire fairness review that usually applies to parent/subsidiary mergers, doesn’t it?
Delaware may provide a roadmap for many such controlling shareholder-subsidiary mergers, but the contractual relationship between Roche and Genentech makes this situation unusual, and far from simple. The two companies have a wide-ranging business relationship, and there are several agreements in place governing various aspects of their relationship. For purposes of Roche’s bid, the most notable of these agreements is an “Affiliation Agreement” that imposes a number of obligations on Roche in connection with any merger involving Genentech.
According to Roche’s offer to purchase, the Affiliation Agreement requires any merger between Genentech and Roche to either:
- receive the favorable vote of a majority of the shares not beneficially owned by Roche and its affiliates (with no person or group entitled to cast more than 5% of the votes cast at the meeting); or
- provide public shareholders with consideration “equal to or greater than the average of the means of the ranges of fair values for the shares as determined by two investment banks of nationally recognized standing appointed by a committee of [Genentech’s] independent directors.”
The Affiliation Agreement also provides that if Roche owns more than 90% of the outstanding shares for more than two months, it must complete a merger in compliance with either of the requirements described above as soon as reasonably practicable. So if Roche completes its tender offer, it will have to obtain shareholder approval of a long-form merger proposal (which would subject the deal to entire fairness review), or complete a short form merger in which it pays a price determined by Genentech’s chosen investment bankers (which is probably not a pleasant prospect given how far apart the two sides are on valuation). That complicates things considerably.
But the complications do not end there. A purported class action lawsuit filed by a group of institutional investors challenges, among other things, the enforceability of these provisions of the Affiliation Agreement. The plaintiffs allege that agreement’s attempt to limit the percentage of shares that can be voted by any person or group to 5% of the votes cast violate Section 212(a) of the Delaware General Corporation Law (which provides that Unless otherwise provided in the certificate of incorporation, each stockholder is entitled to one vote for each share of stock held by such stockholder) and Genentech’s bylaws. They also challenge the alternative “fair price” procedure as being inconsistent with Roche’s (and the Genentech board’s) fiduciary duties. (See Section III of this complaint).
Roche has kept its cards pretty close to its vest in terms of how it intends to navigate the requirements of the Affiliate Agreement subsequent to the completion of a successful tender offer. Its tender offer materials include a Q&A on how the Affiliate Agreement affects the offer and any subsequent merger. In its response to that question, Roche merely points out that the agreement has no affect on its offer, and notes that compliance with its provisions would be required in connection with any subsequent merger.
Exactly how Roche plans to comply with the agreement is unspecified in the tender offer materials, but it seems like the Affiliation Agreement provides Genentech shareholders who decide to hang on to their shares and wait for a back-end merger with an opportunity to exert significant leverage.
And guess what? It looks like the market knows it.
Most analysts reportedly expect that Roche will up its price in response to the Genentech special committee’s rejection of its current offer. That may prove to be a path to a negotiated deal, and the special committee’s endorsement of a deal will clearly put Roche in a much better position to obtain the shareholder approval that it needs under the Affiliation Agreement. Genentech is probably wagering that this endorsement is something that Roche is willing to up the ante in order to receive. That may turn out to be a pretty good bet.
This recent survey finds that a majority of senior executives expect demand for – and scrutiny of – fairness opinions to increase in the US and Europe. Here is a summary of key results from the survey:
- 68% of respondents believe boards have become more concerned with potential shareholder lawsuits over the past five years
- Majority believe fairness opinions can help protect a company and its directors against such shareholder suits
- 72% of US respondents and 78% of European obtain fairness opinions for M&A transactions
- 69% of respondents say they would obtain a fairness opinion for related-party transactions
- 46% would obtain a fairness opinion for restructurings
- 56% of European respondents say they would not feel comfortable relying on a fairness opinion from the deal banker, compared to only 30% of US respondents
- 69% of European respondents compensated their fairness opinion providers with non-contingent fees, compared to 40% of US respondents
Recently, RiskMetrics reported in its “Corporate Governance Blog”: Corporate Japan may have a tougher time deploying “poison pills” as investor opposition to such defenses mounts. In the latest signal that financial market participants have grown wary of the use of pills, shareholders of the Japanese payroll management company Works Applications were able to halt management efforts to install the defense. In September, the company became the first known to RiskMetrics Group to drop a poison pill takeover defense plan from its annual meeting agenda, acknowledging that votes posted in advance of the meeting had “fallen well short of anticipated support” for the measure.
Notably, the company has just 15 percent foreign ownership, underscoring that domestic institutions are joining their foreign counterparts in opposing takeover defenses. Works Applications’ recent retreat received scant media attention in Japan beyond a brief article on Sept. 23 in the Nihon Keizai Shimbun business daily. According to the article, management told shareholders at the company’s Sept. 24 annual meeting that it had decided not to seek renewal of the plan in view of the paucity of shareholder support. According to a statement released on the eve of the meeting, the company said it had “concluded that more careful study of the proposal content [was] required, and that it was resolved to delete these items from [the] annual meeting agenda.”
The move may be the latest manifestation of the growing pushback to the rising prevalence of pills at Japanese companies. According to RiskMetrics data, more than 500 Japanese firms have adopted the defense since 2005 when legal experts deemed the defense to be legitimate under Japanese corporate law.
But by August 2007, Japan’s Ministry of Economy, Trade, and Industry began to publicly voice concerns over the use of pills. In its annual white paper on economic and finance issues, the agency noted “hostile takeovers can boost productivity and corporate value by removing inefficient executives and improving management (the efficiency effect on management).”
The ministry’s pronouncement, coupled with increasing skepticism of pill usage from Japan’s business press and officials at the Tokyo Stock Exchange, has decidedly altered views on defenses and helped dampen a feared explosion of poison pill adoptions during Japan’s 2008 annual meeting season. Although shareholder approval is increasingly treated as a prerequisite, if not legal requirement, for pill deployments, the example of Works Applications would suggest that pill adoptions will decline heading into 2009, and firms may be increasingly reluctant to seek pill renewals.
Implementing the New Cross-Border Rules
We just posted the transcript for our recent webcast: “Implementing the New Cross-Border Rules.”
From Akin Gump: “The recent worldwide financial turmoil and the still-uncertain aftermath of the Emergency Economic Stabilization Act of 2008 have sparked major mergers and acquisitions that need very rapid antitrust regulatory approval in order to calm distressed markets and salvage shareholder value. More such M&A deals are surely coming. Despite the normal 30-day waiting period under the Hart-Scott-Rodino Act, deals can be done much more quickly under the right circumstances.
The HSR Act, Section 7A of the Clayton Act, 15 U.S.C. § 18a. is a “file and wait” statute. Parties to proposed transactions meeting certain size thresholds must file notification with both the FTC and the DOJ. They must also observe a mandatory waiting period prior to closing, generally 30 days – but 15 days in the case of a bankruptcy or cash tender offer. If a transaction raises substantive antitrust issues requiring thorough investigation, a so-called “Second Request” for information may be issued, typically causing the waiting period to be extended by many months.
Critically, however, the mandatory HSR waiting period can also be shortened through the discretionary grant of an “early termination.” § 7A(b)(2).” Learn more from this memo, and this one.
This commentary by Christine Hurt on the “Conglomerate Blog” brought back fond memories regarding my long lost collection of deal toys. Well, not really “lost.” More like “tossed” after a few years passed and I began to realize that those 3000 billable hours per year perhaps weren’t the best days of my life.
I had quite a collection as I worked on an average of one IPO per quarter as issuer’s counsel and one more as underwriters’ counsel. Plus a bunch of secondary offerings and M&A thrown in. So after 5 years, I had over 100 cubes. There I go again, glamorizing my status as a dutiful slave. Anyways, feel free to share your deal cubes stories with me – I’ll keep them confidential. And if you’re feeling sentimental about not receiving any toys lately, you can always look at the pictures…
The “Deal Cube” Poll
Please take a moment to take this anonymous poll; current results are provided after you’ve made a choice:
According to this Kirkland & Ellis memo, several private equity funds have received letters purporting to be from (or, in some cases, to) the SEC. These letters ask the funds not to make capital calls on their LPs and/or reduce the commitments of their LPs.
While this may be one investor’s unique solution to the problem, we have several good memos discussing liquidity concerns of private equity funds in our “Private Equity” Practice Area. Of course, anyone who receives such a letter should contact the SEC to verify the authenticity – and please also shoot me a copy. I won’t post it unless I receive permission.
Whenever the Delaware Supreme Court issues a corporate law decision, it’s almost by definition big news. However, the court’s recent decision in Gantler v. Stephens may be bigger news than most decisions, especially if you’re an officer of a Delaware corporation. [The decision is posted in the "M&A Litigation" Portal.]
And the news is bad.
As described in this summary of the Gantler decision, there are several important issues addressed in the opinion, but the one that is most salient to corporate officers is the court’s statement that while officers of Delaware corporations have the same fiduciary duties as directors of Delaware corporations, their liability exposure is different.
While most Delaware corporations have, as permitted by Section 102(b)(7) of the Delaware General Corporation Law, included provisions in their certificates of incorporation eliminating directors’ liability for damages arising out of the breach of the duty of care, those charter provisions do not extend to corporate officers.
The fact that Section 102(b)(7)’s protections do not extend to corporate officers is not a new concept, but the potentially different liability exposure that officers face has not often been used as a potential leverage point in corporate litigation. As Professor Lyman Johnson noted in a 2005 William and Mary Law Reviewarticle discussing officers’ fiduciary duties, “for the most part, officers appear not to be sued for fiduciary wrongdoing as officers.” Recently, however, there have been signs that this is beginning to change.
For example, in August 2008, the Chancery Court decided McPadden v. Sidhu, a case involving allegations of breach of fiduciary duties against directors and a corporate officer of a Delaware corporation. While the court found that the complaint did sufficiently allege that the board and the officer in question were grossly negligent and thus breached their duty of care, the court dismissed claims against the directors due to the existence of a Section 102(b)(7) provision in the corporation’s charter. However, noting that Section 102(b)(7) did not extend to officers, the court refused to dismiss the claims against the officer.
The Delaware Supreme Court’s decision in Gantler further heightens the profile of the different liability exposure that directors and officers face. As a result, it seems likely that claims against corporate officers are going to become more prevalent. The law is not well developed in this area, and since the academic literature on the topic argues for imposing broader fiduciary obligations on officers than those imposed on directors, things could get mighty interesting as plaintiffs open up a new front for corporate fiduciary litigation.
Here is a good summary from Cleary Gottlieb: A few weeks ago, the SEC released updated interpretations regarding the application of Rule 13e-3 to going private transactions. Among other things, Rule 13e-3 imposes heightened disclosure obligations on certain acquisition transactions in which an affiliate of the target company is the acquiror.
The updated interpretations are noteworthy in a number of respects, including the following:
- Application of Rule 13e-3 to Acquisitions by Financial Sponsors with Management Participation – Financial sponsor acquirors often invite target management to continue after completion of the acquisition and provide for equity-based compensation for such management. Sponsors are aware of the possibility that such participation by target management could cause the transaction to be subject to Rule 13e-3 and frequently take steps to avoid this possibility.
Based on prior SEC staff guidance, these steps include (1) not having any substantive negotiations or discussions regarding the terms of such participation until after the acquisition agreement has been signed and (2) limiting the amount of equity to be issued to the management group. The updated interpretations make it clear that the SEC staff is not likely to accept the argument related to the absence of negotiations and discussions prior to signing of the acquisition agreement, noting that Rule 13e-3 may apply where “there exists a general understanding that a target’s senior management will receive equity in a surviving entity”.
The SEC, however, framed its position in the context of a hypothetical scenario in which the target’s senior management would receive 20% of the surviving entity’s equity following the transaction and did not distinguish between rollover equity invested by management, up-front grants of new equity for no consideration and equity options subject to substantial vesting conditions.
Thus, it may remain possible to argue that Rule 13e-3 does not apply to particular transactions involving lower levels of management equity participation or where a significant portion of management equity is contingent. Nevertheless, for planning purposes, financial sponsors should assume that the SEC staff may take the position that Rule 13e-3 applies to a broader spectrum of acquisitions in which management participates than has been the case in recent years.
- Application of Rule 13e-3 to Acquisitions by Non-affiliated Strategic Buyers – The updated interpretations include a note that Rule 13e-3 may apply even in transactions in which the acquiror is not affiliated with the target if “continuity of [target] management” will exist following the transaction. The staff notes that factors to be considered include (1) whether target management’s compensation will increase after the acquisition, (2) whether target management will receive equity in the acquiror and (3) whether any member of target management will become a member of the board of directors of the acquiror.
The application of Rule 13e-3 to acquisitions by strategic acquirors where some combination of the foregoing factors are present would be a surprising expansion of the scope of the Rule. For example, in many acquisitions of US public companies by a non-US strategic acquiror, the acquiror expects (and needs) the target’s senior executives to continue to manage the company and often provides improved compensation and other terms to the executives to induce them to do so. Most practitioners would not expect Rule 13e-3 to apply to such transactions.
- Disclosure of Financial Advisor Reports and Advice – The updated interpretations confirm the staff’s broad interpretation of the requirement in Rule 13e-3 transactions of detailed disclosure of all “reports, opinions [and] appraisals” materially related to the transaction. In particular, the interpretations confirm the staff’s view that “detailed” disclosure is required of oral presentations that the acquiror’s financial advisor may make to the acquiror even if such presentations are not related to the consideration to be offered to target shareholders.