Last week, the NY Times published an epic account of the decline and fall of the corporate marriage between Time Warner and AT&T under the title “Was this $100 Billion Deal the Worst Merger Ever?” The article is full of juicy details about the clashes of personality & corporate culture that supposedly unmade the deal, but the punch line appears just a few paragraphs into the article:
Less than four years after the merger, AT&T abandoned its grand initiative. It spun off its Warner Media assets and ceded management control to Discovery. The new company, Warner Bros. Discovery, took on $43 billion of AT&T’s debt, and AT&T shareholders kept 71 percent of the company, a stake worth less than $20 billion. That amounts to a loss of about $47 billion for AT&T shareholders, based on AT&T’s $109 billion valuation of the deal at the time it was announced.
AT&T disputes those numbers and contends the deal was accretive. Whatever. I think the point is that by any measure, this deal isn’t the worst in history. In fact, it’s probably not even the worst deal that Time Warner was involved in. Now, I don’t want to brag, but I was involved in a number of deals that turned into complete trainwrecks during my career, so I consider myself a bit of a connoisseur of crappy deals, and I have my own candidate for the worst deal in history.
The merger that I nominate for the worst of all time has a lot to recommend it. It resulted in the largest bankruptcy in American history prior to Enron, roiled the commercial paper markets, nearly put Goldman Sachs out of business & ultimately resulted in the government’s decision to nationalize an entire industry. What deal am I talking about? The 1968 merger between The Pennsylvania Railroad and The New York Central. Don’t take my word for it, check out what Goldman Sachs has to say about the fallout from the deal:
The Penn Central Transportation Company was not only the largest railroad in the country; it was also the sixth largest firm in the United States and the owner of the most valuable real estate portfolio. Penn Central controlled more than 20,000 miles of track, one-eighth of the nation’s freight, and a network going from St. Louis and Chicago to Boston and Montreal. While its book value and assets were significant, problems lurked beneath the surface. Penn Central was asset-rich but cash-poor. And that was just the beginning.
Penn Central had been formed in February 1968 by the merger of two formidable rivals: the New York Central and the Pennsylvania Railroad. Together they controlled over US$6.5 billion in assets, yet combining forces did not yield an efficient or resilient entity. Freight cars were lost, switchyards were jammed and poor service and delays plagued both the passenger and freight lines. Penn Central had a highly complex corporate structure and experienced a number of management failures. As losses mounted, the dividend was cut and the stock price plunged; Penn Central had to rely on issuing commercial paper at ever-increasing interest rates. After an unsuccessful government attempt to rescue the firm, Penn Central filed for bankruptcy on June 21, 1970.
For Goldman Sachs, the bankruptcy posed enormous challenges on several fronts. In addition to the chaos descending on the firm’s client — Gus Levy’s client — Penn Central, the bankruptcy sent shock waves through the commercial paper market. As the market leader, the firm served nearly 300 other commercial paper-issuing clients who suddenly faced widespread redemptions from panicked investors. Market liquidity vanished and companies rushed to secure funding to buy back their paper.
Penn Central alone had US$87 million in issued paper in default. The potential losses for the firm were greater than its capital, posing a threat to its very existence. Goldman Sachs partners banded together to work through a series of litigation and settlements and the firm would ultimately see its way through.
Now that’s a bad deal! Although I think I make a compelling case, I’ve got to admit that I have a bias here. Both of my grandfathers worked for The Pennsylvania Railroad for decades (and my dad worked for them for a time too), so I remember this bankruptcy being viewed as a truly cataclysmic event by my family when I was growing up.
Activists & their advisors are seeing red over some changes to advance notice bylaws being implemented by companies in response to the universal proxy rules. In a recent “Open Letter” to directors & activist investors, Olshan warns boards against adopting advance bylaw amendments that add an array of new disclosure requirements that the firm argues aren’t necessary or appropriate responses to the universal proxy rule:
We urge you to be vigilant when reviewing and approving any new bylaws to avoid inadvertently adopting bylaw amendments that are predicated on misleading narratives and do not align with responsible corporate governance practices. In particular, be on the lookout for proposed amendments to nomination procedures requiring additional disclosure designed to make it more difficult, expensive or even impracticable to nominate directors or intended to chill permitted communications among shareholders such as provisions requiring disclosure of (i) the ownership interests of the nominating shareholder’s limited partners or distant family members in the company, competitors of the company or counterparties to any litigation involving the company, (ii) the nominating shareholder’s past or future plans to nominate directors at other public companies or (iii) the nominating shareholder’s prior communications with fellow shareholders concerning its plans or proposals relating to the company.
While Olshan doesn’t drop any names, the bylaw provisions it highlights are the same ones that Masimo Corporation implemented in response to a campaign by activist hedge fund Politan Capital Management. Those parties are currently brawling in Delaware Chancery Court over the legality of the amendments.
Why does the activist community have its nose out of joint over bylaw amendments like these? In a recent blog, Prof. John Coffee notes that identifying limited partners of an activist shareholder might prove embarrassing to certain of those partners, particularly public sector funds. But he says there’s a bigger reason for their concern with these bylaws:
What most concerns the activist community appears to be the attempt of the Masimo bylaw to obtain disclosure about the recent track record of the activist seeking a board seat. What similar campaigns has it launched at other companies? To this end, the Masimo bylaw’s critical term – “Covered Person” – includes persons “Acting in Concert” (as defined) with the nominating shareholder, even though they do not have any express agreement.
In part, the intent here appears to have been to identify shareholders who have a special agenda (say, environmental activism) and have developed an ongoing association with the nominating person in order to pursue a common agenda (which may have little to do with the maximization of shareholder value). Corporate management’s apparent premise here is that, with universal proxy voting, such informal alliances with single-issue activists may become more common and that shareholders deserve information about such associations.
Coffee’s article takes a sympathetic view of the Masimo bylaw amendments, but if you’re interested in a different perspective, check out this blog from Prof. Lawrence Cunningham. Cunningham contends that Delaware courts are okay with advance notice bylaws so long as they don’t interfere with the exercise of the stockholders’ franchise. He argues that the provisions of the Masimo bylaw “almost certainly cross the line, particularly in its call for a nominating shareholder to disclose its limited partners.”
Today’s episode of “antitrust regulators slinging stuff against the wall to see if it sticks” features the DOJ’s Antitrust Division, which raised a novel argument in an effort to derail Booz Allen’s acquisition of EverWatch. Here’s the intro from this Freshfields blog:
On June 29, the Department of Justice’s Antitrust Division (DOJ) challenged Booz Allen Hamilton’s (Booz Allen’s) $440 million dollar acquisition of EverWatch, alleging that, as the only two viable suppliers of “signal intelligence” services to the National Security Agency (NSA), the transaction not only would result in harm to competition for the services post-close, but also that the mere entry into the transaction agreement caused the parties to reduce the intensity with which they were competing for an upcoming NSA contract for signal intelligence services, even before the transaction closed. The District Court rejected DOJ’s challenge on October 11, and the parties closed the transaction on October 14.
The case stands out for DOJ’s attempt to use Section 1 of the Sherman Act to challenge the alleged pre-closing competitive harm. Traditionally, the US antitrust agencies rely on Section 7 of the Clayton Act, which is specifically designed to address mergers – however in Booz Allen, DOJ also alleged a Section 1 claim. In evaluating DOJ’s claims, the court addressed themes that have arisen from some of DOJ’s other recent merger challenges, namely, the government’s buyer power as a countervailing factor against merging parties’ incentive and ability to harm competition post-close, as well as what constitutes a proper market definition.
The two companies were the only bidders for an upcoming NSA contract, so the DOJ not only made the traditional Clayton Act argument that the deal would harm future competition, but also contended that by entering into the merger agreement, the parties already harmed competition in violation of Section 1 of the Sherman Act because they were no longer competing aggressively in the bidding process. The Court rejected that argument, noting that the DOJ produced “little evidence” supporting this allegation.
In fairness to the DOJ, this use of Section 1 of the Sherman Act doesn’t seem to be anywhere near as audacious as the FTC’s new policy statement, but it provides further evidence that judicial reluctance to countenance novel enforcement theories under Section 7 of the Clayton Act is prompting antitrust regulators to think outside the box in their efforts to stop mergers that they view as anticompetitive.
Earlier this year, I blogged about Totta v. CCSB Financial, (Del. Ch.; 6/22), in which Chancellor McCormick held, among other things, that a charter provision prohibiting a stockholder from exercising more than 10% of its voting power interfered with stockholders’ exercise of the franchise. In a subsequent letter decision, Chancellor McCormick concluded that the insurgent stockholders conveyed a substantial benefit upon the company and granted their request for attorneys’ fees.
The company argued that the insurgents gained an exclusively personal benefit, because only their votes were positively impacted by the Court’s interpretation of the antitakeover provision in the charter document, and because their actions advanced the interests of their affiliate in obtaining control of the company. Chancellor McCormick disagreed:
I do not view the benefit conferred in this case so narrowly. While in a strict sense the Post-Trial Opinion only affected Plaintiffs’ votes, the judgment fortifies the Company’s stockholder franchise generally. By bringing this litigation, Plaintiffs vindicated not only their own votes, but also the majority vote of the unaffiliated stockholders who properly elected the insurgent nominees.
The result obtained by this litigation prevents future stockholders from being similarly harmed by an erroneous application of the Voting Limitation. Plaintiffs’ success in this case confers a substantial benefit on CCSB by retroactively correcting the incumbent board’s interpretation of the Voting Limitation and, in effect, proactively setting the interpretation for future elections. The corporation is better off for a rectified election process.
The Chancellor ultimately concluded that the substantial benefits conferred on the company justified the insurgents request for reimbursement of approximately $385,000 in fees and expenses.
Intralinks recently published its M&A Leaks Report, which analyzes deal leaks over the period from 2009-2021, and breaks them down by world region, country & business sector. The report also looks into the effect of leaks on the premiums paid, emergence of rival bidders & time to closing. Here are some of the highlights:
– 8.8% of all deals announced during 2021 involved a leak compared to 8.2% during 2020. These were both above the 7.8% average for all years dating back to 2009.
– The total value of leaked deals was up 105% in 2021 ($142 billion) vs. 2020 ($69 billion). The average dollar value of leaked deals was also up 60% in 2021 ($1.7 billion) vs. 2020 ($1.1 billion).
– The three sectors with the highest amount of pre-announcement abnormal trading activity in 2021 vs. 2020 were Healthcare (12.5%), Retail (11.9%) and Industrials (11.3%). None of these cracked the top three on average over the last several years, and their prominence may reflect the challenges and opportunities that companies in these sectors faced during the pandemic.
As always, one of the most interesting findings was the extent to which takeover premiums for target companies involved in leaked deals exceeded those paid in more stealthy transactions. In 2021, the median premium for leaked deals was 54.3%, which was nearly twice the 27.7% premium paid in non-leaked deals. Deals with leaks also closed over a week faster than those that didn’t leak. The median time to closing for a leaked deal was 92 days, compared with approximately 100 days for non-leaked deals.
Last week, the FTC issued a policy statement setting forth a sweeping new claim to enforcement authority under Section 5 of the Federal Trade Commission Act. Up until now, that statutory provision has been a rarely used tool to address “unfair methods of competition” arising in situations where other major antitrust statutes didn’t apply. The policy statement is premised on the FTC’s position that Section 5 wasn’t just intended to protect consumers, but also to “protect the smaller, weaker business organizations from the oppressive and unfair competition of their more powerful rivals.”
What are the implications of this new policy statement? Well, as this Goodwin memo explains, the FTC is likely to try to wield that authority in merger enforcement cases targeting acquisitions of nascent competitors – exactly the kind of transactions it’s been having a hard time persuading the courts are prohibited under Section 7 of the Clayton Act:
The 2022 Policy Statement goes on to provide a “non-exclusive set of examples” of the type of business conduct that may violate Section 5. While this list covers a broad range of business activities, most striking among these activities are references to M&A deal activity that the FTC has now declared could be prohibited under the FTC Act:
– Mergers or acquisitions, or joint ventures that have the tendency to ripen into violation of the antitrust laws.
– A series of mergers, acquisitions, or joint ventures that tend to bring about the harms that the antitrust laws were designed to prevent, but individually may not have violated the antitrust laws.
– Mergers or acquisitions of a potential or nascent competitor that may tend to lessen current or future competition.
Taking an unprecedented interpretive position on one federal antitrust statute to avoid getting clobbered in court for taking that same position on another more directly applicable statute is. . . well . . . let’s just say it’s “a bold strategy”. But according to this Wilson Sonsini memo, that’s far from the limit of what the FTC’s new policy statement might mean. As this excerpt says, it could also substantially broaden the risks of enforcement actions targeting director interlocks:
The FTC’s policy statement lists “interlocking directors and officers of competing firms not covered by the literal language of the Clayton Act” as one example of a “violation” of Section 5. Under this new interpretation, the FTC appears to be asserting the authority to obtain injunctive relief against “interlocks” not prohibited by the terms of the Clayton Act.
This likely includes, at minimum, “interlocks” involving board observers. This would include a situation in which:
– an individual serves as a board observer at two competing corporations,
– an individual serves as a board observer at one corporation and a director or officer of its competitor, or
– an entity such as a private equity or venture capital fund is represented by a board observer at one corporation and is represented by a board observer or director at another corporation.
It is possible that the FTC would also use this authority to challenge interlocks that fall within the safe harbor exemptions of Section 8 of the Clayton Act.
I’m not usually impressed by overheated claims about the “Regulatory State,” but holy cow! This statement is about as aggressive an attempt to rewrite important provisions of federal law as I’ve ever seen an agency undertake – and I can’t imagine it’s going to fare well in the federal courts as they’re currently configured.
According to Dykema’s “18th Annual M&A Outlook Survey,” dealmakers aren’t quite as downbeat about the M&A climate over the next 12 months as you might expect given the gloomy 2023 forecasts we’ve seen. In fact, 65% of the executives and financial advisors surveyed expect the U.S. M&A market to strengthen in the next 12 months. But this excerpt from the survey says that in the current environment, buyers with plenty of dry powder are likely to be the ones getting deals done:
Dealmakers named rising interest rates, economic conditions, and growing inflationary pressure as the top deterrents to M&A activity—while citing the financial markets, economic conditions, and rising interest rates as its biggest drivers. This suggests we may be entering a market of haves and have-nots, in which buyers with a large amount of liquidity—and consequently, no need to borrow at high interest rates—expect to take advantage of buying opportunities and close more deals in the coming year. In contrast, buyers who have routinely relied on banks to finance a large percentage of their acquisitions are anticipating greater roadblocks to funding their deals.
As regulators in the U.S. and abroad ramp up their scrutiny of potential M&A transactions, this Skadden memo addresses the need for directors to take on a bigger role in assessing and mitigating the regulatory risks associated with a deal. This excerpt discusses the board’s role in ensuring that the risk of a blocked or abandoned transaction is appropriately evaluated:
To ensure that the fundamental risk of non-approval is properly assessed and mitigated, boards should focus on pre-signing preparation, careful negotiation of contractual risk-sharing provisions and a flexible post-signing strategy to obtain approvals.
First, the board must insist that management, with the help of outside advisers, conducts a probing analysis that goes well beyond traditional competition measures such as horizontal overlaps and combined market shares, which might have sufficed in the past. The analysis should consider the parties’ documents and the expected reactions of customers, suppliers, employees, industry groups and competitors, because those could factor into regulators’ decisions.
The parties need to fully understand the relevant authorities’ current enforcement priorities, and any novel antitrust doctrines that key officials espouse. In cross-border deals, they will also need to evaluate the impact on national “industrial policy.” That will include any connection to highly sensitive or favored industries and other policy goals that regulators may pursue as part of their review. Today those could include climate change, data privacy, employment and even wealth distribution.
The memo says that this is the time when the board and management also need to consider the circumstances in which it will make sense to litigate with regulators. The results of the analysis should be summarized & presented to the board a sufficient time in advance to permit the directors to raise questions and request appropriate follow-up work. The memo also says that the board should continue to be updated as more is learned during the deal process and as regulatory risk is allocated in the negotiation process.
This Dechert memo provides an overview of third quarter merger investigations and indicates that regulators are “walking the walk” when it comes to their stated hard line on merger enforcement. Here’s an excerpt:
In both our DAMITT 2021 Report and our Q1 2022 Report, we warned that parties to transactions subject to significant merger investigations were more likely to see the FTC or DOJ sue to block their deal or push them to abandon it prior to being sued. Despite a temporary reprieve last quarter—when just under 50 percent of significant investigations resulted in a settlement—the Biden administration’s aversion to settlements returned in Q3, when all concluded significant U.S. merger investigations resulted in either a complaint or an abandoned transaction.
That is not to say that the agencies will not accept any settlements. For the first three quarters of 2022, nearly 40 percent of significant investigations resulted in a settlement. Of note, however, the DOJ has not entered into a single settlement to resolve a significant investigation since DOJ Assistant Attorney General Jonathan Kanter began warning, shortly after taking office in November 2021, that investigations resolved with merger remedies should be the “exception, not the rule.” The FTC is responsible for all merger settlements since that time.
Antitrust regulators concluded only three investigations during the third quarter, and all of them ended with either a complaint or an abandoned deal. The memo says that for the first time in more than a decade, there were no settlements or closing statements.
In a down M&A market, it’s not surprising that PE and VC firms would be taking a close look at their legal fees, and a recent survey of 300 in-house lawyers at those firms confirms that the amount of their legal spend is a source of growing concern. Here are some of the key findings:
– Pressure to control legal costs builds. Nearly nine in 10 respondents (86%) say their organization feels some pressure to control legal costs. That pressure has been building over time as well: 62% say the level of pressure to control legal costs has increased compared to last year.
– LPs are scrutinizing legal expenses. 84% of respondents say LPs are scrutinizing legal expenses. More than half (62%) said the level of scrutiny LPs have exhibited over legal expenses has increased over the last three years.
– Legal expenses are a material concern for investment firms. More than two-thirds of respondents (71%) say their organizations are at least moderately concerned about overall legal costs. Nearly half say legal costs around “house spend,” which is often tied to bonuses, is a significant concern.
– Top three challenges in controlling legal costs. 57% said legal work, and therefore costs, are unpredictable; 46% pointed to a lack of transparency around time, billing and invoices; 40% said they sometimes get billed for unnecessary legal services.
If you’re a law firm with PE and VC clients, the survey responses provide some hints about the things that you should and shouldn’t be doing in the current environment. For example, in-house lawyers prioritize timely (66%), transparent (55%) and predictable (47%) invoices from their law firms over lower legal fees (32%). The survey also highlights some law firm “own goals” to avoid – like exceeding fixed fee agreements and initiating matters without the law department’s knowledge.