This Intralinks article by national security consultant John Lash of Darkhorse Global addresses a topic that I haven’t seen much written about – the potential need to deal with CFIUS in de-SPAC transactions. Lash acknowledges that CFIUS risks seem counterintuitive since going public is usually seen as a way to mitigate against national security risks. However, he points out that if the original U.S. target has received prior foreign investments that weren’t cleared by CFIUS, or if SPAC sponsors are foreign persons, the deal may be subject to CFIUS’s jurisdiction.
The article also contains three specific recommendations for dealing with CFIUS in a de-SPAC transaction:
– Proactive Mitigation: Sponsors and targets want the deal to close for various reasons, so evaluate early whether there may be risk in the cap table from early-stage investment and then consider how to address it through various mitigation tools, such as look-back analysis of access to non-public technical information or other intellectual property, security plans/policies, cyber and data security standards, governance structure/security officer and vendor risk, management/approval process and dilution (or accelerated dilution) conditions.
– Make the Case for Control: Identify how timely resolution of the CFIUS filing will function to reduce the national security risk as it will effectively dilute both equity ownership and voting control of the potential investors of concern. There are additional options to further address these issues such as trustees, independent directors, or accelerated dilution conditions post-closing.
– Make the Business Case: Advocate that permitting the proposed SPAC transaction better protects the national security of the U.S. by comparison to other options presently available and those potential delays could have significantly damaging consequences to the target (and conversely national security) — as many of these high-tech companies are pre-revenue and need investment capital due to burn rates.
Last month, I blogged about Vice Chancellor Will’s decision in Swift v. Houston Wire & Cable, (Del. Ch; 12/21), which touched on the issue of when, under the terms of a merger agreement, a former target stockholder is no longer a “stockholder” for purposes of asserting a books & records claim. Now, in Brown v. Matterport, (Del. Ch.; 1/22), she has addressed the issue of when a former shareholder of the target in a merger becomes a “stockholder” of the surviving entity. This Jim Hamilton blog sets forth the factual background of the case:
William J. Brown was the CEO of Matterport Operating, LLC (Legacy Matterport), a privately held spatial data company, from November 2013 to December 2018. Brown received equity compensation in the form of stock options granting him the right to purchase 1,350,000 shares of Legacy Matterport. He also purchased 37,000 restricted shares in 2014. Brown exercised all his options on October 6, 2020.
In February 2021, Legacy Matterport agreed to a business combination with Gores Holding VI, Inc., a SPAC. In the proposed de-SPAC merger, Gores would be the surviving entity and would be renamed Matterport, and Legacy Matterport would become a wholly owned subsidiary of Matterport. In July 2021, Gores adopted bylaws in anticipation of the business combination, which imposed transfer restrictions on certain shares of Matterport Class A common stock, referred to as “Lockup Shares.” The transaction was completed and the bylaws became effective.
Brown filed a complaint contending that the share trading restrictions were adopted without his consent in violation of Section 202(b) of the Delaware General Corporation Law. He sought a declaration that the lockup shares provision was unenforceable as to his shares and that he could freely transfer his shares and/or conduct derivative trading without restriction. Brown also brought fiduciary claims against Legacy Matterport’s former directors. The court bifurcated the claims and held an expedited trial on the limited issue of whether Brown was bound by the transfer restrictions.
Vice Chancellor Will held that the plaintiff wasn’t bound by the transfer restrictions. She noted that the bylaw’s language said that the restrictions applied to shares “held by the Lockup Holders immediately following the closing of the Business Combination Transaction.” The Vice Chancellor cited the language of Section 3.04 of the merger agreement, which provided that “[u]ntil surrendered . . . each share of [target stock] shall be deemed, from and after the Effective Time, to represent only the right to receive, upon such surrender, the Per Share Company Common Stock Consideration.”
Vice Chancellor Will went on to observe that the plaintiff did not complete the required paperwork and receive his shares until more than 100 after the closing. As a result, she held that under the terms of the merger agreement, the plaintiff was not a shareholder of the target “immediately following” the closing, and that the bylaw restriction didn’t apply to him.
It’s important to keep in mind that the case addressed the application of a de-SPAC post-closing lockup akin to one found in a traditional IPO. When you do that, it becomes apparent that the Vice Chancellor’s opinion creates a practical problem that transaction planners are going to need to figure out a way to draft around. Ann Lipton summarized that problem on her Twitter feed:
So, under Will’s reading of the bylaw, whether the lockup applied or did not depended on the s’holder’s voluntary decision to submit their letter quickly or slowly – those that did so quickly were subject to the lockup, those that did so slowly were … not. That’s kind of nuts. It’s a 180-day lockup, but the theory is that you can shave 80 days off that by dragging your feet in requesting the transfer, and the choice is entirely up to the s’holder. Would you like a 100-day lockup or a 180-day lockup? The choice is yours, depending on when you submit your letter.
Fortunately, in footnote 28 to her opinion, Vice Chancellor Will serves up a potential drafting solution to the problem the opinion creates:
Language in the bylaws of certain other post-de-SPAC corporations clearly restricts all shares issued to the targets’ stockholders. See the bylaws of 23andMe Holding Co., for example: “‘Lockup Shares’ means the shares of common stock received by the stockholders of the Corporation after the date of the adoption of these Bylaws as consideration in the [de-SPAC transaction].”
During the pandemic, most M&A activism has focused on opposing a pending deal or improving its terms, rather than pushing boards to seek a potential sale. This excerpt from this recent Insightia blog says there are signs that activists may shift gears in the upcoming year:
M&A activity sprinted through the fourth quarter and the turn of the year, with activist investors more determined than ever to capitalize. Based on recent reporting, event-driven activist Jana Partners – a semi-reliable barometer of hedge funds’ confidence in dealmaking – could pressure as many as seven companies to sell themselves or parts of themselves in the coming months.
A pro-M&A tilt from activists would signal progress from pandemic-era activism, which has been much more focused on stopping or improving deals that have been struck at low valuations. Yet throughout the past two years, there have been companies pushed into strategic reviews thanks to more sophisticated activist tactics including proxy fights and stalking horse bids. Whether activists take a surgical or broad approach to the M&A market depends on how many companies look vulnerable and how quickly the window for dealmaking is likely to remain open.
We’ve posted the transcript for our recent webcast: “The Brave New World of Antitrust Merger Review & Enforcement.” Our panelists provided insights into a number of aspects of the changing antitrust regulatory environment. Topics addressed by the panel included:
– Overview of FTC & DOJ Policy and Priority Changes
– Industries and Issues Under Scrutiny
– Implications for HSR Merger Review
– Resolving FTC or DOJ Challenges in the New Environment
– Post-Closing Challenges to Deals — A Growing Risk?
– Litigating with the Antitrust Agencies
Will the SEC’s recent adoption of rules mandating the use of universal proxies change the game for proxy contests? What should companies do now to prepare for the new regime? Join us tomorrow for the webcast – “Universal Proxy: Preparing for the New Regime” – to hear Goodwin Proctor’s Sean Donohue, Gibson Dunn & Crutcher’s Eduardo Gallardo, Sidley Austin’s Kai Liekefett and Hogan Lovells’ Tiffany Posil discuss these and other issues associated with the looming universal proxy requirement.
If you attend the live version of this 60-minute program, CLE credit will be available. You just need to submit our state and license number and complete the prompts during the program.
LPs recognize that the rapid growth of continuation funds represents a significant evolution of the private markets ecosystem – an evolution whose implications are yet to be fully clear. A majority of PE investors believe the principal effect will be to strengthen the overall private markets ecosystem, but a sizable minority believe the change will be more profound, serving to undermine PE’s traditional 10-year-fund model.
Two thirds of LPs believe that continuation funds are likely to prove good owners for their portfolio companies. However, some LPs remain to be convinced – one third believe that the companies in continuation funds might have had better prospects with different, third-party owners.
The report also says that 56% of LPs say that they are changing their business practices in an effort to make themselves more attractive co-investment partners for general partners. Specific efforts include more rapid decision-making, developing expertise in particular areas of the market or expressing a willingness to bear some of the economics on co-investments.
This blog was supposed to be published yesterday, but I mistakenly set the publication date for 2021, so it ended up being posted on that date’s page. This was my first public screw-up of 2021 2022, but it undoubtedly won’t be my last.
Earlier this week, in In re Multiplan Stockholders Litigation, (Del. Ch.; 1/22), the Delaware Chancery Court for the first time addressed fiduciary duty issues in the context of litigation arising out of a de-SPAC merger transaction. The case centered on issues arising out of the unique aspects of the SPAC structure – the ability of stockholders to compel the company to redeem their shares in connection with a de-SPAC merger, and potential conflicts between the interests of SPAC affiliates and public stockholders.
In this case, the plaintiffs alleged that the defendants breached their fiduciary duty of loyalty by prioritizing their personal interests over those of public stockholders in pursuing the merger and by issuing a false and misleading proxy statement, thus depriving stockholders of the ability to exercise their redemption rights on an informed basis.
The plaintiffs asserted that the entire fairness standard of review should apply to their fiduciary duty claims. The defendants argued that was inappropriate, because the de-SPAC merger did not result in the sponsor or the other defendants receiving per share consideration different in form or amount from that payable to any other stockholder. The plaintiffs contended that entire fairness should apply because the implications of the sponsor’s ownership of Class B founders’ shares and private placement warrants provided it with a “unique benefit” from the deal.
Vice Chancellor Will concluded that, at least for purposes of resolving a motion to dismiss, the plaintiffs had the better of the argument:
Both the Class B shares and the Private Placement Warrants held by the Sponsor would be worthless if Churchill did not complete a deal. As of the record date, the Private Placement Warrants were worth roughly $51 million and the founder shares were worth approximately $305 million, representing a 1,219,900% gain on the Sponsor’s $25,000 investment. These figures would have dropped to zero absent a deal.
Churchill’s public stockholders, on the other hand, would have received $10.04 per share if Churchill had failed to consummate a merger and liquidated. Instead, those that did not redeem received Public MultiPlan shares that were allegedly worth less. In brief, the merger had a value—sufficient to eschew redemption—to common stockholders if shares of the post-merger entity were worth $10.04. For Klein, given the (non-)value of his stock and warrants if no business combination resulted, the merger was valuable well below $10.04. This is a special benefit to Klein.
The Vice Chancellor also said that because of the sponsor’s ownership of the nominally priced founders’ shares, it was incentivized to discourage redemptions if the deal was expected to be value decreasing, as the plaintiffs alleged. Accordingly, she concluded that the entire fairness standard should apply to the plaintiffs’ fiduciary duty claims against the sponsor and the other company insiders.
Vice Chancellor Will also concluded that the plaintiffs’ allegations were sufficient to support unexculpated fiduciary duty claims against the SPAC’s directors, and that those were subject to review under the entire fairness standard as well.
Disclosure schedules have been the bane of junior M&A lawyers’ existence for decades, but to my knowledge, there hasn’t been much case law addressing them in depth. Vice Chancellor Glasscock’s recent decision in The Williams Companies v. Energy Transfer Equity, (Del. Ch.; 12/21), fills that gap and provides some important interpretive guidance for lawyers involved in drafting and negotiating disclosure schedules and the contract terms to which they relate.
The decision is the latest installment of the long-running litigation between the two companies arising out of their aborted 2016 merger. The deal was complex, and the facts of the case are labyrinthine, but the issue that implicated the agreement’s disclosure schedules was whether a $1 billion preferred unit offering that ETE engaged in while the deal was pending violated its obligations under the agreement’s ordinary course and interim operating covenants.
Section 4.01(b) of the merger agreement set forth a list of covenants that ETE agreed to abide by between signing and closing of the deal. Those included an obligation to operate its business in the ordinary course, to refrain from issuing additional securities or taking actions that would restrict its ability to pay dividends, and to refrain from amending its partnership agreement or other organizational documents.
As is usually the case, the parties negotiated a series of exceptions to these restrictions. During the drafting process, they were originally included in the relevant covenants themselves, but due to confidentiality concerns, the carve-outs were moved to the disclosure schedule at the last minute. Ultimately, the lead-in paragraph of Section 4.01(b) included a statement obligating ETE to comply with each of the covenants, “Except as set forth in Section 4.01(b) of the Parent Disclosure Letter.”
That disclosure letter included a carve-out permitting ETE to issue up to $1 billion of its equity securities. It ultimately did so, but Williams contended that the exception in the disclosure letter only applied to the limitation on issuances of additional securities and was not a blanket carve applicable to other obligations that might be violated by ETE’s actions, including those relating ants relating to dividend restrictions and amending org docs. In support of that position, Williams noted that the disclosure letter itself was organized under specific subheadings identifying the covenant to which the exception was to apply. But the agreement also contained the following language, which probably looks pretty familiar to most of you:
[A]ny information set forth in one Section or subsection of the Parent Disclosure Letter shall be deemed to apply to and qualify the Section or subsection of this Agreement to which it corresponds in number and each other Section or subsection of this Agreement to the extent that it is reasonably apparent on its face in light of the context and content of the disclosure that such information is relevant to such other Section or subsection[.]
ETE contended that this language meant that an exception set forth in the disclosure letter applied to any covenant in the agreement that is “logically related to” the covenant that it specifically addresses.
Vice Chancellor Glasscock decided that the merger agreement’s language was ambiguous, and so looked to extrinsic evidence of the parties’ intent concerning the scope of the securities offering carve-out. Among other things, he noted the late move of the carve-outs from the specific covenants themselves to the disclosure schedule, and testimony that this was not intended to result in substantive changes to their meaning. VC Glasscock also concluded that ETE’s interpretation of the language concerning the application of the disclosure letter to other covenants was overbroad. Here’s an excerpt from his discussion of that topic:
I find that the plain meaning of the provision—that contract language shall apply cross-sectionally where it is reasonably apparent on its face that the language is relevant cross-sectionally—excuses actions that would otherwise breach covenants where facially necessary to permit the activity provided by the provision—that is, where absent cross-sectional applicability an inconsistency in the contractual terms would result.
For example, another exception under the “Section 4.01(b)(v)” header in the Parent Disclosure Letter allows ETE to “acquire units in any of its Subsidiaries in an amount up to $2.0 billion in the aggregate.” It is “reasonably apparent on [the] face” of this exception that it must cross-apply to the covenant in Section 4.01(b)(iv) of the Merger Agreement, which states that ETE may not “purchase, redeem or otherwise acquire any shares of . . . its Subsidiaries’ capital stock or other securities.” Otherwise, the exception would have no meaning.
Accordingly, the Vice Chancellor concluded that ETE could have undertaken an equity issuance pursuant to the exception that complied with each of the covenants that Williams contended that it violated, and that because it could have complied with those covenants without the application of the exception, its relevance to the covenants was not facially apparent. Ultimately, the Vice Chancellor concluded that ETE breached its obligations under the covenants in question, and that as a result, Williams was entitled under the agreement to reimbursement for a $410 million termination fee that it had paid to get out of another deal in order to enter into its deal with ETE.
As is often the case, there is a lot more going on in this decision than I can cover in a blog. In that regard, Vice Chancellor Glasscock’s opinion includes an extensive discussion applying the Delaware Supreme Court’s recent decision in AB Stable concerning the meaning of an “in all material respects” compliance standard for interim covenants to the specific facts of this case.
I doubt I’ll ever replace Serial or This American Life on anybody’s playlist, but I’ve decided to give podcasting a shot. We’re calling what I hope will be a series of podcasts “Deal Lawyers Download.” The idea is to find some folks in the M&A business who are willing to spend 15 minutes sharing a little bit about themselves, the work they do, legal and business issues they find interesting, and anything else they’d like to talk about. Check out our inaugural podcast – “My Brother the Deal Guy.”
Yeah, that’s right – I interviewed my brother. Since this is my first foray into hosting a podcast & I had never used our new podcasting service before, I wanted to avoid embarrassing myself too much, so my brother Jim seemed to be the safest option. But I also think you’ll find him to be an interesting guy.
Jim’s been doing deals for over 30 years. During most of that time, he practiced in a mid-sized law firm, but he recently became GC and VP of Corporate Development for Transcat, a Nasdaq listed company, where he’s been heading up their M&A initiatives. He’s also a director of another Nasdaq-listed company and a SPAC.
And yes, we also discuss which one of us our mom likes best. Check it out! If you’d like to do a podcast, please feel free to reach out to me. As the first paragraph suggests, I’m wide open when it comes to topics – legal or market developments, best practices, war stories, tips on handling deal issues, interesting side gigs, or anything else you think might be of interest to our community are all fair game. I’m hoping this won’t turn out to be a one-off event, but I guess that depends on how interested you folks are in having a chat with me.
Not surprisingly, it’s been kind of quiet in Delaware this week, but that gives me a chance to blog about an interesting recent busted deal decision from the Ontario Superior Court of Justice. In Cineplex v. Cineworld, (Ont. Sup. Ct. 12/21) the Court was confronted with the target’s claim for damages arising out of the buyer’s termination of an acquisition agreement.
The buyer in this case claimed that its termination was justified because the target’s actions in response to the onset of the pandemic violated the agreement’s ordinary course covenant. Yeah, I know that sounds familiar, but Delaware and Ontario part company on how to interpret the relationship between an agreement’s ordinary course covenant and its MAE clause. AB Stable says that those provisions involve separate & distinct obligations that should be read independently of each other. In contrast, a late 2020 Ontario Superior Court decision says that they should be read in tandem and in light of the deal’s overall approach to risk allocation.
Ontario’s position is more favorable than Delaware’s if you’re a target that’s negotiated a pandemic carve in a deal’s MAE provision. This excerpt from Blakes’ memo summarizing the Cineplex decision indicates that the Ontario precedent on how to interpret the two provisions was central to the Court’s analysis of the case:
After reviewing the jurisprudence, the Court accepted Cineplex’s argument that the ordinary course covenant must be read in the context of the whole Arrangement Agreement in which systemic risks, including adverse impacts on the business arising from “outbreaks of illness,” were allocated to the purchaser. The Court, thus, interpreted the ordinary course covenant in a way that would not negate the parties’ allocation of the risk of a pandemic to Cineworld.
In interpreting the Arrangement Agreement, the Court held that the operating covenant required Cineplex to both operate in the ordinary course of business and take reasonable steps to maintain and preserve its business. The Court said that Cineworld considered only the first part of the operating covenant and not the second.
The Court concluded that Cineplex’s responses were “temporary” in nature and were consistent with Cineplex’s use of “cash management tools to manage its liquidity in the past.” These reactions by Cineplex, including the deferral and spending reductions to preserve cash, helped preserve the business that Cineworld had purchased.
The Court held that the buyer was not justified in terminating the agreement and had breached its contractual obligation to acquire the target. The Court then turned to the damages claim. Here’s what Blakes had to say about that part of the opinion:
Cineplex submitted that it should be entitled to recover the difference between the value of Cineplex shares on the termination date and the C$34 deal price, a measure of damages that would have resulted in a C$1.32-billion award. The Court rejected this submission on the basis that such losses were those of the shareholders, who were not parties to the Arrangement Agreement. It noted that the shareholders constituted only third-party beneficiaries for purposes of collecting the agreed consideration for a completed transaction, not for purposes of any claims for breach of the Arrangement Agreement if Cineworld failed to close.
However, the Court accepted Cineplex’s alternative submission that damages should be awarded equal to the discounted present value of the expected synergies that Cineplex would realize as a result of the combination with Cineworld.
The buyer argued that the deal’s synergies would have ultimately been for its own benefit as the buyer of the target. The Court rejected that argument, noting the synergies were among the benefits the target would have itself realized, and that evidence submitted by both parties indicated the purchase price reflected the anticipated synergies associated with the deal. It ultimately awarded the target a whopping C$1.24 billion in damages – essentially putting it in about the same place it would have been if the Court had accepted its initial argument on how damages should be calculated.