Late Friday, the SEC posted this 370-page proposing release regarding executive compensation and related-party transaction disclosures. Reads like a novel; here are some page numbers for a handful of the many key sections of the release:
– description of change of control and termination disclosures (p. 77-79)
– description of new “Compensation Discussion & Analysis” section (pgs. 16-19)
– discussion of possible double-counting of comp (p. 24)
– introduction of revised “Summary Compensation Table” (p. 25-26)
– discussion of “Total Compensation” column (p. 27)
– discussion of Plan-Based Awards tables and use of 123R valuations (p. 30-38)
– discussion of proposed Perks requirements (p. 43)
– interpretive guidance regarding what a perquisite is (p. 46-48)
This is just the tip of the iceberg for a 370-page release; learn more about “what you need to do now” from our two imminent webcasts on CompensationStandards.com.
On the heels of our webcast on Tuesday – “Should We Merge or IPO?” – the WSJ ran this column about how start-ups backed by venture-capital investors are not going public as much (and as fast) as they used to in the “old days” of a few years ago. Here is an excerpt from that article:
“Last year, 41 start-ups backed by venture-capital investors became publicly traded U.S. companies, down from 67 in 2004 and 250 in the boom year of 1999, according to research firm VentureOne. Overall IPOs of U.S. companies also declined last year, but not as sharply, to 215, from 237 in 2004.
The drop in venture-backed IPOs isn’t just a hangover from the technology-stock bust early this decade, when bankers became gun-shy about taking small companies public. In 1995, 144 venture-backed companies went public, and 168 did so in 1992.
Venture-backed start-ups now also need more time to take the IPO plunge — more than 5½ years, on average, from the time of their first venture-capital investment, up from less than three years in 1998, says VentureOne, a unit of Dow Jones & Co., publisher of The Wall Street Journal.”
To learn more about this topic, check out the audio archive of the webcast.
Since the SEC’s Titan 21(a) Report was issued in last March, many companies filing a merger document have included a disclaimer in those filings. We have posted a number of samples of these Titan disclaimers; there are many different versions of the same basic concept. Some companies are even putting this language directly into their merger agreements.
Note that a disclaimer typically provokes a standard SEC comment, such as “Delete the disclaimer in the [_th] paragraph on page [22] as it is inappropriate to advise stockholders that they are not entitled to rely on the disclosure in the [proxy statement]).” There are Titan legends that are acceptable to the SEC Staff if they don’t disclaim shareholders’ ability to rely.
According to this press release from the investment fund plaintiff, the Delaware Court of Chancery denied a motion by Bally Total Fitness last week for expedited discovery in furtherance of the company seeking a determination that its “poison pill” has been triggered.
According to the release, the Court concluded that Bally failed to show that it would suffer irreparable harm if its motion was not granted. In addition, the Court said that Bally had waited too long to bring its motion – and that it would be unfair to subject the plaintiff to “the heavy machinery of expedited discovery” before Bally’s annual stockholder meeting, which is scheduled to take place on January 26th.
The Court’s decision arose out of a counterclaim filed by Bally shortly before midnight on January 9th in an action originally brought before the Court in December 2005 by the fund to challenge the legality of certain provisions contained in Bally’s “poison pill” plan that purport to prevent one or more stockholders collectively holding in excess of 15% of Bally’s stock from, among other things, acting in concert to run a proxy contest.
I’m not familiar with the case – but it sounds like relatively aggressive behavior that should be interesting to watch (but not precedent setting from a legal perspective). It may suggest some skepticism by the Court as to the merits of Bally’s claim. Bally’s claim (as I understand it) was a very aggressive use of the pill and one with which the Court would not lightly agree. It would have been a bigger deal had the Court granted expedited discovery.
On TheCorporateCounsel.net, I have been blogging a bit on the SEC’s upcoming executive compensation proposals, which will be voted upon next Tuesday. Here is a snippet from Mark Borge’s “Compensation Disclosure Blog” on CompensationStandards.com:
“Executive severance benefits, whether triggered by termination of employment or a change in control, may receive their own table. The WSJ indicates that companies will be required to specify a dollar figure for each named executive officer. Here, the demon is in the details – which we won’t know until next week. Depending on what the SEC expects, this disclosure could pose a real challenge for companies (for example, if an executive is entitled to a tax gross-up, will the company be required to estimate the amount of this payment?).”
As the excerpt from Monday’s Financial Times article below indicates, hedge funds are becoming active dealmakers all over the world:
In 2006, one business trend will carry great repercussions for every corporate finance chief in America, Europe and Asia: the rise of the hedge fund activist. The sturm und drang caused by the successful hedge fund-led revolt against Deutsche Borse’s planned acquisition of the London Stock Exchange in 2005 was a watershed event. The revolt led to the ousting of Deutsche Borse’s top officials and turned Chris Hohn, the manager of London-based The Children’s Investment (TCI) fund who led the opposition, into a cult figure for hedge fund managers.
“Everybody wants to be Chris Hohn now,” says one London-based hedge fund manager. Variations on the theme played out at several other US companies, including Time Warner, Blockbuster and McDonald’s. This was the year that the Chris Hohns of the world even supplanted Eliot Spitzer, New York’s crusading attorney-general, as the spook that keeps executives awake at night.
In another defining moment, the head of Germany’s Social Democratic Party compared hedge funds and other financiers to “locusts”. A better choice might have been sharks. Board-level executives would be well-served to learn more about an analogy between sharks and hedge fund managers because, like it or not, more companies will find themselves swimming with sharks in 2006.
As I blogged yesterday, a recent Delaware Chancery Court decision – In re: Tele-communications, Inc. Shareholders Litigation, – has raised significant concerns regarding whether contingent fees for advising a special committee are appropriate – and the need for a relative fairness opinion when the transaction consideration is allocated amongst classes of capital stock. Below is more analysis on this important case from Kevin Miller of Alston & Bird:
Overview
Of most concern to financial advisors, Chancellor Chandler, on defendants’ motion for summary judgment (which requires that he view the facts in the light most favorable to, and making all reasonable inferences in favor of, the plaintiffs) concluded that:
1. the contingent compensation of the financial advisor (here, $40 million) created a serious issue of material fact as to whether the financial advisor could provide independent advice to the Special Committee; and
2. the Special Committee should have examined the fairness to the holders of low vote stock of the premium being paid to the holders of the high vote stock, apparently by obtaining an opinion as to the fairness of the high vote premium to the holders of the low vote stock.
In light of this decision, financial advisors to special committees should expect to receive requests that they agree to noncontingent fees and because there can be no guarantee that a transaction will ultimately be consummated, should expect the proposed noncontingent fees to be lower than the contingent fees financial advisors might otherwise expect to receive.
In addition, if the transaction consideration is allocated amongst classes of capital stock (other than by the terms of such securities or a preexisting contract or other obligation), financial advisors are also likely to receive requests to provide opinions regarding the fairness of such allocation to the holders of one or more classes of capital stock – an issue that financial advisors have historically viewed as being outside the proper scope of a fairness opinion. The latter issue may not be restricted to situations involving a special committee.
The Facts
The case arose in connection with the 1999 merger of TCI with a subsidiary of AT&T. While on its face an arms’-length transaction, the Board of TCI formed a Special Committee to evaluate the proposed transaction because of the potential conflicts faced by members of the board resulting from their ownership of different classes of TCI capital stock.
According to the opinion, TCI had issued two classes of tracking stock – one high vote, one low vote – with respect to each of three divisions, for a total of six classes of capital stock. The terms of the proposed merger included a 10% premium payable to the holders of the high vote stock of one division as compared to the consideration payable to the holders of the low vote stock of that division. Disclosure claims and claims challenging the fairness of the transaction were brought on behalf of the holders of the low vote stock of that division.
Since a majority of TCI’s directors owned substantial amounts of high vote stock and they stood to receive a significant benefit as a result of the 10% premium at the expense of the holders of low vote stock, the court applied an entire fairness test rather than the business judgment rule. Because of the deficiencies described below (drawing all reasonable inferences in favor of the plaintiffs), the establishment of a special committee failed to shift the burden of proof back to the plaintiffs at the summary judgment stage.
Entire Opinion Issues
With respect to the entire fairness of the 10% premium payable to holders of high vote stock, Chancellor Chandler concluded that:
1. The Special Committee lacked complete information regarding the premium at which high vote shares historically traded.
2. The Special Committee failed to ascertain the relative infrequency of high vote premiums in comparable transactions.
[Note: While the court acknowledged arguments that such premium may often be foregone to, among other things, avoid litigation and that, in this case, the largest holder of high vote stock had repeatedly made it clear that absent a 10% premium there would be no transaction, the court concluded that, reasonably construing the record in the light most favorable to the plaintiffs, the Special Committee was inadequately informed. Nevertheless, many commentators will criticize the court’s apparent focus on the historical relative trading prices of a liquid low vote stock and an illiquid high vote stock and the numerous precedent transactions in which holders of high vote stock had foregone a premium even though they may have been legally and economically entitled to one (e.g., the fact that holders of high vote stock may be willing to forego a control premium to avoid litigation is not much help or particularly relevant when negotiating with a large holder of high vote stock like John Malone who adamantly insists on extracting a premium to which he is legally entitled).]
3. While TCI’s financial advisor separately analyzed the fairness of the high vote exchange ratio to the holders of high vote stock and the fairness of the low vote stock exchange ratio to the holders of low vote stock, in Chancellor Chandler’s view the Delaware Supreme Court’s decision in Levco v. Reader’s Digest required an examination of the fairness of the premium paid for the high vote stock to the holders of low vote stock, apparently by obtaining an opinion as to the fairness of the high vote premium to the holders of the low vote stock.
Note: Whether a Special Committee is generally obligated to obtain an opinion from its financial advisor with respect to the fairness of a high vote premium to the holders of low vote stock will be the subject of much debate, particularly as many financial advisors believe such normative conclusions to be outside the proper scope of a fairness opinion. The key language in the TCI opinion is: “the [financial advisor] opinion does not discuss the effect of the [high vote stock] premium upon the [low vote stock] holders, i.e., whether the [high vote stock] premium was fair to the [low vote stock] holders. Unfortunately for defendants, Levco appears to mandate exactly such an analysis: that the relative impact of the preference to one class be fair to the other….In other words, the [Special Committee in Levco] should have sought an opinion as to whether the transaction was fair to the disadvantaged class of shareholders…” Arguably all Levco actually says is that the Special Committee needed to focus on the specific impact upon the low vote shareholders of differential payment received by the high vote shareholders and that can be accomplished by reviewing a quantitative analysis well within the core competencies of a financial advisor, while leaving the normative judgment/conclusion as to the appropriateness of such allocation to the special committee and the board following a review of all relevant and reasonably available information, including, as appropriate, information on historical relative trading values and precedent transactions.
Special Committee Issues
Somewhat reminiscent of Emerging Communications, the opinion also describes a special committee process that in many respects serves as a guide on what not to do.
Among other things:
1. The Special Committee was comprised of two members, one of whom primarily held and benefited from the premium paid to the high vote stock, and did not include a third director who was economically disadvantaged by the payment of the premium to the holders of high vote stock.
2. The Special Committee members did not appear to have a clear and unambiguous mandate. One member thought the Special Committee’s assignment was to ensure that holders of the low vote stock received fair consideration and in particular to ensure that holders of low vote stock received consideration that was fair in relation to the consideration received by holders of high vote stock. The other member thought the Special Committee’s assignment was to look after the interests of all shareholders, not just the holders of high vote or low vote stock.
3. The Special Committee did not hire its own, separate advisors but instead relied upon the advice of TCI’s legal and financial advisors. Chancellor Chandler noted that this alone raised questions regarding the quality and independence of the counsel and advice received.
Note: It was in this context that Chancellor Chandler questioned the appropriateness of the financial advisor’s contingent fee. While he noted the defendants’ arguments that, from TCI’s perspective, it would not be advisable to incur a large financial advisory fee absent a successful transaction, he remained concerned that, from the Special Committee’s perspective, the “potentially misguided recommendations [of a contingently paid and possibly interested financial advisor] could result in higher costs to the Special Committee’s shareholder constituency in the event a deal was consummated.”
4. The amount or benchmarks for determining the compensation payable to the members of the Special Committee were not determined at the beginning of the process; only that the members of the Special Committee should be reasonably compensated. Instead the board approved payments of $1 million to each member of the Special Committee well after they had completed their duties. Chancellor Chandler concluded that “the uncertain, contingent, and potentially large nature of the payments, without any objective benchmarks or other measures, could have given [the members of the Special Committee] additional undisclosed financial interests in the transaction that might have affected their judgments.”
Disclosure Issues
On a more positive note, the TCI decision confirmed that Delaware law does not require merger proxies to contain a blow-by-blow description of a board’s/special committee’s deliberative process: “No Delaware decision has ever held that a more detailed description of a committee’s deliberations, either akin to the minutes of the committee, or a transcript of committee meetings, or some other description of the give and take and discussions of the committee must be disclosed in order to support a statement of “careful consideration.” Instead, the courts of Delaware have repeatedly stated that, in the context of disclosures, less disclosure is often more appropriate than more in order to avoid buying shareholders beneath a tome of impenetrable complexity and length.”
Here is the case citation: In re: Tele-communications, Inc. Shareholders Litigation, C.A. No. 16470 (December 21, 2005) – a copy of the opinion is posted in our “Fairness Opinion” and “Special Committee” Practice Areas, and that is where we will be posting the upcoming deluge of law firm memos…
This new memo from Wachtell Lipton describes a new Delaware Chancery Court case – In re TeleCommunications Shareholders Litigation – that could significantly impact how deals are done. Among other issues, the decision deals with:
– investment banker contingent fee arrangements
– how advisors are selected
– how comparable transactions are selected for fairness opinions
– the nature of fairness opinions (“relative fairness opinions”)
– who sits on special committees
– how special committee members are compensated
– special committee responsibilities and obligations
A copy of this opinion is posted in our “Fairness Opinion” and “Special Committee” Practice Areas.
Revised Proposal on Fairness Opinions
Early in December, the NASD filed an amendment to its proposed Rule 2290 with the SEC – the SEC has not yet published the revised proposal for public comment. Given that the NASD likely revised its proposed Rule in response to comments from the staff of the SEC, the rule might be adopted soon after the SEC’s comment period runs.
The revised proposal includes both disclosure and procedural changes as follows:
A. Disclosure
1. an amendment to paragraph (a) of the proposed result so that it will apply to all fairness opinions that may be provided, or described, or otherwise referenced to public shareholders, not just those “that will be included in a proxy statement”. The amendment reflects the fact that fairness opinions are technically not required to be included (thought they typically are) but merely described in SEC filings and that, in addition to proxy statements, opinions may be described or included in tender offer responses filed on 14D-9, in S-4/F-4 Registration Statements and in 13E-3 (going private) transaction statements.
2. amendments to paragraphs (a)(1) and (2) to clarify that the fee disclosures contemplated by the proposal are intended to be descriptive rather than quantitative. It will be sufficient for investors to be informed that a portion of the compensation for rendering a fairness opinion is contingent upon the completion of the transaction without necessarily quantifying the amount. Similarly required disclosures under paragraph (a)(3) regarding material relationships need only disclose the existence of the relationship, not the amount of compensation derived from each such relationship.
3. an explanatory note confirming that while Item 1015 of Reg MA promulgated by the SEC requires disclosure of material relationships with the opinion provider’s client and its affiliates, paragraph (a)(3) of proposed Rule 2290 purposely requires disclosure of material relationships with the other party to the transaction as well, but doesn’t currently cover affiliates. The NASD will review comments provided to the SEC to see whether the disclosure should be further broadened to cover affiliates of both parties to the transaction.
4. an amendment to paragraph (a)(4) to clarify that rather than relying on current boilerplate, members must disclose the “categories of information” such as projected earnings and revenues, expected cost-savings and synergies, industry trends and growth rates, etc. that formed a substantial basis for their fairness opinion and with respect to each such category, whether the member has independently verified the information supplied by the company.
5. an amendment to paragraph (a)(5) to clarify that the only required disclosure would be whether the opinion had been approved or issued by a fairness committee not that required procedures were followed.
b. Procedures
1. an amendment to paragraph (b)(2) acknowledging that appropriate procedures depend on the nature of the transaction as well as the type of company.
2. editorial amendments to paragraph (b)(3) to remove any implication that compensation received by individual officers, directors or employees, or class of such persons, is inappropriate. The revised proposed rule requires members to have a process to evaluate “whether” – and not ” the degree to which” – the amount and nature of compensation from the transaction benefits any such persons, relative to the benefits to shareholders of the company generally, is a factor in reaching a fairness conclusion.