You know how one of the big trends in M&A litigation in recent years has been its migration from state to federal courts? This Woodruff Sawyer blog says that there’s some traffic heading in the other direction – at least when it comes to stock deals. Apparently, several plaintiffs have recently brought claims under Section 11 of the Securities Act in state courts against buyers in stock-for-stock mergers.
Bringing ’33 Act claims in state courts has become a bit of a cottage industry in recent years, and that industry got a boost from the Supreme Court’s Cyan decision, which upheld state court jurisdiction over ’33 Act claims. Those claims have typically arisen in connection with IPOs, but this excerpt says several state court Section 11 actions have been filed in connection with M&A deals:
Until now, we’ve considered Section 11 cases filed in state court to be mostly a problem for IPO companies. That’s because IPO companies don’t typically have a lot of shares trading other than the shares issued pursuant to the registration statement. For that reason, it’s not hard for plaintiffs to be able to trace back IPO company shares (including shares issued in a follow-on offering pursuant to a registration statement shortly after the IPO) to a registration statement. However, it’s much harder to do that for the more mature public companies since there are a lot of shares in the float, making the tracing requirement to a particular registration statement much harder to meet.
But we’ve now seen in the data Section 11 suits brought by plaintiffs in state court against three different mature public companies:
– Micro Focus International. Ribeiro v. Micro Focus International. (County of San Mateo, Calif.; filed March, 28, 2018.)
– Dentsply Sirona, Inc. (formerly Dentsply International, Inc.). Castronovo v. Dentsply Siorna, Inc. et al (County of New York; filed June 7, 2018.)
– Colony Capital, Inc. Two suits in two separate states. Bumgardner v. Colony Capital (County of Los Angeles; filed July 5, 2018) and Houser v. CenturyLink, Inc. (County of Boulder, Colo.; filed June 12, 2018.)
The reason is mergers and acquisitions. In each case, the buyer used its stock as currency and issued shares to the seller shareholders pursuant to a registration statement. Then the stock price declined below the registration statement price.
As the excerpt notes, one of the traditional problems plaintiffs in a Section 11 case have had to overcome is the need to trace their shares to a particular registration statement. But cases in which the buyer’s stock drops shortly after a merger involving the issuance of registered shares make it easier for the target’s shareholders to satisfy this requirement.
Companies finding themselves (and their directors) as defendants in state court ’33 Act cases face some real disadvantages in comparison to federal court defendants. The blog points out that the pleading standards are often lower and there’s no automatic stay pending a dismissal motion as there is in federal court actions subject to the PSLRA. While the impact on M&A litigation remains to be seen, these disadvantages have led to higher settlement payments in state court IPO cases.
This PwC memo addresses a number of topics surrounding M&A cybersecurity due diligence. One segment discusses some specific mechanisms that may be employed to reduce the buyer’s risk in this area. This excerpt addresses the use of a transition services agreement for cyber-risk mitigation:
Further protection for acquirers can come through transition services agreements (TSAs). TSAs are common in deals, but they only recently have started covering cybersecurity issues. Through a TSA, an acquirer and target can negotiate how the target will manage cybersecurity during the transition and the conditions under which the responsibility will shift to the acquirer. The latter can be crucial if due diligence has revealed any significant cyber issues that could decrease deal value.
The memo also highlights the importance of mining other intelligence beyond that available through a due diligence request in order to assess cyber-risk. In particular, it suggests reaching out to information sharing organizations:
Broader intelligence on cyber issues is available through information sharing and analysis centers and organizations (ISACs and ISAOs). These groups allow companies to share with each other information on digital threats and ways to combat them. ISACs originally were created in a few industries, most notably financial services and aerospace and defense. ISAOs build on the concept by spanning sectors to share expertise and experiences among broader communities of interest.
Tune in tomorrow for the webcast – “GDPR’s Impact on M&A” – to hear Davis Polk’s Avi Gesser and Daniel Foerster discuss the implications of the EU’s General Data Protection Regulation for M&A transactions. Please print out these “Course Materials” in advance…
This Bass Berry blog reviews some of the complexities associated with using public company stock as an acquisition currency in a private company acquisition. This excerpt deals with the maze that buyers have to navigate if they want to issue registered shares in the deal:
– A pubco issuer considering the possibility of filing a new registration statement in connection with an acquisition must consider not only the expense and timeline associated with filing a registration statement, but must also consider whether the filing of a new registration statement will trigger the requirement to file financial information regarding such pubco issuer which would not otherwise be required in the absence of such a filing.
– If a pubco issuer wishes to register the issuance of stock in connection with an acquisition, this issuance must be registered on a Form S-4 (or Form S-1). In this regard, a Form S-4 is not automatically effective on filing (unlike a Form S-3 for WKSIs). For a company that regularly issues stock in acquisition, an S-4 registration statement may, however, effectively function as an “acquisition shelf,” in that it can be used to register securities for future issuance in connection with acquisitions on a delayed basis.
– Companies may also register the resale of stock issued to targetco equity holders in an acquisition on Form S-3. For example, this may occur if the acquisition agreement requires the parties to enter into a registration rights agreement in favor of the targetco equity holders. In this scenario, the stock must be issued in a valid private placement; however, registering the resale of stock allows the stock to be resold by non-affiliates without being subject to the Rule 144 holding period noted above.
The blog also touches on a number of other legal issues, including disclosure considerations, factors that may make a private placement more or less viable, reverse due diligence issues, and the structure of the acquisition agreement.
There’s a staggering amount of money sitting in family offices, and private equity funds see those investors as an attractive source of funding. But in an increasingly competitive fundraising market, how can PE funds best position themselves to access family office capital?
According to this Nixon Peabody blog, tapping into family office capital depends on preferred access & effective communications. Here’s an excerpt:
Preferable means of access include specialized forums and working through professionals, such as high-end lawyers and accountants and retained intermediaries. However, there is room for significant growth when it comes to inroads to family offices. Research suggests that family offices are struggling to identify and motivate professionals to provide vetted introductions. The private equity funds that are taking the initiative to sensitively market to these potential investors, such as by leveraging thought leadership content, are reaping the benefits of their efforts. Firms need to give careful and creative thought as to their avenues to this attractive source of capital.
Once a private equity fund gets the introduction, however, it must be attentive to how best to communicate the value of the investment to the family office. The pitch that has been compelling to countless other investors may well be lost on the family office. The conversation must be geared to this specific audience in order to maximize the success of the messaging. Therefore, understanding how family offices think of value is critical to tailoring this presentation. Critically, traditional thinking may not make the grade.
What that last sentence means is that many family offices don’t think about their portfolios in traditional ways. Family offices that are making direct investments often have longer time horizons & seek greater returns than typical private equity funds. Bearing this information in mind may help a private equity fundraiser to have the conversation around investment in a manner that is responsive to the way that a family office investor sees value.
This Schulte Roth study reports the results of a survey of activist investors about their experience with shareholder activism & their expectations for activity over the next 12 months. Here are some of the key findings:
– 33% of activists believe that activism is becoming crowded in the U.S. and targets are becoming increasingly hard to find.
– The median number of campaigns that respondents expect to launch in the next 12 months is 3.
– 75% of respondents expect the assets allocated to activist strategies to increase”significantly” (25%) or “somewhat” (50%) over the next 12 months.
– 72% of respondents expect to raise “some” or “a lot” of new capital over the next 12 months.
– 80% of respondents disagree (72%) or strongly disagree (8%) that increased engagement by institutional investors with portfolio companies will decrease the role of activist investors.
– The U.S. remains the most popular market for activism, with 85% of respondents seeing some (51%) or a lot (34%) of opportunity for shareholder activism over the next 12 months
The survey says that activists see the greatest opportunity over the next 12 months at the lower end of the corporate food chain, with respondents identifying micro, small & mid-cap companies as the most promising targets for activism. Interestingly, the respondents also say that key stakeholders – including institutional investors, boards, management and retail investors – have become more accepting of shareholder activism over the past 12 months.
This Akerman memo reports on the environment for private equity funds under $1 billion in size. While middle market M&A remains robust, this excerpt says that new capital for these smaller funds is getting harder to come by:
While the amount raised during H1 2018 by U.S. sub-$1B funds declined somewhat (and from a record in H1 2017), the number of such funds raised plummeted precipitously (to the lowest number since the financial crisis). Fundraising for the broader market diminished only marginally, leading the number of funds raised during H1 2018 at this smaller end of the market to account for less than 25% of funds raised in the overall market—a proportion not seen since the financial crisis. As was the case with the broader market, the fall-off in the number of funds raised was more dramatic than the fall-off in the aggregate dollars raised, reflecting a trend towards larger funds.
The memo notes that limited partners’ increasing desire to put larger amounts of capital to work efficiently has created some fundraising headwinds for these smaller funds.
One of the many conditions that Section 355 of the Tax Code imposes on spin-offs is that, immediately before the spin-off, the parent and the subsidiary must be engaged in an “active trade or business” & have been engaged in such business for at least five years. That condition ordinarily includes the collection of income, which makes it difficult for most developmental stage companies to qualify.
This Latham memo suggests that a recent statement suggests that the IRS is considering a possible change to the “active trade or business” condition that would potentially open the door for spin-offs involving developmental stage companies. Here’s an excerpt:
The recent IRS statement addresses the application of the active trade or business requirement to businesses engaged in R&D activities, regardless of whether they currently generate income. The statement notes that the IRS has “observed a significant rise in entrepreneurial ventures whose activities consist of research and development in lengthy phases,” during which no income or negligible income is collected. Despite not collecting income, these businesses expend significant financial resources and perform day-to-day operational and managerial functions — factors that the IRS notes have historically evidenced the conduct of an active business.
The memo says that IRS & Treasury are now considering issuing guidance as to whether entrepreneurial activities — such as R&D — could qualify as an active trade or business, even if those activities haven’t yet generated income. The IRS is soliciting comments on the issue, and the memo also notes that, in the meantime, it will consider requests for private letter rulings on the active trade or business requirement for corporations that have not collected income.
Earlier this year, I blogged about how some language in a recent Delaware Supreme Court decision has caused practitioners to question the long-held assumption that Delaware is, as Vice Chancellor Laster once put it, “affectionately known as a ‘sandbagging’ state.” Weil’s Glenn West has a recent blog discussing this new-found uncertainty. He suggests that parties may want to address sandbagging directly in their acquisition agreement – and includes the following model “pro-sandbagging” clause:
No Waiver of Contractual Representations and Warranties. Seller has agreed that Buyer’s rights to indemnification for the express representations and warranties set forth herein are part of the basis of the bargain contemplated by this Agreement; and Buyer’s rights to indemnification shall not be affected or waived by virtue of (and Buyer shall be deemed to have relied upon the express representations and warranties set forth herein notwithstanding) any knowledge on the part of Buyer of any untruth of any such representation or warranty of Seller expressly set forth in this Agreement, regardless of whether such knowledge was obtained through Buyer’s own investigation or through disclosure by Seller or another person, and regardless of whether such knowledge was obtained before or after the execution and delivery of this Agreement.
Glenn acknowledges that in the days before silence on the sandbagging issue became the preferred option in Delaware contracts, getting a seller to sign-on for a clause like this was like pulling teeth. What’s his recommendation for buyers in the new environment? Pull harder:
If the seller does not wish to expose itself to the vagaries of extra-contractual claims based on what the seller might have known or might have told the buyer outside the four corners of the agreement, why should the buyer? Why does the buyer’s purported knowledge of the breach of any of the seller’s express, contractual representations and warranties eliminate even the limited remedies against the seller that were bargained for by the buyer?
This November-December issue of the Deal Lawyers print newsletter was just posted – & also sent to the printers – and includes articles on:
– Akorn v. Fresenius: Delaware Chancery Court Upholds MAE-Based Termination
– Delaware Supreme Court Clarifies MFW’s Ab Initio Requirement
– Carve-Out Transactions: Negotiated Issues & Diligence Matters for Buyers
– Delaware Chancery Holds Contractual Appraisal Waivers Valid
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