Yesterday, in Goldstein v. Denner, (Del. Ch.; 5/22), the Delaware Chancery Court refused to dismiss breach of fiduciary duty claims against the officers and directors of Bioverativ arising out of the company’s 2018 sale for Sanofi. This is another one of Vice Chancellor Laster’s 100+ page opinions, so there’s certainly a lot I could talk about. But one aspect of the case that I thought would grab your attention right before a long holiday weekend was the Vice Chancellor’s refusal to dismiss claims against the company’s Chief Legal Officer based on her alleged “embellishment” of board minutes approving the sale of the company.
The complaint alleges some pretty sketchy conduct by several members of the board, including violations of the company’s insider trading policy & non-disclosure of key facts to other board members. While some duty of care claims were made against the company’s officers, most of the complaint’s allegations alleged breaches of the duty of loyalty arising out of lucrative severance benefits that they would receive in the event of a sale. When it came to the CLO, the complaint alleged that those conflicts prompted her to prepare board minutes in a way that did not reflect reality. Here’s an excerpt from Vice Chancellor Laster’s opinion:
The complaint alleges that [the CLO] took steps to create a record that would enable the Transaction to close. But rather than creating a record in the sense of creating documents that accurately reflected what had taken place, [the CLO] created a record in the sense of engaging in acts of creativity. The plaintiff alleges that [the CLO] documented events that did not occur and described other events in a manner that made the process seem better than it was.
In making these allegations, the plaintiffs pointed to discrepancies between the language of the minutes and internal emails produced in response to a books & records demand. Although acknowledging that there were “defendant-friendly” ways to reconcile the emails to the minutes, the Vice Chancellor concluded that it was inappropriate for the Court to “find facts or weigh competing inferences” at this stage of the proceeding. Accordingly, he concluded that the plaintiff had advanced a possible account in which the CLO created “an embellished description of the Board’s deliberative process,” and declined to dismiss the breach of fiduciary duty claim against her.
If you’re looking for more on this case, check out Ann Lipton’s Twitter thread on VC Laster’s holding that directors who expect repeat board positions from activists may not be viewed as independent.
This Wilson Sonsini memo highlights recent statements by senior DOJ & FTC officials that suggest that antitrust regulators are increasing their scrutiny of the private equity industry. In particular, director interlocks, roll-ups and issues surrounding private equity funds as divestiture buyers are getting a lot of attention. Here’s an excerpt on what’s caught the regulators attention about divestitures to PE buyers:
Private equity firms are often ideal buyers of assets in the context of agency-mandated merger divestitures. However, AAG Kanter recently stated that the DOJ would pay closer attention to private equity firms as divesture buyers, reasoning that “[v]ery often settlement divestitures [involve] private equity firms [often] motivated by either reducing costs at a company, which will make it less competitive, or squeezing out value by concentrating [the] industry in a roll-up.”
He added that “[i]n many instances, divestitures that were supposed to address a competitive problem have ended up fueling additional competitive problems.” Further the agencies have already made private equity purchases of divestiture assets more difficult; in November 2021, the FTC announced a rule change that requires divestiture buyers to obtain prior agency approval for at least 10 years before reselling the acquired assets, making these acquisitions less practical for private equity firms.
The memo provides some key takeaways for private equity sponsors & their lawyers when confronting these issues. It recommends that private equity firms & portfolio companies develop a compliance program to assess antitrust risk associated with potential interlocks. The added scrutiny being applied to roll-ups is a reason to involve antitrust counsel early on when assessing whether a transaction or series of transactions would be problematic. Finally, PE divestiture buyers face an uphill battle, and must be able to demonstrate the ability to operate a competitive standalone business.
One of the things that sometimes drives businesspeople up a wall about lawyers is our obsession with recordkeeping. Minutes, board and stockholder resolutions, documentation of share issuances and preparation of other corporate records loom large in most lawyers’ priorities, but for business folks, that’s often not the case. Well, the next time somebody from the business side rolls their eyes when you shove a bunch of organizational minutes for a new Norwegian subsidiary under their nose, be sure to point them in the direction of this Deloitte study, which says that failing to pay due attention to legal entity management can be very costly when it comes to M&A. Here’s an excerpt:
A company with immaculately managed books conveys a sense of order and trustworthiness. Buyers don’t have reason to question general counsel or the management team; they can see that everything is as it should be. “Better entity management gives the buyer more confidence in the organization,” according to John Easterday, a partner at Deloitte Tax LLP. If, on the other hand, a business hasn’t exercised care in maintaining its entities’ corporate records, buyers may start to wonder what else has escaped the management team’s focus—and what other problems they may be buying with this deal. In our research, 59% of respondents said that poor entity management causes buyers to question whether subsidiaries are, in fact, wholly owned by sellers.
Sloppy LEM can lead to questions that ultimately decrease confidence and trust. That’s what we heard about in the cautionary tale of a private equity firm that initially offered $47 million to buy a company. But when the private equity firm inspected the seller’s records, it found that leases hadn’t been executed properly and only half of the stock option agreements were signed. These shortcomings caused the private equity firm to question the seller so much that it ended up discounting its price.
The study says that when a buyer encounters sloppy corporate recordkeeping, it reaches one of two conclusions: either the seller’s legal team is inept, or the seller is hiding something. Neither conclusion is conducive to a successful transaction.
Earlier this month, I blogged about Chancellor McCormick’s decision in Coster v. UIP, (Del. Ch.; 5/22), in which she held that a board satisfied the Blasius standard by demonstrating a “compelling justification” to issue shares in order to resolve a shareholder deadlock. Weil’s Glenn West recently blogged about the same case, and he closed with a point that’s worth remembering:
How much easier would this have been if there had been a stockholders’ agreement in place that dictated a process for a buyout in the case of the death or divorce of a stockholder or otherwise provided for a buy-sell arrangement in the case of a deadlock. In the private equity world, the idea that there was no pre-agreed exit mechanic or a specific means of resolving deadlocks is almost inconceivable. But it does happen. Planning for death, divorce or changed business plans of your founder, who is retaining significant ownership in a portfolio company, should always be front of mind.
That’s good advice, and in hindsight, I think the parties to this lawsuit, who have been litigating the share issuance since 2018, would agree.
I’ve blogged a couple of times about some of the potential implications of the SEC’s proposed SPAC rules on the investment banks involved in SPAC IPOs & de-SPACs. Now Bloomberg Law’s Preston Brewer has published an analysis indicating that although the rule proposal hasn’t yet been acted upon by the SEC, it’s already driving many banks out of the SPAC business:
Of the many proposed rules addressing special purpose acquisition companies, Securities Act Rule 140a may prove the most problematic for SPACs. It would make an underwriter for a SPAC’s IPO also liable as an underwriter for the de-SPAC transaction if certain conditions are met—generally, if the underwriter does anything that might be construed as facilitating the de-SPAC transaction or any related financing transaction.
The proposal is causing investment banks such as Goldman Sachs, Bank of America, and Citigroup, which underwrite securities offerings, to rethink their SPAC business. Those underwriters are balking at the prospect of their potential liability—already significant—being extended beyond a SPAC’s initial IPO to subsequent financings conducted by a SPAC, including the de-SPAC merger, even if their later involvement was minimal.
Preston goes on to observe that this reticence on the part of investment banks to sign-up for the new liability scheme isn’t a bug, but likely a feature of the SEC’s SPAC proposal. That conclusion won’t come as a surprise to anyone who’s been keeping an eye on the SEC’s increasingly skeptical view of SPAC deals over the past couple of years.
In Wong v. Restoration Robotics, (Cal. App.; 4/22), a California appellate court upheld a federal forum provision in a company’s certificate of incorporation that required Securities Act claims to be filed in federal court. Although other California courts have previously upheld exclusive forum provisions, this is the first California appellate court case addressing the issue. This excerpt from a DLA Piper memo on the case reviews the Court’s reasoning:
The Court of Appeal first addressed whether federal forum provisions as a category are impermissible under the concurrent jurisdiction provision of the Securities Act or under various sections of the United States Constitution. The court ruled for defendants across the board on those issues. It held that such corporate provisions do not implicate the Securities Act’s prohibition on removal because they do not themselves remove cases to federal court; the Securities Act does not create an unwaivable right for plaintiffs to have claims adjudicated in state court; and the Delaware statutes authorizing corporations to adopt federal forum provisions do not purport to shut the doors of any state court to Securities Act cases.
The Court of Appeal then found the trial court did not abuse its discretion in finding that the federal forum provision adopted by Restoration Robotics was valid and enforceable. Applying Delaware law, the court concluded that Salzberg had settled the question of validity in the defendants’ favor. It found that plaintiff had not shown that the enforcement of the provision would be outside the reasonable expectations of the company’s stockholders, due in part to the fact that the provision “was made public in an amendment to the registration statement several weeks before the IPO, when it became effective.” For the same reasons, the federal forum provision was neither substantively unconscionable nor a contract of adhesion.
The memo goes on to point out that the most important aspect of the Court’s decision is that it has been certified for publication, and thus may be cited as precedent in other cases in California courts.
Harvard Law School profs Caley Petrucci & Guhan Subramanian recently posted an article in which they suggest some updating of the ground rules governing pills to address the challenges of sophisticated shareholder activism and the broader set of constituencies corporate boards are being asked to consider. As law review articles go, this one’s pretty short at 21 pages, and it’s definitely worth reading. Some specific recommendations include:
– Giving larger companies more tolerance on the trigger percentage for poison pills because the toehold stake is so much larger; in today’s world, what is relevant is the dollar stake an activist can acquire, not the threshold percentage (e.g., a 5% trigger in a $30 billion market cap company is probably more activist-friendly than a 10% threshold at a $5 billion market cap company).
– Third generation “parallel conduct” acting in concert provisions that include a board determination “guardrail” are not just an appropriate response to increasingly sophisticated activist attacks, but a best practice.
– “Daisy chain” language providing that stockholders are acting in concert with one another when they separately act in concert with the same third party. Without such a provision, large shareholders could evade the pill by coordinating their activities through a middleman who holds a trivially small percentage of the company.
– Definitions of beneficial ownership that address synthetic equity positions, because a pill that does not capture synthetic equity (at least with regards to synthetic equity that is morphable into shares with voting rights) would provide a yet another loophole that weakens the pill, if not rendering it virtually illusory.
The authors’ argue that these recommendations reflect an effort to balance concerns about the need to deal with sophisticated activism and multiple constituencies against the need for all shareholders, including activists, to be able to solicit support for their ideas or attempt to gain control of the company. Whatever the motivation, the article offers a spirited defense of many of the same pill features that Chancellor McCormick found objectionable in her decision in The Williams Companies case. (H/T The Activist Investor).
Elon Musk has made a career out of playing with fire and somehow avoiding getting badly burned. I guess it helps to be the richest guy in the world, but from “funding secured” to Solar City to his latest shenanigans with Twitter, Elon has blissfully trolled all comers without a lot of consequences. However, recent Delaware case law suggests that despite the limitations on liability in the Twitter merger agreement, he still might stumble into a world of hurt if he keeps trying to simply troll his way out of his deal to buy Twitter.
As I blogged previously, the Twitter merger agreement contains a fairly typical private equity style limited specific performance clause. While Section 9.9(a) of the agreement imposes full specific performance obligations on the entities Musk formed to acquire Twitter, you can’t get blood from a stone, and the ability of those entities to perform their obligations depends on the availability of the financing that’s been committed to the deal. In order to ensure that’s available, Section 9.9(b) of the agreement imposes a limited specific performance obligation on Musk to fund his equity commitment in the event that, among other things, the debt financing is in place.
Of course, Musk is now publicly angling to renegotiate the purchase price of his deal by challenging the accuracy of Twitter’s public statements concerning its percentage of spam accounts. Most people evaluating the situation seem to have concluded that Musk’s downside is limited to the $1 billion reverse breakup fee, and that may well be the case based on the language of the contract. But he’s a loose cannon, and if he doesn’t exercise a little impulse control, it’s at least possible that he could find himself with a much deeper downside.
That’s because last year, in Snow Phipps Group v. KCake Acquisition, (Del. Ch.; 4/21), the Chancery Court rejected a private equity buyer’s claim that the seller had experienced a MAE and accepted the seller’s contention that the buyer’s conduct breached its obligations under the agreement’s financing covenant, which resulted in the deal’s failure to close. Invoking the “prevention doctrine,” a common law rule that says if a party caused the other side’s failure to perform, it can’t use that failure to excuse its own performance, then-Vice Chancellor McCormick ordered the private equity buyer to close the deal, despite the fact that the contract contained only a limited specific performance clause. In other words, she essentially rewrote the contract and ordered full specific performance based on the buyer’s misconduct.
If Twitter holds the line on Musk’s attempt to renegotiate the purchase price, his next step presumably would be to try to litigate his way out of the deal by alleging that Twitter’s issues with spam accounts represented a breach of its rep in Section 4.6 of the merger agreement concerning the accuracy of information in its SEC filings. In order to avoid closing & ultimately terminate the deal, Section 7.2(b) of the agreement would require Musk to show that the failure of that rep – and any other that he threw into the mix – to be accurate resulted in an MAE.
As everyone reading this knows, proving a MAE is always tough sledding, but it’s likely to be a lot tougher when the smart money already has concluded that his alleged concerns about spambots are just a pretext. It’s also likely not helpful that Musk has been blasting accusations and other negative commentary about the company & its management all over social media with apparent disregard for the non-disparagement obligations he signed up for in Section 6.8 of the merger agreement.
What’s more, Section 6.3 of the agreement imposes an obligation on the parties to use their reasonable best efforts to consummate the deal, and Section 6.10 of the agreement is a financing covenant that imposes plenty of obligations on Musk and his entities, including an obligation to take or cause to be taken “all actions and to do, or cause to be done, all things necessary, proper or advisable to arrange, obtain and consummate” the financing arrangements for the deal.
Navigating these contractual obligations is by no means impossible, and even if Musk isn’t able to wiggle his way out of the deal or persuade Twitter to renegotiate, the most likely outcome under the contract would appear to be his payment of a $1 billion reverse termination fee to exit the deal. But Elon Musk is a guy who has demonstrated a propensity to play stupid games. If he plays stupid games with his obligations under the merger agreement, then despite what the contract says, there’s a chance that he could win some very stupid prizes in the Delaware Chancery Court.
Earlier this month, Spirit Airlines’ board rejected JetBlue’s efforts to persuade it to abandon its deal with Frontier in favor of JetBlue’s competing proposal. Yesterday, JetBlue announced that it had launched a tender offer for Spirit’s outstanding shares. Most media reports characterized the offer as “hostile,” and in a sense that’s true, because the offer certainly wasn’t welcomed by Spirit’s board. But as Ann Lipton noted on her Twitter feed, like most other unsolicited tender offers announced in recent years, this one isn’t really all that hostile. Why? Here’s an excerpt from JetBlue’s Offer to Purchase, which discusses one of the conditions to its offer:
Consummation of the Offer is conditioned upon, among other things . . . JetBlue, the Purchaser and Spirit having entered into a definitive merger agreement (in form and substance satisfactory to JetBlue in its reasonable discretion) with respect to the acquisition of Spirit by JetBlue providing for a second-step merger pursuant to Section 251(h) of the General Corporation Law of the State of Delaware (the “DGCL”), with Spirit surviving as a wholly-owned subsidiary of JetBlue, without the requirement for approval of any stockholder of Spirit. . .
That language indicates that JetBlue’s tender offer is contingent on the Spirit board authorizing it to enter into a merger agreement with Jet Blue. Legally, that’s a big deal, because while Delaware would ordinarily subject a board’s decision to resist a tender offer to heightened scrutiny under the Unocal standard, that isn’t necessarily the case when a deal is conditioned upon a merger agreement.
As we’ve discussed before, when a bidder conditions its offer on a merger agreement, the board’s decision as to whether or not to enter into that agreement generally is subject to business judgment review. Here’s an excerpt from Chancellor Allen’s opinion in TW Services, Inc. v. SWT Acquisition Corp., (Del. Ch.; 3/89):
“The offer of SWT involves both a proposal to negotiate a merger and a conditional tender offer precluded by a poison pill. Insofar as it constitutes a proposal to negotiate a merger, I understand the law to permit the board to decline it, with no threat of judicial sanction providing it functions on the question in good faith pursuit of legitimate corporate interests and advisedly.”
So, from a purely legal perspective, this offer doesn’t put a lot of pressure on Spirit’s board – its decision not to enter into a merger agreement with JetBlue will likely be evaluated under the lenient business judgment rule standard. But the legal issues are ultimately secondary here. By launching a tender offer, JetBlue may help demonstrate its bona fides to Spirit’s investors, which may in turn increase the likelihood that Spirit’s shareholders will vote against the Frontier deal and increase the pressure on Spirit’s board to consider its competing proposal.
SRS Acquiom recently released its annual M&A Deal Terms Study, which reviews the financial & other terms of 1,900 private-target acquisitions valued at more than $425 billion that closed between 2016 and 2021. Here are some of the key findings about trends in last year’s deal terms:
– The market appears to be settling on how to deal with COVID-19 or pandemic-related matters. Some data trends, such as earnouts and termination fees, are returning to pre-COVID directions, but certain effects remain. Examples include carveouts to the definition of Material Adverse Effect for COVID-related items, COVID related seller representations, and a carveout for COVID to the covenant to conduct business in the ordinary course.
– The presence of RWI can materially affect certain deal terms, including use of a separate purchase price adjustment escrow, certain seller representations, survival, sandbagging, materiality scrapes, baskets, caps, and escrows.
– A higher number of U.S. public buyers in the SRS Acquiom data set for 2021 & a dramatic increase in M&A deals using buyer stock as consideration.
– A slight decrease in the number of deals with earnouts and a larger decrease in the percentage of consideration tied to earnouts. Earnout periods also trended shorter, with the median down to 22.5 months.
– The number of “no survival” deals (both with and without RWI identified) continuds to increase, up to 26% of all deals.
As always, the study contains plenty of interesting information about closing conditions, indemnification terms, dispute resolution and termination fees.