June 18, 2007

Must-Read Decision: VC Strine Enjoins Merger Vote Topps Case

From Travis Laster: On Thursday, Vice Chancellor Strine of the Delaware Chancery Court issued an opinion in which he enjoined The Topps Company from proceeding with a meeting of stockholders to vote on a merger with The Tornante Company (controlled by Michael Eisner). The injunction required (i) supplemental disclosure regarding Eisner’s assurances that he would retain existing management and (ii) that Topps release Upper Deck, a second bidder, from a standstill agreement so that Upper Deck could communicate with Topps stockholders and launch a topping tender offer. The Vice Chancellor concluded that Topps improperly failed to waive the standstill, used Upper Deck’s status as a competitor as a “pretext,” and that the evidence “regrettably suggests that the Topps Incumbent Directors favored Eisner, who they perceived as a friendly suitor who had pledged to retain management….”

This decision is a must-read for M&A practitioners. Here are some highlights from the 67-page opinion:

1. The court validated Topps’s decision to negotiate privately with Eisner and not to conduct an auction. VC Strine observed that (a) Topps conducted a failed auction in 2005 for its confectionary business and (b) the directors engaged in a “spirited debate” on the subject. He also noted that a recent proxy contest had put potential buyers on notice: “the pot was stirred and ravenous capitalists should have been able to smell the possibility of a deal.”

2. The court recognized the value of obtaining a binding bid from Eisner (the “proverbial bird in hand”) and found that the board left itself “reasonable room for an effective post-signing market check” through the use of a go-shop provision (“For 40 days, the Topps board could shop like Paris Hilton”).

3. VC Strine validated the customary deal protection measures used by Topps – a termination fee and matching right. He observed that while matching rights are “a useful deal protection” for buyers, they have “frequently been overcome in other real-world situations.” He considered the 4.3% post-go-shop termination fee “a bit high in percentage terms” but deemed it reasonable since it included Eisner’s expenses and “can be explained by the relatively small size of the deal.” “At 42 cents a share, the termination fee (including expenses)
is not of the magnitude that I believe was likely to have deterred a bidder with an interest in materially outbidding Eisner.”

4. VC Strine sharply criticized the Topps board for having little basis on which to terminate negotiations with Upper Deck when the go-shop expired (which was permitted if Upper Deck was deemed to be an “Excluded Party”): “Upper Deck was offering a substantially higher price…. [and] the Topps board chose to tie its hands by failing to declare Upper Deck an Excluded Party in a situation where it would have cost Topps nothing to do so.”

5. Most importantly, VC Strine came down hard on Topps’s refusal to waive a standstill agreement which prevented Upper Deck from making public statements or proceeding with a premium hostile tender offer: “That refusal not only keeps the stockholders from having the chance to accept a potentially more attractive higher priced deal, it keeps them in the dark about Upper Deck’s version of important events, and it keeps Upper Deck from obtaining antitrust clearance, because it cannot begin the process without either a signed merger agreement or a formal tender offer.”

6. The court ordered supplemental disclosures to make clear that, even though management had not negotiated retention agreements, Eisner had already made clear that he planned to retain “substantially all” of Topps’s “senior management and key employees.” The court also ordered supplemental disclosures of Upper Deck’s “he-double-hockey-sticks or high water” offer to divest itself of assets to obtain antitrust approval, which the court deemed relevant since Topps cited antitrust concerns in its decision to terminate discussions. The court also chastised Topps’s financial advisors for adjusting cost of capital assumptions and shortening management’s projections from five to three years-apparently in an attempt to support Eisner’s offer. The court ordered supplemental disclosures that reflected the original and full projections.

Practitioners should note that unlike other recent decisions, such as Caremark-Express and Netsmart, Topps is not solely a disclosure injunction. VC Strine granted substantive relief regarding the standstill. Practitioners also should note (not surprisingly) that the plaintiff who obtained that relief was the topping bidder, not a stockholder plaintiff. VC Strine expressly noted that the arguments made by the stockholder plaintiffs would not have supported a Revlon injunction. Topps thus does not increase deal risk absent the presence of a meaningful topping bid.

Topps‘ ruling on the standstill provision is frankly a welcome precedent. The questions created by aggressive standstill agreements and subsequent waivers have been part of the Delaware counseling mix for some time. Without any meaningful decisions on the issue, however, concerns regarding potential fiduciary duty issues were often given short-shrift. Topps confirms that the use of standstill agreements and reliance on them to foreclose subsequent bids are areas that must be approached with particular care.