From Kevin Miller of Alston & Bird: In this transcript of a hearing on a motion to expedite discovery and the scheduling of a preliminary injunction hearing in Steamfitters v. , Delaware Chancellor Chandler concluded that, based on the parties’ briefings and arguments, he did not believe that the disclosure of the target’s free cash flows would meaningfully alter the total mix of information that is available through the definitive merger proxy.
In so doing, Chancellor Chandler distinguished the facts presented from the facts in Vice Chancellor Strine’s recent Maric decision and earlier Netsmart decision, but expressed an appreciation and understanding of the plaintiff’s arguments “that Delaware law ought to require as a per se rule that free cash flow estimates going out into the future be provided, disclosed” and invited the plaintiff to file an interlocutory appeal to the Delaware Supreme Court:
I would be, in the interests of clarification of Delaware law, and in the interests of perhaps leading to the creation of a bright-line rule in disclosure, which I think would be a good thing in some ways — I would be happy, Mr. Liebesman [plaintiff’s counsel], to sign, today, an order certifying an interlocutory appeal to the Delaware Supreme Court on this question.
The spectrum of views expressed by the Delaware Courts creating the present uncertainty include:
A. Disclosure of projections is not generally required:
– Skeen (Del. Sup. Ct. 2000) (in which the Delaware Supreme Court considered and rejected a claim that the Board of House of Fabrics breached its fiduciary duties by failing to disclose (i) management’s projections and (ii) a summary of the methodologies used and the ranges of values generated by the financial analyses performed by its financial advisor):
Appellants are advocating a new disclosure standard in cases where appraisal is an option. They suggest that stockholders should be given all the financial data they would need if they were making an independent determination of fair value. Appellants offer no authority for their position and we see no reason to depart from our traditional standard.
[plaintiffs] say, in essence, that the settled law governing disclosure requirements for mergers does not apply, and that far more valuation data must be disclosed where, as here, the merger decision has been made and the only decision for the minority is whether to seek appraisal. We hold that there is no different standard for appraisal decisions.
– Best Lock (C Chandler 2001):
[T]he plaintiffs contend that the Information Statement contains misrepresentations about the financial data supplied to Piper by the management of the Best Companies and also fails to disclose that data. . . . Delaware courts have held repeatedly that a board need not disclose specific details of the analysis underlying a financial advisor’s opinion. Moreover, even if such facts were required to be disclosed, this information would not have altered significantly the total mix of information available to shareholders. . . . Accordingly, the motion to dismiss with regard to these claims is granted.
B. Projections are per se material and the disclosure of projections is consequently required:
– Netsmart (VC Strine 2007):
It would therefore seem to be a genuinely foolish (and arguably unprincipled and unfair) inconsistency to hold that the best estimate of the company’s future returns, as generated by management and the Special Committee’s investment bank, need not be disclosed when stockholders are being advised to cash out. . . . Indeed, projections of this sort are probably among the most highly prized disclosures by investors. Investors can come up with their own estimates of discount rates or (as already discussed) market multiples. What they cannot hope to replicate are management’s insisted view of the company’s prospects.
– Maric (VC Strine 2010):
in my view, management’s best estimate of the future cash flow of a corporation that is proposed to be sold in a cash merger is clearly material information.
C. Disclosure of projections was not required under the circumstances presented as distinguished from other circumstances addressed by the Chancery Court:
– CheckFree (C Chandler 2007):
Although the Netsmart Court did indeed require additional disclosure of certain management projections . . . the proxy in that case affirmatively disclosed an early version of some of management’s projections. Because management must give materially complete information “[o]nce a board broaches a topic in its disclosures,” the Court held that further disclosure was required. . . . Because [the CheckFree] plaintiffs have failed to establish that management’s projections constitute material omitted information, they have failed to demonstrate a likelihood of success on the merits of their claim and, therefore, I deny their motion for a preliminary injunction on this ground.
– Steamfitters (C Chandler 2010):
But this isn’t a case where free cash flow estimates were deliberately removed or excised from a proxy disclosure. Unlike in Maric, in this case no free cash flow estimates were actually provided to Goldman Sachs. The internal analyses that were approved by management for Goldman’s use in this case didn’t have a line item for free cash flow estimates, and so unlike the Maric decision, there was no deliberate excising of free cash flow numbers. And in addition, this isn’t like Netsmart, where management undertook to disclose certain projections but then disclosed projections that were actually stale and not, therefore, meaningful. The proxy here gave management’s projections that were actually used by Goldman, and those projections included net revenue, net income, EPS and EBITDA estimates for five years.
Here is news from this Gibson Dunnmemo: On August 19th, the DOJ and FTC issued revised Horizontal Merger Guidelines. The release of the 2010 Guidelines marks the first major changes to the Guidelines in over 18 years; they will replace the 1992 Guidelines (which were subsequently amended in 1997).
In announcing the release of the 2010 Guidelines, Christine Varney, Assistant Attorney General in charge of the DOJ’s Antitrust Division, explained that the revisions were meant to “provide more clarity and transparency” into how the federal antitrust agencies evaluate the likely competitive impact of mergers and were intended to “provide businesses with an even greater understanding of how [the agencies] review transactions.” The FTC vote approving the 2010 Guidelines was 5-0. Chairman Leibowitz issued a written statement, noting that “the new Guidelines provide a clearer and more accurate explanation to merging parties, courts, and antitrust practitioners of how the agencies review transactions.”
The guidelines explicitly anticipate that revisions will be required “from time to time to reflect changes in enforcement policy or to clarify aspects of existing policy.” There has never been such a long interval between major guidelines updates since they were first issued in 1968. Thus, it came as little surprise when, in September 2009, the DOJ and FTC announced that they would jointly explore whether the guidelines should be revised. A series of workshops followed, and the FTC issued proposed revisions for public comment on April 20, 2010.
Like the prior guidelines, the 2010 Guidelines purport to describe the analytical process that the U.S. antitrust enforcement agencies use to investigate and decide whether to challenge proposed horizontal mergers and acquisitions. As the title denotes, the guidelines address only horizontal mergers (i.e., transactions between competitors or potential competitors). They do not address possible vertical issues, which may arise in mergers between firms that do not compete, but operate at different levels within the same supply chain. Nor do the 2010 Guidelines address or modify potential reporting requirements under the Hart-Scott-Rodino (“HSR”) Act. As was the case with previous versions of the guidelines, the 2010 Guidelines apply regardless of whether the transaction is HSR reportable and whether or not the deal has closed.
From Kevin Miller of Alston & Bird: In Shandler v. DLJ Merchant Banking, a recent decision of the Delaware Court of Chancery, the Chancery Court refused to apply the choice of law provision in an investment bank’s engagement letter to a claim alleging that the investment bank had aided and abetted a breach of fiduciary duty.
Noting that the choice of Ohio law would have been outcome determinative (Ohio law does not appear to recognize claims for aiding and abetting a breach of fiduciary duty, and the application of Ohio law would have required the dismissal of that claim against KeyBanc), the Delaware Chancery Court held that:
“the mere fact that any contractual or malpractice obligations KeyBanc owed to Insilco were governed by Ohio law does not give Ohio a stronger interest in[sic] Delaware as to an aiding and abetting claim. When the claim against a third-party is that it was knowingly complicitous in a breach of fiduciary duty against a Delaware entity, Delaware’s interest is paramount. Because Delaware has the strongest interest, because our law recognizes aiding and abetting claims, and because the complaint clearly states such a claim against KeyBanc. . . , its motion to dismiss is denied.”
While not cited by the Shandler Court, § 187(2) of the Restatement (Second) of Conflict of Laws would appear to provide the appropriate basis for resolving this issue. In pertinent part, § 187(2) of the Restatement provides that:
“The law of the state chosen by the parties to govern their contractual rights and duties will be applied, even if the particular issue is one which the parties could not have resolved by an explicit provision in their agreement directed to that issue, unless . . . (b) application of the law of the chosen state would be contrary to a fundamental policy of a state which has a materially greater interest than the chosen state in the determination of the particular issue and which, under the rule of § 188, would be the state of the applicable law in the absence of an effective choice of law by the parties.”
However, where Courts, applying § 187(2) of the Restatement, have determined that the application of the law of the chosen state would be contrary to fundamental policy of a state with materially greater interest, they have typically relied on an express statutory provision of the state whose laws would otherwise be applicable that application of the law of the chosen state would violate a fundamental policy (e.g., finding that an indemnification provision in a construction contract providing indemnification for a party’s own negligence was contrary to a fundamental policy of the state with a materially greater interest where a statute of the state with a materially greater interest specifically prohibited such indemnification in construction contracts). Absent a statute declaring a contractual provision against public policy and/or null and unenforceable, it is not clear that a Court, applying § 187(2) of the Restatement, would find such provision sufficiently repugnant to a fundamental state policy.
In Shandler, it is not clear that, applying § 187(2) of the Restatement, the application of Ohio law would be contrary to a fundamental policy of the State of Delaware:
– while Section 102(b)(7) of the DGCL does not permit a Delaware corporation’s charter to exculpate its directors for breaches of their duty of loyalty or for acts or omissions not in good faith or which involve intentional misconduct, no Delaware statute prohibits a Delaware corporation from exculpating its financial advisors or other independent contractors for aiding and abetting such breaches;
– Section 145 of the DGCL only limits the power of a Delaware corporation to indemnify directors, officers, employees and agents of the corporation, not its financial advisors or other third party consultants;
– Many merger agreements contain provisions pursuant to which the buyer agrees to indemnify a Delaware target’s board of directors for a variety of claims, including claims with respect to which the Delaware Target could not provide exculpation (e.g., “The proxy specifically states that Caremark’s directors will be indemnified not only “to the same extent such individuals are indemnified pursuant to Caremark’s certificate of incorporation and bylaws” but also “to the fullest extent permitted by law . . . .” This conjunctive language suggests an intent to grant indemnity in excess of that already offered by Caremark.”;
– Delaware law permits sophisticated parties such as parties to an LLC Agreement to agree to extremely broad exculpatory provisions which can cover breaches of the duty of loyalty by fiduciaries; and
– in Shandler, the plaintiff Trustee stood in the shoes of one of the sophisticated parties that entered into the contract containing the Ohio choice of law provision.
Refusing to enforce such a choice of law provision, permits a sophisticated party to effectively sandbag its counterparty by depriving the counterparty of the benefits of a contract otherwise governed by the laws of its home state for which it bargained even where the contractual provisions at issue are not void or voidable under the laws of a state the sophisticated party later argues has a materially greater interest.
Citing “decades of settled law,” the Delaware Court of Chancery last week upheld the validity of a standard shareholder rights plan and affirmed the continuing relevance of rights plans to address not only threatened takeovers but also acquisitions of substantial, but not controlling, positions. Yucaipa Am. Alliance Fund II, L.P. v. Riggio, C.A. No. 5465-VCS (Del. Ch. Aug. 11, 2010).
The case involved a dispute between funds controlled by activist investor Ronald Burkle and the bookseller Barnes & Noble, Inc. In late 2008, Burkle acquired an 8% stake in Barnes & Noble and met with its founder and largest shareholder in March 2009 to promote his ideas for strategic changes in the company’s policies. When Barnes & Noble declined to accept the suggestions and later completed an acquisition over Burkle’s objections, Burkle dramatically increased his stake in the company, amassing a 17% position in a matter of days in November 2009 and noting in the corresponding 13D filing the possibility of acquiring more shares or even effecting a change of control.
In response, Barnes & Noble adopted a rights plan that triggered when any stockholder acquired beneficial ownership of more than 20% of the company’s shares.
As is customary, a stockholder’s beneficial ownership was defined to include the shares of any person with whom the stockholder had agreements or understandings respecting acquiring, holding, voting, or disposing of Barnes & Noble shares. The plan grandfathered the company’s founder, who held a 29% stake, but would trigger if he acquired additional shares. Barnes & Noble stated that it intended to submit the rights plan for shareholder ratification within 12 months of adoption. The board later rejected Burkle’s request to increase the trigger threshold to 37% to equal the aggregate ownership of Barnes & Noble’s founder, management, and employees.
Vice Chancellor Strine rejected Burkle’s challenge to the board’s adoption of the rights plan, including the 20% triggering threshold, holding that the defensive action was a reasonable and proportionate response to the threat Burkle posed. Finding that “the board had a reasonable basis to conclude that Burkle was potentially planning to acquire a controlling stake in Barnes & Noble, or form a governing bloc with another large stockholder,” the Court held that “the board could reasonably conclude that [Burkle] should deal with the board in the first instance” to protect the interests of the company’s public shareholders. The Court further held that the rights plan did not “unreasonably inhibit the ability of [Burkle] to run an effective proxy contest.”
To the contrary, given the “influence over the vote” of proxy advisory firms such as RiskMetrics, the Court found that the plan left Burkle a realistic opportunity to wage a successful proxy contest by nominating a qualified slate and articulating the reasons why his vision for the company is meritorious. Vice Chancellor Strine rejected Burkle’s argument that a traditional rights plan was an unreasonable response in view of the protections already provided by Barnes & Noble’s classified board, given the influence that electing even one-third of the board would provide to the activist shareholder, as well as “the reality . . . that even the combination of a classified board and a rights plan are hardly show-stoppers in a vibrant American M&A market.” Nor, the Court held, could the plan be attacked for improperly interfering with corporate voting rights, as it neither “disenfranchise[d] any stockholder in the sense of preventing them from freely voting [nor] prevent[ed] a stockholder from soliciting revocable proxies.”
The Court also rejected Burkle’s argument that the plan’s definition of “beneficial ownership” was unworkably ambiguous because it might hypothetically be triggered by discussions among large investors. Ruling that “[a] corporate board is not required to conjure up every hypothetical situation imaginable and reduce it to writing in order to create a plainly drafted rights plan,” Vice Chancellor Strine reaffirmed that a rights plan could properly prevent dissident shareholders, who collectively own shares in excess of the triggering threshold, from working together to run a proxy contest. Another large investment firm, which the Court said frequently followed Burkle in his investments, had contemporaneously acquired a 17% stake in Barnes & Noble. In light of this, the Court concluded that the Barnes & Noble board was entitled to take:
reasonable, non-preclusive action to ensure that an activist investor like [Burkle] did not amass, either singularly or in concert with another large stockholder, an effective control bloc that would allow it to make proposals under conditions in which it wielded great leverage to seek advantage for itself at the expense of other investors. Precisely by cabining [Burkle] at a substantial, but not overwhelming, level of voting influence, the board preserved for itself greater authority to protect the company’s public stockholders.
Like the Court of Chancery’s recent decision in Selectica (which is now pending before the Delaware Supreme Court on appeal), the Yucaipa decision demonstrates once again that the Delaware courts are willing to uphold the use of a rights plan to deter open market accumulations of stock above the threshold set by the plan. While it is too early to know whether the Yucaipa decision will also be appealed to the Delaware Supreme Court, the press release that Burkle issued following the decision indicates that, at least for now, Burkle plans to focus on his proxy contest to replace the three Barnes & Noble directors up for election at this year’s annual meeting and to approve a shareholder proposal asking the board to increase the rights plan threshold from 20% to 30%.
Recently, PricewaterhouseCoopers released its U.S. mid-year M&A forecast which provides analysis on key drivers and challenges for M&A activity throughout the remainder of 2010. Among other things, the study found that U.S. M&A activity was down three percent compared with the same period in 2009. The number of closed deals in the first half of 2010 represents the lowest deal volume this decade, according to PwC. For the first five months of 2010, there were 2,969 closed deals representing $317 billion, compared with 3,065 deals valued at $323 billion in the same period of 2009.
This July-August issue of the Deal Lawyers print newsletter was just sent to the printer and includes articles on:
– Will Mandatory Shareholder Approval of Golden Parachutes Dull Their Luster?
– Mini-Tender Offers: More Frequent – No Less Troubling
– Latest Developments in Use of Top-Up Options
– Blood in the Water? Use of Delaware’s Two-Record Date Statute May Provide Flexibility, But Can Also Expose a Weak Hand
– Delaware Protects Attorney-Client Privilege for Investment Banker Communications
– Leveraged Acquisitions: A New Post-Credit Crisis Structure
– Delaware Court of Chancery Announces New Rules for Controlling Shareholder Freeze-Out Transactions
As noted in this Morrison & Foerstermemo, two recent decisions by United States federal courts serve as useful reminders to companies and their advisors of the rules regarding disclosure of merger negotiations. While the cases do not enunciate new law, they do provide several useful illustrations of circumstances where disclosure is, and is not, required.