We have posted the transcript for our recent webcast: “Activist Profiles & Playbooks.”

– John Jenkins

This Locke Lord memo suggests that a recent Delaware case may be reason for PE fund representatives on portfolio company boards to take a closer look at their D&O coverage exclusions.  Here’s the intro:

In a case with implications for director and officer protections, and of particular relevance to principals of private equity firms, the Delaware Superior Court recently denied two former directors coverage under a D&O insurance policy. In Goggin v. National Union Fire Insurance Company of Pittsburgh, the Court construed a “capacity” exclusion in the policy to exclude coverage of an underlying claim that arose out of the directors’ positions as investors in the company, despite the fact that their alleged misconduct was a breach of their duties as directors and thus on its face eligible for coverage.

Goggin and Goodwin were investors in U.S. Coal Corporation beginning in 2007 and 2008, becoming directors in 2009 and remaining in that position until their resignations in 2014 and 2012, respectively. During their terms as directors, in an attempt to reinvigorate the failing U.S. Coal via debt repurchases and other recapitalization activities, they formed two investment vehicles for which they acted as manager or investor. Shortly after U.S. Coal entered bankruptcy in 2014, suit was brought alleging that Goodwin and Goggin breached their fiduciary duties and committed other acts for their own personal benefit.

The carrier disputed coverage, contending that the claim was attributable to actions taken by the directors in their capacity as investors, not as directors. The Court applied a “but for” test & held that because the fiduciary duty claims would have failed but for their roles with the investment vehicles, the carrier was off the hook. The blog notes that exclusions like these can significantly impact PE investor/directors during down round financings or in other distressed situations involving portfolio companies.

– John Jenkins

This morning, the Delaware Supreme Court will hear oral arguments in the appeal of Vice Chancellor Laster’s decision in the Aruba Networks appraisal case.  The proceedings are scheduled for 10:00 am EDT, and will be livestreamed if you’re interested in checking them out.  If you’d like to get up to speed on the case, I’ve blogged about Aruba Networks several times here and over on “John Tales” – and you should also check out this recent blog from Steve Hecht & Glen McGillivray.

– John Jenkins  

After all these years, the scariest movie I’ve ever seen remains “The Exorcist” – and I’ve seen it a lot, because one of my high school teachers had a part in it & he wasn’t shy about finding excuses to show it to us. Reading law blogs doesn’t typically send a chill down my spine like The Exorcist does, but there’s one exception – Weil’s “Global Private Equity Watch.”  Glenn West & his colleagues have a knack for coming up with scenarios involving seemingly inconsequential oversights that can turn into disasters.

This time, they’ve chosen a topic that is inherently terrifying – the perils of texts & emails.  And the blog warns that when it comes to those kinds of communications between PE Funds’ representatives on portfolio company boards, there’s a lot to be scared about.  Here’s an excerpt from the intro:

Unlike communications among the private equity firm’s professionals concerning the status and performance of its investment in a portfolio company, communications among two or more board members serving on behalf of a private equity firm regarding their actions as board members may constitute “books and records of the company” for which any other director may, with a proper purpose, demand the right to inspect under Section 220 of the Delaware General Corporation Law.

In this modern age, of course, those communications can include any of the various forms of electronic communications and social media now available, including text messages (by mobile carriers or via social media) and emails. And it matters not that those communications may have been sent through your or your firm’s phone, or on your firm’s email server or your private email account. Understanding this fact may cause some pause before pressing send on a text message to your colleague and fellow board member concerning another board member’s approach or competence in considering an appropriate course of action for the company.

Directors’ rights to inspect books & records are much broader than shareholders’ rights –  a director with a proper purpose has a virtually unfettered right to access the company’s books & records. The blog points out that in a recent decision involving the dispute between “Papa John” Schnatter & Papa John’s Pizza, the Delaware Chancery Court held that if directors use personal accounts and devices to communicate about corporate matters, they should expect to produce such information to the company.

Anybody who’s received communications from PE directors opining on their fellow board members will quickly realize what a horror show a books & records request might just turn out to be.

– John Jenkins

Francis Pileggi recently blogged about a Delaware Superior Court decision holding that claims for attorneys’ fees arising out of a breach of a merger agreement didn’t accrue until after the Delaware Supreme Court ruled on the underlying breach of contract claim & the defendants refused to pony up. Here’s an excerpt:

A recent decision by the Complex Commercial Litigation Division of the Delaware Superior Court in Winshall, et al. v. Viacom International, Inc., (Del. Super.: 2/19), ruled that a claim for indemnification was not ripe until a final adjudication, after appeal, was decided. In a matter involving a claim for indemnification for attorneys’ fees based on a finding of a breach of a merger agreement by the Court of Chancery, which was affirmed by the Delaware Supreme Court, the Superior Court held that a subsequently filed indemnification claim was not barred by the statute of limitations because the claim did not become ripe until the affirmance by the Delaware Supreme Court. See Slip op. at 17-19.

In contrast, the court dismissed the plaintiff’s claims for indemnity for taxes and diminution in value based on the defendant’s delay in making contractual earnout payments. Unlike the claim for legal fees, the court held that these claims accrued at the time the applicable provisions of the merger agreement were breached, and that the statute of limitations on them had run.

– John Jenkins

It’s becoming increasingly rare to see the Delaware Chancery Court issue an order enjoining a deal – but that’s what Vice Chancellor McCormick did earlier this month in FrontFour Capital v. Taube (Del. Ch.; 3/19). The transaction involved a proposed acquisition of two entities, Medley Management and Medley Capital, by a company called Sierra Income. The pricing terms of the two acquisitions were very different – while Medley Management would receive a 100% premium to market, Medley Capital shareholders were to receive a price that provided no premium to its net asset value.

Medley Management was majority owned by two brothers, who also owned a less than 15% stake in Medley Capital. To make a long story short, the court found that, despite the brothers’ relatively low ownership interest in Medley Capital, they were controlling shareholders of that entity. It also found that the Medley Capital board willfully deferred to them, and allowed them to dominate a process that was kind of a mess. The Vice Chancellor ultimately found that the controlling shareholders and the directors breached their fiduciary duties.

The plaintiffs sought both corrective disclosure & a requirement that the company be actively shopped in order to seek a better deal. VC McCormick enjoined the deal pending distribution of revised disclosure, but as this Morris James blog notes, she decided that she was precluded from ordering that the company be shopped free from the contractual deal protections. This excerpt explains her reasoning:

With respect to the remedy, the Court enjoined the stockholder vote pending corrective disclosures. The Court reasoned, however, that controlling precedent prohibited the most equitable remedy: a Court-ordered “go shop” free from deal protections. Specifically, the Delaware Supreme Court’s decision in C & J Energy Services, Inc. v. City of Miami Gen. Empls. and Sanitation Empls. Ret. Tr., 107 A.3d 1049 (Del. 2014) prevented the Court from infringing upon the acquirer’s rights in the deal protection provisions without a finding of wrongdoing on its part.

The blog says that the plaintiffs did allege wrongdoing on the part of the buyer.  Specifically, the plaintiffs claimed that the buyer aided & abetted the breaches of fiduciary duty. But this claim wasn’t pursued in discovery or addressed in the plaintiffs’ briefs.

– John Jenkins

This Fried Frank memo says that two recent enforcement actions against foreign subsidiaries of US companies highlight the importance of pre-acquisition sanctions due diligence in cross-border transactions. Here’s the intro:

In the last two weeks, OFAC issued two enforcement actions for activities conducted by foreign subsidiaries that violated U.S. sanctions laws. On February 14, 2019, OFAC announced a $5.5 million civil penalty against AppliChem GmbH, a German company, for deliberately and surreptitiously continuing business with Cuba after being acquired by a U.S. company. On February 7, 2019, OFAC announced a settlement with Kollmorgen Corporation, a U.S. company, because its Turkish subsidiary continued conducting business in and with Iran after it was acquired by Kollmorgen.

These settlements highlight the importance of U.S. companies conducting enhanced sanctions due diligence on foreign targets during the M&A process, and implementing sanctions compliance policies at the new foreign subsidiaries. It is equally important to monitor the foreign subsidiaries’ compliance with U.S. sanctions laws and internal policies. Failure by foreign subsidiaries to comply with OFAC regulations could result in significant penalties for both the parent and subsidiaries.

U.S. persons are prohibited from conducting or facilitating business in or with sanctioned countries, and foreign subs of U.S. companies are directly subject to compliance obligations with respect to U.S. sanctions against Cuba and Iran. Accordingly, buyers should conduct thorough due diligence to find any history of dealings with sanctioned entities or countries. The memo also recommends implementation of U.S. sanctions compliance policies at the newly-acquired sub, particularly if there’s a history of conducting business with sanctioned parties.

– John Jenkins

Exchange Act Rule 13d-1 gives an acquirer 10 days from the date it acquires a 5% stake in a public company to get its Schedule 13D on file. This recent podcast from Jones Day’s Lizanne Thomas discusses activist investor strategies & how activists use this 10-day filing window to their advantage. She also lays out the case for why the window needs to be reformed.  The discussion of issues surrounding the filing window begins around the 13:00 minute mark of the podcast.

– John Jenkins

When it comes time to exit their investments, PE funds sometimes adopt a dual track strategy under which they simultaneously pursue a sale process & an IPO of the portfolio company.  This Cooley blog addresses the key factors that should be considered in deciding whether to pursue this type of strategy. Here’s the intro:

Relative to choosing a single exit strategy, a dual-track process tends to be more complicated and resource-intensive, while also posing some specific risks. However, if the right dynamic is created, a dual-track process can provide visibility of relative valuation and the benefit of optionality, maximizing the chance of securing the most favorable terms.

Whether there’s a looming threat of a government shutdown or a sudden stock market sell-off, or the auction bids come in below expectations, the alternative track may present a superior exit option. A dual-track process reduces the possibility that the vagaries of the stock market and industry-specific dynamics will have a detrimental effect on the overall exit by opening the investment opportunity to public markets as well as financial and strategic investors, with each influenced by the others.

The blog points out that there’s no “one size fits all” approach to a dual track process. It also notes that while maintaining confidentiality concerning competing valuations, timing, drivers, etc. is essential, the knowledge that the portfolio company may be pursuing an IPO exit could drive the M&A valuation higher, particularly with strategic buyers.

– John Jenkins

Late last week, Vice Chancellor Glasscock issued his much anticipated post-trial ruling in Vintage Rodeo Parent v. Rent-A-Center (Del. Ch.; 3/19). The case involved the validity of Rent-A-Center’s exercise of a contractual right to terminate a  merger agreement under which it would have been acquired by Vintage Capital, and was one of the more closely watched pieces of “busted deal” litigation in recent years.

Both parties participated in the rent-to-own market, and they anticipated a potentially lengthy antitrust review. As a result, the merger agreement gave either party the right to unilaterally extend the agreement’s “drop dead” date if the FTC ‘s review was still ongoing. In order to exercise that right, the party desiring to extend had to provide notice to the other by the original drop dead date. Over time, the deal became less compelling to Rent-A-Center, and its board decided that if Vintage didn’t exercise its right to extend, Rent-A-Center would terminate it once the drop dead date passed.

Sure enough, Vintage didn’t send the notice, and Rent-A-Center promptly terminated the agreement. Vintage freaked out, and sued to compel Rent-A-Center to move forward. Rent-A-Center poured a healthy dose of salt into the wound by filing a counterclaim alleging that Vintage owed it a $126.5 million reverse termination fee. Last month, the case went to trial. The trial produced some heated testimony, with one Vintage representative referring to Rent-a-Center’s management as “a bunch of crooks.”

Vitriol aside, Vintage’s case boiled down to two allegations. First, it said that the parties’ course of conduct served as either Vintage’s notice of its intent to extend or as a waiver of notice by Rent-A-Center. Second, it contended that by continuing to work to move the deal forward while “concealing” its board’s decision to terminate the deal if the opportunity arose, Rent-A-Center behaved in a fraudulent manner.  Vice Chancellor Glasscock’s opinion made it clear that he wasn’t buying any of this:

Vintage’s arguments are after-the-fact rationalizations as to why failure to give written notice of election to extend is excused. I am left to the startling conclusion that, having vigorously negotiated a provision under which Vintage was entitled to extend the End Date simply by sending Rent-A-Center notice of election to do so by a date certain, Vintage and B. Riley personnel, in the context of this $1 billion-plus merger, simply forgot to give such notice.

VC Glasscock found that the drop dead date and the methods by which it could be extended were heavily negotiated deal terms, and he was not inclined to rewrite the parties’ deal. In other words, when it came to Vintage’s missing the deadline for the notice requirement, his answer was: “you snooze, you lose.”

Rent-a-Center’s reverse termination fee claim remains unresolved. The Vice Chancellor’s opinion expressed some discomfort with the idea that payment could be triggered under the circumstances & asked the parties to brief the issue of whether the implied covenant of good faith & fair dealing applied – so stay tuned.

– John Jenkins