This Lazard report reviews shareholder activism during 2019’s first quarter. Here are some of the highlights:
– Q1 2019’s campaign activity (57 new campaigns against 53 companies) was down year-over-year relative to 2018’s record pace, but in line with multi-year average levels. Capital deployed in Q1 2019 ($11.3bn) was in line with recent quarters, and the top 10 activists had a cumulative $75.5bn deployed in public activist positions (new and existing)1at the end of the quarter
– Starboard overtook Elliott as the most prolific activist in Q1 2019, launching seven new campaigns.
– Transaction-focused campaigns were by far the most common in Q1 2019, with an M&A-related objective arising in nearly 50% of all new campaigns. Pushes to sell the company (e.g., Caesars, Zayo) or engage in break-up or divestiture transactions (e.g, Dollar Tree, eBay) were the most frequent M&A objectives.
– Attempts to scuttle or sweeten existing deals were relatively less frequent than in prior quarters.
– Activists won 39 board seats in Q1 2019, down from a record-breaking 65 in Q1 2018. All Board seats won were secured via settlements, as only three campaigns for Board seats (all international) went to a final vote. Q1 2019 saw a notable surge in long slate nominations, with 10 long slates nominated, accounting for 77 Board seats sought.
– Campaigns outside the U.S. continued to account for approximately 33% of global activity. In Europe, activists primarily focused on catalyzing change at their existing campaigns (e.g., Barclays, EDP, Hammerson, Pernod Ricard). ValueAct’s settlement for Board seats at Olympus and the defeat of Elliott’s proposals at Hyundai Motor Company and Hyundai Mobis indicate continued mixed results for U.S. activists in Asia. Heightened capital deployment in Canada (e.g., TransAlta, Methanex), accounting for 10% of the global total.
In English v. Narang, (Del. Ch.; 3/19), Chancellor Bouchard rejected allegations that conflicts involving a controlling shareholder & disclosure shortcomings should preclude application of Delaware’s Corwin doctrine to fiduciary duty claims arising out of the sale of a company.
The Chancellor dismissed claims alleging that sale involved a conflicted controlling shareholder premised on allegations that the controller’s need for liquidity prompted by his retirement as the company’s CEO prompted the sall, noting that the complaint “contained no concrete facts from which it reasonably can be inferred that [the founder] had an exigent or immediate need for liquidity.”
The plaintiffs also alleged that the company’s disclosures about the transaction were inadequate, and that as a result, the deal did not receive the fully informed shareholder approval required to invoke Corwin. This excerpt from a recent Shearman & Sterling blog reviews how the Court addressed those allegations:
Plaintiffs also argued that Corwin was inapplicable because the recommendation statement for the transactions was misleading and, therefore, the stockholders allegedly were not fully informed when they tendered their shares. For example, plaintiffs asserted that the financial projections included in the recommendation statement understated the company’s upside. But the Court found that optimistic statements by the company’s CEO before and after the transaction (referenced by plaintiffs) did not contradict the financial projections.
Moreover, the Court explained, the projections were the same as the ones provided to potential acquirors, and plaintiffs offered “no logical reason why any of the [directors] would want a lower price for the Company even if the Board had been rushing a sale of the Company.” Likewise, the Court rejected plaintiffs’ assertions that omissions of discussions with company management about post-closing employment rendered the recommendation statement misleading because the complaint did not allege facts demonstrating that any such discussions occurred before the merger agreement was signed.
The Chancellor also rejected challenges to the adequacy of disclosures about the work performed by the Company’s financial advisor for the buyer and its affiliates.
Do activist hedge funds do anything to improve corporate performance? According to this IR Magazine article, a recent study says the answer to that question is a resounding “NO!” Here’s an excerpt:
Activist hedge funds are unable to effect meaningful change at corporations, according to a new research paper by a former academic. In a critical paper, ‘The unfulfilled promise of hedge fund activism’, JB Heaton, a former professor at the business and law schools of the University of Chicago and Duke University, pans the role of activist hedge funds.
He writes: ‘Hedge fund activism has mostly disappointed. While hedge fund activists are good at motivating sales of companies to potentially overpaying acquirers, hedge fund activism is neither the threat to corporate strength that hostile commentators have claimed nor a meaningful force for better corporate performance. Instead, more than a decade of research shows hedge fund activism to be economically unimportant to corporate performance one way or the other.’
Heaton believes there are three reasons why hedge fund activism has mostly disappointed. First, hedge fund activists have no comparative advantage in generating ideas for meaningful competitive advantage at target firms. Second, these activists likely suffer from a form of winner’s curse where the hedge fund activist is too pessimistic about the firm it targets. Third, they often target declining firms, the equity in which is unsalvageable by the time the activist has taken notice.
The study’s author says that hedge funds are basically good at two things: raising money from investors & pressuring companies to sell. Aside from that, they are “more or less impotent” to effect change at corporations.
Late last month, Reuters reported that Chinese gaming company Beijing Kunlun Tech Co. was being pressured to divest Grindr, the popular gay dating app, due to privacy-related national security concerns. As we’ve previously blogged, CFIUS has increasingly emphasized privacy concerns & their potential national security implications when evaluating foreign investments – and particularly investments by Chinese companies.
This Cleary Gottlieb blog says that this situation highlights both the importance of privacy concerns & the risks of not voluntarily bringing a deal to CFIUS before moving forward. Here’s an excerpt:
CFIUS’s concern about protecting personal data is shared by Congress, which made protecting sensitive personal data a central feature of its recent reforms to the CFIUS process. The Foreign Investment Risk Review Modernization Act (“FIRRMA”), enacted in August 2018, calls out transactions involving businesses that maintain or collect the sensitive personal data of U.S. citizens, together with certain transactions involving critical technology or critical infrastructure, as requiring additional scrutiny of potential foreign influence and access to non-public information.
Also notable was CFIUS’s decision to review the Grindr acquisition more than three years after Kunlun gained control. Kunlun acquire 60% ownership and effective control of Grindr in January 2016. In January 2018, Kunlun acquired the remaining ownership interests of Grindr and replaced Grindr’s longtime CEO and founder, Joel Simkhai, an Israeli national, with Yahui Zhou, the Chairman of the Kunlun Group and a Chinese national.
Because CFIUS does not provide individual case information (except in the rare instances where they issue a formal blocking order), we do not know whether the Chinese acquisition of control three years ago or the Chinese assumption of a day-to-day operational role last year formed the impetus for CFIUS’s recent actions. Either way, CFIUS’s actions were taken post-closing, emphasizing the risk to acquirors of proceeding with a transaction raising potential CFIUS concerns without completing the voluntary filing process.
In order for a board’s decision to enter into a deal with a controller to qualify for business judgment review, MFW’s procedural protections must in place at the outset of the transaction – or “ab initio.” Last October, in Flood v. Synutra, the Delaware Supreme Court clarified that MFW’sab initio requirement would be satisfied if the controller committed to those protections before “substantive economic negotiations” commenced.
Last week, In Olenik v. Lodzinski, the Delaware Supreme Court added more interpretive gloss to the ab initio requirement when it overruled the Chancery Court & held that safeguards were put in place too late to permit reliance on MFW’s path to the business judgment rule. Here’s an excerpt from this recent Steve Quinlivan blog summarizing the Court’s decision:
The complaint challenged a business combination between Earthstone Energy Inc. and Bold Energy III LLC and alleged EnCap Investments L.P. controlled Earthstone and Bold. The Supreme Court held, based on its review of the complaint, the well pled facts support a reasonable inference that the MFW requirements were not put in place early and before substantive economic negotiation took place.
According to the Court, presentations made by Earthstone to EnCap, Earthstone management valued Bold at $305 million in an initial presentation and $335 million in a second presentation. Based on these facts, the Court found it was reasonable to infer that these valuations set the field of play for the economic negotiations to come by fixing the range in which offers and counteroffers might be made. According to the complaint, that generally turned out to be the case. Earthstone’s first formal offer—the one in which the MFW conditions were finally mentioned—reflected an equity valuation for Bold of about $300 million, and the final deal reflected an equity valuation for Bold of around $333 million.
There were also a number of fairly extensive contacts between the parties in advance of formal negotiations. The Court pointed out that these included, among other things, providing the buyer with access to a corporate data room containing valuation materials, as well as preliminary discussions about a potential action plan for a deal involving corporate officers and lawyers for the parties.
The Chancery Court was aware of these contacts as well, but apparently found them less troubling than did the Supreme Court. While acknowledging that the contacts between the parties were “extensive,” the Chancery Court believed that they were “exploratory,” and not aimed at “bargain[ing] toward a desired contractual end.” Ultimately, it concluded that these contacts did not cross the line into substantive economic negotiations. At least for purposes of ruling on a motion to dismiss, the Supreme Court disagreed:
While some of the early interactions between Earthstone and EnCap could be fairly described as preliminary discussions outside of MFW’s “from the beginning” requirement, the well-pled facts in the complaint support a pleading stage inference that the preliminary discussions transitioned to substantive economic negotiations when the parties engaged in a joint exercise to value Earthstone and Bold.
Here’s a recent HBR article about how the cultural fit between buyers & sellers can impact the success of an acquisition. The authors contrast “tight cultures,” which are characterized by hierarchy, structure & precision, with “loose cultures,” which are more egalitarian & less centralized in their management and decision-making processes. Without proper planning, the article says that a merger involving companies with these cultural mismatches can head straight off a cliff. Here’s an excerpt:
To understand more about how mergers between tight and loose cultures work, we collected data on over 4,500 international mergers from 32 different countries between 1989 and 2013. The study took into consideration factors such as deal size, monetary stakes, industry, geographic distance, and cultural compatibility. We found that mergers with more-pronounced tight-loose divides performed worse overall. On average, the acquiring companies in mergers with tight-loose differences saw their return on assets decrease by 0.6 percentage points three years after the merger, or $200 million in net income per year. Those with especially large cultural mismatches saw their yearly net income drop by over $600 million.
The authors offer advice on strategies to successfully negotiate cultural differences during the pre-deal planning stage and in the implementation stage of the transaction.
If a Delaware corporation adopts an exclusive forum bylaw, does that mean its controlling shareholder has consented to jurisdiction in Delaware if it gets sued? According to Vice Chancellor Laster’s recent decision in In re Pilgrim’s Pride Derivative Litigation (Del; 3/19), the answer to that question is yes – at least in certain situations. This excerpt from this recent Morris James blog explains:
Stockholders that control Delaware corporations find themselves subject to fiduciary duties. According to this Court of Chancery decision, in certain situations, they also might find themselves subject to personal jurisdiction in Delaware in connection with the controlled-corporation’s adoption of a Delaware forum-selection bylaw. Past Delaware cases have found that, by expressly consenting to a Delaware forum for disputes, parties may also be deemed to have impliedly consented to personal jurisdiction here. But this decision is the first to find implied consent by a controlling stockholder through the controlled-corporation’s adoption of a forum-selection bylaw.
The blog notes that VC Laster emphasized the fact-specific nature of his holding. The company adopted the forum-selection bylaw on the same day that it approved a $1.3 billion acquisition of a business from its allegedly cash-strapped parent. The bylaw’s language specifically covered any fiduciary duty claim against a stockholder of the company, and a majority of the members of the board that adopted it were officers of the controller or its affiliates.
Stay tuned to this case – as this Dechert memo observes, in the portion of his opinion addressing the appropriate standard of review, the Vice Chancellor suggested the possibility of further evolution in the standard applicable to controlling shareholder transactions:
Although both parties assumed that the operative standard of review would be entire fairness, Vice Chancellor Laster suggested of his own accord that there could be another way aside from the MFW framework in certain controller transactions to lower the standard of review to the business judgment rule.
Citing to an article by Lucian Bebchuk and Assaf Hamdani, the Court proposed that if a transaction is approved by directors who are not only independent, but who are nominated and can be removed by the minority stockholders—whom the article describes as “enhanced-independence directors”—the transaction should qualify for the more lenient business judgment rule standard of review.
Seyfarth Shaw recently published the 2019 edition of its “Middle Market M&A SurveyBook”, which analyzes key contractual terms for more than 160 middle-market private target deals signed in 2018. The survey focuses on deals with a purchase price of less than $1 billion. Here are some of the highlights:
– Approximately 37.5% of non-insured deals surveyed provided for an indemnity escrow. The median escrow amount in 2018 for the non-insured deals surveyed was approximately 10% of the purchase price, with approximately 83% of the non-insured deals having an indemnity escrow amount of 10% or less, but only about 16% of the non-insured deals having an indemnity escrow amount of 5% or less.
– Approximately 55% of the insured deals surveyed provided for an indemnity escrow. The median escrow amount in 2018 for the insured deals surveyed was approximately 0.9% of the purchase price. The vast majority of insured deals had an indemnity escrow amount of less than 5% and, of those deals, nearly 94% had an escrow amount of 0.5%.
– Approximately 83% of non-insured deals had a survival period for reps & warranties of between 12-18 months, while approximately 9% of those deals provided that reps & warranties would not survive the closing.
– Approximately 70% of insured deals had a survival period for reps & warranties of between 12-18 months, but nearly 27% of insured deals provided that reps & warranties would not survive closing.
– Approximately 90% of non-insured deals surveyed provided for an indemnity basket. Of the non-insured deals providing for an indemnity basket, approximately 31% were structured as threshold/tipping baskets, and approximately 69% were structured as a deductible. This was generally consistent with past years (76% in 2017, 72% in 2016, and 75% in 2015 used a deductible).
– Approximately 73% of insured deals surveyed provided for an indemnity basket, compared to approximately 81% in 2017. The relative infrequency of indemnity baskets in insured deals versus non-insured deals is likely due to the increase in “no survival” deals when insurance is used, and therefore a basket is not relevant. Of the insured deals providing for an indemnity basket, approximately 8% were structured as threshold/tipping baskets, and approximately 92% were structured as a deductible, an increase from 2017 (86%).
The survey also covers other indemnity-related provisions, carve-outs from general survival provisions, fraud exceptions & definitions, and governing law provisions.
This McKinsey memo addresses the importance of a well-designed communications program to the success of an M&A transaction. Here’s the intro:
Structured communications play a critical role in mergers by preventing the distractions that often accompany them and could even damage the existing businesses. In addition, the communications plan lays a foundation for the combined organization’s future success. It is one of the few merger workstreams that go “live” immediately, as soon as merger conversations begin. The communications team announces the deal and then helps to develop, engage, and manage integration planning and execution.
A strong communications strategy and plan promote business continuity by ensuring that the right messages are communicated and reinforced to minimize the anxiety of employees, boost morale, and retain talent. They also convey the combined organization’s future vision and strategy to key stakeholders—both internal and external, including customers, regulators, vendors, and employees. In this way, the plan builds momentum and enthusiasm for the merger and corrects any misinformation and myths that might arise about it.
The communications plan is a vital tool to inform and influence stakeholders before transactions close, so it is critical to start early and get the message right, both before and after the close.
The memo reviews the role of communications across the deal’s timeline, from due diligence through post-closing integration, and outlines a process to build a communications strategy, to execute & monitor that strategy, and to improve communications about the deal.
This Richards Layton memo reviews this year’s proposed amendments to the Delaware General Corporation Law. Here’s an excerpt summarizing the proposed changes:
If enacted, the 2019 amendments to the General Corporation Law would, among other things
– add new provisions relating to the documentation of transactions and the execution and delivery of documents, including by electronic means, and make conforming changes to existing provisions;
– significantly revise the default provisions applicable to notices to stockholders under the General Corporation Law, the certificate of incorporation or the bylaws, including by providing that notices may be delivered by electronic mail, except to stockholders who expressly “opt out” of receiving notice by electronic mail;
– consistent with the foregoing, update the provisions governing notices of appraisal rights and demands for appraisal;
– update the procedures applicable to stockholder consents delivered by means of electronic transmission;
– clarify the time at which a unanimous consent of directors in lieu of a meeting becomes effective; and
– make various other technical changes, including with respect to incorporator consents and the resignation of registered agents.
The amendments, with the exception of those relating to appraisal rights, would be effective on August 1, 2019. The amendments to Section 262 (appraisal) would be effective for merger agreements entered into on or after August 1, 2019.