A seller’s management team generally plays a prominent role in the sale process and in the negotiation of the purchase agreement, despite the fact that their interests may conflict with those of the seller’s shareholders. But if they can make out a claim that those conflicts weren’t fully disclosed, then plaintiffs may have something to hang their hats on when challenging the deal.
That’s the scenario that the Delaware Chancery Court recently addressed in In re Towers Watson & Co. Stockholder Litigation, (Del. Ch.; 7/19). Here’s an excerpt from this Morris James blog summarizing the factual background of the case:
Towers Watson & Co. and Willis Group Holdings plc, two similar professional services firms, planned merger of equals, with: (i) the Towers CEO, John K. Haley designated as the CEO of the combined entity; (ii) the Willis shareholders owning a slight majority of the combined entity; and (iii) Willis paying a dividend to the Towers shareholders to account for the relative market value of the entities.
Haley led the negotiations for Towers. The merger’s initial structure included a dividend below $5.00 per share to the Towers shareholders, information that was not well received by the market. Following announcement, Haley met with a key Willis executive and discussed his possible compensation scenarios, a discussion he never disclosed to the Towers board. In light of the negative reactions, Towers and Willis eventually renegotiated the merger’s terms. The dividend amount to Towers shareholders was increased to $10 per share, which Haley had allegedly indicated was the “minimum increase necessary” to get the deal done.
The plaintiffs sued the board & the CEO for breach of fiduciary duty. In an effort to rebut the business judgment rule, they pointed to the CEO’s non-disclosure of the post-closing comp negotiations to the Towers’ board. The plaintiffs alleged that the CEO’s potential post-closing compensation improperly incentivized him to seek nothing more than the bare minimum required to get the deal done – and that the undisclosed information about his comp discussions was therefore material to the Towers’ directors. The blog says under the circumstances of this case, the Chancery Court didn’t buy that argument:
While alleged fraud on a board by a conflicted fiduciary can rebut the business judgment rule, the Court cited three facts, alleged or inferred, which foreclosed an inference that the Towers board would have found the undisclosed compensation proposal significant.
First, the board knew Haley would likely receive a larger salary when running the combined entity, and so was fully informed of the conflict and the risk when appointing him as lead negotiator. Second, the board was generally kept apprised of the negotiations. Third, the compensation discussion in question concerned a mere proposal, and the actual compensation was not negotiated until after the merger closed.
Plaintiffs’ allegations therefore did not trigger entire fairness review and otherwise did not state a non-exculpated claim for bad faith in connection with the board’s delegation and oversight of negotiating responsibility to Haley.
Most deal lawyers advise clients to push discussions of post-closing employment and compensation to late in the negotiation process – ideally, after all valuation issues have been resolved. That seems to have happened here, but the re-opening of pricing negotiations made the timing and content of those discussions potentially problematic. Notwithstanding its outcome, one of the takeaways from this case is that no matter when these discussions occur, the most prudent course of action is to make sure that the board is fully apprised of them.
– John Jenkins