It’s hard to find a single aspect of daily life that hasn’t been disrupted by the COVID-19 pandemic. This recent blog from Francis Pileggi reports that this includes the operations of the Delaware courts:
By Delaware Supreme Court Order, effective March 16, 2020, Delaware’s high court declared a judicial emergency, following the Governor of Delaware declaring on Friday, March 13, a state of emergency due to the coronavirus, and also on the same day that President Trump proclaimed a National Emergency. The foregoing hyperlink provides the actual Court Order. One provision makes it easier for trial courts, in their discretion, to postpone trials and hearings at least for 30 days. This also follows Orders highlighted on these pages a few days ago in which each of the Delaware Courts announced policies to help those with symptoms of the virus address obligations to appear for court hearings, etc.
This blog from Fox Rothschild’s Carl Neff reports that yesterday, the Chancery Court issued a new standing order providing that for the next 30 days, all hearings and trials will be conducted only telephonically, absent a request from a party for an in-person hearing & a demonstration of “imminent irreparable harm.”
So far, perhaps the most high-profile consequence of the actions taken by the Delaware courts over the past week has been Vice Chancellor Slights’ decision to delay the Tesla/Solar City trial. That decision was prompted by concerns about the anticipated size of the crowd at the proceedings.
On Friday, the FTC announced the implementation of a temporary e-filing system for HSR notifications in response to the COVID-19 pandemic. While this temporary system is in place, early termination of the HSR waiting period will not be granted for any filing.
No filings will be accepted today, but beginning tomorrow, filings will be accepted only through this temporary system, which will require documents to be uploaded through Accellion using the same file formats as specified for DVD filings on the Style Sheet for HSR Filings. This Arnold & Porter memo summarizes the temporary filing procedures:
The temporary procedures require electronic filing of notifications with the PNO and the Department of Justice, instead of the hard copy and DVD format currently in effect. Documents to be e-filed must be in searchable PDF or MS Excel files and labeled in the same manner as set forth in the PNO’s instructions applicable to DVD filings. When notified by a party that it wishes to make a filing, the Staff of the PNO will forward a link which will allow the filer to upload the contents of its complete HSR filing to a secure Accellion file-transfer platform. Filing fees are currently paid by wire transfer and the procedure for doing so remains unchanged.
The DOJ will implement the same procedures. The FTC’s Premerger Notification Office has issued specific guidance on the new e-filing system and operating procedures.
It seems fair to say that companies have gotten comfortable with the Corwin cleansing process over the past several years. If you provide your shareholders with full & fair disclosure, and obtain approval of the deal from a majority of the shares held by disinterested stockholders in an uncoerced vote, then Delaware courts will review the board’s decision under the deferential business judgment standard.
The Chancery Court’s recent decision in Salladay v. Lev, (Del. Ch.; 2/20), may ultimately change that familiar recipe – at least for companies with majority conflicted boards. Here’s an excerpt from Fried Frank’s recent memo on the decision:
In Salladay v. Lev (Feb. 25, 2020), the Delaware Court of Chancery held, at the pleading stage, that the merger (the “Merger”) of InterSections, Inc. (the “Company”) with an acquisition vehicle formed by the iSubscribed Investor Group would be subject to “entire fairness” review even though it had been approved by both a special committee (the “Committee”) and the stockholders.
The court ruled that (i) the Committee, although comprised of independent, unconflicted directors, was not formed early enough in the process to counteract the influence of the “interested” directors; and (ii) the disclosure was insufficient, thus the approval by a majority of the stockholders not affiliated with the interested directors did not “cleanse” the transaction under Corwin.
The problem, from Vice Chancellor Glasscock’s perspective, was that while the seller didn’t have a controlling shareholder, a majority of its directors did have a conflict of interest. In these situations, the memo notes that the efficacy of a special committee has traditionally been assessed by reference to whether it was “fully empowered” and “functioned effectively.” Here, however, the Vice Chancellor borrowed from another doctrine that hasn’t been applied to transactions not involving a controller – MFW’s “ab initio” requirement:
A corporate transaction entered by a conflicted board is subject to entire fairness, but our case law contemplates that if there is no controller present, then a fully constituted, adequately authorized, and independent special committee can cleanse such a transaction. This is because the true empowerment of a committee of independent, unconflicted directors removes the malign influence of the self interested directors, and thus should result in business judgement review.
Whether such a committee is truly empowered is a necessary question, to be reviewed practically to determine if the transaction, in fact, is untainted by fiduciary self-interest. The issue before me in this regard involves the timing of the formation of the committee. Must the committee be sufficiently constituted and authorized ab initio; consistent, that is, with the requirements set forth in MFW for cleansing a transaction in a control situation? The answer, I perceive, is yes.
VC Glasscock said that the rationale for MFW’s “ab initio” requirement was to remove the ability of a controller to use its procedural protections as a “bargaining chip” to obtain pricing concessions from a special committee – and that, in his judgment, the same rationale applied to situations involving a majority conflicted board.
He wrote that “[t]he acquirer—as well as any interested directors—must know from the transaction’s inception that they cannot bypass the special committee,” and concluded that starting negotiations before forming an independent special committee “may begin to shape the transaction in a way that even a fully-empowered committee will later struggle to overcome.”
There’s been a lot of action in Delaware recently about when holders of less than a majority equity stake in an enterprise may be regarded as controlling shareholders. This Fried Frank memo reviews Skye Mineral Investors, LLC v. DXS Capital (U.S.) (Del. Ch.; 2/20), the latest Delaware case to address this issue.
In the Skye decision – which involved a limited liability company – Vice Chancellor Slights held that under the right alignment of planets, contractual “veto rights” could put minority holders in the position of exercising actual control over a company. Here’s the memo’s intro:
In Skye Mineral Investors, LLC v. DXS Capital (U.S.) Limited (Feb. 24, 2010), the Delaware Court of Chancery found, at the pleading stage, that it was reasonably conceivable that the two key minority members of Skye Mineral Partners, LLC (“SMP”) had breached their fiduciary duties to SMP and the other members by intentionally using the contractual veto rights they had under SMP’s LLC Agreement to harm SMP and increase their own leverage. Also, the court found that members of the group that controlled these minority members, as well as certain affiliates of that group, may have aided and abetted the fiduciary breaches.
In addition, the court found that one of these minority members and its authorized observer on the SMP board breached their confidentiality obligations by using information they learned, through the observation right, to advance the member’s interests at SMP’s expense.
The decision serves as an explicit reminder of the fiduciary and other obligations that LLC members and managers (and their affiliates) may have when the LLC agreement does not clearly and unambiguously provide otherwise. Further, the decision indicates that, under unusual circumstances, minority members may find themselves in the unexpected position of having fiduciary obligations as controllers–if their veto rights under the LLC agreement have put them in a position of “actual control” of the LLC (and particularly if they use that control to advance their own interests while harming the company).
This case shouldn’t be read as saying that any strong contractual right provided to a minority shareholder will result in it being considered a controller. Delaware’s approach is more nuanced. For example, in Superior Vision Services v. ReliaStar, (Del. Ch.; 8/06), the Chancery Court declined to find that a minority shareholder’s exercise of a contractual right to block a dividend made it a controlling shareholder, noting that the shareholder did not control the Board’s decision making process concerning the declaration of a dividend. The Court said that to hold otherwise would result in “any strong contractual right, duly obtained by a significant shareholder…, [being] limited by and subject to fiduciary duty concerns.”
As the memo points out, the key factors in Vice Chancellor Slights’ decision in the Skye case included the that the contract right in question was so powerful that it in effect gave the minority “the unilateral power to shut SMP down,” and that the minority holders allegedly exercised their blocking right “as part of a ‘scheme to harm the company’ and advance their own interests.”
The Foreign Investment Risk Review Modernization Act, or FIRRMA, authorizes CFIUS to establish a filing fee not to exceed the lesser of 1% of the transaction value or $300,000 (adjusted annually for inflation) for parties that make notifications to CFIUS. This Ropes & Gray memo notes that the Treasury Department has recently proposed rules that would implement this filing fee requirement for parties that submit voluntary notices to CFIUS.
But as the memo notes, the proposed filing fee wouldn’t apply to all notifications, and that may influence some companies decisions about the approach they want to take:
Importantly, the Proposed Rule would not establish a filing fee for transactions that are notified to CFIUS via a declaration, the abbreviated notification process introduced by FIRRMA. Accordingly, parties to covered transactions (and covered real estate transactions) will have an additional factor to consider in determining whether to submit an abbreviated declaration, versus full-form filing:
– Abbreviated declaration: No filing fee, less preparation time, and potential for faster resolution, but no guarantee of final action by the Committee.
– Full-form notice: Filing fee, more preparation and review time, but guarantee of final action by the Committee.
The filing fee would also not apply to (1) unilateral reviews initiated by CFIUS; or (2) voluntary notices filed by the parties after submission of an abbreviated declaration. Along similar lines, the filing fee would not apply to re-submitted voluntary notices (i.e., if CFIUS requests that the parties withdraw and refile their notice, the parties will not be required to pay an additional filing fee), unless the Committee determines “a material change to the transaction has occurred, or a material inaccuracy or omission was made by the parties in information provided to the Committee.”
The proposal would permit the filing fee to be waived if “extraordinary circumstances relating to national security warrant,” although the memo says such waivers are likely to be infrequent. The proposal would also require the fee to be refunded if CFIUS concludes that a voluntary notified transaction isn’t a covered transaction. The comment period on the rule proposal expires April 8th.
Last week, I blogged about Xerox’s tender offer for HP & why from a legal perspective, it wasn’t a particularly hostile bid. I subsequently received an email from a member with an insight into another “pressure point” on HP’s board that resulted from Xerox’s decision to move forward:
I agree that filing the exchange offer gives the hostile bidder some advantage by (i) forcing the target board to respond to the offer perhaps sooner than it otherwise would; and (ii) putting the target in a position of having to update its disclosures based on material developments (e.g., entrance of a white knight).
There’s also another reason to file – namely, some investors want to see a TO document on file to give them more assurance that there’s a specific deal that can be immediately consummated if the incumbents are ousted in a proxy contest. Even if the TO is conditional, some investors will take greater comfort about the hostile bidder’s commitment to price and timing.
As the corporate law environment has evolved, a “hostile” tender offer like Xerox’s may not put much additional pressure on a target board when it comes to what the directors’ fiduciary duties require. However, the legal obligations imposed on that board by the federal securities laws do turn up the heat somewhat, and investor perceptions of the seriousness of a bidder that is willing to cross the tender offer Rubicon may really make the target’s board feel the squeeze.
Deals involving significant antitrust risk usually contain fairly elaborate covenants governing the parties respective rights and obligations with respect to the HSR merger review process. However, in many instances, these covenants contain vague wording that can result in disputes between the parties in the event that regulators object to the deal.
This Perkins Coie memo addresses the issue of vague language in antitrust covenants and provides some thoughts on how to better craft language in order to avoid later disputes. This excerpt summarizes the problem:
When a transaction requires antitrust review under the Hart-Scott-Rodino (HSR) Act or foreign merger control laws, merger agreements generally include antitrust-specific provisions detailing the level of effort the buyer must exert to move the deal through merger review. Such terms typically consist of “best efforts,” “reasonable efforts,” or “reasonable commercial efforts.” In rare cases, a buyer may be required to undertake “any or all necessary actions” to obtain clearance, including divestiture of assets or changes in commercial relationships between the buyer and third parties (known as “hell or high water” obligations). But these terms are inherently vague, and in the context of antitrust-related obligations, there is little or no judicial guidance on precisely what actions they require.
For example, assume that following a 30-day preliminary investigation, the FTC or U.S. Department of Justice (DOJ) issues HSR “second requests” to the parties. Compliance with these requests may delay the deal 10 or more months and require the buyer (and seller) to incur well over a million dollars in legal fees and related expenses. Does a “best efforts” clause require the parties to comply with the requests? Assume that following compliance, the agency threatens to block the deal in court. Must the parties litigate the case?
A related issue is whether the termination provisions of the agreement address the possibility of an investigation. If the “outside” (or “drop dead”) date arrives, can the buyer or seller simply walk away from the deal without liability to the other? This lack of clarity can invite “broken deal” litigation where one party to an unsuccessful deal sues the other for failing to put forth the “efforts” required to obtain merger clearance.
The memo says that there has been an increase in broken deal litigation in recent years, and recommends that parties should include more specific and objective criteria for their respective obligations in the event of a challenge. Such language should specifically address the extent of a buyer’s obligation to respond to a second request, divest certain assets, or litigate an agency’s challenge to a transaction. The memo also notes the increasing use of reverse termination fees as a potential method of preventing litigation.
Insurance companies have taken it on the chin in recent years when it comes to claims experience, so many business find that policy costs & retentions are up sharply across most insurance lines. This PwC blog says that these market conditions are likely to persist, and that buyers & sellers need to pay close attention to the potential implications of a much tighter coverage market when considering M&A transactions:
This hardened insurance market can directly impact buyers and sellers in mergers and acquisitions. In a recent carve-out transaction, the seller was spinning off a business with main locations in high-hazard zones – one on California’s San Andreas fault and another in a 100-year flood zone. The availability of property insurance for high-hazard risk, the cost of coverage and deductible levels were material deal considerations in the proposed transaction.
Stories like this may seem extreme, but they’re less rare. Both buyers and sellers should be aware of the insurance market and its potential deal implications. This includes asking questions such as:
– Have historical expenses been adjusted to reflect current premium rates and possibly higher levels of risk retention?
– Can a business carved out from a much larger parent stand alone in a commercially reasonable manner given the availability and cost of property insurance with locations in a high-hazard zone or with a poor loss history?
– Can a seller get ahead of potential buyer concerns by arranging with its insurers to insure the business separately?
The blog stresses that companies don’t have the same opportunity as they did during the recent past to lay risks off on to insurers. In this environment, companies need to take steps to mitigate their risks, and those that demonstrate effective risk management should fare better in a tight market than those that can’t.
Earlier this week, I blogged about the possibility that the coronavirus might be used as a MAC trigger, and noted that some sellers have already negotiated specific carve-outs to prevent this from happening (here’s another one – see p. 9). Of course, the outbreak has implications for M&A that go well beyond MAC clauses, and this recent Sidley memo is a terrific resource for getting your arms around the wide array of deal issues that this event creates.
The memo addresses MAC clauses, but it also reviews the potential implications of the coronavirus for due diligence, pricing and consideration, reps & warranties, covenants, drop dead dates – and even governing law provisions. Here’s an excerpt addressing factors to consider when negotiating interim operating covenants:
Between the signing and closing of a transaction, buyers generally want sellers to operate the target business in the ordinary course to protect the value of the business they committed to purchase and want to be consulted (and their consent obtained) on a variety of material or non-ordinary course matters. On the other hand, sellers continue to own the target business until closing and, particularly if the transaction has been priced under a post-closing adjustment mechanism, sellers will continue to take pricing risk on the business during the applicable measuring period.
Sellers will therefore want to retain the authority to take the steps they feel necessary to operate the business during the sign-to-close period with minimum oversight and interference by the buyer, as well as rights over the operation of the business during any post-closing adjustment period. The uncertainty associated with the coronavirus outbreak means that sellers should insist on being able to (and buyers should be amenable to allowing them to) respond quickly to the coronavirus threat in order to protect their workforce, comply with legal or public health requirements and orders and undertake other activities that may be deemed necessary or prudent in this environment.
The memo goes on to recommend that sellers consider reviewing their coronavirus contingency plans with their buyer before signing the purchase agreement in order to obtain pre-approval for the activities contemplated by the plan.
I started off today by referencing my earlier blog on the coronavirus outbreak’s potential use as a MAC trigger. In response to that blog, I received the following insight from one of our members:
“I was looking at the 2019 Nixon Peabody MAC survey – it looks like acts of god and national calamities were excluded from MAC definitions in 77% and 17% of agreements, respectively. Query whether the coronavirus falls into either exception (fortunately, I don’t think we’re anywhere close to a national calamity). Unfortunately, the survey does not indicate how often these exclusions are subject to disproportionality qualifiers.”
Those of us who made the mistake of looking at our 401(k) plans earlier this week might dispute the assessment that the outbreak isn’t approaching a “national calamity” yet, but it’s worth noting that some of the more general MAC carve-outs may already encompass the potential fallout from the coronavirus.
Xerox finally launched its long-threatened tender offer for HP earlier this week. The tender offer involves a combination of cash and stock, and while it certainly ratchets up the market pressure on HP’s board, it really doesn’t put much legal pressure on them. That’s because, as Prof. Ann Lipton pointed out in this tweet, Xerox has conditioned its offer on being able to engage in a back-end merger without shareholder approval under Section 251(h) of the DGCL.
This excerpt from Xerox’s Form S-4 registration statement explains that this means the deal is effectively conditioned on HP’s board agreeing to enter into a merger agreement with Xerox:
Under Section 251(h) of the DGCL, if (a) HP and Purchaser have entered into a merger agreement approving the offer and second-step merger under Section 203 of the DGCL and opting into Section 251(h) of the DGCL before consummation of the offer and (b) Purchaser acquires shares of HP common stock pursuant to the offer and, following consummation of the offer, owns a majority of the outstanding shares of HP common stock, Purchaser will be able to effect the second-step merger as a “short form” merger without further approval of the HP Board or a vote of the remaining HP stockholders. The offer is effectively conditioned on those events occurring. . . .
There’s nothing prohibiting a bidder from conditioning a tender offer on the target’s agreement to enter into a merger agreement, but under Delaware law, that means that the target’s decision about whether to enter into such an agreement is likely to be evaluated under the business judgment standard, instead of being subject to enhanced scrutiny under Unocal. Here’s an excerpt from Chancellor Allen’s opinion in TW Services, Inc. v. SWT Acquisition Corp., (Del. Ch.; 3/89):
“The offer of SWT involves both a proposal to negotiate a merger and a conditional tender offer precluded by a poison pill. Insofar as it constitutes a proposal to negotiate a merger, I understand the law to permit the board to decline it, with no threat of judicial sanction providing it functions on the question in good faith pursuit of legitimate corporate interests and advisedly.”
When I tweeted the point that HP’s board doesn’t face much heat under Delaware law, Ann Lipton responded with the observation that there’s at least one legal obligation resulting from Xerox’s bid that may turn up the heat. That’s because as a result of Xerox’s filing, the HP board will have to file a Schedule 14D-9 with the SEC taking a position on the proposal sooner than might be the case in a proxy fight.