Delaware’s MFW doctrine provides a path to business judgment review for controlling shareholder deals. But it requires the parties to jump through a lot of hoops intended to ensure that the transaction is negotiated & authorized by an independent special committee and approved by a fully informed majority of the minority shareholder vote. Vice Chancellor Glasscock’s recent decision in In re AmTrust Stockholders Litigation, (Del. Ch.; 2/20), focuses on one of MFW‘s most significant “hoops” – the requirement that the special committee responsible for negotiating the transaction be comprised solely of “independent” directors.

In AmTrust, the plaintiffs alleged that the members of the special committee established to negotiate a “going private” deal with the controlling shareholders were not independent due to an ongoing derivative lawsuit in which they & the controlling shareholders were defendants. The derivative claim at issue was apparently far from frivolous – in fact, the committee’s financial advisor informed it that it had a settlement value of between $15 – $ 25 million.

The defendants contended that the derivative action didn’t impair the committee’s independence and that MFW should apply, because the plaintiffs did not allege that “the merger agreement the directors obtained and recommended . . . eliminated any pursuit of the matter as a corporate asset purchased by the acquirer, as a matter of contract.”

Vice Chancellor Glasscock rejected that argument. He noted that MFW‘s independence condition was intended to ensure not only that members of a special committee were not beholden to a controlling stockholder, but also that they did not have a disabling personal interest in the transaction. He refused to accept the defendants’ formalistic argument, noting that as a practical matter, completion of the transaction would eliminate the threat of personal liability posed by the derivative action:

[T]he Transaction involves a squeeze-out merger in which AmTrust’s controlling stockholders (the K-Z Family)—who are the focus of the usurpation claim at the heart of the Cambridge Action—retained control of the Company when they took it private. In this context, the absence of a contractual release of claims would be of little, if any, importance to DeCarlo, Fisch, or Gulkowitz because it stands to reason that, post-merger, the K-Z Family would never press claims relating to their own alleged usurpation of a corporate opportunity.

This approach to independence in the context of a viable derivative claim seems to make sense, but the most interesting aspect of the case may be the one that Vice Chancellor took a pass on. The deal that got done here wasn’t the one that was originally submitted to the shareholders through the MFW process.  A number of shareholders, most notably Carl Icahn, didn’t like the deal and the special meeting was postponed while the controlling shareholders & Icahn hashed things out.  That resulted in an increased price, and that deal was the one submitted to and approved by shareholders.

The plaintiffs said that, because the deal that was actually submitted to shareholders wasn’t the one negotiated between the special committee & the controllers, but instead one negotiated between the controllers & Icahn, MFW just didn’t apply.  The defendants said that the price bump that Icahn extracted was proof that MFW worked. Because of his ruling on the independence issue, the Vice Chancellor never reached this issue.

That’s a shame, because in a climate of rising M&A activism, it sure would have been nice to have some guidance from the Chancery Court on this aspect of MFW.  But it looks like we’ll have to wait for another day on that.

– John Jenkins

There are lots of pending deals involving companies whose business prospects have been made substantially less certain due to the ongoing impact of the coronavirus. It’s probably not much of a stretch to suggest that there are already some very quiet conversations between buyers & their lawyers along the lines of “how can we get out of this deal?”  My guess is that as the implications of the epidemic continue to work through global supply chains, these conversations may become more frequent and more urgent.

This Morrison & Foerster memo addressing the implications of the outbreak on PE investors in Asia is the first one I’ve seen that examines the invocation of a MAC clause to try to bust a deal as a result of the coronavirus crisis.  Here’s an excerpt:

Whether a party can rely on the impact caused by the COVID-19 outbreak to trigger the MAC clause under a particular agreement will depend heavily on (1) how the clause is drafted, (2) how the clause will be construed under the agreement’s governing law, and (3) the actual impact on the business at issue.

If a MAC clause does not specifically define the circumstances that constitute a MAC, courts will require the party seeking to invoke the MAC clause to show an unforeseen adverse change that is material under prevailing precedent. That typically will require such party to show that the event has a significant long-term adverse effect on the business at issue. This is a very high bar and requires something more than a short-term downturn in business or business prospects.

For example, under Delaware law, courts apply a test (which has been referenced in UK decisions) requiring a fact-specific demonstration that the event “substantially threatens” the earnings potential of the entire business “in a durationally significant manner.” While a fact-specific determination, this has proven to be a very high hurdle in practice.

The memo notes that the full effect of the outbreak is currently unclear, and it may be too early to determine conclusively whether a MAC clause has been triggered. It cautions that PE investors should “continue to approach contract performance in good faith and maintain thoughtful and commercially reasonable communications with their counterparties.” Motive matters in cases involving efforts to use a MAC clause, and courts are unlikely to favor a buyer that just looks like it’s suffering “buyer’s remorse.”

Meanwhile, some companies are negotiating terms intended to ensure that the coronavirus won’t trigger a MAC in their deals.  Bloomberg Law reports that the Morgan Stanley/E*TRADE deal has an express carve-out of the coronavirus from the merger agreement’s MAE clause. Here’s the merger agreement – see the definition of “Company Material Adverse Event” on page 8.

– John Jenkins