In April, I blogged about the SEC’s notice & request for comment on a proposed NYSE rule change that would amend Section 102.06 of the NYSE Listed Company Manual to extend the period a SPAC can remain listed if it has signed a definitive agreement with respect to a Business Combination within three years of listing. The proposal would have allowed a SPAC to remain listed for up to 42 months and would have better aligned NYSE’s approach with Nasdaq’s. Earlier this month, the SEC posted NYSE’s notice of withdrawal of the proposed rule change.
As John shared on TheCorporateCounsel.net, the SEC’s July release instituting proceedings to determine whether to approve the proposal suggested the agency wasn’t headed in that direction. The release raised concerns under the Investment Company Act and questioned how the proposed extension would affect shareholder protection and why it’s appropriate for a SPAC to retain shareholder funds past the current maximum time period. Cooley’s Cydney Posner notes that the only comment letter was submitted by CII and echoed the SEC’s concerns in the July release.
According to a recent Cooley memo, CFIUS is increasingly relying on a “one size fits all” approach to national security agreements entered into in order to mitigate potential issues identified during its transaction review process. This approach to the negotiation process creates significant burdens for smaller companies and, when coupled with CFIUS’s hard line approach to enforcement of these agreements, may be disincentivizing parties from making voluntary filings. This excerpt explains:
From a cost-benefit perspective, obtaining CFIUS clearance for a transaction will always constitute a valuable – if often not necessary – benefit to certain parties. Anecdotally speaking, however, the cost of pursuing that benefit appears to be increasing and uncertain. From the perspective of the transacting parties, CFIUS “costs” manifest not only in the expense of undergoing a formal CFIUS review and potential investigation, but also in the operational and financial burdens of negotiating and complying with NSA terms. As CFIUS appears to be increasingly turning to NSAs to manage perceived national security risks, and relying increasingly on standard NSA templates as a basis for negotiations, the costs of submitting a voluntary CFIUS filing become correspondingly high and uncertain.
This trend – combined with FIRRMA’s strict liability standard and CFIUS’s pivot to a more aggressive enforcement posture – can create significant disincentives for transaction parties to submit voluntary CFIUS filings, ample uncertainty to justify foregoing filings in the first place, and a decision to assume the risk of a post-closing CFIUS inquiry.
The memo says that the emerging NSA negotiation and enforcement dynamics and the evolving cost-benefit assessments regarding voluntary filings may be contributing factors to the 23% decline in CFIUS filings during 2023.
SRS Acquiom recently published its 2024 M&A Claims Study, which analyzes more than 850 private target acquisitions with escrows that were fully released during the period from Q3 2022 to Q2 2024. The data set includes 518 individual indemnification claims and nearly 200 earnouts. Here are some of the key takeaways from the study:
Indemnification Claims Relatively Flat – Claim Sizes Trend Up: Indemnification claims activity on a per-deal basis appears to have slightly trended down, with 28% of deals facing a least one post-closing indemnification claim. Conversely, the study also found that deals with Reps & Warranties Insurance (RWI) saw a slightly higher prevalence of indemnification claims. Claim sizes trended up, with a notable increase in claims in the $150,000 to $500,000 size range (Slide 12). Additionally, claims are taking about 25% longer to resolve with about 1 in 27 resulting in formal arbitration or litigation (Slide 18).
Tax Claims Dominate – Undisclosed Liabilities Rise Dramatically: The study found that of the subset of claims examined, tax claims continue to dominate, and undisclosed liability claims more than doubled since the 2022 SRS Acquiom report. Decreased buyer due diligence, among other factors, in the competitive 2021 M&A market may be contributing to this trend.
Earnouts Not Guaranteed, But Some See Success: The study found that the majority of deals with an earnout saw at least partial payment, but only about half of the maximum earnout amount is paid on those deals. The study also found that at least 28% of deals in this dataset were ones in which the sellers contested the earnout. Renegotiations have a big impact, with SRS Acquiom marking over $132 million in additional earnout payments as a result, which is 17% of the earnout dollars paid.
The HSR Act’s notification requirements are usually thought to apply to M&A, but the statute has much broader application than that. In fact, any transaction that results in someone acquiring securities having a value that exceeds the reporting threshold needs to be scrutinized for a possible HSR filing. Many people who have purchased stock in public companies have discovered that to their chagrin. A recent Wilson Sonsini memo says you can add the CEO of GameStop to the list. This excerpt explains:
On September 18, 2024, the FTC announced that Ryan Cohen, chief executive officer and chairman of GameStop, has agreed to a pay civil penalty of nearly $1 million to settle charges that his acquisition of Wells Fargo & Company (Wells Fargo) voting securities violated the HSR Act.
In March 2018, Cohen acquired more than 560,000 Wells Fargo voting securities through an open market purchase. According to the complaint, this acquisition exceeded HSR filing thresholds in effect at the time and therefore triggered Cohen’s obligation to submit an HSR notification to the FTC and the U.S. Department of Justice (DOJ) and observe a waiting period before consummating the acquisition. The complaint states that Cohen failed to do so and was in continuous violation of the HSR Act until he submitted a corrective filing almost three years later on January 14, 2021.
The memo notes that what makes this enforcement action interesting is that it was Cohen’s first violation of the HSR reporting requirements. The FTC typically hasn’t imposed fines in situations involving first-time violations by individuals. Another thing about this proceeding that’s worth noting – particularly when dealing with activists – is that Cohen’s efforts to obtain a board seat at Wells Fargo disqualified him from relying on the “investment only” exemption from the HSR filing requirements.
In our latest “Understanding Activism with John & J.T.” podcast, my co-host J.T. Ho and I were joined by Greg Taxin, Founder & Managing Member of Spotlight Advisors, to discuss the current environment for shareholder activism. Topics covered during this 34-minute podcast include:
– What motivates activists and how do companies know what activists are really seeking?
– How can board members most effectively participate in a company’s response to activism?
– What are the hard and soft costs involved in activism — for the company and the activist?
– How do different groups of investors respond to activism?
– What are the unique challenges presented by first-time activists?
– What are the most effective strategies for increasing retail voter turnout?
– What will be the major trends and challenges in shareholder activism over the next few years?
Our objective with this podcast series is to share perspectives on key issues and developments in shareholder activism from representatives of both public companies and activists. We’re continuing to record new podcasts, and I think you’ll find them filled with practical and engaging insights from true experts – so stay tuned!
Many companies resolve potential activist proxy contests by entering into cooperation agreements under which the company agrees to add one or more activist nominees to its board of directors. A recent post on the CLS Blue Sky Blog says that following the Delaware Supreme Court’s decision in Coster v. UIP, (Del.; 6/23), boards should proceed with caution when considering entering into these agreements.
In essence, the blog argues that Coster made it clear that a decision to enter into these agreements should be evaluated under the Unocal standard, which requires the board to establish that it has identified a cognizable threat to the corporation and that its response to that threat is reasonable and proportionate and neither preclusive nor coercive. This excerpt from the blog says that satisfying both prongs of Unocal may prove to be tough sledding for the board:
Post-Coster, the approval of cooperation agreements raises several significant problems for boards. First, Coster imposed a more rigorous definition of a reasonable threat. Many of the concerns that have been historically identified as reasonable threats justifying a defensive response to an activist shareholder may not constitute cognizable threats under Coster, or are, at most, mild threats to the corporation. For example, boards often attempt to justify their opposition to an activist’s proxy fight by arguing that the activist’s focus on short-termism will harm the company. However, that seems to be just another example of a “board knows best” argument, which Coster rejected.
In addition, boards often point to disruptions to the company’s business operations as a threat justifying a cooperation agreement. However, cooperation agreements also cause disruptions. This is especially true when the company has agreed to form a special board committee charged with exploring the activist’s strategic vision, which is often the case. Therefore, any reduction in disruption due to the cessation of the proxy fight must be offset with the disruption due to the cooperation agreement.
In addition, a board will be unlikely to pass the more stringent proportionality prong. Cooperation agreements are “preclusive.” Their sole purpose is to make proxy fights unattainable. The agreements accomplish this goal in two ways. First, the secrecy and speed with which an activist investor’s designated directors assume board seats prior to an annual meeting deprive all other stockholders of a contested vote.
A board might argue that a cooperation agreement is not preclusive because the activist’s designated directors will be subject to a vote at the next annual meeting. However, herein lies the second part of the preclusive effect of cooperation agreements. They ensure that newly appointed board members effectively run as incumbents in uncontested elections at annual meetings. Directors who are nominated in an uncontested election are almost always elected, meaning that the activist’s designated directors are almost certain to get elected.
With some exceptions, Unocal has not been a particularly daunting standard to satisfy in cases involving deal protections and defensive measures such as poison pills. However, boards & their lawyers would be well advised to take this argument about the challenges facing cooperation agreements seriously, particularly since Vice Chancellor Laster flagged this blog on LinkedIn and characterized it as a “good take.”
This Sullivan & Cromwell article discusses Vice Chancellor Laster’s bench ruling last week on a motion to dismiss after oral argument in Clement v. Apollo Global Management, LLC. In this case, the plaintiff alleged a controlling shareholder extracted two unique benefits in the challenged transaction — the conversion of a subordinated loan valued at $27.6 million to equity worth $2.8 million (causing dilution) and a release of any claims that may have existed from the time the controller owned the company — so the entire fairness standard should apply. VC Laster’s ruling provided two points of clarification on the concept of a controller’s receipt of “unique benefits” in a transaction. Here’s an excerpt from the article:
The first is whether the unique benefit received by the controller “has to be at the expense of the minority” shareholders. The court said that “the question really turns on whether we approach fiduciary liability using th[e] concept of compensatory damages” (which focuses on the plaintiff’s loss) or “principles of disgorgement” (which focuses on the defendant’s gain). Because disgorgement is “the dominant paradigm” in “a fiduciary world” where “we’re dealing with equity,” the court stated that, in its view, “it doesn’t make sense to limit the cause of action to one where there’s diversion of consideration.” Therefore, a unique benefit can arise “where the fiduciary takes a benefit, even if it’s not at the expense of the minority stockholders.”
The court also addressed a seeming divergence in views with Vice Chancellor Glasscock with respect to the framework for analyzing challenges to a merger where the claimed benefit is the elimination of litigation exposure. In In re Primedia, Inc. Shareholders Litigation, Vice Chancellor Laster had analyzed the issue through the lens of standing, whereas Vice Chancellor Glasscock’s decisions “jump over the concept of standing to address the merits of a challenge to an interested transaction.” The court stated that “when you have a controller that is a controller at the time of the merger . . . it really doesn’t matter” which framework is used because “it’s the same analysis for both” that all “coalesces into one thing”: “[t]here has to be an inference of something material that results in a conflict.” …
With respect to the loan conversion, the court held that the controller’s receiving 10 cents on the dollar for the loan was a “unique detriment,” not a “unique benefit.” With respect to the release, the court held that plaintiff failed to plead that the release covered any “viable claim[s]” that could survive a motion to dismiss, and thus the controller was not shown to have received a material unique benefit.
Earlier this week, the OCC and FDIC both finalized their previously proposed changes to rules regarding business combinations involving national banks and federal savings associations. The DOJ simultaneously announced that it is withdrawing from the 1995 Bank Merger Guidelines. Its 2023 Merger Guidelines are its “sole and authoritative statement across all industries.” To that end, it released the 2024 Banking Addendum to 2023 Merger Guidelines, which includes commentary explaining the application of the guidelines to bank mergers.
This Simpson Thacher memo says “the DOJ and FDIC policy statements in particular represent significant changes from current practice in assessing bank merger transactions and the combined effect could result in significantly more burdensome application requirements and continue the current trend of very long processing periods.” It goes on to describe the changes in detail. The memo notes:
Unlike the FDIC and the OCC, the Federal Reserve has not issued any policy statement outlining changes to its standards for bank merger reviews. In April 2024, Federal Reserve Vice Chair for Supervision Michael Barr confirmed his view that the Federal Reserve’s current review frameworks is “pretty robust” and that no such policy statement is likely forthcoming. …
[T]he Federal Reserve continues to work with the other federal banking agencies and the DOJ to possibly update the 1995 Bank Merger Guidelines with respect to the antitrust analysis of bank mergers. He stated that the Federal Reserve is “thinking about that on an interagency basis rather than just us doing something [alone].”
This recent HLS Blog from Kai H. E. Liekefett and Derek Zaba of Sidley Austin addresses what they characterize as an uptick in “half-truths and outright lies in proxy contests” by dissident shareholders. They at least partially attribute this issue to the fact that the proxy rules were “adopted decades ago and long before the advent of the digital age” and are “increasingly under stress.” Specifically, it says the application of 14a-9 has often “failed to rein in even clearly problematic behaviour in proxy contests” such as inaccurate “statements about proxy tallies prior to the closing of the polls.”
For instance, in one court case, an activist announced preliminary proxy voting results several weeks prior to the shareholder meeting, claiming that it was clearly leading with 80% of the shares voted. These numbers turned out to be false (only 55% of the shares had been voted). However, the court declined to issue a preliminary injunction, and the dissident proceeded to succeed in its proxy contest.
When a company is faced with this issue in a proxy contest, what can it do? The blog says, unfortunately, not much. As the blog explains, SEC review and litigation offer limited relief.
SEC Review. In the past, the SEC staff in the Division of Corporation Finance, through the comment letter process, strove to enhance compliance with these proxy rules. Whenever a party overstepped boundaries, the other party would send a private and confidential letter to the SEC, noting the violations. To the extent its staff agreed, the SEC would often react promptly to those letters by issuing comments to the offending party. …
In recent years, practitioners have observed a decline in the number and breadth of SEC comments in proxy contests. … The SEC’s packed agenda and limited resources have likely shifted attention towards other pressing matters.
Moreover, the SEC’s authority under the proxy rules has always been limited. The Division of Corporation Finance can only provide comments. If proxy rule violators do not comply with those comments, their staff can only refer a matter to the SEC’s Division of Enforcement. However, we are not aware of any enforcement action prior to a shareholder meeting in recent years.
Litigation. Companies waiting for SEC action can instead bring suit against proxy rule violators in federal court. However, litigation poses significant risks for a company.
… [T]here is typically no insurance available for companies to pursue litigation as plaintiffs. Moreover, proxy advisory firms and investors frequently criticise companies for initiating litigation against shareholders. This is certainly an important consideration in a proxy contest where a company needs to weigh any potential win in court against a loss at the ballot box.
More substantively, there is also the reality of condensed proxy fight timelines and the burden of proof [and …] preliminary injunction is an extraordinary remedy that generally will be granted only in limited circumstances. …
A further complicating factor is that many federal judges are not familiar with the intricacies of proxy contests because such cases are relatively rare. As a result, the case law originating from the federal courts has been uneven and inconsistent.
The post suggests the proxy rules be tweaked to give the SEC more authority to sanction violations, require proxy rule violators to publicly withdraw false statements, enjoin proxy contests and impose severe sanctions on repeat violators. But, for now, this is is still something companies are struggling with and likely will continue to.
Yesterday, I blogged about Corp Fin Director Erik Gerding’s statements at the ABA Business Law Section’s “Dialogue with the Director” last Friday. During the program, he acknowledged that technical EDGAR issues continue with respect to co-registrants but that the SEC is working to update EDGAR.
Well, as it happens, yesterday afternoon the SEC announced the adoption of updates to Volume II of the Filer Manual to reflect, among other things, that EDGAR is being updated to permit SPACs to identify target companies in a de-SPAC as co-registrants on Form DRS and DRS/A. It looks like EDGAR Release 24.3 was rolled out yesterday with the announcement.
At the same time, the SEC updated these FAQs on Voluntary Submission of Draft Registration Statements to revise old question 19 on de-SPACs & co-registrant status, which now reads:
(19) Question:
If a registrant uses the confidential submission process to submit a draft registration statement in connection with a de-SPAC transaction, when should it include any co-registrant’s CIK and related submission information in the EDGAR Filing Interface?
Answer:
In EDGAR Release 24.3, EDGAR was enhanced to allow co-registrants on draft registration statement submissions. See Section 7.2.1 Accessing the EDGARLink Online Submission of the EDGAR Filer Manual. The primary registrant must include the co-registrant’s CIK and related submission information in EDGAR when it submits the draft registration statement. See Section 7.3.3.1 Entering Submission Information of the EDGAR Filer Manual. The draft registration statement must also contain the information required by the applicable registration statement form, including required information about the target company. Co-registrants do not need to separately submit the draft registration statements or related correspondence in EDGAR.