In November, John blogged about the Chancery Court’s recent decision inGB-SP Holdings LLC et al. v. Walker (Del. Ch.; 11/24). This Fried Frank M&A briefing on the case discusses the facts that caused Vice Chancellor Fioravanti to evaluate the adoption of the forbearance agreement under the entire fairness standard. He found that the directors were materially conflicted as a result of indemnification rights they secured for themselves — under unusual circumstances — in connection with approving a Foreclosure Agreement with the company’s creditor.
The scope of the indemnification rights in the Indemnity Agreement between Versa and the Company extended beyond claims arising out of the Foreclosure Agreement, to cover also any claims brought by the company’s controlling stockholder, GB-SP, Inc. (whether relating to the Foreclosure Agreement or not). When the directors sought the indemnification rights, they knew that they had breached GB-SP’s rights under a Shareholders Agreement, and knew that they could not obtain insurance that would cover liability for those breaches because the policy excluded claims from major shareholders.
The alert highlights this related key takeaway:
Under some circumstances, directors may be rendered self-interested when they secure indemnification rights in connection with approving a transaction. Normally, obtaining indemnification rights would not render directors self-interested—because indemnification is commonplace in corporate affairs and does not increase a director’s wealth. In this case, however, the court stressed “the troubling circumstances surrounding the receipt of indemnification.”
While a more lenient approach to antitrust enforcement is expected in some ways in a second Trump presidency, this Sheppard Mullin blog says it’s more complicated than that. The blog notes that, in Trump’s first term, antitrust enforcement blended traditional Republican preferences for deregulation with skepticism for market concentration generally and Big Tech in particular. It even notes that the current FTC Chair, Lina Khan, has some unexpected supporters. With that in mind, the blog outlines the following possibilities for antitrust reform under a second Trump term:
– Possible antitrust enforcement consolidation … The One Agency Act … which passed out of the House Judiciary Committee in April 2024, would consolidate antitrust enforcement authority by transferring all FTC antitrust functions, employees, assets, and funding to the DOJ. The FTC would maintain its consumer protection authority. Similar legislation proposed to end the overlap in FTC and DOJ merger review and civil investigation authority has been previously unsuccessful, but the Act’s prospects for passage seem higher now given the Republican majorities in both houses of Congress. The FTC and DOJ’s informal clearance process for civil antitrust matters has been derided for inefficiency and would seem an easy focus for the DOGE’s prioritization of government efficiency.
– The FTC likely will take a less aggressive stances regarding the use of competition rulemaking and the exercise of enforcement powers under Section 5 of the FTC Act (e.g., the non-compete rule), as well as mothballing Robinson-Patman Act enforcement.
– Merger review is harder to predict and will be a mixed bag. … The Biden administration’s DOJ and FTC effectuated three significant merger review policy changes, and it is possible that all three may be reversed in the Trump Administration. … Aside from policy, the merger enforcement records of the previous few administrations is fairly consistent, but also difficult to gauge as we discussed in a previous post. In addition to the tech industry, transactions in the healthcare industry have consistently been subject to scrutiny across administrations. That said, we do think that one industry – private equity – will not be the target it has been under the Biden administration.
After this blog came out, President-elect Trump announced his selection of Andrew Ferguson, one of two current GOP commissioners on the five-member FTC, to chair the agency. This WSJ article focuses on the FTC’s expected approach to Big Tech under Ferguson, who said on X that he would “end Big Tech’s vendetta against competition and free speech.”
We recently posted the latest “Understanding Activism with John & J.T.” podcast. This time, John and J.T. Ho were joined by Kai Liekefett, who co-chairs Sidley’s Shareholder Activism and Corporate Defense practice. Kai’s practice focuses exclusively on shareholder activism campaigns, proxy fights and hostile takeovers, and over the past five years, he’s defended over 150 proxy contests globally and approximately 25% of all U.S. late-stage proxy fights, more than any other defense attorney in the world.
Topics covered during this 26-minute podcast include:
– Why many activists supported Donald Trump over Kamala Harris
– What changes to the SEC’s approach to proxy advisor regulation, UPC, and Rule 14a-8 might mean for activism
– Implications of potential changes in the antitrust merger review and enforcement environment
– Impact of disruptions resulting from tariffs and other unconventional economic policies
– Potential changes in companies targeted for activism and activist tactics
Note that during the podcast, Kai comments on the implications of a new SEC chair on the agency’s approach to activism. They recorded this podcast on November 22, 2024, prior to President-Elect Trump’s appointment of Paul Atkins to serve in that capacity.
John and JT’s 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. They’re continuing to record new podcasts, and they’re full of practical and engaging insights from true experts – so stay tuned!
Glenn West’s latest article for Business Law Today discusses BM Brazil I Fundo de Investimento em Participações Multistrategia v. Sibanye BM Brazil (Pty.) Ltd — the latest judicial pronouncement by a common-law court on the meaning and effect of an MAE clause. The decision is from the English High Court of Justice, but apparently English common law is lacking when it comes to decisions addressing MAEs, so the Justice turned to Delaware’s “substantial body” of MAE-related case law and “took a trip” through “Delaware authorities that have addressed MAE conditions since IBP,” including Akorn, Inc. v. Fresenius Kabi, AG, the one Delaware case where it was determined that an MAE had occurred.
Looking to Akorn’s reference to a 20% decline in equity value and commentary that the decision was not suggesting that a “reduction in the equity value of the target of anything less than 20% would necessarily not have been material,” Mr. Justice Butcher was “inclined to view 15 percent as the right number for this case.” He even considered expert testimony about the significance of the geotechnical event — the case involved a landslide at a mine owned by the target company between the signing and closing — that even a 10% hit might be sufficient. But, even at this lower level, he still concluded that no MAE had occurred. Glenn notes that credible expert testimony and establishing that the MAE clause was not invoked as a means to get out of a bad deal can be critical in these MAE cases.
But Glenn’s discussion of the decision’s analysis of what constitutes a “Change, Event or Effect” may be the most interesting aspect of the article.
One of the contentions made by the sellers was that the buyers were including in the material adverse effects of the geotechnical event not just the direct effects of the geotechnical event but also the alleged problems with the “underlying geology” that had been revealed by the geotechnical event. According to the sellers, any problems and costs associated with the underlying geology that had been revealed by the geotechnical event could not be included in any determination of whether an MAE had occurred—only the direct effects of the geotechnical event itself could be included. … Mr. Justice Butcher agreed with the sellers on this point. … In this case, the underlying geological condition “had existed for millennia.” And “[n]o ‘change, event or effect’ had occurred in [that underlying geological condition] by the happening of the [geotechnical event—i.e., the landslide].”
Glenn generalizes and summarizes by saying, “an MAE condition cannot save you from the failure to obtain a representation and warranty about any existing issue—MAEs focus on future occurrences, not existing facts.”
Earlier this week, the Chancery Court issued its decision in Enhabit, Inc. v. Nautic Partners IX, L.P.(Del. Ch.; 12/24), a case involving breach of fiduciary duty and aiding and abetting claims arising out of a former executive of Encompass Health’s usurpation of corporate acquisition opportunities. While Vice Chancellor Will found the defendants engaged in misconduct, the lack of profitability of their business venture made determining damages more challenging and led to the Vice Chancellor’s decision to impose a constructive trust entitling the executive’s former employer to a portion of the profits ultimately realized by that business.
The plaintiffs attempted to persuade the Vice Chancellor to award them rescissory damages or disgorgement in the amount of $462 million. That amount was determined using an expected gains methodology that calculated the present value of the business’s expected profits based on sets of projections prepared at the time the entities in question were acquired. Vice Chancellor Will found that these projections were both “outdated and unreliable” and that it was inappropriate for the Court to order the defendants to disgorge profits that never materialized. She also rejected the plaintiff’s alternative theory that they were entitled to $157 million in compensatory damages based on the profits it would have realized had it acquired the businesses in question for similar reasons.
That left the Vice Chancellor with a problem – traditional measures of damages were inappropriate given the lack of profitability of the defendants’ businesses, but the defendants remained bullish on their prospects, and if she couldn’t fashion a remedy, the defendants would essentially off the hook for conduct that she characterized as “nothing short of egregious.” In order to avoid that unacceptable outcome, she came up with an unconventional, albeit not unprecedented, solution:
A constructive trust is warranted here. Encompass has been wronged by its former fiduciaries and the third parties who aided them. This court must endeavor to “extinguish[] all possibility of profit [and equity] flowing from [the fiduciary’s] breach.” The trust would furnish Encompass with the “identifiable proceeds of [this] specific property”: VitalCaring’s future profits. If VitalCaring realizes gains, Encompass will be entitled to a portion of them.
The mechanics of the constructive trust and the methodology for determining the appropriate amount of the payment streams that Encompass would receive from the VitalCaring business was a fairly complicated process, and the Vice Chancellor devoted most of the last 20 pages of her opinion to it. Ultimately, she determined that appropriate solution was to permit the PE funds to recover their capital contributions while Encompass received a fixed portion of the payment stream of the profits realized by that business and the proceeds received in any exit transaction.
An Axios Pro Rata article on the decision notes that the result of this novel approach to damages will be to “take a big bite” out of the PE funds’ returns. It also suggests that the decision may provide a blueprint for other courts. If that’s the case, then this is a decision that the private equity industry needs to take to heart.
Earlier this year, I blogged about the NFL’s decision to open its franchises up to investment by a select group of private equity funds. According to this Institutional Investor article, those funds are chomping at the bit to get a piece of the NFL’s action, and it says that they like the NFL for the same reason that Willie Sutton liked to rob banks – “because that’s where the money is.” Here’s an excerpt:
Even strict limits, such as a 10 percent investment cap, haven’t sapped investors’ enthusiasm. Private equity firms also are abiding by the NFL’s requirement that they remain passive, without board representation — at least for now. NFL franchise valuations have surged a cumulative 610 percent from 2004 through 2022, according to data provider Yield Street. That compares to a 317 percent increase for the S&P 500.
Football has turned into the country’s top sport. “It’s now the most popular entertainment in the U.S.,” says Paul Hardart, a professor of entertainment and media at NYU’s Stern School of Business. “And it’s expanding to young women with the romance between Travis Kelce [of the Kansas City Chiefs] and Taylor Swift.”
Football also dominates TV, with NFL games representing 93 of the 100 top-rated broadcasts in 2023. “The demand for the NFL is insatiable among the media, driving up media rights fees,” Hardart says. In 2021, the NFL signed an 11-year, $111 billion media rights deal.
The article quotes GAMCO’s Michael Galatioto as saying that he wouldn’t be surprised to see 10 to 20 deals involving the sale of minority stakes in NFL franchises in the next two years or so. I know this is only somewhat relevant to most folks M&A practice, but it’s still kind of interesting and it also gives me an excuse to let you know that I knocked off my little brother the CEO’s team last weekend and now reside in first place heading into the final week of the fantasy football regular season.
According to a recent PitchBook article, mega PE funds have outstripped their middle market peers when it comes to returns for three quarters in a row. That’s a reversal of five quarters of underperformance following the pandemic, and this excerpt provides some insight as to what’s driving the improved performance by big players:
Greater access to cheaper debt financing and the public market rally have fueled an accelerated recovery in the higher end of the PE market,leading to a streak of superior performance for larger funds, according to Tim Clarke, lead PE analyst at PitchBook. Large PE funds, heavily weighted in large-cap companies, are more sensitive to the macro environment and tend to perform better during market upturns, he said.
The mark-to-market value of their portfolios is more susceptible to public market swings than that of mid-market funds, meaning their returns are higher when public markets thrive and decline more sharply during corrections. Additionally, recent improvements in credit conditions have particularly benefited large deals—PE funds are now more willing to pursue big-ticket buyouts or pay for higher valuations.
Speaking of big-ticket deals, PitchBook says that the total value of $1 billion-plus buyouts grew to $268 billion through November 25, 2024, compared to approximately $200 billion recorded over the same period last year.
Yesterday, the Delaware Supreme Court issued its opinion in In re Mindbody, Inc., Stockholder Litigation, (Del.; 12/24), in which it overruled the Chancery Court’s decision holding a buyer liable for aiding and abetting target fiduciaries’ breach of fiduciary duty based upon its role in reviewing the target company’s merger proxy materials.
In order to assert an aiding and abetting claim, the plaintiffs must allege that the buyer knowingly participated in a breach of fiduciary duty. The plaintiffs in this case alleged that the board and CEO breached their fiduciary duties of disclosure because target’s proxy statement failed to disclose, among other things, details about early interactions between the buyer and the target’s CEO. With respect to that aspect of the claim, Chancellor McCormick pointed to language contained Section 6.3(b) of the merger agreement, which gave the buyer the right to review the proxy statement prior to its filing.
That language, or something similar to it, has likely been included in just about every public company merger agreement ever filed. But it took on perhaps unexpected significance in the evaluation of the plaintiffs’ aiding and abetting claim against the buyer. That’s because Chancellor McCormick pointed to it as supporting the knowing conduct on the part of the buyer necessary to establish such a claim:
“[T]he merger agreement contractually entitles Vista to review the proxy and requires Vista to inform Mindbody of any deficiencies with the proxy. Vista knew that the proxy did not disclose information about Vista’s own dealings with Stollmeyer, dealings which I previously found support the plaintiffs’ claim for breach of the duty of disclosure. The plaintiffs thus adequately alleged that Vista knowingly participated in the disclosure violation related to Stollmeyer’s early interactions with Vista.”
The Delaware Supreme Court disagreed. In an opinion authored by Justice Valihura, the Court unanimously held that a buyer’s knowledge that a target fiduciary has breached its fiduciary duty is not sufficient to establish knowing participating in the breach. Instead, the plaintiff must show that the aider and abettor had actual knowledge that its own conduct was legally improper. The Court concluded that this was not established in the present case.
The Court then went on to note that in the context of an arms’- length bargaining process between a buyer and a seller, “participation” in the breach should be “most difficult” to prove. It reviewed Delaware case law establishing that in order to be regarded as participating in a breach, the defendant must provide “substantial assistance” to the primary violator. Although the Court acknowledged that some courts have held that a failure to act is sufficient to establish substantial assistance, it said that isn’t the path that Delaware has taken:
Rather, our case law in the corporate governance context has found liability only where there has been overt participation such as active “attempts to create or exploit conflicts of interest in the board” or an overt conspiracy or agreement between the buyer and the board as described above.
This substantial assistance requirement can also be understood as requiring active participation rather than “passive awareness.” As the Court of Chancery explained in Buttonwood, “passive awareness on the part of [the defendant] does not constitute ‘substantial assistance’ to any breach resulting from [the primary violator’s] failure to disclose the facts.”
In RBC, we affirmed aiding and abetting liability for a financial advisor who “purposely misled the [seller’s] Board so as to proximately cause the Board to breach its duty of care.” In Buttonwood, however, the Court of Chancery held that a financial advisor was not liable for “passive awareness . . . of the omission of material facts in disclosures to the stockholders, made by fiduciaries who themselves were aware of the information.
Applying this case law and the factors identified in the Restatement (Second) of Torts as being necessary to establish knowing participation, the Court concluded that the buyer’s passive awareness of a fiduciary’s breach of disclosure duties that would come from simply reviewing draft proxy materials was insufficient to impose aiding and abetting liability.
While the Court let the buyer off the hook, the target’s CEO didn’t fare as well. The Supreme Court upheld the Chancery Court’s ruling that he breached his fiduciary duties as well as its decision to award the plaintiff $44 million in damages for those breaches.
I know everyone is licking their wounds over the recent changes to the HSR form, so please don’t shoot the messenger on this one! Anyway, a recent paper by business school profs at Stanford & Chicago claims that GAAP is allowing buyers to avoid HSR scrutiny on a large number of potentially anticompetitive deals. Here’s an excerpt from this CFODive.com article on the paper:
Federal antitrust enforcers have stepped up their deal scrutiny in recent years, particularly in the technology and healthcare industries, and yet they’re letting hundreds of mergers a year pass without review because of the way asset values are measured, Stanford and University of Chicago researchers say.
The threshold criteria the agencies use for determining deals that get reviewed are based on valuations measured by generally accepted accounting principles, but the lion’s share of companies’ value today, especially in the most dynamic parts of the economy, are the intangible assets that GAAP mostly misses, say the researchers in a paper called Competition Enforcement and Accounting for Intangible Capital.
The paper’s authors determined the value of the intangible assets in a particular transaction by looking at the purchase price allocations in buyer’s post-closing financial statements. They contend that if the value of those intangibles had been taken into account for purposes of determining whether an HSR filing should have been made, the number of deals subject to antitrust scrutiny would’ve increased by more than 250 per year, and the number of Second Requests would increase by approximately 10% per year.
In support of their argument that the exclusion of intangibles from the size of the transaction analysis provides anticompetitive benefits, the authors note that unreported deals have premiums approximately 12% higher than reported ones, and are associated with 5.6% higher equity values for acquirers around the announcement date.
One of the key regulatory changes expected to be made by the Trump Administration is a move toward more lenient antitrust enforcement. This was one of a few reasons cited by this Sidley article that activists openly endorsed Trump for president — pointing to the fact that shareholder activist funds depend on a liquid M&A market for their business model.
This anticipated shift — plus, as this V&E article notes, reduced interest rates — may mean more companies facing activist pushes for breaking up divisions, spinning off subsidiaries, or selling themselves outright. This post in the HLS Blog by Patrick Ryan of Edelman Smithfield says activists with “varying track records of success” in this area nonetheless “regularly push companies to disclose a sales process,” but companies need to consider the potential downsides of public disclosure.
With the M&A market showing signs of life, activists are increasingly pushing companies to sell themselves, often via a public process. Beyond the outcomes described above, directors should understand the common consequences of such an announcement. …
In fact, two-thirds of companies disclosing strategic reviews receive no offers within the following year, causing double-digit share price declines on average. While the prospect of a deal sends a company’s shares higher in the days following an announcement, the stock gives back these gains and more as the process drags on. An announcement that the company will continue as a standalone can send the stock into freefall.
And the issues go well beyond the company’s stock price. For example:
– Putting up a “For Sale” sign conveys that a company has problems. Employees, customers, vendors, and other partners react as you would expect.
– An announcement puts pressure on directors to accept any deal.
The blog says that boards need to weigh these risks carefully, especially since the benefits to announcing a sales process — more bidders, higher premiums and better returns — are only really benefits if the company is successfully acquired. When the decision is made that public disclosure is the way to go, see this discussion of how to craft a well-planned communication strategy focused on preserving shareholder value.
Programming Note: This blog will be off tomorrow and Friday, returning next Monday. Happy Thanksgiving!