It has been a little surprising that nearly three years into the SPAC boom, Delaware has only weighed-in on the corporate law issues surrounding SPACs on one occasion. However, this memo (p. 3) by Hunton Andrews Kurth’s Steve Haas says that a recent decision by the Delaware Chancery Court not to stay an action in the face of parallel federal securities litigation suggests that it is looking for an opportunity to say more about SPACs. Here’s an excerpt:
The Delaware Court of Chancery recently denied a motion to stay a lawsuit challenging a de-SPAC transaction wherethe defendants asked the court to wait for the outcome in a related federal securities action. Although the decision to allow state law claims to proceed alongside a related federal action is not itself extraordinary, the court’s commentary signals the Delaware judiciary’s desire to weigh in on SPACs. Among the factors negating a stay, according to the court, were the “emerging” and “novel issues of Delaware law” implicated by SPAC transactions.
In In re Lordstown Motors Corp. S’holders Litig., C.A. No. 2021-1066-LWW (Del. Ch. Mar. 7, 2022), the state law plaintiffs purportedly represent the SPAC stockholders who did not exercise their redemption rights in the de-SPAC transaction. They alleged injury from inadequate disclosures and conflicts of interest driving the transaction. In contrast, the federal securities action involves a broader class of securities holders spanning before and after the de-SPAC transaction and alleging that the company artificially inflated its stock price through misleading disclosures about the acquired company’s electric vehicle business.
While acknowledging some overlap, the court held that the actions involved different plaintiffs, defendants, and remedies. But more importantly, the court focused on Delaware’s need to address SPACs, stating that “[t]his court’s essential role of providing guidance in developing areas of our law would be impaired if the court were to denude its jurisdiction because a federal securities action resting on similar facts was filed first.”
I’ve previously blogged about In re Multiplan Stockholders Litigation, (Del. Ch.; 1/22), the Chancery Court’s first decision addressing fiduciary duties in the SPAC context. That decision covered a fair amount of ground, and we’ve posted a bunch of memos on the case in our SPACs Practice Area. However, this recent Woodruff Sawyer blog addresses an aspect of the decision that I haven’t seen covered elsewhere – its potential implications for D&O insurance. This excerpt addresses the importance of the Court’s conclusion that the claims in Multiplan were direct, not derivative:
From a D&O insurance perspective, there is a real consequence to the direct versus derivative distinction because of the way the insurance agreements work. The “Side A” part of the ABC D&O insurance program responds on a first-dollar basis, but only to non-indemnifiable claims. Settlements of derivative suits are usually not indemnifiable under Delaware corporate law, while direct suits are indemnifiable. While many SPAC D&O insurance programs are structured as traditional “ABC” programs, some SPAC teams, as a cost-saving alternative, are choosing to structure their programs as “Side A” only.
To the extent that a SPAC purchased a Side A-only policy, and the lawsuit is determined, like in MultiPlan, to be a direct one, there may be no D&O insurance response for a settlement (outside of a corporate bankruptcy).
The blog covers several other topics, including issues concerning which D&O policy would apply to claims associated with a de-SPAC transaction, the problems with acquiring tail coverage from a different carrier than the one that provided coverage for the SPAC IPO, and the potential effects of the decision on the D&O market.
Speaking of SPACs, as Liz blogged yesterday on TheCorporateCounsel.net, the SEC has scheduled a meeting next week to propose some pretty dramatic changes to the regulatory landscape.
The regulatory environment for vertical mergers has changed pretty significantly in recent months – and with the antitrust agencies promising a rewrite of the Merger Guidelines, it looks like more changes may be on the way. This Gibson Dunn memo addresses some of the trends in vertical merger review and enforcement that have emerged from regulators’ recent actions. This excerpt makes it clear that the enhanced scrutiny of vertical deals isn’t just a U.S. phenomenon:
Vertical transactions are receiving heightened scrutiny from regulatory agencies around the world, including, most notably, the U.S. antitrust agencies, EC and European Union member states, and SAMR. Further, antitrust agencies across the globe are increasing cooperation. For example, in the NVIDIA-Arm transaction, the EC indicated it is “cooperating with competition authorities around the world.”
It appears that this increased cooperation may lengthen the merger review period. Coordination among agencies was the suspected reason behind the unprecedented eight-month SAMR pre-filing investigation. And in the Illumina-Grail transaction, the EC has exercised the ability to take referrals from member states without those member states independently having jurisdiction to review the transaction under their own merger control regimes.
The memo also points out that in the U.S. and other countries, intragovernmental cooperation is an important part of antitrust review and enforcement. One example cited by the memo is the Defense Department’s role in reviewing Lockheed’s proposed vertical acquisition of Aerojet.
Yesterday, the SEC’s Division of Corporation Finance issued a handful of new CDIs relating to M&A topics. Here are links to the individual CDIs & a brief summary of the issues they address:
Exchange Act Form 8-K
– CDI #102.04 – The material terms and conditions of an acquisition agreement that should be disclosed in an Item 1.01 Form 8-K.
– CDI #102.05 – Whether the acquisition agreement should be filed as an exhibit to the Item 1.01 Form 8-K.
Proxy Rules & Schedules 14A/14C
– CDI #101.02 – When a private target that isn’t soliciting its own shareholders may be viewed as engaged in a “solicitation” of the acquirer’s shareholders.
– CDI #132.01 – The availability of Rule 14a-12 for communications by a private target under the circumstances described in CDI #101.02.
– CDI #132.01 – The availability of Rule 14a-12 for communications by an acquirer relating to a transaction for which the target is soliciting proxies but the acquirer is not.
Tender Offers & Schedules
– CDI #166.01 – Guidance on the circumstances under which the Staff will not object to will not object to purchases by the SPAC sponsor or its affiliates outside of the redemption offer.
Earlier this month, the Delaware Supreme Court once again weighed in on the subject of the obligations created by “preliminary agreements” relating to potential business transactions – and in the Court’s words, provided a reminder that the good faith obligations imposed under the terms of these agreements are “not worthless.”
In Cox Communications v. T-Mobile US, (Del.; 3/22), the Court was called upon to interpret a contractual provision contained in a settlement agreement that obligated Cox to enter into a definitive exclusive provider agreement with Sprint “on terms to be mutually agreed upon between the parties for an initial period of 36 months” before offering mobile wireless services to its customers. After T-Mobile bought Sprint in April 2020, Cox opted to partner with Verizon and T-Mobile promptly accused Cox of breaching its contractual obligations. Cox responded by seeking a declaratory judgment concerning the extent of its contractual obligations.
Cox argued that those obligations were limited to, at most, a requirement to negotiate in good faith a definitive agreement with Sprint, while T-Mobile contended that the contract obligated Cox to refrain from partnering with another carrier for a 36-month period. The operative language was contained in Section 9(e) of the settlement agreement, and provided as follows:
Before Cox or one of its Affiliates (the “Cox Wireless Affiliate”), begins providing Wireless Mobile Service (as defined below), the Cox Wireless Affiliate will enter into a definitive MVNO agreement with a Sprint Affiliate (the “Sprint MVNO Affiliate”) identifying the Sprint MVNO Affiliate as a “Preferred Provider” of the Wireless Mobile Service for the Cox Wireless Affiliate, on terms to be mutually agreed upon between the parties for an initial period of 36 months (the “Initial Term”).
The Chancery Court held that this provision obligated Cox to negotiate in good faith and prohibited it from entering into a deal with another carrier during the 36-month period. The Supreme Court disagreed:
We cannot reconcile the Court of Chancery’s reading with the plain contractual text. In particular, we do not see two promises in the first sentence of Section 9(e). Instead, we read the provision as a single promise that unambiguously contemplates a future “definitive” agreement but leaves many terms open, “to be mutually agreed upon between the parties[.]” Because it leaves material terms open to future negotiations, Section 9(e) is a paradigmatic Type II agreement of the kind we recognized in SIGA v. PharmAthene. Parties to such agreements must negotiate the open terms in good faith, but they are not required to make a deal.
In PharmAthene, the Court said that “Type II” preliminary agreements were those in which the parties “‘agree on certain major terms, but leave other terms open for future negotiation.” Agreements of this type “do not commit the parties to their ultimate contractual objective but rather to the obligation to negotiate the open issues in good faith.” As a result of this conclusion, the Court remanded the case back to the Court of Chancery in order to determine whether Cox had satisfied its obligation to negotiate in good faith. Justices Valihura and Montgomery-Reeves dissented in part from the Court’s decision, noting that although they agreed that Section 9(e) reasonably could be read as a Type II agreement, the provision was sufficiently ambiguous that it could be read as the Chancery Court read it as well.
Weil’s Glenn West recently blogged about this case, and commented on the perils associated with the “hazy lines” dividing unenforceable agreements to agree, actual agreements that are “preliminary,” and otherwise non-binding preliminary agreements that may impose an obligation to negotiate in good faith:
Many times parties use non-binding term sheets and letters of intent as a means of providing a road map for the deal that the parties then contemplate, but with the understanding that the chosen route described in the term sheet or letter of intent could well change and that the parties are not binding themselves to the stated route or destination.
If the outlined terms are to be converted into a fully-baked deal by the court and then damages assessed based on breach of that deal to the extent there is a finding that one of the parties failed to negotiate in good faith, the risk is that those damages could far exceed the actual damages that may have been available to the non-breaching party pursuant to a fully-negotiate definitive agreement that, for example, contained a damages limitation provision.
So, what’s the best way for parties to protect themselves in these situations? Glenn says it’s to provide disclaimers of any intent to enter into a binding agreement or to negotiate in good faith. You can also take a look at some practice points for letters of intent that I posted over on the John Tales blog.
Also, be sure to check out Francis Pileggi’s blog on the Court’s decision, which focuses on the nuances of Delaware contract law involved in the case.
This Proskauer blog discusses how the EU’s robust enforcement of cybersecurity and privacy regulations are increasing the risk of liability to PE fund sponsors & corporate parents for activities of their portfolio companies and subsidiaries. The blog highlights the $255 million fine recently imposed on What’s App Ireland, which was calculated by reference to its parent Facebook’s overall global revenue. It goes on to point out that parent companies and PE sponsors may now face direct enforcement action with respect to GDPR issues involving their affiliates – including those in which the sponsor or parent holds a minority stake.
As this excerpt indicates, the key to parental liability is whether the parent or sponsor is deemed to be engaged in an “undertaking” with its affiliate:
The GDPR refers to EU competition law jurisprudence to understand the concept of an “undertaking”. EU case law establishes that where a parent company (or potentially a PE sponsor) holds all, or nearly all, the shares in a subsidiary, a rebuttable presumption arises that both companies are part of an “undertaking”. With respect to lower levels of investment, the key is whether the shareholder is in a position to exercise “decisive influence” over the subsidiary entity’s commercial policy. While the existence of “decisive influence” is fact-specific, relevant factors include (for example) the parent company or PE sponsor’s:
– Veto rights: Veto rights relative to the affiliate or portfolio company’s budget, business plan, operational investments or the appointment of senior management are relevant factors. The crucial element is whether the right is sufficient to enable the parent company or PE sponsor to influence the strategic business behavior of a venture. Importantly, the mere existence of a veto right, even where not exercised, can be sufficient to establish “decisive influence”;
– Right to appoint board members: The right to appoint independent non-executive directors with observer roles (rather than executives with management power) is less indicative of “decisive influence”; and
– Power to have personal data protection rules implemented within a company.
To illustrate, “decisive influence” has been held to exist (under EU competition law) with a minority shareholding as low as 30% (for example, in the Fuji case, where there were common directors). Similarly, in the Prysmian case (under EU competition law), the investor was fined EUR37.3 million for the power cable cartel in which the company in which it had invested had engaged due to the “decisive influence” that was held to exist. The investor’s interest in the company through a fund vehicle was only approximately 33%, but its voting rights were far higher (at one point 100%) and it controlled the composition of the board of directors.
The blog recommends that fund sponsors and parent companies consider implementing risk mitigation measures, including identifying GDPR compliance issues during due diligence and remediating them pre- or post-closing, structuring investor rights to reduce the risk that they will cause the investor to be viewed as having “decisive influence,” and obtaining appropriate GDPR-related reps & indemnities, as well as post-closing covenants.
This recent Forbes article by Okapi Partners’ Bruce Goldfarb says that recently deSPAC-ed companies may face a wave of activism this year. This excerpt says that Third Point’s recent initiative at Cano Health may be a preview of things to come:
Third Point’s push may be one of the first instances of a prominent activist investor targeting a SPAC – but it won’t be the last. In addition to depressed share prices, SPACs have other features that may draw the attention of activists. It’s important to remember: companies that went public through a SPAC merger are very new to the public markets and didn’t go through the typical underwriting process that comes with an IPO. That difference alone could leave both their managements and boards unprepared for an activist approach, although the problems may be greater than just a lack of underwriter diligence.
Specifically, the corporate governance of a typical SPAC is especially vulnerable to criticism. A recent study notes that since SPAC sponsors usually hold significant stakes in the company, as well as seats on the board, there can be an inherent conflict between their interests and those of public shareholders. Activists could also seek to challenge typical aspects of SPAC governance structure, including dual classes of shares and staggered boards. Further, many SPAC boards still include members held over from pre-merger days, who may be criticized for not having the relevant experience needed to oversee the acquired business in its current form.
Bruce adds a word of caution to activists targeting SPACs – their campaigns aren’t likely to be easy. That’s because the governance features that make them attractive targets, as well as sponsors’ large continuing ownership stakes in them, make SPACs tough targets.
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Our new Deal Lawyers Download podcast features my interview with Bloomberg Law’s Grace Maral Burnett about her analysis of references to cryptocurrencies & other digital assets in 2021 acquisition agreements. Topics addressed in this 18-minute podcast include:
– Researching references to cryptocurrencies & crypto assets in public acquisition agreements
– Emerging drafting trends did you discover when it comes to crypto references?
– The kind of deals that are referencing crypto
– Interesting or unusual crypto-related provisions
– Future trends do you see emerging when it comes to crypto in M&A deal documents?
If you have something you’d like to talk about, please feel free to reach out to me via email at john@thecorporatecounsel.net. I’m wide open when it comes to topics – an interesting new judicial decision, other legal or market developments, best practices, war stories, tips on handling deal issues, interesting side gigs, or anything else you think might be of interest to the members of our community are all fair game.
Last month, I blogged about the Delaware Chancery Court’s decision in BCIM Strategic Value Master Fund v. HFF, (Del. Ch.; 2/22), in which Vice Chancellor Laster determined to apply an upward adjustment to the merger consideration in determining the fair value of a share. While he did not find fault with the deal process, the Vice Chancellor did conclude that an increase in the target’s value between signing and closing should be reflected in the fair value determination.
This Cooley blog reviews the decision and offers up some key takeaways – one of which is the potential that it creates for appraisal arbitrage in some mixed consideration deals. The blog notes that this deal involved a combination of cash & stock, with each share of the target’s common stock being converted into the right to receive $24.63 in cash and 0.1505 shares of buyer’s common stock. At signing, the value of buyer’s stock implied a deal price of $49.16 per share (based on the buyer’s trading price on the date of signing). This excerpt says that it’s the use of a fixed conversion rate for buyer’s stock that creates the potential for appraisal arbitrage:
It is the use of spot trading prices to measure the value of buyer’s stock in a mixed consideration transaction that may create an opportunity for appraisal arbitrage. Had the deal consideration been comprised entirely of cash or had the exchange rate for the stock portion of the consideration been floating, rather than fixed, no upward adjustment would have been warranted because the determined fair value at closing ($46.59/share) was less than the implied deal price at signing of $49.16/share.
Additionally, an appraisal proceeding could have been wholly avoided had the transaction been structured as an all-stock deal or had target’s stockholders had the right to elect between cash and stock consideration and there was no cap on the amount of stock consideration a stockholder could elect (i.e., each stockholder could elect to receive 100% stock consideration).
The blog says that the case may create appraisal arbitrage opportunities for cash & stock deals even absent a change in target value between signing and closing. That’s because it creates an incentive for stockholders to argue that the value of consideration delivered at closing was less than fair value based solely on a decline in the buyer’s stock price between signing and closing.