Clients are sometimes very impatient with lawyers’ emphasis on getting the “process” right and frequently aren’t shy about expressing their displeasure about it. Well, the next time you find yourself on the receiving end of a complaint like that, don’t hesitate to use the Delaware Chancery Court’s recent decision in Dieckman v. Regency, (Del. Ch.; 10/19), to support your argument that it’s not just a matter of getting the right result, but getting there in the right way.
The case involved an investor challenge to the sale of Regency Energy Partners to an entity affiliated with its general partner. The GP defended the transaction on the basis of its compliance with the terms of a “safe harbor” for affiliated transactions laid out in the limited partnership agreement. A key condition to the applicability of safe harbor was a requirement that the GP rely upon a fairness opinion in making its decision concerning the proposed deal’s fairness.
The Chancery Court rejected the GP’s argument and granted summary judgment to the plaintiffs as to the inapplicability of the partnership agreement’s safe harbor. As this excerpt from Fried Frank’s recent memo on the decision notes, while the GP received the required fairness opinion, its reliance on it in reaching its own fairness determination was another matter:
In Dieckman, the question of reliance arose because the minutes of a Conflicts Committee meeting held before the Committee received the fairness opinion indicated that the Committee determined, at that meeting, that the proposed transaction (which at that time reflected terms that were less favorable than the final terms of the Merger) was fair. The issue was compounded by the fact that the fairness opinion was never updated to reflect the final terms of the Merger.
The memo makes the point that a final determination about fairness should not be made before receipt of the fairness opinion and meeting minutes should state that the board or committee received “and relied on” the fairness opinion.
Intralinks’ annual Limited Partner Survey always makes for interesting reading. This excerpt discusses LPs growing interest in co-investment opportunities:
When asked their preferred investment allocation method, alongside traditional LP stakes in commingled funds, 34% of survey respondents said it would be direct investment vehicles. This underscores a growing level of confidence in how they approach the world of alternative assets, as some larger institutions build their own in-house investment teams to improve returns and reduce fees.
The same is true of co-investing as LPs look to build closer partnerships with their GPs to invest side-by-side in buyout deals. In this year’s survey, it was cited by 30% of investors. As reported by Pensions & Investments, the likes of the $226.5 billion CalSTRS and $44 billion University of Texas/Texas A&M Investment Management Co. are making changes to their private equity investment approaches to evolve beyond commingled funds.
“Family offices specifically are very interested in co-investment opportunities,” says a family office investment advisor. “A private equity manager operating a commingled fund will see deal opportunities, and what they will tend to do is say to investors, ‘If you give us another $20 million we could co-invest on this deal for a modest 50 basis point fee.’ There is definitely growing interest in this.”
The survey says that the major drivers of limited partner interest in co-investment are the opportunity to improve returns & to better align their interests with those of the general partners.
A simple failure by the seller’s shareholders to approve the deal is an unusual termination fee trigger. In fact, according to the latest ABA Deal Points survey, this so-called “naked no vote” trigger appears in fewer than 3% of public deals. But it does appear in the merger agreement for one of this year’s more high-profile transactions, Google’s pending $2.1 billion acquisition of Fitbit.
Section 8.01(b)(ii) of the merger agreement gives either party the right to terminate if “the Requisite [Fitbit] Stockholder Approval shall not have been obtained at the Company Meeting or at any adjournment or postponement thereof, in each case, at which a vote on such adoption was taken.” In turn, Section 8.03(a)(ii) provides that “If, but only if, this Agreement is terminated by either [Google] or [Fibit] pursuant to Section 8.01(b)(ii), the Company shall pay, or cause to be paid, to Parent or Parent’s designee(s), as the case may be, an amount equal to $21,000,000 (such amount, the “No Vote Fee”).
One thing worth noting here is that the size of the No Vote Fee is much smaller than the size of the termination fee otherwise payable under the more customary triggers found in the agreement. The No Vote Fee represents about 1% of the deal’s equity value, while the termination fee payable in other situations represents about 3.8% of its equity value.
The No Vote Fee raises a couple of questions. The first one is – does this pass muster in Delaware? There’s certainly a risk that, in some situations, a deal protection like this might be viewed as unduly coercive, but a naked no vote termination fee trigger has been upheld by the Delaware Chancery Court in at least one case, based upon the Court’s assessment of the strength of the sale process. In re Lear Corp. Shareholder Litigation,(Del. Ch.; 9/08).
The second question is the more interesting one – namely, why did the parties agree to the No Vote Fee? My guess is that it may have had a lot to do with the fact that, as described in the “Background of the Merger” section of Fitbit’s preliminary proxy statement, Google had formidable competition for the deal – in the form of a perhaps not so mysterious bidder identified in the proxy as “Party A.” That competing bidder may have been unsuccessful in its bid to buy Fitbit, but it was extremely successful in driving up the price Google had to pay to get the deal.
My suspicion is that this competition & the uncertainty about whether the parties have heard the last from Party A may help explain both Google’s insistence on the No Vote Fee & the relatively large size of the termination fee payable in other circumstances. From Fitbit’s perspective, the results of the sale process, which saw Google raise its bid from $4.59 per share to $7.35 per share, as well as the fact that the size of the No Vote Fee approximated the size of the naked no vote fee that passed muster in the Lear case, may have made it comfortable in agreeing to pay such a fee.
The No Vote Fee isn’t the only interesting termination fee potentially payable under the merger agreement. There’s also a whopping $250 million reverse termination fee that comes into play if the deal doesn’t receive antitrust clearance. (Section 8.03(b)). That fee represents 12% of the deal’s equity value, and is 4x higher than the 3.1% median strategic buyer reverse termination fee set forth in the latest data from Houlihan Lokey.
Of course, all of the tech giants are under intense antitrust scrutiny right now, & this deal doesn’t include the kind of “hell or high water” covenant sometimes seen in deals where significant antitrust problems are anticipated, so those factors likely had a lot to do with the size of the reverse termination fee.
I know Broc isn’t going to like this, but I can’t let his big announcement go by without remarking on it.
If you ever visit St. Paul’s Cathedral in London, you’ll find the tomb of the great architect Christopher Wren, who was instrumental in rebuilding the city after the Great Fire. Wren designed more than 50 London churches, including the majestic St. Paul’s, and beside his tomb, you’ll find inscribed the words, “Reader, if you seek his monument, look around you.”
I think that’s a fitting farewell for our friend and colleague Broc Romanek as he moves on to the next phase of his remarkable career. I know I speak for all of us when I say how grateful we are for his leadership & his friendship, and how much we will miss his daily presence.
These websites, and this community, are really one of a kind – and they are the product of one man’s extraordinary vision and superhuman capacity for work. So, reader, if you seek Broc’s monument, look around you.
Earlier this year, I blogged about the FTC’s $5 million settlement with Canon & Toshiba arising out of their efforts to structure the sale of the Toshiba Medical Systems Corporation (TMSC ) to avoid compliance with the HSR Act. The authority for the FTC’s challenge to that transaction was provided by Rule 801.90 promulgated under the HSR Act – which allows regulators to disregard any transaction or device employed for the purpose of avoiding compliance with the Act.
Now, in the wake of the Canon/Toshiba settlement, the FTC has blogged guidance setting forth its views on the reach of Rule 801.90, using the TMSC transaction as a starting point. Here’s an excerpt:
According to the Statement of Basis and Purpose for Rule 801.90, “[f]or purposes of determining whether transactions or devices for avoidance have been employed, of obvious relevance will be the existence of reasons other than avoidance for the manner in which a particular transaction is consummated.” Some have argued that so long as there is a legitimate purpose for the overall structure of the transaction, then there is not a purpose to avoid. This is not correct.
Rule 801.90 is not a normative provision, nor is it even focused on the competitive effects of transactions. Rather, it poses a simple question: does the benefit that is the motive behind the transaction’s structure result from avoiding or delaying filing? If the answer is yes, the structure is an avoidance device under the Rule.
So, in this case where Toshiba’s desire to quickly realize the gains from the transaction so as to avoid bankruptcy may have been “legitimate”—and certainly was not anticompetitive—that benefit flowed directly from delaying the filing. In contrast, if a transaction’s structure creates a benefit entirely unrelated to HSR filing – such as a tax benefit from a proposed structure that has nothing to do with filing – but the filing is delayed or avoided as an incidental consequence of the structure, there is no avoidance device.
The Canon/Toshiba proceeding was the first proceeding based on Rule 801.90 in a long time, but the blog makes it clear that it was a “shot across the bow” – and that companies can expect to face stiff penalties if they restructure a reportable acquisition in order to avoid complying with the HSR’s pre-merger notification requirements.
Xerox turned up the heat on its unlikely bid for HP yesterday when it sent a letter to HP’s board stating its case for a deal & threatening to “take its compelling case to create superior value for our respective shareholders directly to your shareholders” unless HP agreed to allow Xerox to conduct due diligence.
That’s a good old fashioned “bear hug” – a letter designed to maximize the pressure on a target’s board to move forward with a deal. It usually includes some kind of a threat to launch a hostile bid unless the bidder gets a favorable response from the board within a short period of time. These aren’t always made public – at least at first – but they’re always drafted with an eye on their ultimate public disclosure.
I’ve got to admit, I’m a sucker for these letters. Xerox’s is one of the more aggressive of the genre – sometimes called a “grizzly bear hug” – because it laid out price & terms and immediately made the letter public. About a decade ago, the NYT published an article called “The Art of the Bear Hug”, which recounts prominent examples of the use of bear hug letters. Here’s an excerpt with a little history about how this practice got its start:
This unusual letter-writing practice dates back to the early 1980s. Bruce Wasserstein, Lazard’s chairman and a longtime player in the mergers game, tracks the practice back to 1982, when Boone Pickens sent a bear hug letter to Cities Service, a small oil company.
Mr. Pickens made “an offer directly to Cities’ C.E.O. and announced it to the world,” Mr. Wasserstein wrote in his book “Big Deal.” “The likelihood of that happening was slim. However, that wasn’t the point. Pickens just wanted to build pressure on Cities’ incumbent managers and board of directors.”
And that last sentence summarize what these things are all about. Bear hug letters are ultimately a pressure tactic to get a target’s board to the negotiating table. That’s why they prominently feature some spin about the premium being offered and the other wonders associated with the combination. Xerox’s letter is no exception.
But it’s not all about the spin. These letters are often intended to create disclosure issues for the target under the federal securities laws and they may also implicate state takeover statutes – which can sometimes be a trap for the unwary for a bidder who doesn’t pay close attention to the wording of the bear hug.
Xerox’s threat to go hostile isn’t its only leverage point with HP – and it’s probably not even close to being its most significant one. After all, activist Carl Icahn holds a big stake in both companies & is on record as supporting a combination.
A few months ago, I blogged about a Delaware Superior Court decision holding that a D&O policy’s duty to defend “securities claims” extended to appraisal actions. Late last month, in In re Verizon Insurance Coverage Appeals, (Del.; 10/19), the Delaware Supreme Court rejected a similar argument for coverage in the context of common law & statutory claims. Here’s an excerpt from this recent Morris James blog discussing the case:
The Delaware Supreme Court, applying principles of contract interpretation under Delaware law, held that claims of breach of fiduciary duty, unlawful dividends and fraudulent transfer were not Securities Claims reflecting a violation of any “regulation, rule or statute regulating securities” and hence the defendant’s director and officer insurance policy that covered such claims did not apply. The Supreme Court thus reversed a holding of the Delaware Superior Court that the insurance coverage applied because the claims “pertain[ed] to laws one must follow when engaging in securities transactions.”
The Supreme Court held that the unambiguous plain meaning of the policy language was that the parties intended coverage only for claims arising under regulations, rules or statutes that “regulate securities.” Using that definition, the Supreme Court held that claims of breach of fiduciary duty, aiding and abetting fiduciary duty breaches, and promoter liability were not Securities Claims because they do not involve regulations, rules and statutes regulating securities. Likewise, the claim for unlawful dividends arose under statutes that regulated dividends, not securities, and the fraudulent transfer claims arose under statutes that were not “specific to transfers involving securities.”
Verizon argued that the term “Securities Claims” as used in the policy should be construed to apply to “any laws one must follow while engaging in securities transactions.” The Court concluded that this was an overly broad interpretation: “Parties involved in a securities-related transaction must follow laws not specifically directed toward securities. Verizon’s interpretation would make any unlawful conduct committed during a securities-related transaction fall within the Securities Claim definition.”
The Court’s decision in Verizon didn’t address the issue of whether appraisal claims should be regarded as “Securities Claims,” but appraisal actions address the issue of whether a shareholder received fair value for their shares in a transaction, so they are more directly related to transfers of securities than the common law & statutory claims at issue in Verizon.
In the era of the index fund, common institutional ownership among large public companies is almost ubiquitous. As I’ve previously blogged, this has raised a number of governance-related concerns, but it seems that common institutional ownership also has a big impact on M&A. According to a recent study, common ownership among a buyer & its potential competitors substantially reduces the number of competing bids that a target receives:
In summary, we find that the presence of common ownership between the acquirer and potential contesting bidders is negatively associated with the likelihood that the target receives a competing bid. The common ownership effect is highly statistically significant and economically substantial: one common institutional investor lowers the likelihood of bid contest by about 45 percent.
While targets might bemoan the role that common institutional ownership plays in reducing competing bids, the study says that buyers have a lot to cheer about. Common institutional ownership between the acquirer and potential competing bidders is associated with greater synergies & also results in more of those synergies going to the buyer’s shareholders.
Last week, in High River Limited Partnership v. Occidental Petroleum, (Del. Ch.; 11/19), the Chancery Court held that an intent to launch a proxy fight was not a “proper purpose” for a books & records request under Section 220 of the DGCL. The case was prompted by a proxy contest being waged by entities affiliated with Carl Icahn. In turn, that arose out of Occidental’s agreement to acquire Anadarko Petroleum, its issuance of $10 billion in preferred stock to Berkshire-Hathaway in order to fund the transaction, and a related agreement to sell Anadarko’s African operations.
The plaintiffs objected to a number of aspects of the Anadarko transaction, including the terms of the Berkshire financing & the adequacy of the price at which Occidental agreed to sell Anadarko’s African assets. Accordingly, they filed preliminary proxy materials seeking four board seats & certain bylaw amendments. They also issued a books & records demand for a variety of materials relating to the Anadarko deal.
The plaintiffs put forward two arguments in support of their position that they had a “proper purpose” for their books & records demand. One argument was fairly typical – the plaintiffs’ inspection demand was prompted by a need to investigate mismanagement. The other argument was somewhat novel – that the plaintiffs’ intent to mount a proxy contest surrounding the transactions “is a proper purpose that justifies inspection of board-level documents relating to those transactions in order to enhance the quality of their communications with fellow stockholders.”
Vice Chancellor Slights rejected the first argument, observing that the plaintiffs failed to articulate a credible basis for alleged wrongdoing by Occidental’s board. He also refused to recognize the proxy fight as providing a proper purpose for inspection. In doing so, he distinguished this situation from a few other decisions involving books & records requests made in connection with proxy contests – including High River Partnership v. Forest Labs, (Del. Ch.; 7/12), a bench ruling involving the same plaintiffs:
Forest Labs presented a distinct factual context, and the court there was careful to limit its ruling to the case sub judice. In doing so, the court observed that the law in this area is unsettled and could use some clarity. I agree. But this case is not the vehicle to provide that clarity.
Where, as here, the documents sought by Plaintiffs relate to a dispute with management about substantive business decisions, pleading an imminent proxy contest is not enough to earn access to broad sets of books and records relating to the details of questionable transactions, particularly when the board’s decision-making is subject to the business judgment rule, and the facts of record reveal that Plaintiffs already have what they need to fulfill their stated purpose.
When the court in Forest Labs decided that the plaintiffs there had articulated a proper purpose, it turned to the well-settled limiting principle embedded within Section 220 that stockholders are entitled to inspect only those documents that are “necessary, essential and sufficient” to their stated purpose. Applying that limiting principle here, I am satisfied that Plaintiffs have failed to demonstrate that the broad set of books and records they have requested are necessary and essential.
The Vice Chancellor pointed out that the plaintiffs’ request related to a series of widely-publicized transactions that were well known to Occidental’s shareholders. Under the circumstances he concluded that it was “difficult to discern how a fishing expedition into the boardroom is necessary and essential to advance Plaintiffs’ purpose to raise concerns with their fellow shareholders about the wisdom of the Board’s decisions to engage in these transactions.”
According to Dykema’s “15th Annual M&A Outlook Survey,” dealmakers aren’t quite as upbeat about the prospects for M&A activity during 2020 as they were last year. Only about 1/3rd of respondents expect the M&A market to strengthen over the next 12 months – that’s down from 65% last year. Still, only 1/3rd expect a downturn in M&A, so roughly 2/3rds of respondents expect that 2020 will at least equal 2019’s performance. Here are some of the other highlights:
– Despite trade issues with China, respondents picked that country as the top destination for U.S. outbound M&A activity. A year ago, the country didn’t make the top five, showing the complex nature of U.S./China relations. After China, the top three destinations were Europe, Canada and Japan.
– 33% of respondents said the main driver of U.S. M&A activity in the next 12 months will be general U.S. economic conditions, displacing availability of capital (24%) which had been in the top spot for the past six years.
– 58% of respondents expect an increase in M&A activity involving privately owned businesses in the next 12 months, down from 82% in 2018.
– Financial U.S. buyers, as they were in 2018, are expected to be the biggest influencers on U.S. deal valuations. Respondents believe foreign buyers will have greater influence compared with a year ago, perhaps because the U.S. is still a relatively safe bet compared with other countries.
– Respondents predict the following sectors will see the most M&A activity in the next 12 months: 1) Automotive; 2) Healthcare; 3) Energy; 4) Consumer Products; 5) Technology. Healthcare moved up two spots from 2018.
This survey is a somewhat more pessimistic about M&A activity than the EY survey that I recently blogged about – but even that survey saw some concerns about the pace of M&A activity in the U.S. next year.