I really like this Cooley blog, because to me it gets to the heart of the problem with using earnouts to bridge the valuation gap:
Often discussed in the context of bridging a valuation gap, an “earn-out” can be a (seemingly) attractive solution for parties who have reached agreement on everything but the purchase price. Earn-outs can take many different shapes, but the basic concept involves a seller receiving a promise of additional consideration from buyer in the future if certain agreed upon milestones are achieved.
Call it a compromise, call it delayed gratification, but do not call it simple: earn-out payments often give rise to disputes because the interpretation of what qualifies as the achievement of previously negotiated milestones can differ wildly once viewed through the muddied lens of time. With each party economically incentivized post-closing to adopt a reading that exploits any ambiguity to its benefit, and no reliable narrator to remind the parties of their prior positions, many bridges are burnt.
The blog then recounts the story of two recent Delaware decisions that are in keeping with the “dysfunctional Goldilocks” conclusions that courts usually reach when addressing ambiguous earnout provisions – this one’s too hot, this one’s too cold, and there’s never one that’s just right. In the end, the blog suggests that the best thing way to bridge the valuation gap may be to agree on value in the first place.
The HSR Act has once again proven that it contains some of the most formidable traps for the unwary in the entire U.S. Code. This time, it was activist hedge fund Third Point Capital that found itself caught in the HSR’s net. According to this FTC press release, Third Point and 3 affiliated funds agreed to settle charges that they failed to comply with applicable pre-merger notification & waiting period requirements in connection with the 2017 merger of Du Pont and Dow Chemical.
This Mintz Levin memo points out the inadvertent & highly technical nature of the alleged violation:
Prior to the Dow/DuPont merger—in 2014—Third Point had filed an HSR notification and observed the waiting period to acquire Dow voting securities. Third Point still held those Dow voting securities at the time of the merger. Following the merger, in exchange for the Dow shares, each Third Point fund received voting securities of DowDuPont valued in excess of the HSR jurisdictional threshold. Under one of the HSR exemptions, Third Point was permitted for a period of five years following the 2014 HSR waiting period to acquire additional shares of Dow without filing another notification, so long as the value did not exceed the next higher threshold.
However, that exemption did not apply to the acquisition of the DowDuPont shares because Dow and DowDuPont are not the same issuer. Although Third Point should have filed an HSR notification prior to its acquisition of the DowDuPont shares as a result of the merger, it did not do so until more than two months later on November 8, 2017. The waiting period for that “corrective” HSR notification then expired on December 8, 2017.
The government alleged violation of the HSR Act between Aug. 31, 2017 (when Third Point acquired the converted DowDuPont shares without first filing a notification and observing the waiting period) and Dec. 8, 2017 (when the waiting period for the corrective HSR notification expired). Civil penalties for violating the HSR Act in 2017 were a maximum of $40,654 per day of violation, resulting in a possible maximum penalty of over $4 million. The actual civil penalty imposed for HSR Act violations is at the discretion of the government up to the maximum. Here, the government adjusted the penalty significantly downward because the violation was inadvertent and the violation was self-reported.
The actual amount of the civil penalty paid by the Third Point funds was $609,810, and Third Point was enjoined from any future violations of the HSR Act. In addition to fining Third Point much less than it could have, the government also cut it some slack by not holding Third Point in violation of an existing injunction against violations the HSR Act. The memo notes that the settlement is a reminder that sometimes, HSR compliance is something that can be thrust upon investors without any action on their part:
This case reminds investors to actively evaluate all changes in their voting security holdings for potential HSR reporting triggers. Third Point did not have an active role in the “acquisition” that resulted in the violation; rather, its legally acquired voting securities were converted to voting securities of another issuer due to the merger of third parties.
It isn’t just an acquisition that can result in a need to file an HSR notification by an innocent bystander. As I blogged a few years ago, the FTC sanctioned another investor for failing to file when certain RSUs that it owned vested. Be careful out there, everybody.
Companies with at least 100 employees & some federal contractors with more than 50 employees have to file EEO-1s containing with certain workforce demographic information with the EEOC. In March, a DC federal court ordered the EEOC to begin collecting what’s known as “Component 2” data from companies required to file EEO-1s. That means that in addition to workforce demographics, these companies must now report employee pay data & hours worked by job category, & by race, ethnicity and sex.
Since this website isn’t called “EmploymentLawyers.com,” you may be wondering why I’m talking about EEOC requirements. Well, the thing is that the EEOC just released guidance saying that if you bought a company during 2017 or 2018, you’re on the hook to provide the required information for the acquired company – in some cases, even if the pay period used to measure that data occurred before the closing. This excerpt from this recent Proskauer blog explains:
In its guidance, EEOC advises, among other things, that acquiring companies are responsible for submitting Component 2 data of their acquired entity – whether the transaction occurred before or after the acquiring company’s workforce snapshot period. Similarly, where two companies merge to form a new entity, the new entity must report its Component 2 data, regardless of whether the merger occurred before or after the workforce snapshot period.
Where a purchasing or newly formed company does not have access to a former entity’s Component 2 data, they should note that in the comments box on the certification page in the EEO-1 online portal. For acquisitions closing in 2018, an acquiring company would not be required to report the 2017 Component 2 data of a purchased company, if the purchased company would not have been obligated to report its own 2017 Component 2 data (i.e., if it had less than 100 employees in 2017).
What if you sold or spun-off a business during the relevant period? Here’s what the blog says about that:
With respect to spinoffs occurring in 2018, newly created subsidiaries are not responsible for reporting their 2017 Component 2 data. The former parent company, however, would be responsible for filing the 2017 Component 2 data for the employees of the spun off company. Parent companies that sold a part of their business in 2018 are not required to file the 2017 or 2018 Component 2 Data for the sold entity – the purchasing company has that responsibility.
If this is the first you’re hearing of this, you’d better get moving – the Component 2 data is due by September 30th.
The final days & hours leading up to a signing or closing usually involve a flurry of ever-changing draft documents that frequently don’t come to rest until the very last minute. Since that’s the case, and because execs have an uncanny knack for falling off the face of the earth when you need them to sign stuff, collecting signed counterpart signature pages that can be attached to the final version of the documents in advance is an almost universal practice.
Unfortunately, a recent Delaware case invalidating a fully executed warrant agreement suggests that if you’re going to engage in this common practice, you need to be absolutely certain that everyone is signing-off on the same document. This excerpt from Francis Pileggi’s blog about the case provides the key takeaway for deal lawyers:
Careful practitioners should consider the risk (in light of this case) inherent in allowing a client to sign an “orphan” signature-page as a separate page by itself–and then later attaching that page (only) to a document that the signature-page is not indubitably a part of. Rather, a lawyer should be able to prove that the signatory has read and agrees to all the terms of the agreement that the signature-page is attached to.
That may seem obvious, but the contract at issue in this case was ruled to be unenforceable because the signature-page was formatted in such a way that it could be–and was–attached to a version of the contract other than the one that the signatory thought it belonged to. This risk also applies to the common practice of allowing “counterpart signatures” that may not be attached to the agreement at the time it is signed.
These risks need to be kept in mind when thinking about the process of getting your final agreements executed – but it’s worth noting that the facts of this case were pretty bizarre. It seems that nobody involved retained any emails or other records of anything related to the negotiations except for various drafts of the agreement. What’s more, the plaintiff couldn’t even remember the name of the lawyer who represented her! So, the court had very little evidence to go on in discerning whether there had been a meeting of the minds but for competing versions of the final agreement.
This Morris James blog highlights the Delaware Superior Court’s recent decision in Solera Holdings v. XL Specialty Ins., (Del. Super.; 7/19), which held – among other things – that a D&O policy’s duty to defend “Securities” claims extended to appraisal proceedings. Here’s an excerpt:
The insurers argued that appraisal actions were not covered “Securities Claims” because a claim for a “violation” implies wrongdoing, which need not be proven in an appraisal action. The Court reasoned, however, that “‘[v]iolation’ simply means, among other things, a breach of the law and the contravention of a right or duty.” This usage in the securities context is “logical” given that “[s]everal laws regulating securities can be violated without any showing of scienter or wrongdoing.” Because § 262 appraisal actions are, by nature, allegations that the company contravened the stockholders’ statutory right to fair value, appraisal actions were covered under the policy language at issue.
The Court went on to hold that pre-judgment interest on an appraisal award may be a covered “Loss” under the policy & that breach of a “Consent to Defense” clause doesn’t bar coverage in the absence of prejudice to the insurer.
Today’s high M&A valuations mean that buyers often face daunting challenges when it comes to achieving an appropriate return on their investment. This McKinsey report says that the emphasis on advanced analytics that helps keeps small market MLB teams competitive may be the key to extracting value in M&A. Here’s an excerpt:
For M&A, an area where few companies now apply advanced analytics, there is the potential to enhance all activities. During due diligence, companies may mine new insights from external data, if available. These analyses may be an important source of additional insights, since companies have limited access to internal data during the due-diligence phase.
Advanced analytics may also uncover opportunities for synergy that would have otherwise been overlooked. At the negotiation stage, when transaction documents are being created, companies can use behavioral analytics to understand their potential partners more thoroughly. With this knowledge, they can improve their negotiation strategy. Finally, when the deal is signed, companies can apply advanced analytics to derive maximum value from the transaction.
In addition to the soaring premiums paid in M&A transactions, the report says that another reason the time is right for applying analytics to acquisitions is the dramatic decline in data storage costs & the dramatic increase in processing power. These developments allow companies to more easily manage vast amounts of internal and external data – and as data management improves, it will enable companies to make better decisions and meet tight integration deadlines.
We have posted the transcript for our recent webcast: “Joint Ventures – Practice Pointers (Part II).” Here’s the transcript for the first “Joint Ventures – Practice Pointers” webcast.
Last year, I blogged about Vice Chancellor Glasscock’s letter ruling in Manti Holdings v. Authentix Acquisition, (Del. Ch.; 10/18) upholding a contractual waiver of appraisal rights. In response to a motion for reargument, the Vice Chancellor issued new opinion in the case fleshing out his position and clarifying the circumstances under which waivers of appraisal rights would be permissible under Delaware law.
VC Glasscock’s prior opinion focused primarily on the language of a contractual “drag right” that obligated the shareholder-parties to refrain from exercising appraisal rights. It did not address the predicate issue of “whether a stockholder can, via contract, validly waive her appraisal rights to begin with.”
The Vice Chancellor addressed that issue head-on in this opinion and reaffirmed his conclusion that shareholders could – at least sometimes – lawfully waive appraisal rights. Here’s an excerpt from Steve Quinlivan’s recent blog on the case outlining the key factors supporting that conclusion:
– The stockholders agreement was not a contract of adhesion. Sophisticated parties were involved and were represented by counsel, and counsel exchanged drafts of the proposed stockholders agreement before agreeing to a final contract.
– There is no record evidence that the petitioners were not fully informed.
– The Delaware General Corporation Law, or the DGCL, does not explicitly prohibit contractual modification or waiver of appraisal rights, nor does it require a party to exercise its statutory appraisal rights. Thus, such modification or waiver serves to supplement the DGCL, and is not inconsistent with, nor contrary to, the DGCL.
– The stockholders agreement clearly and unambiguously waived appraisal rights.
– The Court did not decide whether a waiver of appraisal would be upheld in other circumstances.
Bay Capital was a disappointed suitor that had twice made unsolicited proposals to buy Barnes & Noble Education. So, it decided to submit a slate of director nominees for a potential proxy contest. Under the terms of the company’s advance notice bylaw, director nominations had to be submitted between 120 and 90 days prior to the anniversary of the prior year’s annual meeting, and could only be submitted by holders of record. Bay Capital wasn’t a record holder when it submitted its slate, and the company rejected its nominees.
Bay Capital filed a lawsuit challenging the bylaw provision. Vice Chancellor McCormick shot that down in short order – and this excerpt from the memo suggests that Bay Capital wasn’t exactly a sympathetic plaintiff:
On June 27, 2019, the last day to submit director nominations for the 2019 annual meeting of stockholder, Bay Capital noticed the nomination of a slate of director candidates. Although the notice was timely, as of June 27 Bay Capital was just a beneficial owner of BNED stock and not a record holder. BNED’s Board of Directors therefore rejected the notice as invalid. Two weeks later, Bay Capital filed a complaint in Delaware Court of Chancery seeking injunctive relief to run its slate of directors at the upcoming annual meeting of stockholders.
The Court found that despite being reminded no fewer than four times by its advisor of the record holder requirement set forth in the BNED bylaws, Bay Capital did not acquire shares until three days before the nomination deadline. And when the shares were acquired, it was done through a broker such that there was not sufficient time to get the shares transferred in Bay Capital’s record name.
The Court dismissed various arguments advanced by Bay Capital in seeking an injunction, including a purported ambiguity in the BNED bylaws as to the need for the nominating stockholder to be a holder of record at the time it delivered the notice of nomination.
The facts of the case weren’t great for Bay Capital, but it seems to have made things worse for itself with its conduct during the lawsuit. First, the transcript notes that shortly after requesting expedited proceedings, Bay Capital objected to the hearing date because it interfered with its managing partner’s travel schedule. Then, its managing partner threw gasoline on the fire with his deposition antics. Here’s what the Vice Chancellor had to say about those:
As I stated earlier, the conduct was not optimal. After making defense counsel fly to London to depose him, Mr. Suri showed up a half hour late, left in the middle of the deposition for over two and a half hours to attend personal appointments scheduled that same day, and then unilaterally terminated the deposition when it suited him. He was evasive and obstructive in his responses,ultimately going as far as to say that the deposition was an “accommodation” to the defendants. This, of course, ignores the fact that it was Mr. Suri who instigated this lawsuit and requested expedition in the first place.
VC McCormick went on to note that although she hadn’t been asked to address whether this deposition conduct warrants fee shifting, that remains “an open issue.” It amazes me that people continue to act like this in Chancery Court depositions, particularly since the Delaware Supreme Court has so recently made it clear that not only it isn’t going to tolerate deposition shenanigans, but that it’s going to call out the deponent’s counsel for allowing them to occur.
This Jenner & Block memo discusses a recent comment letter submitted to the FTC by 18 state AGs. The letter argues for greater emphasis on labor and workforce issues in antitrust investigations. In addition to expressing concern about “no-poaching” & non-compete agreements, the letter addresses the merger review process. It argues that antitrust regulators should scrutinize a deal’s potential impact on the labor market as well as on consumers. This excerpt from the memo summarizes the state AGs’ position:
As to mergers, the signatories argue that antitrust scrutiny should be applied to merger activity not only with respect to the effects on the end consumer, but also to the effects on the entities that themselves are consumers in the labor market (i.e., employers).
The signatories note that mergers involving entities that do not compete in downstream product or service markets nevertheless might compete for labor, and their consolidation could drive down competition and demand for workers, not all that unlike the effects of a horizontal no-poaching agreement. While the attorneys general do not purport to identify a clear solution or recommendation for how to address mergers, they make clear that current approaches to evaluating merger activity do not adequately take all relevant factors into consideration.
Nearly a third of U.S. states & half the population are represented by the signatories to the letter, and while its impact on federal antitrust regulation remains to be seen, the memo points out that the letter makes it clear that “many state enforcers are acutely interested in trying to regulate a wide variety of business activities and practices on workers.”