With the FTC & DOJ taking an increasingly aggressive approach to merger review and enforcement, merger agreement terms allocating antitrust risk are becoming an ever more important part of the negotiation process. This Cahill article reviews various antitrust risk-shifting terms that may be contained in merger agreements.
Some of these provisions, such as antitrust covenants, are targeted specifically at antitrust risk. Others, such as specific performance clauses, MAE clauses and termination and reverse termination fee arrangements, allocate a broader range of risk but also contain provisions that may implicate antitrust issues. For example, here’s an excerpt from the article’s discussion of MAE clauses:
Both parties should consider whether the MAE has an impact on other clauses allocating general and antitrust risk. For example, hell or high water or best efforts antitrust covenants requiring a purchaser to undertake divestitures and other actions to obtain antitrust approval may be limited, purposefully or inadvertently, by an MAE provision.
Additionally, an MAE clause that provides that a substantive divestiture is an MAE could arguably undercut a hell or high water clause in the antitrust covenant. Parties should also consider the potential impact on antitrust risk provisions of taking a vague versus specific approach to defining an MAE.
We have posted the transcript for our recent “Activist Profiles & Playbooks” webcast. Our panelists, Joele Frank’s Anne Chapman, Okapi’s Alexandra Higgins, Spotlight’s Damien Park and H/Advisors Abernathy’s Dan Scorpio provided expert insights on what may be in store when it comes to activism in 2023. Here’s an excerpt from Damien Park’s comments about what’s driving activism this year:
What’s fueling activism this year? Clearly, the new adoption of universal proxy as John mentioned at the start of this discussion is going to contribute to activism this year. The amount of increase is still up for debate, but it’s not going to decrease the amount of activism, that’s for sure.
Without going into too much detail right now, we expect universal proxy will make it easier and slightly cheaper for activists to elect one or maybe two directors to a board. It also makes the unreachable, reachable – for example, traditional ESG type funds that typically don’t have the capital to carry out a costly campaign at companies with large retail shareholder bases to elect a director, can now do so at much less cost.
There are a few things we see trending both publicly and privately with our clients this year. One is this phenomenon when more than one activist approaches a company with demands that aren’t necessarily compatible with each other. In fact, their demands may be completely at odds with each other.
To give you a simple example, one activist may demand increased investments into areas of profitable growth while another demands a stepped-up return of capital to shareholders. Both activists may be seeking board representation and threatening a disruptive fight as leverage to get what they want. The difficulty with managing these situations is being able to balance all of these demands somewhat effectively in order to reach global peace, and still be able to run the business well.
In Teamsters Local v. Martell, (Del. Ch.; 2/23), the Chancery Court dismissed breach of fiduciary duty claims against the former CEO of Core Logic. Those allegations were premised on claims that, in order to preserve his job post-closing, the CEO steered the board toward an all-cash transaction with a financial buyer over a competing all-stock proposal from a strategic buyer with a higher implied valuation. Vice Chancellor Cook rejected those claims and held that the board’s decision to enter into the transaction was entitled to business judgment review under Corwin.
This Fried Frank memo reviews the Vice Chancellor’s decision and offers up the following key takeaways:
– The court dismissed claims that an officer steered an independent board to favor a financial buyer’s bid over a strategic buyer’s bid based solely on speculation that the officer had an implicit entrenchment motive. The court held that the plaintiff had alleged no particularized facts from which it could be inferred that CoreLogic’s CEO had an entrenchment motive; that he had in fact steered the board away from a deal with CoStar; nor, in any event, that he had influenced the independent and unconflicted board.
The claims were not sustainable based solely on “speculation and innuendo” arising from the CoStar CEO’s public comments about the sale process, particularly as the plaintiff had conducted a Section 220 investigation of the corporate books and records and had cited nothing in these documents to substantiate the claims.
– The court’s opinion reinforces that a board’s concerns about antitrust-related delay and value uncertainty can justify a determination to select a financial buyer’s cash bid over a nominally higher strategic buyer’s stock bid. The court rejected the plaintiff’s contention that, given that there were no “meaningful” antitrust issues associated with CoStar’s deal, the Board’s purported antitrust concerns about the bid must have been a pretext.
The court noted that a deal with no meaningful antitrust issues is different from a deal with no antitrust issues. The court also found no basis on which to reasonably infer that the Board did not actually have a concern about value certainty of CoStar’s stock deal, particularly given that CoStar’s stock, although high, had been steadily declining.
Another interesting aspect of this case is the Vice Chancellor’s accommodating approach to the idea of disclosure through incorporation by reference – which is something that Delaware courts can be persnickety about. Specifically, in this excerpt from his opinion, VC Cook rejected claims that information incorporated by reference into the target’s proxy statement from its 10-K was inadequately disclosed:
Nor is it “a per se disclosure violation to disclose information in public filings incorporated in the proxy instead of the proxy itself.” Where, as here, a document referenced in a proxy statement is “explicitly incorporated” and not “buried” such that “a reasonable stockholder reading the [proxy statement] could find it without difficulty,” it is considered “to be a part of the total mix of information available to stockholders.”
Public company mergers of equals aren’t uncommon, but since the stock of private companies isn’t liquid, an MOE involving private companies has been a relatively unusual deal structure. However, they say that necessity is the mother of invention, and this Gunderson memo notes that the difficult funding environment has resulted in more companies & investors considering MOE deals for private companies to accelerate growth & to pool financial and operational resources.
The memo provides a primer on these transactions, including an overview of their risks and benefits, alternative transaction structures, approaches to valuation, post-closing risk allocation, governance considerations and employee retention & right-sizing issues. This excerpt addresses some of the valuation allocation issues that private companies may face:
Liquidation Preferences: Typically in an MOE the liquidation preferences of each of the parties’ preferred stock investors will be preserved in some fashion in the combined entity’s capitalization. However, how those preferences “stack up” with each other (e.g., all pari passu or ranked seniority) will depend on the specific transaction and the existing rights (including whether some of the preferred stock in the legacy companies is “participating preferred”). In some MOEs, however, the parties elect to eliminate preferences in a bid for “cleaner” capitalization for the go-forward company.
Note: In a non-MOE private company stock consideration deal, buyers will often propose that selling stockholders receive buyer’s common stock, but with the business understanding that such common stock should be evaluated as if valued at the valuation used in the buyer’s last private preferred financing round (rather than on the basis of a “409A” valuation of the common stock). How such proposals are evaluated by selling stockholders is highly transaction-specific. Because of the instinct for mutuality in MOEs, by contrast, the negotiations around whether the preferred stock in the constituent companies is converted into preferred stock of the combined company are typically less fraught.
Wiping Out Common: Depending on the valuation assigned to each constituent company, it is possible that such valuation would not clear the collective liquidation preferences of one or both companies. If that is the case, while often the existence of the common stock is preserved (especially if liquidation preferences are likewise preserved), the parties sometimes consider cancelling the common stock for no consideration. However, as fiduciaries for common stockholder interests, parties should be extremely focused on fulfilling their fiduciary duties in this scenario, and should consult closely with counsel to construct a decision-making process that can withstand review.
Companies are likely to see continued investor & activist pressure to divest non-core businesses in order to generate higher multiples for the parent or the divested business. This Skadden memo discusses some of the reasons that, in the current environment, companies that are looking to divest businesses may want to consider some form of spin-off transaction. Here’s an excerpt:
As 2023 unfolds, boards and management can anticipate even more calls to “unlock value” by separation. One catalyst is the capital markets, where equity multiples generally have declined but growth sectors and businesses with predictable cashflows sometimes command premiums. Another factor is increased shareholder activism in response to the uncertain outlook for corporate performance due to macro-economic factors like higher interest rates, inflation and hampered demand.
As boards and management teams evaluate business portfolios and potential separation transactions, they confront an M&A environment in which carve-out sales face headwinds, including mismatches between buyer and seller valuation expectations, increased financing costs due to higher interest rates and market dislocation, uncertainty around the macro-economic outlook and increasingly aggressive regulatory reviews.
Faced with such an uncertain environment, boards and management teams contemplating separations would be well-advised to consider carefully spin-off and similar transactions like Morris Trusts, Reverse Morris Trusts, split-offs and incubator joint ventures — transactions we will refer to collectively as spin-offs. If well designed, these can not only unlock value for shareholders, but leave the company with flexibility regarding the final structure, so they can pivot along the way in response to input from shareholders or changing market conditions.
The memo highlights a number of the benefits of a spin-off, including the tax advantages to the parent, the ability to better align compensation incentives for executives at both companies, the ability to control the timing of the transaction, and the flexibility to revise the transaction structure based on shareholder input.
Large cap companies that find themselves facing a need to divest a sizeable business should definitely consider the many potential advantages of a spin-off alternative, but based on the one Reverse Morris Trust deal I worked on in my not-particularly illustrious career, one more thing they should consider is that some of these deals can be more complicated than nuclear fusion.
The January-February Issue of the Deal Lawyers newsletter was just posted and sent to the printer. This month’s issue includes the following articles:
– Delaware Court Addresses Freeze-Out Merger Confronted with Topping Bid
– Tortious Interference Claims in M&A: Deal Jumping
– Bandera Master Fund: Delaware Supreme Court Defers to General Partner’s Contractual Authority
The Deal Lawyers newsletter is always timely & topical – and something you can’t afford to be without in order to keep up with the rapid-fire developments in the world of M&A. If you don’t subscribe to Deal Lawyers, please email us at sales@ccrcorp.com or call us at 800-737-1271.
A couple of weeks ago, I blogged about how Vice Chancellor Will’s decision in Garfield v. Boxed, (Del. Ch.; 1/23), prompted a number of SPACs to file actions seeking to validate defective charter amendments under the procedure established in Section 205 of the DGCL. Last week, Vice Chancellor Will issued several orders validating those amendments and issued an explanatory opinion in In re Lordstown Motors, (Del. Ch.; 2/23). This Locke Lord blog summarizes the Vice Chancellor’s reasoning and explains the implications of her orders for the affected companies and for those not eligible for relief under Section 205:
The court ruled in Lordstown that the validations were justified under the standards of section 205(d), including in the situations where the corporate action might not have been legally defective because the class vote was in fact obtained even though not sought, finding that the uncertainty as to validity was sufficient to invoke section 205.
As we previously noted, the uncertainty resulting from the Boxed decision has caused auditors to raise concerns about the effect of that uncertainty on a company’s financial statements and, in some cases, to seek comfort from the company’s counsel. Where section 205 validation has been obtained, there should be no concern. Where that is not the case, the extent to which comfort can be provided without section 205 validation will depend upon the particular facts and circumstances.
For example, if the corporation had opted out of the need for a class vote by a provision in its certificate of incorporation, as permitted by DGCL section 242(b)(2), counsel may, if requested by the auditor, be able to provide an opinion on the validity of the stockholder approval of the amendment. Such an opinion would be akin to a typical third‑party opinion and not governed by the ABA Statement on audit responses regarding loss contingencies.
Late last week, we learned of a potential fly in the ointment. Apparently, the auditors for these companies approached the Staff of the SEC’s Division of Corporation Finance and were told that the Section 205 orders were insufficient, and that they needed legal opinions that the shares whose validity had been called into question were valid when issued.
A highly respected practitioner shared his view with me that the Staff may not have fully appreciated the nature and effect of the Section 205 orders. He believes that the Staff’s position is unjustified because the Court’s orders contain language providing that, consistent with Section 205(b)(8), the defective corporate actions are validated as of the time of they were taken. Since the orders are clear on their face, a legal opinion should not be necessary. Efforts are apparently being made to bring this to the attention of the auditors and the SEC.
Update: One of our members clarified that the auditors aren’t requiring formal legal “opinions”; they are requiring a memorandum from outside counsel explaining the legal basis for the company’s good-faith belief that the SPAC’s charter amendment was validly approved at the time of the deSPAC merger vote.
When it comes to ESG diligence, my sense was always that ESG considerations could be a deal breaker, but they were rarely a deal driver. In fact, John has blogged here a number of times about ESG due diligence, focused on valuation and risk mitigation in diligence and negotiation, regulatory factors and data gathering considerations.
This Wall Street Journal article suggests that strategic buyers may be thinking about ESG more holistically, based on a 2022 Deloitte survey of public companies with at least $500 million in revenue. 88% of the survey respondents said their company considered or completed acquisitions to improve its ESG profile, and the numbers were similar for divestitures. That may be even higher in some industries. 90% of energy, resources, and industrials respondents indicated they were acquiring companies or assets to add capabilities needed for the transition to a low-carbon future, and 100% of technology, media and telecommunications companies responded that they review their portfolios for ESG-related acquisitions.
But the best intentions seemed to break down a bit when companies actually sought to execute on ESG considerations, and the survey responses related to implementation painted a less clear picture, as summarized in Deloitte’s report:
Our data demonstrates that while there is broad alignment that ESG should be considered in deal-making, there is also broad uncertainty about how best to integrate ESG into M&A decisions and who is responsible for doing so. Our experience in this field suggests companies are struggling with how to incorporate the long-term nature of ESG issues with immediate concerns. Discounted Cash Flow (DCF) is highly sensitive to the first five years, but climate concerns are often based off views of 15-25 years.
Whether your client or company is addressing ESG from the perspective of strategy or risk avoidance, clearly there are some “pain points” associated with considering ESG factors in M&A strategy and execution.
A recent Weil going private survey showed that going private transactions reached a new high in 2022 by volume and value (up 51% from 2021), with over half of the targets in the technology/software space. The increase from 2021 slowed in the second half of the year due to macroeconomic conditions and uncertainty and the state of debt financing markets.
The survey attributes this increase, in the face of an otherwise depressed M&A market to:
– the pressure on public company valuations and stock prices due to financial/political turmoil and market sell-off making public companies more attractive targets when fundamentals are strong;
– companies who were quick to go public—maybe a little too quick during previous heights of the public markets and de-SPAC transactions—feeling strained by the burdens that accompany being publicly traded; and
– boards realizing that market high valuations may have been inflated and that premiums to a current price, rather than record price, present an opportunity to maximize value.
The survey goes on to review some interesting developments in take private transactions in recent years, including the focus on interim operating covenants and consequences of breaches, complications for recently de-SPAC or IPO companies and the sharp uptick in the use of CVRs (contingent value rights) in 2022.
Speaking of CVRs, in Q4 2022, Nasdaq proposed to adopt Listing Rule 5732 to provide standards for listing Price-Based and Event-Based CVRs on the Nasdaq Global Market. The SEC recently solicited comments on an amended form of the listing rule and approved the proposed rule, as amended, on an accelerated basis.
John previously blogged about Politan’s lawsuit against Masimo Corp. seeking to overturn the bylaw amendments adopted by the company following the effectiveness of the universal proxy rules. In case you missed it, Masimo has since backed down from the bylaw amendments and announced that the Board adopted amended and restated bylaws that revert them back to their prior form.
Unfortunate for us, maybe, since we won’t be able to see how this would have played out in court, but Masimo’s decision is understandable in light of the heat it has been taking on the bylaw amendments. Most recently, according to Reuters, the hedge fund industry association, MFA, filed an amicus brief supporting Politan’s position that the amendments were “draconian”.
To the extent your company adopted amendments reflecting the new universal proxy requirements and you’re wondering if you should be concerned, as John previously highlighted, there were particular provisions of Masimo’s bylaws that weren’t widely used by other companies. Further, Masimo’s bylaw amendments weren’t adopted on a “clear day,” so these challenges may not have particularly wide-ranging implications, except as a cautionary tale for the types of provisions that investors will take serious issue with.