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!
In their latest “Understanding Activism with John & J.T.” podcast, John and J.T. Ho were joined by Sean Donahue. Sean is Chair of the Public Company Advisory practice and Co-Chair of the Shareholder Activism & Takeover Defense practice at Paul Hastings, and his practice focuses on counseling public companies and their boards of directors on shareholder activism and takeover defense, mergers and acquisitions, capital markets transactions, securities regulation, and corporate governance matters.
Topics covered during this 35-minute podcast include:
How exempt solicitations differ from conventional proxy solicitations
Common exempt solicitation scenarios and when and how companies should respond
Will the trend toward use of exempt solicitations by pro- and anti-ESG proponents continue?
The goals of a typical “vote no” campaign and how these campaigns typically unfold
Impact of majority voting standards on the effectiveness of vote no campaigns
Defense strategies for vote no campaigns and how they differ from those used in a traditional proxy contest
What “zero slate” campaigns are and how they work
Potential advantages and disadvantages of a zero slate campaign for an activist
How companies should adjust defense strategies to address the threat of of a zero slate campaign
Are zero vote campaigns activism’s next big trend?
John and J.T.’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 I have found them very engaging and filled with practical insights! Stay tuned for more!
Last week, the Treasury Department announced that it has finalized rule changes proposed back in April that expand CFIUS’s penalty and enforcement authority. This Gibson Dunn memo notes that the changes were largely adopted as proposed, with the exception of modifying the time frame within which parties are required to respond to mitigation agreement proposals.
The final rule reflects the following key changes highlighted in the announcement:
– Expanding the types of information CFIUS can require transaction parties and other persons to submit when engaging with them on transactions that were not filed with CFIUS;
– Allowing the CFIUS Staff Chairperson to set, as appropriate, a timeline for transaction parties to respond to risk mitigation proposals for matters under active review to assist CFIUS in concluding its reviews and investigations within the time frame required by statute;
– Expanding the circumstances in which a civil monetary penalty may be imposed due to a party’s material misstatement and omission, including when the material misstatement or omission occurs outside a review or investigation of a transaction and when it occurs in the context of CFIUS’s monitoring and compliance functions;
– Substantially increasing the maximum civil monetary penalty available for violations of obligations under the CFIUS statute and regulations, as well as agreements, orders, and conditions authorized by the statute and regulations, and introducing a new method for determining the maximum possible penalty for a breach of a mitigation agreement, condition, or order imposed;
– Expanding the instances in which CFIUS may use its subpoena authority, including in connection with assessing national security risk associated with non-notified transactions; and
– Extending the time frame for submission of a petition for reconsideration of a penalty to CFIUS and the number of days for CFIUS to respond to such a petition.
The changes will be effective 30 days after publication in the Federal Register. We’re posting memos in our “National Security Considerations” Practice Area.
The Chancery Court recent decision inGB-SP Holdings LLC et al. v. Walker, (Del. Ch.; 11/24) provides a reminder that fiduciaries who breach their duty of loyalty may find themselves facing financial consequences even if damages to the company itself are too speculative to be proven.
The case involved claims of breach of fiduciary duty against the directors of BridgeStreet WorldWide, Inc. arising out of flawed efforts to restructure the financially troubled company’s debt. After an unsuccessful effort to sell the company, a new creditor acquired its secured debt from existing creditors. BridgeStreet subsequently defaulted and entered into a forbearance agreement with the new creditor. During the negotiation process for that forbearance agreement, the company refused to honor its largest stockholder’s right under a shareholders’ agreement to have its designee elected to the board, and stiff-armed the stockholder’s information requests, which also violated the shareholders’ agreement.
The directors obtained indemnification from the creditor for any claims asserted by the company’s largest stockholder, and members of its senior management team, including two directors, secured continued employment and bonuses from the creditor as part of the forbearance agreement. The company subsequently violated the financial covenants in the forbearance agreement, and ultimately agreed to a consensual foreclosure under which it surrendered all of the equity in its operating subsidiaries to the creditor.
The plaintiffs brought a derivative action, alleging that BridgeStreet and certain directors breached the shareholders agreement and that the directors breached their fiduciary duties in approving the forbearance agreement and the consensual foreclosure. The plaintiffs also brought claims against the creditor alleging that it aided and abetted the directors’ breach of fiduciary duty.
In addressing the breach of fiduciary duty claims, Vice Chancellor Fioravanti rejected the defendants’ contention that the decision to enter into the forbearance agreement was protected by the business judgment rule because the indemnity and employment arrangements established by the agreement involved self-interest. Accordingly, he evaluated the decision to adopt the forbearance agreement under the entire fairness standard and found that neither the price nor the process were fair. He also concluded that the creditor aided and abetted the breach of fiduciary duty.
While the Vice Chancellor concluded that the plaintiffs had not established more than nominal damages for their claims, he said that didn’t mean the defendants were off the hook. Citing Guth v. Loft, 5 A.2d 503, 510 (Del. 1939), he noted that “when a fiduciary has breached the duty of loyalty, the fiduciary must be deprived of all profit flowing from the breach. He then brought the hammer down:
While the harm to the Company is too speculative to quantify, the benefits to the Pre-Forbearance Directors are clear: each received indemnification for all claims brought by GB-SP, and Curtis and Worker received lucrative bonuses under the September 2013 MOU. The Pre-Forbearance Directors cannot retain the benefits they received as a result of their breaches of fiduciary duty. Therefore, the Pre-Forbearance Directors are liable to BSW for all amounts paid to them or their counsel under the Indemnity Agreement. In addition, the bonuses paid to Curtis and Worker under the September 2013 MOU must be disgorged and returned to BSW.
BridgeStreet still owed the creditor approximately $7 million, and as a remedy for its role in aiding and abetting the breach of fiduciary duty, Vice Chancellor Fioravanti held that its claims to any funds the company received from the disgorgement would be subordinated to the claims of other creditors.
Buyers conducting due diligence in an M&A transaction need access to the target’s material agreements. Some of these agreements may have confidentiality provisions prohibiting them from being shared with third parties, and a recent Business Law Today article by Glenn West highlights a New York trial court decision that suggests that uploading these agreements to M&A data rooms without understanding the obligations imposed by those provisions is a risky approach.
In AriZona Beverages v. EVERCORE, No. 608480/2024 (Sup. Ct., Nassau Cty,. Aug. 27, 2024), the plaintiff successfully obtained a court order requiring a target’s investment banker to disclose the identity of all parties who accessed a copy of a supply agreement. This excerpt from Glenn’s article summarizes the Court’s decision:
The court found that AriZona Beverages had “brought forth sufficient information to confirm that the Can Supply Agreement is crucial to [AriZona Beverages’] business and the breach of the requirement of non disclosure permitting other part(ies) to obtain confidential and proprietary information must be addressed through the disclosure sought herein.” In addition, the court specifically found that the acts complained of by AriZona Beverages “could conceivably form the basis of a cause of action including, but not limited to, tortious interference with contract.”
Accordingly, the court ordered Evercore “to disclose the identity of each entity or individual to whom it provided access to the data room . . . [or] supplied a copy of the Can Supply Agreement or otherwise disclosed its terms.”
The article notes that bottom line is that uploading the supply agreement and sharing it on the data room would be a breach of the terms of most confidentiality provisions, and the plaintiff has the right to know who accessed the agreement in order to determine its potential damages.
The article also points out that decision provides a reminder that it isn’t only buyers who need to do due diligence on the terms of material agreements – potential targets need to understand their own contractual confidentiality obligations before sharing information about material contracts with prospective buyers. He also notes that the decision suggests that in these situations, relying on confidentiality obligations imposed on potential buyers through NDAs with the target aren’t sufficient to protect targets from breach of contract claims for sharing confidential agreements with those parties.
Last month, in Solak v. Mountain Crest Capital, (Del. Ch.; 10/24), the Chancery Court refused to dismiss fiduciary duty claims against a SPAC sponsor and other insiders arising out of alleged misrepresentations concerning the value of the SPAC’s shares in a de-SPAC proxy statement. This excerpt from an A&O Shearman blog on the case notes that Vice Chancellor Glasscock allowed the plaintiff to cast a wide net when it came to identifying potential controlling stockholders:
Although two defendants held in the aggregate 20% of the SPAC’s shares, the Court nevertheless inferred that they were controllers because they were the sole members of the SPAC sponsor, which plaintiff alleged generally controlled all aspects of the entity from creation to merger. The Court also inferred that three additional individual defendants were controlled by the two controllers because they expected to be considered for directorships in future SPACs and because they were granted 2,000 founder shares.
While these shares only represented $20,000 (an arguably nominal amount for these defendants), the shares would be completely worthless if the SPAC did not reach a merger deal. The Court inferred that the controllers and directors engaged in a conflicted transaction, triggering entire fairness review, because defendants had a financial interest in effectuating any merger, regardless of its value. The Court also credited plaintiff’s theory that defendants competed with the common stockholders for value in the transaction.
The plaintiff challenged statements in the proxy to the effect that the de-SPAC merger had a value of $10 per share. He argued that the pre-merger net cash value per share was only $7.50 and that by failing to disclose the actual net cash per share being put into the merger, the proxy statement’s claims about the value of the merger were misleading. Although Vice Chancellor Glasscock didn’t think that the plaintiff’s allegations were strong, he ultimately concluded that the plaintiff “barely” satisfied the pleading standard for its breach of fiduciary duty of loyalty and unjust enrichment claims.
In our latest “Understanding Activism with John & J.T.” podcast, J.T. Ho and I were joined by Dan McDermott. Dan is a senior vice president at strategic communications firm ICR, and is also an adjunct professor at the University of Pennsylvania Law School, where he teaches one of the nation’s few law school courses on shareholder activism. Dan’s recent article on the hidden costs of short attacks – which Meredith blogged about last month – formed the basis for our discussion.
Topics covered during this 30-minute podcast included:
– Differences between the objectives of an activist short seller and a traditional activist
– Common themes or “red flags” that activist short sellers look for in targeting companies
– How an activist short attack unfolds and typical company responses
– Use of “wolf pack” tactics & other collaborative efforts between activist short sellers
– The need to include the possibility of short attacks in company’s activist preparedness efforts
– How strategies for responding to short attacks differ from responses to traditional activism
– How often short attacks lead to traditional activism
– How companies prepare to respond effectively to short attacks
– Impact of recent SEC enforcement activity on short attack strategy
– Lessons from law school course on activism
Our 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. We’re continuing to record new podcasts, and I think you’ll find them filled with practical and engaging insights from true experts – so stay tuned!