This Wilson Sonsini memo reviews the Delaware Chancery Court’s recent decision in IRA Trust FBO Bobbi Ahmed v. Crane (Del. Ch.; 12/17), in which the Chancellor Bouchard dismissed fiduciary duty claims arising out of a corporate recapitalization specifically designed to benefit the company’s controlling shareholder. Notwithstanding the conflicts of interest involved in the transaction, the Chancellor held that the process by which it was implemented satisfied the MFW framework – and that the business judgment rule applied to board’s decision.
The recapitalization involved NRG Yield, Inc., a company with a dual-class capital structure & a controlling shareholder. The company had issued stock to finance several acquisitions following its IPO, and as a result the controlling shareholder’s stake had declined from 65% to 55%. In order to prevent further erosion of the controller’s interest, the board authorized the issuance of a new class of low-vote common shares as a dividend to all of the company’s shareholders. Those new shares each had 1/100th of a vote, and the company planned to issue them to finance future acquisitions.
This excerpt from the memo summarizes Chancellor Bouchard’s decision:
Despite finding that the entire fairness standard applied to the transaction, the court still granted the defendants’ motion to dismiss the case. In particular, the court held that the Company had properly followed the “MFW” framework, named after the 2014 Delaware Supreme Court decision in Kahn v. M&F Worldwide Corp., which provides a roadmap for avoiding the entire fairness standard of review in, at least, certain types of controlling stockholder transactions.
Specifically, the Company’s board of directors – unlike some companies that have pursued similar types of recapitalizations – conditioned the recapitalization from the outset of negotiations on approval by a fully empowered independent committee of the board of directors and by a fully informed, uncoerced majority of the minority vote. Because the Company had followed MFW, the court applied the business judgment rule to the recapitalization. The court also rejected the typical panoply of disclosure allegations that plaintiffs bring in these types of claims in an effort to discredit approval by minority stockholders, which must be fully informed under MFW.
The memo touches on several other potentially significant aspects of the Chancellor’s decision – including his statement that even if MFW had not been properly followed, the company’s independent directors would have been dismissed from the lawsuit because the plaintiff didn’t meaningfully allege that they lacked independence or failed to discharge their fiduciary duties.
We have posted the transcript for our recent webcast: “M&A Stories: Practical Guidance (Enjoyably Digested).” Here are the 15 stories that were told during this program:
1. Dig Your Well Before You Are Thirsty
2. Diligence Isn’t Just About Looking for Problems, But for Opportunities Too
3. Expect the Unexpected
4. Keep Your Eye on the Ball
5. Keep Your Friends Close (And Your Enemies Closer)
6. Strategic Deals Require Creativity & Patience
7. The Speech the Director Never Delivered
8. Another Rat’s Nest
9. Don’t Attempt to Win the Championship Football Game With an All-Star Basketball Team
10. What Does Collegiality Really Mean?
11. The Board Book’s Tale: Bankers, Stick to the Numbers!
12. Preparing for Battle
13. Driving a Deal Is Not Unlike Filming a Movie
14. Assumptions Make an *%$ Out of You & Me
15. A Deal So Nice, We Did it Twice
In recent years, many companies have either terminated their poison pills or allowed them to expire in response to investor & proxy advisor pressure. Overall, this hasn’t caused much angst to corporate America – & that’s likely because their ease of adoption means that every company can be regarded as having a pill waiting “on the shelf” to be put in place quickly when needed.
Academic studies are mixed on the impact of explicit poison pills on corporate value – but there’s a new study that looks at the valuation implications of a board’s ability to quickly implement a pill. The study’s conclusions are pretty interesting. Here’s the abstract:
This paper analyzes the value impact of the right to adopt a poison pill – or “shadow pill” – on long-term firm value, exploiting the natural experiment provided by staggered poison pill law adoptions that validated the use of the pill in 35 U.S. states over the period 1986 to 2009. We document that the availability of a shadow pill results in an economically and statistically significant increase in firm value, especially for firms more engaged in innovation or with stronger stakeholder relationships. Our findings are robust to different specifications, including matching and portfolio analysis, and provide support to the bonding hypothesis of takeover defenses.
So what’s this “bonding hypothesis” of takeover defenses? It’s the idea that empowering the board to commit the firm to a business strategy that cannot easily be reversed through a takeover promotes the undertaking of long-term projects and stronger stakeholder relationships, thus increasing firm value.
This Skadden memo surveys the state of M&A disclosure litigation nearly 2 years after the Delaware Supreme Court’s Trulia decision fundamentally altered Delaware’s approach to “disclosure only” settlements. Here’s an excerpt:
Disclosure-based settlements before the Court of Chancery are all but extinct. Litigation has not subsided in Delaware post-Trulia but has taken a different form. Instead of preclosing requests for injunctive relief, stockholder plaintiffs have focused instead on post-closing monetary damages and have increased their use of statutory relief, such as books and records and appraisal actions pursuant to 8 Del. C. §§ 220 and 262, to challenge transactions.
Some state and federal courts outside of Delaware have adopted and applied the reasoning in Trulia, but a number of disclosure-based settlements involving companies incorporated under different state laws have found favor in other state courts, with some courts distancing themselves from Trulia. Also, since Trulia, many stockholder plaintiffs appear to be avoiding filing their disclosure claims as state law breach of fiduciary duty claims, instead filing claims relating to a proposed transaction in federal courts pursuant to federal securities laws in order to avoid forum selection bylaws requiring internal corporate state law claims (such as breach of fiduciary duty claims) to be filed in Delaware, and likely in the hopes of extracting higher mootness fee awards with less scrutiny. This proliferation of securities claims has inspired plaintiffs’ attorneys to develop new tactics and craft some novel disclosure claims.
The memo reviews several post-Trulia cases arising in other states, and concludes that although disclosure-based settlements have obtained approval in some state courts outside of Delaware, federal securities law disclosure claims have largely replaced state law fiduciary duty disclosure claims in M&A litigation.
I recently had a conversation with one of my colleagues about negotiations with a seller’s counsel in a private company deal. He sent out a buyer-favorable purchase agreement to seller’s counsel – but the deal contemplated rep & warranty insurance with no indemnity strip from the seller.
When my colleague negotiated with the seller’s lawyer on the reps & warranties, the other lawyer said at one point, “I suppose I could mark a lot of these up, but I’m not sure that I care.” The seller’s lawyer was being a bit facetious, but his comments illustrate what’s become the “new normal” in negotiating deals backed by R&W insurance. To put it simply, the tough negotiations on reps and warranties often take place between the buyer and the insurance company, not the buyer and the seller.
This Gibson Dunn memo reviews how the R&W insurance market has evolved in recent years, and the effect that the availability of that insurance is having on how parties to the deal allocate risks. Here’s an excerpt that discusses the benefits of a “no survival deal” with an R&W policy:
While limiting the seller indemnity can meaningfully shorten the negotiation timeline, eliminating it entirely can dramatically simplify negotiations.
For example, even in a $100 million transaction, the respective deal teams can spend a surprising amount of time negotiation a $500,000 indemnity strip. Eliminating the seller indemnity can also enhance the buyer’s coverage under the RWI policy.
Most policies will include two types of “coverage enhancement.” First, they will include a “full materiality scrape” – i.e., they will “read out” materiality qualifiers in the reps for purposes of determining whether a rep has been breached and the amount of losses resulting fom such a breach. Second, they will not impose a “damages exclusion” on the buyer’s recovery – i.e., they will cover a range of damages, including consequential damages and those based on multiples of earnings and lost profits.
In a no-survival deal, most RWI policies will include these coverage enhancements as a matter of course (that said, before including a materiality scrape, the insurer will want to confirm that the seller has populated the disclosure schedule without regard to the materiality qualifiers in the reps).
What’s interesting is that insurers are less generous with coverage enhancements in the case of deals with an indemnity strip. In these situations, they general require that the seller agree to a full materiality scrape and the absence of a damage exclusion.
The memo also addresses some of the limitations on R&W insurance and alternative methods of addressing gaps in coverage.
This Paul Weiss memo reviews the Chancery Court’s recent decision in van der Fluit v. Yates, in which Vice Chancellor Montgomery-Reeves dismissed breach of fiduciary duty claims against a seller’s board – despite concluding that the directors’ decisions were not entitled to business judgment rule deference under Corwin.
This deal was structured as a merger with a front-end, all-cash tender offer under Section 251(h). Earlier this year, the Delaware Supreme Court held in In re Volcano Corp. that Corwin’s path to the business judgment rule extends to tender offers under Section 251(h). However, Corwin requires fully-informed, uncoerced shareholder approval of the deal, and the Vice Chancellor found that lacking here.
Nevertheless, she dismissed the plaintiffs’ claims. As this excerpt from the memo explains, despite the inability of the board to rely on Corwin, the plaintiffs were unable to identify any non-exculpated breaches of fiduciary duty:
The court concluded that all breaches of the duty of loyalty alleged by defendants were unsupported by the facts, including conclusory allegations that the director defendants favored Oracle in the bidding process, that the directors sought to maximize their own pre-IPO investments rather than stockholder value, and that the termination fee was unreasonably high.
The court also rejected plaintiff’s claims that the board unreasonably rushed the two-week market check to favor Oracle, and therefore breached its duty of loyalty. The court distinguished the case from its decision in In re Answers Corp., which held a two-week market check to be unreasonably rushed. In that case, the plaintiff made non-conclusory allegations that the market check was unreasonably rushed, citing various warnings from the company’s financial advisor, including that it was not a “real” market check. Here, the court found that the plaintiff did not make any such non-conclusory allegations.
Finally, the plaintiff failed to sufficiently state a duty of loyalty claim through allegations of conflicts of interests that tainted a majority of the board. The court first concluded that the board did not breach its Revlon duties (which duties “are only a specific application of directors’ traditional fiduciary duties of care and loyalty in the context of a control transaction”). Second, the court concluded that the board did not act outside of its business judgment, holding that the plaintiff failed to allege facts showing that interested directors comprised a majority of the board, dominated the other directors, or failed to inform the other directors of their alleged conflicts.
The memo also points out that the applying Revlon to the post-closing damages claims may be inconsistent with reasoning in Corwin suggesting that Revlon and Unocal standards of review are better suited to the preliminary injunction context, & shouldn’t apply to post-closing claims. The Vice Chancellor acknowledged this potential departure from Corwin, but said that the court didn’t decide on the applicable standard of review because the plaintiff failed to state a claim under either enhanced scrutiny or the business judgment rule.
Your mention of clay tablets and abacuses in election counting reminded me of an eRaider proxy fight in Florida. The independent election guy showed up with a wooden table, a bit smaller than a dining room table, divided into bins; much like the counting boards used in ancient Mesopotamia. In it were blocks of proxies held together by rubber bands, and also wooden blocks with symbols on them (they would have been clay figurines in Akkad, but they didn’t have a lot of wood there).
The guy had tabulated things but there were lots of problems. He would pull out blocks of proxies and explain them: these are multiple votes of the same shares (often for different candidates), these are shares with both shareholder and broker votes, these are altered proxies, these are proxies from last year’s election, these are unsigned, and so on. The CEO and I would trade back and forth until the three of us agreed on a total we could all live with. That number was announced at the meeting which took place immediately afterwards, although the official total a few weeks later differed in inconsequential ways.
The advantage of this process that the blockchain or a modern database would eliminate is the bonding process between activist and CEO. There’s no alternative but to go out for beers after the meeting and swap stories about how stupid shareholders are; and how ridiculous the legal process of corporate governance is. You start out with big differences on business policy and governance, you end up allies against the uncaring world.
According to Dykema’s “13th Annual M&A Outlook Survey,” dealmakers are more optimistic about the prospects for M&A activity in 2018 than they were last year. The survey found that 39% of respondents M&A market to strengthen over the next 12 months – that’s up from 33% in 2016.
Other highlights include:
– Half of respondents said President Trump will have a positive impact on the U.S. economy and M&A market in 2018.
– 70% predict the volume of small deals (under $50 million) will increase over the next 12 months, with 53% predicting an uptick in deals valued between $50 million and $100 million.
– 68% said they would be involved in an acquisition in the next 12 months – approximately the same as last year.
– For the fourth year in a row, tech & healthcare are expected to see the most M&A activity in the next year. 59% of respondents also predict more M&A activity involving fintech startups & established financial services companies.
– Nearly 80% of respondents expect an increase in M&A activity involving privately owned businesses in the next 12 months. That’s a 10% increase over last year’s results.
The survey also says that more companies in Asia are expected to pursue deals in the U.S. next year. Interestingly, despite public statements from the Trump administration calling for the renegotiation of NAFTA, outbound M&A activity from the U.S. to Mexico and Canada is expected to increase in the next year.
This Kirkland & Ellis memo cautions about the dangers of unthinking reliance on contractual “successors and assigns” boilerplate to ensure that contract rights and obligations go where the parties want them to in spin-offs and other separation transactions. Here’s an excerpt:
When a company separates itself into two or more pieces via a spin-off, split-off, carve-out or similar deal structure, it is not clear whether contractual rights and obligations replicate themselves at the separated entity.
To take a simple example, shareholders often negotiate a set of governance rights in a stockholders’ agreement to which the company is a party. What happens to those rights if the company spins-off a portion of the business into a separate independent company? While a party may expect contractual rights to replicate themselves at the new spin-off company, often there is nothing explicit in the agreement that dictates the outcome — the boilerplate “successors and assigns” provision typically is not implicated.
The memo notes that the consequences of this scenario can be the loss of important contract rights if the other party doesn’t agree to import the governance rights to the newly independent spin-off company. It recommends contract languge that specifically addresses the possibility of a separation transaction, and even provides some sample language:
Spin-Offs or Split-Offs. In the event that a Party effects the separation of a [material/ substantial] portion of its business into one or more entities (each, a “NewCo”), whether existing or newly formed, including without limitation by way of spin-off, split-off, carve-out, demerger, recapitalization, reorganization or similar transaction, prior to such separation the Party shall cause any such NewCo to enter into an agreement with the other Party that contains rights and obligations of the Parties that are substantially identical to those set forth in this Agreement.
This Weil Gotshal blog flags a scary new Texas case that says when it comes to finding yourself with a potentially binding deal, don’t just worry about the language of your LOI or term sheet – keep an eye on your inbox as well. Here’s an excerpt:
A recent Texas Court of Appeals decision, Le Norman Operating LLC. v. Chalker Energy Partners III, LLC, No. 01-15-01099-CV, 2017 WL 4366265 (Tex. App.—Houston [1st Dist.] Oct. 3, 2017), suggests that a definitive agreement can exist by virtue of a series of emails between the parties confirming the essential terms of their deal, despite a confidentiality agreement signed at the beginning of an auction process by all potential bidders that specifically provided as follows:
“No obligation. The Parties hereto understand that unless and until a definitive agreement has been executed and delivered, no contract or agreement providing for a transaction between the Parties shall be deemed to exist and neither Party will be under any legal obligation of any kind whatsoever with respect to such transaction by virtue of this or any written or oral expression thereof, except, in the case of this Agreement, for the matters specially agreed to herein. For purposes of this Agreement, the term “definitive agreement” does not include an executed letter of intent or any other preliminary written agreement or offer, unless specifically so designated in writing and executed by both Parties.”
In reaching its decision, the court noted that the confidentiality agreement didn’t specify what a definitive agreement had to look like, and that since a chain of email messages between the parties over a two day period set forth in writing “the assets to be sold, the purchase price, a closing day, and other key provisions” of the deal, those messages might qualify as a definitive agreement. As a result, it refused to grant summary judgment on the defendant’s contention that no definitive agreement existed.
It’s tempting to conclude that this is just “one of those Texas things” – I’m looking at you, Pennzoil – but the blog says that’s probably not a good idea:
At first blush it may be tempting to dismiss this case as an aberration. But simply stating that an offer or acceptance of specified terms is “subject to contract” has repeatedly proven to be a very ineffective means of avoiding the formation of a contract based on the otherwise agreed terms set forth in a preliminary agreement.
Indeed, the New York Court of Appeals recently said that “[l]ess ambiguous and more certain language is necessary to remove any doubt of the parties’ intent not to be bound.” And the fact that earlier preliminary agreements contain language clearly disclaiming intent to be legally bound does not preclude later writings and conduct of the parties from becoming binding contracts.