Last year, in In re: Trulia, the Chancery Court adopted a hard line on disclosure-only settlements – requiring supplemental disclosures to be “plainly material” in order to support a broad release & fee award. Since that time, a few other courts have decided to toe Delaware’s line – most notably the 7th Circuit with its decision in the Walgreen case. However, disclosure-only settlements continue to be approved by courts in a number of other jurisdictions.
This Orrick memo highlights what appears to be the first state appellate court decision addressing disclosure-only settlements post-Trulia. In Gordon v. Verizon, New York’s 1st Dept. parted company with Delaware’s rejection of disclosure-only settlements. The lower court rejected the settlement, citing Trulia – but the Appellate Division reversed:
As an initial matter, the Appellate Division found that because the parties included a New York choice-of-law provision in the settlement agreement, New York law would apply (an implicit rejection of the trial court’s frequent citation to Chancery precedent). Although Verizon is a Delaware corporation, it does not have a Delaware forum-selection clause in its corporate bylaws and the Appellate Division did not evaluate whether the internal affairs doctrine required application of Delaware law.
Since the Court held that New York law applied, it looked to New York’s test for approving the settlement of merger litigation – which is more lenient toward disclosure-only settlements than Delaware’s.
What’s the key takeaway for Delaware corporations? Adopt an exclusive forum bylaw if you don’t already have one:
Verizon’s lack of a Delaware forum selection bylaw allowed the Gordon shareholder-plaintiffs to file suit in New York and thereby evade recent Delaware precedent regarding merger settlements. In light of the precipitous decline in merger litigation filed in Delaware post-Trulia, it is fair to wonder whether the Gordon plaintiffs would have brought suit at all if the matter was required to proceed in Chancery Court. Consequently, Delaware corporations should consider whether the adoption of an exclusive forum bylaw would be beneficial to reduce frivolous merger-related suits.
New York’s more lenient approach may make it a more popular venue for merger litigation, which is sort of a double-edged sword. New York’s approach might encourage the filing of more frivolous suits, but it may also facilitate settlement of lawsuits for companies looking for a quick resolution to claims surrounding a deal.
Late last year, CFIUS got dealmakers’ attention when it recommended that President Obama block a Chinese investment fund’s pending purchase of a US-based semiconductor business. As I blogged at the time, the President’s decision to block the deal represented only the third time that an American president had blocked a transaction on national security grounds.
This Winston & Strawn memo reviews CFIUS’ recent actions & offers up some thoughts on the role it may play during the current year. This excerpt highlights the possibility that CFIUS review may serve as a bargaining chip for the Trump Administration’s trade & investment initiatives:
President Trump has stated an intention to revisit U.S. trade practices. There has been speculation in media sources that CFIUS, although it looks at foreign investment, may be a tool that the administration uses in this regard. This is in part because the President’s national security authority is broad and practically unchallengeable in this circumstance. Potential developments include an enhanced use of mitigation agreements to obtain promises regarding U.S. production and jobs. The process may also become more politicized if the President uses it for leverage in other negotiations.
The memo raises specific issues that ought to be considered in acquisitions involving a foreign buyer – but notes that despite the changing environment, the vast majority of foreign investments in the US will continue to receive approval.
This Jones Day memo addresses the implications of the Chancery Court’s recent decision in Chicago Bridge & Iron v. Westinghouse, (Del. Ch.; 12/16), in which the Court held that under the plain language of a purchase agreement, post-closing purchase price adjustment disputes were subject to mandatory arbitration by an independent accountant.
While parties generally consider post-closing working capital adjustments to be a process for “truing up” the purchase price after the deal, in Chicago Bridge, the stakes were much higher. The “textbook” purchase price adjustment provision in the Chicago Bridge agreement said that the purchase price was to be adjusted based upon a comparison of closing net working capital to a specified target net working capital amount ($1.174 billion). The seller calculated an estimated closing net working capital amount of approximately $1.601 billion, which would have resulted in a $428 million payment from the buyer. Following the closing, the buyer recalculated closing net working capital as negative $976 million, which would have resulted in a $2.15 billion payment from the seller to the buyer.
How did the gap between the parties become so wide? Here’s an excerpt with the explanation:
The buyer went beyond challenging the underlying calculation and, instead, used its proposed adjustments to challenge whether the seller’s calculations were GAAP compliant. Specifically, based on the facts described in the opinion and pleadings, in three of the four adjustments, the buyer appeared to apply its own, different accounting estimates and judgments to project costs for nuclear plant construction.
The memo uses the Chicago Bridge case as the starting point for a wide-ranging discussion of purchase price adjustment provisions in acquisition agreements, and offers up a number of tips to keep in mind when drafting & negotiating them. Here’s an excerpt on language in the agreement about the consistent application of accounting principles:
The purchase agreement should clarify that a target’s past accounting practices, and the same accounting principles, estimates, judgments, methodologies, policies, and the like—including judgments as to loss and gain contingencies and materiality determinations—used to prepare the target’s financial statements should be respected in calculating the closing statement. Conversely, if representing a buyer, consider permitting use of prior principles only if in compliance with GAAP, and enabling the buyer to correct errors and omissions and to take into account all accounting entries regardless of their amount.
Any accounting formula contained in the purchase agreement should also list its specific components, & refer to line items on a referenced balance sheet or general ledger. The memo points out that referring simply to “net working capital,” “current assets,” “current liabilities,” or similar broad categories creates ambiguity as to what’s in and what’s out of the calculation.
This Wachtell memo discusses the establishment of the “Investor Stewardship Group” – a formidable coalition of institutions that have agreed on stewardship principles to combat activist pressure to focus on short-term results. Here’s an excerpt discussing the principles underlying ISG’s Framework for US Stewardship & Governance:
Focused explicitly on combating short-termism, providing a “framework for promoting long-term value creation for U.S. companies and the broader U.S. economy” and promoting “responsible” engagement, the principles are designed to be independent of proxy advisory firm guidelines and may help disintermediate the proxy advisory firms, traditional activist hedge funds and short-term pressures from dictating corporate governance and corporate strategy.
Importantly, the ISG Framework would operate to hold investors, and not just public companies, to a higher standard, rejecting the scorched-earth activist pressure tactics to which public companies have often been subject, and instead requiring investors to “address and attempt to resolve differences with companies in a constructive and pragmatic manner.” In addition, the ISG Framework emphasizes that asset managers and owners are responsible to their ultimate long-term beneficiaries, especially the millions of individual investors whose retirement and long-term savings are held by these funds, and that proxy voting and engagement guidelines of investors should be designed to protect the interests of these long-term clients and beneficiaries.
The ISG Framework also sets forth a corporate governance framework for public companies. The governance principles incorporated into the ISG Framework include board accountability, proportionate voting rights, independent board leadership and incentive structures that align with long-term strategy.
US institutions that have signed on to ISG’s Framework include BlackRock, Vanguard, State Street, T. Rowe Price, CALSTRs, Florida State Board of Administration & The Washington State Investment Board. Foreign institutions include Singapore’s Sovereign Wealth Fund & The Royal Bank of Canada. Ultimately, ISG seeks to have “every institutional investor and asset management firm investing in the U.S.” sign the framework and incorporate the stewardship principles in their proxy voting, engagement guidelines and practices.
The ISG Framework is intended to apply to the 2018 proxy season, but Wachtell recommends that companies incorporate its themes into their investor communications and benchmark their disclosures and practices to the Framework now.
This Nixon Peabody blog reviews the results of various M&A surveys on anticipated 2017 activity, & predicts that the upcoming year will see a high-level of activity & a more buyer-friendly market – subject to one big uncertainty:
Donald Trump’s election is shaping up to be a wild card for M&A activity in 2017. The key question is whether President Trump’s populist campaign rhetoric will result in economic policies that could have a chilling effect on markets in general, or if the Trump administration will be willing and able to work with the Republican leadership in Congress to advance a more traditional conservative economic policy.
Cuts in corporate tax rates, regulatory rollbacks & infrastructure spending could have a huge, positive impact on M&A – but if Trump & the Washington establishment (both Republicans and Democrats) end up at each other’s throats, a focused pro-business agenda is unlikely to materialize.
Delaware encourages derivative plaintiffs to seek books and records under Section 220 before bringing a lawsuit, but that takes time. A plaintiff in another jurisdiction might simply file a lawsuit right away, and if that suit is dismissed, the dismissal can preclude the Delaware plaintiff– which only gives the Delaware plaintiff less incentive to seek books and records in the first place.
Well, until now. In Cal. State Teachers Ret. Sys. v. Alvarez, (Del. 2017), that exact scenario occurred in the long-running action against Wal-Mart for violations of the foreign corrupt practices act in Mexico. While the Delaware plaintiffs sought books and records to bolster a derivative claim, federal plaintiffs in Arkansas ploughed ahead using public information, only to see their suit dismissed for failure to plead demand futility. And Delaware Chancery concluded that the Arkansas ruling was res judicata against the Delaware plaintiffs.
The Supreme Court expressed concern that constitutional due process required that – until demand futility is established – any single group of plaintiffs represents only their own interests, & not the interests of the corporation. The Court remanded the case back to the Chancery Court to consider the issue that it raised in its order – whether due process prohibits the pre-demand futility dismissal of a derivative claim from being res judicata with respect to subsequent plaintiffs.
This report from S&P Global Market Intelligence Quantamental Research analyzes the market performance of Russell 3000 companies following an acquisition greater than 5% of acquirer enterprise value between 2001 & 2016. It finds that post-M&A acquirer share price returns have underperformed peers in aggregate for the 1-, 2-, and 3-year periods following the acquisition. The findings include:
– Common Attributes Found in Successful Deals: Shareholders looking to identify successful acquisitions should look at acquisitions that use high levels of cash, have had lower historical growth, have repurchased shares, and make relatively small acquisitions.
– Acquirer Fundamentals Suffer Following Big Deals: In the aggregate, acquirers lag industry peers on a variety of fundamental metrics for an extended period following an acquisition. Profit margins, earnings growth, and return on capital all decline relative to peers, while interest expense rises, debt soars, and other “special charges” increase.
– Stock Deals Significantly Underperform Cash Deals: Acquirers using the highest percentage of stock underperform industry peers by 3.3% one year post-close and by 8.15 after three years. Acquirers with the highest one-year cumulative M&A spending underperform by 2.0% one year post close and by 9.3% after three years.
– Rapid Growth Pre-Acquisition is a Bad Sign: Acquirers with the highest pre-acquisition asset growth underperform by 5.8% one year post-close and by 13.3% after three years, while those with the highest pre-acquisition increase in shared outstanding also underperform significantly.
– Investors Beware Cash on Balance Sheet: Acquirers with the highest level of pre-acquisition cash & equivalents relative to assets underperform peers by 8.6% over one year and 10.1% over three years.
Section 548 of the Bankruptcy Code gives a bankruptcy trustee the ability to avoid any transfer that was made with actual intent to hinder, delay, or defraud present or future creditors. In last year’s Lyondell decision, a federal court in the Southern District of New York held that under agency law, the acts of a corporation’s agent are imputed to it – “even when the agent acts fraudulently or causes injury to third persons through illegal conduct.’” In other words, one bad apple’s intent can be imputed to the corporation & establish actual fraud.
This Cleary memo reports that another SDNY judge has taken a different view on imputed intent. Here’s the intro:
In a recent decision in the Tribune fraudulent conveyance litigation in the Southern District of New York, the court dismissed claims of actual fraudulent conveyance, holding that an officer’s intent could not be imputed to the company where he did not control the challenged transaction. The holding creates a split among Southern District authorities over the appropriate test for determining when an individual’s intent can be imputed to a companyto prove an actual fraudulent conveyance.
Lyondell created a potentially big problem for public shareholders in bankruptcies. These shareholders are usually protected under Section 546(e) of the Bankruptcy Code, which generally provides a safe harbor for transactions – like transfers of securities in a brokerage account – that involve a financial institution.
Courts have been fairly tough on efforts by creditors to do an end run on this safe harbor in the public company context, but there’s one exception to it that looks much more daunting in the wake of the Lyondell case. You guessed it – the Section 546(e) safe harbor does not extend to cases of actual fraud. So if one bad apple can result in a finding of actual fraud, any shareholder who receives a payout in an LBO has reason for some concern about whether they’ll get to keep the money. The standard adopted by the Tribune court would lower that risk significantly – but it remains to be seen what standard for imputed intent will ultimately prevail.
Appraisal litigation in Delaware has been a wild ride in recent years, with approaches to valuation & decisions about “fair value” that often seem unpredictable. This Skadden memo reviews recent cases & tries to sort things out. It looks at decisions that used the merger price as the starting point, as well as those that used a DCF analysis – and identifies factors influencing the Chancery Court’s approach to value. Here are some of the key conclusions:
– Even a well-run sales process does not guarantee the use of the merger price as the basis for a determination of fair value.
– Certain transaction dynamics & structures, including LBO/MBO transactions such as in the Dell case, may involve particular risks in the appraisal context.
– If the court rejects the merger price in its determination of fair value, it likely will rely on a discounted cash flow and consider the projections and valuations used by the parties – including, for example, the internal rate of return calculations of an LBO sponsor or MBO group.
– A discounted cash flow valuation based on management projections may result in fair value determinations higher than the merger price.
This recent MergerMarket study reviews private equity fund lifecycles & reports that they’ve grown longer in recent years:
As a rule of thumb, PE funds aim to return all of their investors’ capital within 10 years — using approximately five years to invest and five years to harvest those deals, with two or more years of extensions written into the Limited Partner Agreement in order to realize value in underlying portfolio companies if necessary. Our findings show that fund life spans have increased beyond 10 years for the majority of GPs.
The study found that 66% of the fund GPs surveyed said that their most recent fund took between 11 and 14 years from initial investment to being completely wound up. Here are some of the study’s other key findings:
– 58% of respondents say the PE fundraising period for the current fund was longer than the preceding one, with 16% describing it as having increased significantly.
– 56% of respondents say that the timeframe from investment to disposition has increased over the past five years, with 12% saying it has increased significantly. This means that LPs’ called capital is illiquid for longer, making it unavailable for other general partners (GPs) who are in fundraising mode.
– Dry powder is at an all-time high, and yet PE firms are also setting records for additional fundraising. Two-thirds of respondents believe that the proliferation of PE firms and funds is behind this trend, meaning that managers will have to compete hard to raise new capital.
The study suggests that investors’ decisions to concentrate their capital with fewer managers for primary commitments may be a big part of the reason for the increase in time spent fundraising. Multiple factors have contributed to the lengthening of the investment period – including declines in asset values following the financial crisis and the length of time required for those values to recover, and the effects of increased competition for investments & record purchase price multiples for private companies.