The New York Court of Appeals held that business judgment review is available in the context of going-private mergers of controlled companies. In re Kenneth Cole Prods., Inc. S’holder Litig., No. 54 (N.Y. May 5, 2016). The decision adopts the same standards set forth by the Delaware Supreme Court in its MFW opinion and affirms dismissal of a stockholder suit.
The case concerned a merger transaction between Kenneth Cole Productions, Inc. and its controlling stockholder, Kenneth Cole. In February 2012, Cole informed the board of directors that he wished to take the company private. The board appointed a special committee of independent directors. Cole thereafter made an offer conditioned on the approval of both that independent committee and the vote of the majority of the minority stockholders. Following months of negotiation, the special committee approved the merger and some 99% of the minority stockholders voted in favor of it. Multiple stockholder class action lawsuits challenging the transaction were nevertheless filed. The trial court dismissed these actions, reasoning that the complaints failed to impugn the independence of the special committee, and the appellate division affirmed. On appeal to New York’s highest court, plaintiffs argued that all controlled company go-private mergers should be subject to “entire fairness” review.
The Court of Appeals unanimously disagreed and affirmed dismissal. In so doing, the Court expressly adopted the Delaware MFW standard, which applies business judgment review to controller buyouts when “(i) the controller conditions the procession of the transaction on the approval of both a Special Committee and a majority of the minority stockholders; (ii) the Special Committee is independent; (iii) the Special Committee is empowered to freely select its own advisors and to say no definitively; (iv) the Special Committee meets its duty of care in negotiating a fair price; (v) the vote of the minority is informed; and (vi) there is no coercion of the minority.” Stressing the “general principle that courts should strive to avoid interfering with the internal management of business corporations,” Judge Stein’s opinion for the Court of Appeals also made clear that this standard applies at the pleadings stage and cannot be avoided through conclusory or artful allegations.
The Kenneth Cole decision brings standards for controlling stockholder mergers in New York in line with those of Delaware and provides transaction planners with a path for controlled New York corporations to obtain business judgment review, and early litigation relief, in going-private mergers.
Following up on my Gannett blog earlier this week, this NY Times article has some interesting information about one of the “Vote No” campaigns on my radar screen, which appears to have generated significant actions – at little expense to the dissident…
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Most importantly, the compensation committee should be involved in the design and execution of acquisition-related executive compensation programs in order to maximize the likelihood that key employees are retained and the acquisition is successful, while appropriately managing the company’s financial risk. Here are a few of the M&A-related items that compensation committees are most likely to focus on:
– Retention plans. Retention plans are among the most frequent plans adopted during an acquisition as they are seen as a major motivator for key employees who may be tempted to leave the new company before all transitions have taken place. In Willis Towers Watson’s 2014 M&A Retention Survey, we found that a high degree of senior leadership communication and interaction with acquired company leaders was strongly correlated with high retention rates. Board members can play a key role in that communication process, talking directly with acquired company executives about the retention strategy and growth opportunities that the new company offers. A compensation committee can also serve as a check on retention plan costs, ensuring that potential retention payments are not excessive relative to both the external market and internal compensation opportunities.
– Incentive plan adjustments for acquired company participants. Most acquisitions have an immediate impact on the revenue, earnings and financial performance of the acquiring company. However, those financial results may not have been considered at the time when the acquirer established its short-term or long-term incentive plan goals. A key decision for the compensation committee is how, if at all, it will account for the acquisition in measuring financial performance over the measurement period for outstanding incentive cycles. For example, is the acquisition completed early enough in the performance cycle that the incentive goals can be reset to include the acquired company, or should the committee look for ways to adjust the final measured performance (e.g., by “backing out” the acquired company performance)?
– Integration of the acquired company’s senior executives into the acquirer’s compensation structure. If any of the acquired company’s executives become executive officers of the new company, their compensation package likely will be subject to compensation committee review under the terms of the committee’s charter. Even if none of acquired company’s executive pay plans require committee approval under the terms of the committee’s charter, the committee may want to review management’s proposed timeline for transitioning all acquired executives’ pay packages onto the acquirer’s plans. This would typically include the salary structure, bonus and long-term incentive (LTI) plans, benefit plans and policies such as severance and stock retention, among others.
– Effect of the acquisition on equity and other LTI plans. The overall equity compensation program is most commonly managed by the compensation committee, and large acquisitions could result in significant increases in employee participation and total LTI plan value. Management may be required to show LTI grant projections for the combined company and ensure that the company has sufficient shares available in its shareholder-approved equity plan to make the planned LTI grants. In addition, the committee may be required to approve LTI grants at deal close to acquired executives, possibly to convert acquired company equity compensation to acquiring company equity compensation.
– Review of the legacy programs of the target company. Often, the terms of an acquisition will include legacy employee protections, policies or pay levels that would not otherwise be adopted by the acquirer. Examples might include tax gross-ups on change-in-control parachute payments or above-market compensation guarantees. The compensation committee should promptly be made aware of any such provisions and have ultimate authority to act on any terms that could harm the acquirer’s reputation from a governance perspective, whether with institutional investors, activist shareholders, proxy advisors or in the media.
Is it novel for a wannabe acquiror to put pressure on a target by running a ‘withhold’ campaign? Yes, it’s very unusual. There may have been others, but not that I can think of. The intro from this WSJ article explains the situation:
Gannett Co. on Monday urged Tribune Publishing Co. shareholders not to back Tribune’s slate of director nominees, in an effort to send a “clear signal” that investors want the two companies to engage in merger talks. Last week, Gannett went public with its proposal to acquire Tribune in a deal valued at about $400 million that would combine titles like USA Today, the Los Angeles Times and Chicago Tribune, as the struggling print news industry increasingly consolidates. Getting Tribune Publishing shareholders to withhold director votes is the only way that Gannett can influence this year’s proxy vote. Gannett made its offer public because it was frustrated at Tribune’s lack of response.
I can think of a few proxy fights where the buyer has run board seats like Roche/Illumina or Airgas – or when Valeant solicited consents to get a special meeting called against Allergan. But not a “withhold” campaign against directors. I haven’t looked at the situation that closely, but possibly Gannett is going this route because they missed the nomination deadline for a proxy fight – Tribune’s annual meeting is June 2nd…
Tune in tomorrow for the webcast – “M&A Research: Nuts & Bolts” – to hear Cooley’s Mutya Harsch; Wachtell Lipton’s Susan Hesse; White & Case’s Dan Kessler; Foley & Lardner’s Ben Rikkers and Fredrikson & Byron’s Jamie Snelson explain how to quickly analyze potential deals and their related documents, which can be more of an art than a science. Here’s the agenda:
1. M&A Research Nuts & Bolts: Getting Started
– Deal sheet (summary of basic info: working group, deal parameters, timing goals, billing arrangements)
– Due diligence/research/memos
– Identifying precedent deals (similar structure/issues, reflecting client preferences)
– Drafting
– Execution – checklists
– Closing – post-closing matters
2. Having the Infrastructure
– Knowledge management
– Central location for knowledge sharing; using technology; improving efficiency
– M&A group infrastructure
3. What External Resources Exist
– Basic due diligence tools
– Deal points studies
– Deal databases
– Specific resources
4. Staying Up-to-Date
– Internal communications
– Conferences
– External sources
– Law firm memos
– Close coordination with other groups in the firm
Here’s a recent report from FactSet that shows the trend toward activism at large- and mega-cap companies. Here’s an excerpt from the report:
The number of activist campaigns launched against Mega cap (greater than $50 billion in market value) and Large cap (greater than $10 billion in market value) companies in 2015 made up 8% of the total number of activist campaigns tracked by FactSet SharkRepellent (30 out of 375). This represented an increase from 2014, when these companies constituted 6.4% of the total number of activist campaigns (22 out of 345). Campaigns against Mega cap and Large cap firms have been increasing since 2009, when there were only six campaigns of this type, consisting of only 2.6% of the total (six out of 230). So far in 2016, there have been 104 total activist campaigns announced and four have involved a Mega cap or Large cap target. This is right near the number of campaigns against Mega cap and Large cap firms at the same point in 2015 (seven) and 2014 (five).
Here’s the intro for this blog from “The Activist Investor”:
About once a month, a PM calls us about some company, wanting to talk about the prospects for an activist project. We review the financials and the filings. Often we suggest the shareholder just move on – the business isn’t worth trying to turn around, or the board and management are too entrenched. Sometimes we suggest a plan. Once in awhile we move ahead with it.
Occasionally, and more often after we suggest moving on, the PM wants to write a strongly-worded letter to the BoD chair and the CEO. Confidence about the investment thesis and frustration about the current results and share price yields a long, detailed, and lively manifesto, an “open letter” to the board, management, and other shareholders.
At a minimum, this is a waste of time, energy, and money. Worse, it betrays a certain naive ignorance about activist investing.
This blog by “The Activist Investor” entitled “What Activist Investors Should Know About the ValueAct HSR Lawsuit” is a good companion for these memos posted in our “Antitrust” Practice Area.