DealLawyers.com Blog

Here’s news from Lisa Stark of Berger Harris:

In Southern Pennsylvania Transportation Authority (“SEPTA”) v. Volgenau, C.A. No. 461, 2013 (Del. May 13, 2014), the Delaware Supreme Court affirmed a Chancery Court decision holding that a sale of a controlled corporation to an unaffiliated third party, in which a controller (while not on both sides of the transaction) was alleged to have used his position to compete with the minority for merger consideration, would be reviewed under the deferential business judgment standard of review if the transaction is (1) recommended by a disinterested and independent special committee and (2) approved by stockholders pursuant to a non-waivable vote of the majority of all the minority stockholders.

Sales of Controlled Corporations to Unaffiliated Third Parties

The Delaware Supreme Court did not issue a written opinion in connection with this en banc ruling. However, the decision to affirm the Chancery Court decision in SEPTA is significant because it confirms the standard of review applicable to transactions in which the controller is alleged to have used its power to disproportionally divert portions of the merger consideration to be paid by an unaffiliated, third-party acquirer to the minority if the controlled target deploys robust procedural protections. In the 2009 Chancery Court decision in In re John Q. Hammons Hotels Inc. Shareholder Litig., the Court of Chancery held that the business judgment rule would apply to such a situation only if the merger was subject to (1) a non-waivable vote of a majority of the minority stockholders, and (2) a recommendation by a disinterested and independent special committee. In In re John Q. Hammons Hotels Inc. Shareholder Litig., the Court found the transaction at issue to be subject to entire fairness review because, although the transaction was subject to a majority of the minority vote, the special committee could waive the condition and the vote only required a majority of the minority voting on the matter, not a majority of the outstanding minority stockholders.

Subsequent Chancery Court decisions, such as Frank v. Elgamal, reaffirmed that, absent the procedural protections of a special committee and a majority of the minority vote, the Court of Chancery would apply the entire fairness standard of review to mergers of controlled corporations to an unaffiliated third party if the controller is alleged to have used its power to unfairly extract merger consideration from the minority or otherwise to have dictated certain aspects of the negotiations contrary to the interests of the minority.

SEPTA v. Volgenau

Unlike MFW, which involved a controlling stockholder on both sides of the transaction, SEPTA involved a merger between a third-party and a company with a controlling stockholder. Specifically, this action involved claims arising from the buy-out of defendant SRA International, Inc. (“SRA”) by Defendants Providence Equity Partners LLC  and its related entities. See SEPTA. v. Volgenau, C.A. No. 6354-VCN (Del. Ch. Aug. 31, 2012). As a public company, SRA had two classes of common stock: Class A and Class B. Holders of Class A stock were entitled to one vote per share, while holders of Class B stock were entitled to ten votes per share. However, SRA’s certificate of incorporation required the Class A and Class B common stock be treated equally in the event of a merger. As part of the transaction, SRA’s founder, Ernst Volgenau, who controlled SRA through his ownership of Class B shares, received a minority interest in the merged entity, a non-recourse note, a continuing role in the merged entity, and, in exchange for fifty-nine percent of his Class B shares, $31.25 per share in cash. Minority stockholders, who held Class A Shares, received $31.25 per share.

In this action, plaintiff contended that Volgenau received greater consideration in the merger than did the minority stockholders and that the board breached its fiduciary duties by failing to attempt to adhere to the charter’s equal treatment provision. However, because the transaction had been approved by a special committee comprised of independent and disinterested directors, and a fully informed, non-waivable majority of the minority vote, the Court reviewed the allegations under the deferential business judgment standard of review.

The decision to uphold the application of the business judgment rule to sales of controlled corporations to unaffiliated third parties where the transactions are subject to the same procedural protections at issue in MFW makes sense. In theory, transactions in which the controller is not on both sides of the deal present less potential for the controller to exert influence to the detriment of the minority stockholders.

Here’s news from ISS’ Chris Cernich:

On Friday, May 9, TIG Investors, a 9.5 percent holder of Zale Corp, filed preliminary soliciting materials and an investor presentation urging other shareholders to resist what it called an “undervalued” sale of the company. TIG points out that, while Zale shareholders are getting almost $300 million in premium – that’s 40 percent – the buyer’s shareholders got a $1.4 billion premium from the market when the deal was announced. This indicates that the value being created by the combination is not being appropriately shared between buyer and seller. TIG proposes that the company renegotiate to include a stock component as well as cash – its proposal would be worth about $28.50, versus the current $21 per share cash offer – which would allow Zale shareholders to participate in the upside of the combined company.

There are signs of growing support among other Zale shareholders, including about a 5 percent rise in Zales share prices, to $22, though no other shareholders have yet gone public. The Zale meeting will be held May 29.

There has also been progress, of a sort, in the Pershing Square/Valeant Pharmaceuticals unsolicited bid for Allergan. As expected, the Allergan board on Monday turned down the bid as undervalued. And, also as expected, Pershing Square and Valeant began taking their case directly to shareholders.

What wasn’t expected, however, was the tactic; Pershing Square is calling a sort of town hall, in lieu of an actual Special Meeting of shareholders, to create a referendum on whether the Allergan board should negotiate with Valeant in good faith. It’s not as strong a move as proposing a dissident slate of directors; but, since Allergan’s bylaws don’t allow for proposals at a special meeting which repeat business on which shareholders have already voted in the past year, it seems unlikely Pershing Square and Valeant can actually run a contest for board seats before May of 2015. As this plebiscite tactic is not an official corporate meeting, it is unclear whether “voting” would be required under ERISA.

In this podcast, Tony Hill, the Director of DealNexus at Intralinks, explains DealNexus – a social dealmaking tool specifically designed for M&A, including:

– How does DealNexus work?
– How does it differ from AngelList and other online connectors?
– What’s new in the DealNexus 3.0 update?
– Any surprises since you launched?

According to this Cornerstone Research study, only 2% of lawsuits filed in connection with M&A deals that settled in 2013 produced monetary returns for shareholders. Here are other findings:

– Supplemental disclosures remained the only shareholder consideration in the majority of 2013 settlements.
– Over 90% of the known 2013 settlements were reached before the merger was closed.
– Average fees requested by plaintiff attorneys in 2013 declined to $1.1 million from $1.4 million in 2011 and 2012.
– Between 2007 and 2013, plaintiff attorney fee awards in M&A deals were higher in settlements with monetary consideration (by an average of 22% of the settlement fund) and with reduced termination fees (by an average of $260,000 for a 10% reduction).
– Fee awards between 2007 and 2013 also were higher in settlements with a larger-than-average number of lawsuits, and in cases where settlements took longer than average to reach.

Tune in tomorrow for the webcast – “Appraisal Rights: A Changing World” – during which Morris Nichols’ John DiTomo, Morris Nichols’ Eric Klinger-Wilensky and Berger Harris’ Lisa Stark will analyze how appraisal rights work in a changing world, how to overcome common problems, and more.

Here’s news from Chris Cernich, ISS’ Head of M&A and Proxy Contest Research, and Juan Bonifacino, ISS Analyst, M&A and Proxy Contest Research:

Proxy contests for board seats are usually the story during the U.S. proxy season–but now it looks like mergers are becoming the bigger story. In some ways they’re a more beguiling story, as they change every day. Four weeks ago, the biggest contest was likely to be Charter Communications challenging the merger vote between Comcast and Time Warner Cable, as a way of getting Charter’s own bid back into the running. Now, however, the companies have announced a three-way deal in which Comcast would buy a number of subscribers the other two are shedding as part of the regulatory requirements of the merger.

There’s a vote coming up at Zales, on the sale to Signet, on May 29. No Zales holders have yet come out against the deal–it does carry a 41 percent premium over the unaffected price. But the deal is only worth $950 million, and the total premium Signet will pay, in dollars, is $275 million. When the deal was announced, by contrast, Signet’s own market cap, instead of falling, rose by $1.5 billion–one-and-a-half times the total purchase prices for Zales, and more than 5 times the “premium” Zales shareholders will get.

Bill Ackman’s Pershing Square recently announced it had purchased 10 percent beneficial ownership of Allergan in support of a bid–which had not yet been announced–by Canada’s Valeant Pharmaceuticals. It’s more complex than the press headlines, but, at a high level, Valeant is offering $48 in cash and 0.83 Valeant shares for every Allergan share held–nearly $46 billion on the date of announcement. The offer represented something like a 30 percent premium to share prices before Pershing Square began its rapid accumulation program in Allergan shares.

Allergan, which just held its annual meeting May 6, hasn’t said anything about the offer yet. Given the unsolicited bid, made publicly and with what seems to be very hard sell tactics, a good board of directors will take some time considering the options for the company. Allergan has also adopted a poison pill, which isn’t unusual. Most companies have one on the shelf for just this reason: to keep an unsolicited bidder and its allies from accumulating a control position while the board is trying to negotiate the best offer. And a pill allows a well-functioning, well-intentioned board time to find other potential bidders who might be willing to pay more.

The thing Allergan shareholders will want to watch is what the board does while it has the pill in place. Sometimes boards do nothing, because the pill itself removes the direct need to take decisive action. Sometimes, though, they use the time afforded by the poison pill very well, and shareholders benefit enormously. Once patent protection on a drug runs out, the pricing power of the branded drug falls off significantly, and generics take its market share. Valeant’s business model, which has been very successful, is to acquire products with dwindling patent protection and milk their remaining patent life even as it positions them to compete more effectively with generics once they’re off patent. The company spends very little on things, like Research and Development, that don’t contribute to that business model.

Pershing Square’s role in all this, which has caught investors’ attention, has even spawned a few law firm notes pointing out that it’s not insider trading; your own plans to make a bid aren’t “insider information” when it comes to buying or selling the target’s shares. And there is a long precedent for things like this–a hostile bidder often buys a “toehold” (2-3 percent of shares, not 10 percent) in advance of its bid for a number of reasons, including that the toehold can help offset the expense it’s going to incur in running a campaign to win over shareholders. Pershing actually raised a new $4 billion fund specifically for this investment, and Valeant agreed to invest in the fund, which gives it some of those same “toehold” advantages.

This action by Pershing Square has felt to many observers like there’s something not altogether aboveboard about it, although it has led to a reconciliation between Ackman and Carl Icahn. The genesis of this reconciliation, apparently, was when Icahn said on CNBC two weeks ago that he didn’t see “anything illegal” in Pershing Square’s actions.

While the Allergan situation appears unlikely to go to a proxy contest at this point, ISS is tracking 18 contests scheduled for May and June, plus three that took place in April:

– At Cracker Barrel, shareholders rejected the proposal by Biglari Holdings to sell the company.

– At Sensient Technologies, it looks like–because strangely the company didn’t put out a press release–none of the four dissident nominees proposed by FrontFour Capital were elected.

– And in the consent solicitation at Darden Restaurants, Starboard got the 50 percent support it needed to call a special meeting. ISS expects to see that meeting–where Starboard will propose a restriction on the sale or spin of the Red Lobster business prior to the Fall annual meeting–within about 60 days.

Commonwealth REIT’s will hold a special meeting on May 23 to elect new directors nominated by shareholders. At the company’s February consent solicitation, Corvex and Related got more than 80 percent of shares to consent to remove the entire board. So far, for the May meeting, only Corvex and Related have proposed candidates, and there is nothing to suggest that these elections will be contested.

Following press reports that the hearing on Sotheby’s poison pill had uncovered emails from one director saying, in effect, that Dan Loeb of Third Point Capital, the dissident, was right, the board was “too chummy” and performance and compensation had become a problem, Sotheby’s and Third Point agreed to a settlement that will see the addition of all 3 dissident nominees to the board. The company adjourned its meeting to a yet-unspecified later date.

Several other proxy contests are on the horizon:

– Morgan’s Hotel Group, where the dissidents cite, amongst other things, some significant failures to follow through on commitments to shareholders.

– Intevac, where the dissidents believe the company’s “venture capital” strategy and capital allocation have driven long-term underperformance.

– Griffin Land & Nurseries, where Mario Gabelli’s GAMCO is seeking two seats and has a proposal to convert the company into a REIT or MLP structure

– Poage Bancshares, where Joe Stilwell’s fund is seeking one of nine board seats;

– GrafTech International, where the largest shareholder, Nathan Milikowski–a former director the board declined to renominate in 2013–is seeking three of seven seats.

There are also be six contests with meeting dates the week of May 19, which is “peak week” for US proxy season:

– Telephone and Data Systems, where GAMCO is seeking two of the four seats electable by non-controlling shareholders. The controlling shareholder elects an additional eight directors;

– Harvard Illinois Bancorp, where Stilwell is also seeking a seat;

– Solera National Bancorp, where two retail investors are separately seeking board seats;

– Anworth Mortgage REIT, where the dissident is seeking one seat; and

Endeavor International, where the dissident wants one of seven seats. Interestingly, the lead dissident at Endeavor is the chair of Morgan’s Hotels, who got there through a proxy contest last year. Now he’s being targeted for removal from the Morgan’s board by a different hedge fund in another proxy contest a week earlier. His uncle, moreover, is one of three directors targeted in the proxy contest at Sotheby’s.

Here’s news from this memo from Cadwalader:

Corporate inversions have constituted an active and successful part of the M&A market in 2013 and early 2014, as acquirors have typically traded up on the date of announcement. However, there is now a new urgency for U.S. corporations seeking to invert to identify merger partners and complete their transactions.

In an inversion transaction, a foreign corporation is interposed between a U.S. corporation and its shareholders, typically to allow the U.S. corporation to distribute the untaxed earnings of its foreign subsidiaries to the shareholders of the new foreign parent, or to reduce its future tax liability through deductible payments to the new foreign parent, each without U.S. tax. For example, in Endo Health Solutions’ 2013 acquisition of Paladin Labs, shareholders of Endo and Paladin exchanged their shares for those of a new holding company incorporated in Ireland, which will own the two companies as subsidiaries. This will allow Endo to reduce its effective tax rate from 28 percent to 20 percent, resulting in $50 million in annual tax savings.

Under the existing tax laws, tax-efficient inversions are possible only if the former shareholders of the U.S. corporation own no more than 80 percent of the combined company after the merger or acquisition.

In March 2014, however, the Treasury Department proposed to amend the anti-inversion rules, effective January 1, 2015, to permit tax efficient inversions only if the former shareholders of the U.S. corporation own no more than 50 percent of the combined company after the merger or acquisition – a change that would significantly reduce the possibility for corporate inversion transactions.

The prospects for the enactment of this proposed legislation in the current year are uncertain at best. But the completion of any inversion transactions by December 31, 2014, would avoid the application of the proposed amendment and any similar amendments that Treasury re-proposes in 2015 or later with the same effective date of January 1, 2015. As a result, inversion transaction activity may well accelerate as we approach the end of the year. For this reason, U.S. corporations seeking to invert should identify potential merger partners and work to complete a transaction before the inversion rules are tightened.

Here’s news from Richards Layton (we’ll be posting memos in our “Poison Pills” Practice Area – and here’s a DealBook article on Sotheby’s truce):

In Third Point LLC v. Ruprecht, C.A. No. 9469-VCP (Del. Ch. May 2, 2014), the Delaware Court of Chancery denied preliminary injunctive relief against Sotheby’s annual meeting, scheduled for May 6, 2014. Plaintiffs, including Third Point LLC and other stockholders, claimed that the board had violated its fiduciary duties by (1) adopting a stockholder rights plan with a two-tiered trigger, capping stockholders who file Schedule 13Ds at 10% of the outstanding stock, but permitting passive investors who file Schedule 13Gs to acquire up to 20% of the outstanding stock; and (2) refusing to grant Third Point, the company’s largest stockholder, a waiver enabling it to acquire up to 20% of the outstanding stock. Claiming that the board had acted for the primary purpose of inhibiting Third Point’s ability to wage a successful proxy contest, Third Point asked the Court to apply the Blasius standard, and argued alternatively that the board’s actions were impermissible under the Unocal standard. The board argued, among other things, that Third Point’s accumulation of Sotheby’s stock posed a legally cognizable threat to Sotheby’s and that the board’s actions in response were proportionate to the threat.

The Court held on a preliminary basis that Unocal, rather than Blasius, provides the appropriate framework of analysis. Applying the Unocal standard, the Court held on a preliminary basis that the majority-independent board had shown that it acted reasonably in identifying a legally cognizable threat—that Third Point, alone or with others, might acquire a controlling interest in the company without paying Sotheby’s other stockholders a premium—and that its response to the threat was reasonable. The Court wrote that the issue of the board’s refusal of Third Point’s request for a waiver presented “a much closer question” than the original adoption of the rights plan, but determined that the board made a sufficient showing as to the threat that Third Point might be able to exercise “negative control” if permitted to accumulate up to 20% of the outstanding stock. Accordingly, the Court denied the application for preliminary injunction.

On May 5, 2014, Sotheby’s and Third Point announced a resolution of the dispute, under which Third Point will be allowed to increase its ownership to 15% of the outstanding stock, the board will expand from twelve members to fifteen, and Third Point’s three nominees will be appointed to the board and added to the company’s slate of nominees at the 2014 annual meeting, which will be convened and adjourned to allow updated solicitation materials to be distributed.

Here’s an excerpt from this FactSet Insight article:

In another sign of the increasing influence of activist investors, the pace of activist campaigns resulting in board seats is running at a five-year high. In the first two months of 2014, activist investors were granted one or more board seats at 16 U.S. companies, the most since 2009 where 22 campaigns at 21 distinct companies resulted in board seats.

And here’s another one:

In 2013, the number of campaigns where the activist was granted a board seat without having to go to a shareholder vote increased by 9% from 2012 levels and 41% versus calendar 2011.

This 2013 Cornerstone Research study shows that 94% of large and small M&A deals involve shareholder litigation including:

– For the fourth consecutive year, shareholders filed suit in more than 90% of M&A deals valued over $100 million.

– Plaintiff attorneys filed lawsuits in 94% of all M&A deals announced in 2013 and valued over $100 million.

– For the first time, the percentage litigated among smaller deals (valued under $1 billion) and larger deals (over $1 billion) was the same.

– As in prior years, litigation for the majority of deals was resolved before the deal was closed—75% of 2013 deals.

– Of the 2013 deals resolved before the deal closed, 88% were settled, 9% withdrawn by plaintiffs, and 3% dismissed by courts.

– Lawsuits that were not settled before the deal closing remained pending for as long as four years. None of the lawsuits in the data went to trial, and all judgments (summary judgments or judgments on the pleadings) were granted to defendants.