DealLawyers.com Blog

Clearing out from a vaca. Check out this Towers Watson piece about deal value, which includes a video about the topic…

Recently, the Federal Trade Commission announced significant revisions to the Premerger Notification Form and the Rules governing the HSR form that become effective on August 18th. As noted in this Sullivan & Cromwell memo, although the revisions eliminate some of the information currently required by the HSR form, taken as a whole, these changes will add significantly to the time and expense of preparing an HSR form for many filing parties.

Here’s news culled from this Wachtell Lipton memo:

The Antitrust Division of the U.S. Department of Justice has issued an updated version of its internal Policy Guide to Merger Remedies. The new guidance supersedes a version issued in 2004. As with its predecessor, the new guidance is intended to be used by Division attorneys when considering settlements in merger investigations while providing the private sector with insight into the logic behind the Division’s policies. The new guidance has not been jointly issued with the Federal Trade Commission.

While at a high level the updated Policy Guide is substantially similar to the guidance it supersedes, the new document removes considerable detail from the prior version. For example, in the discussion of the need for including intangible assets in divestitures, the new guidance reaffirms that allowing the merged firm to retain intellectual property rights is appropriate in some circumstances, but omits the previously explicit statement that sharing production process patents (via a non-exclusive license) is typically pro-competitive in reducing marginal costs of both the merged firm and divestiture buyer.

There are other examples of previous specificity being eliminated from the new guidance. It remains to be seen whether this reduction is streamlining or represents a move to eliminate language favorable to merging parties in negotiations with the Division and in court if negotiations are unsuccessful.

Recent press reports on the updated guidance highlight the expanded discussion of conduct remedies, i.e., remedies comprised of injunctive proscriptions on behavior as opposed to structural remedies such as divestiture. In our view, any new emphasis on such behavioral remedies likely will continue to be largely limited to vertical cases where the Division has traditionally accepted such remedies–including in transactions in recent years such as Comcast’s acquisition of NBC Universal and the Ticketmaster-Live Nation merger. In fact, the new guidance reiterates the prior version’s acknowledgement–and many years of agency experience–that structural solutions will continue to be pursued in the “vast majority” of horizontal merger remediations.

Following issuance of the guidance, the Division entered into a settlement of its challenge to the $3 million purchase of a Virginia chicken processing plant from Tyson Foods by a local competitor, George’s Inc. In resolving allegations that this horizontal transaction would result in a harmful duopoly in the purchase of broiler chickens in Virginia’s Shenandoah Valley, the Division required only that George’s Inc. commit to make some previously announced improvements to the plant. In our view, the Division’s acceptance of this conduct remedy may derive more from perception of the relative strength of its case and its prospects in court than from any shift in policy, and serves to emphasize the Division’s point in the guidance that mergers are treated uniquely on their own facts.

Kevin Miller of Alston & Bird provides this analysis:

While not involving the issuance of a fairness opinion, fairness opinion providers can take some comfort from portions of a recent decision – In re Lehman Brothers Secs. and ERISA Litig. (SDNY July 27, 2011) – of the Federal District Court for the Southern District Court of New York dismissing federal securities law claims against Ernst & Young, Lehman Brothers’ outside auditor.

My Takeaway: In order to state a cause of action against an opinion provider under Section 10 and Rule 10b-5 of the Exchange Act, a complaint must set forth facts sufficient to warrant a finding that the opinion provider did not actually hold the opinion it expressed or that it knew that it had no reasonable basis for holding the opinion. Opinions are not statements fact and so, for purposes of stating a claim under Section 10 and Rule 10b-5, it is insufficient to merely allege that the opinion was objectively wrong.

See also In re Global Crossing, Ltd. Secs. Litig., 313 F. Supp. 2d 189, 210 (S.D.N.Y. 2003) (relying on the US Supreme Court’s decision in Virginia Bankshares, the Court noted that in order for the fairness opinion provider to be liable for false statements regarding its opinion under Section 11, the opinion provider must misrepresent its true opinion – “Materially misleading statements of opinion and belief can be actionable under the securities laws, where the party offering the opinion misrepresents its true belief, that is, where the opinion or belief is not truly held.”)

Key Quotes from the Case: The Exchange Act claims against E&Y – “The [amended complaint (the “TAC”)] alleges that E&Y’s statements in (1) Lehman’s 2007 10-K concerning its audit and Lehman’s financial statements, and (2) Lehman’s quarterly reports on Form 10-Q for the second and third quarters of 2007 and the first two quarters of 2008 concerning its review of Lehman’s financials were materially false and misleading.”

The Plaintiffs: Plaintiffs mount parallel attacks on E&Y’s statements in the 10-K and the 10-Qs. They allege that the audit, or GAAS, opinion in the 10-K – i.e., the statement that E&Y “conducted [its] audits in accordance with the standards of the Public Company Accounting Oversight Board” – was false because E&Y did not conduct its audits in accordance with those standards. They contend also that the GAAP opinion in the 10-K – i.e., the statement that, in E&Y’s “opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Lehman Brothers Holdings Inc. at November 30, 2007 and 2006, and the consolidated results of its operations and its cash flows for each of the three years in the period ended November 30, 2007, in conformity with U.S. generally accepted accounting principles” – was false because that statement did not conform to GAAP. Similarly, they assert that the statements in the 10-Qs – first that E&Y conducted its “review in accordance with the standards of the “PCAOB and, second, that E&Y, “[b]ased on [its] review, [was] . . . not aware of any material modifications that should be made to the consolidated financial statements referred to above for them to be in conformity with U.S.” GAAP – were false for substantially the same reasons.

The Court: The Court is mindful of the fact that some courts have considered the sufficiency of securities claims against auditors based upon statements as to the compliance of financial statements with GAAP without regard to the significance of the fact that such statements have been couched as opinions and thus without regard to the importance of the fact-opinion distinction. But the distinction is important. E&Y’s statement regarding GAAS compliance inherently was one of opinion. In order for the TAC sufficiently to have alleged that it was false, it had to allege facts that, if true, would permit a conclusion that E&Y either did not in fact hold that opinion or knew that it had no reasonable basis for it.(emphasis added).

The scienter analysis with respect to this claim is substantially the same. As with other defendants, in order to state an Exchange Act claim against an auditor, a complaint must “state with particularity facts giving rise to a strong inference” of scienter. The standard for evaluating assertions of an auditor’s scienter, however, is “demanding.” The complaint must allege that the auditor’s conduct was “‘highly unreasonable,'” representing “‘an extreme departure from the standards of ordinary care'” and “‘approximat[ing] an actual intent to aid in the fraud being perpetrated by the audited company.'” The “accounting judgments which were made [must have been] such that no reasonable accountant would have made the same decisions if confronted with the same facts.” (emphasis added) Plaintiffs’ allegations respecting “red flags” therefore bear not only on whether E&Y violated the pertinent GAAS requirements, but also on whether it did so with the requisite state of mind. For the reasons discussed above, the true sale opinion and netting grid were not red flags, the disregard of which could be called highly reckless. And while E&Y’s alleged failure to follow up on the Lee interview arguably would have been a departure from GAAS, the only subsequent E&Y statement at issue is the report on the interim financials in the 2Q08, which contained no statement of a GAAS-compliant audit. Accordingly, the TAC fails to allege that E&Y made any false or misleading statements with respect to GAAS compliance either in the 2007 10-K
or in any of the subsequent 10-Q’s, much less that it did so with scienter.

The Plaintiffs: Plaintiffs argue also that E&Y’s opinions as to Lehman’s preparation of its financial statements in accordance with GAAP were statements of fact and that they were false because those financial statements in fact did not comply with GAAP.

The Court: “The representation in the auditor’s standard report regarding fair presentation, in all material respects, in conformity with [GAAP] indicates the auditor’s belief that the financial statements, taken as a whole, are not materially misstated.” Thus, allegations that a company violated GAAP in preparing its financial statements are not sufficient, in and of themselves, to state a claim that an auditor’s opinion of GAAP compliance is a factual misstatement. For reasons already discussed, the complaint must allege specific departures from GAAP and, in addition, set forth facts sufficient to warrant a finding that the auditor did not actually hold the opinion it expressed or that it knew that it had no reasonable basis for holding it. (emphasis added).

This July-August issue of the Deal Lawyers print newsletter was just sent to the printer and includes articles on:

– Tweeting Transactions: Social Media, Business Combinations & the Federal Securities Laws
– The Evolution of Poison Pills
– Advance Notice Bylaws: The Current State of Second Generation Provisions

If you’re not yet a subscriber, try a “half-price for rest of ’11” no-risk trial to get a non-blurred version of this issue on a complimentary basis.

We have posted the transcript for our recent webcast: “Top IP Pitfalls in Deals: How to Avoid Them.”

Here’s news culled from this Wachtell Lipton memo:

A divided panel of the U.S. Court of Appeals for the Second Circuit has finally issued its opinion in the CSX case in which the District Court addressed whether the long party in a cash-settled total-return equity swap should be considered the beneficial owner of the underlying shares for reporting purposes under Section 13(d) of the Williams Act. The majority opinion — issued nearly three years after the appeal was argued — declined to resolve the beneficial ownership issue, noting that there was disagreement within the panel on the subject. Instead, the panel considered only whether a “group” had been formed under Section 13(d) as to the shares held outright by the defendant activist funds. The majority opinion also addressed whether and under what circumstances a party should be precluded from voting shares acquired during a period when it was in violation of its disclosure obligations under Section 13(d). CSX Corp. v. The Children’s Inv. Fund Mgmt. (UK) LLP, Docket Nos. 08-2899-cv, 08-3016-cv (2d Cir. July 18, 2011).

As to the District Court’s finding of a “group,” the majority opinion, by Judge Newman, found insufficient for appellate review the District Court’s finding that a group was formed by the activities of the two funds (TCI and 3G) that suggested “concerted action” vis-à-vis CSX. The Court therefore remanded the case to the District Court for additional findings on that limited subject, as well as to reconsider the appropriateness and scope of any injunctive relief should a group violation of Section 13(d) be found with respect to the purchase of shares outright. In connection with its consideration of the group issue, the majority ruled that “activities” resulting from group action were insufficient to form a group unless — in the words of the rule — the group “act[s] together for the purpose of acquiring, holding, voting or disposing” of equity securities of the issuer.

As to the availability of injunctive share “sterilization,” the majority opinion adhered to prior precedent holding that an injunction prohibiting the voting of shares acquired while in violation of Section 13(d)’s reporting requirements was not an available remedy if the required disclosure is ultimately made in sufficient time for informed action by shareholders. The opinion rejected the arguments that sterilization may be necessary to provide a “level playing field” and to deter violations of Section 13(d), relying in part on the policy notion that sterilization might injure those stockholders who, after full disclosure, choose to support an insurgent’s program.

Judge Winter filed a separate opinion concurring in the result, and, unlike the majority opinion, directly addressed the issue as to whether the long party in a total-return swap transaction may be deemed to beneficially own the shares purchased as a hedge by the short counterparty. Judge Winter’s opinion rejected the District Court’s view that equity swaps are (in Judge Winter’s words) “an underhanded means of acquiring or facilitating access to [shares] that could be used to gain control through a proxy fight or otherwise.” Judge Winter instead writes that, absent an agreement on acquiring or voting the short party’s hedge position, “such swaps are not a means of indirectly facilitating a control transaction. Rather, they allow parties such as the Funds to profit from efforts to cause firms to institute new business policies increasing the value of a firm.”

Judge Winter rejected the position that the shares acquired by the swap dealer to hedge the swap should be deemed beneficially owned by the long party based on a review of the statutory language; other legislation that has addressed swaps — including Dodd-Frank, which granted new authority to the SEC to promulgate rules providing that “a person [] be deemed to acquire beneficial ownership of an equity security based on the purchase or sale of a security-based swap”; and the SEC’s ongoing and, as yet, inconclusive consideration of derivatives and beneficial ownership under Section 13(d), including its recent repromulgation of Rule 13d-3.

The CSX majority’s determination not to address whether the long party to a total-return swap may be deemed, for purposes of Section 13(d), the beneficial owner of the underlying shares underscores the need for SEC action. We have previously set forth detailed proposals on the subject, and continue to believe that SEC action is both necessary and overdue.

The concluding statement in Judge Winter’s concurrence eloquently articulates the need for SEC leadership on the issue:

Total-return cash-settled swap agreements can be expected to cause some party to purchase the referenced shares as a hedge. No one questions that any understanding between long and short parties regarding the purchase, sale, retention, or voting of shares renders them a group — including the long party — deemed to be the beneficial owner of the referenced shares purchased as a hedge and any other shares held by the group. Whether, absent any such understanding, total-return cash-settled swaps render a long party the beneficial owner of referenced shares bought as a hedge by the immediate short party or some other party down the line is a question of law not fact. At the time of the district court opinion, the SEC had no authority to regulate such “understanding”-free swaps. It has such authority now, but it has simply repromulgated the earlier regulations. These regulations, and the SEC’s repromulgation of them, offer no reasons for treating such swaps as rendering long parties subject to Sections 13 and 16 based on shares purchased by another party as a hedge. Absent some reasoned direction from the SEC, there is neither need nor reason for a court to do so.

Over the past year, Latham & Watkins has been blogging some great educational material in its “Weekly Words of Wisdom Blog.” In the blog, Latham provides practical guidance, often laying out sample scenarios to drive home a point. The latest entry is part of a series relating to Rule 3-05 of Regulation S-X and acquisitions. Check it out!

Recently, the Boston Consulting Group issued a report entitled “Riding the Next Wave in M&A: Where Are the Opportunities to Create Value?” that, among other things, notes that transaction fees rose sharply in 2010, from an average of 0.27 percent of deal value in 2009 to 0.60 percent. This was higher than in the boom times between 2004 and 2008, when deal fees averaged around 0.4 percent.

From this Davis Polk blog by Ning Chiu and Richard Sandler:

While ISS reports that 39% of S&P 500 companies continue to have staggered boards, shareholder proposals requesting that the board of directors be elected annually continue to receive the highest level of support of any shareholder proposals. As of early June, 39 proposals received more than majority support, averaging 73%, while only 5 failed. Many proposals never reach shareholder vote as companies, recognizing the likelihood of strong support for the proposal, negotiate for withdrawal by agreeing to take action. For example, eBay agreed to conduct a review of declassification within 6 months.

This year, a joint effort by the Florida State Board of Administration (FSBA) and the Nathan Cummings Foundation resulted in the submission of proposals at 14 S&P 500 companies. Other proponents of declassification proposals include prolific retail activists John Chevedden, Ken Steiner and Gerald Armstrong. McDonald’s and Western Union turned to the SEC for relief, arguing that the proposals violate Rule 14a-8(i)(8) because they prevent directors from completing their elected terms. The SEC staff agreed, but allowed the proponents to modify the proposals to provide that the unexpired terms of directors elected at or prior to the 2011 annual meeting would not be affected. Both companies ultimately included the revised proposals in their proxy statements. McDonald’s filed additional soliciting materials emphasizing that good governance is not “one size fits all,” but over 77% of shareholders nonetheless voted “for” the proposal.

As a result of the continuing drumbeat of declassification shareholder proposals over the years, over 50 companies submitted management proposals to amend their governance documents to permit annual board elections in their proxy statements this year. Ironically, some management proposals do not succeed, particularly where charter amendments require more than a simple majority to pass. At Eli Lilly, the company failed in its fifth consecutive effort to receive the requisite more than 80% outstanding shares in support.

Most management proposals phase-in annual elections after all board members have completed their elected terms. Visa adopted an unusual declassification resignation policy, contingent on shareholder approval of its bylaws, such that directors with unexpired terms tendered their resignations and the entire board will be elected on an annual basis next year.