With the Senate and House expected to vote upon the Dodd-Frank Act – formally known as the “Dodd-Frank Wall Street Reform and Consumer Protection Act” – within the next few days – with President Obama then signing it before the 4th of July – the 2000-pages of the Act have been posted. Note that the passing of Senator Byrd last night might delay adoption of the legislation, according to this WSJ article.
Also, here is a 10-page summary – and the Conference Report.
Poll: The Acronym for the Dodd-Frank Act?
Back when the Sarbanes-Oxley Act was passed in ’02, it took a while for “SOX” and “Sarbanes-Oxley” to become the common way that folks referred to the historic legislation. An early movement towards “SarBox” never took off – thankfully – although a few still use that term for some reason. So now we have a new piece of legislation to “name.” I personally like the “DFA” – but doubt that will catch on. Please participate in this anonymous poll about how we should refer to the Dodd-Frank Act on a shorthand basis:
In the ISS Blog, Ted Allen reported last night:
During negotiations on financial reform legislation on Tuesday, U.S. Senate conferees agreed to drop their opposition to a House provision to require public companies to hold separate shareholder votes on “golden parachute” payments, according to Dow Jones Newswires.
The conference committee’s negotiations will continue on Wednesday. House and Senate lawmakers still have not reached an agreement on a Senate proposal to require investors to hold a 5 percent stake to nominate board candidates under the SEC’s proposed proxy access rule, according to Dow Jones. House lawmakers and investor advocates argue that a 5 percent threshold would be too high.
Last week, this Reuters article noted that a provision in the regulatory reform bill being negotiated by the House-Senate conference committee would limit deal activity of US banks. This so-called “Volcker Rule” is one of the provisions being hotly debated and it’s unknown in what form it will end up – but the Base Text would prohibit banks that engage in proprietary trading from merging if the liabilities of the resulting institution exceeded 10 percent of total US liabilities.
From Kevin Miller of Alston & Bird: In a recent decision – Berger v. Pubco Corp. – Delaware Chancellor Chandler held that the application of a control premium in an appraisal action under Delaware law is not appropriate where the appraisers did not rely upon a comparable company valuation methodology. Here is a notable quote from the opinion:
“First, as to the control premium issue, I conclude that the addition of a control premium in this case is not appropriate. Both appraisers used the discounted cash flow and book value methodologies. Under Delaware law, it is appropriate to add a control premium when appraisers use a comparable public company methodology. This has been the teaching of cases following the Delaware Supreme Court’s decision in Rapid-American Corp. v. Harris.
Since the comparable public company methodology was not a methodology used by either appraiser in this case, I decline to extend the rule of Rapid-American in these circumstances. Even the Court in Rapid-American held that the inclusion of a control premium was required “under the unique facts” of that case, which was based on comparable values using the market price of similar shares of stock.
Cases decided in the Court of Chancery since Rapid-American have clearly held that the addition of a control premium to a discounted cash flow valuation, as here, is not appropriate.
Authoritative commentators have likewise observed that it is improper and illogical to add a control premium to a discounted cash flow valuation. Accordingly, the value of Pubco’s shares should not be increased by a control premium because no such premium was implicit in any valuation methodology used by the appraisers.”
This May-June issue of the Deal Lawyers print newsletter was just sent to the printer and includes articles on:
– Loyal to Whom? Recent Delaware Decisions Clarify Common Stockholders Are Primary Beneficiaries of Directors’ Fiduciary Duties
– Recent Trends in Earnout Use: A Cautionary Note
– The Shareholder Activism Report: Recommendations to Consider
– Delaware Chancery Opens Door for Next Gen Poison Pill
– More Takeaways from Selectica
If you’re not yet a subscriber, try a 2010 no-risk trial to get a non-blurred version of this issue on a complimentary basis.
In this podcast, Jude Carluccio of Barnes & Thornburg explains how ESOPs are being used in deals these days, including:
– How are ESOPs considered a special type of shareholder?
– What are recent examples of ESOPs being used in deals?
– What factors might lead an acquiror to consider using an ESOP in a deal?
– What are the types of issues that companies should consider before using an ESOP?
Here is an excerpt from a Richards Layton memo: In In re CNX Gas Corp. Shareholders Litigation last Tuesday, the Delaware Chancery Court attempted to clarify the standard applicable to controlling stockholder tender offers and mergers. In a challenge to a controlling stockholder’s proposed freeze-out transaction (a first-step tender offer followed by a second-step short-form merger), the Court applied a standard derived from In re Cox Communications, Inc. Shareholders Litigation to hold that the presumption of the business judgment rule would apply to a controlling stockholder freeze-out only if the first-step tender offer is both (i) negotiated and recommended by a special committee of independent directors and (ii) conditioned on a majority-of-the-minority tender or vote (as the case may be) condition.
The Court held that, because CNX’s special committee did not make a recommendation in favor of the tender offer, the transaction would be reviewed under the entire fairness standard. While that fact, under the Court’s analysis, was sufficient to trigger the application of the entire fairness standard, the Court also noted that the special committee was not provided with the authority to bargain with the controller on an arm’s-length basis and that the majority-of-the-minority tender condition may have been ineffective. Nonetheless, the Court declined to issue an injunction since any harm to the stockholders could be remedied through post-closing money damages.
We have posted the opinion – and memos analyzing this case – in our “Controlling Shareholders” Practice Area.
From Kevin Miller of Alston & Bird, here are some follow-up thoughts to this blog posted earlier this week regarding the recent Maric Capital decision in the Delaware Court of Chancery:
1. This is likely to be a controversial decision as the Maric court’s holding (consistent with the court’s holding in Netsmart) that cash flow projections are material and required to be disclosed appears inconsistent with the Delaware Supreme Court’s decision in Skeen and Chancellor Chandler’s decision in Checkfree.
Compare:
– Maric (VC Strine 2010): “in my view, management’s best estimate of the future cash flow of a corporation that is proposed to be sold in a cash merger is clearly material information.”
and:
– Netsmart (VC Strine 2007): “It would therefore seem to be a genuinely foolish (and arguably unprincipled and unfair) inconsistency to hold that the best estimate of the company’s future returns, as generated by management and the Special Committee’s investment bank, need not be disclosed when stockholders are being advised to cash out. . . . Indeed, projections of this sort are probably among the most highly prized disclosures by investors. Investors can come up with their own estimates of discount rates or (as already discussed) market multiples. What they cannot hope to replicate are management’s insisted view of the company’s prospects.”
with:
– Skeen (Del. Sup. Ct. 2000)(in which the Delaware Supreme Court considered and rejected a claims that the Board of House of Fabrics breached its fiduciary duties by failing to disclose (i) management’s projections and (ii) a summary of the methodologies used and the ranges of values generated by the financial analyses performed by its financial advisor):
“Appellants are advocating a new disclosure standard in cases where appraisal is an option. They suggest that stockholders should be given all the financial data they would need if they were making an independent determination of fair value. Appellants offer no authority for their position and we see no reason to depart from our traditional standard.”
“[plaintiffs] say, in essence, that the settled law governing disclosure requirements for mergers does not apply, and that far more valuation data must be disclosed where, as here, the merger decision has been made and the only decision for the minority is whether to seek appraisal. We hold that there is no different standard for appraisal decisions.”
– CheckFree (C. Chandler 2007): “Although the Netsmart Court did indeed require additional disclosure of certain management projections . . . the proxy in that case affirmatively disclosed an early version of some of management’s projections. Because management must give materially complete information “[o]nce a board broaches a topic in its disclosures,” the Court held that further disclosure was required. . . . Because [the CheckFree] plaintiffs have failed to establish that management’s projections constitute material omitted information, they have failed to demonstrate a likelihood of success on the merits of their claim and, therefore, I deny their motion for a preliminary injunction on this ground.”
2. There also seems to be a disconnect between the Maric court’s view that the court can determine whether the valuation methodology used by a financial advisor in connection with preparing a fairness opinion is appropriate (e.g., based on analogy to the methodologies approved in connection with appraisals) and Chancellor Chandler’s views regarding the limits on the court’s ability to assess a financial advisor’s chosen valuation approach as expressed in his December decision in 3Com.
In Maric, the financial advisor used a discount rate determined by adding additional premia (illiquidity and micro cap premia) to the calculated cost of capital of the company. The proxy disclosed the range of discount rates used as did the discussion materials provided to the special committee, but the special committee was apparently not told why the financial advisor was using a discount rate higher than the company’s calculated cost of capital.
“In the proxy statement, it says that Craig-Hallum selected discount rates “based upon an analysis of PLATO Learning’s weighted average cost of capital.” The proxy statement then indicates that Craig-Hallum used a range of 23% to 27% in conducting its DCF. In that respect, it is the literal case that the DCF analysis presented to the Special Committee used a range of 23% to 27%. But that range was not the result of the analysis of the WACC simultaneously given to the Special Committee. In reality, Craig-Hallum calculated two estimates of a so-called WACC, one using a very loose variation of the capital asset pricing model and one using a comparable companies analysis. These generated discounts rates of 22.6% and 22.5%, both very hefty but both below the 23% bottom disclosed in the proxy statement. These analyses were given to the Special Committee.”
Rather than just requiring disclosure of the additional premia in order to bridge the cap between the cost of capital calculation and the discount rates the deemed appropriate and used by the financial advisor, the Maric court required the disclosure of the valuation ranges that would have resulted from using discount rates equal to the calculated cost of capital.
“Unless the proxy statement is supplemented by a corrective disclosure indicating the value that would be obtained by using the discount rates Craig-Hallum actually calculated, the merger will be enjoined.”
– Maric (VC Strine 2010): “The idea that Craig-Hallum subjectively added a further liquidity discount on top of PLATO’s healthy beta of 1.12 and the other subjective discounts is itself dubious as a valuation practice.
Footnote: 11 Obviously, this approach has the risk of counting identical risks multiple times – e.g., heaping a liquidity discount based on a small market capitalization on top of a small stock premium. Indeed, the use of a liquidity discount by a sell-side banker is strange for many reasons, including the legal one that such discounts cannot be considered in appraisal. . .”
– 3Com (C. Chandler 2009): “Under Delaware law, the valuation work performed by an investment banker must be accurately described and appropriately qualified. So long as that is done, there is no need to disclose any discrepancy between the financial advisor’s methodology and the Delaware fair value standard under Section 262 (or any other standard for that matter).34 If shareholders believe the financial advisor undervalued the company after reading a summary of its work, they are free to exercise their appraisal rights under Section 262. Indeed, an appraisal action addresses this concern by subjecting the financial advisor’s fairness opinion to scrutiny. Valuing a company as a going concern is a subjective and uncertain enterprise. There are limitless opportunities for disagreement on the appropriate valuation methodologies to employ, as well as the appropriate inputs to deploy within those methodologies. Considering this reality, quibbles with a financial advisor’s work simply cannot be the basis of a disclosure claim.”