That there is much trouble in the private equity market is clear and well-documented. No credit available for signed deals. Private equity partners suing each other. Shareholders suing funds. The troubles will likely continue for some time.
On Sunday, the NY Times ran this column with some interesting remarks from Michael Jensen, professor emeritus at the Harvard Business School, leading scholar in finance and management, and the man whom many consider to be the intellectual father of private equity. Here is an excerpt:
“We are going to see bad deals that have been done that are not publicly known as bad deals yet, we will have scandals, reputations will decline and people are going to be left with a bad taste in their mouths,” Mr. Jensen said in an interview last week. “The whole sector will decline.”
Mr. Jensen was elaborating on the trenchant comments he made last month in a forum on private equity convened by the Academy of Management. There, he excoriated private equity titans who sell stock in their companies to the public — a non sequitur in both language and economics, he said — and warned that industry “innovations,” like deal fees that encourage private equity managers to overpay for companies, will destroy value at these firms, not create it.
He also said that private equity managers who sell overvalued company shares to the public, whether in their own entities or in businesses they have bought and are repeddling, are breaching their duties to those buying the stocks.
“The owners who are selling the equity are in effect giving their word to the market that the equity is really worth what it is being priced at,” he said. “But the attitude on Wall Street is that there is no responsibility to the buyers of the equity on the part of the managers who are doing the selling. And that’s a recipe for nonworkability and value destruction.”
In this podcast, Joel Lessem, the CEO of Firmex, explains how deal rooms are evolving, including:
– How are your deal rooms different from your competitors?
– How do you see the use of deal rooms evolving?
– What are some surprising ways that deal rooms are being used?
Board Committee Can Reschedule Merger Vote, SEC Unwritten Policy Noted
From Jim Hamilton’s World of Securities Regulation Blog: The Delaware Chancery court has ruled that a special committee of independent directors can reschedule an imminent meeting of stockholders to consider an all cash, all shares offer from a third-party acquirer when they believe that the merger is in the best interests of the stockholders and know that if the meeting proceeds the stockholders will vote down the merger and the acquiror will irrevocably walk away from the deal and the company’s stock price will plummet.
The special committee also wanted more time to provide information to the stockholders before their vote on the merger. Finally, the meeting was rescheduled within a reasonable time period and the committee did not preclude or coerce the stockholders from freely voting on the merger. (Mercier v. Inter-Tel Inc., Del. Chancery Court, Aug 14, 2007, CA No. 2226).
In finding that the committee acted in good faith, Vice Chancellor Strine found no evidence that it failed to explore the possibility of a more valuable alternative takeover bid from interested parties. By contrast, it appears that the special committee diligently responded to all interested parties and tried to facilitate attractive bids.
Thus, the court rejected a request for a preliminary injunction based on the argument that the directors had no discretion as fiduciaries to reschedule a vote once a stockholder meeting is imminent and they know that the vote would not go their way if it was held as originally scheduled.
In an interesting aspect of the ruling, the court noted that the proxy materials also indicated that the stockholders would vote on a second ballot item, which involved a proposal to adjourn the special meeting to solicit additional proxies if there were not sufficient votes in favor of the adoption of the merger. Apparently, the second ballot item was included as a result of a general practice of the SEC that encourages issuers to seek stockholder pre-approval for an adjournment. Here, the court cited an SEC roundtable discussion on the proxy rules and state corporation laws held on May 7, 2007 discussing the fact that the SEC has some unwritten policies regarding shareholder voting on adjournments of meetings.
The fact that, at the SEC’s prodding, the company included on its proxy ballot a proposal regarding whether or not to adjourn the special meeting if there were not sufficient votes to approve the merger, and that a majority of stockholders voted against an adjournment, did not put the special committee in a graceful position to seek to justify its actions in calling a time out on the merger vote. But as a formal matter, noted the court, the special meeting was not adjourned because it was never convened in the first place. Rather, the committee postponed the special meeting on the morning it was scheduled, and their legal authority to do so was unquestioned.
Apparently, the court’s cite to the SEC roundtable was to remarks by panelist James Hanks of the Venable firm, who expressed concern that there is a lot of confusion among the corporate bar and among state corporate lawyers on the SEC’s view of voting for adjournments of meetings. He noted that the SEC has some unwritten policies that some people know about and some people don’t know about. Adjournments are becoming an increasingly important thing in corporate governance, said Mr. Hanks, adjournments to win, adjournments for other purposes. If the SEC has a policy on adjournments or on the use of proxies to vote for adjournment, he urged that such policy be published in the usual way.
Thanks to Stephen Davis of Davis Global Investors for allowing us to blog this article from a recent issue of his “Global Proxy Watch“:
“Behind the scenes, the world’s two biggest proxy advisors are in a fit of restructuring that promises again to reshape the global governance industry and, possibly, ignite a regulatory backlash, GPW has learned. Among fast-paced developments:
Xinhua Finance (XF) has secretly decided to sell Glass Lewis (GL) just nine months after buying it for US$45 million. The move comes hard on the heels of the Shanghai-based firm’s own in-house governance scandal, which triggered a stock plunge and brand damage at XF, and key staff and client defections at GL (GPW XI-21, 22, 25, 27). CEO Fredy Bush has apparently hired a merchant banker to shop the proxy advisor, with eyes on a deal as early as next month. The frontrunning contender so far: none other than RiskMetrics (RM), owner of rival industry giant Institutional Shareholder Services (ISS). At least one other unidentified company is also mulling a bid, while a private equity firm has pushed Xinhua to sell it GL at about half the purchase price.
RiskMetrics has the cash and ISS the motive to take over GL. Ex-CEO John Connolly had made serial efforts to buy the four-year old competitor. But if ISS and GL now combine, the unit will dominate more than 80% of the market—gaining potential new pricing power and clout. Experts predict such a deal would likely draw scrutiny by securities regulators, antitrust authorities and politicians in North America, Europe and, possibly, Australia. They could join those in the market worried that a single US firm could hold a near monopoly in the highly sensitive business of advising how shareowners vote on everything from board elections to mergers and acquisitions worldwide.
Still, GL-ISS nuptials could boost proxy firms that remain—such as Proxy Governance and Egan-Jones in the US, and ECGS in Europe. Equally, a takeover could spur market interest in specialist stewardship firms such as F&C, Governance for Owners and Hermes EOS. They would all be trolling for fund clients bent on service alternatives to the industry leader.
RiskMetrics, meanwhile, is rumored to have taken another transformative step. Sources say it opened confidential talks with US Securities and Exchange Commission officials in advance of filing formal IPO documents that would allow it to launch as a publicly traded company. Perhaps in preparation, RM will inform clients Monday that, as part of internal integration, all its products will carry the RiskMetrics label as of Sept. 17. The move, in effect, demotes the 27-year old ISS brand. Governance services will now be marketed under the RiskMetrics name.
Expect an IPO to rekindle debate about whether public ownership—or another buyer—might affect the quality or content of RM advice. Last month the US Government Accountability Office (GAO) concluded in a report that “potential conflicts of interest can arise” at proxy firms, but that the SEC had “not identified any major violations.” It also asserted that it is relatively easy for rivals to enter the industry, so fears of ISS monopoly power are overblown. Some industry watchers dismissed the GAO report as superficial. But expect its findings to fortify defenders of any RM takeover of GL.”
Conducted by The Boston Consulting Group, one of the largest-ever M&A studies – “The Brave New World of M&A: How to Create Value from Mergers and Acquisitions” – identifies several trends that will continue to drive high deal flow, albeit at a reduced rate, through current volatility in the global financial markets. Believed to be the largest nonacademic study of its kind, the study is based on a detailed analysis of more than 4,000 completed deals between 1992 and 2006. (Hat tip to the Directors & Boards’e-briefing for the study findings below.)
The study also explodes a number of myths about mergers and acquisitions, including:
– Private Equity Is Winning by Paying Less – It’s commonly assumed that PE firms have gained an increasingly large share of the M&A market by using their huge reserves of capital to pay over the top for targets. But BCG’s analysis indicates that, on average, PE firms pay lower multiples and lower acquisition premiums than “strategic” buyers.
– Higher Acquisition Premiums Do Not Necessarily Destroy Value – Between 1992 and 2006, value-creating deals had a 21.7 percent premium, on average, compared with an 18.7 percent premium for non-value-creating transactions.
– Bigger Isn’t Necessarily Better – Deals over $1 billion destroy nearly twice as much value on a percentage basis as deals below $1 billion. And deals destroy progressively more value as the size of the target increases relative to the size of the acquirer.
– It Doesn’t Always Pay to Be Friendly – Hostile deals are viewed significantly more favorably by investors in today’s market than they were in the preceding wave of M&A (1997–2001).
– Cash Is King – Cash-only transactions have a much more positive impact on value than deals that rely on stock, a mix of stock and cash, or other payment contributions.
Ulf Axelson, Tim Jenkinson, Per Stromberg, and I have released Leverage and Pricing in Buyouts: An Empirical Analysis, a study of the financings of 153 large buyouts. The Article gathers a sample of large recent buyouts and considers the impact of a number of factors on their pricing and structure. The paper presents our findings with respect to the factors that drive buyout dynamics.
We find, for example, that the availability of leverage seems to be an important determinant of prices in buyouts. In other words, as financial markets have become more lax, historical prices of buyouts have gone up, potentially leading to the boom in buyouts of the last 2 or 3 years. This finding suggests that, given the crash in the bond market last month, there would be fewer buyouts–and those that do occur will be at lower prices than before. All of those predictions are consistent with what we are seeing in financial markets now.
Another finding of interest is that “club” deals occur, if anything, at higher prices than otherwise-similar deals that are sponsored by a single private-equity house. This finding is in contrast to allegations that a reason for “club” deals is to collude on prices.
Following up on Monday’s blog, here is more analysis from Travis Laster: On Tuesday, August 14, Vice Chancellor Leo E. Strine, Jr. issued his ruling in Mercier v. Inter-Tel (Delaware), Inc. This very significant opinion upheld a special committee’s decision to postpone a stockholder meeting on the day of the meeting so that the company could solicit more support for a pending merger. At the time the special committee acted, the directors knew with mathematical certainty that the merger otherwise would have been voted down.
As a doctrinal matter, Inter-Tel will stir much debate. VC Strine holds that the reasonableness standard from Unocal should be the sole standard of review for M&A and meeting issues and that Blasius is unnecessary, ill-suited and should be limited to director elections. VC Strine previously suggested this approach in Chesapeake v. Shore, and then outlined it in the article he co-wrote with Chancellor William T. Allen and now Justice Jack Jacobs. Applying Unocal, VC Strine held that the directors’ actions were “reasonable in relation” to a “legitimate corporate objective.”
After conducting his Unocal-style analysis, VC Strine also found a “compelling justification” under Blasius: “compelling circumstances are presented when independent directors believe that: (1) stockholders are about to reject a third-party merger proposal that the independent directors believe is in their best interests; (2) information useful to the stockholders’ decision-making process has not been considered adequately or not yet been publicly disclosed; and (3) if the stockholders vote no… the opportunity to receive the bid will be irretrievably lost.”
The larger Unocal vs. Blasius debate is too grand for this quick update. Here are some other highlights of the opinion that focus on more mundane issues:
1. VC Strine did not appear troubled by and did not comment on the fact that the Board “postponed” the meeting (i.e. moved the date without convening the meeting) rather than convening the meeting for the sole purpose of adjournment. The DGCL speaks only of adjournment, not of postponement. It has nevertheless been the widespread practice that a meeting can also be “postponed” without being convened and adjourned. Inter-Tel supports this approach.
2. Inter-Tel does not resolve whether for notice purposes, the “postponed” meeting must be treated as a new meeting for purposes of the notice to stockholders required under the DGCL. For a merger vote under Section 251, notice must be given at least 20 days in advance of the meeting. For an adjourned meeting, a new notice is not required if the date of the meeting is moved in a single adjournment by less than 30 days. The issue of sufficient notice for the postponement may have been raised by the parties but mooted when the Board again reset the date of the meeting so there would be enough time to satisfy a 20 day minimum notice requirement. The argument that a “postponed” meeting should be treated as an “adjourned” meeting for purposes of notice therefore remains unaddressed.
3. Consistent with SEC guidance, the proxy included a proposal seeking stockholder authority to “adjourn or postpone the special meeting” to solicit more proxies. A majority of the proxies voted had not granted authority for this issue. VC Strine had no trouble permitting the board to postpone the meeting, although he noted that the issue had not been challenged.
4. In a footnote, VC Strine observed that “[i]f the special meeting had actually been convened, Inter-Tel’s bylaws would seem to have required stockholder consent to adjourn.” Section 2.8 of Inter-Tel’s bylaws contains standard language providing that “The stockholders entitled to vote at the meeting, present in person or represented by proxy, shall have the power to adjourn the meeting form time to time.” The bylaws did not give the meeting chair the specific power to adjourn a meeting without a vote of stockholders. While Inter-Tel’s comment is dictum, it may now be more difficult to assert that the chair of a meeting has inherent authority to adjourn without a vote of stockholders. Corporations who wish to preserve the power of the chair to adjourn a meeting without a vote of stockholders should make that authority express in their bylaws.
5. VC Strine recognized that directors are entitled to take steps to promote and obtain approval of the matters they recommend, such as the merger. “Here’s a news flash: directors are not supposed to be neutral with regard to matters they propose for stockholder action.”
6. VC Strine agreed that the following factors were sufficient to justify a same-day meeting postponement at a time when the directors knew the merger would be voted down and had been advised by their proxy advisor that a delay might change the outcome: (i) ISS’s suggestion that it might change its negative recommendation if it had more time to study recent market events (including the debt market’s volatility and the bidder’s refusal to increase the consideration), (ii) a founder’s competing proxy proposal for a recapitalization that was still being reviewed by the SEC, and (iii) the desire to announce the company’s negative second-quarter results. The Court found that the directors acted with “honesty of purpose” and noted that they did not have any entrenchment motive because they would not serve with the surviving entity. It does not appear that the directors stood to receive material amounts from director options or other payments that would vest or accelerate in connection with the merger.
7. The court recognized the possibility that, by setting a new record date, the special committee permitted arbs to purchase more shares and ensure approval of the merger. Noting his reluctance to “premise an injunction on the notion that some stockholders are ‘good’ and others are ‘bad short-termers,'” VC Strine ultimately found that “the reason why the vote came out differently… was not because the stockholders eligible to vote were different, but because stockholder sentiment regarding the advisability of the Merger had changed.” VC Strine left room for future challenges where arbs materially influence the outcome of merger votes when a record date is changed.
8. VC Strine criticized the “coy nature” of the directors’ disclosures surrounding the postponement, which failed to disclose the potential arb-related results from a new record date or that the merger would have been voted down at the original meeting. He nevertheless held that those facts were immaterial to the merits of the merger and/or obvious as a matter of common sense to reasonable investors.
From John Grossbauer: Last week, Vice Chancellor Strine of the Delaware Chancery Court – in Mercier v. Inter-Tel (Delaware) Inc. – declined to enjoin a merger that was approved by stockholders at a rescheduled stockholder meeting. The originally scheduled meeting had been postponed shortly before it was to be convened, and the Court found the board was aware that the merger likely would be voted down when it approved the postponement.
In finding no probability of success on the merits, the Vice Chancellor discusses a proposal for the Blasius standard to be “reformulated”. Nonetheless, the Court, applying the traditional Blasius language, found the directors had a “compelling justification – the protection of the stockholders’ financial interests – for a short postponement to allow more time for deliberation.” It’s the first time a court has found a “compelling justification” in a Blasius case.
In this podcast, Homer Moyer of Miller & Chevalier describes the latest trends in Foreign Corrupt Practices Act investigations, including:
– Why has there been a rise in FCPA investigations?
– How can these investigations impact a merger or acquisition?
– What can a company considering a deal do to minimize the risk from a potential FCPA investigation?
Recently, Corp Fin issued a no-action response to EMC Corporation and VMware, Inc. This no-action letter builds upon a lot of concepts (e.g., formula pricing, stock option repricing exchange offers, etc.), In short, the Staff basically is allowing a company – and its wholly-owned sub – that are going public in an IPO to approach some employees and make an exchange offer for options and restricted stock held by the employees.
The novel aspect of the exchange offer is that the offer is being made in connection with the IPO – and the final pricing will not be known until after the exchange offer expires and the IPO is priced. Very interesting, but this fact pattern will not come up often. Thanks to Jim Moloney for his thoughts on this one!
Increasingly, excessive perks are being used by activists in their battles for corporate control. To illustrate, the following short article from Sunday’s NY Times picks up an item from the insurgent’s proxy statement: “The fight for control of the Ceridian Corporation, the payroll processing company, took a pointed turn in late July with the activist investor William A. Ackman taking a jab at the company’s chairman over his use of the company jet.
Mr. Ackman’s Pershing Square Capital Management, which is Ceridian’s largest shareholder, has been trying to persuade shareholders, who are due to vote Sept. 12, to reject a $5.3 billion buyout offer because it allows managers to keep their jobs and a $27 million sweetener to go along with the deal.
Mr. Ackman, who earlier won changes at McDonald’s and Wendy’s, got up close and personal — accusing the chairman, L. White Matthews III, of using the company plane to ferry him to his vacation lodge in Wyoming. In a letter to Ceridian, he said Mr. Matthews flew to his Jackson Hole home “seven times in one 63-day period during the fly-fishing season last summer.”
Not so, said a Ceridian spokesman, Pete Stoddart, who said the corporate plane “was strictly used for business purposes.”
Peer-to-Peer Generated Governance Changes
From CorpGov.net: Almost half (45%) of portfolio managers and buy-side analysts surveyed by Bigdough think it is beneficial for an activist shareholder to have a seat on a target company’s board. Only 5% say activism is not helpful in unlocking shareowner value. However, Bigdough also found no clear sign that mainstream investors are jumping on the coattails of activists by increasing their existing investments in targeted companies.
A huge number of respondents – 86% – believe activism will keep growing and 85% believe shareowners should have a “say on pay.” (Mainstream investors get behind activism, CrossBoarderGroup.com, 7/13/07)