Delaware’s MFW doctrine was originally developed to offer a path to the business judgment rule for squeeze out mergers. Over time, however, its use has expanded into a variety of other settings. MFW’s expansion has attracted some pretty high-profile opposition. Most notably, former Chief Justice Leo Strine, former Vice Chancellor Jack Jacobs and Penn Law School Prof. Lawrence Hamermesh authored an article in which they argued that Delaware courts had misapplied MFW by extending it to other transactions involving controlling stockholders.
In the course of the appeal, the Delaware Supreme Court took the unusual step of asking the parties for supplemental briefing (including accepting additional briefing from numerous amici curiae) on an issue not raised in the Court of Chancery: whether MFW should apply outside the context of a parent-subsidiary merger, or whether a less-cumbersome “cleansing mechanism” may be employed in nonmerger transactions with a controlling stockholder for the company to enjoy the protections of the business judgment rule.
In its briefing and at oral argument, the company argued against “MFW creep,” or the expansion of the MFW Doctrine outside of the squeeze-out merger context. Specifically, the company reasoned that Delaware courts have historically required companies to use only one of three so-called “cleansing mechanisms” to invoke the protections of the business judgment rule for a conflicted transaction: (1) approval by a majority of independent directors, (2) approval by a special committee of independent directors, or (3) approval by a majority of disinterested stockholders.
Accordingly, the company argued that MFW’sholding should be cabined to apply only to squeeze-out mergers, and other controlling stockholder transactions should be entitled to deference under the business judgment rule so long as the company meets one of the three traditional cleansing mechanisms.
The memo says that the plaintiffs countered by characterizing the company’s argument relied on a “revisionist narrative of Delaware law” and claiming that it is well settled that MFW applies to all transactions with a controlling stockholder. The plaintiffs argued that to hold otherwise would “administer a coup de grace by rendering entire fairness inapplicable to all controller transactions except freeze-out mergers.”
This year, SS&C Intralinks’ annual deal leaks study looked at the impact of gender diversity on leaks. This excerpt from an interview with one of the authors from the University of London’s Bays Business School summarizes one of the more interesting findings:
One of the most striking findings of our analysis is that deals involving targets with greater gender diversity at the board level are associated with lower incidence of abnormal pre-announcement trading. This observation appears to be driven particularly by greater gender diversity at the executive (as opposed to non-executive) board member levels. We find that targets with more than 30 percent female executive board members experience approximately two percentage points lower incidence of leaks (8.6 percent vs. 6.7 percent).
It is important to note that optimal outcomes in terms of lowest incidence of M&A deal leaks are observed when the proportion of both executive and non-executive female board members are higher. We find that the incidence of deal leaks is as low as 3.2 percent for target firms where both female executive and female non-executive directors are above 30 percent.
This finding is very interesting because it relates to a concept that is referred to as critical mass in prior academic studies. This idea suggests that female directors can be more influential if they reach a certain level of ‘critical mass’ such as at least 30 percent female board members. Having one or two female directors who are treated as symbolic figures and elected to be BoD to account for their social category, is unlikely to result in positive outcomes. This is sometimes referred to as the token female director and, unsurprisingly, such low levels of gender diversity are unlikely to make a significant difference to corporate outcomes and this is supported by studies in this area. Women are able to add value once they reach a critical mass of three or more, for example.
The study also found that deal completion rates are the lowest and deal premiums highest for targets in leaked deals where both the proportion of female executive and non-executive directors is above 30%. The authors suggest that targets with greater female board representation may be less willing to accept leaked bids due to the potential market abuse and misconduct surrounding M&A leaks. In turn, that may motivate bidders to offer relatively higher premiums in order to persuade these target firms to accept an offer.
Earlier this year, Meredith blogged about the Delaware Chancery Court’s decision in New Enterprise Associates 14, L.P. v. Rich, (Del. Ch.; 5/23). That blog dealt with the portion of Vice Chancellor Laster’s opinion that focused on the enforceability of a stockholder’s covenant not to sue. This recent Richards Layton article addressed another aspect of the opinion – whether the fiduciary duty of disclosure extends to stockholders whose consents were not sought in a consent solicitation. As this excerpt explains, the Vice Chancellor concluded that it did apply:
The Court of Chancery assessed whether stockholders whose consents were not sought could challenge the sufficiency of disclosures made in a consent solicitation. There, a Delaware corporation sought to amend its certificate of incorporation to increase the number of authorized shares in advance of a preferred stock offering and solicited written consents from a limited subset of stockholders who ultimately approved the amendment.
Dissenters whose consent was neither sought nor required challenged the solicitation’s disclosures as inadequate. The Court of Chancery concluded that these stockholders could challenge the consent solicitation’s disclosures as the product of a breach of fiduciary duty despite having never received them. The court reasoned that actions consenting stockholders are induced to take can harm stockholders not asked to consent because the outcome of stockholder votes can harm the latter.
The article points out that the outcome that potentially harmed the non-consenting stockholders was a preferred stock offering made possible by the consent action. Vice Chancellor Laster concluded that this harmed the non-consenting stockholders at the “entity level” and not at the individual stockholder level because they did not receive the challenged disclosures. Accordingly, he concluded that that the plaintiffs could only challenge the disclosures derivatively.
Section 363 sales are a common way to acquire assets out of bankruptcy. They’re a popular alternative for debtors who don’t want to go through a reorganization and provide buyers with the ability to acquire assets at an attractive price “free and clear” of claims against the debtor. If you have a client considering the Section 363 alternative, this Troutman memo provides a brief overview of the process, from the initial marketing to the sale hearing and closing. This excerpt addresses due diligence & bid submission procedures:
After the court approves the bid procedures, notice is given to potential bidders of the deadline to submit their bid. The length of time from entry of the order approving the bid procedures to the deadline to submit bids varies from case to case and is dependent on such factors as pre-petition marketing efforts, the deteriorating nature of the assets, etc. The debtor will also establish a data room for potential bidders.
Section 363 sales are typically on an “as-is, where-is” basis with limited representations and warranties, indemnity rights, or other post-closing recourse for buyers, so it is critical that a potential buyer carefully conduct due diligence on the assets and liabilities of the company. During this period, the debtor will also serve notice on contract and lease counterparties regarding such issues as cure claims and objections deadlines related to contract issues and the sale.
Potential buyers thinking about the Section 363 alternative should also review this Proskauer memo addressing a recent Delaware federal court opinion imposing successor liability on a Section 363 purchaser for obligations under the debtor’s labor agreements notwithstanding a bankruptcy court order providing that the purchaser acquired the debtor’s assets free and clear of any claims.
Last month, in Paragon Technologies v. Cryan, (Del. Ch.; 11/23), Vice Chancellor Will denied an activist stockholder’s request for a preliminary injunction requiring the board of Ocean Powers Technology to let its candidates stand for election and to exempt it from the company’s NOL poison pill.
The case arose out of effort by OPT’s largest stockholder, Paragon Technologies, Inc., to nominate candidates for election to OPT’s board of directors and to increase its stake in the company from 3.9% to 19.9%. In order to facilitate a proposed proxy contest, Paragon sought an exemption from the 4.99% ownership limitation in OPT’s poison pill in July 2023 and provided notice of its intention to nominate director candidates in August 2023. OPT’s board denied the exemption request and rejected its efforts to nominate its board slate on the basis that Paragon’s notice failed to comply with the company’s advance notice bylaw.
In addition to alleging that Paragon’s notice contained inaccurate information, OPT cited several specific shortcomings in the notice, including Paragon’s alleged failure to disclose its plans and proposals for the company, information that could impede Paragon’s nominees from obtaining a government security clearance, and Paragon’s “substantial interest” in seeking control of the Board through a proxy contest. Paragon responded by amending its 13D filing to disclose its intent to seek control of the company and supplemented its notice in an effort to address the board’s concerns. The OPT board rejected those efforts, and litigation ensued.
In light of the mandatory nature of the relief sought by Paragon, Vice Chancellor Will noted that it took on a substantial burden – one that it failed to carry. This excerpt from her opinion demonstrates that she reached that conclusion despite the existence of significant issues relating to the OPT board’s processes:
I reach that conclusion with some trepidation. The board amended its bylaws and adopted the rights plan after Paragon emerged on the scene. The board spent weeks reviewing Paragon’s nomination notice for deficiencies, raised numerous issues of varying degrees of importance, rejected the notice at the end of the nomination window, and then raised more deficiencies in this litigation. Some of the bylaws Paragon purportedly violated are ambiguous or seem untethered from a legitimate corporate end.
Still, there are countervailing facts. One of OPT’s bylaws requires a nominating stockholder to disclose its plans or proposals for the company. Contemporaneous communications suggest that Paragon may have had such plans if its proxy contest succeeded and it gained control of the board, including a stock for stock reverse merger. Absent credibility determinations (and given that Paragon’s principal deleted his text messages), I cannot say whether such undisclosed plans exist. More generally, there is evidence that the board enforced certain bylaws to uphold important corporate interests and rejected the exemption request to protect OPT’s valuable NOLs. Whether this is pretextual is another matter I am unable to resolve at this stage.
In her commentary on this case, Prof. Ann Lipton expressed some discomfort with this decision:
I admit, I’m a bit uncomfortable with this holding, because it seems to me that with these kinds of bylaws, it will be very easy for boards to create factual “disputes” about whether all of an activist’s plans were disclosed, or whether there was some undisclosed conflict lurking somewhere, or whether a bylaw really was vague in application, and with those factual disputes in hand, stave off a proxy challenge for at least another year, which may render it uneconomical for an activist to even litigate the bylaw issues in the first place.
Perhaps the board’s actual conduct – evasiveness and foot-dragging when addressing requests for clarification – should carry more weight. But I don’t want to overstate; deleted text messages were a real issue, Paragon’s first 13D disclosures were laughable, and Will suggested that she might have looked more favorably on a different request for relief, such as, delay of the annual meeting until trial on Paragon’s claims that OPT breached its duties with respect to the bylaw and the pill.
Ann also pointed out that the nature of the relief sought played a big role in the outcome of this case, because Vice Chancellor Will suggested that she might have looked more favorably on a remedy like delaying the annual meeting until after a trial on Paragon’s breach of fiduciary duty claims arising out of the OPT board’s actions.
The Goodwin team that represented the issuer in the first IPO by a traditional venture-backed technology company in more than 18 months recently wrote an alert explaining why the company’s high vote/low vote capitalization structure — which is very common in venture-backed technology IPOs in the last decade — used the terms “Series” A common stock and “Series” B common stock rather than the more common references to “Class” A and B. The certificate of incorporation also included language clarifying that the high vote & low vote common stock were two separate series, not classes.
The alert states that the typical reference to classes, when series is really intended, “created the potential for ambiguity” in Delaware “about the rights granted to the high vote and low vote stock by virtue of Section 242(b)(2).” For example, in cases against Fox Corp. and Snap Inc., the plaintiffs — while they haven’t been successful in this argument — sought to take advantage of this ambiguity to argue that a separate class vote was required to approve a charter amendment for officer exculpation. The alert contends that these claims could have been avoided if the high vote/low vote stock had been labeled and structured as “series.” Here’s why:
Under DGCL Section 242(b)(2), post-adoption amendments to a company’s certificate of incorporation may require different threshold votes of its stockholders depending on whether the amendment affects multiple classes of stock or multiple series of stock. Under Section 242(b)(2), an amendment that changes the “powers, preferences or special rights” of a class of stock requires a vote of the affected class (voting separately) if that amendment is “adverse” to the class.
In contrast, an amendment that changes the powers, preferences, or special rights of a series within a class of stock requires a separate vote of the affected series only if that amendment is adverse AND the affected series is treated differently than other series. Said differently, if an amendment adversely affects two series of stock but affects both series in the same manner, the stockholder vote required to approve the amendment is a vote of the two series voting together on a combined basis.
Compare this to the treatment of classes. In the case of classes, if an amendment adversely affects two classes of stock, then each class is entitled to a separate class vote on the proposed amendment, even if the classes are affected in the same manner. Thus two separate votes are required rather than one combined vote.
Why does this matter? The net effect of a dual class common stock structure is that under Section 242(b)(2), the company’s low vote stockholders have a separate class vote (and resulting veto power) over a proposed charter amendment that adversely affects the low vote and high vote classes of common stock in the same manner. If the intent is to implement a dual series common stock structure, naming the high vote and low vote stock “Series A” and “Series B” will make it clear that the low vote stock does not have a veto right by virtue of Section 242(b)(2) on amendments that treat the low vote and high vote stock the same.
This Freshfields blog discusses an oft-overlooked issue in post-closing M&A disputes — crossover witnesses. Here’s the issue:
A crucial aspect of any M&A deal is the transfer of employees along with the Target company. […] But often those same individuals – whether senior executives of the Target or knowledgeable employees of the Seller – may have been key players at the deal stage, responsible for preparing relevant technical and financial documents constituting the basis of the Purchaser’s due diligence and final decision.
It is therefore no surprise that these employees’ knowledge of the Target and the transaction becomes crucial in resolving any subsequent disputes. […] However, complications arise when these individuals are now employed by the opposing party in the same proceedings. Even if the Seller manages to engage with the witness, there is no guarantee that the witness will cooperate or agree to testify against their new employer.
When a deal provides for the transfer of key personnel or where future employee transfers are foreseeable, the blog suggests sellers take a proactive approach “to ensure a full presentation of the party’s factual and legal case in a subsequent dispute and to preclude disruptive procedural conflicts over access to witnesses.” Here are excerpts from the recommendations:
– Seller should ensure that the key face-to-face negotiations are not led by individuals who are likely to transition to the Purchaser’s side post-Closing – or at least minimise the risk by having two co-leads for crucial workstreams and meetings
– [I]ncorporate appropriate provisions in the deal documents regarding access to transferred employees in case of a dispute. For example, a provision could state that in the event of a dispute, the Seller will not be prevented from having conversations with former employees and potentially presenting them as a witness
– Care should be taken to ensure that documents (or copies thereof) remain with the Seller and are not transferred in their entirety along with the Target. Best practices must be implemented to prepare meeting minutes and handover protocols. All documents in the transferring employee’s possession and control must be archived properly particularly ensuring that relevant transaction documents stored in personal folders or storage devices are handed over to the former employer
– [E]nter into a non-disclosure agreement imposing appropriate confidentiality obligations on the employee. The aim should be to prohibit the employee from discussing or sharing confidential information in relation to any future disputes arising out of the transaction. If the employee transfers after the dispute has arisen, it would be advisable to set out the scope of the confidentiality obligations in more detail
The November-December Issue of the Deal Lawyers newsletter was just posted and sent to the printer. This issue includes the following articles:
– Delaware Court Addresses Ability to Sue Buyers for Lost Premiums in M&A Deals
– Delaware Chancery Addresses Section 271 of DGCL’s ‘Substantially All of the Assets’ Requirement
The Deal Lawyers newsletter is always timely & topical – and something you can’t afford to be without in order to keep up with the rapid-fire developments in the world of M&A. If you don’t subscribe to Deal Lawyers, please email us at sales@ccrcorp.com or call us at 800-737-1271.
While every conflict is different, this Skadden alert discusses examples of what to do — and what not to do — when persons involved in a deal process have conflicts. The examples of behavior viewed favorably or unfavorably are based on four recent Delaware decisions involving deal processes challenged by stockholders due to conflicts.
This example highlights how the independence — and also the experience — of the financial advisor to the board or special committee can influence the court’s perception of the deal process:
– The courts in the Tesla, Oracle and Columbia Pipeline cases praised the boards or special committees for selecting top-tier financial advisors without longstanding relationships or conflicts with their companies or counterparties.
– In the Tesla case, the court positively noted that, during due diligence, the company’s banker investigated the seller’s financial state, had discussions with the seller’s financial advisor, adjusted the focus of its work as concerns arose, reran analyses as needed, and kept the board apprised of new developments. The court also noted that, in response to information discovered during due diligence, the board lowered the offer price.
– In the Mindbody decision, the court applauded the company’s banker for sharing its knowledge about the buyer, including its modus operandi and associated risks, but said that the company’s CEO ignored that information.
I’m sure you’ve already heard about the Starbucks proxy contest led by the Strategic Organizing Center, a coalition of labor unions, including the Service Employees International Union (SEIU). If not, this Wall Street Journal article discusses the coalition’s concerns and its three nominees. The article notes that the coalition has submitted shareholder proposals in the past, but this is the first time it has launched a proxy contest. It makes only a brief reference to universal proxy — noting that UPC could benefit the coalition.
But others have expanded on this point. Michael Levin at The Activist Investor has called this “the first ESG proxy contest under UPC.” And, while this Paul Hastings alert is cautious about extrapolating too much from one contest, it says this might be early evidence that some of the corporate world’s concerns about UPC are coming to fruition:
Some corporate observers recognized the possibility that universal proxy would enable and encourage labor unions and other single-agenda activists to hijack the director election process as a means to advance their agenda and extract management concessions. SEC representatives, universal proxy supporters and some corporate advisors dismissed the idea as fear mongering, and were quick to seize on the lack of comparable campaigns during the 2023 proxy season as clear and irrefutable evidence that such fears were unwarranted [but] [t]he SEIU campaign should remind corporations that the full implications of the universal proxy card cannot be assessed after a single proxy season. We would expect similar campaigns organized by labor and other interest groups will occur in the coming proxy seasons.
The alert explains how UPC has made using “the annual shareholder meeting process as a very public platform to pressure corporate management and advance their agendas” more attractive to activists:
The fact is that these nominal contests by single-agenda activists can be conducted inexpensively with the activist mostly freeriding on the company’s proxy solicitation efforts. The universal proxy rules require that a dissident solicit shareholders representing at least 67% of the voting power of shares entitled to vote on the election of directors. While the SEC Staff has made clear through interpretive guidance that merely filing a proxy statement on EDGAR is not sufficient to meet the 67% solicitation requirement, according to the SEC’s adopting release, these solicitation costs even at a mega-cap company would be less than $10,000. Further, based on publicly available data from FactSet, we estimate that the SEIU would have to mail proxy materials or provide electronic access through e-proxy procedures to less than 300 Starbuck’s shareholders to meet the 67% solicitation requirement.
[…] In addition to lowering the campaign cost for a dissident group, the inclusion of the dissident’s nominees on the management proxy card is likely to increase the chances that shareholders elect at least one of the three SEIU nominees.
What’s a board to do? The alert makes some recommendations. One cites a workers’ rights proposal that received support from a majority of shareholders at the 2023 annual meeting, and suggests companies closely consider voting results on shareholder proposals and, where a proposal garners significant support, proactively engage with shareholders “to make sure [the board is] responding to the concerns that caused shareholders to vote in favor of such proposal.”