Michael Levin recently shared another UPC development – the second activist success story:
An individual investor, Daniel Mangless, owns 2.3% of Zevra Therapeutics (ZVRA), since 2019. Other than a few Form 13Gs for ZVRA and one other holding, the preliminary proxy statement for ZVRA was his first-ever SEC filing and, it appears, activist project.
He rather quietly nominated three candidates for three available seats on the seven-person classified BoD. ZVRA nominated the three incumbents, including the CEO and a director first appointed in November 2022. He also proposed reversing any bylaw amendments from 2023, which the ZVRA BoD could have approved but not disclosed to shareholders.
At the ASM last week, all three challengers won by a significant margin over the three incumbents. The bylaw amendment reversal also prevailed by a similar margin.
What’s a significant margin? All three activists won 80% of the votes cast, with the bylaw proposal passing with 84% of the vote. So, while UPC may have helped encourage the activist, it doesn’t appear to have impacted the outcome:
Shareholders didn’t see the need to split votes among incumbent and activist candidates, one of the features of UPC. All three challengers each received approximately the same votes, as did the three incumbents.
The other notable feature of this campaign was the activist’s particularly low expenses, estimated at $250,000.
John blogged earlier this year about the new statutory exemption for M&A Brokers from federal broker-dealer licensing requirements. In case you missed it, this K&L Gates blog reminds us that this statutory exemption became effective on March 29 and the SEC formally withdrew its 2014 no-action letter.
As John had noted, the exemption is limited to “eligible privately held companies,” which is defined as a company that has, in the fiscal year ending prior to the one in which the M&A broker is initially engaged: (i) no class of securities registered or required to be registered under §12 of the Exchange Act and (ii) EBITDA less than $25 million and/or gross revenues less than $250 million. This is a key departure from the no-action letter. Here’s an excerpt from this Morrison Foerster alert on why this creates complications:
Following adoption of the Act, while the No-Action Letter remained outstanding, private company M&A brokers could continue to rely on it for transactions involving larger private companies that did not fit within the limits set forth above. However, the SEC withdrew the No‑Action Letter on March 30, 2023, specifically citing the fact that the Act imposed size limitations not found in the No-Action Letter.
For many private company M&A advisers, the limitation on the size of eligible private companies will pose a major obstacle. We are in an era when more and more successful private companies decline to go public or postpone that decision to a later stage of their growth.[6] According to The New York Times, the number of public companies in the United States dropped by approximately 52% from the late 1990s to 2016.[7] As a result, the number of private companies that are larger than the caps permitted under the Act is likely to grow. M&A brokers servicing these companies now must register with the SEC as broker-dealers, even if they never engage in any other form of brokerage activity.
By contrast, M&A brokers who limit their involvement to the smaller “eligible” private companies will be entirely free of federal broker-dealer regulation. This stark difference may result in two different tiers of M&A boutiques, with some operating with limited or no regulatory oversight,[8] while those serving larger private companies will be subject to the extensive requirements of federal broker-dealer regulation. Some Congressional supporters of the Act argued that it was important to reduce the regulatory burden on brokers handling smaller deals in local communities. While that may be a worthwhile goal, it is not clear why brokers who, on occasion or on a regular basis, may advise larger private companies in M&A transactions and provide no other brokerage services should be subject to federal broker-dealer regulations that are equally ill-fitted to their business.
Since we’ve blogged in detail here about all the drama related to bylaw amendments following universal proxy, here’s Liz’s post on the Proxy Season blog on TheCorporateCounsel.net related “fair elections” shareholder proposals:
In the wake of the SEC’s universal proxy card rules, some companies have been testing the limits on advance notice bylaws. If you go too far, you not only risk alienating your investors – you may also have to defend yourself in court. Meredith blogged about some of that back & forth last month.
Another consideration here is that this is a “hot topic” for shareholder proponents who are focused on corporate governance. Late last year, Jim McRitchie submitted this “fair elections” proposal to approximately 30 companies:
James McRitchie and other shareholders request that directors of [____] (“Company”) amend its bylaws to include the following language:
Shareholder approval is required for any advance notice bylaw amendments that:
1. require the nomination of candidates more than 90 days before the annual meeting,
2. impose new disclosure requirements for director nominees, including disclosures related to past and future plans, or
3. require nominating shareholders to disclose limited partners or business associates, except to the extent such investors own more than 5% of the Company’s shares.
A few of these proposals are currently expected to go to a vote in the upcoming weeks. Jim noted in a recent update that he’s also withdrawn several proposals – in exchange for an agreement from the company to add the following language to the corporate governance guidelines:
The Board is committed to providing a director nomination process that is fair and equitable to all nominating shareholders, and as such the Board will not, without shareholder consent, adopt any amendments to the Bylaws of the Company that would expressly (1) require nominating stockholders that are investment funds or other investment vehicles to disclose the identities of less than five percent stockholders, members, limited partners or holders of similar economic interests solely on account of such holders’ economic interests (so long as such holders do not have or share control over the nominating stockholder and are not participating in the stockholder’s solicitation of proxies), (2) require nominating stockholders to disclose plans to nominate candidates to the board of directors of other public companies, or (3) require nominating stockholders to disclose prior stockholder proposals or director nominations that such a stockholder privately submitted to other public companies.
If the Board, in its exercise of its fiduciary responsibilities, deems it to be in the best interests of the Company’s stockholders to adopt such provision without the delay that would come from the time reasonably anticipated to seek such a stockholder vote, the Board will either submit the advance notice bylaw to stockholders for ratification or cause the advance notice bylaw to expire within one year.
In this LinkedIn post, Jim also previews that he plans to reword this proposal to protect against no-action challenges, and recirculate it next year. Since it is often challenging to gather enough shareholders to pay attention to a bylaw amendment, if you are considering updating your advance notice bylaw, this may be a reason to take a look at it sooner rather than later.
In a recent opinion in New Enterprise Associates 14, L.P. v. Rich, (Del. Ch.; 5/23), Vice Chancellor Laster found a stockholder covenant not to sue for breach of the duty of loyalty—in the context of a sale of the company that triggered the drag-along provision in a stockholders’ agreement—partially enforceable. Here’s an excerpt from this Duane Morris blog discussing the opinion:
Conducting a deep-dive into the history and philosophical underpinnings of fiduciary law, the Court reasoned that specific, limited, and reasonable covenants not to sue are valid, but that Delaware abhors pre-dispute waivers of suit for intentional harms. The Court laid out a two-part test, sure to join the corporate practitioner’s lexicon of eponymous capital-t Tests swiftly:
“First, the provision must be narrowly tailored to address a specific transaction that otherwise would constitute a breach of fiduciary duty. The level of specificity must compare favorably with what would pass muster for advance authorization in a trust or agency agreement, advance renunciation of a corporate opportunity under Section 122(17), or advance ratification of an interested transaction like self-interested director compensation. If the provision is not sufficiently specific, then it is facially invalid.
. . .Next, the provision must survive close scrutiny for reasonableness. In this case, many of the non-exclusive factors suggested in Manti point to the provision being reasonable. Those factors include (i) a written contract formed through actual consent, (ii) a clear provision, (iii) knowledgeable stockholders who understood the provision’s implications, (iv) the Funds’ ability to reject the provision, and (v) the presence of bargained-for consideration.”
Emphasizing the placement of the convent in a stockholder-level agreement (versus the charter or bylaws) and that it only applied to a drag-along sale, which had to meet a list of eight criteria, VC Laster found the covenant to be enforceable, except to the extent it would relieve defendants of tort liability for intentional harm, which would be contrary to Delaware public policy. To make a successful public policy argument, the plaintiff must show bad faith.
This is neither here nor there, but the blog’s reference to VC Laster’s over-1,200-word footnote reminded me of Infinite Jest, the endnotes of which (fun fact!) have their own audio file on audible.com.
Earlier this week, I blogged about Lowenstein’s recent survey on the evolution of the RWI claims process. We’ve also uploaded a new podcast featuring one of that survey’s authors, Lowenstein partner Eric Jesse. This 17-minute podcast addressed the following topics:
– Overview of the methodology and scope of Lowenstein’s survey on RWI claims
– Evolution of the RWI claims process
– Changes in the RWI marketplace in recent years and emerging trends
– Reps & warranties breaches that are driving RWI claims
– Defenses insurers are raising to avoid paying claims or to reduce the amount of payment
– Advice for purchasers of RWI in today’s environment
We’re always looking for new podcast content, so if you have something you’d like to talk about, please reach out to me at john@thecorporatecounsel.net or Meredith at mervine@ccrcorp.com. We’re wide open when it comes to topics – an interesting new judicial decision, other legal or market developments, best practices, war stories, tips on handling deal issues, interesting side gigs, or anything else you think might be of interest to the members of our community are all fair game.
I’m going to be on vacation for the next couple weeks, and while Meredith will be holding down the fort here, blogging will be a little light until I return.
Wachtell Lipton recently published the 2023 edition of its 235-page “Takeover Law and Practice” publication. It addresses directors’ fiduciary duties in the M&A context, key aspects of the deal-making process, deal protections and methods to enhance deal certainty, takeover preparedness, responding to hostile offers, structural alternatives and cross-border deals. As always, the publication is full of both high-level analysis and real-world examples. Here’s an excerpt from its discussion of M&A litigation:
Shareholder litigation challenging merger and acquisition activity remains common, and, continuing the trend sparked by the Delaware Court of Chancery’s 2016 Trulia decision curtailing the ability to settle such suits in Delaware by way of added disclosures, the bulk of these merger-objection suits in recent years have been styled as claims under the federal securities laws and were filed in federal court.
Recent reports from NERA and Cornerstone Research suggest that the number of such merger objection suits has significantly declined in the past two years. But these studies only account for class actions, and there has been a shift by stockholders toward filing merger objection suits on an individual basis rather than on behalf of a putative class, potentially to avoid class action filing limitations and disclosure requirements under the PSLRA, and therefore do not necessarily reflect any decline in the number of merger objection suits filed.
Merger objection litigation generally challenges disclosures made in connection with M&A activity under Sections 14(a), 14(d), and/or 14(e) of the Exchange Act and sometimes also alleges breaches of state-law fiduciary duties. The overwhelming majority of such federal suits were “mooted” by the issuance of supplemental disclosures and payments of the stockholder plaintiffs’ lawyers’ fees. Unless the federal courts begin applying heightened scrutiny to such resolutions akin to Delaware’s Trulia review of settlements, we expect this litigation-and-settlement activity will continue.
Lowenstein Sandler recently issued this report on the state of the RWI claims marketplace and how it has evolved since the firm’s 2020 report on RWI claims experience. The report says that there have been some pretty significant changes over the past three years, and that from a buyer’s perspective, those changes aren’t for the better. Here’s an excerpt from the intro:
The most significant change is in how R&W insurers approach claims. While buyers increasingly need access to RWI for claim payments because sellers will not provide traditional indemnification, securing payment for claims has become much more challenging—it takes several years to get paid, the claim process is adversarial and resource-intensive, claim payment values are coming down, and more litigation and alternative dispute resolution (ADR) proceedings appear to be on the horizon.
Our survey also revealed an important and surprising trend about why it is taking so long to navigate the claim process: insurers are digging into the fundamental issue of whether a breach has even occurred and then getting bogged down in how to value the loss that flows from the breach. Policyholders are perplexed and frustrated because they expect R&W insurers to understand the deal, the nature of the business operations, and the risks that were assumed when the R&W policy was sold.
In other words, the RWI claims market is headed in the direction of becoming a commoditized insurance product that does not fit the needs of M&A stakeholders, who expect the RWI policy to function as an effective and responsive risk-transfer solution.
The report makes the point that dealmakers expect speed, ROI and rational commercial behavior and aren’t interested in having to litigate a claim or re-diligence a deal through the claims process, and cautions insurers that an immediate course correction is necessary to ensure that consumers of the RWI product continue to see value in it.
The PCAOB recently issued a report on its review of more than 100 audits of SPACs & De-SPACed issuers, and its conclusions weren’t exactly a ringing endorsement of the performance of SPAC auditors. In particular, the report highlighted shortcomings in auditors’ work surrounding the classification of warrants issued by SPACs, which prompted a wave of restatements in 2021. Here’s an excerpt:
We have observed audits of the public company’s year-end financial statements where engagement teams did not:
– Identify and appropriately evaluate a generally accepted accounting principles (GAAP) departure related to:
Warrants prior to the restatement of the public company’s financial statements, stock compensation, and/or measurement and classification of redeemable shares;
The omission of certain required fair value measurement disclosures in the public company’s financial statements; or
– Identify the significance to the financial statements of the public company’s error in the presentation and disclosure related to the contract assets from contracts with customers.
The report identifies additional financial statement auditing deficiencies, ICFR auditing deficiencies, and other instances of noncompliance with PCAOB standards or rules.
SRS Acquiom recently released its annual M&A Deal Terms Study, which reviews the financial & other terms of 2,100 private-target acquisitions valued at more than $460 billion that closed between the beginning of 2017 and the end of 2022. Here are some of the key findings about trends in last year’s deal terms:
– Transaction values were lower in 2022 relative to the record-breaking 2021 M&A market; lower-middle market targets may have been more attractive for buyers avoiding regulatory scrutiny, with limited financing options, or being mindful of uncertain economic conditions.
– The median return on investment for 2022 deals was 4x, down from 5.2x in 2021 but still higher than 2019 and 2020 levels at 3.4x and 3.5x, respectively. The average return on investment increased to 9.1x from 8.5x in the previous year, owing to the top 5% of M&A deals having high transaction values and ROI.
– Shifting trends in earnout structures resulted in a higher prevalence of earnouts (21% v. 17%) in 2022, increased use of earnings or EBITDA metrics, longer performance periods, and virtually no deals with a buyer covenant to run the business in a way that maximizes the earnout.
– PPAs are nearly universal in private M&A; 94% of 2022 deals included a PPA, predominately via a separate mechanism in the consideration section. More than one in four PPAs used a customized approach for accounting methodology, typically via a calculation worksheet attached as an exhibit.
– 93% of deals had at least one escrow; 52% of deals had at least two escrows (e.g., indemnification, PPA, or other special escrow). The median size of all escrows combined as a percentage of transaction value on deals with an indemnification escrow that do not use RWI was 11.3% and 2.5% for deals with RWI identified, compared to 10% and 0.5%, respectively, for the median size of only the indemnification escrow.
As always, the study contains plenty of interesting information about reps & warranties, covenants, indemnification terms, dispute resolution and termination fees.
At issue in S’holder Representative Services LLC v. HPI Holdings, LLC, (Del. Ch.; 4/23) was an earnout conditioned on the surviving entity signing a customer agreement with specific terms. While the surviving company signed a modified agreement maintaining the customer relationship, the buyer declined to pay the earnout because the specific payment conditions set forth in the purchase agreement were not met, and the shareholder representative sued.
There were two contractual earnout triggers at issue in the case. The first called for payment of the earnout if the buyer entered into a “new agreement” with the customer on substantially the same economic terms as the original agreement. The second trigger required payment if the buyer signed an amendment to the original agreement removing an early termination clause.
With respect to the first trigger, the plaintiff argued that the modified agreement document was a new agreement since it was titled “Agreement to Amend Service Agreement” and because it supplanted certain provisions in the original agreement with the customer. Vice Chancellor Fioravanti was having none of this argument, calling it “a strained attempt to find ambiguity in the title” notwithstanding the document’s structure and function—to modify an existing contractual relationship—and the words consistently used to describe it throughout.
As to the second trigger, the plaintiff argued that if the modified agreement was just an amendment, the earnout payment was still triggered because the amendment removed the customer’s early termination right. VC Fioravanti also didn’t find this argument compelling, deciding that the modified termination provision, which maintained the customer’s ability to terminate on 90 days’ notice but only after a certain date, suspended—but didn’t eliminate—the early termination right. Accordingly, the defendant buyer’s motion to dismiss was granted because the specific criteria necessary to trigger payment under the unambiguous earnout provision were not met.