Following implementation of the SEC’s universal proxy rules, disputes about activists’ compliance with advance notice bylaws have become one of the key battlegrounds in proxy contests. Last week, in Kellner v. AIM Immunotech, (Del. Ch.; 12/23), the Chancery Court addressed a challenge to amendments to a company’s advance notice bylaw adopted during a proxy contest. Vice Chancellor Will upheld certain of those amendments & struck down others, but ultimately concluded that the board acted reasonably in rejecting the investors’ notice of nominations for noncompliance with the advance notice bylaw.
There’s an old adage that says the “politics makes strange bedfellows” and this case makes a strong argument that this adage applies equally to shareholder activism. The activists in this situation were an eclectic group comprised of a convicted felon, a former securities trader, a billionaire investor & minority owner of the Milwaukee Bucks, an investor relations consultant, and – I kid you not – the IR guy’s surfing buddy.
The surfing buddy – who I can’t help picturing as Jeff Spicoli from Fast Times at Ridgemont High – fronted the activists’ efforts to submit a notice of nominations in 2022. The activist group’s 2022 effort was poorly organized and chaotic, and the company successfully rejected its nominations. However, concerns about the group’s efforts “to conceal who was supporting and who was funding the nomination efforts and to conceal the group’s plans for the Company” & the likelihood of a 2023 proxy contest prompted the board to consult with its legal advisors and adopt amendments to the company’s advance notice bylaws “to better protect AIM and its stockholders against potentially abusive and deceptive practices.”
As expected, the activists took another run at the company in 2023 and submitted a notice of nominations under the terms of AIM’s amended advance notice bylaw. The company rejected that notice, and the plaintiff brought a lawsuit seeking to hold the bylaw amendments invalid and compelling AIM to accept the activists’ nominees. Citing the Delaware Supreme Court’s recent decision in Coster v. UIP Companies, (Del.; 7/23) and noting that the amendments were not adopted on a “clear day,” Vice Chancellor Will evaluated the plaintiff’s claims under the Unocal enhanced scrutiny standard.
She concluded that the board reasonably identified a threat to the proper corporate objectives that prompted it to adopt the bylaw amendments but held that most of those amended provisions were not proportionate responses to that threat. A total of six bylaw provisions were challenged by the plaintiff. The Vice Chancellor found that the following four provisions were invalid:
– AAU Provision. The bylaw amendments included language requiring disclosure of all arrangements, agreements, or understandings (“AAUs”), “whether written or oral, and including promises,” relating to a board nomination. The provision contained a 24-month lookback period for disclosure of AAUs, and it also contained language requiring disclosure of any AAUs involving persons acting in concert with a particular holder and any “Stockholder Associated Person” (“SAP”). While the Vice Chancellor was not troubled by the lookback provision, she found the definition of SAP included in the bylaw to be unreasonably broad. She concluded that it rendered the AAU provision “overbroad, unworkable, and ripe for subjective interpretation” by AIM’s board.
– Consulting/Nomination Provision. The amendments also required disclosure of AAUs between the nominating holder or an SAP, on one hand, and any of its nominees, on the other, concerning “consulting, investment advice, or a previous nomination for a publicly traded company within the last ten years.” Vice Chancellor Will concluded that the inclusion of SAPs created the same problems for this provision that it did for the AAU provision, and she also said that it imposed “ambiguous requirements across a lengthy term.” Ultimately, she concluded that the provision “would give the Board license to reject a notice based on a subjective interpretation of the provision’s imprecise terms” and was invalid.
– Known Supporter Provision. The amendments included language requiring the nominating stockholder and nominees to list all known supporters as part of the notice. The defendants justified this provision by noting that the Chancery Court had previously upheld language in an advance notice bylaw requiring disclosure of known financial supporters. The Vice Chancellor was unpersuaded by that argument. She concluded that by adopting a provision that applied ambiguously to “all known supporters,” the board could take a broad reading of the provision and reject the nomination for reasons that a stockholder couldn’t realistically anticipate.
– Ownership Provision. The amendments required a nominating stockholder to disclose, among the holder’s interest in AIM stock, including shares beneficially owned and synthetic, derivative, and short positions in the stock. That disclosure requirement extended to SAPs, immediate family members, and persons acting in concert with a nominee. While observing that disclosure of this nature was “perfectly legitimate” in principle, Vice Chancellor Will found the bylaw language itself to be “indecipherable” and concluded that it “sprawled wildly” beyond that legitimate purpose. She concluded that “the provision seems designed to preclude a proxy contest for no good reason.”
The Vice Chancellor upheld the other two provisions of the bylaw amendments challenged by the plaintiff. Those involved a requirement to disclose the dates of first contact among those involved in the nomination effort, which she concluded was a reasonable approach to the objective of eliciting sufficient information “for the Board to make a recommendation about the nominations and stockholders to cast informed votes.” She also upheld the bylaw’s requirement that the nominees complete D&O questionnaires.
Despite tossing several of the bylaw amendments, the Vice Chancellor ultimately upheld the board’s decision to reject the activists’ nominations on the basis of their noncompliance with several valid requirements set forth in the advance notice bylaws. She also concluded that the remedy of rejecting the nominations was reasonable and proportionate under the circumstances.
We’ve written extensively about the FTC and DOJ’s aggressive approach to antitrust enforcement — from the cases pursued to the expanded premerger notification rules to the final Merger Guidelines announced just this week — and its potential impact on M&A activity. This recent Weil alert notes that these trends chill M&A activity in another way — by making it more difficult for buyers to obtain “underwritten debt commitments to support acquisitions” and increasing the costs to do so. Here’s an excerpt from the alert regarding ticking fee provisions:
Ticking fee provisions play the most obvious role in increasing costs for debt financings with lengthy commitment periods. A ticking fee at its core is a fee that kicks in after a certain period of time to compensate the syndicate lenders for holding unfunded exposure for longer than usual through closing.
The timeline for when financing sources will expect a ticking fee to commence is a negotiated point. Typically, there will be an initial holiday period during which no ticking fee is payable. In many deals, that holiday period averages around 4 months (120 days), but there are also deals on either side of the spectrum driven by market dynamics. There are certain deals where lenders have been willing to provide 6+-month debt commitments with no ticking fee payable at all and, on the extreme flip side, deals where lenders have required a ticking fee after as little as 35 days. The structure of ticking fees varies from deal to deal but often will include step-ups after delineated periods of time measured from either the signing date or allocation date (or the earlier of a fixed date after signing and the date of allocation) in a syndicated financing. […]
Another issue to consider is whether such ticking fees are payable if the borrower terminates the debt commitment letter. In the U.S. leveraged loan market, the ticking fee is commonly structured such that if the acquisition and related debt financing do not close, then no ticking fee is payable – no deal, no fee.
However, there are also deals where lenders have requested that the ticking fee be payable on the earlier of (y) termination of the commitment letter and (y) the closing date, such that the lenders are entitled to compensation for holding the commitment to purchase the loans even if the debt commitment letter is terminated.
The alert discusses other issues, including duration-based market flex provisions and alternate transaction fees. But it also describes a creative solution recently trending:
We have also seen a trend in transactions with long regulatory approval timelines to, in lieu of seeking new debt commitments, agree to amend the target’s existing debt to permit the change of control with the goal of then launching a best efforts refinancing after the transaction closes. This approach avoids having to pay a ticking fee on a long commitment and provides the company greater flexibility in deciding when to raise additional debt based on market conditions.
Programming Note: We will take a break from blogging here for the holidays and return in January. Happy New Year to all!
On Monday, the DOJ and FTC announced the release of the final 2023 Merger Guidelines. The draft guidelines were published back in July. As expected, the guidelines formalize a “notable shift toward more aggressive merger control enforcement” as described in this White & Case memo. However, there were significant changes from the draft form. The memo attaches a redline showing all the differences and describes certain key changes as follows:
Final 2023 Merger Guidelines drop the July 2023 draft’s then-Guideline 6, which directly addressed vertical mergers
– The July 2023 draft Guidelines in then-Guideline 6 had identified mergers that result in a foreclosure share above 50% in a related market or those below a 50% foreclosure share that exhibit certain “plus factors” as “a sufficient basis to conclude that the effect of the merger may be to substantially lessen competition.”
– The final 2023 Merger Guidelines do not include this same language. Importantly, however, the final 2023 Merger Guidelines still address vertical mergers. Final 2023 Guideline 5 warns that vertical transactions that would give merging parties the ability and incentive to weaken or exclude rivals can violate the law.
Final 2023 Merger Guidelines drop the July 2023 draft’s then-Guideline 13, which contained broad catchall language
– The final 2023 Merger Guidelines also drop the draft’s then-Guideline 13 (“Mergers Should Not Otherwise Substantially Lessen Competition or Tend to Create a Monopoly”). This proposal had merely clarified that scenarios addressed in the other guidelines are “not exhaustive” of the mergers that may threaten competition. The DOJ’s and FTC’s decision to cut this proposal does not reflect a significant change from the July 2023 draft Merger Guidelines.
Final 2023 Merger Guidelines drop some restrictions on efficiencies from July 2023 draft Guidelines
– The final 2023 Merger Guidelines drop some restrictions on procompetitive efficiencies that had been included in Section 3.3 of the July 2023 draft Guidelines (“efficiencies are not cognizable if they will accelerate a trend toward concentration [] or vertical integration.”). The final 2023 Merger Guidelines still set a high bar for the DOJ and FTC to credit efficiencies.
We’re posting memos and other materials in our “Antitrust” Practice Area here on DealLawyers.com.
This Dechert memo looks back at Delaware opinions on books and records demands in the last year and makes recommendations for drafting minutes and gathering responsive documents. It highlights two recent decisions that show the need to be judicious with any redactions when producing materials.
First, [a decision] criticized a series of relevance redactions that seemed to defy logic, including mid-sentence redactions in apparently responsive paragraphs, redaction of a paragraph in the middle of minutes for a special meeting to address the exact subject of the Section 220 demand, and multiple redactions to a one-page memorandum that also addressed the subject at issue. The Vice Chancellor explained, for example, that “there is no reason to think that the author of the minutes incoherently injected an unrelated topic into an otherwise responsive sentence.” […]
Several months later, the same issue of over-redaction contributed to the Court of Chancery’s denial of a motion to dismiss. Because all substantive discussions of the disputed topic were redacted from board minutes, the Court allowed plaintiffs’ claim to proceed on the inference that the company’s board did not discuss or act on the issue.
Given these recent decisions and others related to the stated purpose and the scope of the request, it makes these suggestions:
– minutes should be drafted to organize like-with-like, include clear headings showing the different topics discussed, and reflect both privileged and business discussions, if any, on the pertinent topics,
– minutes should provide sufficient detail on each item discussed to show that the directors engaged in a discussion on the issue and decided on some further action,
– ideally, the directors will be informed by management, ask questions, deliberate, and exercise their business judgment, and the minutes will reflect that,
– materials considered by the board, such as presentations and reports, can be attached to meeting agendas or minutes, to provide a complete record of each meeting, and
– if redactions are needed, litigation counsel should be judicious in considering what information is redacted in response to a Section 220 demand, and consider carefully whether the reasons for a redaction (particularly based on a lack of relevance) are sufficiently clear from the face of the document so as to avoid any inference that directors did not engage on the topic at issue.
While we’re on the topic, this Sullivan & Cromwell memo discusses a November opinion on Section 220 demands. In Greenlight Capital Offshore Partners, Ltd. v. Brighthouse Financial, Inc. (Del. Ch.; 11/23), the Chancery Court granted a request by a stockholder of a publicly traded company to inspect the books and records of a private subsidiary. The court “held that the private subsidiary’s books and records were within the scope of what could be sought under Section 220, but ordered the company to produce only a limited subset of the requested information, including board minutes and formal communications with the company’s primary regulator.”
This fall, I blogged about the potential importance of taking a broader approach to identifying key talent critical to retain during an acquisition or merger. The article “Retaining Employees Below the C-Suite During a Merger” in the December 2023 Debevoise MarketCheck says that merger parties have recently been doing just that given regulatory pressures increasing the gap between signing and closing and the increased risk of attrition. Recent retention programs are also more likely to go beyond one-time transaction awards and layer a variety of retentive devices, but the timing and structure may differ for the C-suite and non-executive employees. Here’s an excerpt:
– Executive-level retention programs may be introduced during the pre-signing phase, while retention programs for non-executive employees tend to be established following the deal announcement. This timing avoids bringing too many employees “over the wall” prior to signing. For buyers, it allows sufficient time to identify critical employees and functions necessary for deal completion and successful post-closing integration and performance.
– The most common structure for non-executive employees remains fixed-amount stay bonuses for remaining employed until a specified date or dates—typically the closing or a defined period after. Retention awards can be paid as a lump sum or in installments on specified dates or milestone events. However, for transactions where antitrust or other regulatory concerns may delay the closing by a year or more, we have seen retention awards structured to pay a portion on the first anniversary of the signing date, with the remainder to be paid on or after the closing date. Retention awards often pay out as well if the employee is involuntarily terminated before the payment date. A clawback obligation may be included in the retention award to deter resignations within a specific period and enhance retention benefits to the buyer beyond the closing.
As a supplement to traditional retention programs, performance-based retention awards tie incentives to individual or company-based metrics. These programs can be designed to retain employees who stay through the transaction with meaningful upside for exceptional individual or company performance, which can help keep employees focused on business performance in a longer pre-close period. These programs require careful consideration of the appropriate metrics, targets, amounts, and timing of payments to ensure the objectives of the program are met.
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.