When there’s a big slump in public company valuations, a surge in going private deals is almost sure to follow – particularly when private equity is sitting on a whole bunch of dry powder. A recent Institutional Investorarticle says the 2022 stock market slump is no exception:
As companies continue to trade at discount prices, more private equity firms are eyeing opportunities in the public markets. The value of take-private deals announced or closed by buyout funds was $96 billion in the first half of 2022, according to a report from Preqin. Last year, the total value of such deals led by private equity firms reached a record of $118 billion, and according to the report, that figure will soon be surpassed by this year’s number.
Notable public-to-private deals in the first half of 2022 include Blackstone’s $7.6 billion acquisition of the real estate investment trust PS Business Parks; Apollo’s $7.1 billion acquisition of the automotive manufacturer Tenneco; and Clayton Dubilier & Rice’s $4 billion acquisition of animal health services company Covetrus. TPG also announced in June that it would acquire the healthcare technology company Convey Health Solutions for $1.1 billion.
If you’ve got a client considering going private, be sure to check out this Harvard Governance Forum blog on things for boards to consider before making that decision that was posted over the weekend. The boom in take privates is a bright spot in a down year for dealmaking. According to a recent WSJ article, the dollar value of deals during the first half of 2022 was the lowest in five years (excluding pandemic-impacted 2020) and represented a nearly 40% drop from the same period in 2021.
Gibson Dunn recently published its 2021 Activism Update, which has all sorts of information on 2021 activist campaigns and settlement terms. This excerpt from the report’s introduction addresses the rationales put forward for activist campaigns and common settlement terms:
Notwithstanding the increase in activism levels, the rationales for activist campaigns during 2021 were generally consistent with those undertaken in 2020. Over both periods, board composition and business strategy represented leading rationales animating shareholder activism campaigns, representing 58% of rationales in 2021 and 51% of rationales in 2020. M&A (which includes advocacy for or against spin-offs, acquisitions and sales) remained important as well; the frequency with which M&A animated activist campaigns was 19% in both 2021 and 2020. At the opposite end of the spectrum, management changes, return of capital and control remained the most infrequently cited rationales for activist campaigns, as was also the case in 2020. (Note that the above-referenced percentages total over 100%, as certain activist campaigns had multiple rationales.)
Seventeen settlement agreements pertaining to shareholder activism activity were filed during 2021, which is consistent with pre-pandemic levels of similar activity (22 agreements filed in 2019 and 30 agreements filed in 2018, as compared to eight agreements filed in 2020). Those settlement agreements that were filed had many of the same features noted in prior reviews, including voting agreements and standstill periods as well as non-disparagement covenants and minimum- and/or maximum-share ownership covenants. Expense reimbursement provisions were included in half of those agreements reviewed, which is consistent with historical trends.
The report summarizes information on each of the 76 public activist campaigns conducted in 2021, together with the trends and key terms of the settlement agreements entered into during the year.
CFIUS recently released its latest Annual Report to Congress. The report covers calendar year 2021, which was the first full year during which FIRRMA was fully implemented. That statute significantly expanded CFIUS’s jurisdiction and resources, and this WilmerHale memo says that the report indicates that CFIUS wasn’t shy about flexing its newly acquired muscles:
The results of these changes are apparent in CFIUS’ 2021 Annual Report, which shows explosive growth in CFIUS reviews. During 2021, CFIUS reviewed 164 declarations and 272 JVNs, the largest number of transactions ever analyzed and amounting to year-over-year jumps of 30% and 45%, respectively.
Of those 272 notices, 130 (or 48%) led to an “investigation phase,” and 74 (27%) were withdrawn during the review or investigations phase. Of the 74 withdrawn notices, the parties in 63 instances filed a new notice, either in 2021 or in 2022. In nine of these instances, the parties withdrew the notice and abandoned the transactions either after CFIUS informed the parties that it was unable to identify mitigation measures that would resolve its national security concerns, or after the parties declined to accept CFIUS’ proposed mitigation measures. In two of these instances, the parties withdrew their notice and abandoned the transaction for commercial reasons.
CFIUS required mitigation measures to resolve national security concerns about 10% of the time (in 26 of 272 notices). CFIUS adopted mitigation measures to address residual national security concerns with respect to two notices that were voluntarily withdrawn and abandoned. There were no presidential actions taken on transactions in 2021.
CFIUS has the authority and the staff to review and investigate transactions that were not notified to the Committee and to require filings. In 2021, the Committee considered 135 transactions identified through the non-notified process and requested a filing in eight of them.
The memo says that investors from Britain, Canada, China and Japan were among the most common recent filers. Canadian investors filed 14% of 2021’s declarations, while Japanese and British investors accounted for 11% and 9% of declarations, respectively. Chinese investors filed the most joint voluntary notices (16%), while investors from Canada and Japan each accounted for approximately 10% of joint voluntary notice filings.
I recently blogged about an 11th Circuit decision holding that a private equity firm can’t conspire with its portfolio company under the Sherman Act. It turns out that’s not exactly a get out of jail free card from Sherman Act liability. This Mintz memo reviews a recent decision in which a federal court refused to dismiss claims against PE firms under Section 1 & Section 2 of the Sherman Act that arose out of the conduct of their portfolio company.
As this excerpt explains, while the entities weren’t regarded as co-conspirators, they could face liability under the statute based on their status as a single enterprise:
The district court agreed with PE defendants that Charlesbank and Bain are not separate actors from Varsity capable of conspiring under the Sherman Act. However, the district court found that plaintiffs could still pursue their claim based on their allegations that Varsity (considered as one enterprise with the PE defendants) and USASF engage in an unreasonable restraint of trade and conspired together. Hence, the court kept the PE defendants in the Section 1 claim.
On the Section 2 monopolization claim, the district court held that plaintiffs need only allege anticompetitive conduct by a single actor. Thus, by alleging Varsity’s exclusionary scheme, plaintiffs sufficiently alleged a claim in which PE defendants could be viewed as a shared enterprise with Varsity.
In order to establish the existence of a proper purpose for a books & records demand under Section 220 of the DGCL, a stockholder must demonstrate a “credible basis” from which the Chancery Court may infer there is possible mismanagement that would warrant further investigation. Last month, in NVIDIA v. City of Westland Police & Fire Retirement System, (Del.; 7/22), the Delaware Supreme Court held that “reliable hearsay” evidence may support the Chancery Court’s conclusion that such a credible basis for investigation exists. This excerpt from Francis Pileggi’s blog on the decision summarizes the key takeaway from the case:
Prior to this decision, it was not well-settled whether a stockholder could satisfy the “proper purpose” requirement under DGCL Section 220 with hearsay–instead of live testimony, for example. The Delaware Supreme Court ruled that: “The Court of Chancery did not err in holding that sufficiently reliably hearsay may be used to show proper purpose in a Section 220 litigation, but did err in allowing the stockholders in this case to rely on hearsay evidence because the stockholders’ actions deprived NVIDIA of the opportunity to test the stockholders’ stated purpose.”
The Supreme Court’s problem with the Chancery Court’s decision concerning the use of hearsay in this case was based on the stockholders’ refusal to provide testimony relating to their allegations. The Court said that If stockholders are going to use reliable hearsay to establish a proper purpose, they “must communicate honestly and early with companies regarding their intent so as to allow companies to decide whether to depose the stockholders or to identify their own witnesses for trial.”
Justice Traynor issued an opinion concurring in the Court’s conclusion that the Chancery erred in allowing the stockholders to rely exclusively on hearsay in their books & records demand, but expressed “serious misgivings” about the majority’s statement that “hearsay is admissible in a Section 220 proceeding when that hearsay is sufficiently reliable.”
The July-August Issue of the Deal Lawyers print newsletter was just posted and sent to the printer. This month’s issue includes the following articles:
– Universal Proxy: What Companies Need to Know in ‘Year Zero’
– How Continuous Voting with UPC Will Change Proxy Contests
– The Deal Closed – Now What? Practical Considerations of Sponsors and Management Teams of Newly Acquired Private Equity Portfolio Companies
If you don’t subscribe to Deal Lawyers, please email us at sales@ccrcorp.com or call us at 800-737-1271. We devote a lot of attention in the latest issue to the SEC’s universal proxy rules – which will apply to all shareholder meetings held after August 31st. The universal proxy rules fundamentally alter the landscape of proxy contests and shareholder activism, but universal proxy is just one snowball in the avalanche of rulemaking that may be forthcoming from the SEC in the next few months alone.
In this rapid-fire rulemaking environment, you can’t afford to miss our upcoming 2022 Proxy Disclosure & 19th Annual Executive Compensation Conferences and our 1st Annual Practical ESG Conference! Click here for more information on our all-star panelists and details on how to register!
As part of the 2022 DGCL amendments, important changes were made to Section 262, which governs appraisal rights. A recent Hunton Andrews Kurth memo says that companies need to appropriately address those changes in merger agreements entered into on or after August 1st. Here’s an excerpt:
The amendments implement broad changes to the appraisal provisions in Section 262. Three important and substantive changes are: (1) allowing beneficial owners to exercise appraisal rights directly in their own names instead of through the record owner (e.g., a broker or DTC), subject to specified procedures and requirements, (2) establishing appraisal rights for stockholders in a Delaware corporation in connection with the conversion of such entity to a foreign corporation or to any other entity (except if the market-out exception contained in Section 262(b) applies), and (3) eliminating appraisal rights in a merger, consolidation or conversion authorized by a plan of domestication under Section 388.
For any merger agreements entered into on or after August 1, 2022, notices of appraisal rights will be required to reference the amended version of Section 262. These amendments also permit the corporation to include a reference to a publicly available electronic resource for information on Section 262 appraisal rights, including the website maintained on behalf of the State of Delaware on which those statutes are posted, instead of having to include a copy of the applicable appraisal statute in the appraisal rights notice.
Private company valuations have taken a pounding this year, so it’s no surprise that we’re hearing a lot more talk about “down round” financings than we’ve heard in recent years. In case you need to broach this topic with a client, you may find this Foley blog helpful. It provides an overview of down rounds, their implications and potential alternatives. Here’s an excerpt from the discussion of the implications of a down round:
Down rounds can have a negative perception. They can lead to greater dilution, loss of confidence in the company, as well as lower employee morale. But for some companies, a down round may be the only way to survive, and with current conditions, the need for funding might outweigh these negative factors.
In any investment round, the founders and previous investors are going to see dilution and a reduction in their ownership percentage. As new investors come on board, their piece of the pie is reduced. The difference is that in an up round, that dilution is combatted a bit by the higher stock price of the new shares. In a down round, that does not happen and the impact of the dilution for founders and previous investors is greater.
A down round can also trigger anti-dilution protections for investors. These protections are built in for investors as they have a different category of stock than the founders and company employees. If anti-dilution protections are triggered in a down round, their stock would be diluted less than that of the founders or employees.
There are two different anti-dilution protections that can be used in a down round.
Weighted Average Adjustment: This is the more commonly used protection. In this case, the adjustment is based on the size and price of the down round in comparison to the previous round.
Full Ratchet Adjustment: This option provides greater protection for existing investors as it essentially adjusts the price of investors’ prior rounds to the lower pricing. This means that the founders and employees’ stock would take the brunt of the dilution resulting from the down round.
The blog also has an interesting discussion of possible alternatives to a down round, including other sources of financing and the possibility sweetening the economics of the deal to investors in ways other than reducing the baseline price of the securities.
U.S. private company deals typically have some sort of post-closing purchase price adjustment mechanism. In the U.K. and Asia, a “locked-box” approach is more common. This Cooley blog discusses how locked-box provisions work and some of the issues associated with them. This excerpt provides an overview:
The parties agree on a fixed price by referencing a set of agreed historical accounts – this is typically the last set of audited financial statements, but sometimes they’re unaudited management accounts or a set of accounts prepared specifically for these purposes –referred to as “locked-box accounts.” The locked-box accounts fix the equity price in respect of the cash, debt and working capital actually present in the target business at the date of the locked-box accounts, and determine the equity price that is written into the sale and purchase agreement (SPA).
From the date of the locked-box accounts, known as the “locked-box date,” the target company is essentially considered to be run for the benefit of the buyer – at least from a financial risk point of view – and no value, or “leakage,” is allowed to leave the business for the benefit of the seller. The box is therefore “locked.” Provided the box stays locked (more on this below), the SPA would not include any adjustment to the purchase price, and there would be no post-closing true-up. This is a key feature of the “locked-box” mechanism: The financial risk and benefit in the target pass to the buyer at the locked-box date.
The blog goes on to discuss the indemnity arrangements typically used to address any impermissible leakage that does occur and some of the arrangements that may be established to compensate the seller for running the business between signing and closing. The blog also addresses when a locked-box arrangement might make sense, as well as its advantages and disadvantages.
On July 27, 2022, Delaware Gov. John Carney signed into law this year’s amendments to the DGCL, which became effective yesterday. This Saul Ewing memo highlights the most notable aspect of the 2022 amendments:
The most significant change to the DGCL is the extension of Section 102(b)(7)’s exculpation of personal liability to corporate officers. Previously, Section 102(b)(7) authorized the exculpation of personal liability for corporate directors only. This discrepancy between director and officer liability often created issues in litigation involving individuals serving as both corporate directors and officers. In such instances, an individual could be exempt from liability in his or her director capacity yet still liable in his or her capacity as an officer.
The newly revised Section 102(b)(7) remedies this discrepancy by authorizing corporations to adopt exculpatory provisions in their certificates of incorporation that limit or eliminate the personal liability of officers, as well as directors. As with director liability, corporations may only limit an officer’s liability for breaches of the duty of care. Specifically, officers may only be exempted from claims for breach of duty of care brought directly by stockholders. Officers remain liable for breach of fiduciary duty claims brought directly by the corporation or derivatively by stockholders, as well as for breaches of the duty of loyalty and for intentional acts or omissions.
Exculpation of liability under Section 102(b)(7) is available only for senior officers authorized to receive service of process under Delaware law. These officers include the president, CEO, CFO, COO, chief legal officer, controller, treasurer, chief accounting officer, and others named as executives in SEC filings.
Officer liability is a topic we’ve addressed quite frequently over the past few years, and the ability of companies to include exculpatory language in their charter documents akin to the language that protects directors provides an opportunity to help even the playing field – at least hypothetically. The idea of exculpating senior corporate officers from liability to stockholders is controversial, so it remains to be seen how many companies will opt to ask stockholders to approve these exculpatory charter amendments.