The Harvard Law School Program on Corporate Governance hosted a meeting of the M&A roundtable last Thursday, May 10. The M&A Roundtable, which is supported by the Corporation Service Company, brought together many of the country’s leading M&A experts and practitioners. Participants in the Roundtable engaged in a discussion with Chancellor Leo Strine of the Delaware Court of Chancery (who is also a Senior Fellow of the Program on Corporate Governance) on the state of Delaware corporate law.

Among the issues discussed were confidentiality provisions and their effect on mergers and acquisitions in light of the decision in Martin Marietta Materials v. Vulcan Materials; dual-class share structures and director accountability; go-shop provisions and deal protection devices; process issues in approving mergers and appropriate remedies; the use of poison pills following Airgas v. Air Products; and trends in shareholder litigation, including multiple forum issues and the fragmentation of shareholder litigation. The participants in the M&A Roundtable included:

…continue reading: Harvard M&A Roundtable Meets to Discuss the State of Delaware Corporate Law

Whether or not to acquire a minority or “toehold” stake in a public company as a preliminary step towards a future business combination has been the subject of tactical debate for many years. Proponents argue that a toehold can be used by a potential bidder to convey its serious intent or, if necessary, as a platform to quietly or publicly put the target in play. In addition, the position could advantage a buyer in a subsequent sale process by reducing its average cost (by acquiring shares before a deal premium attaches) or acquiring a meaningful voting position in the target; at the very least, the profit on the toehold that the acquirer can collect if another buyer succeeds with a higher bid may cover, or exceed, the costs the acquirer incurs in pursuing the target. On the flip side, demurrers point out the risk of being perceived as employing strong-arm tactics when a velvet glove approach is more likely to win over the “hearts and minds” of the target. Moreover, many a target board may reflexively react in an unduly defensive manner, for example by enacting a poison pill, complicating an attempt to reach a negotiated outcome at a desirable price.

The debate has recently sharpened with comments from at least one Delaware judge who has taken the view that the failure to acquire a stake before approaching a target conveys a lack of seriousness about making a potential bid and is evidence of being a “stupid acquirer.” A small stake (even as little as 100 shares) in a potential target represents a low-cost option for better positioning the acquirer in the event of litigation if a sale process does not unfold in the way the buyer would like (e.g., the target board refuses to engage with the buyer or agrees to a sale to another buyer). Only by owning a stake will the buyer have “standing” as a shareholder of the target to bring legal claims against the target or its board, a need that may not become apparent until it is too late to rectify.

…continue reading: “Toehold” Stakes in Target Firms

On May 4, 2012, Chancellor Strine of the Delaware Court of Chancery issued an opinion finding that Martin Marietta Materials, Inc. breached two confidentiality agreements with Vulcan Materials Company when it commenced a $5.5 billion hostile bid for Vulcan in December 2011. Despite the absence of an explicit standstill provision in either confidentiality agreement, which were signed by the parties in the spring of 2010 in connection with then-friendly discussions about a possible merger, the Court enjoined Martin Marietta for four months from pursuing its bid for Vulcan. We expect the Court’s decision to influence the negotiation of M&A confidentiality agreements. See Martin Marietta Materials, Inc. v. Vulcan Materials Co., No. 7102-CS (Del. Ch. May 4, 2012).

The Court concluded that Martin Marietta breached the confidentiality agreements by using confidential information in determining whether to launch a hostile bid and disclosing extensive details regarding the confidential merger discussions and other confidential information in its securities filings and other communications. The Court’s opinion highlights a number of considerations that M&A practitioners should bear in mind when drafting and negotiating confidentiality agreements:

…continue reading: Delaware Court Issues Guidance about M&A Confidentiality Agreements

The Commission has authorized that a Study be sent to Congress expressing the views of the Staff on the cross-border scope of the private right of action under Section 10(b) of the Securities Exchange Act of 1934. However, my conscience compels me to write separately to record my views on the Study. I write to convey my strong disappointment that the Study fails to satisfactorily answer the Congressional request, contains no specific recommendations, and does not portray a complete picture of the immense and irreparable investor harm that has resulted, and will continue to result, due to Morrison v. National Australia Bank, Ltd.

In the United States we have a strong belief that, whether rich or poor, we are all entitled to our day in court. Sadly, for many American investors this is no longer true.

If American investors are defrauded by a company that they have invested in – and that company is listed on a foreign exchange – investors may be unable to have their day in court and seek redress against this company for its lies and misrepresentations. Thus, investors have been stripped of a traditional American right.

This was not always the case. For decades, federal courts applied the same standard to determine whether U.S. federal securities law applied to frauds that took place, in whole or in part, outside of the United States. Under that standard, Section 10(b) of the Securities Exchange Act of 1934 (the “Exchange Act”) and other antifraud provisions applied “when there was ‘significant U.S. fraudulent conduct that directly caused the plaintiffs losses’ (the conduct test) or when there were ‘significant effects’ on the U.S. securities markets (the effects test).”

…continue reading: Defrauded Investors Deserve Their Day in Court

On April 5, President Obama signed into law the Jumpstart Our Business Startups Act (the “JOBS Act”), which as we’ve previously noted represents a very significant loosening of restrictions around the IPO process and post-IPO reporting obligations. While most of the commentary on this legislation has thus far focused on its impact on capital markets matters, there are implications for private company mergers and acquisitions as well.

Late-stage private companies contemplating an M&A or IPO exit often undertake so-called “dual-track” processes in which they simultaneously file an IPO registration statement with the SEC and hold discussions with prospective acquirors.  The IPO side of the process effectively becomes a stalking horse for M&A discussions and tends to force the hand of prospective acquirors that might otherwise not move as quickly as the target would like.  The publicly filed registration statement both attracts attention and provides prospective acquirors with a sort of first-stage diligence that theoretically helps encourage bids.

Under the JOBS Act, emerging growth companies or “EGCs” will now have the ability to file their registration statements confidentially, so long as the confidential filings are ultimately released at least 21 days before the road show.  Whether confidential filings will become the norm remains to be seen; there are a number of reasons why an IPO candidate might want to continue to use the traditional public filing process, including the publicity, customer and employee-related benefits of having a highly visible registration statement.  For many companies, however, these benefits will be outweighed by the competitive advantages of keeping early filings confidential.  The optionality that confidential filings create may be hard to resist: A confidential filer can now pull its deal without the stigma associated with withdrawing a publicly filed registration statement.

…continue reading: The JOBS Act: Implications for Private Company Acquisitions and M&A Professionals

Recently, in Global Reinsurance Corp.–U.S. Branch v. Equitas Ltd., the New York Court of Appeals, New York’s highest court, refused to apply the state’s antitrust statute, the Donnelly Act, to allegedly anticompetitive conduct in Great Britain that had only incidental effects in New York.  Reversing a divided decision of the intermediate appellate court, the Court of Appeals reasoned that state antitrust law could not have a broader extraterritorial reach than federal antitrust law; otherwise, statutory and judicial limitations on the federal Sherman Act “would be undone if states remained free to authorize ‘little Sherman Act’ claims that went beyond it.”

This rationale may have significant implications beyond the antitrust arena, as the Court of Appeals more broadly reaffirmed that “[t]he established presumption is, of course, against the extra-territorial operation of New York law.”  For example, the potential impact on securities claims under state common law is particularly notable.  In the wake of the United States Supreme Court’s decision in Morrison v. National Australia Bank, which held that Section 10(b) of the Securities Exchange Act applies only to domestic securities transactions (see our memo here), a number of plaintiffs have attempted to invoke state common law to recover losses on extraterritorial transactions.  One potential obstacle to such state-law suits appeared to have been removed late last year, when the Court of Appeals, in Assured Guaranty (UK) Ltd. v. J.P. Morgan Investment Management, rejected a line of lower-court and federal precedents that had held common-law securities actions preempted by New York’s securities statute, the Martin Act (see our memo here).

…continue reading: Limits on Extraterritorial Reach of State Law

In the paper, Financing-Motivated Acquisitions, which was recently made publicly available on SSRN, we evaluate the extent to which acquisitions lower financial constraints on a sample of 5,187 European acquisitions occurring between 2001 and 2008. Each of these targets remains a subsidiary of its new parent, so we can observe the target’s financial policies following the acquisition. We examine whether these post-acquisition financial policies reflect improved access to capital.

Managers often justify acquisitions with the logic that they can add value to targets by facilitating the target’s ability to invest efficiently. In addition to the operational synergies emphasized by the academic literature, financial synergies potentially come from the ability to use the acquirer’s assets to help finance the target’s investments more efficiently. However, examining this view empirically is difficult, since for most acquisitions, one cannot observe data on target firms on subsequent to being acquired. Because of disclosure requirements in European countries, we are able to construct a sample of European acquisitions containing financial data on target firms both before and after the acquisitions. We use this sample to test the hypothesis that financial synergies are one factor that motivates acquisitions.

…continue reading: Financing-Motivated Acquisitions

In its 2010 decision in Morrison v. National Australia Bank, 130 S. Ct. 2869 (2010), the Supreme Court addressed whether Section 10(b) of the Securities Exchange Act applies to a securities transaction involving foreign investors, foreign issuers and/or securities traded on foreign exchanges. The Morrison decision curtailed the extraterritorial application of the federal securities laws by holding that Section 10(b) applies only to (a) transactions in securities listed on domestic exchanges or (b) domestic transactions in other securities.

In Absolute Activist Value Master Fund Ltd. v. Ficeto, et al., Docket No. 11-0221-cv (2d Cir. Mar. 1, 2012), the Second Circuit addressed for the first time what constitutes a “domestic transaction” in securities not listed on a U.S. exchange. The Court held that, to establish a domestic transaction in securities not listed on a U.S. exchange, plaintiffs must allege facts plausibly showing either that irrevocable liability was incurred or that title was transferred within the United States.

Plaintiffs in Absolute Activist were nine Cayman Island hedge funds (the “Funds”) that had engaged Absolute Capital Management Holdings (“ACM”) to act as their investment manager. Plaintiffs alleged in their complaint that the ACM management defendants engaged in a variation of a pump-and-dump scheme. Specifically, defendants were alleged to have caused the Funds to purchase billions of shares of U.S. penny stocks issued by thinly capitalized U.S. companies – stocks that defendants themselves also owned – and then to have traded those stocks among the Funds in a way that artificially drove up the share value. Defendants thereby were alleged to have profited both from the fees generated through the fraudulent trading activity and the profits they earned when they sold their shares of the penny stocks at a profit to the Funds.

…continue reading: Establishing a “Domestic Transaction” in Securities under Morrison

The recovering, but still uncertain, economy and real estate markets have led to diverging opinions and concerns over the future value of a target’s assets which might otherwise prevent agreement on transaction pricing. As discussed in prior memos, contingent consideration structures have for years been used to bridge differences between buyers and sellers in uncertain times. With the burgeoning trend of increased M&A activity involving smaller banks, it is important to remember that these structures, while requiring careful thought, can be useful in both small and large deals alike to creatively address pricing challenges.

Capital Bank Financial Corp.’s recently announced agreement to acquire Southern Community Financial Corporation is the third transaction in the last 18 months in which that acquiror has utilized a contingent value right, or CVR, as a portion of the consideration. The CVR provides the opportunity for additional value to Southern Community shareholders if the portfolio performance exceeds a designated benchmark, while allowing Capital Bank to limit its exposure if performance should deteriorate. It has a value determined by the performance of Southern Community’s legacy loan and foreclosed asset portfolio at the end of a five-year period. Payments under the CVR may range from zero to $1.30 per share in addition to the primary merger consideration of $2.875 per share. Any payments would only be made at the end of the five-year measurement period. The CVR was structured so as not to require registration with the SEC, avoiding not only the cost of registration but also the ongoing reporting requirements. Consequently, the CVR is not transferable, does not grant any voting or dividend rights, bears no stated rate of interest, and will not be certificated.

…continue reading: Contingent Consideration in Bridging Valuation Gaps

In our paper, Insider Trading in Takeover Targets, forthcoming in the Journal of Corporate Finance, we provide systematic evidence on the level, pattern and prevalence of trading by registered insiders before announcements of takeovers during modern times. We examine insider trading in about 3,700 targets of takeovers announced during 1988-2006 and in a control sample of non-targets, both during an ‘informed’ and a control period. We analyze open-market stock transactions of five groups of corporate insiders: top management, top financial officers, all corporate officers, board members, and large blockholders. We separately examine their purchases, sales and net purchases in target and control firms during the one year period prior to takeover announcement (informed period) and the preceding one year (control) period, using a difference in differences (DID) approach. Using several measures of the level of insider trading, we estimate cross-sectional regressions that control for other determinants of the level of insider trading.

…continue reading: Insider Trading in Takeover Targets