In Strougo v. Hollander, the Delaware Court of Chancery held that a fee-shifting bylaw did not apply to a former stockholder’s challenge to the fairness of a 10,000-to-1 reverse stock split that the corporation undertook in connection with a going-private transaction because (i) the bylaw was adopted after the stockholder’s interest in the corporation ceased to exist due to the reverse stock split and (ii) Delaware law does not authorize a bylaw that regulates the rights or powers of former stockholders. While the proposed 2015 amendments to the Delaware General Corporation Law, if adopted, would themselves invalidate fee-shifting provisions in corporate charters and bylaws, Delaware corporations should consider the implications of this opinion’s holding that former stockholders are not bound by bylaws (or, by implication, charter provisions) adopted after their interests as stockholders cease to exist.
Posts Tagged ‘Delaware cases’
In Halpin v. Riverstone National, Inc., a controlling stockholder caused the company to complete a merger, but did so without exercising drag-along rights that would have compelled the minority stockholders to vote in favor of the merger and thereby waive their statutory rights to judicial appraisal. After receiving notification of the merger, the minority stockholders filed an action for statutory appraisal of their shares, and in response the company sought an order requiring the minority stockholders to vote in favor of the merger so that the company could avail itself of the benefits of the drag-along rights. The Delaware Court of Chancery held that because the company failed to properly exercise its drag-along rights in advance of the merger, the minority stockholders were not required to vote in favor of the merger and thus could pursue their appraisal rights.
Vice Chancellor Laster has been writing for several years about the fiduciary duties of directors who represent the interests of a particular block of stockholders. In his opinion in the Trados Shareholder Litigation he found that directors, elected by the venture capital investors who held Trados’s preferred stock, had a conflict of interest in deciding on a sale of the corporation in which all the proceeds would be absorbed by the liquidation preference of the preferred and nothing would go to the common.  As a result of this finding, Vice Chancellor Laster applied the entire fairness standard of review to the Trados board’s decision. He concluded that while the directors failed to follow a fair process, the transaction was fair because the common stock had no economic value before the sale and so it was fair for the common stock to receive nothing from the sale.  In a recent Business Lawyer article which he co-authored with Delaware practitioner John Mark Zeberkiewicz,  Vice Chancellor Laster extended his Trados conflict of interest analysis to other situations in which directors represent stockholder constituencies with short-term investment horizons, including directors elected by activist stockholders seeking immediate steps to increase the near term stock price of the corporation. He states that such directors can face a conflict of interest between their duties to the corporation and their duties to the activists.
A foundational premise of Delaware jurisprudence has been the courts’ deference to decisions made by independent and disinterested directors. Over the last year, the Delaware courts have continued a trend in their opinions toward increased judicial deference to the decisions of independent and disinterested directors. Thus, for example, the Delaware Supreme Court’s seminal MFW decision provides a roadmap to business judgment review even of controller transactions (which used to be reviewed under an entire fairness standard).
Other than MFW, however, the courts have not changed the fundamental ground rules for review of a sale process. Thus, as in the past:
Delaware has long been known as the corporate capital of the world, and it is now the state of incorporation for 66 percent of the Fortune 500 and more than half of all companies whose securities trade on the NYSE, Nasdaq and other exchanges. Each year, the Delaware courts issue a number of significant opinions demonstrating that the Delaware courts are neither stockholder nor management biased. Many of those recent and important cases are discussed in this post, which is intended to provide sufficient detail so as to be helpful to in-house counsel, but is also written in a way so that the often-long and complex Delaware decisions can be easily understood by directors and other fiduciaries. Takeaway observations are also provided.
In a pair of memorandum opinions written by Vice Chancellor Glasscock and decided on January 5, 2015, the Court of Chancery of the State of Delaware, in In Re Appraisal of Ancestry.com, Inc. and Merion Capital LP v. BMC Software, Inc., found that neither the beneficial owner nor the record owner of shares for which appraisal is sought under Section 262 of the General Corporation Law of the State of Delaware is required to show that the specific shares for which it seeks appraisal have not been voted in favor of the merger in question by previous stockholders. The findings follow the analysis applied in In Re Appraisal of Transkaryotic Therapies, Inc., a 2007 case which preceded an amendment to Section 262(e) later that year permitting beneficial owners to petition for appraisal in their own name. The decisions support the practice known as “appraisal arbitrage”—a practice which has contributed to the more than tripling of incidents of appraisal petition filings in eligible deals over the past 10 years—for investors who buy stock in target companies following the record date for stockholder votes on mergers and highlight public policy considerations concerning the role of Delaware’s appraisal statute in merger transactions.
During the past year, Delaware and New York courts have issued a number of decisions that have important implications for financial advisers, as well as attorneys advising them, on mergers and acquisitions transactions. From the point of view of financial advisers and their legal counsel, the record is mixed. The two decisions by the Delaware Court of Chancery in In re Rural Metro Corp. Stockholders Litigation demonstrate the perils facing M&A financial advisers (especially financial advisers that are large, multifaceted financial institutions) in today’s litigation environment, where virtually all public deals are subject to shareholder litigation.
New York courts, on the other hand, in the case of S.A. de Obras Y Servicios v. The Bank of Nova Scotia, confirmed the protection that can be accorded to financial advisers by a well-crafted engagement letter governed by New York law and litigated in a New York forum. These and other decisions discussed below also provide useful guidance for counsel charged with protecting financial advisers providing M&A advisory services.
In private company acquisitions, it is common for the buyer to require that a portion of the merger consideration be set aside in escrow as an accessible source of funds to cover the buyer’s post-closing indemnification claims relating to breaches of the target company’s representations and warranties and other specified contingencies. However, the buyer might demand additional protection if its losses under such claims exceed the escrow amount by insisting upon collection of the full loss from the target company’s stockholders. If the losses are significant and the indemnification obligations are uncapped or have a sufficiently high cap, this could require the target company’s stockholders to return their full pro rata share of the merger consideration to the buyer.
Although the Delaware courts have previously upheld post-closing purchase price adjustments, a recent decision found common provisions unenforceable in certain circumstances. Cigna Health and Life Insurance Co. v. Audax Health Solutions, Inc., C.A. No. 9405 (Del. Ch. Nov. 26, 2014) (V.C. Noble). In this case, the merger agreement and related Letter of Transmittal (the “LoT”) required the target company’s stockholders (1) to indemnify the buyer, up to their pro rata share of the merger consideration, for the target company’s breaches of its representations and warranties, and (2) to release the buyer and its affiliates from any and all claims relating to the merger. The Court found these common provisions unenforceable under the facts in Cigna; accordingly, this decision has significant implications for other private company acquisitions by merger.
On December 19, 2014, the Supreme Court of Delaware reversed the Delaware Court of Chancery’s November decision (discussed on the Forum here) to preliminarily enjoin for 30 days a vote by C&J Energy Services stockholders on a merger with Nabors Red Lion Limited, to allow time for C&J’s board of directors to explore alternative transactions. The Supreme Court decision clarifies that in a sale-of-control situation, Revlon and its progeny require an effective, but not necessarily active, market check, and there is no “specific route that a board must follow” in fulfilling fiduciary duties.
The decision also reaffirms the type of record that must be made to support a mandatory preliminary injunction, a type of injunction that requires parties to take affirmative actions as opposed to merely maintaining the status quo. The Court found that the Chancery Court “blue penciled” the merger agreement, and in the process stripped Nabors of its contractual rights, by effectively inserting a go-shop provision into the contract where the parties never agreed to one. Moreover, the Chancery Court improperly did so without finding that Nabors aided and abetted a fiduciary duty breach and based its holding only on disputed facts that were not adjudicated following a trial. While the decision does not break new ground, it is significant in better defining directors’ duties when selling control and articulating the limits of a court’s ability to issue mandatory preliminary injunctions.
Recent developments in the once sleepy area of appraisal rights have woken folks up. It seems that deals are subjected to intense scrutiny even in non-Revlon Revlon cases, and then face the mill of appraisal where claim-buying has become virtually enshrined. Below is one suggestion for legislative reform.
Two recent decisions of the Delaware Court of Chancery highlight the troubling expansion of stockholder appraisal rights. Delaware’s appraisal statute prohibits stockholders who vote in favor of a transaction from seeking appraisal for their shares. Notwithstanding this requirement, the Court of Chancery permitted claims to be pursued by a petitioner who purchased its shares after public announcement of the merger for the purpose of bringing an appraisal lawsuit and who was unable to show that the shares for which it sought appraisal had not been voted in favor of the deal. In re Appraisal of Ancestry.com, Inc., C.A. No. 8173-VCG (Del. Ch. Jan. 5, 2015); Merion Capital LP v. BMC Software, Inc., C.A. No. 8900-VCG (Del. Ch. Jan. 5, 2015). (Wachtell Lipton represents the respondent in the Ancestry case.)