Even with the recent slowdown in M&A activity, spin-offs have been among the transactions of choice in the past year. With everyone from economic mainstays like ConocoPhillips and Kraft to high-profile new players like TripAdvisor engaging in separation deals in the latest round of deconsolidation, it is an opportune time for dealmakers to consider the general implications of a spin-off on transformational corporate merger activity and certain structures that may allow for a combination of the two.

Corporations engage in spin-offs for a variety of business and financial reasons. A corporation’s goals can be accomplished without U.S. federal income tax to the distributing corporation and its stockholders so long as the transaction meets the requirements of Section 355 of the Internal Revenue Code.

Failure to meet these requirements either before or after the transaction can cause a spin-off to be taxable to the distributing parent company (in the form of corporate- level gain generally equal to the appreciated value of the spun-off subsidiary), to the distributing parent’s stockholders (in the form of dividend income equal to the value of the spun-off business), or both. These taxes can be prohibitively or even catastrophically expensive.

…continue reading: Spin-offs and Reverse Morris Trusts

For buyers of public companies, an obscure but increasingly evident judicial remedy known as “quasi-appraisal” is fast becoming a source of concern. Quasi-appraisal – as its name suggests – is not quite what parties expect from M&A litigation and has the capacity to upset the familiar process accompanying the sale of a public company.

There are three primary types of M&A litigation: Pre-closing disclosure litigation, post-closing loyalty litigation and appraisal. Not every litigation fits neatly into one of these categories, but most do. Pre-closing disclosure litigation often culminates in the plaintiffs, the target company and the buyer agreeing to additional disclosures (and occasionally revisions in the transaction terms) in exchange for a class-wide release and a court-approved award of plaintiffs’ fees. In the absence of a pre-closing disclosure settlement, the second type of litigation may arise which is post-closing, class-action litigation alleging breaches of fiduciary duties (other than disclosure). Most often, such post-closing actions relate to transactions subject to entire fairness review, as, for example, when a controlling stockholder is involved. And finally, in cash-out mergers, stockholders can pursue a post-closing appraisal claim, a remedy that requires each individual stockholder wishing to pursue appraisal to dissent from the merger vote, refrain from accepting the merger consideration, and bear litigation costs. In an appraisal, dissenting stockholders also bear the risk that the court will appraise the stockholder’s shares at a lower value than the merger consideration.

…continue reading: Quasi-Appraisal: The Unexplored Frontier of Stockholder Litigation?

This time last year appeared to hold the promise of increased deal activity, as a series of significant strategic deals were announced in the waning days of 2010 and fundamentals appeared to be aligned. That promise began to manifest itself in the opening months of the year, with several significant deals. As the year wore on, though, deal activity was dampened by several troubling environmental realities: an alarming sovereign debt and bank crisis in Europe, persistent U.S. monetary policy promising sustained low interest rates and a flat yield curve, a weak U.S. housing market and a tricky legal and regulatory landscape.

There were, though, some very bright spots. Leading the way were transformative deals by Comerica, Capital One and PNC. We also witnessed increasingly ambitious efforts by several stronger community banks to intelligently strengthen their franchises through successive smaller acquisitions in strategically important markets. Bank M&A in 2012 will likely remain episodic, as current ongoing business and regulatory conditions and weak equity market valuations will surely take more time to work through. Still, we should see a continued trend of stronger banks making selective, targeted acquisitions focused more on securing their long-term competitive positioning and maintaining balance sheet strength (and less on a short-term boost to quarterly earnings) as well as increasing pressure on smaller banks from several fronts to accept current valuations.

…continue reading: The Outlook for Bank M&A in 2012

A September 2011 Delaware Court of Chancery decision refused to dismiss claims alleging that a board of directors breached its fiduciary duty of loyalty in authorizing a sale of a corporation to a third party. The stockholder plaintiff alleged that the sale was motivated by the corporation’s former chairman and chief executive officer, who owned 37% of the corporation’s common stock and needed liquidity. The decision is significant for refusing to dismiss allegations of disloyal conduct against outside directors who were disinterested in the transaction and otherwise unaffiliated with the former CEO.

Background

New Jersey Carpenters Pension Fund v. infoGROUP, Inc. involved the 2010 sale of infoGROUP, Inc., to a private equity fund. The stockholder-plaintiff alleged that the sale was motivated by the corporation’s former chairman and chief executive officer, who owned 37% of the company and “desperately needed liquidity” to fund a new venture and to satisfy $12 million in settlement obligations stemming from a Securities and Exchange Commission action and a derivative suit brought against him. The plaintiff claimed that the board of directors breached its fiduciary duties by capitulating to the former CEO’s pressure and approving a transaction that was not in the best interests of all shareholders.

…continue reading: Loyalty Claims Against Outside Directors

A recent acquisition approval order of the Board of Governors of the Federal Reserve System (the “FRB”) provides the first analysis of the “financial stability” factor in Section 604(d) of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). This section amended Section 3(c) of the Bank Holding Company Act of 1956 (“BHC Act”) to require the FRB, when evaluating a proposed bank acquisition, merger, or consolidation, to consider “the extent to which [the] proposed acquisition, merger, or consolidation would result in greater or more concentrated risks to the stability of the United States banking or financial system”. Section 604(e) of the Dodd-Frank Act similarly amended Section 4(j)(2) of the BHC Act to require the FRB to consider financial stability concerns when reviewing notices by bank holding companies to engage in nonbanking activities.

On December 23, 2011, the FRB issued an order (the “Order”) explaining its reasons for approving the acquisition of RBC Bank (USA) (“RBC Bank”) by The PNC Financial Services Group, Inc. (“PNC”). (The FRB announced its approval of the transaction on December 19, 2011 but, unusually, the Order was not released until several days later.) The Order constitutes the first articulation by the FRB of how it will analyze proposed transactions under the new financial stability factor. The FRB stated in the Order, however, that it expects to issue a notice of proposed rulemaking implementing this change to Section 3(c) of the BHC Act as well as other provisions of the Dodd-Frank Act that require the FRB to consider the effect on financial stability of other proposals by financial institutions, and that this will afford the public an opportunity to provide comments on how the FRB should take financial stability into account when reviewing applications and notices.

…continue reading: “Financial Stability” Analysis in Bank M&A

In our paper, The Real Effects of Financial Markets: The Impact of Prices on Takeovers, forthcoming in the Journal of Finance, we provide evidence on the real effect of financial markets. Using non-fundamental shocks to market prices — occurring due to non-discretionary trades by mutual funds that face liquidation pressure from investors’ outflows — as an instrumental variable, we show that market prices affect takeover activity. A non-fundamental decrease in the stock price creates a profit opportunity for acquirers, and increases the probability that the firm will be taken over. Using an instrument for price changes is essential for identifying this effect since market prices are endogenous and reflect the likelihood of an upcoming acquisition. This may explain the weak relationship between prices and takeover activity found by prior literature. By modeling the relationship between prices and takeovers as a simultaneous system that accounts for anticipation, and identifying using an instrument, we find a significantly stronger effect of prices on takeovers than previous research.

…continue reading: The Real Effects of Financial Markets

Strategic M&A Continues to Drive Overall Deal Activity

The dollar value of announced M&A transactions involving U.S. targets rose by approximately 12 percent during 2011 compared with 2010, according to Dealogic data. However, the total number of announced transactions remained relatively flat, with activity levels at their highest in the first quarter of 2011 and slowing during the rest of the year amid increasing economic uncertainty and market volatility.

Strategic M&A was the primary driver of overall activity last year, with an increase in larger, billion-dollar-plus transactions compared to 2010. Strategic buyers — in particular, well-established investment grade companies that have substantial amounts of cash on their balance sheets, improving outlooks on future business performance and access to financing on favorable terms — looked to M&A as a way to generate growth faster than could be achieved organically in the current economic environment. Industry sectors that were particularly active in 2011 M&A transactions included pharmaceuticals/health care, energy/oil & gas, telecommunications/ technology, real estate, chemicals and financial services. Given the liquidity available to strategic buyers, we expect cash to continue to be the preferred form of consideration in acquisitions, although equity and mixed consideration will continue to be used in transformative combinations (including mergers of equals), transactions where the buyer faces leverage constraints and those in which the seller is unwilling to give up the opportunity to participate in the potential future upside of the combined company.

…continue reading: Strategic M&A, Spin-Offs, Hostile Transactions and Private Equity

Governance developments in 2011 brought some good news. Shareholder governance proposals were at their lowest level since 2002. Support declined for controversial proposals, such as shareholders’ right to call special meetings or act by written consent, and ISS conceded that its recommendations about written consent proposals should reflect the company’s governance as a whole. Even say-on-pay voting had some worthwhile effects. It gave shareholders the means to express more targeted dissatisfaction, driving a decline in opposition to director incumbents, and it prompted more and better dialogue between many companies and their major shareholders and better disclosure about the business rationale for pay decisions.

But regulators and shareholders remain energized. The SEC brought a record number of enforcement proceedings in 2011, a trend likely to continue, and it and the PCAOB have several important regulatory initiatives underway. For their part, shareholders remain acutely focused on stock performance as the yardstick to evaluate a company’s execution, despite market swings experienced in 2011 that reflected more than anything else fragile economic and political conditions worldwide. The Eurozone crisis and election year politics will keep business prospects extremely challenging and uncertain. In this context, it is critical for boards to frame their deliberative processes in a way that assures the protection of the business judgment rule, while positioning themselves and management to meet expectations of regulators and investors alike. We highlight below some of the issues we believe boards should keep in mind in 2012.

…continue reading: Board Focus 2012: Issues and Developments

Despite a sluggish year-end, overall deal activity in 2011 was strong, continuing the recovery from the post-crisis slump. In addition to strong overall volume (roughly $70 billion of deals), 2011 was impressive for its range of deals, from large-scale public-to-public mergers in the consolidating industrial and healthcare sectors, to major private-to-public acquisitions as private (often over-levered) assets and companies continued to undergo major ownership changes across many sectors, including distressed hotel and retail portfolios that were over-levered in the last cycle. There was even some leveraged opportunistic buying, at enterprise values much reduced from the peak, with credit windows opening for brief periods on a spot basis depending on the deal and buyer involved.

While the uncertainty caused by the European crisis and other economic conditions has created a wait-and-see attitude in many boardrooms, our sense is that things are warming up and that the conditions that generated impressive deal volume in the first half of 2011 will again drive a healthy volume of deals in 2012. Many boards and CEOs who hit “pause” in the last few months have their fingers hovering over the “play” button, ready for action when the time is right on the lineup of deals that have been percolating for some time. The balance sheets of most of the larger REITs remain strong, dry powder is still plentiful, and opportunities continue to arise, especially given the low supply of new development product, strong investor appetite, and the distressed pools possibly coming on line as the first big wave of pre-financial crisis 2007 debt matures in 2012.

We list below some themes and issues we are keeping an eye on as 2012 begins:

…continue reading: REIT and Real Estate M&A and Restructurings

As we enter 2012 and as the U.S. economy continues to stabilize, there appears to be a growing sense of optimism about further recovery in the M&A market. During the first half of 2011, the M&A market continued a resurgence that began in the latter part of 2010, with higher aggregate deal value than had been seen since before the financial crisis. Though worldwide M&A activity declined in the second half of 2011, reflecting uncertainties regarding the volatile global financial climate, it has continued at a relatively strong pace, and a number of significant transactions have recently been announced, including Kinder Morgan’s $38 billion acquisition of El Paso, United Technologies’ $18 billion acquisition of Goodrich, and Gilead’s $11 billion acquisition of Pharmasset.

…continue reading: Mergers and Acquisitions in 2012