On March 14, 2014, the Delaware Supreme Court unanimously affirmed an important Delaware Court of Chancery decision issued in 2013 that offered a roadmap to companies and their directors on how to obtain the protections of the deferential business judgment rule when entering into a change-in-control transaction with a controlling stockholder. As we discussed previously, in In re MFW Shareholders Litigation, then-Chancellor (now Chief Justice) Strine held as a matter of first impression that the deferential business judgment rule – as opposed to the more onerous “entire fairness” – standard of review should apply to a merger with a controlling stockholder where (i) the controller conditions the transaction on the approval of both a Special Committee and a majority of the minority stockholders; (ii) the Special Committee is independent; (iii) the Special Committee is empowered to freely select its own advisors and to say no definitively; (iv) the Special Committee acts with care; (v) the minority vote is informed; and (vi) there is no coercion of the minority.
On January 31, 2014, Chevron Corporation moved to certify to the Delaware Supreme Court the question of whether exclusive forum bylaws are valid under Delaware law. Chevron filed its motion before the Honorable Jon S. Tigar of the Northern District of California. If Judge Tigar certifies the question, it seems likely that the Delaware Supreme Court will affirm a recent Delaware Court of Chancery decision finding such bylaws to be valid under statutory and contractual law, given that the author of that decision, then-Chancellor Leo E. Strine, is now Chief Justice of the Delaware Supreme Court.
In 2013, plaintiffs filed suit in both the Delaware Court of Chancery and the Northern District of California challenging Chevron’s board-adopted forum exclusivity bylaw. The case in the Northern District was stayed pending the outcome of the Delaware case, since both involved questions of Delaware state law. The Delaware plaintiffs argued that the forum exclusivity bylaw was statutorily invalid under Delaware General Corporation Law (DGCL), and contractually invalid because it was adopted unilaterally without shareholder consent. In June 2013, the Delaware Court of Chancery – in a decision by then-Chancellor Strine – found that the bylaw was enforceable, and that the Delaware Court of Chancery should be the sole and exclusive forum for (1)any derivative action brought on behalf of the Corporation, (2) any action asserting a claim of breach of a fiduciary duty, (3) any action asserting a claim arising pursuant to any provision of the DGCL, or (4) any action asserting a claim governed by the internal affairs doctrine. Read More
Executive compensation decisions are core functions of a board of directors and, absent unusual circumstances, are protected by the business judgment rule. As Delaware courts have repeatedly recognized, the size and structure of executive compensation are inherently matters of business judgment, and so, appropriately, directors have broad discretion in their executive compensation decisions. In light of the broad deference given to directors’ executive compensation decisions, courts rarely second-guess those decisions. That is particularly so when the board or committee setting executive compensation retains and relies on the advice of an independent compensation consultant.
Nevertheless, despite the high hurdle to challenging compensation packages, shareholder plaintiffs continue to aggressively challenge executive compensation decisions, in particular at companies that have performed poorly and received negative or low say-on-pay advisory votes. Read More
Recently we discussed whether directors of public companies face potential liability for not preventing cyber attacks. As we discussed, the answer is generally no, because absent allegations to show a director had a “conscious disregard” for her responsibilities, directors do not breach their fiduciary duties by failing to properly manage and oversee the company.
That well-established rule was again affirmed last week by the Delaware Court of Chancery in In re China Automotive Systems Inc. Derivative Litigation, a case that concerned an accounting restatement by a Chinese automotive parts company. Plaintiffs there alleged that the company’s directors breached their fiduciary duties by failing to manage and oversee the company’s accounting practices and the company’s auditors, who improperly accounted for certain convertible notes from 2009 to 2012. When the error was uncovered, the company restated its financials for two years and its stock price dropped by 15%. Read More
Corporations contemplating going private should take note of recent rulings from the Delaware Court of Chancery, which provide clear guidance on how to structure their transactions to reduce the risk of being subjected to the “entire fairness” standard of review.
Several months ago, the Delaware Court of Chancery issued an important MFW decision, in which Chancellor Strine set forth the procedural mechanisms a company can employ so that a going-private transaction with its controlling stockholder can be reviewed under the deferential business judgment rule, as opposed to the more stringent entire fairness standard. In that decision, Chancellor Strine held that the business judgment rule would apply if: (1) the controlling stockholder at the outset conditions the transaction on the approval of both a special committee and a non-waivable vote of a majority of the minority investors; (2) the special committee was independent, (3) fully empowered to negotiate the transaction, or to say no definitively, and to select its own advisors, and (4) satisfied its requisite duty of care; and (5) the stockholders were fully informed and uncoerced.
More recently, in SEPTA v. Volgenau, C.A. No. 6354-VCN (Del. Ch. Aug. 5, 2013), Vice Chancellor Noble provided further clarity on when a sale of a company with a controlling stockholder will be entitled to business judgment rule review. In SEPTA, Vice Chancellor Noble applied the business judgment rule and granted summary judgment to the defendants in case that challenged the acquisition of SRA International by Providence Equity Partners. Like the change-in-control transaction in MFW, the change-in-control transaction in SEPTA was negotiated by a disinterested and independent special committee and approved by a majority of the minority stockholders. Unlike MFW, however, where the controlling stockholder was the buyer in the transaction, SEPTA involved a transaction in which a third party was the buyer, and in which the controlling stockholder agreed to roll over a portion of his shares into the merged entity. Read More
As we previously detailed, a shareholder’s request for corporate books and records can raise competing concerns for the company and its directors. On the one hand, shareholders have a legal right under Section 220 to seek company records, and have been repeatedly encouraged by Delaware courts to exercise that right. On the other hand, because Section 220 requests are often a precursor to litigation – and because even innocuous documents can sometimes be used to bolster an otherwise baseless lawsuit – fiduciaries must ensure their response protects shareholder interests as a whole.
A string of recent Delaware decisions have added a new layer of complexity to these concerns. Going forward, Section 220 requests will likely become more common, and will potentially carry a larger downside for companies that fail to properly respond.
First, Delaware courts are increasingly insistent that shareholders seek corporate records before filing suit. In fact, the Delaware Court of Chancery recently went so far as to hold that if a shareholder fails to seek books and records before filing a derivative complaint, the court can assume that shareholder is unable to “provide adequate representation for the corporation.” That decision was later overturned by the Delaware Supreme Court, but by acknowledging “the trial court’s concerns,” the Supreme Court yet again reiterated its expectation that shareholders should request company records as a matter of first course. Read More
When a board of directors decides to enter the company into a change-of-control transaction, the board is charged with the duty to act reasonably to secure the best value reasonably attainable for its shareholders. As the Delaware Supreme Court put it in its seminal decision in Revlon, Inc. v. MacAndrews & Forbes Holdings, in the change-of-control context, the directors’ role changes “from defenders of the corporate bastion to auctioneers charged with getting the best price for the stockholders at a sale of the company.”
But is an “auction” of the company always necessary to comply with this duty? No – there is no bright-line rule that directors must conduct a pre-agreement market check or shop the company. Delaware courts have repeatedly emphasized that there is no single “blueprint” that a board must follow to fulfill its duties in connection with a change-of-control transaction and, in fact, a board may pursue a single-bidder sales process so long as it has reliable evidence with which to evaluate the fairness of the transaction without an active survey of the market and retains flexibility to consider potential topping bids after the merger agreement is signed.
That is not say that a single-bidder approach will always pass judicial muster, as demonstrated in Koehler v. NetSpend Holdings, Inc., a recent case in which the Delaware Court of Chancery found that NetSpend’s directors acted unreasonably by not engaging in a market check before agreeing to sell the company. The court in NetSpend acknowledged that a single-bidder process is not unreasonable per se, and found that the board’s initial decision to adopt a “not-for-sale” strategy that sought to maximize value by inducing the sole bidder to bid against itself was reasonable. According to the court, however, the board’s approach to the transaction was not reasonable. In support of this finding, the court pointed to a “weak” fairness opinion, as well as acquiescence to potentially preclusive deal protection provisions, including a “No-Shop” clause and “Don’t Ask-Don’t Waive” provisions that precluded NetSpend from waiving any standstill agreement without the buyer’s consent. These factors precluded an effective post-agreement market check to assess the fairness of the deal price. Read More
These days almost every public company that announces an agreement to sell itself can expect to be the subject of multiple shareholder class actions challenging the transaction – even if shareholders will be receiving a blowout price for their shares under the terms of the agreement. Many of these cases are baseless, and are brought by plaintiffs hoping to leverage a quick settlement. Their strategy, in blunt terms, is to force a speedy payment by threatening to disrupt or stall the deal. Unfortunately, even if the litigation presents only a small risk of disrupting or delaying the deal, many companies feel obligated to settle rather than risk upsetting the deal.
It’s bad enough that target companies and their boards are forced to deal with these “worthless” “sue-on-every-deal cases,” as Delaware Vice Chancellor Travis Laster once described them, but they often have to deal with them in multiple jurisdictions. Indeed, rarely are shareholder class actions challenging a merger brought in a single forum. Instead, companies and their boards are forced to expend time and money defending against duplicative lawsuits in multiple fora around the country. Read More
In the past weeks, we’ve reported that while most companies are properly disclosing their exposure to cybersecurity threats, the increasing occurrence and severity of cyber attacks has the SEC considering even more stringent cybersecurity disclosure requirements. Now, another study reports that while 38% of Fortune 500 companies have disclosed that a potential cyber event would “adversely” impact their business, only six percent of those companies purchase cyber security insurance.
What of the other 94%? Should they be doing more to protect themselves against the growing cyber threat? Do their directors have a fiduciary obligation to do more?
In re Caremark International Inc. Derivative Litigation, a Delaware decision from 1996, sets forth a director’s obligations to monitor against threats such as cyber attacks. In short, as long as a director acts in good faith, as long as she exercises proper due care and does not exhibit gross negligence, she cannot be held liable for failing to anticipate or prevent a cyber attack. However, if a plaintiff can show that a director “failed to act in the face of a known duty to act, thereby demonstrating a conscious disregard for [her] responsibilities,” it could give rise to a claim for breach of fiduciary duty. Read More
We previously discussed how important a special negotiating committee of independent directors can be when defending against stockholder challenges to change-of-control transactions – particularly for going private transactions with controlling stockholders, which usually require boards to be able to prove the “entire fairness” of the transaction. This week, in an important decision that may reach the Delaware Supreme Court, In re MFW Shareholders Litigation, the Delaware Court of Chancery again affirmed the importance of special committees in those circumstances, and offered a road map to companies and controlling stockholders on how to structure going private transactions.
Nearly two decades ago, in Kahn v. Lynch, the Delaware Supreme Court held that where (1) a special committee of independent directors or (2) a majority of the non-controlling stockholders approves a merger with a controlling stockholder, it shifts the burden of proving the entire fairness of the transaction from the defendants to the stockholder challenging the transaction. Last year, in Americas Mining Corp. v. Theriault, the Delaware Supreme Court reiterated that the use of a properly functioning special committee of independent directors is an integral part of the best practices that are used to establish the entire fairness of a merger with a controlling stockholder. Read More