A recent case involved, in Chancellor Strine's words, "two rock stars in the aggregate industry": Martin Marietta Materials, Inc and Vulcan Materials Company.(1) The parties had engaged in friendly merger discussions at Vulcan's urging, with Martin Marietta the reluctant target. Martin Marietta was reluctant because its two chief executive officers during the relevant time period - first Zelnack and later Nye - were worried about being put in play, in Nye's words, "whether by Vulcan or otherwise" at a time and on terms which had not been chosen by Martin Marietta's board.
Martin Marietta's general counsel, understanding her chief executive Nye's worry about being put in play, was asked to send out a non-disclosure agreement to cover discussions of a possible merger with Vulcan. She made a number of changes to a type of non-disclosure agreement previously used by the parties for an asset swap before sending the draft agreement to Vulcan to start the discussions. All of these changes "had the effect of making the non-disclosure agreement stronger in the sense of broadening the information subject to its restrictions and limiting the permissible uses and disclosures of the covered information".
Changes proposed by Martin Marietta to the previously used non-disclosure agreement included:
- a change in the definition of 'transaction' from "a possible transaction involving [Martin Marietta] and Vulcan" to one 'between' the companies – a word that Strine noted is "more easily read than 'involving' to require joint agreement of the two parties themselves";
- broadening the requirement to keep confidential the fact that the parties were discussing a transaction, from the initial prohibition that discussions "are taking place" to include the fact that discussions "have [been] taking place", thus "preventing disclosure...in the event that discussions terminated without any agreed-upon transaction" and, further, suggesting that the parties agreement to enter into the non-disclosure agreement itself be confidential;
- providing that a paragraph in the non-disclosure agreement prohibiting disclosure of the fact that "any evaluation material has been made available hereunder, that discussions or negotiations have or are taking place concerning a transaction or any of the terms, conditions or other facts with respect thereto (referred to as transaction information)" except as "legally required" would be subject to another paragraph, which defined 'legally required' as responses to external demands for the information, and set forth the required procedures in the event of such an external demand for disclosure of information by a third party ( termed the "notice and vetting process" by the chancellor); and
- entering into a joint-development agreement covering discussions relating to antitrust issues, and defining a 'transaction' as "a potential transaction being discussed by Vulcan and Martin Marietta...involving the combination or acquisition of all or certain of their assets or stock". This definition was not identical to that used in the non-disclosure agreement. Confidential materials were only to be used in aid of the transaction as defined.
The parties never discussed a standstill which would have explicitly prohibited them from making an unsolicited tender offer or launching a proxy contest. The talks proceeded in 2010 under the working assumption that Vulcan would be the acquirer. However, Vulcan's stock price was adversely affected by, among other things, its concentration in markets affected by the burst housing bubble, resulting in a share of Vulcan declining against a share of Martin Marietta. Vulcan then cooled to the merger, given the dilution that would result from a stock deal at the then-current trading prices. However, in April 2011, Martin Marietta began contemplating an acquisition of Vulcan using Martin Marietta's own strengthening stock as currency. Vulcan's chief executive told Nye in June 2011 that he was no longer interested in a transaction. Martin Marietta sent a public bear hug on December 12 2011, filed a Securities and Exchange Commission (SEC) Form S-4 for an exchange offer and, in January, launched a proxy contest. The SEC documents discussed the history of Martin Marietta's negotiations with Vulcan at length, in what Strine described as a "detailed, argumentative S-4". Martin Marietta also disclosed evaluation material in investor calls and presentations.
Although Martin Marietta made arguments to the contrary, Strine concluded that Martin Marietta made use of both the synergies information delivered under the non-disclosure agreement and the antitrust information delivered under the joint development agreement in formulating a hostile bid for Vulcan. Strine further concluded that Martin Marietta disclosed evaluation information and transaction (ie, the deal) information in the exchange offer and proxy contest and proceeded to evaluate whether these uses were a breach of the two agreements.
The violations alleged by Vulcan were as follows:
- Martin Marietta could not use evaluation material in support of a hostile acquisition of Vulcan because the agreement limited the use only for a business combination transaction 'between' the two companies, and that did not include a hostile, non-negotiated transaction;
- Even if Martin Marietta had the right to use the evaluation material to evaluate a hostile bid, it was not permitted to disclose the information or the fact of the parties' merger negotiations; the exception for 'legally required' disclosure did not apply to legal requirements generated by Martin Marietta's voluntary actions – such as filing the exchange offer – but applied only if there was a third-party request and only after following the notice and vetting process;
- Even if Martin Marietta was legally required to disclose information, the disclosure made went far beyond any legal requirements; and
- The disclosure in investor calls and other investor communications was not in any case legally required.
After lengthy analysis of both the language of the contract (which Strine concluded could reasonably support either side's position) and extrinsic evidence of the parties' actions (which Strine concluded supported Vulcan's position that the contract provisions had been breached), Strine ultimately held that Martin Marietta had violated both the terms of the non-disclosure agreement and the joint-development agreement in each of the ways noted above. Accordingly, he granted an injunction against moving forward either with the exchange offer or the proxy contest for at least four months (the minimum duration of the breach), which would be from the launch of the exchange offer through to the expiration of the non-disclosure agreement . This remedy prevented Martin Marietta from presenting its slate of directors at its June 1 2012 annual meeting.
Lessons for practitioners
In considering the facts and holdings of this case, practitioners can derive several key lessons.
Words in contracts matter, as do negotiations and parties' behaviour relating to the subject matter of the contract
The case analysed in extraordinary detail the words chosen by Martin Marietta for the new confidentiality agreement served up for the potential merger discussions. As an example, the fact that the parties inserted 'between' instead of 'involving' was deemed meaningful as a sign of a desire to limit the use to consensual combinations. Similarly, Strine analysed whether the term 'business combination transaction' itself signalled that the use of the confidential information in connection with a hostile bid was intended to be prohibited. The close textual reading of the agreement by Strine reinforced the valuable work that lawyers do in choosing the particular words to limit or expand a contractual provision. However, when the chancellor concluded that two possible interpretations of the intent behind the express words were reasonable, he turned to extrinsic evidence – the parties' actions; actions by Martin Marietta demonstrated an intent to limit the use and expand the application of the confidentiality agreement. Any good lawyer would rather words than the parties' behaviour control the outcome, scripted or not. Some of the core principles that a party to a confidentiality agreement will want to clarify in order to avoid this risky result where behaviour controls outcome are discussed below.
A form of confidentiality agreement used in a prior unrelated transaction may not be the best starting point for an agreement in a major transaction
The parties had previously concluded an asset-swap deal and the general counsel just marked up the old agreement. Given the large amount of ink spilled by the court in analysing the interpretive questions raised by the resulting non-disclosure agreement , and the fact that the language of the agreement was viewed as potentially ambiguous with two possible readings on every interpretive issue raised by the plaintiff, it might have made more sense to start with a non-disclosure agreement designed for the sale of the entire company. A good non-disclosure agreement would have inserted 'negotiated' in front of 'transaction' in the use restriction paragraph – which, although counter to Martin Marietta's ultimate desire, was exactly what appeared to be its intent at the time that the non-disclosure agreement was being prepared. It should also have made crystal clear that the term 'legally required' was intended to mean only response to external demands for information through subpoena or court discovery.
Clients are generally advised to start with a good form of an M&A non-disclosure agreement in an important transaction and to not just mark up the last deal's non-disclosure agreement. These agreements should be reviewed with an eye to the parties' overall goals – not just getting a few quick changes in from the last deal. The value of a well-drafted non-disclosure agreement can be seen in the recent Delaware Supreme Court decision, RAA Management LLC v Savage Sports Holdings Inc.(2)
There are many resources available to the draftsperson working on a confidentiality agreement
In particular, Strine noted the American Bar Association Model Confidentiality Agreement (2011) published by its M&A committee.
A common issue in confidentiality agreements is the standard under which otherwise prohibited disclosures are permitted as being 'legally required'
Some agreements provide that only disclosure required by 'external demands' (eg, a government subpoena or discovery) would be 'legally required', and only after vetting the external demand with the disclosing party. Other agreements define 'legally required' to include generally applicable legal requirements, such as federal securities law or listing requirements. The agreement between Vulcan and Martin Marietta, like many other confidentiality agreements, was less clear about the standard for 'legally required' that applied to the deal information (the fact that a deal was under discussion) than it was about the definition of 'legally required' that applied to the evaluation material (the information disclosed in the diligence process, such as customer lists and contracts).
However, parties are able to clarify which standard of legal compulsion will permit disclosure, and the resources cited by Strine provide a variety of techniques to clarify which standard applied. This case asserts that leaving the term 'legally required' undefined introduces ambiguity, and may allow a contracting party to take an action voluntarily that subjects it to a legal requirement to disclose under the federal securities laws, at least the deal information. This could be quite an unpleasant surprise for a client which has not recognised such an ambiguity. Alternatively, as Strine noted, "restricting the scope of legally required disclosures to those that arise in the context of some sort of discovery obligation or affirmative legal process may have the effect of creating a backdoor standstill provision".
If a party wants to limit the ability of a counterparty to launch a hostile tender offer, it is better not to rely on subtleties like the difference between 'between' and 'involving', the use of the term 'business combination transaction' or the definition of 'legally required'
At a minimum, parties should use the word 'negotiated' to describe the use limitation (eg, defining a 'transaction' as a 'possible negotiated transaction'). However, if it is a key goal of at least one of the parties to eliminate the right of a counterparty to use the information to launch a hostile bid against the counterparty, the traditional way to effect that goal is through a well-drafted standstill.
A standstill is a direct prohibition of such activity as an unsolicited tender offer or a proxy contest. It is not ambiguous
If a standstill is offered by one side, the counterparty has an opportunity to negotiate for meaningful exceptions or 'lapse' provisions. Although some practitioners will choose to rely on the use limitation for 'negotiated' transactions – in some cases because they do not want to risk delaying the start of the deal at hand with preliminary and sometimes frustrating negotiations over a standstill – the facts in this case are evidence that parties change their minds as to whose ox is gored by a provision, and the meaning of 'provisions' – short of a standstill – are up for interpretation. Publicly traded targets should seriously consider including a well-drafted standstill provision in the non-disclosure agreement to avoid the type of questions raised in this case.
Martin Marietta might have improved its legal position by imposing a 'clean team' to pursue the hostile tender offer, although it would have had to deal with the taint from the knowledge gained by chief executive Nye and the chief financial officer in the diligence process. If a company is in the position of analysing how to avoid breaching confidentiality agreement provisions due to exposure to confidential information, it should consider the use of individuals without such exposure. A company thinking about a hostile transaction would also be well advised to be judicious as to what confidential information of the other party it chooses to review, and to consider separating the diligence team from senior management, which might be involved in a decision about a hostile transaction.
Martin Marietta might have also improved its position by limiting the disclosure of the evaluation material in the SEC filings for the transaction. The court was clearly troubled by the expansive and argumentative use of the evaluation material in the S-4 and investor disclosures, compared to a much more limited disclosure of the limited facts absolutely required by the disclosure rules. The chancellor noted that, "Martin Marietta disclosed far more than was legally required, in a plain attempt to cast Vulcan in a bad light through a debatable and selective disclosure of transaction information and evaluation material."
The moral of this story is that if a company risks a breach, flaunting the breach is not the way to get the court on its side.
The Delaware courts believe in parties' ability to contract and will enforce those contracts. These contracts should be thoughtfully negotiated given the courts' penchant to enforce them as drafted.
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