M&A lawsuits and so-called “disclosure-only” settlements – where stockholder plaintiffs drop their requests to enjoin a deal and grant defendants broad releases primarily in exchange for supplemental disclosures to stockholders, followed by requests for six-figure attorneys’ fee awards – have proliferated in recent years. In turn, these lawsuits have faced increasing scrutiny from scholars, practitioners, and members of the judiciary, who assert that these ubiquitous settlements rarely yield genuine benefits for stockholders, threaten the loss of potentially valuable claims that have not been sufficiently investigated, and only serve the interests of opportunistic plaintiffs’ counsel and defendants happy to acquire a form of deal insurance through a broad release of class action claims challenging the merger.
The Court of Chancery has taken note. With several highly-publicized rulings during the latter half of 2015, including In re Riverbed Technology, Inc. Stockholders Litigation, C.A. No. 10484-VCG, 2015 WL 5458041 (Del. Ch. Sep. 17, 2015) (Glasscock, V.C.), focusing on the scope of the release granted to defendants relative to the value of the claims being released, the Court signaled its intention to address the multitude of suits filed reflexively in response to almost every merger. A recent opinion by the Court of Chancery, In re Trulia, Inc. Stockholders Litigation, Consl. C.A. No. 10020-CB, 2016 WL 270821 (Del. Ch. Jan. 22, 2016) (Bouchard, C.), has now addressed the problem head on by announcing the Court’s preferred approach for litigating disclosure claims and warning of increased judicial scrutiny for parties seeking to settle M&A litigation through supplemental disclosures to stockholders.
Most people, especially those who have bought or sold a home in the last decade, are familiar with the real estate websites Zillow and Trulia. After the companies announced that Zillow would acquire Trulia by merger in mid-2014, the story followed the typical plot for “deal tax” litigation. Several stockholders hurriedly filed nearly identical claims alleging that Trulia’s directors breached their fiduciary duties with respect to the price and process of the merger, aided and abetted by Zillow. Once the companies filed their preliminary proxy statement, plaintiffs added disclosure claims and moved for expedited proceedings in support of a preliminary injunction. The parties promptly stipulated to expedition. Over the next few weeks, plaintiffs obtained core deal documents from defendants (generally board minutes, board books, and engagement letters with advisors) and took one deposition. Plaintiffs then filed their opening brief supporting their motion for a preliminary injunction, focusing on the alleged disclosure violations. Shortly thereafter, the parties entered into a MOU to settle the litigation for additional disclosures to Trulia’s stockholders. The stockholders eventually voted on and overwhelmingly approved the merger, which closed in early 2015.
By mid-2015, the parties filed a stipulation in support of their settlement, which reiterated the MOU’s terms and contained an extremely broad release. The stipulation also provided that plaintiffs’ counsel intended to seek an award of attorneys’ fees and expenses not to exceed $375,000, which defendants agreed not to oppose. Under Court of Chancery Rule 23, the settlement of this class action required Court approval.
Court of Chancery Reexamines its Historical Predisposition Towards Approving Disclosure Settlements
The Court of Chancery began its opinion by analyzing the problem of disclosure settlements. The Court explained that nearly every public company acquisition spawns a flurry of lawsuits claiming the target’s directors breached their fiduciary duties. While these suits occasionally generate meaningful economic benefits, they too often result in disclosure settlements serving no useful purpose for stockholders. Motivated by six-figure fee awards, plaintiffs leverage the threat of a preliminary injunction, seeking to enjoin the deal. Faced with that threat and the cost and disruption of the litigation, defendants are incentivized to settle quickly and seek broad releases from the usual non-opt out class as a form of deal insurance. Many defendants stipulate to expedition and voluntarily produce core deal documents, obviating the need for plaintiffs to seek expedition from the Court, and thereby avoiding the only judicial screening mechanism to weed out frivolous cases. From there, the most common consideration used to procure a settlement is supplemental disclosures.
Once the parties agree to a disclosure settlement in principle, the litigation shifts to a non-adversarial track. The plaintiffs typically provide the only briefing on the settlement. The Court is then handed the difficult task of ruling on the proposed settlement with no opposing view, after little or no motion practice, and on a minimal discovery record. The Court emphasized that these dynamics – in particular, the Court’s past willingness to approve settlements with broad releases and weak disclosures – have caused deal litigation to explode “beyond the realm of reason.”
The Court next proposed a resolution to the problem. The Court pointed out that the “optimal” means for adjudicating disclosure claims is outside of settlement, so that the Court has the benefit of an adversarial process, where the defendants’ desire to obtain a release does not hang in the balance. The Court then provided two options for adjudicating disclosure claims: first, by a preliminary injunction motion; and, second, by a mootness fee application, where defendants have voluntarily mooted plaintiffs’ claims through supplemental disclosures. In the mootness fee option, the Court noted that the parties also have the opportunity to resolve the fee application privately without obtaining Court approval (subject only to giving notice to other stockholders, whom may police those deals for waste).
If the parties nevertheless choose the “suboptimal” disclosure-only settlement path for adjudicating disclosure claims, the Court warned that practitioners “should expect that the Court will continue to be increasingly vigilant in applying its independent judgment to its case-by-case assessment of the reasonableness of the ‘give’ and ‘get.’” Specifically, practitioners “should expect that disclosure settlements are likely to be met with continued disfavor in the future unless the supplemental disclosures address a plainly material misrepresentation or omission, and the subject matter of the proposed release is narrowly circumscribed to encompass nothing more than disclosure claims and fiduciary duty claims concerning the sale process, if the record shows that such claims have been investigated sufficiently.” The Court explained that the phrase “plainly material” meant that it “should not be a close call that the supplemental information is material as that term is defined under Delaware law.” The Court noted that where the supplemental information is not plainly material, it may appoint an amicus curiae to assist the Court in evaluating the disclosures at the parties’ expense.
Lastly, the Court turned to the supplemental disclosures in Trulia, holding that they were not material (or even helpful) and thus provided no meaningful benefit to Trulia’s stockholders. Therefore, the Court concluded that the disclosures did not provide adequate consideration to warrant a release of defendants, and accordingly, rejected the settlement.
The lesson from the Trulia decision is that parties seeking approval of a disclosure settlement from the Court of Chancery should expect increased scrutiny over the materiality of the supplemental disclosures, the investigation by plaintiffs of non-disclosure claims, and the scope of the release to defendants relative to the value of the claims being released. Although the long-term effect remains to be seen, the Trulia decision may well serve as the final turning point to curtail deal tax litigation in Delaware.