The volume of Court of Chancery decisions has been proceeding apace. We have culled out two that we believe are worthy of your attention:
Cigna Health & Life Ins. Co. v. Audax Health Solutions, 2014 WL 6784491
This is a “must read” for all M&A and Private Equity practitioners and professionals, given the use of certain of the deal devices found to be invalid in the specific circumstances of this case.
Cigna, a large stockholder of Audax, the acquired company, sued to invalidate certain conditions of an arm’s length negotiated cash-out merger of Audax into United. Essentially, the defendant merging corporations conditioned receipt of the merger consideration not only upon surrender of the (to-be-cancelled) shares, but also upon the execution of a Letter of Transmittal, wherein each surrendering stockholder agreed to the “Obligations” set forth therein. Cigna refused to execute a Letter of Transmittal, and in response the defendants refused to pay Cigna the merger consideration. Cigna sued in the Court of Chancery for a judgment declaring the Obligations invalid and mandating payment of the merger consideration to Cigna. The Court of Chancery (V.C. Parsons) held the obligations invalid under 8 Del. C. §251 and (relatedly) for lack of consideration.
Specifically, the court invalidated two Obligations: the “Release Obligation” and the “Indemnification Obligation.” What follows is a description of the two Obligations1 and the court’s invalidation rulings.
The Release Obligation
One of the Obligations to which the Audax stockholders had to agree, in order to receive the merger consideration for their surrendered shares, was to sign a global release of any claims against the acquirer and its affiliates relating in any way to the merger. Notably, the Release Obligation was not included in the Merger Agreement—its only appearance was in the Letter of Transmittal. Thus, the stockholder vote approving the merger did not encompass the Release Obligation.
The court held that the Release Obligation was void for lack of consideration, reasoning as follows: the Merger Agreement conditioned payment of the merger consideration only upon the surrender and cancellation of shares, not upon any release, let alone the “sweeping release” called for in the Letter of Transmittal. Therefore, the Release Obligation was a new obligation that the defendants sought to impose on the stockholders post-closing. Cigna had already become entitled to the merger consideration when the merger was consummated and its shares were canceled. Because nothing new was being provided to Cigna above and beyond the merger consideration, the court held that there was no consideration for the Release Obligation.
The Indemnification Obligation
This Obligation required the stockholders to agree to indemnify the defendant acquirer for any breaches of representations and warranties made by the acquired corporation under the Merger Agreement. The Indemnification Obligation, unlike the Release Obligation, was included in the Merger Agreement. Nonetheless, the court held that the Indemnification Obligation was invalid because it violated 8 Del. C. § 251(b) which, as interpreted by Delaware case law, requires that the merger consideration be firm and determinable, i.e., either firmly stated in the Merger Agreement or readily determinable from facts outside the Agreement. That requirement was not met in this case, because certain provisions of the Indemnification Obligation would continue indefinitely, and under its terms, the stockholders might possibly be required to repay some or even all of the merger consideration to the acquirer. The court held that uncertainty of the magnitude and the duration of these requirements made it impossible for stockholders to know how much (if any) of the merger consideration they would receive.2
Particularly noteworthy to M&A practitioners and professionals should be the disclaimer at the end of the court’s opinion, which sets forth the limits of its holding. Specifically, the court admonished, the opinion does not concern escrow agreements or rule on the validity of post-closing price adjustments requiring direct repayment from shareholders, or whether a price adjustment that potentially covers all the merger consideration may be permissible if the obligation is time-limited, or whether an indefinite adjustment of some portion of the merger consideration would be valid. Vice Chancellor Parsons stated, “I hold only that the combination of the factors present in this case—indefinite length and the contingent nature of the entirety of the consideration—renders the value of the merger consideration unknowable and, therefore, violates Section 251.”
In re Appraisal of Dole Food Company, Inc., Consol C.A. No. 9079—VCL (Del. Ch. Dec. 9, 2014), ___WL___.
This case suggests a useful strategy for litigators who are defending Delaware appraisal actions brought solely for arbitrage purposes by institutional investors. Thought should be given to whether it may be useful in other kinds of litigated valuation disputes as well.
Two hedge funds bought sizeable chunks of Dole Foods stock, for appraisal arbitrage purposes, after the announcement of (and after the record date to vote on) the cash-out merger of Dole. The hedge funds then filed an appraisal action. The defendant company sought discovery of any and all valuations or similar analyses of Dole that either hedge fund had prepared, reviewed or considered when buying or selling Dole stock or seeking appraisal, and noticed Rule 30(b)(6) depositions of both appraisal petitioners. The plaintiffs objected on numerous grounds, but primarily on the basis that the information being sought would not lead to the discovery of admissible evidence, specifically, because the information amounted to opinion by lay persons, which would be inadmissible at trial because the determination of “fair value” in an appraisal proceeding is matter only qualified valuation experts can testify about.
In a noteworthy opinion, Vice Chancellor Laster rejected these arguments, noting that:
- The appraisal statute, and Delaware case law, authorizes the court to consider all factors relating to fair value, which includes (among other things) the prices for which knowledgeable insiders sold their shares, and any valuation work prepared for non-litigation purposes. This evidence is a helpful “cross check” or “reality check” on litigation-driven figures driven by experts, and aids the court’s determination of the ultimate fact in issue—the fair value of the merged company at the time of the merger.
- Valuation is not a matter exclusively for financially-trained experts under DRE 702. Lay witnesses (including stockholders) are competent to express their views on valuation, particularly a “fair value” appraisal determination required to be made by judges who themselves are not financially-trained valuation experts.
- Moreover, non-expert evidence, particularly, the pre-litigation position of the parties, is useful to test the credibility of valuation inputs, in order to “temper…the adversarial hyperbole that inevitably influences an expert’s opinion in [contested] valuation proceedings.”