Page 1 Fried Frank Inside Business Judgment Review Applies in M&A Post‑Closing Damages Actions, Even When the Board is Not Independent and Disinterested—Corwin v. KKR Financial Page 5 Court Not Troubled by Controller’s Discussing Sale With Potential Buyers Prior to Disclosure to Board—In re Schawk Page 6 Chancery Court Upholds Stockholder Consents to Replace Board of Private Company—Kerbawy v. McDonnell Page 7 Releases Likely to Narrow in M&A Litigation When Court Deems Settlement to Offer Only “Peppercorn” of Value—Aeroflex and Riverbed Page 11 Chancery Court Finds Bank Not Liable in Dole Take-Private Transaction Trial Page 14 Proxy Access—Most Prevalent Shareholder Proposal Submitted in 2015 Proxy Season Page 14 Bankers’ “Prior Pitches” and Potential Conflicts—Key Post-Zale Practice Points for Banks and Boards Page 17 IRS Releases Shake up the Spin-Off World Page 20 M&A Notes Page 23 Authors Michael J. Alter Abigail Pickering Bomba Steven Epstein Arthur Fleischer, Jr. Peter S. Golden Alan S. Kaden Brian T. Mangino Philip Richter Robert C. Schwenkel Gail Weinstein M&A QUARTERLY A quarterly roundup of key M&A developments 3rd Quarter 2015 Fried Frank M&A Quarterly Copyright © 2015. Fried, Frank, Harris, Shriver & Jacobson LLP. All rights reserved. Attorney Advertising. Chancery Court Invalidates Bylaw that Authorizes Removal of Officers by Stockholders—Gorman v. Salamone Chancery Court Invalidates Bylaw (continues on next page) In Gorman v. Salamone (Del. Ch. July 31, 2015), Gorman, the majority stockholder (who was also a director) of Westech Financial Inc., a private company, wanted to remove the company’s CEO against the objections of the rest of the company’s board. Delaware law does not expressly authorize or prohibit stockholder action to remove officers. As is typical, the company’s charter was silent on the issue of officer removal and the company’s bylaws provided that officers could be removed by the board. In most cases, a majority stockholder in this situation would act indirectly to remove the officer— by exercising his clear authority to remove and replace the board, with the new board then removing the officer. Gorman did not have this option because a voting agreement among the stockholders limited his right to remove the board. As a result, Gorman attempted to end-run the voting agreement limitation by executing a stockholder consent for a bylaw amendment that authorized the company’s stockholders (as well as the board) to remove officers. Under the authority of that bylaw, he then executed a stockholder consent to remove the CEO. Vice Chancellor Noble held that the bylaw amendment was invalid on the basis that authorizing the stockholders to remove officers usurped the board’s statutory prerogatives to manage the corporation. Key Points Context in which decision will be relevant—controllers and activists. As noted, the typical way that stockholders would remove an officer over objection of the board would be through the indirect route of removing and replacing the board, with the new board then removing the officer. The Gorman holding will therefore be relevant in those situations in which there is a voting agreement or charter provision that limits a majority stockholder’s (or a control group’s) right to remove and replace the board, as well as in situations where there is a proxy contest (e.g., as part of a takeover effort or by an activist shareholder) as part of which stockholders seek to amend the target’s bylaws to remove an officer. Page 2 Chancery Court Invalidates Bylaw (continued from previous page) Chancery Court Invalidates Bylaw (continues on next page) Possibility of appeal. The decision may be appealed. There has been a long history of litigation with respect to the matter; the parties are likely to remain in a stalemate as to their dispute over control of the company; and we are aware of no Supreme Court precedent on the issue of stockholders directly removing officers. Breadth of the ruling—apparent per se invalidity of bylaw. The factual context of the case was egregious in that the majority stockholder was attempting, through the bylaw amendment, to provide himself with direct authority to do something that his voting agreement barred him from doing indirectly. (The Chancery Court in a prior opinion in the case ruled that the other stockholders’ interpretation of the voting agreement, to the effect that Gorman was barred from removing the board, was correct.) Indeed, the court acknowledges in this opinion that whether a bylaw is properly “process-related” may be determined “in light of its intent and context.” Further, the court notes that Gorman adopted the bylaw “to usurp the Board’s authority in order to gain power over the Company, which has been subject to an ongoing control dispute.” Thus, arguably, the decision could be interpreted to be applicable only in situations where there is a charter provision or stockholder agreement that limits the right of stockholders to remove the board—that is, that the ruling stands (narrowly) for the proposition that a bylaw authorizing stockholders to remove officers cannot be used to circumvent contractual restrictions agreed among the stockholders. Importantly, however, the court did not emphasize the factual context and instead determined that the bylaw was invalid because, by going beyond the process and procedure issues that are the permissible subject matter for bylaws, the bylaw infringed on the board’s authority with respect to the substantive management of the corporation. The Vice Chancellor wrote: [Removal of officers] does constitute a substantive business decision and would allow stockholders directly to manage corporate business and affairs. A primary way by which a corporate board manages a company is by exercising its independently informed judgment regarding who should conduct the corporation’s daily business. How a board without the power to control who serves as CEO could effectively establish a long-term corporate strategy is difficult to conceive. Thus, the court’s approach and the broad language of the opinion appears to establish per se invalidity for a bylaw that authorizes stockholders to remove corporate officers on the basis that it usurps the board’s managerial function. Whether a bylaw puts directors in a situation where they might be compelled to act in breach of their fiduciary duties may be a critical factor in determining whether the bylaw is impermissibly “substantive” (as opposed to “procedural”). The decision rests on the Delaware Supreme Court’s 2008 decision in CA, Inc. v. AFSCME Employees Pension Plan. In CA, the Supreme Court held that a proposed amendment to CA’s bylaws to require the board in certain circumstances to pay the reasonable expenses incurred by a stockholder in connection with nominating board members could lead to violations of the board’s fiduciary duties if the payment of the stockholder’s expenses would be inappropriate (such as in instances where the proxy contest related to petty or personal concerns and not corporate policy). The Supreme Court based its decision in CA on what it characterized as the “prohibition…, derived from [DGCL] Section 141(a) [(which specifies that the business and affairs of every corporation will be managed by or under the direction of the board of directors),]… against contractual arrangements that commit a board of directors to a course of action that would preclude them from fully discharging their fiduciary duties to the corporation and its shareholders.” In Gorman, the Chancery Court reasoned that the bylaw at issue “clearly provide[d] stockholders with more than an advisory function” and created a similar issue as in CA—to wit, that if the stockholders exercised the power to remove an officer without cause, the board would be required under the bylaw to “immediately implement… [the] removal of an officer by the stockholders” and “that directive could compel board action, potentially in conflict with its members’ fiduciary duties.” Possible validity of bylaws authorizing stockholders to fill officer vacancies. The amended bylaw at issue in Gorman also provided that stockholders would fill any officer vacancy arising from removal of an officer by the stockholders. The Vice Chancellor stated that, given the court’s holding that the part of the bylaw that permitted Page 3 Chancery Court Invalidates Bylaw (continues on next page) Chancery Court Invalidates Bylaw (continued from previous page) removal of officers by the stockholders invalidated the bylaw, the court did not need to address the validity of this part of the bylaw. Notably, however, the Vice Chancellor suggested that a bylaw permitting stockholders to fill officer vacancies could well be valid because, according to the Vice Chancellor: “Permitting stockholders to set the mode for officer replacement would allow them to dictate a procedure, and would not necessarily step unduly on management’s toes” (emphasis added). We note that it is not clear why selecting officers to fill vacancies is necessarily more procedural (and less substantive) than removing officers. Perhaps the rationale (although not enunciated in the opinion) would be that, if the board has chosen an officer, the stockholders’ removal of the officer would be an undoing of the board’s action; whereas, if the board has chosen an officer and then there is a vacancy, whether because the board removed the officer or the officer resigned, the stockholders’ filling the vacancy would not be overriding any board action. Court’s statutory analysis. The court rejected Gorman’s arguments that removal of officers by stockholders was authorized under the following sections of the Delaware General Corporation Law: Section 142(b): Officers shall be chosen in such a manner and shall hold their offices for such term as are prescribed by the bylaws or determined by the board of directors or other governing body. Each officer shall hold office until such officer’s successor is elected and qualified or until such officer’s earlier resignation or removal. Any officer may resign at any time upon written notice to the corporation. The Vice Chancellor reasoned that Section 142(b) addresses how officers will be chosen but is silent with respect to how they may be removed. Section 109: [Shareholders can adopt and amend bylaws] relating to the business of the corporation, the conduct of its affairs, and its rights or powers or the rights or powers of its stockholders, directors, officers or employees. The Vice Chancellor concluded that the amended bylaw was also outside the scope of bylaws permitted by Section 109. Although Section 109 does not explicitly restrict the scope of proper subject matter for bylaws, a bylaw cannot conflict with the company’s charter or law, both of which provide that the business and affairs of the corporation must be managed by the board, the Vice Chancellor explained. The stockholders’ right under Section 109 to adopt bylaws is not “coextensive with the board’s concurrent power and is limited by the board’s management prerogatives under [DGCL] Section 141(a).” The Vice Chancellor also commented that the amended bylaw required the board to “immediately implement any… removal of an officer by the stockholders,” which, in the Vice Chancellor’s view, permitted stockholder action (removing an officer over the objection of the board) that “could compel board action, potentially in conflict with its members’ fiduciary duties.” Section 142(e): “[A]ny vacancy occurring in any office… shall be filled as the bylaws provide…” The Vice Chancellor noted that Section 142(e) addresses the filling of vacancies but, again, not removal. Practice Points Alternatives for stockholder action to remove officers. As noted, stockholders can, of course, indirectly remove an officer by removing and replacing the board, with the new board then removing and replacing the officer (unless a stockholder agreement or charter provision bars or limits stockholders’ removal of directors). Stockholders also can remove officers if the corporation’s charter (as opposed to the bylaws) so provide. Accordingly, a company founder who will be a majority stockholder or part of a control group should consider including this authority initially in the company’s charter. (A sunset provision should also be considered.) A voting agreement among stockholders that authorizes them to remove officers would, presumably, be viewed by the court as tantamount to a consent—and, so, under Gorman, invalid. Amendment to a charter to add authority for Page 4 stockholders to remove officers should be valid, however. Majority stockholder consideration of corporate mechanisms. A company founder should seek to ensure that the corporate mechanisms in place will function as desired under all circumstances going forward, including in the event of a schism on the board. It goes without saying that it is important to all parties involved to ensure that agreements are drafted only after the parties have been made aware of all relevant consideration and then in a way that reflects the intent of the parties. In Gorman, the majority stockholder was barred from removing the board based on the court’s earlier ruling in the case on the ambiguous and contradictory language in the voting agreement among Gorman and the other stockholders. The agreement had been based on a generic draft voting agreement that the stockholders had found online and had adapted apparently without much thought given to the specific wording of the provisions. Certain provisions relating to the election or removal of directors required a vote of the stockholders based on the number of shares and other provisions had slightly different wording that referred instead to a vote based on the number of stockholders—in some cases, with conflicting results. Since Gorman, as the majority shareholder could himself effect any vote that was based on shareholdings, but could not himself effect a vote based on a per person requirement, these differences in wording were critical. A founding stockholder who will be a majority stockholder or a member of a control group should consider whether to include in the company’s charter (or in a voting agreement) certain provisions that would be effective for so long as he remains the majority stockholder (or part of the control group), and would automatically be eliminated thereafter. These provisions might, for example, relate to the ability to act by written consent, the ability to remove directors and officers, and/or limitations on the board’s authority to issue stock that would dilute the majority stockholder’s position. Alternatives for board action to respond to a majority stockholder. In the event that there is a dispute between the company and a majority stockholder, the board should of course explore all avenues to resolve the dispute through agreement with the majority stockholder. If that is not possible, and the board believes that it is required by its fiduciary duties to seek to prevent, limit or delay action by a majority stockholder, the board should explore all alternatives available to it, such as exercising provisions regulating stockholders’ consent rights. It should be noted that it is not clear from Gorman whether the result of the case would be different in a more egregious factual context, such as a majority stockholder’s need to protect the corporation against an officer who (with the board’s assent) was engaged in criminal behavior or was looting corporate assets. Possible “fiduciary out” exception. To the extent that the decision rests on the Delaware Supreme Court’s concern expressed in CA that stockholder action may commit a board to a course of action that would preclude the directors from fully discharging their fiduciary duties to the corporation and its shareholders (as discussed above), the question arises whether a “fiduciary out” clause could solve the problem. In other words, would the bylaw in Gorman have been deemed by the court to be valid if, after stockholders acted to remove an officer, the board would not have had to act to implement the removal if they determined that it would constitute a breach of their fiduciary duties? Chancery Court Invalidates Bylaw (continued from previous page) Page 5 Business Judgment Review Applies in M&A Post‑Closing Damages Actions, Even When the Board is Not Independent and Disinterested—Corwin v. KKR Financial In Corwin v. KKR Financial Holdings LLC (Oct. 2, 2015), the Delaware Supreme Court affirmed the Court of Chancery’s dismissal of a stockholder challenge to the $2.6 billion stock-for-stock merger of KKR Financial (KFN) with private equity firm KKR. Chief Justice Strine clarified that approval of a non-controller transaction by the disinterested stockholders, in a fully informed, non-coerced vote, will result in business judgment review of the directors’ actions in a post-closing damages action, whether or not a majority of the board that approved the transaction was independent and disinterested and whether or not the stockholder vote was statutorily required. Key Points Applicability of business judgment review, even if the board was not independent and disinterested. If a transaction is not with a controller, then, if the disinterested stockholders approve the transaction in a fully informed, non-coerced vote, whether or not the board is independent and disinterested, the business judgment standard of review will apply to a post-closing claim for damages. Under the business judgment standard of review, the transaction would be insulated from all attacks other than on the grounds of “waste”. In the decision, the Chief Justice emphasized the “long-standing policy of [Delaware] law… to avoid the uncertainties and costs of judicial second-guessing when the disinterested stockholders… [who have] an actual economic stake in the outcome… have had the free and informed chance to decide on the economic merits of a transaction for themselves.” No “heightened scrutiny” in post-closing action for damages. Revlon and Unocal heightened scrutiny standards will be potentially applicable only at the preliminary injunction stage (seeking to block the transaction), and not in a post-closing action for damages. The Supreme Court stated that Unocal and Revlon are tools to obtain “injunctive relief to address important M&A decisions in real time, before closing” and are not intended to apply to post-closing money damages claims where director due care liability is based on a gross negligence standard (under Van Gorkom) and, due to exculpatory provisions in company charters, “due care liability is rarely even available.” Thus, a breach of a Revlon or Unocal duty that constitutes a non-exculpable breach (i.e., a breach of the duty of loyalty—say, a board’s failure to do anything to try to maximize the merger price when Revlon duties apply so that the board is viewed as having acted with intentional misconduct or bad faith) would give rise to potential liability; however, a breach that would be exculpable (i.e., any breach of the duty of care short of intentional misconduct or bad faith) would not give rise to potential liability. Importance of adequate disclosure. Because a fully informed vote of the disinterested stockholders is the prerequisite for invocation of business judgment review in a damages action, adequate disclosure to the stockholders before the vote on the merger is now even more importance than in the past. The Supreme Court emphasized that business judgment review would not apply in the absence of adequate disclosure: “[I]f troubling facts regarding director behavior were not disclosed that would have been material to a voting stockholder, then the business judgment rule is not invoked.” In this case, the Supreme Court found, “all of the objective facts regarding the board’s interests, KKR’s interests, and the negotiation process, were fully disclosed.” Determination of “controller” status. In a controller transaction, the “entire fairness” standard would apply. The stockholder plaintiffs had contended that KKR was a controller of KFN because KFN had been created to serve as a financing vehicle to support KKR’s LBO transactions and, under a management agreement that could not be terminated by KFN without paying an exorbitant fee that far exceeded KFN’s cash on hand, KKR had “total managerial control” of KFN and had nominated all of KFN’s directors (most of whom had various ties to KKR). The Supreme Court affirmed the Chancery Court’s narrow view of “control,” affirming the Chancery Court finding that KKR was not a controller of KFN because KKR did not have the voting power or right to appoint or remove directors or to block board actions. Business Judgment Review (continues on next page) Page 6 Business Judgment Review (continued from previous page) Potential effect on litigation being brought. Stockholders may be less likely than in the past to bring post-closing damages actions in non-controller transactions unless there is a basis for establishing that the disclosure was inadequate or that the vote was coerced. Stockholders may be more likely, however, to bring preliminary injunction proceedings to halt a merger (as a heightened scrutiny standard may apply, if at all, only at this stage). In situations where there has been adequate disclosure and a non-coerced vote, stockholders may seek post-closing appraisal of their shares (particularly if it appears that the company was not effectively shopped in the sale process). Resolution of Gantler debate. The Supreme Court, noting the possible conflict between its holding here and its 2009 holding in Stephens v. Gantler (and acknowledging the longstanding debate among practitioners about the proper interpretation of Gantler), stated that Gantler should be read as a narrow decision focused on defining the meaning of the legal term “ratification” and not as a case that addressed the standard of review applicable to a transaction not subject to “entire fairness” when the disinterested stockholders have approved the transaction in a vote that was not statutorily required. Remaining questions. We observe that KKR Financial raises a number of questions. First, since in a controller transaction, as set forth in M&F Worldwide, business judgment is only applicable if the controller, at the outset, agrees to both a majority of the minority stockholder vote and an effectively functioning special committee, why is it sufficient in a non-controller transaction to invoke business judgment review if the directors are not independent and the only safeguard is an informed shareholder vote? Second, is not a premise of business judgment decision-making by a majority of independent, disinterested directors? Is not a basic function of the business judgment doctrine to avoid second-guessing the decisions of such a group? Third, it must be kept in mind that counsel’s advice as to the burden on directors at the outset of a Revlon transaction that includes a fully informed vote of the disinterested stockholders will be different relating to the injunction stage of litigation against the transaction as compared to a post-closing damages action. Fourth, it is unclear why the court, having determined in KKR Financial that a majority of the directors were independent, reached to issue a ruling relating to the result that would pertain if the directors were not independent. Fifth, under business judgment review of a non-controller transaction, will the court (as suggested in KKR Financial) really apply “corporate waste” as the only standard for a finding of liability (i.e., there would not be liability unless the merger price is so deficient that “no business person of ordinary, sound judgment could conclude that it represents adequate consideration”—a standard that is almost impossible to meet)? These, and other issues, must await further development in future rulings. Court Not Troubled by Controller’s Discussing Sale With Potential Buyers Prior to Disclosure to Board—In re Schawk In In re Schawk Inc. Stockholders Litigation (Sept. 15, 2015), Vice Chancellor Laster, after brief oral arguments, ruled from the bench to dismiss the plaintiff stockholders’ claims of breach of fiduciary duty by the board of controlled company Schawk Inc. in connection with its $577 million sale to Matthews International Corp. The Vice Chancellor found that it was not problematic that the family (i) had met with the company that first approached them about a sale, and then met with the most likely other interested party (Matthews), before informing the board about the discussions or (ii) had used company information in the discussions. The consistent prevailing legal view has been that a CEO of a public company cannot furnish confidential company information or initiate acquisition discussions without the approval of the company’s board. The question now arises whether Vice Chancellor Laster’s view in Schawk would extend to the CEO of a company or is limited to a company controller. We note that there is a logic to its being limited to a controller because any deal would be impossible to effect without the controller. In addition, it may be expected that interested parties would naturally be inclined to approach the controller. Court Not Troubled by Controller’s Discussing Sale (continues on next page) Page 7 Court Not Troubled by Controller’s Discussing Sale (continued from previous page) Chancery Court Upholds Stockholder Consents (continues on next page) Chancery Court Upholds Stockholder Consents to Replace Board of Private Company—Kerbawy v. McDonnell In Kerbawy v. McDonnell (Aug. 18, 2015), the Delaware Chancery Court upheld the validity of written consents from the holders of 53.3% of the stock of ACell, Inc., a privately held Delaware corporation with about 150 stockholders. Vice Chancellor Parsons refused to set aside the consents to replace the board—even though, according to the court, (i) a current and a former fiduciary of the company had “participated in, or at least substantially assisted with” the consent solicitation, without the solicitor having disclosed their involvement, (ii) both of them had provided confidential company information to the solicitor, and (iii) the involvement of one of them was in breach of his separation agreement with the company, which barred any involvement in a consent solicitation involving the company. Background ACell became the subject of a DOJ investigation into its alleged off-label marketing of its medical device products. The company’s CEO (who was also a director and the largest stockholder of the company, with a 24% stake (“JD”)) and the COO (“RB”) both were implicated in the wrongdoing alleged by the DOJ and were pursuing a strategy of minimal cooperation by the company with the DOJ. When the board asked JD and RB to resign, JD and RB began to solicit consents from other stockholders to remove the board. When the board learned of the solicitation, it terminated JD and RB’s employment. Once JD and RB were terminated, they terminated their consent solicitation (which by then had resulted in consents being obtained representing almost 50% of the shares). At that point, a 5% stockholder (“KK”), who was a former distributor for the company and who had been a supporter of JD and RB, commenced a solicitation to remove the board and to elect KK and his nominees to fill the resulting vacancies. KK delivered consents representing over 53% of the shares. The defendant incumbent directors contended that the consents should be set aside because the solicitation had been “tainted by inequitable conduct.” The solicitation had not been “fair,” they argued, because KK had not disclosed to the stockholders from whom he sought consent that DF and RB were involved with the solicitation and that, if the solicitation were successful, KK planned to have DF and RB play a key Notably, after the Schawk board was informed by the family that it had had discussions with the two interested parties, the board formed a special committee of independent and disinterested directors that was fully authorized to evaluate and negotiate a potential transaction and the committee engaged independent legal and financial advisors. Further, the agreed transaction was subject to approval by vote of a majority of the disinterested minority stockholders; the merger agreement included a go-shop period and a modest 2% breakup fee; and none of the minority stockholders sought appraisal of their shares. No other interested parties emerged during the go-shop period. The Vice Chancellor emphasized (i) that it was “hugely powerful evidence of reasonableness” that the controller (the founding Schawk family, with a 61.5% stake) received the same consideration as the minority stockholders and (ii) that 83% of the outstanding shares not owned by the family voted in favor of the transaction. While the Vice Chancellor stated that “[i]t would have been nicer if [the family] had gone to the board” earlier and had not “[gotten] out in front of the board,” the court concluded that no problem arose from the initial undisclosed talks given that negotiations continued for months after the board had been fully informed. The court would have been more troubled about this issue, the Vice Chancellor stated, if “the board were jammed in terms of a quick fuse for an offer and the board’s position was compromised because the controller had been out in front,” had talked with only one potential buyer, or had reached an informal agreement with a buyer. The Vice Chancellor noted that the critical issue relating to the use of company information is how the information is used. In this case, the Vice Chancellor found, the family used the information “in a way that was ultimately appropriate and value-maximizing… [and not] in a way that compromised the board’s ability to act once the board was brought into the process. Page 8 Chancery Court Upholds Stockholder Consents (continued from previous page) Chancery Court Upholds Stockholder Consents (continues on next page) role in shaping the corporate policy that the new board would implement. The defendants also alleged that JD and RB had provided confidential company information to KK in furtherance of the solicitation and that KK had tortuously interfered with RB’s separation agreement with the company, which barred RB from participating in any solicitation relating to the company. Court’s factual findings and holding The court agreed with the defendant directors as to the following facts: JD and RB had substantially assisted in the solicitation. JD and RB had provided confidential company information (that they had obtained in their fiduciary roles) to KK in furtherance of the solicitation. (This information included a draft S-1 registration statement for a contemplated IPO of the company; board meeting minutes; a strategic planning document; D&O insurance policies; and the stock ledger—none of which, according to the court, included “trade secrets or commercially valuable proprietary information” or involved a disclosure of “business opportunities or other highly sensitive information.”) RB’s separation agreement with the company had prohibited his being involved in the solicitation; and KK’s nondisclosure of RB’s involvement had deprived the company of its right under the separation agreement to seek injunctive relief against his participation. Despite these factual findings, the court upheld the validity of the consents and the election of the new board nominees, holding as follows: No disclosure duty. The court held that KK, who was not a director or officer of the company, had no disclosure duty to stockholders in connection with the solicitation. Even if there had been a disclosure duty, the court stated, the failure to disclose JD’s and RB’s involvement was not material. The court reasoned that the company’s being deprived of its remedy to seek injunctive relief under RB’s separation agreement would have, at best, led to a judicial consideration of the equities in granting that relief—the same exercise, the court stated, that the court was required to do in the instant case. Heavy burden to set aside consents. In evaluating the equities and finding in favor of KK, the court emphasized the primacy of the stockholder franchise and the “heavy burden” to establish that stockholder consents should be set aside. The board’s own misleading disclosure to the stockholders was noted by the court. Key Points No general disclosure obligation in connection with stockholder consent solicitations. The court held—in the context of a private company—that a person soliciting stockholder consents who does not owe fiduciary duties to the stockholders owes no duty of disclosure with respect to the solicitation. Thus, a person who is not a director, officer, controller, or member of a control group does not owe a duty of disclosure in connection with soliciting stockholder consents. Further, if the consent solicitation is assisted by a person who does have fiduciary duties to the stockholders, the court will be reluctant to impute that person’s duty of disclosure to the person soliciting the consents (at least where the assistance was not material). The court indicated that there is no right of stockholders to “engage in a full policy debate” in connection with a consent solicitation. Heavy burden to establish that stockholder consents should be set aside. Citing the importance that Delaware law places on protecting the stockholder franchise, the court stated that, when a majority of stockholders have executed written consents to remove a board and the board asks the court to set aside the consents on equitable grounds, there is a “heavy burden” to establish that the consents are invalid. Here, the court concluded that a balancing of the equities did not support setting aside the stockholders’ consents to “vindicate” the company’s rights under the separation agreement. “Granting such relief would benefit primarily, if not solely, the incumbent Board, as Page 9 Chancery Court Upholds Stockholder Consents (continued from previous page) opposed to the Company and its stockholders at large,” the court stated. The court distinguished its 2001 decision in Agranoff v. Miller, where it had set aside stockholder consents purporting to remove sitting directors because the stockholder delivering the consents, “in conspiracy with two faithless fiduciaries,” had wrongfully obtained his shares. As described in the Kerbawy opinion, in Agranoff, the defendant (who owned no shares and had no affiliation with the company) had used confidential information provided to him by a self-interested director to secretly buy up a controlling stake in the closely held company, in contravention of a stockholders’ agreement under which the company itself and then the stockholders had rights of first refusal on any sales of company shares. The Agranoff court held that, in acquiring his shares in violation of company agreements, the defendant had usurped the corporation’s and its stockholders’ rights of first refusal and therefore should not benefit from his wrongdoing by being permitted to vote those shares. In Kerbawy, the court characterized Agranoff as involving “fiduciaries self-interestedly enabl[ing] a stranger to the corporation to accumulate a controlling stake in secret, in violation of the corporation’s and the stockholders’ rights of first refusal, and apparently without paying a control premium.” The court emphasized that the agreement at issue in Agranoff went to the core of the consent solicitation’s validity because “if not for the contractual breaches, the defendant there would not have owned stock at all, much less the controlling block he used to replace the board.” The court contrasted the situation in Kerbawy as involving a consent solicitation that would have succeeded even without RB’s breach of his agreement and involvement in the solicitation. Most importantly, according to the court, setting aside the consents in Agranoff “furthered interests of the corporation and all of its stockholders” (i.e., “the possibility of enjoying a control premium rather than letting an outsider secretly acquire control, and the benefits of keeping the ownership among the original group of investors, who viewed themselves as a private partnership”); whereas, in Kerbawy, “the principal benefit that would accrue from setting aside the Consents [was] that the incumbent board would remain in control of [the company].” Importance of factual context. While not necessary for the decision—given the court’s ruling that KK (as a nonfiduciary) had no disclosure obligation—the court appears to have gone out of its way to establish that, in any event, disclosure of JD’s and RB’s involvement would not have been material. In a reasonably detailed exploration of the facts of the case, the court found that: JD’s and RB’s assistance in the solicitation had not been material, as all of the critical decisions about the solicitation (including whether, how and when the solicitation should be conducted and what vision for the future of the company the new board should espouse) were made by KK; The confidential company information provided by JD and RB (while obtained in their fiduciary roles) was the type of information that stockholders could have obtained in a Section 220 books and records request and, in any event, the company had a practice of generally sharing information with the stockholders; All of the disclosures made that the defendants claimed were misleading had been KK’s disclosures (not JD’s or RB’s); KK had an “open mind” and no definitive plan about JD’s or RB’s future role; and had “no pre-ordained agenda” for the new board, including with respect to what strategy should be adopted in dealing with the DOJ investigation; The new director nominees were qualified and independent and thus there was no reason to expect that they would be “puppets” of the solicitor or those who supported him; and The defendant directors who sought to set aside the consents on the basis of misleading disclosure by the solicitor as to JD’s and RB’s involvement had themselves purposefully misled the stockholders on that very topic when responding to the solicitation (by knowingly implying that JD, who was popular among the stockholders, was supporting the incumbent board, which was not the case). In short, in the court’s view, disclosure of JD’s and RB’s involvement would not likely have changed the result of the solicitation. Chancery Court Upholds Stockholder Consents (continues on next page) Page 10 Thus, it is not clear to what extent the result might have been different had the factual context been different— particularly, had the court found that JD’s and RB’s involvement was material to the results of the solicitation; that KK had a plan to re-install JD and RB to their management positions; that the company information provided by JD and RB to KK was highly confidential; and/or that KK’s nominees for the new board were non-independent or not qualified. Practice Points Planning to avoid schism on a board. It is important to recognize that any number of developments can lead to a schism on a private company board-- including, for example, personality animosities, substantive disagreements, or, as in Kerbawy, unanticipated corporate developments (such as a regulatory investigation). A critical part of planning in connection with the founding of a private company should be the consideration of including mechanisms that can help to avoid schisms on the board. Procedures, policies and practices that lead to sharing of information and cooperative resolution of disagreements should be considered and included as appropriate. For example, some form of mediation or “cooling off” or “talk” periods should be considered as mechanisms to facilitate the resolution of issues before they escalate to the point of being unsolvable or corrosive. Once an investigation or other negative event occurs, a board should proactively oversee the management’s response in an attempt to “stay ahead” of events rather than being only in a responsive position or not being informed. Charter provisions to authorize or prohibit stockholder written consents. Founders of a private company should consider whether to adopt charter provisions that permit or that eliminate (or limit) stockholders’ rights to act by written consent. On the one hand, the authorization of written consents provides an efficient method for the expression of stockholder interests. On the other hand, providing for written consents can lead to action being taken without the time, disclosure and debate associated with action taken at shareholder meetings. Especially in the context of privately held corporations, consents may be obtained from just a few individuals on a very quick timetable without discussion with, or even knowledge by, the other stockholders. A sunset provision also should be considered. Need for judicious temperament by a board. A negative factor in Kerbawy in the court’s consideration of the ACell board’s actions was the board’s view that it was “at war” with KK, JD and RB and that it was appropriate for the board to do “whatever it [took] to win [the] war,” even if that meant “defeating stockholder intent”. The court found that, even before the consents were delivered, the board had determined to reject the validity of the consents and the directors had vowed not to relinquish their board seats unless ordered to do so. One director, after learning about two additional employees who had supported KK, recommended that the two be fired, even though that same director had recently supported giving one of them increased compensation and another director testified that that the employee was “one of the best” of the company’s salesmen. By contrast, the court viewed KK as having a generally reasonable approach centered on doing the right thing for the corporation—including having an “open mind”; seeking out information from all available sources, including the other directors who had become his adversaries; waiting to make decisions until the independent law firm engaged by the board had completed its investigation relating to the wrongdoing alleged by the DOJ; and selecting independent and qualified board nominees with experience in the industry and with governmental investigations. Alternative approach to resolution of disclosure issue. We note that, in a case where (unlike Kerbawy) the court determines that there were material failures of disclosure relating to the solicitation of stockholder consents, rather than setting aside the consents, the court could order that the submitted consents would not be effective until a specified period of time after the disclosures are made. Chancery Court Upholds Stockholder Consents (continued from previous page) Page 11 Releases Likely to Narrow in M&A Litigation (continues on next page) Releases Likely to Narrow in M&A Litigation When Court Deems Settlement to Offer Only “Peppercorn” of Value—Aeroflex, Riverbed and Aruba Networks As widely reported, virtually every proposed sale or merger of a public company now predictably brings shareholder litigation in its wake. According to the Cornerstone Research 2014 Litigation Review, similar to the results in prior years, almost 80% of settlements reached in 2014 provided only additional disclosure and just six settlements involved payments to shareholders. The Delaware Chancery Court has reacted to this spectacle by becoming more reluctant in recent years to award attorneys’ fees, and in some cases expressing reluctance about approving the settlement itself, when a settlement does not include meaningful improvement in the deal terms or material new disclosures. A trio of recent decisions indicates that the court will no longer be routinely approving settlements that provide broad releases in exchange for minimal value to the plaintiff class. In Acevedo v. Aeroflex (July 8, 2015, Transcript), Vice Chancellor Laster rejected a settlement involving what the court viewed as a “peppercorn” of value to the stockholder class (immaterial disclosures and minor deal term revisions) in exchange for an “intergalactic” release of claims by the stockholders. In In re Riverbed Technology (Sept. 17, 2015), Vice Chancellor Glasscock, in a written opinion, while largely accepting the disclosure-only settlement there, stated explicitly that future litigants are now on notice that “peppercorn-for-intergalactic release” settlements will no longer be routinely accepted by the court. In In re Aruba Networks (Oct. 9, 2015, Transcript), Vice Chancellor Laster refused to approve a disclosure-only settlement with a broad release (and dismissed the case), rejecting the plaintiff attorneys’ argument that the broad release should not be of concern because, based on their diligence during discovery, there were no claims of value being released. Key Points Delaware courts will continue to be interested in facilitating M&A litigation settlements. Notwithstanding recent commentary about these decisions resulting in a “sea change” in M&A litigation and “the end” of M&A litigation settlements as we know them, we expect that attorneys will continue to bring litigation challenging M&A transactions and that the Delaware courts will continue to want to facilitate the settlement of these cases. (We note the courts’ and the Legislature’s recent sanctioning of forum selection bylaws designating Delaware, or Delaware and other states, as exclusive forums for intra-corporate litigation and the increasing number of companies adopting this type of bylaw.) However, it is clear from these recent cases that the courts are likely to focus on a more tailored approach to the releases and the attorneys’ fee awards in these settlements. More tailored releases. The courts will be more reluctant than in the past to approve “kitchen sink”-type releases as part of a settlement unless the settlement provides commensurately significant value to the plaintiff class. Releases likely will have to be more tailored to the benefits received by the plaintiff class in the settlement, rather than also covering all unknown future claims. A number of the recent decisions have indicated that disclosure-only relief should lead to a disclosure claims-only release. More tailored attorney fees. Attorneys’ fee awards by the court in M&A litigation will also be more tailored to the specific circumstances. The court is likely to award lower fees than in the past in the case of litigation in which it is ultimately determined that the claims (even if potentially meritorious when brought) did not have significant value to the plaintiff class. No significant impact on prevalence of litigation being brought or settled. We do not expect that the potential for narrower releases for the defendants and lower fees for the attorneys ultimately will significantly discourage the filing of lawsuits in connection with M&A transactions or significantly discourage their settlement. Page 12 Releases Likely to Narrow in M&A Litigation (continued from previous page) Releases Likely to Narrow in M&A Litigation (continues on next page) Aeroflex. The Aeroflex settlement was based on the defendants’ agreement to supplement the deal disclosures made, to reduce the termination fee by about 40%, and to shorten the four-day matching rights period to three days. Vice Chancellor Laster found that the reduction of the termination fee and the match period added no value for stockholders because it was unlikely that these modifications would have encouraged a higher bid to be made. Importantly, according to the proxy statement disclosure, the primary impediment to a bid being made by the single other interested party was the nondisclosure agreement that that party had signed that allegedly prevented it from making a bid. The Vice Chancellor also found that the supplemental disclosures were not material and were “nonsubstantive.” The Vice Chancellor ruled that the relief provided to the plaintiff class was insufficient to support the “intergalactic” global class-wide release of claims obtained from it. As reflected in the transcript of the settlement hearing, the Vice Chancellor acknowledged that disclosure-only settlements of this type “have long been approved on a relatively routine basis.” However, citing the “significant deleterious effects” of the trend of litigation being brought with respect to every M&A transaction and the “real consequences of routine approval of settlements,” the Vice Chancellor stated that it is important to continue the trend of “looking carefully at these settlements.” Riverbed. In the highly anticipated decision in Riverbed, Vice Chancellor Glasscock largely accepted the proposed settlement after finding that the supplemental disclosures had some value beyond a peppercorn, that the plaintiffs’ claims held little value, and that the broad release was something less than intergalactic (“perhaps solar-systemic,” the Vice Chancellor offered). In approving the settlement, the Vice Chancellor emphasized that there was some value to the agreed additional disclosure to the effect that one of the target company’s financial advisors had received $25 million in previous business relationships with the buyer (as compared to the $30 million fee that it received from the target company for its work in connection with the merger at issue). The Vice Chancellor also highlighted that the claims made by the stockholder class were unlikely to prevail due to the lack of evidence to the effect that the merger price was unfair or that any stockholders who held shares prior to the merger had objected to the transaction. (On a side—but potentially important—note, the objector to the settlement was a law professor who had acquired shares after the merger and, by his own admission, for the purpose of objecting to the anticipated settlement. The court rejected the claim that the professor did not have standing to object to the settlement because he was not a shareholder at the time of the merger. The court ruled that the relevant consideration as to whether he could object to the settlement was whether he had acquired his stake before the settlement, rather than whether he had acquired his stake before the merger. The court suggested that concerns about “professional objectors” to deals arising from this result could be dealt with going forward utilizing the doctrine of unclean hands and other available tools.) The court noted that it found the breadth of the release “troubling” and the court reduced the requested attorney’s fee award—but in approving the settlement, the court emphasized that the parties had negotiated the settlement in good faith with a reasonable expectation that the “very broad, but hardly unprecedented” release would be approved by the court, based on years of the court’s practice in routinely approving settlements of this type. The court stated that, while that expectation was reasonable and “bears equitable weight” in this case, that consideration would be “diminished or eliminated going forward in light of this Memorandum Opinion and other decisions of this Court.” Aruba Networks. In Aruba Networks, Vice Chancellor Laster rejected the proposed disclosure-only settlement. The Vice Chancellor emphasized that the case was not meritorious when filed because “what the market evidence suggested was an arm’s length strategic buyer, a 34% premium to unaffected market price, and an even higher premium based on other metrics.” The Vice Chancellor stated: “Price alone isn’t a claim. You have to have something that suggests a lack of reasonableness, some type of conflict.” The Vice Chancellor indicated that he likely would have approved the disclosureonly settlement if the release had covered only disclosure claims. The plaintiff attorneys’ had argued that the breadth of the release was not important because the attorneys had fully “diligenced” the case and could assure the court that there were no claims being released that had value. The Vice Chancellor rejected that argument, explaining that he could not be so assured because of (i) the human tendency that the attorneys likely had toward a bias in their view that worked in their own favor and (ii) a discovery record that the court found to be “unimpressive” and “not reassuring”. Importantly, the court Page 13 Releases Likely to Narrow in M&A Litigation (continued from previous page) noted that the plaintiff attorneys found information during discovery that suggested that an executive may have “lined up employment at the start” of the sale process—providing precisely the kind of claim for money damages that the plaintiff stockholders would be entitled to, and could want to, bring in the future. The Vice Chancellor also stated that the parties had no “reliance interest” in the settlement being approved based on past practice, given that the Vice Chancellor has “been giving these [types of settlements] a hard look for a while now.” The Vice Chancellor refused to certify the class (and dismissed the case) on the basis of inadequacy of the representation, characterizing the case looking like a “harvesting-ofthe-fee opportunity” because “there wasn’t a basis to file in the first place” and then, once “a litigable ‘something’… f[e]ll into [the plaintiff attorneys’] lap… it was just dealt with through the disclosure and the fee.” Other decisions. Other decisions in recent months have also questioned or rejected “intergalactic” releases in the case of settlements offering only a “peppercorn” of value to the plaintiff stockholders. These include In re InterMune (July 8, 2015 hearing, Transcript, Vice Chancellor Noble); In re Susser Holdings (Sept. 15, 2015, Transcript, Vice Chancellor Glasscock); and In re Trulia (Sept. 16, 2015, Transcript, Chancellor Bouchard). These rulings follow the lead of Chief Justice Strine when he served on the Chancery Court and he, for example, denied requests for plaintiffs’ attorneys’ fees in the 2013 Transatlantic Holding decision, and rejected the proposed settlement as well as the request for attorneys’ fees in the 2014 Medicis Pharmaceutical litigation. (In the latter case, Strine stated: “What we should be awarding fees for–and I have happily awarded big fees for disclosures–is when a disclosure involves the disclosure of facts or other kinds of information that materially changes the informational mix.”) Notably, disclosure-only settlements were also rejected recently by New York trial judges in City Trading Fund v. Nye (2015) and Gordon v. Verizon Communications (2014) because “the Supplemental Disclosures that [were] included in the Settlement [were] so trivial or obviously redundant as to add nothing of material value from a disclosure standpoint.” In Nye, the court noted the “perverse result” of incentivizing shareholder plaintiffs “to file frivolous disclosure lawsuits shortly before a merger, knowing they will always procure a settlement and attorneys’ fees under conditions of duress– that is, where it is rational to settle obviously frivolous claims.” The court distinguished a New York case where the trial judge had approved a disclosure-only settlement but only after explicitly finding that the supplemental disclosures provided actual benefit to the shareholders. Conclusion. The Chancery Court is likely to scrutinize each of the following components of a proposed settlement of M&A litigation in light of the specific facts of the case: The value of the plaintiff stockholders’ claims (evaluated not at the time they were made, but as it turned out prior to settlement); The value of the settlement terms to the stockholder class, based on the significance of any additional disclosures to be made and any modification in the deal terms; The breadth of the release by the stockholders (with the comprehensive release of unknown future claims being potentially problematic—particularly if there is evidence that there may be claims of value that could be brought in the future); and The amount of the plaintiffs’ attorneys’ fee request. It remains to be seen how the court’s increased scrutiny of proposed settlements will play out in actual cases. It is not certain, for example, how the court would approach a settlement that included additional disclosures that were not necessarily material but did not include a release of future claims. It is not clear whether a broad release would be acceptable in a disclosure-only settlement in which the court was convinced (through an extensive discovery process in which the court had confidence) that there were no potential claims with value that could be brought in the future. Moreover, it is uncertain how the court will approach the existing backlog of cases relating to settlements that were reached before Chancellor Bouchard’s explicit notice to litigants in Riverbed. Further, there is some uncertainty as to how the competition among states to be a preferred venue for M&A litigation will influence Delaware and other courts in this context. Page 14 Proxy Access—Most Prevalent Shareholder Proposal Submitted in 2015 Proxy Season Chancery Court Finds Bank Not Liable in Dole TakePrivate Transaction Trial In In re Dole Food Co., Inc. Stockholder Litigation (Aug. 27, 2015), in a significant victory for investment banks, Vice Chancellor Laster found that the financial advisor to the controlling stockholder of Dole Food Company Inc. was not liable for aiding and abetting alleged breaches of fiduciary duties by the controlling stockholder in connection with the stockholder’s 2013 acquisition of Dole in a take-private transaction. The plaintiffs alleged that Dole’s controlling shareholder, who was also the CEO and Chairman, and certain members of Dole’s board and management, had breached their fiduciary duties to Dole’s shareholders in connection with the controller’s acquisition of Dole. The plaintiffs alleged, further, that the financial advisor to the controlling stockholder in connection with the transaction, which also served as a lead arranger and administrative agent in connection with the financing for the transaction, had aided and abetted those alleged breaches. Vice Chancellor Laster found that the controlling stockholder and Dole’s former President had breached their fiduciary duties to Dole’s shareholders. They were held jointly and severally liable for damages of $148 million, representing $2.74 per share above the $13.50 purchase price paid by the controlling stockholder in the transaction. (The plaintiffs had sought an additional $11.77 per share above the purchase price—approximately $636 million in total claimed damages—at trial.) The Vice Chancellor found that the financial advisor did not “knowingly participate” in any of the breaches of duty found by the court. The decision makes clear that financial advisors cannot be held liable for aiding and abetting unless they knowingly participate in the conduct by the fiduciaries that breached their duties to shareholders and directly caused the alleged harm. As such, plaintiffs should no longer be able to argue that financial advisors may be held liable for the “kitchen sink” raft of allegations typically seen in shareholder complaints that bear no relationship to shareholders’ alleged harm. While the decision was highly fact-specific, financial advisors may be able to press similar arguments at the motion to dismiss and summary judgment stages in future litigations. Fried Frank represented the financial advisor to the controlling stockholder in the transaction and in the litigation. Corporate America has witnessed a trend in recent years toward increased emphasis on shareholder rights in corporate governance. Many corporate governance initiatives bolstering shareholders’ say in corporate affairs and access to the voting process (such as say on pay, majority voting, the declassification of boards, and the dismantling of takeover defenses) have been adopted by companies or codified in rules and regulations. The most recent iteration of the trend centers on shareholder advocacy for proxy access—that is, enabling shareholders who meet certain ownership requirements to nominate board candidates and have the nominees included in the company’s own proxy materials. Proxy access was the number one corporate governance issue during the 2015 proxy season. There were over 100 proxy access resolutions submitted to companies in the 2015 season, as compared to only 12, 13 and 17 of these proposals that were submitted in 2012, 2013 and 2014. The proposals received majority support in 2015 at more than 60% of the companies voting on the issue (up from 27% in 2014). Average shareholder support for proxy access shareholder proposals was 55%—whether or not shareholders were otherwise generally supportive of management or management proposed a competing, more restrictive model of proxy access. Notably, a number of blue-chip companies (for example, Citigroup) supported shareholder proposals for proxy access in their definitive proxy materials and several companies (including GE, Bank of America and Prudential) voluntarily adopted proxy access in advance of their annual meetings. At least thirteen companies have adopted proxy access by laws in recent years (including at least seven in the 2015 proxy season, five of which are Fortune 500 companies). Proxy Access—Most Prevalent Shareholder Proposal (continues on next page) Page 15 Proxy Access—Most Prevalent Shareholder Proposal (continues on next page) Historical Background. In 2010, a combination of regulatory and legislative acts changed the federal proxy rules to allow stockholders to include their nominees for directors in the company’s proxy materials (“proxy access”). After proposing it multiple times, the SEC adopted a final rule on proxy access in August 2010. Although the proxy access debate predates the Dodd-Frank Act, Section 971 gave proxy access further legislative support by stating that the SEC may include, in its rules and regulations, “a requirement that a solicitation of proxy, consent, or authorization by (or on behalf of) an issuer include a nominee submitted by a shareholder to serve on the board of directors of the issuer.” Before the final proxy access rule became effective, a D.C. Circuit decision invalidated the rule on grounds that the SEC had acted “arbitrarily and capriciously” in adopting the rule without having conducted any cost-benefit analysis of the effects of adoption of the rule. The SEC determined not to seek to overturn the decision. At the same time, a 2010 SEC rule amendment facilitating shareholder proposals for proxy access opened a new channel for proxy access through “private ordering” (i.e., companies and their shareholders deciding in each case whether to adopt proxy access and, if so, on what terms). Following judicial invalidation of the SEC rule mandating proxy access, a number of companies received shareholder proposals for proxy access, but on varying terms and with no consensus as to what reflected “best practice.” Moreover, there was no significant upsurge in proxy access proposals being made or in the general level of support for them. This tentativeness changed in late 2014, with proxy access emerging as the key corporate governance issue of the 2015 proxy season. Recent developments. In November 2014, Whole Foods Inc. received a shareholder proposal that provided that shareholders owning at least 3% of the company’s stock for at least 3 years would have proxy access to nominate up to 25% of the company’s board (the “3-3-25” formulation that had been included in the vacated SEC proxy access rule). Whole Foods responded by announcing its intention to make its own proxy access proposal with more restrictive terms (a 9-5-25 formulation—9% stock ownership for at least 5 years for up to 25% of the board). Whole Foods then sought to exclude the shareholder proposal (under SEC Rule 14a-8(i)(9)) on the basis that it conflicted with the board’s proposal. The SEC granted no-action relief to Whole Foods in mid-December 2014, concurring with the company’s view that the shareholder proposal could be excluded as a conflicting proposal. By mid-January 2015, 24 other companies that had received 3-3-25 proxy access shareholder proposals followed suit, seeking no-action relief from the SEC to exclude the shareholder proposals as conflicting with the more restrictive proposals that the companies themselves intended to submit to a vote. The Council for Institutional Investors spearheaded a campaign for the SEC to reconsider the Whole Foods no-action relief, given the subsequent no-action requests and the companies’ restrictive frameworks for their proposed proxy access. The SEC’s Division of Corporate Finance announced in January 2015 that it was withdrawing its Whole Foods no action letter and that, pending a review of the “proper scope and application” of Rule 14a-8(i)(9), the SEC would not be issuing any noaction letters with respect to conflicting proposals during the 2015 proxy season. At the same time, in late 2014 and in 2015, key proxy firms and institutional stockholders announced broad support for proxy access. In a departure from its past practice of evaluating proxy access proposals on a case-by-case basis, ISS announced that it would now generally recommend in favor of proxy access proposals that follow the 3-3-25 model and that permit the aggregation of shareholders to meet the ownership requirement with “no or minimal limits”—and would “[r] eview for reasonableness any other restrictions on the right of proxy access” and would “[g]enerally recommend a vote against proposals that are more restrictive than these guidelines”. (ISS in fact recommended a vote in favor of each of the 83 2015 proxy access shareholder proposals for which it published a report. It recommended a vote against 7 of the 11 proxy access proposals submitted by management for which it published a report). In September 2014, TIAA-CREF sent letters to the 100 largest companies in which it had investments, voicing support for 3-3-25 proxy access and asking the companies to take voluntary action in 2015 to adopt proxy access. The Council for Institutional Investors indicated its support for the 3-3-25 framework. BlackRock confirmed its view of proxy access as a “fundamental right” and its preference for the 3-3-25 model with unlimited aggregation of shareholders to meet the ownership requirement. Other institutional stockholders (e.g., CalPERS, CalSTRS, Trowe, Norges and others) also Proxy Access—Most Prevalent Shareholder Proposal (continued from previous page) Page 16 Proxy Access—Most Prevalent Shareholder Proposal (continued from previous page) Proxy Access—Most Prevalent Shareholder Proposal (continues on next page) announced support for proxy access or issued policy updates indicating support. There is not necessarily consensus among institutional investors, however. Vanguard updated its proxy voting policies to indicate likely support for proposals with a 5-3-20 formulation with unlimited aggregation. Fidelity has been opposed to proxy access. Many institutional investors (including State Street) have a policy to review proxy access on a case-by-case basis. Campaign by shareholders for proxy access. In November 2014, the New York City Comptroller, acting on behalf of a number of New York City pension funds (through the Comptroller’s “Boardroom Accountability Project”), submitted proxy access proposals to 75 companies, utilizing the 3-3-25 formulation of the SEC’s invalidated rule and not providing any limitations on the aggregation of shareholders to meet the stock ownership requirement. Other shareholder proposals for proxy access were submitted to at least 25 other companies. Of the 100 proposals submitted in 2015, 82 went to a vote. Almost all of the 2015 proposals utilized the 3-3-25 formulation and permitted (with no limitations) the aggregation of shareholders. (By contrast, in 2014, of the 17 shareholder proposals submitted to a vote, only 10 contained the 3-3 thresholds and the others were more restrictive). Company responses to proxy access shareholder proposals (prior to the shareholder vote). In light of the SEC Division’s decision not to provide no-action relief with respect to conflicting proposals and the proxy advisory firms’ and institutional investors’ announced policies on proxy access, companies had varied responses to proxy access shareholder proposals that they received during the 2015 proxy season. Most of the companies (78 of the approximately 100 that received the proposals) included the shareholder proposal in their proxy statement along with a statement that the board opposed it. Others amended their bylaws to adopt proxy access (16 companies—including one, Prudential, which had not received a shareholder proposal for proxy access); negotiated a compromise with the shareholder proponent (typically to submit board proposals on proxy access to the shareholders) (at least 6 companies); included both the shareholder proposal and the company’s own proxy access proposal on more restrictive terms (7 companies); included the proposal along with a statement of management’s support (2 companies); or included the proposal and provided no board recommendation (1 company). Key Points Voting results. 72% of the proxy access proposals submitted by the New York City Comptroller and that went to a vote received majority support. About 60% of all of the proxy access proposals that went to a vote received majority support—whether or not shareholders were otherwise generally supportive of the board and whether or not the board proposed a competing, more restrictive proxy access proposal of its own. Voluntary adoption of proxy access. As noted, a number of blue-chip companies supported shareholder proposals for proxy access in their definitive proxy materials and several companies voluntarily adopted proxy access in advance of their annual meetings. At least 34 companies have adopted proxy access bylaws in recent years (including at least 21 in the 2015 proxy season, several of which are Fortune 500 companies). The future of proxy access. It remains to be seen whether proxy access will achieve as widespread adoption through private ordering as has been the case with majority voting and declassification in recent years. While most institutional investors appear to be in favor of proxy access, some (for example, Fidelity) are currently opposed. Those arguing against proxy access typically emphasize that “proxy access directors”—like “constituency” or “blockholder” directors— can be expected to operate based on allegiance to one or more specific shareholders rather than to all shareholders (and, in particular, that the allegiance would be to shareholders whose agendas were sufficiently compelling to them, and sufficiently different from the company’s agenda, for the shareholders to seek their own board seats). Notably, in July 2015, the SEC posted a staff working paper reporting on a study, conducted by the SEC’s Division of Economic and Risk Analysis, of the “tradeoffs” between private ordering and a universal regulatory mandate for proxy access. The study authors conclude that “private ordering may lead to a second best outcome”—prompting speculation that the SEC may be considering re-proposing mandatory proxy access rules. If it does not, private ordering can be expected to continue. Page 17 Proxy Access—Most Prevalent Shareholder Proposal (continued from previous page) Thus, boards should be prepared for the possibility of receiving proxy access shareholder proposals, including being aware of current developments and voting trends on the issue as shareholders’ views and market practice continue to evolve. Given the inconsistent views of institutional shareholders, companies should analyze their shareholder bases and consider engaging with their major shareholders with respect to the issue of proxy access. Boards should also be aware of the alternatives for responding to a shareholder proposal if one is received (including submitting the proposal to shareholders without a competing company proposal; implementing proxy access on the company’s terms and seeking to exclude the shareholder proposal as a conflicting proposal; submitting a competing company proposal and seeking to exclude the shareholder proposal as a conflicting proposal; or submitting a company proposal in addition to the shareholder proposal). Finally, if a precatory shareholder proposal is approved by shareholders, a board will have to determine its response, including whether and when to implement proxy access and on what terms. (This article has been adapted from material included in the 2016 Supplement to Takeover Defense, Mergers and Acquisitions, by Arthur Fleischer, Alexander Sussman and Gail Weinstein, to be published later this year by Wolters Kluwer Law & Business). Bankers’ “Prior Pitches” and Potential Conflicts—Key Post-Zale Practice Points for Banks and Boards (For a full discussion of the Zale decision, please see the Fried Frank M&A Briefing distributed to our clients on Oct. 9, 2015, which is available on the Fried Frank website under “Publications”) In re Zale Corporation Stockholder Litigation (Oct. 1, 2015) is the latest in a line of recent Chancery Court opinions that have focused on investment banks’ potential conflicts of interest when they represent target companies in M&A transactions. The decision raises a concern that a bank’s prior “pitches”—made as part of the bank’s routine marketing efforts—could lead to potential aiding and abetting liability for a bank when it acts as financial advisor to a target company that has been the subject of a pitch to a potential buyer and the bank does not timely and adequately disclose to the board that the pitch was made. Notably, the decision was made in the context of an arm’s length merger, a merger process with which the court found no fault, and no allegations of the bank’s work product having been problematic in any respect. At the motion to dismiss stage of litigation—during which the court is required to view all the evidence in the light most favorable to the plaintiffs and to reject dismissal of claims so long as it is “reasonably conceivable” that they could lead to recovery at trial—Vice Chancellor Parsons refused to dismiss claims against the financial advisor (the “Bank”) to Zale Corporation for aiding and abetting the Zale directors’ alleged breach of fiduciary duty in connection with Zale’s 2014 merger with Signet Jewelers Limited. While the court indicated that it was conceivable that the directors may have breached their duty of care by not having been more aggressive in their inquiring of the bank whether it had potential conflicts of interest, the court dismissed the breach of fiduciary duty claim against the directors because that failure would have been, at most, a breach of the duty of care, which would be exculpated under the company’s charter. As the directors therefore faced no potential liability for those actions, the court dismissed the claim against the directors. The court did not dismiss the claim against the Bank for aiding and abetting that potential breach, however, in light of the Bank’s having made a prior pitch to Signet about a possible transaction with Zale several weeks prior to Signet’s making its merger proposal to Zale. In so ruling, the court emphasized that the Bank had not disclosed the prior pitch to Zale’s board prior to the merger agreement being signed and that the same managing director of the Bank who was on the senior team making the pitch also was on the senior team acting as Zale’s advisor in connection with the merger. Bankers’ “Prior Pitches” and Potential Conflicts (continues on next page) Page 18 Bankers’ “Prior Pitches” and Potential Conflicts (continues on next page) Bankers’ “Prior Pitches” and Potential Conflicts (continued from previous page) Notwithstanding the Zale ruling, we expect that, even post-Zale, in most cases a bank should not have aiding and abetting liability based on a prior pitch. The critical practice point for boards and investment banks arising from the decision is that they both should be even more focused and deliberate than in the past about a bank’s timely and adequate disclosure to the target company board of the bank’s potential conflicts of interest with respect to an M&A transaction representation. With respect to prior pitches, the facts and circumstances relating to the pitch should be critical in determining whether it represents a potential conflict of interest. Banks, together with legal counsel, should establish an appropriate procedure for identifying and keeping track of pitches that should be disclosed in connection with the bank’s engagement as financial advisor to a target company. Parameters to determine which prior pitches may give rise to concern. Generally speaking, pitches relating to a target company that (i) were made within a specified period of time prior to the bank’s engagement by the target company in connection with an M&A transaction or (ii) were based on confidential information, or were made during a period when the bank had access to confidential information, of the target company that is still potentially current, should be considered as part of the bank’s conflict check in connection with its engagement. Once a prior pitch is identified as meeting these criteria, the following factors should be considered in determining whether disclosure is required: Valuation. Whether the pitch included a valuation; if so, whether the valuation was based on confidential information (or was derived at a time that the bank had access to the company’s confidential information); if the bank had access to confidential information, whether the bankers on the merger representation team had access to that information and, if so, the extent of the access and the extent to which the information was utilized; Timing. What the period of time was that elapsed between the pitch being made and the M&A representation (and whether intervening events dated the valuation included in the pitch); Same lead banker. Whether the same banker who will be (or has been) on the team responsible for the M&A representation was also on the team involved in making the pitch; and what level of seniority and involvement that banker had on each team; and Relationship with potential buyer. What the nature and extent of the relationship is (and was in the past) between the bank and the company to which the pitch was made; and how that relationship compares to the bank’s relationship with the target company. Cure of timely disclosure. Zale underscores the potential concerns relating to possible conflicts when all of the factors listed above are present (i.e., a prior pitch that included a valuation that may have been based on confidential company information, which was made shortly before the M&A representation began, and when the same senior banker was the lead person on both the pitch team and the M&A representation team). However, even in these circumstances, timely and adequate disclosure of the potential conflict should eliminate the potential for aiding and abetting liability. Timely disclosure will depend on the circumstances but could include any time before the merger agreement is signed so long as the target company board would have time to thoroughly consider the information and take any steps it determines to be appropriate in light of the information. (The ideal time for disclosure generally would be at the time of engagement). In most cases, should not be liability even if disclosure is not timely. The Zale ruling underscores the advantages of early disclosure of pitches that could be viewed as creating a potential conflict of interest for the bank. However, even if a prior pitch of this type is not timely disclosed, a bank should not have aiding and abetting liability because: Lack of evidence that valuation in the pitch affected the merger price. In Zale, the court rejected a dismissal of the aiding and abetting liability claim because, as required at the pleading stage of the proceedings, the court could not determine that it was “inconceivable” that the valuation included in the pitch affected the merger price negotiations. However, at trial, the claim cannot succeed unless there is evidence that the valuation in the pitch actually did affect the merger price. Evidence that would suggest a pitch valuation did not affect the merger Page 19 Bankers’ “Prior Pitches” and Potential Conflicts (continued from previous page) price would include the valuation having been based on public information only; the nature and substance of the back-and-forth negotiations indicating that the valuation in the pitch was not influential; the negotiations being conducted primarily by the companies’ respective executives rather than their bankers; the merger price exceeding the pitch valuation; and/or no competing bidders having emerged at a higher price, thus corroborating the validity of the merger price). Limited potential for directors’ actions to constitute breach under business judgment review. Moreover, in light of the recent KKR Financial decision by the Delaware Supreme Court (see the article in this M&A Quarterly), in cases involving non-controller transactions that have been approved by the disinterested stockholders, directors’ actions will be evaluated under the business judgment rule. KKR Financial established that, in a noncontroller transaction, even in the case of transactions to which the heightened scrutiny of Revlon or Unocal apply at the preliminary injunction stage of litigation, business judgment review will apply in a post-closing action for damages so long as there has been stockholder approval of the transaction through a fully-informed, noncoerced vote—even if the target board was not independent and disinterested, and whether or not the stockholder vote was required by statute or was voluntary. Under the business judgment standard, directors’ actions will not be viewed as a breach of fiduciary duty unless they amounted to “waste” or intentional misconduct. Without a finding of a breach by directors, there is, of course, no potential liability for aiding and abetting a breach. Practice Points for Boards: Aggressive inquiry in determining whether bank has potential conflicts of interest. Based on the Chancery Court’s 2014 Rural Metro decision, now supported by Zale as well as other recent court decisions, a board’s obligation to “oversee” its advisor’s work includes an obligation to “act reasonably” to determine whether a bank may have conflicts of interest. The court has emphasized the need for aggressive inquiry to uncover potential bank conflicts of interest, (particularly if there are “red flags” that the bank may have a potential conflict (although, in Zale there were no red flags). In light of Zale, in lieu of a single question to a bank asking for a conclusion about conflicts, a board should consider asking specific questions, including relating to prior pitches of a type that could give rise to a potential conflict. With respect to pitches, based on Zale, a board should inquire whether the bank has made pitches or had discussions relating to the company with potential buyers within a specified timeframe. The court suggested in Zale that the Zale board “might have” asked the Bank whether it had made any pitches about Zale during the past six months or at any time when the Bank had access to the company’s confidential information due to its recent representation of Zale in connection with a possible secondary offering by one its large stockholders. (Although not addressed by the court, we note that it would be relevant whether the access was available to the bankers working on the pitch rather than only available to the bankers working on the offering). Considering implications of bank’s possible conflicts. Once a bank discloses that it has potential conflicts of interests, the board must consider the implications of the information and determine whether the board should take steps to address any concerns. Depending on the circumstances, these steps could range from simply obtaining additional information from the banker, to discussing with the bank the establishment of “information walls”, to engaging a second bank for a fairness opinion, to not engaging or proceeding with the bank as the company’s advisor. Practice Points for Banks and Boards: Form of disclosure. Banks and boards should determine the preferred form of disclosure of a bank’s potential conflicts of interests—i.e., whether the disclosure will be made orally, on a page in the board book, in a disclosure letter to the board, in an addendum to the engagement letter, or as representations and warranties in the engagement letter. Indemnification. Banks and companies should review the indemnification provisions in bank engagement letters to ensure that the provisions operate as the parties intend in the event of potential aiding and abetting liability issues. Page 20 IRS Releases Shake up the Spin-Off World (continues on next page) In mid-September, the Internal Revenue Service (“IRS”) shook up the spin-off world when it issued two pronouncements aimed at tax-free spin-offs. The first, Revenue Procedure 2015-43, adds three transactions to the growing list of spin-off requirements and structures on which IRS will no longer issue a private letter ruling. The second, Notice 2015-59, identifies spin-off transactions that are of concern to the government and requests public comment. Both documents appear to be targeted at recent high-profile transactions that involved spinning off a company rich in investment assets (in particular publicly-traded stock) or the so-called ‘OpCo/PropCo’ transaction structure in which the spinco or its parent elects to be taxed as a real estate investment trust (REIT). Well prior to the release of Rev. Proc. 2015-43, the IRS’s private letter ruling policy as it relates to spin-offs has been the subject of significant change and uncertainty. Prior to 2003, taxpayers routinely applied for and received private letter rulings on all of Code Section 355’s requirements for tax-free treatment of a spin-off. These private letter rulings provided, in effect, a stamp of approval from the government that the intended tax consequences of the spin‑off – i.e., no tax to the two separating companies or their shareholders – would be obtained. However, in 2003, 2009 and 2013, the IRS systematically increased the scope and breadth of its spin-off “no-rule” policy: first, it announced that it would not rule on certain tax-free spin-off qualification requirements; second, it introduced a program to issue limited‑scope spin-off rulings on certain “significant issues;” and third, it declared that it would no longer rule on whether a spin-off transaction qualifies for tax-free treatment under Code Section 355 and, instead, would only consider private letter ruling requests on “significant issues.” In 2013, the IRS also identified a number of important spin-off issues that it said were under study by the government and for which no ruling requests would be considered. The reasons offered by the government for these changes varied, including a lack of IRS resources as well as more substantive concerns with spin-off structures and issues. The result was that the private letter ruling process was no longer a meaningful option, forcing taxpayers considering a tax-free spin-off to rely, in whole or in part, on opinions of counsel. The “no-rule” areas added by Rev. Proc. 2015-43 send a warning to companies that certain popular corporate separation transactions may now be in the government’s sights. Specifically, Rev. Proc. 2015-43 announces that, absent unique and compelling reasons, the IRS will not issue a private letter ruling on any spin-off transaction in which (i) either the spinco or its parent elects to be taxed as a REIT or regulated investment company or (ii) the fair market value of the gross assets relied on by either the spinco or its parent to satisfy Code Section 355’s active trade/business requirement is less than 5%of the fair market value of that corporation’s gross assets. The Rev. Proc. further provides that the IRS will not rule under any circumstance if (1) the fair market value of the investment assets of the spinco or its parent represents twothirds or more of the total fair market value of its gross assets, (2) the fair market value of the gross assets relied on by either the spinco or its parent to satisfy the active/trade business requirement is less than 10% of the fair market value of its investment assets, and (3) the ratio of the fair market value of the investment assets to the fair market value of the noninvestment assets of either the spinco or its parent is three times or more that of such ratio for the other company. Notice 2015-59, which cross-references Rev. Proc. 2015-43, identifies transactions of concern to the Treasury and the IRS, reveals that the tax consequences of these types of transactions are under study by the government, and requests comments from taxpayers and practitioners. The Notice indicates that the government is most concerned with transactions that would result in the spinco or its parent owning investment assets (including portfolio stock or securities) that are substantial as compared with the value of all of its assets and as compared with the value of the assets on which it relies to satisfy the active trade/business requirement. Also of concern, according to the Notice, are transactions in which the assets on which the spinco or its parent relies to satisfy the active trade/business requirement are small as compared with its other assets, as well as REIT conversion spin-off transactions, in particular those involving a relatively small business that satisfies the active trade/business requirement and transactions in which control over or use of the REIT’s assets is retained by the non-REIT party through a long-term lease or other arrangement. Rev. Proc. 2015-43 represents an important shift in IRS ruling policy. In the recent past, the IRS has issued private letter rulings on transactions similar to those cited in the Rev. Proc. and the Notice. For example, during the past two years, the IRS Releases Shake Up the Spin-Off World Page 21 IRS Releases Shake up the Spin-Off World (continued from previous page) IRS has blessed a spin-off in which the principal asset of the spinco was a large stake in a public company, as well as at least five Opco/Propco transactions in which the spinco converted to a REIT in connection with the transaction. As further evidence of the change in policy, less than a week prior to the release of the Rev. Proc. and Notice, Yahoo announced that it had been notified by the IRS that the IRS would not issue a private letter ruling on Yahoo’s proposed spin-off of Aabaco Holdings, Inc., a corporation newly formed to hold Yahoo’s Small Business division and Yahoo’s 384 million shares of Alibaba stock. (Two weeks after the release, Yahoo, undeterred, announced that it intends to proceed with its spin-off notwithstanding the IRS’s denial of its private letter ruling request and release of the Rev. Proc. and Notice. A number of other companies also have disclosed an intention to proceed with their own Opco/Propco transactions—for example, Darden recently announced that its proposed REIT spin-off is on track for the end of calendar year 2015). By its terms, Rev. Proc. 2015-43’s new ‘no-rule’ policies do not apply to private letter ruling requests filed prior to the September 14, 2015 release date. Government officials have announced that any future regulations or rulings based on the Rev. Proc. or Notice will be prospective only and that neither of the pronouncements changes current law in any way. However, government officials at American Bar Association and District of Columbia Bar meetings held just subsequent to release of the documents indicated that the government’s concerns expressed in the Notice could impact its audit and litigation strategy. It remains to be seen whether the IRS, based on the concerns articulated in the Notice, will challenge previously consummated spin-off transactions or the treatment of a spin-off intended to qualify as tax-free for which a limited-scope ruling is received under the grandfathering provisions of Rev. Proc. 2015-43. Thus, it will be particularly important to consult with counsel regarding the risks of effecting a spin-off transaction that could fall within the purview of the Rev. Proc. and/or the Notice. M&A Notes Activist Retains DuPont Stake After Losing Proxy Contest; DuPont CEO to Resign. In the 2nd Quarter 2015 Fried Frank M&A Quarterly, we noted the proactive and effective approach taken by DuPont that was probably a major factor in the company’s success in the proxy contest conducted by Nelson Peltz’s Trian Fund, the activist fund considered to have the most successful record in reaching settlements with target boards. Trian had criticized DuPont’s board and management for excess corporate spending and declining profitability. DuPont’s independent board and credible CEO were widely credited with positioning the battle as a debate about the competing visions that the company and Trian had as to how best to enhance stockholder value. DuPont was seen as having effectively communicated to its stockholders and the market the strengths of its program (which it took quick action to implement, including splitting off one of its businesses and increasing stock buybacks), as well as the weakness of Trian’s proposed program. Notwithstanding this background, Ellen Kullman, DuPont’s CEO since 2009, is reportedly retiring this month, with no explanation from DuPont as to the reason for her sudden departure. Trian, which retained its DuPont stake after losing the proxy contest, has made repeated statements about the possibility of its taking further action with respect to the company. Perhaps most significantly, the business that was separated from DuPont in response to the Trian challenge has struggled since the spinoff (including a cut in the dividend set at the time of the spinoff and a 64% decline in the share price since its first trading day) and the DuPont share price itself has declined 27% this year. Reports on Activism. Wall Street Journal. A study by The Wall Street Journal on the effect of activism on large U.S. companies has concluded: “Activism often improves a company’s operational results— and nearly as often doesn’t.” The study (reported Oct. 6, 2015) evaluated changes in earnings, margins, corporate spending, employee efficiency, and shareholder return as compared to peers after 71 activist campaigns, since 2009, at companies with market capitalizations over $5 billion. Of note, the study concluded that (i) “the best chance an activist has at driving outperformance at big companies is by getting a board seat, either for their own employees or a nominee they trust” (of the 38 situations in which outperformance of peers followed an activist challenge, the activist obtained a voice in the boardroom in 24 of them); (ii) activists are often seeking and often obtaining a voice in the boardroom (of the 71 campaigns reviewed, board representation was sought in 46 of them and was obtained in 40); and (iii) while stock buybacks are a common request of Page 22 activists generally, they are not frequently sought from large companies (of the 71 situations reviewed, stock buybacks were sought in only 25 of them). The report notes that obtaining a voice on the board does not ensure good stock performance. At 16 companies where the activist obtained board representation, the stock underperformed the peer group (including at J.C. Penney, which was the second-worst performer in the study compared with peers following an activist’s obtaining board representation). PWC. The PricewaterhouseCoopers 2015 Annual Corporate Directors Survey (released Oct. 6, 2015) indicates that 49% of the respondent boards reported that they had held extensive board discussions about activism in 2014, up from 43% in 2013. 32% of the boards reported that they had interacted with activists, up from 29% the year before. (Most of the boards in the survey serve companies with more than $1 billion in annual revenues). NACD. A National Association of Corporate Directors report (released Oct. 5, 2015) found that more than 20% of the boards responding to the survey had received activist approaches during 2014. Trian to Make One of Largest Activist Investments to Date. Nelson Peltz’s Trian Fund announced that, since mid-May, it has acquired about a 1% stake in General Electric Co., for about $2.5 billion—one of the largest activist investments to date, making Trian one of GE’s largest stockholders. Trian has not sought representation on the board. In an 81-page white paper on the company that Trian publicly released, Trian stated that it believes that by 2018 GE could expand operating margins, significantly increase leverage, and return 40% of the current market value of the company to stockholders through share buybacks. Newspaper accounts noted that Trian’s approach, broadly speaking, does not differ substantially from the company’s current strategy that is focused on a return to the company’s core industrial business by selling and spinning off other businesses. Trian stated that its decision to take a large stake was based on its view of the company’s potential after the company announced it would sell its financial services business and focus on its core industrial businesses. The investment has been viewed in the press as a “boost” to GE’s plan. Trian has publicly predicted that GE’s shares could be worth $40 – 45 by 2018—which would be about 57 – 77% above its closing price prior to the announcement. Prior to the investment, the stock had returned less than 1% over the last twelve months. After the announcement, the stock rose more than 4%. Court Rejects FTC Antitrust Challenge to Merger of Steris and Synergy Health. The U.S. District Court for the Northern District of Ohio (Sept. 28, 2015) rejected the Federal Trade Commission’s theory of harm to competition from the Steris-Synergy Health merger, finding that the FTC had not established that Synergy “probably would have entered the U.S. contract sterilization market by building one or more x-ray facilities in the U.S. within a reasonable period of time.” The court therefore denied the FTC’s request to temporarily halt the merger. The FTC will now determine whether an administrative action against the merger is still in the public interest in light of the court’s ruling. Delaware Supreme Court Clarifies How to Evaluate Director Independence. In Delaware County Employees Retirement Fund v. Sanchez (Oct. 2, 2015), the Delaware Supreme Court clarified that business and social relationships of a director must be considered together when determining the director’s independence for purposes of evaluating whether a demand on the board to institute derivative litigation should have been excused. The Supreme Court rejected the Chancery Court’s dismissal of the claims challenging the independence of the director at issue. The Supreme Court characterized the Chancery Court ruling as having been based on an evaluation of the director’s personal relationships with an interested director that was separate from the evaluation of his business relationships. Instead, the Supreme Court stated, personal and business relationships must be evaluated “in their totality”. According to the Supreme Court, the director’s “close friendship of over half a century” with the interested director was not a separate consideration from the director’s (and his brother’s) primary employment being with a company over which the interested director had substantial influence, but rather was “consistent with that deep friendship.” “[T]aken together, [these facts] support an inference that the director could not act independently of the interested party,” Chief Justice Strine wrote. The Chief Justice distinguished allegations of social relationships (i.e., moving in the same social and business circles), which would not typically suggest lack of independence, with “deeper human friendships” such as the one at issue in this case. The case is on remand to the Chancery Court to reconsider the issue of the director’s independence. M&A Notes (continues on next page) M&A Notes (continued from previous page) Page 23 Chancery Court Rejects Stockholder Challenge to $35 Million Stock Grant to Freeport-McMoRan CEO. In Shaev v. Adkerson (Oct. 5, 2015), the Delaware Chancery Court rejected the stockholder plaintiff’s claims that the Freeport-McMoRan board had breached it fiduciary duty by granting $35 million worth of restricted stock units to Richard Adkerson, the company’s CEO in the wake of the 2012 $9 billion merger of Freeport Co. with Plains Exploration and Production Co. and McMoRan Exploration Co. In connection with the merger, Adkerson’s authority had been limited to the combined company’s mining business, while a new CEO of the combined company’s oil and gas business was installed, and both CEO’s became subject to the authority of the combined company’s board chairman. Adkerson’s pre-existing employment agreement provided that he would receive $46 million in severance if he terminated his employment for “good cause,” which was defined to include a loss of authority. The court held that the business judgment rule applied to the board’s grant of the stock units and that the decision to grant the stock units to Adkerson in an attempt to avoid litigation over his employment agreement met the “low hurdle” of a rational business purpose. We note that inherent in the court’s decision was that the change in Adkerson’s position had a reasonable potential to constitute “good reason” under his employment agreement. NYSE Expands Hours During Which Companies Must Notify It Prior to Releasing Material News. The New York Stock Exchange has amended Section 202.06 of the Listed Company Manual, effective as of September 28, 2015. The amendment requires notification to the NYSE prior to a company’s releasing “material information” during certain pre-market hours. Previously, listed companies were required to notify the NYSE “at least ten minutes in advance of releasing material news if such release [would] take place shortly before the opening of trading on the Exchange or during Exchange market hours.” Under the amended rule, companies must provide the notice to the NYSE (and a copy of any written form of the announcement) at least ten minutes in advance of releasing the news if the release would take place at any time from 7:00 a.m. Eastern time to the end of the NYSE trading session (typically 4:00 p.m. Eastern Time). According to the NYSE, the change is intended to facilitate “thorough dissemination of material news” and an “orderly opening” of the trading day in connection with material news that is released before the 9:30 a.m. opening of the NYSE trading day. In addition, under the amendment, the NYSE may (in its discretion) temporarily put into effect a pre-market halt in trading in a security of a listed company, between 7:00 a.m. and the start of the NYSE trading day, when the company has provided notice of its intent to release material information, has requested that the NYSE halt trading pending the dissemination of its announcement, and has had trading in the security halted on another national or foreign securities exchange on which it is listed. A pre‑market trading halt by the NYSE would halt trading in the security on the other exchanges on which the security is listed (many of which have trading days that begin before 9:30 a.m. Eastern Time). Due to practical concerns relating to Designated Market Makers’ need to manually close the order book for a security at the end of the NYSE trading day, the NYSE also has requested (but is not requiring) that companies that intend to release material news after the close of the NYSE trading day wait until the earlier of (i) the publication of the official closing price of the security on the NYSE or (ii) fifteen minutes after the NYSE’s scheduled end of the trading day. The NYSE also has advised that listed companies release material news through a Form 8-K or other SEC filing or through a press release to the major news wire services. (Suggested release of news by telephone, fax or hand delivery was deleted from the advisory text of the Section.) TheCorporateCounsel.net reported on its blog that it conducted an informal poll of how the new policy relating to release of material news will affect NYSE-listed companies’ earnings announcements. The poll results indicate that 27% of the respondents plan to make earnings announcements prior to 7:00 a.m. Eastern Time and 35% plan to do so after 4:00 p.m. (25% responded that they will make earnings announcements “when they want to”.) As in the past, the determination of whether earnings releases will constitute “material news” will depend on whether the NYSE agrees with the company’s judgment that the news is material—and the key issue typically will be whether the earnings are or are not near expectations. M&A Notes (continued from previous page) Page 24 M&A/Private Equity Group Partners: If you would like to receive Fried Frank M&A Quarterly via email, you may subscribe online at friedfrank.com/subscribe. New York Abigail P. Bomba firstname.lastname@example.org Jeffrey Bagner email@example.com Andrew J. Colosimo firstname.lastname@example.org Aviva F. 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Mollen firstname.lastname@example.org Dan Oates email@example.com Graham White firstname.lastname@example.org Frankfurt Dr. Juergen van Kann email@example.com *Senior Counsel A Delaware Limited Liability Partnership. The articles included in Fried Frank M&A Quarterly are general in nature and are not intended to provide legal advice with respect to any specific situation confronted by our clients or other interested persons. Please consult with counsel before taking any action with respect to any matters discussed in Fried Frank M&A Quarterly.