The Delaware Court of Chancery recently issued two bench rulings and a memorandum opinion addressing “Don’t Ask, Don’t Waive” standstill provisions commonly included in confidentiality agreements in connection with an auction sale of a public target company. Following these rulings, target boards and their advisers should be well informed about such provisions and their impact on the auction sale process.
"Don’t Ask, Don’t Waive" Standstill Provisions
Protecting confidential information is of particular importance in an auction sale process due to the number of bidders involved and the inherent risks of sharing proprietary information with multiple bidders, some of which will include strategic bidders that are competitors of the target company. Thus, one of the first documents distributed to bidders in an auction sale process is a confidentiality agreement, which not only protects proprietary information but also protects against the risk of bidders sharing information with each other, particularly in respect of price or other deal terms.
Confidentiality agreements used in connection with an auction sale process for a public target company typically include a "standstill" provision preventing a prospective bidder from buying target stock and taking certain other actions to acquire control of the target unless the target’s board expressly approves such actions. The standstill often includes a provision — which has become known as a "Don’t Ask, Don’t Waive" provision — restricting a bidder from making any public or private requests to the target board to waive or amend the provisions of the standstill. Moreover, merger agreements used in connection with an auction sale process sometimes include a non-solicitation provision restricting the target board from waiving or amending any standstill with other bidders. These deal protection devices principally serve to enhance the ability of the target board to run a value-maximizing auction that encourages bidders to come forth with their best and final offer and to prevent bidders from making a hostile takeover bid after failing to win the auction and consummate a friendly deal.
On November 27, 2012, Vice Chancellor Laster of the Delaware Court of Chancery issued a bench ruling in In re Complete Genomics, Inc. Shareholder Litigation, C.A. No. 7888-VCL (Del. Ch. Nov. 27, 2012) enjoining the enforcement of a "Don’t Ask, Don’t Waive" provision in a confidentiality agreement in connection with BHI-Shenzhen’s acquisition of Complete Genomics in an auction sale process. (In addition to the "Don’t Ask, Don’t Waive" provision in the confidentiality agreement, the merger agreement contained a non-solicitation provision prohibiting the target from waiving any standstill with other bidders.) Complete Genomics initiated the auction process in June 2012 in the face of financial hardship and entered into confidentiality agreements with nine potential bidders, four of which included a standstill provision, and at least one of which included a "Don’t Ask, Don’t Waive" provision. The court, citing various Delaware decisions, observed that a target board has "an ongoing statutory and fiduciary obligation to provide a current, candid and accurate merger recommendation," and a duty to "give a meaningful, current recommendation to stockholders regarding the advisability of a merger including, if necessary, recommending against the merger as a result of subsequent events." In issuing the ruling, Vice Chancellor Laster stated that "Don’t Ask, Don’t Waive" provisions prevent the flow of information to the target board, and that by agreeing to the "Don’t Ask, Don’t Waive" provision, the target board "impermissibly limited its ongoing statutory and fiduciary obligations to properly evaluate a competing offer, disclose material information, and make a meaningful merger recommendation to its stockholders."
On December 17, 2012, Chancellor Strine of the Delaware Court of Chancery issued a bench ruling in In re Ancestry.com Shareholder Litigation, C.A. No. 7988-CS (Del. Ch. Dec. 17, 2012) requiring proxy disclosures regarding "Don’t Ask, Don’t Waive" provisions in confidentiality agreements in advance of a stockholder meeting in connection with Permira Funds’ acquisition of Ancestry.com through an auction sale process. (In addition to the "Don’t Ask, Don’t Waive" provisions in the confidentiality agreements, the merger agreement contained a non-solicitation provision prohibiting the target from granting waivers under confidentiality agreements entered into with other bidders but had a carve-out stating that the target may fail to enforce and waive any standstill.) The court highlighted the potency of "Don’t Ask, Don’t Waive" provisions but did not enjoin the enforcement of the "Don’t Ask, Don’t Waive" provision, and ultimately found that "Don’t Ask, Don’t Waive" provisions are not per se invalid. Chancellor Strine, noting that the Court of Chancery is a court of equity and is usually tasked with determining whether a matter is equitable under the circumstances, observed that "[p]er se rulings where judges invalidate contractual provisions across the bar are exceedingly rare in Delaware, and they should be. . . . I know of no statute, I know of nothing, that says that ["Don’t Ask, Don’t Waive"] provisions are per se invalid. . . . And I don’t think there has been a prior ruling of the Court to that effect."
On May 21, 2013, the Delaware Court of Chancery issued a memorandum opinion in Koehler v. NetSpend Holdings Inc., C.A. No. 8373-VCG (Del. Ch. May 21, 2013) finding that the target board did not act reasonably to maximize share price in connection with Total Systems Services Inc.’s acquisition of NetSpend Holdings Inc., particularly as a result of failing to waive "Don’t Ask, Don’t Waive" provisions in confidentiality agreements previously entered into by the target. (In addition to the "Don’t Ask, Don’t Waive" provisions in the confidentiality agreements, the merger agreement contained a non-solicitation provision effectively prohibiting the target from waiving any standstill with other bidders.) NetSpend entered into confidentiality agreements with two private equity firms who were interested in buying a minority stake in NetSpend. Shortly thereafter, NetSpend received an indication of interest from Total Systems regarding the acquisition of 100 percent of NetSpend, and NetSpend subsequently terminated its discussions with the private equity firms but did not waive the "Don’t Ask, Don’t Waive" provisions. The court, referencing Complete Genomics, found that the board "blinded itself" to any potential interest from the private equity firms and ultimately enjoined enforcement of the "Don’t Ask, Don’t Waive" provisions at oral argument.
Complete Genomics raised considerable concerns about the enforceability of “Don’t Ask, Don’t Waive” provisions and, more broadly, the potential impact the ruling might have on auction sales. Ancestry.com largely scaled back such concerns but noted the potency of “Don’t Ask, Don’t Waive” provisions. NetSpend demonstrated that “Don’t Ask, Don’t Waive” provisions will continue to be scrutinized by the Delaware Court of Chancery. In any event, the rulings suggest that target boards and their advisers are well advised to take a closer look at the use and implications of “Don’t Ask, Don’t Waive” provisions, particularly in the auction sale context. Below are some practical take-aways from the rulings:
- Bench rulings are limited: Complete Genomics and Ancestry.com were “bench rulings” or oral rulings issued from the bench which generally lack the detailed and fulsome analysis of memorandum opinions and do not have binding precedential effect. Chancellor Strine in Ancestry.com noted the limited and time-pressured nature of bench rulings and stated that such rulings “shouldn’t make broad law.” Such rulings do, however, provide insight into the court’s views on the matter at hand.
- “Don’t Ask, Don’t Waive” provisions have a legitimate, value-maximizing purpose: In an auction sale context, the target board has the duty to obtain the highest value reasonably available to stockholders (known as “Revlon duties”). Achieving this requires the target board and its advisers to devise and control the auction process and seek to ensure that bidders will put forth their best and final offers. By preventing bidders from requesting waivers of the “Don’t Ask, Don’t Waive" standstill provisions, the target board better controls the auction process and protects against hostile takeover bids, particularly after bidders have been given access to the target’s proprietary information. Chancellor Strine in Ancestry.com recognized the value-maximizing purpose of "Don’t Ask, Don’t Waive" provisions and stated that "the value-maximizing purpose has to be to allow the seller as a well-motivated seller to use it as a gavel, to impress upon the people that it has brought into the process the fact that the process is meaningful; that if you’re creating an auction, there is really an end to the auction for those who participate. And therefore, you should bid your fullest because if you win, you have the confidence of knowing you actually won that auction at least against the other people in the process."
- "Whoa, this is a pretty potent provision" (quoting from Ancestry.com): Despite its value-maximizing purpose, "Don’t Ask, Don’t Waive" provisions are, as Chancellor Strine expressed in Ancestry.com, pretty potent provisions. Vice Chancellor Laster took the view in Complete Genomics that a "Don’t Ask, Don’t Waive" provision "resembles a bidder-specific no-talk clause," and Vice Chancellor Glasscock suggested in NetSpend that a "Don’t Ask, Don’t Waive" provision could result in a target board being willfully blind to competing offers. The combination of a non-solicitation provision in a merger agreement and a "Don’t Ask, Don’t Waive" standstill provision in a confidentiality agreement yields a result in which the target board cannot seek competing offers from other potential bidders (due to the non-solicitation provision) and the other potential bidders cannot make a topping bid (due to the "Don’t Ask, Don’t Waive" provision). Thus, target boards and their advisers must ensure that these provisions are used with care and for value-maximizing purposes consistent with directors’ fiduciary duties in order to withstand judicial scrutiny.
- Be informed: A clear take-away from the rulings is that target boards and their advisers should be informed about the use and potency of "Don’t Ask, Don’t Waive" provisions. The court in Ancestry.com noted that the Ancestry.com board and financial adviser were not aware of the "Don’t Ask, Don’t Waive" provision and hinted that such lack of awareness stands in the face of the value-maximizing purpose of using the "Don’t Ask, Don’t Waive" provision as an auction gavel. The court in NetSpend was particularly concerned that the target board did not consider, or did not understand, the full impact of the "Don’t Ask, Don’t Waive" provisions, particularly in conjunction with the non-solicitation provision in the merger agreement, and found that the board’s actions in this regard were not "informed, logical and reasoned" as required by directors’ fiduciary duties. Additionally, target companies should make sure that their stockholders are informed about the use and potency of "Don’t Ask, Don’t Waive" provisions prior to a stockholder vote on the sale of the target.
- Restrictions on private waiver requests of particular concern: Vice Chancellor Laster in Complete Genomics initially denied the plaintiffs’ motion for a preliminary injunction and motion for reconsideration based upon the misunderstanding that the standstill agreement in question only prohibited public waiver requests, but allowed private waiver requests. After these motions were denied, the defendants submitted a letter to the court noting that the standstill agreement did in fact contain a blanket "Don’t Ask, Don’t Waive" provision prohibiting both public and private waiver requests. It was for this reason that the court enjoined the target from enforcing the standstill agreement pending trial and found that the "Don’t Ask, Don’t Waive" provision had the same disabling effect as a no-talk clause and was therefore impermissible.
- Nature of restricted bidder irrelevant: The court in Complete Genomics suggested that its ruling would stand regardless of who the restricted bidder was and whether there was a low likelihood that the restricted bidder would make a topping bid or a high likelihood that the restricted bidder would breach the terms of the standstill agreement. Indeed, the restricted bidder in Complete Genomics was "a powerful capitalist with powerful capitalistic incentives" (in the words of the court), but did not indicate a desire to make a topping bid and was not even a party to the litigation. The court in NetSpend acknowledged that there was a small likelihood that other bidders would come forward with a competing offer, but ultimately determined that the target board would never know with certainty unless the "Don’t Ask, Don’t Waive" provisions were removed.
- Consider revising standstill provision: In light of the rulings discussed above, target companies may wish to consider revising their standstill agreements to include (i) a carve-out allowing restricted bidders to privately request a waiver of the standstill in a manner that does not require the target to make a public announcement or (ii) a “fall away” provision stating that the standstill restrictions will automatically terminate upon the occurrence of certain events, such as the target entering into, or publicly announcing its plan to enter into, a definitive agreement for all of or a controlling interest in the target.