In the controversial 2003 Omnicare v. NCS decision, the Delaware Supreme Court held that an agreement which fully locks up a proposed merger vote and contains no fiduciary out will be unenforceable under Delaware law. Ever since that decision, advisors have cautioned the boards of directors of selling corporations against agreeing to deal protective measures that, individually or in the aggregate, amount to a violation of the board’s fiduciary duties by making the deal a mathematical certainty. Similarly, buyers have been advised against being too aggressive in their efforts to lock up their hard-fought deals, for fear that the deals will either be blocked pre-closing, or unwound postclosing. And, this fear is well-placed, as deal protection devices, similar to takeover defenses, require the enhanced scrutiny of Unocal, even in transactions not governed by Revlon. Moreover, in the private equity context, these deal protection devices are viewed with an additional measure of suspicion. Accordingly, buyers in general, and sponsors in particular, need to tread carefully in their quest to lock up a deal.
Perhaps the protective measure that has most fallen out of favor since Omnicare, particularly in sponsor-backed transactions, is the “force-the-vote” provision. This deal protection device requires a target board to submit the buyer’s fully negotiated deal to a shareholder vote, notwithstanding any change or withdrawal of the target board’s recommendation as a result of a topping bid or other rationale. Despite the perceived “preclusive and coercive” nature of this deal protection device, a target board can still meet its required fiduciary duty by changing or withdrawing its recommendation in response to a competing proposal and giving the power to the target’s shareholders to determine which offer is superior. In fact, Section 146 of the Delaware General Corporation Law expressly permits this “force-the-vote” mechanism. This certainly makes sense on its own, as the shareholders are then able to decide for themselves whether to approve or reject the buyer’s deal. However, these provisions may be deemed preclusive and coercive under a Unocal analysis if utilized in connection with voting agreements that lock up a significant percentage of the shareholder vote, which would run afoul of Omnicare. And, if faced with the choice between a forcethe- vote provision and shareholder voting agreements, most buyers will choose the latter. Thus, the use of force-the-vote provisions have largely faded.
A review of recent LBO transactions, however, indicates that force-the-vote provisions may be making a comeback, albeit in a modified fashion. Under a “full” force-the-vote provision, a target board is required to submit the deal to a vote of the shareholders regardless of any events or circumstances that transpire postsigning, including the emergence of any topping bids. In contrast, a modified, or “limited”, force-the-vote provision provides certain exceptions to the target board’s requirement to submit the deal to a vote. These exceptions are generally designed to allow the target board to comply with its fiduciary duties in response to future events.
Of the eleven domestic, going-private transactions so far this year (accomplished by means of a long-form merger), six contain some form of a limited force-the-vote provision. These limited force-thevote provisions generally provide that, if the target board negotiates a superior proposal with an interloper, the board may terminate the transaction before it holds the shareholder meeting and enter into the alternative transaction. Additionally, these agreements generally require that the target board determine in good faith that the alternative transaction is a “superior proposal,” after making such determination based on the advice of its outside financial and legal advisors that its fiduciary duties require it to terminate the transaction. Moreover, they require that notice be given to the buyer in advance of the target board’s ability to terminate the transaction, so that the buyer can exercise any match right that it may have.
While the limitations that have been worked into these provisions certainly make them more palatable from an Omnicare perspective, they need to be viewed in combination with other deal protection devices, particularly any voting agreements the buyer has signed with the seller’s shareholders. If the buyer can force a target shareholder vote, the buyer will not want the shareholders who have signed voting agreements to be able to terminate those agreements if the target board withdraws or modifies its recommendation of the transaction. Even if the buyer cannot force a shareholder vote, it may want to protect its offer by including provisions in the voting agreement that prevent the shareholder parties from voting for alternative proposals for some period of time following termination of the merger agreement.
The obvious question is: “what is the value of this limited force-the-vote provision, if it does not apply to the most likely cause of the buyer’s deal failing?” While in the abstract, it may provide little value, these limited force-the-vote provisions perhaps provide a psychological advantage; any competing bid needs to result in a termination of the existing transaction before the provision falls away, which is usually a high threshold to meet. In addition, they protect the buyer from the so-called “gold under the headquarters” scenario, in which the target board realizes, post-signing, that their company is worth more than they agreed to in the transaction.
Despite any benefits that a force-thevote provision offers, its use certainly is not warranted in all circumstances. For example, while permitted under Delaware law, force-the-vote provisions are not enforceable in all jurisdictions. Moreover, even if the target board has conducted an exhaustive market check, as noted above, these provisions may be deemed preclusive and coercive under a Unocal analysis if utilized in connection with a quantum of other deal protection devices. Nonetheless, in an effort to ward off topping bids, buyers should consider including a force-the-vote provision, particularly where a topping bid is similar in value but the buyer’s deal offers other important advantages, such as speed and certainty of closing, all cash consideration and low regulatory risk.