In In re Comverge, Inc. Shareholders Litigation, Consol.C.A.No. 7368-VCP (Del. Ch. Nov. 25, 2014), the Delaware Court of Chancery denied the Comverge board of directors’ motion to dismiss a claim for breach of fiduciary duty relating to the board’s acceptance of certain deal protection mechanisms. This decision offers important guidance to directors in negotiating and accepting reasonable break-up fees under the Revlon standard of review.
This case arises from the acquisition of Comverge by HIG Capital at $1.75 per share, representing a total price of approximately $48 million. The $1.75 per share price was a discount to the market price of $1.88 per share.HIG also agreed to make a $12 million bridge loan to Comverge in the form of convertible notes at a conversion price of $1.40 per share, totaling 8,571,428 shares.
The merger agreement contained a two-tier break- up fee: “Comverge would pay HIG $1.206 million if Comverge entered into a superior transaction during the 30-day go-shop period, and $1.93 million after the go-shop period expired. Additionally, Comverge agreed to reimburse HIG for up to $1.5 million in expenses under either scenario.” Thus, at minimum, the total payable to HIG would be 5.55% of the deal’s equity value.
The court also considered it reasonably conceivable that the bridge loan could have worked in tandem with the termination fees to prevent a topping bid. A topping bid would have to be at least $1.76 per share to beat HIG’s offer, but HIG could then convert the bridge loan into equity at the $1.40 conversion price, thereby adding $3.085 million to the purchase price. As a result, the total break-up fee could be between 11.6% and 13.1% of the transaction’s equity value.
With this in mind, the court stated that it was reasonably conceivable that the directors acted unreasonably in agreeing to the potentially preclusive termination fees and the convertible notes. The court noted that in the context of a deal with a negative premium to the market, potential findings of unreasonable deal protection measures are cause for particular concern. This circumstance distinguishes this case from many in which the court has not questioned the reasonableness of similar protection devices. The court concluded that it was conceivable that the board’s passive acceptance of the break-up fee terms without any pushback was “so far beyond the bounds of reasonable judgment that it seems essentially inexplicable on any ground other than bad faith.”
In sum, directors must be particularly mindful of the size of break-up fees, especially when a deal involves a negative premium to the market. Directors must also be aware that convertible notes may be considered in tandem with traditional break-up fees to prevent a topping bid. Otherwise, the passive acceptance of such break-up fees may result in breach of fiduciary duty concerns.