In two recent decisions, both penned by Vice Chancellor Strine, the Delaware Court of Chancery offers some practical guidance on how directors can satisfy their duty to maximize stockholder value under the teaching of Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc., 506 A.2d 173 (Del. 1986), where a merger agreement is not subject to a pre-signing public auction. It is well recognized that when a board of directors determines to sell control of a Delaware corporation, the board’s duty shifts from that of a protector of corporate policy and effectiveness to that of a facilitator of a process to maximize value for the stockholders who will be “cashed out.” While the phrase “Revlon duties” is often used as shorthand for a duty to shop or auction the company prior to recommending stockholder approval of a merger, Revlon itself imposes no such duty. Indeed, Revlon does not require any particular process, or even an auction at all. Regardless of what process is followed, however, directors must satisfy themselves that the transaction at issue is in the stockholders’ best interests and, in light of other alternatives, offers the best value reasonably obtainable at the time. In this context, “go-shop” provisions become relevant because they provide a mechanism by which a board, in compliance with Revlon, can execute a binding merger agreement without having conducted a pre-signing auction. Instead, the board shops the company during a reasonable period of time after signing the merger agreement. Of course, the presence or absence of a go-shop provision, in and of itself, is not dispositive of whether a deal not subject to a pre-signing auction will satisfy the directors’ fiduciary duties. The analysis remains fact and context specific. That said, the two cases discussed below offer some insight into the utility and limitations of go-shop provisions.
In re The Topps Co. S’holder Litig.
In In re The Topps Co. S’holder Litig., 926 A.2d 58 (Del. Ch. 2007), Michael Eisner (“Eisner”) proposed to acquire The Topps Company, Inc. (“Topps” or the “Company”) in a going private transaction through a private equity firm he controls, The Tornante Group, LLC, in conjunction with another private equity firm, Madison Dearborn Capital Partners, LLC. The merger negotiations were set against the backdrop of a recent threat of a corporate control contest. To avoid that contingency, the Company agreed to explore the auction of one of its divisions. No serious buyer surfaced. The next year, 2006, insurgents surfaced again and were on the verge of guaranteeing the election of their slate of directors when Arthur Shorin (“Shorin”), the Company’s Chairman and CEO, brokered a compromise. The board was expanded, and Shorin was re-elected along with all of the insurgent nominees. The incumbent and insurgent directors disagreed over whether and how the Company should be sold. In particular, the insurgent directors equivocated as to whether a sale was advisable, but insisted that if a sale did occur, any such sale should be preceded by a public auction process.
After an ad hoc committee comprised two incumbent directors and two insurgent directors deadlocked as to whether the Company should negotiate with Eisner, one of the other incumbent directors, who was independent, negotiated the terms of a deal with Eisner. The material terms of the merger were as follows. Eisner would acquire Topps for $9.75 per share, which yielded a total deal price of approximately $385 million. While Eisner was not willing to do a deal that required a pre-signing auction, he was agreeable to a go-shop. The “open” go-shop provision authorized Topps to solicit alternative bids and discuss a potential transaction with any buyer during an initial 40-day period. After this initial “Go-Shop Period,” Topps was required to cease all talks with potential bidders unless a bidder had already submitted a “Superior Proposal” or the board determined that the bidder was an “Excluded Party.” A Superior Proposal was defined as one to acquire at least 60% of the Company on terms that would provide more value to Topps’ stockholders than the deal with Eisner. An Excluded Party was defined as a potential bidder that the board considered reasonably likely to make a Superior Proposal. Topps was permitted to continue talks after the close of the Go-Shop Period with a bidder that submitted a Superior Proposal or a bidder that the board determined to be an Excluded Party. Topps was permitted to consider unsolicited bids after the Go-Shop Period if such bids were Superior Proposals or reasonably likely to lead to one. Topps could terminate the agreement with Eisner to accept a Superior Proposal; however, such termination was subject to Eisner’s matching rights. The reciprocal termination fee provision of the merger agreement provided that a termination by either party during the Go-Shop Period would trigger an $8 million termination fee (plus an expense reimbursement) approximating 3.0% of the transaction value. A termination by either party after the Go-Shop Period would trigger a $12 million termination fee (plus an expense reimbursement) approximating 4.3% of the deal value.
Shortly before the merger agreement was approved by the board, Topps’ chief competitor, The Upper Deck Company (“Upper Deck”), expressed its willingness to make a bid for Topps. Indeed, Upper Deck had been interested in a friendly deal with Topps since 1999. The Company signed the merger agreement without responding to Upper Deck. After the merger agreement was signed, the Company’s banker commenced the go-shop process, contacting more than 100 financial and strategic buyers. The only serious bidder to emerge was Upper Deck, which proposed a friendly merger at $10.75 per share, subject to additional due diligence. Because the offer was made prior to the close of the Go-Shop Period, the Company was free to continue negotiations after the close of the period upon a finding that Upper Deck’s bid was reasonably likely to lead to a Superior Proposal. The board voted against such a finding, and the Go-Shop Period closed. Undeterred, Upper Deck made a second, unsolicited offer at $10.75 per share and no financing contingency. Upper Deck also committed to resolve any antitrust issues, issues that, realistically, were not an impediment to closing. For its own protection, Upper Deck insisted on a $12 million reverse break-up fee, the same amount that Eisner had negotiated for himself. Topps refused to find that Upper Deck had presented a Superior Proposal.
As a condition to receiving due diligence materials, Upper Deck signed a Standstill Agreement, which included provisions prohibiting Upper Deck from making (i) any public disclosure with respect to a proposed deal with Topps and (ii) open market purchases of Topps’ stock, launching a tender offer, soliciting proxies, or otherwise seeking control of Topps for a period of two years without Topps’ consent. After Upper Deck’s bid, Topps made public disclosures that distorted Upper Deck’s expression of interest and called into question the seriousness of Upper Deck’s commitment to a potential deal. Due to the Standstill Agreement, Upper Deck was contractually bound not to respond. Prior to the stockholder vote on the merger with Eisner, Upper Deck requested Topps’ consent for relief from the Standstill Agreement so that Upper Deck could launch a tender offer. Topps refused. Subsequently, but before the date of the stockholder meeting, Upper Deck and a group of Topps’ stockholders moved for a preliminary injunction to enjoin the merger vote. The crux of the plaintiffs’ application for a preliminary injunction was threefold. They alleged that (i) Topps failed to disclose material facts about the merger negotiation process in its proxy materials; (ii) Topps’ directors breached their fiduciary duties by failing to release Upper Deck from the Standstill Agreement’s restrictions against responding to Topps’ characterizations of the deal process and against launching a tender offer; and (iii) Topps denied its stockholders the opportunity to decide for themselves whether to accept the merger with Eisner’s group or to possibly secure a higher-priced deal with Upper Deck. Having found that plaintiffs demonstrated a likelihood of success on the merits of their claims, the court entered an injunction. Pursuant to the injunction, the vote on the Eisner merger was enjoined until Topps’ disclosed material facts omitted from its proxy materials and Upper Deck was released from the Standstill Agreement so that it could comment publicly on its negotiations with Topps and so it could launch a non-coercive tender offer for Topps on terms as least as favorable as those already offered by the Eisner group.
In accordance with the terms of the injunction, Upper Deck commenced a tender offer on June 25, 2007. Contemporaneously, Topps stockholders initiated a proxy contest to unseat certain Topps board members and to oppose the merger. Although the tender offer, which was originally scheduled to close on July 24, 2007, was extended until August 29, 2007, Upper Deck withdrew its offer on August 21 after it came to an impasse with Topps regarding Upper Deck’s allegations that Topps refused to negotiate in good faith, thus foreclosing the possibility that certain conditions precedent to a deal could be met. As of the date of these materials, the special meeting of Topps stockholders entitled to vote on the merger with Eisner’s group is scheduled for September 19, 2007. A proxy context is ongoing.
In course of rendering its decision on the injunction, the Court of Chancery made a few comments regarding the deal structure that merit mention. While the cornerstone of the deal protection package was an open go-shop provision that allowed Topps to shop the company for a 40-day period, the Court commented on Eisner’s match rights and the transaction fee. The Court opined that Eisner’s match rights were not preclusive of a topping bid and indeed were typical of match rights that have been overcome in other deals. Although the court thought the post-go-shop termination fee of approximately 4.3% of total deal value was a bit high, it was justifiable in light of the comparatively small size of the deal with Eisner and because the fee was inflated by an expense reimbursement component.
In re Lear Corp. S’holder Litig.
In In re Lear Corp. S’holder Litig., 926 A.2d 94 (Del. Ch. 2007), Lear Corporation (“Lear” or the “Company”), one of the world’s leading suppliers of automotive interior systems, has suffered along with the American automobile industry over the past several years. To deal with this financial adversity, Lear initiated a restructuring. In the midst of that restructuring, Carl Icahn ("Icahn") began amassing a substantial interest in Lear through open market purchases. In October 2006, Icahn increased his holdings to 24% as part of a secondary offering. In connection with that offering, the Company agreed to waive the provisions of Delaware's anti-takeover statute, 8 Del. C. § 203, and Icahn, in turn, agreed to cap his position in the Company at 24%. Prior to this time, in December 2004, the Company had allowed its stockholder rights plan to expire and had adopted corporate governance policies prohibiting the re-institution of its poison pill absent a stockholder vote or the approval of a majority of independent directors.
During the time that Icahn was increasing his holdings, the Company's CEO, Robert E. Rossiter (“Rossiter”), was exploring his options for accelerating the receipt of deferred compensation benefits to which he would otherwise be entitled only upon retirement. Ultimately, Rossiter decided against any acceleration of retirement benefits, arguably to avoid the negative publicity of a senior executive pulling money out of an already ailing company that had been flirting with the prospect of bankruptcy in its not too distant past. Fortuitously, he would not have to confront that issue again as Icahn, in January 2007, expressed his interest in taking Lear private in a transaction that would retain existing management. Following this expression of interest, the Lear board of directors, a majority of whom were independent, created a special committee to negotiate with Icahn. The special committee, however, ceded control of the negotiations to Rossiter.
The material terms of the proposed merger called for Icahn to pay $36 per share for Lear’s stock. Icahn was amenable to a post-signing go-shop, but indicated that he would pull his offer if the board elected to auction the company pre-signing. A 45-day “closed” go-shop was conditioned on the Company’s agreement to a termination fee. The parties eventually agreed on a two-tiered reciprocal termination fee proving that (i) a termination followed by a competing agreement within the go-shop period would trigger a fee of 2.79% of the equity value of the transaction (or 1.9% of the enterprise value); and (ii) a termination followed by a competing agreement after the close of the go-shop period would trigger a fee of 3.52% of equity value (or 2.4% of the enterprise value). In the event of a superior proposal, Icahn had a match right. If, however, he did not exercise his match right, he was obligated to vote his entire 24% interest in the Company in favor of the competing superior proposal.
Stockholder plaintiffs moved to enjoin the stockholder vote on the merger, arguing that the Lear directors breached their Revlon duties and failed to disclose material facts necessary for the Company’s stockholder to cast an informed vote. The court was not persuaded by plaintiffs’ Revlon claim. First, the decision to forego an auction was found reasonable in light of a limited pre-signing market check that yielded no serious bids. Additionally, the court was unprepared to disturb the board’s conclusion that, on balance, it was preferable to forego an auction rather than run the risk of disrupting the Company’s business and losing the value of Icahn’s premium bid. Second, the court noted that the highest termination fee, 3.52%, was within a range of reasonableness and would not be likely to deter a meaningful topping bid. Also in connection with the termination fee, the court opined that, when considering the preclusive effect of a termination fee on a competing bidder, it is often more significant to look at enterprise value (i.e., debt plus equity) because typically the competing bidder must not only pay for the company’s equity, but also must refinance its debt. Third, the court was influenced positively by Icahn’s agreement to vote his 24% interest in favor of a Superior Proposal that he was not willing to match.
Although the Court of Chancery concluded that plaintiffs failed to establish a reasonable likelihood of success on their Revlon claim, the Court was not overly impressed with the 45-day go-shop provision. Unlike the go-shop in Topps, the go-shop in Lear was “closed.” In other words, in order to obtain the advantage of the lower termination fee under the two-tiered structure, a definitive agreement had to be executed within the go-shop period. In the Court’s view, it was unlikely that any such deal could be accomplished given the terms of the merger agreement with Icahn, as well as certain practical considerations. For example, a rival bidder would need time for adequate due diligence. Then, such bidder would need to submit a superior proposal to the Company along with a near definitive merger agreement. For the deal to progress, the Lear board would have to declare the competing bid a superior proposal and then allow Icahn 10 days to match. If Icahn did not match, then the board would be free to accept the Superior Proposal and negotiate the final deal documents.
Despite its rejection of plaintiffs’ Revlon arguments, the Court did grant a limited injunction based on plaintiffs' disclosure arguments. According to plaintiffs, the Company’s proxy materials omitted a material fact by not disclosing that Rossiter–the lead negotiator of the proposed merger with Icahn–had an interest in a going private transaction as a means by which his deferred compensation benefits could be accelerated while he was still employed. The stockholder vote was postponed to allow for supplemental disclosures. The vote was taken at Lear's annual meeting on July 16, 2007. The proposed merger with Icahn did not receive approval from the holders of the requisite majority in interest of Lear’s stock, and the merger agreement terminated by its own terms.