On May 27, 2014, Morgan’s Foods, Inc. announced the completion of a $20.6-million acquisition of Morgan’s Foods by Apex Restaurant Management, Inc. Under the terms of the merger, Apex purchased the outstanding shares of Morgan’s Foods for $5.00 per share in cash, which netted Morgan’s Foods’ shareholders a 100% premium over the pre-announcement trading price for their shares. The transaction closed with 93% of the outstanding shares of Morgan’s Foods voting in favor of the deal, representing 99% of the shares voted. Tucker Ellis represented Morgan’s Foods in the transaction.
Tucker Ellis Fends Off Eleventh-Hour Effort to Halt Shareholder Vote. Shortly after the deal was announced in March, Morgan’s Foods’ shareholder-plaintiff Enrique Elortegui filed a putative class action against Morgan’s Foods and its board of directors alleging that the directors breached their fiduciary duties to the company’s shareholders in connection with the proposed merger. Just three days before the shareholder vote on the transaction, Elortegui moved for a temporary restraining order to block the vote from proceeding. Tucker Ellis attorneys opposed the motion on behalf of Morgan’s Foods, arguing that enjoining the shareholder vote would irreparably harm the company and its shareholders and jeopardize the synergistic transaction. On May 21, 2014, U.S. District Court Judge Solomon Oliver, Jr. denied Elortegui’s attempt to block the shareholder vote, finding that the shareholder action was unlikely to succeed. The shareholder vote went forward as scheduled on May 22, 2014, and the transaction closed days later.
The Challenged Provisions: “Don’t Ask, Don’t Waive.” Elortegui claimed in his lawsuit that the directors breached their fiduciary duties by inserting preclusive “don’t ask, don’t waive” (“DADW”) provisions into the confidentiality and non-disclosure agreements (“NDAs”) entered into between Morgan’s Foods and prospective bidders that prevented the directors from considering alternative buyers. As is common during the due diligence process, Morgan’s Foods had provided potential acquirers non-public information about the company subject to NDAs that restricted the acquirer from various actions relating to the acquisition and control of Morgan’s Foods. The NDAs also contained DADW provisions prohibiting the potential acquirer from making any public or private request that Morgan’s Foods waive such standstill restrictions.
Although an issue of first impression in Ohio until now, the enforceability of DADW provisions has become a subject of recent debate for deal lawyers, litigators, and courts alike. On the one hand, DADW provisions legitimately serve to maximize share value by encouraging potential acquirers to participate fully in the bid process. When used in conjunction with other deal protection devices, however, several recent decisions from the Delaware Chancery Court have scrutinized the use of DADW provisions in merger transactions arguing that such provisions may operate to prohibit the target company’s board from learning of and considering potentially superior offers. See Koehler v. Netspend Holdings Inc., No. 8373-VCG, 2013 WL 2181518 (Del. Ch. May 21, 2013); In re Ancestry.com Inc. Shareholder Litig., No. 7988-CS (Del. Ch. Dec. 17, 2012) (Transcript); In re Complete Genomics, Inc. Shareholder Litig., No. 7888- VCL (Del. Ch. Nov. 27, 2012) (Transcript); In re Celera Corp. Shareholder Litig., No. 6304- VCP, 2012 WL 1020471 (Del. Ch. Mar. 23, 2012).
Ohio Federal Judge Issues Guidance on “Don’t Ask, Don’t Waive” Provisions. In denying Elortegui’s request for injunctive relief, Judge Oliver held that “the circumstances of this case do not warrant the same concerns regarding the DADW/standstill provisions” that existed in the Delaware cases. First, the merger agreement between Morgan’s Foods and Apex did not prohibit Morgan’s Foods from waiving the standstill provisions. The agreement also contained a “fiduciary out” that allowed the directors to consider any unsolicited bid. Additionally, Morgan’s Foods undertook a “thorough, comprehensive search for the highest bid” that was fully described in the proxy statement. Finally, no rival bidder had come forward. Under these facts, Judge Oliver concluded that Elortegui was unlikely to succeed on his breach of fiduciary duty claim based on the DADW provisions.
Best Practices for Deal Lawyers. Judge Oliver’s decision provides some insight for prudent deal lawyers looking to maximize the potential benefits of DADW/standstill provisions without inviting increased shareholder or judicial scrutiny.
- Consider drafting the DADW provision to terminate automatically once the target company has entered into a definitive merger agreement. Automatic termination allows the company to force full participation in the auction process through use of a DADW provision but retains the board’s ability to consider any superior offers once the board has committed to sell the company.
- If DADW provisions are used, the integrity of the bidding process may be scrutinized more carefully. As the court noted, DADW provisions are not per se invalid. Rather, whether such provisions are enforceable depends on all the circumstances of a case, including the number of potential buyers, the quality of the process, and the extent to which the deal was shopped. The bidding process also should be fully described in the proxy statement.
- If the DADW provision does not terminate automatically, the merger agreement should not prevent the target from waiving the DADW provision. The merger agreement should also contain an effective fiduciary out that allows the directors to consider certain unsolicited bids consistent with their fiduciary obligations to the company’s shareholders. Alternatively, any prohibition on waiver should be paired with its own fiduciary out.
- The company should publicly file the merger agreement contemporaneously with, or soon after, its announcement of the deal. Early filing of the merger agreement gives a potential acquirer a full and fair opportunity to submit its best bid before completion of a definitive merger. Under these circumstances, the lack of a rival bidder may help negate a shareholder-plaintiff’s challenge to the deal process or stock purchase price.
- Consider disclosing the existence of the DADW/standstill provisions in the proxy statement. Disclosure prevents a plaintiff-shareholder from arguing that the company withheld a material fact surrounding the merger transaction.