M&A Financial Advisor Liability: Lessons from Recent Delaware Rulings

Transcription

1 Presenting a live 90-minute webinar with interactive Q&A M&A Financial Advisor Liability: Lessons from Recent Delaware Rulings Navigating Aiding and Abetting Breach of Fiduciary Duty Claims, M&A Litigation Settlements and Fee Awards, and More THURSDAY, JULY 31, pm Eastern 12pm Central 11am Mountain 10am Pacific Today s faculty features: Kevin Miller, Partner, Alston & Bird, New York Steven M. Haas, Partner, Hunton & Williams, Richmond, Va. Blake Rohrbacher, Director, Richards Layton & Finger, Wilmington, Del. The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions ed to registrants for additional information. If you have any questions, please contact Customer Service at ext. 10.

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5 M&A Financial Advisor Liability: Lessons from Recent Delaware Rulings Steven M. Haas Partner, Hunton & Williams LLP Kevin Miller Partner, Alston & Bird LLP Blake Rohrbacher Director, Richards, Layton & Finger, P.A.

6 Discussion Outline 1. Recent trends in judicial perspectives on fee awards and M&A litigation settlements Revisiting the fee awards outlined in Sauer-Danfoss Judicial scrutiny of disclosure-only settlements 2. Potential impact of Rural/Metro, Chen v. Howard-Anderson, and other recent Delaware decisions Potential gatekeeper implications for claims of aiding and abetting breach of fiduciary duty claims Evolving Revlon standards Disclosure practices 3. Other issues related to financial advisors and M&A litigation 4. Q&A 6

7 Recent Trends in Judicial Perspectives on Fee Awards and M&A Litigation Settlements 7

8 The Proliferation of M&A Litigation Proliferation of M&A litigation is well-established Studies demonstrate that nearly every public company merger results in stockholder litigation Cornerstone Research found that 93-94% of transactions valued over $100M were subject to litigation in 2011, 2012, and 2013* Per Cornerstone Research, there was an average of 5 lawsuits per transaction in 2013 Anecdotal evidence indicates that even small M&A deals attract lawsuits See, e.g., Craftmade ($24 million), Access to Money ($10 million), and Icagen ($50 million) *Source: Olga Koumrian/Cornerstone Research: Shareholder Litigation Involving Mergers and Acquisitions Review of 2013 M&A Litigation 8

9 Settlement of M&A Litigation In 2013, Cornerstone Research found that 88% of lawsuits were resolved before closing. Of those lawsuits: 88% were settled 9% were withdrawn by plaintiffs 3% were dismissed by courts Of the reported settlements*: 75% were based only on additional disclosures 16% were based on disclosures and other terms 6% provided a reduction in termination fee 2% were based on a monetary payment of at least $5M to the stockholder class Note: 2% is the lowest rate of monetary settlements reported by Cornerstone Research over a four-year period *Source: Olga Koumrian/Cornerstone Research, Settlements of Shareholder Litigation Involving Mergers and Acquisitions: Review of 2013 M&A Litigation 9

10 Rise of Disclosure-Only Settlements Thus, most lawsuits result in disclosure-based settlements From defendants perspective: Avoids risk of injunction/delay in closing No additional consideration to stockholders Class-wide release of claims against defendants From the plaintiffs perspective: Litigation is concluded quickly Avoids time/costs/risk associated with summary judgment motions or post-closing trial Counsel still entitled to a fee award under the corporate benefit doctrine Cornerstone Research reviewed the fees approved in disclosureonly settlements between and found: Average fee request was $562,000 Average fee awarded in Delaware was $456,000 Average fee awarded outside Delaware was $545,000 10

11 Disclosure-Based Settlements (cont d) These disclosures in these settlements generally focus on: 1. Management projections Including line-items and free cash flow 2. Financial advisor s analyses performed in rendering fairness opinion 3. Financial advisor s compensation and prior relationships with target and buyer 4. Background section of the proxy statement Thus, disclosure-based settlements are relevant to financial advisors because they often involve (i) the descriptions of their financial analyses or (ii) background activities in which they participated (including relationships with counter-parties) 11

12 Fee Awards for Disclosure-Based Settlements In In re Sauer-Danfoss Inc. S holders Litig., (Del. Ch. 2011), the Court tried to categorize the types of disclosures and corresponding fee awards into three categories: Disclosures of questionable quality $75K to $225K One or two meaningful disclosures $400K to $500K Particularly significant or exceptional disclosures $800K or more The court s opinion included Appendices with fee award precedent falling in these three buckets 12

13 New Developments Since Sauer-Danfoss Now, three years after Sauer-Danfoss, Vice Chancellor Laster seems to be revisiting the possible fee award ranges In Gen Probe (Del. Ch. 2013), Vice Chancellor Laster suggested he may need to recalibrate the ranges set forth in Sauer-Danfoss He nearly refused to approve the disclosure-only settlement negotiated by the litigants Ultimately awarded $100,000 fee award to plaintiffs counsel Indicated that many disclosure-only fee awards appear excessive, especially when compared to fees awarded for monetary benefit (i.e., increased price) 13

14 New Developments Since Sauer-Danfoss (cont d) And, in Complete Genomics (Del. Ch. 2013), Vice Chancellor Laster awarded $315,000 in attorneys fees Plaintiffs fee request of $1.4M was reduced to $315,000 Court compared disclosure-based fee awards to those awards where litigation results in increased merger consideration: [W]hen I contrast this to the $500,000 that I awarded for a real money case that went through trial to an actual judgment it is impossible for me to equate the CEO disclosure with that type of benefit. Vice Chancellor Laster was referring to AT&T Mobility Wireless (Del. Ch. 2013), where the Court awarded $746,785 to plaintiffs counsel who recovered $3,461,617 (including interest) for appraisal class 14

15 New Developments Since Sauer-Danfoss (cont d) Then-Chancellor (now Chief Justice) Strine has also cautioned against the Sauer-Danfoss buckets In In re Talbots (Del. Ch. 2013), then-chancellor Strine made clear there is no presumption of a $400,000-$500,000 fee award under Sauer-Danfoss [T]he one thing I want to say is I ve seen this in many briefs now, this whole idea that if you have a disclosure settlement, you sort of automatically start with 4 or $500,000. That s not the law. That s never been the law. [emphasis added] It s just it s becoming a relatively routine part of the standard settlement brief, and I think it needs to be taken out. Because that is not, in my understanding, the law. I don t even believe that the author of that decision [i.e., Sauer-Danfoss] believes that the law means that Although defendants agreed to $237,500 fee award, then-chancellor Strine said he would have granted only $50-$100K or possibly refused to approve settlement 15

16 New Developments Since Sauer-Danfoss (cont d) However, not all Delaware judges appear to be revisiting this issue In particular, Vice Chancellor Glasscock has referred to Sauer- Danfoss several times in awarding fees that generally fall within the ranges outlined in that case In re KSW (Del. Ch. 2013): awarding $360,000 and calling it a relatively modest amount under Sauer-Danfoss In re True Religion (Del. Ch. 2014): awarding $400,000, referring to the importance of predictability in this area, and noting that Vice Chancellor Laster has done us a service by giving the ranges in Sauer-Danfoss 16

17 Renewed Scrutiny of Disclosure-Based Settlements Historically, most M&A settlements have been approved by the court, even if the plaintiffs requested fee award was reduced A small number of recent rulings, however, have rejected (or threatened to reject) settlements Court has independent obligation to review settlements and analyze consideration being given in exchange for class-wide release of claims against the defendants Where the claims appeared to lack merit, a peppercorn of consideration was often deemed sufficient In some cases, however, the courts have determined the claims lacked so much merit that the release was not supported by adequate consideration In re Transatlantic (Del. Ch. 2013) 17

18 Renewed Scrutiny (cont d) In In re Medicis (Del. Ch. 2014), then-chancellor Strine rejected a disclosure-only settlement as inadequate to support a release Court emphasized that, to alter the total mix, disclosures generally need to contradict, not reinforce, management s recommendation : As I ve said before, most people would not employ lawyers to just help them sleep better at night. Like, I thought I got a really good deal. Now I know I got an excellent deal, and I got to pay the people who sued saying I got a stinky deal. Note that Chancellor Strine made similar comments in In re Coventry (Del. Ch. 2013), and In re Transatlantic (Del. Ch. 2013) 18

19 Renewed Scrutiny (cont d) In Medicis (Del. Ch. 2014), then-chancellor Strine also recognized the punishing effect the rejection had on defendants, who understandably wanted to settle the litigation: I recognize that there are costs to just dealing with these suits and that there are uncertainty factors, and that none of the information that was disclosed is anything that the defendants would have been worried about disclosing because it didn t contradict anything they had already told the stockholders. The court also expressed concern about prolixity of disclosures: More, more, more was a pretty bad disco song, and it is not helpful to stockholders either. 19

20 Other Recent Cases Reflecting Scrutiny Other recent rulings reflecting growing scrutiny of disclosure-only settlements and M&A litigation generally: In re Acme Packet, Inc. (Del. Ch. 2013): Court denied motion to expedite where plaintiff challenged, among other things, how certain management projections were used by the financial advisor Corwin v. MAP Pharmaceuticals, Inc. (Del. Ch. 2013): Court denied motion to expedite The plaintiffs simply desire more disclosure about the banker s work and more details about the process, without making any colorable showing that the additional details they seek would alter in any meaningful sense the mix of information now available to stockholders. Rubin v. Obagi Med. Prods., Inc. (Del. Ch. 2014): Court rejected settlement where disclosures were not material Court suggested that defendants would succeed on motion to dismiss 20

21 Renewed Scrutiny of Settlements In contrast, Vice Chancellor rejected a settlement in Rural/Metro on different grounds There, Vice Chancellor Laster believed that the claims were strong and being settled for inadequate consideration See also In re Revlon (Del. Ch. 2010) (replacing lead counsel) Court rejected the proposed settlement and allowed objectors counsel to pursue claims, ultimately leading to: Post-trial adjudication of liability against primary financial advisor Monetary settlement with the directors and a secondary financial advisor Similar is In re Theragenics (Del. Ch. 2014), where Vice Chancellor Laster rejected a settlement for disclosures and appraisal remedies Court questioned process, valuation, and accuracy of supplemental disclosures Not clear if these rulings are a new judicial trend, but at least cautionary tales for plaintiffs and defendants 21

22 Potential Impact of Rural/Metro, Chen v. Howard-Anderson, and Other Recent Delaware Decisions 22

23 Financial Advisor Liability In In re Del Monte (Del. Ch. 2011), the Court of Chancery granted a preliminary injunction against a merger Court found a reasonable probability that the target s financial advisor had aided and abetted the board s breach of fiduciary duty Court said that chances of liability for directors was vanishingly small, but the buck stops with the Board. Ruling was based on a preliminary record and financial advisor was not a party Financial advisor later settled the case for $23.7M while denying any wrongdoing Thus, the case never proceeded to trial on whether the financial advisor aided and abetted the board s breach 23

24 Aiding and Abetting a Breach of Fiduciary Duty Four Elements of a Claim Under Delaware Law Under Delaware law, the four elements of a claim for aiding and abetting a breach of fiduciary duty include: (i) the existence of a fiduciary relationship; (ii) breach of fiduciary duty; (iii) knowing participation in that breach by defendants; and (iv) damages proximately caused by that breach. Morgan v. Cash (Del. Ch. 2010). 24

25 Background Rural/Metro On June 30, 2011, Rural/Metro Corporation merged with an affiliate of Warburg Pincus LLC and each share of Rural common stock was converted into the right to receive $17.25 in cash. Plaintiffs alleged that the members of the Rural board of directors breached their fiduciary duty of care in approving the merger and by failing to disclose material information in the Company s definitive proxy statement. Plaintiffs further contended that defendant RBC Capital Markets, LLC, a financial advisor to Rural, aided and abetted the directors breach of fiduciary duty. Before trial, the directors settled ($6.6 million) as did Moelis & Company LLC, Rural s other financial advisor ($5 million). On March 7, 2014, the Court of Chancery issued a post-trial opinion in which it held that RBC was liable for aiding and abetting breaches of fiduciary duty by the Rural Board. In its decision, the Court requested further briefings on damages and plaintiffs request for fee shifting. Damages to be determined based on subsequent briefing. Possible issues for appeal. 25

26 Standard for Determining Whether a Breach Has Occurred Reasonableness v Gross Negligence In assessing whether RBC was liable for aiding and abetting a breach of fiduciary duty by the Rural/Metro Board, the Court in Rural/Metro applied the Revlon reasonableness standard of review. In Revlon, for purposes of assessing the Court of Chancery s ruling on a motion for a preliminary injunction, the Delaware Supreme Court created an intermediate standard of review (between the protective presumption of the business judgment rule and the more exacting entire fairness standard) in connection with a sale of a company. The Revlon standard of review, like the Unocal standard of review for defensive measures, permits a court to assess the reasonableness of a board s actions. Revlon v MacAndrews & Forbes (Del. 1986). In Smith v. Van Gorkom (Del. 1985), the Delaware Supreme Court held: We think the concept of gross negligence is also the proper standard for determining whether a business judgment reached by a board of directors was an informed one. Compare the protocol set forth in William T. Allen, Jack B. Jacobs & Leo E. Strine, Jr., Function over Form: A Reassessment of Standards of Review in Delaware Corporation Law, 56 Bus. Law. 1287, 1311 (2001): [O]nce the target company board s defensive actions are found to satisfy or fail the Unocal test, any further judicial review of those actions under the business judgment or entire fairness standards is analytically and functionally unnecessary. 26

27 Standard for Determining Whether a Breach Has Occurred Reasonableness v Gross Negligence (cont d) Chen v. Howard-Anderson (Del. Ch. 2014) also addressed this issue Vice Chancellor Laster found that record supported inference that directors actions in conducting a sale process fell outside a range of reasonableness Summary judgment was granted for the outside directors, however, because plaintiff failed to state a breach of loyalty claim and the directors were exculpated from liability under Section 102(b)(7) of the DGCL Claims were not dismissed, however, for two officer-defendants who were not entitled to exculpation 27

28 Are Financial Advisors Gatekeepers? Rural/Metro Court stated that: Directors are not expected to have the expertise to determine a corporation s value for themselves, or to have the time or ability to design and carry out a sale process. Financial advisors provide these expert services. In doing so, they function as gatekeepers. The Court s discussion of gatekeeper refers to financial advisors and other gatekeepers as agents. Vice Chancellor Laster has stated that this discussion is merely part of an analysis of Section 102(b)(7) of the DGCL Virtually all investment bank engagement letters confirm that the financial advisor is acting as an independent contractor and not as an agent or fiduciary. 28

29 Can a Board s Decisions Be Unreasonable if They Result from Deceit or Information Hidden from the Board? According to the Rural/Metro Court: When it approved the merger, the Board was unaware of RBC s last minute efforts to solicit a buy-side financing role from Warburg, had not received any valuation information until three hours before the meeting to approve the deal, and did not know about RBC s manipulation of its valuation metrics. Under the circumstances, the Board s decision to approve Warburg s bid lacked a reasonable informational basis and fell outside the range of reasonableness. The combination of RBC s behind the scenes maneuvering, the absence of any disclosure to the Board regarding RBC s activities, and the belated and skewed valuation deck caused the Board decision to approve Warburg s offer to fall short under the enhanced scrutiny test. Because RBC misled the Board, this is not a case where a Board s independent sense of the value of the company is sufficient to carry the day. 29

30 Potential Practice Implications in M&A Transactions Post Del Monte Trends Continue Implications for stapled finance and winning bidder finance, particularly in connection with sales of public companies? Cf. Morton s (Del. Ch. 2013) Potential requests for additional disclosure of or restrictions on unrelated work for actual or potential counterparties. Potential additional requests for disclosure and covenants regarding material relationships with potential counterparties. Potential additional requests for disclosure regarding other incentives and motivations. Potential Increased scrutiny of second banks hired to address actual or potential conflicts. 30

31 Potential Implications for Financial Advisors Review and consideration of revisions to internal policies and procedures possibly including: Firmwide standards for analytical approaches and materials provided to clients e.g., a board book template to enhance consistency. Requirement that board books identify material changes from prior board book provided to the client. Firmwide standards for DCF calculations and other critical assumptions and inputs including equity risk premium, risk free rate, size premium, cost of debt, capital structure, calculation of beta, projections, synergies, NOLs, etc. Increased review by internal committee of all or most, not just final, board books being provided to client. Increased use of guidance sessions with internal committee to reduce risks associated with longitudinal changes. Composition of investment banking teams performing engagements increased use of M&A specialists to enhance consistency. Composition of internal committee and additional timing/procedural requirements for internal committee review process. Increased focus on target/board/special committee process, particularly in single bidder or limited bidder situations. Increased focus on accuracy of proxy disclosure ticking and tying. Increased focus on avoiding inappropriate or vague and ambiguous oral or written communications. Potential shift by some investment banks affiliated with large global and other financial institutions away from providing certain advisory services that are more likely to generate gatekeeper or other risks of liability. Increased fees to offset increased risks. 31

32 Other Recent Delaware Decisions Affecting Financial Advisors 32

33 Disclosure Issues Relating to Financial Advisors Delaware courts have focused on various disclosure issues relating to financial advisors Financial advisors serve a critical function by performing a valuation of the enterprise upon which its owners rely in determining whether to support a sale. Before shareholders can have confidence in a fairness opinion or rely upon it to an appropriate extent, the conflicts and arguably perverse incentives that may influence the financial advisor in the exercise of its judgment and discretion must be fully and fairly disclosed. In re Atheros (Del. Ch. 2011). 33

34 Disclosure Issues (cont d) Rulings in 2010 and 2011 generated attention Art Technology (Del. Ch. 2010) Merger enjoined until company disclosed fees paid by Oracle to target s financial advisor (Morgan Stanley) Significant relationship revealed during discovery caused court s concern Required actual dollar amount of fees paid Atheros (Del. Ch. 2011) Disclosure stated that banker would receive a customary fee, a portion of which is payable in connection with the rendering of its opinion and a substantial portion of which will be paid on completion of the Merger. Court said this was misleading where 98% of fee was contingent on closing Stockholders should know that their financial advisor, upon whom they are being asked to rely, stands to reap a large reward only if the transaction closes and, as a practical matter, only if the financial advisor renders a fairness opinion in favor of the transaction. 34

35 Recent Disclosure Issues Two recent cases have addressed potential disclosure of a sell-side financial advisor s discussions with a buyer before the sell-side engagement In re Coventry (Del. Ch. 2013) Court awarded $975,000 in attorneys fees in disclosure-only settlement, including disclosure that target s bank initially pitched buyer and discussed valuation Court said not necessary anything wrong with that, but it was interesting and notable [I]t s possible that [the buyer s] decision to make an offer and its bidding strategy were in some way influenced by Greenhill s presentations. By presenting a range of value for potential bids in the industry, Greenhill could have signaled what the sweet spot was in the industry. 35

36 Recent Disclosure Issues (cont d) In re Zale Corp. (Del. Ch. 2014) Financial advisor pitched buyer on potential merger while buyer was already in discussions with target Pitch team included some members who later were engaged by target Financial advisor already represented target in equity offering and was ultimately engaged by target for merger Financial advisor did not disclose these discussions to the target when it was engaged as the sell-side advisor Target was informed later; disclosed in proxy statement 36

37 Recent Disclosure Issues (cont d) In re Zale Corp. (cont d) Target conducted investigation after learning of prior discussions but concluded no effect on ability to provide independent advice Court: No basis to enjoin Reasonable grounds for using the financial advisor (experience with company) No evidence the financial advisor favored the buyer over other potential bidders Presentation to buyer was made in ordinary course Target s board acted reasonably in investigating the potential conflict Although court did not enjoin, note that under Rural/Metro, a failure to disclose a conflict in certain circumstances might be argued to constitute the knowingly participated element of aiding and abetting a breach of duty 37

38 Recent Disclosure Issues Affecting Financial Advisors Other disclosure issues relating to financial advisors have also been litigated recently In In re Medicis (Del. Ch. 2014), the court addressed the sufficiency of disclosures regarding the fact that the target s financial advisor had a hedge that would be terminated in connection with the transaction and thus result in a financial benefit to the advisor Court found that disclosure was sufficient, but noted in dicta the importance of identifying financial benefits beyond the standard advisory fee [W]e always worry about the banker's incentive to secure a deal under their core investment banking contract they signed in their representation because they get paid a lot less if there is no deal than if there is a deal of any kind. You have to know in this context that there is an additional benefit that [the financial advisor] could get in this transaction. And I think the preliminary proxy already said that (emphasis added). 38

39 Recent Disclosure Issues Affecting Financial Advisors In re MTR Gaming Group, Inc. (Del. Ch. 2014) On a motion to expedite, VC Parsons reached a weak conclusion that we should proceed in a narrow way Focused on allegedly vague disclosures about financial advisor s prior services to the target and the buyer Indicated that such claims standing alone would probably not justify expedited proceedings, but there were just enough colorable claims in the aggregate to move forward 39

40 Recent Disclosure Issues Affecting Financial Advisors (cont d) In re Ancestry.com (Del. Ch. 2012) Then-Chancellor Strine concluded that plaintiffs stated a claim where proxy statement did not disclose that financial advisor declined to render a fairness opinion based on certain original projections I m not going to grant a self-flagellating injunction saying that the board has to disclose that they actually believed the sensitivity case. But I do think that the failure to disclose the objective fact about the inability to give a fairness opinion is a -- reasonably likely would be found to be a breach of fiduciary duty of someone who is seeking the stockholders to vote. So on that, I would give the plaintiffs their due. 40

41 Disclosure of Management Projections Earlier cases suggested that management projections may not be material The Delaware Supreme Court considered and rejected a claim that the Board breached its fiduciary duties by failing to disclose management s projections. Appellants are advocating a new disclosure standard in cases where appraisal is an option. They suggest that stockholders should be given all the financial data they would need if they were making an independent determination of fair value. Appellants offer no authority for their position and we see no reason to depart from our traditional standard.... [plaintiffs] say, in essence, that the settled law governing disclosure requirements for mergers does not apply, and that far more valuation data must be disclosed where, as here, the merger decision has been made and the only decision for the minority is whether to seek appraisal. We hold that there is no different standard for appraisal decisions. Skeen v. Jo-Ann Stores, Inc. (Del. 2000). 41

42 Disclosure of Management Projections (cont d) In recent years, the Court of Chancery has suggested that management projections should be disclosed because they are material Netsmart (Del. Ch. 2007): It would therefore seem to be a genuinely foolish (and arguably unprincipled and unfair) inconsistency to hold that the best estimate of the company s future returns, as generated by management and the Special Committee s investment bank, need not be disclosed when stockholders are being advised to cash out.... Indeed, projections of this sort are probably among the most highly prized disclosures by investors. Investors can come up with their own estimates of discount rates or (as already discussed) market multiples. What they cannot hope to replicate are management s inside view of the company s prospects. Maric (Del. Ch. 2010): [I]n my view, management s best estimate of the future cash flow of a corporation that is proposed to be sold in a cash merger is clearly material information. 42

43 Disclosure of Management Projections (cont d) However, the most recent case to address the issue found that projections were not material and, therefore, not required to be disclosed Dent v. Ramtron Int l Corp. (Del. Ch. 2014): Court granted motion to dismiss fiduciary claims regarding sale of defendant corporation to strategic buyer. Year-plus process involving rejected offers, failed tender offers, and contact by target of 24 potential purchasers; Court rejected process claims and aiding-and-abetting claim Court rejected claim regarding disclosure of management projections as not affecting the total mix Because the stockholders were informed that the transaction consideration was lower than the DCF range, by how much it was lower, and that the DCF range was based on management projections, a reasonable stockholder could infer that the transaction consideration was lower than the Company s estimate of its own future earning potential. Court also rejected claims regarding disclosure of a summary of the banker s work, of the background of the transaction, and of an alleged conflict of one director 43

44 Steven M. Haas (804) Conclusion Kevin Miller (212) Blake Rohrbacher (302) The views and opinions expressed in these slides and the accompanying discussion are of the applicable individual presenters only and not necessarily those of the other presenters or any of their firms, partners or clients. Nothing in the discussion or the slides constitutes legal advice or shall be deemed to create any attorney-client relationship. These slides may constitute marketing materials in certain jurisdictions. 44