M & A Law Prof Blog

Editor: Brian JM Quinn
Boston College Law School

A Member of the Law Professor Blogs Network

Tuesday, November 6, 2007

MIA Watch: The CKX Deal

Remember CKX, Inc.'s $1.33 billion take private?  The company famously owns the intellectual property rights of Elvis Presley and Muhammad Ali as well as American Idol.  Way back on June 1, CKX announced an agreement to sell the company to 19X, Inc., a private company owned and controlled by Mr. Sillerman, Chairman and Chief Executive Officer of CKX, and Simon R. Fuller, you know who he is.

At the time, the deal contained a provision for 19X to obtain the necessary financing commitment letters after the transaction was signed.  Once the financing was in place, CKX would then prepare a proxy statement to go forward with the transaction.  This was unusual because, typically, a board will require financing to be committed before the transaction is effected.  The reasons are obvious -- doing it afterwards is an effective financing out for the acquirer and can strand the company in purgatory for extended periods as a leveraged buyer struggles to obtain the necessary financing.  There is no such financing out in the CKX merger agreement, but I believe (though cannot confirm) that 19X's sole asset is 1,419,817 shares of CKX (per its 13D).  If so, it would have only about $15-$20 million in assets -- so there is very little to collect for a judgement under the merger agreement if 19X breaches the agreement and refuses to close -- an effective financing out and, if true, the lowest of the low in reverse termination fees.

On Sept 28, CKX announced that the deal had been reworked to include less cash consideration and more stock (the stock being a distributed subsidiary FX Real Estate and Entertainment Inc.).  At the time, the amendment to the merger agreement provided more time to CKX to line up its financing.  Amended Section 6.4 stated:

SECTION 6.4 FINANCING (a) On or before October 30, 2007, Parent and Merger Sub shall deliver to the Company true and complete copies of (i) a fully executed commitment letter . . . . and (ii) a fully executed commitment letter . . . . The Financing Letters shall reflect debt and equity commitments from such equity investors and financial institutions, which together with any equity to be issued in connection with the Contribution and Exchange Agreements or to be issued in exchange for securities of Parent, shall be sufficient to pay the full Merger Consideration . . . .

So, it appears that the agreement was reworked due to financing problems in the deal.  In fact, the press release for the revised deal specifically noted the reduction in cash consideration would make the deal easier to finance. 

Well, Oct. 30 came and went.  And lo and behold, still no financing letters, resulting in a breach of the merger agreement by the buyer.  Instead, CKX put out the following press release:

CKX, Inc. announced today that 19X, Inc., which previously had agreed to acquire the Company in a merger transaction, had delivered financing letters in furtherance of its obligation to provide the Company with evidence of financing sufficient to complete the acquisition on the previously disclosed terms. The letters, which have not yet been signed by any parties, include firm commitments from, as well as other detailed arrangements and engagements with, three prominent Wall Street firms and expressions of intentions from management and other significant investors in CKX. The Company has a regularly scheduled Board Meeting this Friday, at which the Board of Directors will review the letters. Following completion of the Board’s review, 19X is expected to deliver fully executed letters.

Well that is odd.  Why unsigned letters?  Unsigned commitment letters have no force -- you would think, given the market conditions, CKX would want to firm up its financing as quick and possible.  And the board meeting referred to above came and went on Friday and there is still no word from the board, CKX or the buyer.  And, of course, those signed commitment letters required by the above amendment have still not appeared.  All of this is a bit odd.  I suspect that the financing referred to above is not on the terms Sillerman wants or is otherwise supplemented by an equity commitment he does not want to make.  But this is a mere guess.  I can't wait to find out the truth -- shareholders might wish that CKX was more fulsome in its disclosure on this matter.  Instead, the deal is MIA. 

Ultimately, the above delays and reworkings illustrate the perils of agreeing to a leveraged deal without the financing locked up at the beginning or otherwise without a firm.  CKX is now at the mercy of its controlling shareholder/buyer as it seemingly struggles to finance this deal with little choice but to extend the merger agreement.  Not a great place.

November 6, 2007 in Going-Privates | Permalink | Comments (0) | TrackBack (0)

Sunday, November 4, 2007

ACS: The Legal Analysis

It is hard to know where to begin.  That is my first thought when confronting the legal issues arising from the fiasco at Affiliated Computer Services.  When we last left this matter on Friday, the independent directors of ACS had resigned pending the election of new directors, filed suit in Delaware Chancery Court for a declaratory ruling that they did not breach their fiduciary duties in negotiating the potential sale of ACS, and sent a letter to Darwin Deason, Chairman of the Board of ACS and controller of 40% of the voting stock of ACS (but only 10% of the economic interest), accusing him and ACS management of breaching their own fiduciary duties in unduly favoring a deal with Cerberus.  For his part, Deason in his own letter, demanded the ind. directors' “immediate resignations” because of “numerous and egregious breaches of fiduciary duty and other improper conduct,” related to their own running of the Cerberus auction.  Then the lawyers for each of these groups (Weil for the ind. directors/Kasowitz for Lynn Blodgett CEO of ACS) exchanged their own letters making further allegations of inappropriate conduct against the other parties (though Weil alleges Kasowitz's letter was written by Deason's counsel Cravath, although Cravath may also be company counsel?!).  Throwing all of this into the mix, two of the firms involved -- Cravath and Skadden -- are now being accused of acting in a conflicted manner.  Whew, I'm exhausted already. 

Preliminary Observations 

  1. The lawsuit by the Cerberus independent directors was a smart tactical move likely to preempt a similar suit against them brought by Deason (read the complaint here).  Now the independent directors can be viewed as the plaintiffs, the good guys and drive the litigation.  Plus, they can now engage in discovery, amend their complaint as necessary and have a bargaining chip against Deason.  And most importantly, since they brought this action in their capacity as directors under Delaware law they can receive indemnification under DGCL 145 and, in fact, under ACS's By-laws (s. 33) automatically are advanced attorney's fees in prosecuting this action.  Nifty.  See Hibbert v. Hollywood Park, Inc., 457 A.2d 339, 343 (Del. 1983) (holding that per the contractual indemnification provisions of the company the directors only needed to be a party to the lawsuit not the defendants to be indemnified).
  2. Relatedly, my big question is why didn't the ind. directors here sue Deason and management for breach of their fiduciary duties?  I find this almost certainly intentional omission odd.  Perhaps it was because they need/want to do so on behalf of the company but cannot currently call a board meeting to so act (see the next point).  Although a derivative suit is possible.  Hmmmm.
  3. The future governance of ACS is a nightmare.  First, per the By-laws (Art. 16) only Deason or the CEO can call a special meeting of the Board.  In the interim, per DGCL 141(f), they can only act by written consent with the approval of all the directors (there is no By-law or Certificate of Incorporation provision that I saw to the opposite).  So, the ind. directors are stuck, waiting for the next meeting to act.  Deason has a clear incentive here to postpone the holding of the next board meeting until the next shareholder vote in order to prevent the ind. directors from acting and perhaps firing him.  This means board paralysis for months until then; a terrible way to run a company.   
  4. Deason's employment agreement gives him unprecedented control over the company.  I've actually never seen anything like this structured in this manner.  Under his employment agreement he is given sole authority for:
    • (i) selecting and appointing the individual(s) to serve in, or to be removed from, the offices of Chief Executive Officer, President, Chief Financial Officer, Executive Vice Presidents, General Counsel, Secretary and Treasurer and (subject to appropriate charter amendment confirming the Executive's authority to fill such vacancies) to fill any director vacancies created in the event any such removal from office, (ii) recommending to the Board individuals for election to, or removal from, the Board itself, (iii) recommending to the Compensation Committee to the Board, or as applicable, to the Special Compensation Committee to the Board, salary, bonus, stock option and other compensation matters for such officers, (iv) approval of 3 4 acquisitions to the extent authority has previously been granted by the Board to the Executive in his capacity as the member of the Special Transactions Committee (except to the extent the Executive had previously delegated authority to the President with respect to such acquisitions which do not exceed $25 million in total consideration), (v) spending commitments in excess of $5 million, and (vi) approval of expense reports for the CEO and CFO.

I love the last two -- he has to approve the expenses of the CEO?!  How independent of him is she?  In any event, hornbook law in Delaware is that, under DGCL 141(a), the business and affairs of every corporation shall be managed by or under the direction of a board of directors, except as may be otherwise provided in its certificate of incorporation. I'm still tracing through all of the (complicated) governance provisions, but my preliminary conclusions are that they didn't put enough of the above in the Certificate, but rather put most of Deason's powers in the By-laws and the rest in the employment agreement itself.  I'll have a longer post on this later this week (I promise) once I'm done with my analysis, but my preliminary view is that these provisions violate 141(a) because to be effective in limiting the board's power they must be in the Certificate.  They are not.  In any event, this is the poorest of the poor in corporate governance to say the least.  This is particularly true when your CEO was famously accused of threatening to kill his personal chef.

4.    This company is a mess.  Only the bravest (or the foolhardy) would invest in this situation. 

The Case Against the Ind Directors

As outlined in Deason's and Kasowitz's letters, the case against the ind. directors is as follows:

  1. They refused to accept the Cerberus offer negotiated by Deason with a go-shop and "low" break-up fee and instead insisted on conducting an auction of the company.
  2. Relatedly, they failed to present the Cerberus offer to the shareholders directly.   
  3. They inappropriately provided proprietary information to a competitor of the company.
  4. They received and relied upon the advice of company counsel, Skadden, without authorization of ACS.
  5. They paid themselves substantial fees (>100K each) for serving on the ind. committee. 

The Case Against Deason

  1. He worked with Cerberus to force their deal through against the will of the special committee.  Specifically, he entered into an initial exclusivity agreement which he refused to waive for three months. 
  2. Deason and management worked to ensure that other bidders did not receive full information or management cooperation.
  3. Deason and management refused to permit the ind. committee to meet with company counsel.
  4. Deason attempted to coerce the ind. directors to resign last Tuesday at a board meeting. 
  5. Deason took all of these actions in order for his own personal financial gain through the bid with Cerberus.  Management followed his lead because they were beholden to him and their post-transaction employment depended upon it. 

The Legal Analysis

My opinion is that the ind. directors here did the right thing.  Deason, on the other hand, engaged in conduct that Delaware courts have historically condemned.  There is not enough here for me to give an opinion on management's liability, but to the extent they followed Deason's direction they are also liable. 

This is actually a relatively simple case.  Since Smith v. Van Gorkom, the Delaware courts have been adamant that the sale of the company is something for the board to decide.  It is not something that can be forced upon it by a singe executive (or here Chairman).  Moreover, the Delaware courts most recently in Topps and Lear have repeatedly endorsed the idea that the sale process, whether it be by the Board or a comm. thereof, is something for the board to set, even when the company is in Revlon mode.  Here, the board's refusal to accept a pre-negotiated deal that Deason had a personal financial interest in appears quite justified.  Other bidders would likely be deterred by his and management's involvement and financial interest; something which a go-shop and low break-up fee would not ameliorate.  In particular, it is increasingly recognized that go-shops provide only limited benefits and do not work particularly well when the initial deal is one involving management.  The head start and management participation is too much of a deterrent for bidders. Thus, my hunch is that on these bare facts, Deason is likely in the wrong and a Delaware court would not only rule so but rule Deason (and likely management) breached their fiduciary duties by unduly attempting to influence the auction process.   

As for the other claims:

  1. I can't see how wanting to consult with company counsel can ever be a bad thing. 
  2. The compensation of the ind. directors here is high but not extraordinary or something that would otherwise disqualify them. 
  3. The provision of proprietary information could be troubling.  We need more facts to make this determination. 
  4. Deason should ultimately be careful in his crusade here.  As Conrad Black proved, the Delaware courts do not look kindly on mercurial, imperial controlling shareholders. 

Possible Legal Conflicts Claims

  1. Skadden provided advice to the ind. directors when it was company counsel.
  2. Cravath is now company counsel when it had previously been Deason's counsel.

As I said, I'm not sure I see the problem in the first.  The second may be more problematical to the extent ACS may have a claim against Deason.  Moreover, what is Cravath, a nice, reputable firm doing sullying its name in this mess?  They likely realize the same thing which is why Kasowitz is taking the public lead here. 

November 4, 2007 in Delaware, Leveraged Buy-Outs, Litigation, Takeovers | Permalink | Comments (0) | TrackBack (0)

SLM Hearing Today

There is a hearing on the SLM case today, presumably to set a trial date.  I have a source at the hearing and will post information and commentary as soon as I receive it.  Hopefully it will be as fun as the last one. 

November 4, 2007 | Permalink | Comments (0) | TrackBack (0)

Wachtell, Lipton, Shareholder Access, and Diatribes in Place of Analysis

The ever relevant Race to the Bottom has a nice post on Wachtell's recent comment letter on the SEC's latest proxy proposals entitled:  Wachtell, Lipton, Shareholder Access, and Diatribes in Place of Analysis.  It is a nice follow-up to my post last week on Wachtell's client memos.  Enjoy. 

November 4, 2007 | Permalink | Comments (0) | TrackBack (0)

Friday, November 2, 2007

On Hiatus Today

I'll be back on Monday with a full legal analysis of the ACS situtation.  But here is my quote on it in the N.Y. Post today.  Not page six, though . . . .

NB. The New York Post also reports that sources are saying Unisys made superior bids for ACS "a few months after the Cerberus deal was made public."

November 2, 2007 | Permalink | Comments (0) | TrackBack (0)

Thursday, November 1, 2007

WOW, WOW, WOW: Affiliated Computer Services Ind. Directors Resign

Wow, Wow, Wow.

I had speculated earlier last week that there was a back story to Cerberus's withdrawal of its offer.  It came out today with a vengeance.  Unfortunately, I'm running around right now so can't offer commentary right now, except to say that 1) Darwin can't survive this -- if these allegations are true it is not only a breach of his fiduciary duties but just plain wrong.  Expect the shareholder lawsuits to be filed in the next few hours.  Wow -- everyone should read the below.  I'll have much more tomorrow.  And, for those who just want to have some fun, their investor conference call is at 4:30 today (access it here).  Should be a good one. 

Independent Directors of ACS Respond to Allegations by Chairman Darwin Deason
Thursday November 1, 1:34 pm ET

DALLAS--(BUSINESS WIRE)--The five independent members of the Board of Directors of Affiliated Computer Services, Inc. (NYSE: ACS - News) today sent a letter to Darwin Deason, Chairman of the Companys Board of Directors, refuting allegations he made in a press release today.

At a Board meeting today, the independent directors said they intend to resign and will not stand for re-election, but first want to ensure their successors are truly independent and capable of protecting the companys minority shareholders. Once the process of selecting new independent directors is complete, the current independent directors will resign immediately. They are prepared to immediately review the independence of Mr. Deasons nominees and also believe shareholders should be given the opportunity to propose additional independent directors. This was the only business conduced at todays Board meeting.

The letter sent by the independent directors to Mr. Deason follows.

November 1, 2007

 

BY FACSIMILE AND ELECTRONIC MAIL

 

 

Mr. Darwin Deason

Affiliated Computer Services, Inc.

2828 North Haskell Avenue

Dallas, Texas 75204

 

Dear Darwin:

 

From the first day that you and Cerberus Capital Management, L.P. made a proposal to acquire ACS, the independent directors have acted appropriately and in a manner designed to safeguard the best interests of the company and all of its shareholders. We immediately began a process designed to consider your offer in a fair and balanced manner and to protect the company's minority shareholders. Although you control in excess of 40% of the voting power of ACS, you represent less than 10% of the outstanding shares. We must look after the minority shareholders - even if it means you cannot get the deal that is most advantageous to you personally. From the outset, you have attempted to subvert the process in order to prevent superior alternatives to your proposal from being consummated.

 

On March 20, 2007, when you and Cerberus Capital Management, L.P. publicly disclosed your proposal to acquire ACS, we first learned of the Exclusivity Agreement that you had previously entered into with Cerberus. On March 21, 2007, after lengthy discussion, the Board of Directors of ACS, through its lead director, advised you that the Board was concerned with the Exclusivity Agreement between you and Cerberus and requested that the agreement be voided so that the Board would have the ability to deal with all parties (including you and Cerberus) who might be interested in a transaction involving the company. You refused. The Special Committee (which was formed to consider all strategic alternatives available to ACS, including your proposal), after extensive discussions with Lazard Freres & Co. LLC, its independent financial advisor, and Weil, Gotshal & Manges LLP, its independent legal advisor, also concluded that, with the Exclusivity Agreement in place, it could not effectively consider all of the company's strategic alternatives, including a transaction involving a third party other than Cerberus. Also, the Special Committee and its advisors were not comfortable with a "go-shop" here given the terms of your employment agreement, your voting power and the fact that potentially interested parties would be deterred given your partnership with Cerberus.

 

As a result, the Special Committee insisted that the Exclusivity Agreement be voided. Unfortunately, for almost three months until June 10, 2007, you and Cerberus refused to in any way modify the Exclusivity Agreement in response to the Special Committee's concerns. Your self-serving conduct had a material adverse impact on the process of considering strategic alternatives, including your own offer. (Several parties who had expressed an interest in a transaction with ACS were not willing to proceed with the Exclusivity Agreement in place.)

 

Nevertheless, the Special Committee and its advisors have carefully evaluated your offer, as well as other potential alternatives that still exist and, as you are well aware, we were prepared to deliver our recommendations with respect to all of the alternatives that may be available to the company at the next regularly scheduled board meeting. In addition, and as you know, we have engaged you and Cerberus in an effort not only to deal with the Exclusivity Agreement, but also to modify the proposal in a way that would make sense for all of the company's shareholders, including increasing the offer price to a level that could be supported. You refused.

 

Any suggestion that the Special Committee should have rolled over and simply agreed to your self-interested proposal without having an opportunity to consider alternative transactions would be irresponsible. In fact, several significant shareholders publicly agreed with the position of the Special Committee and the inadequacy of your proposal. In an effort to avoid any misunderstandings, we also would like to point out that we did respond (through our financial advisor) to ACS shareholders who made contact with the Special Committee regarding the process.

 

Even after entering into the Waiver Agreement on June 10, 2007, you and your management team have worked hard to make it difficult for any other potential buyer to have access to the same information provided to Cerberus and, therefore, to proceed with a proposal that would provide ACS shareholders with greater value than your proposal. (As you are well aware, the actions of your management team caused one significant potential strategic buyer to walk-away and, very recently, your management team refused even to engage with another significant potential strategic buyer - despite their interest.) Your interest only in a transaction in which you would participate on the buy side and management's interest in retaining their jobs (all at the expense of ACS shareholders) consistently delayed the process and made it virtually impossible to implement an even modestly effective process, which has worked to the detriment of ACS shareholders. There are countless examples of your interference with the process. We are sure you recall the time you directed management to refuse to meet with senior executives of a large industry bidder (who had made a proposal to acquire the company for an amount greater than that included in your proposal) who had flown hours to meet with management. Or, the attempts by you and ACS management to interfere with the ability of the Special Committee to meet with the company's regular outside counsel.

 

Your carefully choreographed power play Tuesday evening to coerce the independent directors of ACS into resigning on the spot is consistent with your continuing refusal to understand that the Board's fiduciary duties are to all shareholders - not just to you. Your ultimatum: resign in one hour or I will go to the press and smear your reputations - was a remarkable piece of bullying and thuggery, and it almost worked. We also find it curious that your counsel in connection with your proposal, Cravath, Swaine & Moore LLP, is now serving as the company's outside counsel. In this capacity, Cravath, your personal counsel, is taking a lead role in removing the very directors who refused to go along with your proposal. We cannot understand how you and ACS management could become comfortable with this blatant conflict.

 

You have not only interfered with the mandate of the Special Committee (to the detriment of our shareholders), but have made it impossible for us to continue to effectively serve as directors of ACS. (You have, over the past few months, privately encouraged the directors to keep the process of considering strategic alternatives going; however, your current actions are inconsistent with these conversations.) Given the extraordinary powers you have under the terms of your employment agreement, your actions (particularly over the past few months), as well as the actions of your hand-picked management team, and the tone that you have set at the company, we do not see how we, or any other truly independent directors, could properly discharge their fiduciary duties. We could fire you and the entire management team, but that would not help our shareholders, customers or employees. Rather, it would rip the Company apart and cause a lengthy fight and period of uncertainty from which the Company would be unlikely to recover. As a result, we have decided after much discussion among ourselves that the best way for us to discharge our fiduciary duties is to resign in favor of a new majority of independent directors.

 

As you are aware, we have more than 30 years of collective service with ACS, have participated in the significant growth of the company and care deeply about the company and its shareholders and employees. You have identified four potential Board candidates, and we are prepared to meet with them as early as tomorrow to determine if they are truly independent and capable of protecting minority shareholders. We also would welcome any suggestions for new independent directors from our shareholders. Although our efforts over the years to add independent directors to the Board have been met with resistance, we continue to believe that having strong independent directors is critical. Once the process of vetting independent director candidates is complete, it will be with great relief that we will immediately step down as directors.

 

Very truly yours,

 

/s/ Robert B. Holland

/s/ J. Livingston Kosberg

/s/ Dennis McCuistion

Robert B. Holland, III

J. Livingston Kosberg

Dennis McCuistion

 

/s/ Joseph P. O'Neill

/s/ Frank A. Rossi

Joseph P. O'Neill

Frank A. Rossi

 

cc: Lynn Blodgett

John Rexford

Bill Deckelman

November 1, 2007 | Permalink | Comments (0) | TrackBack (0)

The Latest Flowers Letter

Remember SLM?  It seems so long ago.  When we last left the deal (or depending upon your persepctive, litigation), the parties had agreed on a trial which everyone thought would occur in January.  Well, not everyone.  Today, the Flowers group sent a letter to the Delaware Chancery Court.  In it, Flowers et al. state:

In our conversations with Sallie Mae's counsel, they have indicated that they would be seeking a trial date commencing in either February or April 2008 (The dates apparently are dictated in part by Mr. Susman's availability.) We believe that either time frame would impair the Buying Group's ability to prepare its defense to a $900 million claim. In light of the complexities of this case and the stakes involved, the Buying Group believes that trial should be scheduled for September or October 2008, at the Court's convenience, less than one year from now.

A January trial is but a dim memory -- we are at February or April now at best.  Flowers et al. go on to conclude:

As the Court recognized at the October 22 scheduling conference, once the Buying Group waived the covenants and other restrictions on Sallie Mae's conduct, the need for expedition was removed and "we really are in an ordinary kind of situation" We recognize that the Court intends that this matter proceed more promptly than the two years that is typical for non-expedited litigation, but we believe the Buying Group's proposal is consistent with that guideline. There is no longer any credible claim of irreparable injury to Sallie Mae: this case is simply a dispute about a sum ofmoney - albeit, a very, very large sum of money. The Buying Group has no interest whatsoever in prolonging this litigation. Its only interest is in assuring that it has sufficient time to develop and prepare its defense. We believe that the schedule that we have proposed accomplishes that goal. We look forward to discussing these matters with the Comi in Chambers on November 5.

The Flowers gourp is right here.  This really is now just an ordinary trial about a relatively large sum of money.  I would expect Strine though to split the baby a bit and set a trial somewhere in between the parties selected dates -- say a nice July trial in Delaware.  We shall learn more on Nov 5.  Hopefully, it will be as fun as the last hearing.  BTW -- for those who are still betting on a deal, it seems so, so far away right now.

November 1, 2007 in Delaware, Litigation, Material Adverse Change Clauses | Permalink | Comments (0) | TrackBack (0)

Genesco's Hearing

There was a hearing in Tennessee yesterday on the Genesco/Finish Line litigation.  There is no transcript, but my source at the hearing reported the following:

Some of the takeaways from yesterday hearing include; GCO, Finish Line (FINL), and UBS will present a list of trial witnesses by December 5. Documents requested in discovery can extend as far back as February 3 of this year. GCO's lawyer Overton Thompson said that worse-than-expected quarterly earnings were a "short-term hiccup" that isn't uncommon in the fashion retail industry; FINL attorney Robert Walker said "Had we known that... the third quarter would look like it looks now, we would not have signed this deal."

Nothing particularly exciting.  Genesco's lawyer here is playing to the decision in IBP v. Tyson which requires that any adverse effect be long-term in nature in order to be a material adverse effect.  I don't have enough information otherwise to make meaningful commentary but it appears that Genesco's arguments are going to be based on the above plus an argument that any adverse change was one which affected the industry generally, an event which is specifically excluded from the definition of Material Adverse Change under the Genesco merger agreement (for more on these arguments in the context of Genesco see here).   

November 1, 2007 in Material Adverse Change Clauses | Permalink | Comments (0) | TrackBack (0)

Wachtell's Client Memos

Wachtell regularly sends out one to two page client memos notifying clients of recent developments and commenting upon them.  It is great marketing for the firm; it daily keeps them in the minds of clients and other industry actors and positions them as superbly on top of M&A developments. 

Nonetheless, a few of the memos that have crossed my in box in the past few weeks have made me wonder.  The new generation at Wachtell is continuing to take the pro-board stances Marty Lipton has historically taken.  These memos often set out an ideological position on this side of the fence.  This is likely good business -- Wachtell is still the go-to law firm for takeover defense.  But, I'm not sure that the new generation is making their case in the same thoughtful manner.  Moreover, is Wachtell necessarily serving their clientele well by taking an ideological stance in a client memo and asserting it as truth to their clients? 

So, let's take a few examples.  The first is the Wachtell memo which went out last week on the new FINRA fairness opinion rules.  After summarizing the rule in the first page, the memo ends with the following statement:

The disclosure and procedural requirements of Rule 2290 should address many of the concerns arising from potential or perceived conflicts of interest resulting from relationships and arrangements that are not inappropriate but may be of interest to stockholders in determining whether or not to support a particular transaction.

Well, OK then.  You mean this rule, which everyone acknowledges largely overlaps SEC requirements and has been described by Debevoise as "not likely to result in significant changes to current practice" solves all of these concerns?  Of course not.  It does nothing to address the inherent conflicts in investment bank fairness opinion practice (contingent consideration, stapled financing, the need for future business, etc.).  A conflict which is exacerbated by the subjectivity in fairness opinion valuation and  the failure to follow best practices by many banks in the preparation of these opinion (use Fama French factors folks not CAPM).  And just to pile on, remember, this memo went out the same week a Wachtell partner called fairness opinions "the Lucy sitting in the box: 'Fairness Opinions, 5 cents.'"  David Katz, the partner at Wachtell who prepared this memo is their go-to partner for the highly complex cross-border stuff.  He is very smart and should know better. 

Then, also last week, Theodore Mirvis of Wachtell posted a Wachtell memo on staggered boards to the Harvard Corporate Governance Blog, with the following introduction: 

When you’re right, you’re right. And when you’re wrong, you are very wrong. Here is yet more evidence of the value to stockholders of staggered boards. Anyone listening up there in that ivory tower?

The memo, entitled, Classified Boards Once Again Prove Their Value to Shareholders in Recent Takeover Battle, states:

Takeover protections such as classified boards continue to be under assault from academics and shareholder activists, who argue that they reduce the opportunity of shareholders to receive takeover premiums by making takeovers more difficult to complete. In response to shareholder proposals and the current governance environment, the number of companies in the S&P 500 Index with classified boards has decreased from 56% to 45% since 2004.

Academic theory, however, is often divorced from the real world of corporate takeover practice. The use of classified boards to increase shareholder value was demonstrated again in the recent takeover battle for Midwest Air.

This memo cites to two sources for this.  The first is the recent takeover battle for Midwest where Midwest eventually received a much higher bid than AirTrans initially offered.  Well that never happens. . . . The note also cites a recent paper by Thomas Bates et al., Board Classification and Managerial Entrenchment: Evidence from the Market for Corporate Control which found that "the evidence is inconsistent with the conventional wisdom that board classification is an anti-takeover device that facilitates managerial entrenchment."  Nonetheless, the study still finds significantly lower value for firms with a staggered board and a lower bid rate.  And the Wachtell memo did not mention that a significant body of research finds that the staggered board's primary justification is to ward off challenges for control.  This includes a recent paper authored by former Wachtell partner John Coates with Lucian Bebchuk and Guhan Subramanian, The Powerful Antitakeover Force of Staggered Boards: Theory, Evidence, and Policy.  Nowhere does the memo mention this substantial evidence on the other side to Wachtell's clients.  So, Wachtell may ultimately prove right here but as of now the evidence is at best mixed, leaning against their position. 

Additionally, I am one of those academics Mirvis criticizes in his post (though in Michigan my tower ain't so ivory), but I also practiced M&A for ten years and know anecdotally what Mirvis knows in his own heart.  In my experience, bidders, particularly foreign ones, are strongly deterred by staggered boards.  They know any takeover battle could be very long and public and are unwilling to risk spending their scarce management resources on the time-consuming activity of a hostile bid for the extended amount of time it could take in the presence of a staggered board.  Moreover, the current takeover system discourages toe-holds meaning that a bidder may not even be able to hedge their risk and take a position which would pay off if their bid is unsuccessful and another bidder acquires the company. 

Ultimately, Wachtell would have done better to inform their clients of the conflicted academic and practitioner evidence than promoting their platform.  The two examples they cite -- Midwest and this lone paper do not make a case.  It is sort of like saying that because my wife likes me everyone else does.  Assuming the truth of the former does not also mean the latter is true.  Attacking academics isn't going to get you past that. 

And finally, there was this gem the other day also on the Harvard Corporate Governance Blog by Theodore Mirvis:

Many car advertisements on TV bear a legend explaining that the driving depicted is by professional drivers on a closed track–and warning viewers not to try the twists and turns at home. Well, maybe something like that could or should be said of the European Court of Justice’s recent decision, a precis of which appears here, striking down Germany’s “Volkswagen law” and seeming to pave the way for Porsche to acquire the company.

One might recall the earlier periods over here when state anti-takeover statutes bit the dust one by one, yielding to a perceived national policy of unrestrained takeover activity and opposition to the local interest of states (especially non-chartering states) in preserving the independence of their corporate residents. There are probably more twists and turns to come as the EC works out what is meant by the “free movement of capital.”

So, Mirvis thinks European state protection of companies is a good thing for their economies and their shareholders (e.g., French protection of Danone, their chief yogurt maker, as a national champion)?   Has he been getting enough sleep lately? 

And I close with the following query:  Are Wachtell client memos the ultimate in "Lucy in the Box".  Five cents please. 

November 1, 2007 in Current Events | Permalink | Comments (0) | TrackBack (0)