Friday, July 6, 2007
According to a forecast issued by PwC, new issuers on the mainland Chinese markets are set to raise over $52 billion in capital this year. If the figure proves correct this would make mainland China the world’s leading place for equity capital raising in 2007 beating out Hong Kong, London and New York. For comparison, last year ipos raised $41 billion, $39 billion and $29 billion in each of these jurisdiction respectively.
The figures are interesting for at least two reasons. First, share issuances on the mainland are largely A-share listings on the Shanghai Stock Exchange and Shenzhen Stock Exchange. A-shares are traded in renminbi and can be purchased only by Chinese citizens and a few well-connected foreign financial institutions. The FT is reporting today that these share issuances are actually part of the Chinese government strategy to slowly deflate the market. In recent weeks, a series of state-owned companies have come forward with plans to launch large, new share offers in the Shanghai market including Shenhua Energy, a coal miner, planning a $6.3 billion ipo and PetroChina a $6 billion listing. The Chinese government is hoping that the share issuances will provide more supply and liquidity dampening fervid demand (e.g., in May 300,000 new share trading accounts were being opened each day in China, dropping to the still torrid pace of 100,000 per week in reaction to the Chinese government's tripling of the tax on share trading to 0.3 per cent per trade). Thus, these large capital raisings will mainly effect the local Chinese market and It remains to be seen whether they will only feed the bubble the Chinese government is struggling to control.
The figures are also bad news for Hong Kong in the competition for listings. Hong Kong is almost exclusively dependent upon mainland China for its growth. Mainland Chinese companies accounted for half of the market capitalization of the Hong Kong Stock Exchange in 2006 compared to only 16% in 1997 (see the data here). And as the Chinese mandarins push out their state companies, Hong Kong is at their mercy for deal flow. For this year, it appears that the flow is being partially diverted. Luckily for the United States the local flows of Chinese capital and listings do not impact it. The U.S markets like London are the primary competitors for global capital raisings and listings, and here the United States is having a relatively good year. In the year to June 5, there were 11 listings of China and Hong Kong-listed companies in the United States. This is a marked increase over last year. And all signs are that this will be a good year for the U.S. generally in the global listings market -- approximately 20% of the NYSE's new listings so far this year are from other countries.
Breakingviews yesterday had an interesting post on Wachtell's Mary Lipton and his legacy. The post questions the validity of his recent corporate governance advice to Home Depot, Morgan Stanley and Walt Disney among others. In each instance, Lipton recommended a "just say no" approach against corporate shareholder activism. In each case, the CEO was subsequently ousted. Breakingviews which is affiliated with the Wall Street Journal also criticizes his takeover advise to the Bancrofts, stating that "the family's tactics don't appear to have left the Dow Jones board in a strong position." The post closes with taking a swipe at Lipton by asserting that even the poison pill is in decline and that S&P 500 companies with the defense have decline from a majority to less than a third in only a few years.
Lipton is one of the leading proponents of the board as the center of corporate power as opposed to those like Lucian Bebchuk who advocate greater corporate control. And while shareholder activism is certainly on the increase, Breakingviews may be relying on wishful thinking when decrying his demise. Lipton is almost 80 and still is the go-to M&A attorney. And his firm has produced a host of other deal-makers and remains at the top of the league tables. Still, his no-holds barred defensive advice looks to be increasingly ill-considered as shareholder activism increases and certain in academia increasingly advocate increased shareholder power in corporations. Those advising corporate boards have not helped with some tone-deaf advice -- Nardelli's infamous Home Depot meeting where the board did not attend and Nardelli himself refused to take question being a prime example, and one attributable to Lipton himself.
Advanced Medical Optics, Inc., the eye care products supplier, confirmed yesterday it had proposed to acquire Bausch & Lomb for $75 per share in cash and AMO stock. $45 of the consideration will be in cash and the remainder in stock (no details on whether the stock collar was fixed or floating). The proposal values Bausch & Lomb at $4.3 billion and is not contingent upon financing. The bid comes on the heels of a $65 all-cash transaction agreed to earlier in the year by private-equity firm Warburg Pincus LLC which valued Bausch & Lomb at $3.7 billion.
The Bausch & Lomb press release actually contains more details of AMO's bid than AMO's release itself. According to Bausch & Lomb, the AMO proposal includes (1) a proposed $130 million reverse termination fee payable by AMO to Bausch & Lomb in the event the transaction does not close due to the failure to obtain requisite antitrust clearance and (2) proposed reimbursement by AMO of Bausch & Lomb’s expenses up to $35 million if AMO fails to obtain the approval of its shareholders. In addition, AMO will have up to 12 months to close the transaction and interest would be paid in cash with respect to the purchase price by AMO at the rate of 7.2% per annum beginning six months after an agreement is reached.
AMO's proposal came before the end of Bausch & Lomb's 50 day go-shop. And the Bausch & Lomb board has determined that the AMO Proposal is bona fide and is reasonably likely to result in a superior proposal, as defined under the Warburg merger agreement. AMO is therefore an excluded party under the agreement and Bausch & Lomb is permitted to continue negotiating with AMO with respect to the AMO Proposal despite the end of the “go shop” period. Because AMO's bid was made before termination of the go-shop Warburg Pincus will be entitled to a $40 million termination fee from Bausch & Lomb if an agreement is signed with AMO.
Bausch & Lomb is the second go-shop deal in a week to attract another bidder (Everlast was the other one). A heartening change from previous times when go-shops were seen as mainly illusory cover for private equity bids made with management complicity. It still remains to be seen, though, whether the increasingly competitive M&A market will see more "go-shop" bids. And if it does so, targets and initial bidders react by simply failing to include these provisions.
Friday culture for this week is Capital Ideas Evolving by Peter Bernstein. In his seminal 1992 book, Capital Ideas, Peter Bernstein gave a thoughtful and thorough history of the academic history of finance. In it he detailed the struggles of the founders of modern finance, Harry Markowitz, Bill Sharp, Myron Scholes, et al., to persuade Wall Street to adopt their newly-discovered capital market theories. In this new book, Bernstein is back defending these theories against recent attacks by behaviorists and others who have decried their functionality. Markowitz particularly focuses on the widespread adoption of his heroes' ideas, particualrly the rise of portfolio theory and the evidence for efficient markets. In the words of the Economist, "Mr Bernstein has yet again produced a book that is insightful and thought-provoking." Enjoy your weekend!
Thursday, July 5, 2007
The day before Independence Day, KKR & Co. LP filed its registration statement to go public in a $1.5 billion offering. Another day another fund adviser ipo. Anyway, out of curiosity, I've prepared a chart comparing the two ipos on key shareholder measures:
Amount of Offering
Amount Sold by Current Partners in Offerng
$4.57 billion with greenshoe exercise (it is more than the offering amount due to the concurrent sale of $3 billion in Blackstone non-voting units to the Chinese government)
Only limited voting rights relating to certain matters affecting the units. No right to elect or remove the Managing Partner or its directors.
In addition, KKR’s current partners generally will have sufficient voting power to determine the outcome of any matter that may be submitted to a unitholder vote.
Quarterly cash distributions to unitholders in amounts that in the aggregate are expected to constitute substantially all of our adjusted cash flow from operations each year in excess of amounts determined by the Managing Partner.
Priority of Cash Distributions
First, so that unitholders receive $______ per common unit on an annualized basis for such year;
Second, to the other holders of Group Partnership units until an equivalent amount on a per unit basis has been distributed to such other holders for such year; and
Thereafter, pro rata to all partners.
After ______, priority allocation ends and all partners receive pro rata distributions.
First, so that common unitholders receive $1.20 per common unit on an annualized basis for such year;
Second, to the other partners of the Blackstone Holdings partnerships until an equivalent amount of income on a partnership interest basis has been allocated to such other partners for such year; and
Thereafter, pro rata to all partners.
After December 31, 2009, priority allocation ends and all partners receive pro rata distributions.
Pre-ipo Partner Distributions
Distributions of $______ million.
Distributions estimated at $610.4 million.
Highlighted Return of Selected Underlying Funds
(Blanks in the KKR column are figures KKR will fill in in subsequent registration statement amendments)
So, there is not much difference between the two in terms of shareholder voting and distribution rights. Both equally disenfranchise investors and both have the same distribution policies giving priorty distribution to investors through a set period of time. KKR has yet to disclose this period but it will likely be similar to Blackstone's and end on December 31, 2009. If I were aninvestor I'd be a little worried about the quantity of distributions thereafter as it will likely be well past the current private equity boom and the funds' new partners will likely be chomping for market-rate compensation by then. Ultimately, the only significant difference on the above chart is that the KKR partners are not selling in the ipo which is a good sign, but they may be effectively making a sale through a significantly large pre-ipo cash distribution -- the KKR registration statement has yet to disclose the exact amount of the distribution.
So, ultimately, in terms of shareholder and distribution rights they both appear to be equally troublesome. Also, for those who are wondering, the Fortress and Och-Ziff ipos are a bit different in terms than KKR and Blackstone but effectively accomplish the same shareholder disenfranchisement and distribution policies.
The Financial Times published an interview yesterday with Chancellor of the Exchequer Alistair Darling. In the interview, Darling ruled out an imminent change to the taxation rate of private equity in the United Kingdom. He stated
I think we should be very, very wary indeed of a knee-jerk reaction or a reaction to a day’s headlines into making a tax change that could result in unintended consequences and undesirable consequences . . . .
In the United Kingdom, the carried interest earned by private equity partners on their investments is treated as capital gains and entitled to taper relief. This often reduces the rate to 10 percent compared with the U.K.'s 40 percent rate on income. The system has come under heated criticism in recent months, with one private equity boss decrying the system, stating that private equity "enjoy a lower tax rate than that paid by a janitor." Note that there is a similar, less-public debate about similar tax treatment enjoyed by U.S. private equity firms (for more on this read Victor Fleischer's Two and Twenty: Taxing Partnership Profits in Private Equity Funds).
Interestingly, Darling drew an analogy to Sarbanes-Oxley to support his position:
I am reminded of Sarbanes-Oxley in the US....and they’re now looking at how they can get out of it. There is no doubt it has damaged the US market, [he said.] When or if we make any changes they must be made at the proper time in the context of the Budget or the pre-Budget report and in the context of making tax reform which is beneficial to the country.
Darling, who is not trained as an economist would likely have been on firmer grounds focusing on the micro effects of such a tax and how it would effect the current incentive structure for private equity managers. And of course there are the redistributive justice aspects. Still, Sarbanes-Oxley still has such a bad name in Europe it was easier for Darling to make this analogy. But, whatever Darling's assertions on the subject, the jury is still out on Sarbanes-Oxley's effects, particularly in light of the numerous foreign ipos in the U.S. market this year.
On Tuesday afternoon Hilton Hotels Corporation announced that it had agreed to be acquired by the The Blackstone Group's real estate and corporate private equity funds in an all-cash transaction valued at approximately $26 billion. The announcement date for the transaction was likely moved up due a potential leak of the deal and frenzied stock and call option trading on that day. As White Collar Crime Prof notes "[a]nother deal, another SEC insider trading investigation, in all likelihood."
The transaction is not contingent on the receipt of financing. Financing commitments have been provided by Bear Stearns, Bank of America, Deutsche Bank, Morgan Stanley and Goldman Sachs. Unlike many private equity deals today, the transaction does not contain a "go-shop". Rather, according to the merger agreement, Hilton can terminate the deal any time prior to a shareholder vote approving the offer to accept a superior proposal. If it does so, Hilton must pay a termination fee of $560 million and up to $7.5 million in Blackstone's expenses. This provision is not terribly unusual though in a private equity deal context may bring some protest over the lack of a go-shop and a full solicitation of buyers by the company. But, maybe this did happen. We will have to wait until the full history of transaction negotiations are described in the merger proxy before any definitive assessment.
According to Hilton's latest proxy statement, Barron Hilton currently owns 5.3% of the company through various trusts and is Co-Chairman of the board of directors. Mr. Hilton is grandfather to the infamous heiress Paris Hilton: there is no disclosure of the break-down of the trusts or what her cut is (NB. Blogging Stocks speculates it is $60 million). But proponents of inheritance taxes on redistributive justice and equality grounds take note. Her likely inheritance increased richly over the July 4th weekend.
Tuesday, July 3, 2007
One of the great things about being an M&A lawyer is the diversity of companies you interact with and have the opportunity to learn about. And you are often surprised at some of the niches and their value. In this regard, I still remember when I participated in the auction for Golden State Foods Corporation in 1998. Golden State was the largest liquid food processor for McDonalds (its only customer) at the time, and eventually sold for over $400 million to an investment consortium headed by Ron Burkle's The Yucaipa Cos. I still remember due diligence at the company's plant in City of Industry California where we saw and smelled the gigantic vats of ketchup and other sauce and, yes, McDonald's was served for lunch. And being surprised how a company supplying liquid sauce and other sundries to a single customer could be worth so much.
So, it was with similar feelings that I saw yesterday that New York Stock Exchange-listed Reddy Ice Holdings, the largest maker of packaged ice in the United States, announced it will be acquired by GSO Capital Partners for $681.5 million in a deal valued at $1.1 billion including debt. Reddy Ice stockholders will receive $31.25 per share in cash for each common share of the company's stock they hold. Debt financing for the transaction has been committed by Morgan Stanley. For interested buyers and according to the merger agreement, the deal has a 45-day go-shop and a $7 million dollar break fee during the go-shop period,rising to $21 million thereafter. And for such potential bidders or simply product buyers for tomorrow's July 4th holiday, note Reddy's apropos slogan: "Good Times are in The Bag".
On July 2, 2007, the Company issued a press release announcing that the Company’s Board of Directors has concluded, after consulting with its financial advisor, that none of the indications of interest received to date represented or was likely to lead to a transaction that was in the best interests of the Company and its shareholders. There are currently no ongoing discussions with the parties that submitted the indications of interest. The Company will continue to review other strategic corporate options with a view towards maximizing value for the Company’s shareholders.
It all started on March 12 when Trump announced that it had engaged "Merrill Lynch to assist the Company in the identification and evaluation of strategic corporate options including, but not limited to, capital structure, financing and value-creation alternatives." The stock subsequently rose on the hopes of a sale, but on yesterday's news, the company's stock fell almost 16% in trading. But such losses are nothing new for Trump's stockholders. These casino properties have been in and out of bankruptcy several times including most recently in 2004. Still Donald Trump, has remained with the company throughout this entire period and is now Chairman of the board. And according to the company's proxy statement was paid over $1.878 million dollars last year for his services. Corporate governance gurus take note.
Still, the company's initial and subsequent disclosure here appears to have been correct under the securities laws. This is particularly true since its predecessor company, Trump Hotels & Casino Resorts was the subject of a landmark SEC cease-and-desist order for violating Section 10(b) of the Exchange Act and Rule 10b-5 thereunder for misleading disclosure with respect to pro forma financial statements. Still, the disclosure highlights the boiler-plate warning for shareholders that when these initial announcements are made there are no assurances that an agreement will be reached for a transaction. This type of speculation is better left to the M&A arbs.
Paige Parket Ouimet, a professor at the University of Michigan at Ann Arbor - Stephen M. Ross School of Business, has posted to the SSRN a new article entitled: Acquisition Decisions and Target Managerial Incentives. The article is on the important and controversial topic of management incentive payments, and its findings will likely add further ammunition to supporters of these payments (at least in some reasonable measure). Here is the abstract:
We propose that managerial incentives play an important role in acquisition decisions. After a majority acquisition, the stock price of the target is typically delisted and any equity-based incentives for the manager of the target's assets are now likely to be tied to the share price of the merged firm, thus, diluting the incentives of the target's managers. This dilution will be greater, the greater the relative size of the merged firm to the target. We predict firms are less likely to pursue a majority acquisition when the expected costs associated with the dilution to target managerial incentives are high. We test this prediction by comparing majority acquisitions to similar corporate events that do not result in a delisting of the target's stock price, minority acquisitions. We find that acquiring firms are more likely to partake in majority as compared to minority acquisitions when the acquirer is relatively small and the target is relatively large. These results are stronger when 1) the target firm is public, as compared to private, 2) equity-based managerial incentives are relatively more important, and, 3) accounting-based information is less of a substitute for the information in the stock price regarding managerial performance.
Kraft Foods Inc. today announced that it has made a binding offer to acquire the global biscuit business of Groupe Danone for EU5.3 billion (U.S.$7.2 billion) in cash. Some news sources are reporting this as a done deal. But it is not. This is only a binding offer and Danone must consult with its Works Council (Comitè d’Entreprise for those who speak the language) prior to entering into a definitive agreement. In addition, in its own press release Danone states that the offer "could lead to a definitive agreement during the last quarter of 2007 . . . . pending regulatory approvals." Note the emphasis on could. And Danone is one of France's designated national champions protected from foreign takeovers. The biscuit sale if it goes through is likely only to further make Danone an appealing target for the usual suspects of Kraft itself, Nestle, Pepsi, etc. Thus expect some political resistance to the transaction.
NB. Taking advantage of the SEC's newly effective delisting rules for foreign private issuers, Danone last week took steps to delist and deregister its American Depositary Shares from the New York Stock Exchange. I'm a little surprised at this. A U.S. listing provides takeover protection by requiring compliance with Section 13D and the rest of the Williams Act for takeovers (as well as the Securities Act for share offerings) and inserting another regulator, the SEC into the process. Not to mention it leaves open the U.S. courts for takeover litigation. In addition, according to Danone's latest Form 20-F, 17% of its shareholders are U.S. residents disqualifying it from the bulk of the cross-border exemptions for takeovers. Danone may have been better advised by Shearman & Freshfields (their usual counsel) to keep its U.S. listing for the time being. But maybe Danone is simply relying on a better takeover protector, the French government.
Bloomberg today released global law firm M&A league tables for the first half of 2007 and Sullivan & Cromwell is at the top. According to Bloomberg, S&C advised on six of the 10 largest deals totaling $458.3 billion, including Barclays Plc's planned acquisition of ABN Amro Holding NV for $90.7 billion. The ABN Amro transaction was a virtual requirement to make the top ten as eight of the top 10 legal advisers for the half are advising on some aspect of the transaction. Here are the rest:
Top-Ranked M&A Law Firms for 2007's First Half
Firm Value of Deals (in billions)
Sullivan & Cromwell $458.3
Clifford Chance $327.8
Wachtell Lipton $310.7
Simpson Thacher $284.4
Allen & Overy $267.9
Cravath Swaine $232.4
Shearman & Sterling $225.9
Uria Menendez $223.7
Davis Polk $219.2
Bloomberg's rankings only count principal advisory roles (i.e., only deals in which a law
firm represented buyers, sellers or targets). The rankings are therefore more accurate than other rankings which include financial advisory roles (i.e., including deals in which a law firm is also representing an investment bank for the buyer, seller or target).
The rankings show the continuing dominance of both English and American firms, with U.S. firms in the lead. And congratulations to Shearman & Sterling which is back in the top ten after a long absence!
Monday, July 2, 2007
Och-Ziff Capital Management Group LLC today filed a registration statement for an initial public offering of up to $2 billion of series A stock units. Och-Ziff is one of the largest alternative asset managers in the world, with approximately $26.8 billion of assets under management as of April 30, 2007. It is run by former Goldman Sachs Group Inc. equities trader Daniel Och, and was founded with Ziff family money. The number of shares and the price for the offering weren't disclosed. But all of the offering proceeds will go to the current partners of Och-Ziff. Yet another pay-day for hedge fund managers.
And it is yet another offering where investors will have only limited voting rights. According to the registrations statement, the current owners of Och-Ziff will retain their ownership interest through Class B share units which will have no economic rights but will have voting rights. So long as these Class B owners continue to hold more than 40% of the total voting power of the outstanding shares, the Class B holders will have the right to designate nominees for election to the company's board of directors, based on their ownership of outstanding voting securities. Initially, this will give the Class B shareholders the ability to designate five of the seven nominees for election to the Och-Ziff board.
Not a great deal -- once again fund managers are not only cashing out, but doing so in a way which disenfranchises investors -- setting the stage for future conflict. Still, this is a bit better than Blackstone which gave its investors no voting rights. For those still contemplating investing, you'd likely be much better off investing directly in Och-Ziff's main fund (OZ Master Fund, Ltd.) which Och-Ziff disclosed has returned 17% since inception a total return basis, net of all fees and expenses compared to only 11.6% by the S&P 500 during the same time. But, unfortunately, SEC rules foreclose this for all but wealthy investors (see my post on this irrational distinction here).
The filing also shows that the industry still sees an active ipo market for fund advisers in the wake of the Blackstone ipo. This appears true despite the recently introduced congressional bill to tax as corporations publicly traded partnerships that directly or indirectly derive income from investment adviser or asset management services. In the past few weeks, GLG Partners LP, Europe's third-largest hedge-fund manager, announced that it will go public in the United States through a $3.4 billion transaction with the Special Purpose Acquisition Company Freedom Acquisition Holdings Inc., creating GLG Partners Inc. a publicly traded company on the New York Stock Exchange. In addition, Pzena Investment Management, Inc, a value-oriented investment management firm with approximately $28.5 billion in assets under management also filed to go public. And Third Point LLC , a New York-based hedge-fund firm with $5.1 billion in assets under management founded in 1995 by the notorious Europe-hater Daniel S. Loeb , announced on June 14 that it plans to raise $666 million in an IPO on the London Stock Exchange. So it goes . . . .
Sunday, July 1, 2007
News Corp. and Dow Jones continue to negotiate an acquisition under fervid public scrutiny. On Friday, a draft of the agreement in principle between Dow Jones and News Corp. on editorial protections for Dow Jones upon a takeover by News Corp. was leaked (apparently by the New York Times). In fact, this draft is also available here on the Wall Street Journal website (I hope this fits within an exception under their confidentiality agreement). The agreement provides that there will be a stand-alone committee of 5 members "comprised of distinguished community and journalistic leaders who are independent of N Corp and the Bancroft Family and who would be initially agreed upon" by News Corp. and Dow Jones. The Special Committee would have approval rights over the appointment and removal and changes to the authority of the managing editor and the editorial page editor of the Wall Street Journal and the managing editor of Newswires. These individuals would also have specified areas of sole authority under the agreement including authority over all news decisions. The agreement also provides that:
the managing editor of the WSJ would be consulted prior to the use of the WSJ or Dow Jones brand names by N Corp or any other party to give the managing editor the opportunity to raise any objections to and suggestions concerning the proposed use of the brand. The decisions of N Corp on branding matters would be final.
The wording of this last paragraph looks to be highly negotiated and likely a step back by the Bancrofts and Dow Jones from their rumored initial proposal for strict limitations on use of the Wall Street Journal brand. I'll spare you the Fox News cross-branding jokes, but you can likely see the results yourself in the near future as a News Corp. deal for Dow Jones is looking increasingly likely.
On Saturday, BCE, the Canadian telecommunications company, announced that it had agreed to be acquired by an investor group led by Teachers Private Capital, the private investment arm of the Ontario Teachers Pension Plan, Providence Equity Partners Inc. and Madison Dearborn Partners, LLC. The offer price is C$42.75 in cash per common share and the transaction is valued at C$51.7 billion (U.S.$48.5 billion), including the assumption of C$16.9 billion in debt. The equity ownership of BCE post-transaction will be as follows: Teachers Private Capital 52%, Providence 32%, Madison Dearborn 9% and other Canadian investors 7%. NB. Canadian investment rules require that BCE be majority owned by Canadian entities.
Showing signs that last weeks constant talk of a slow-down in private equity may have come too soon, the transaction if completed would be the largest leveraged buy-out in history beating out the pending U.S.$32 billion takeover of TXU, the Texas utility, by a private equity consortium comprising Kohlberg Kravis Roberts & Co. and TPG. And a syndicate of banks has committed financing for the transaction showing similar confidence in the debt markets.
Perhaps the most interesting aspect of the transaction is the involvement of Teachers Private Capital. TPC has more than C$16 billion in assets and is part of the C$106 billion Ontario Teachers' Pension Plan. According to this slick brochure they have put out, TPC actively makes sole and co-investments in companies throughout the globe and has co-invested with KKR in over $5 billion of acquisitions in prior years. Their activity and investment highlight the strength of pension plans in the current investment market. Although ERISA rules would likely forestall a similar majority acquisition by a U.S. pension plan, expect these funds to take a more active role in investing in the near future, working to drive investments rather than follow their historical practice of passively investing through funds themselves.
Addendum: According to the New York Times, "the auction featured several bizarre twists, including accusations that Bell’s board was manipulating the process, the withdrawal of big-name bidders and an atmosphere that many characterized as lacking any transparency. 'It was a black box,' said Brent D. Fullard, the executive managing director of Catalyst Asset Management who is urging Bell shareholders to push for recapitalization rather than a sale." And apparently, losing bidders Telus and Cerberus Capital Management are considering counter-offers.
On Friday, the Senate passed the National Security Foreign Investment Reform and Strengthened Transparency Act of 2007 on a voice vote. The proposed legislation would further amend the Exon-Florio Amendment to heighten scrutiny of foreign acquisitions, increase Congressional supervision of these decisions and enhance federal agency input in the process. The House of Representative had previously on February 28, 2007 approved similar legislation by a vote of 423 to 0. For an analysis of the House bill see my prior post, the Politics of National Security. And for an in-depth analysis of the differences between the House and Senate Bills see this detailed client memo published by Wiley Rein. The differences between the House and the Senate bill are only minor, and the speculation is that lawmakers might therefore bypass the usual conference committee procedure to reconcile these differences; instead, the House could approve the Senate's version of the bill and send it to the White House. As I stated before when commenting on the House version of the bill:
The effect of these changes would be to make our country less-welcoming of important foreign investment. While CFIUS review may be necessary in certain circumstances and this bill is one of the more moderate proposals, the bill could still result in increased and undue scrutiny and politicization of foreign takeovers. We are not France (who has protected its yogurt-maker Danone, from outside takeover, by designating it a national champion). Our success today can relate back to British investment in our country in the 19th century. It would be a shame if we hamstrung our continued growth by unduly and irrationally limiting foreign investment.
Vice Chancellor Strine's opinion in In re Topps Shareholders Litigation, 2007 WL 1732586 (Del.Ch. June 14, 2007), continues to generate significant commentary (see my own post on the decision here; for a history of the transaction see Dealscape's post here). Over at the Harvard Corporate Governance Blog, Professor Lawrence A. Hamermesh has a nice post on the lessons from Topps for dissident directors, citing six mistakes that he finds the Topps dissident directors themselves made. And Chares M. Nathan, a partner at Latham & Watkins LLP, talks about the implications of Topps for the deal process linking to his firm's own memo. For those who can't get enough, you can access here Richards Layton and Finger's fine client memo. There is also a Wachtell memo out there; if someone provides a copy, I'll link to it.
One of the frustrations often expressed with the 1968 Williams Act governing tender offers is that many of its provisions and the SEC rules thereunder no longer make sense. I'm currently finishing up an article on this topic entitled The Failure of Federal Takeover Regulation (read a draft here). When it is finally published, I intend to post a longer series concerning the issues and problems with current federal takeover law. But for today, I would like to talk about the obsolescence of one particular rule: Rule 14e-5.
Rule 14e-5 was promulgated in 1969 as Rule 10b-13 to prohibit bidder purchases outside of a tender offer from the time of announcement until completion. The primary reason put forth by the SEC for barring these purchases in 1969 was that they “operate to the disadvantage of the security holders who have already deposited their securities and who are unable to withdraw them in order to obtain the advantage of possible resulting higher market prices.” This is no longer correct; bidders are now obligated to offer unlimited withdrawal rights throughout the offer period. Moreover, Rule 10b-13 was issued at a time when targets had no ability to defend against these bidder purchases. They were yet another coercive and abusive tactic whereby the bidder could obtain control through purchases without the tender offer, thereby exerting pressure on stockholders to tender before the bidder terminated or completed its offer on the basis of these purchases. This is not feasible today. Poison pills and second and later generation state takeover statutes act to restrict these purchases to threshold non-controlling levels without target approval. In the wake of these developments, the original reasons underlying the promulgation of Rule 10b-13 no longer exist.
Moreover, Rule 14e-5, by its terms, acts to confine bidder purchases to periods prior to offer announcement. However, a bidder’s capacity to make preannouncement acquisitions has been adversely effected by a number of subsequent changes in the takeover code, such as the Hart-Scott-Rodino waiting and review period requirements. These have combined to chill a bidder’s ability to make preannouncement acquisitions or forthrightly precluded such purchases. Consequently, one study has recently reported that at least forty-seven percent of initial bidders have a zero equity position upon entrance into a contest for corporate control.
A bidder’s preannouncement purchase of a stake in the target, known as a toehold, can be beneficial. The toehold purchase defrays bidder costs, incentivizes the bidder to complete the takeover, and reduces free-rider and information asymmetry problems. This can lead to higher and more frequent bids. Meanwhile, market purchases amidst a tender offer can provide similar benefits while providing market liquidity and confidence for arbitrageurs to fully act in the market.
Since the initial premise for this rule is no longer valid and recent research supports encouragement of these purchases, the SEC should accordingly consider loosening restrictions on bidder toeholds and postannouncement purchases. Bidder toeholds and off-market purchases, however, do have a potentially corrosive effect if the stake is significant. To dampen this possibility, a relaxation of these purchase rules could be combined with provisions similar to those in the U.K. Takeover Code which permit pre- and post-announcement purchases but require the bidder to pay for a set period thereafter no less than that price paid for all subsequently acquired shares. Alternatively, the SEC could wholly deregulate and leave the possibility or actuality of bidder toeholds and postannouncement purchases to be regulated by targets through a low-threshold poison pill or other takeover defenses as well as through bargaining with potential bidders.
Finally, Rule 14e-5 has never applied to bar purchases while a merger transaction is pending. Presumably, this path dependency was set in 1969 because a bidder in a merger situation requires acquiree agreement; the acquiree can therefore contractually respond to and regulate this conduct. But whatever the reason, today a bidder who runs a proxy contest without a tender offer is permitted postannouncement purchases during the contest. Unsolicited bidders will therefore initially characterize their offers as mergers in order to leave the option of such purchases. The result is preferential bias towards mergers over tender offers, discrimination which no longer seems sensical in a world where a takeover transaction will not succeed unless the original or replaced acquiree board agrees to it. Any prohibition on outside purchases should apply to both merger and tender offer structures or to neither.