Friday, June 19, 2009
This digression will be familiar to California lawyers, but maybe a little foreign for others. When doing a deal for stock, it is key that the stock be registered with the SEC so that recipients can freely trade it. This entails the time and expense of filing an S-4 with the SEC and going through rounds of comments before the registration statement becomes effective and the stock can then be traded. That means months of additional delay. But, if the goal is to use stock that can be freely traded the day after the transaction closes, registration isn’t the only option.
Pursuant to Section 3(a)(10) there is a valid exemption from the registration requirement for any securities that have been issued in exchange for other securities where the terms and conditions of such exchange have been approved after a fairness hearing by a court of governmental authority. At such a hearing (which must be open to shareholders), the reviewer must find that the terms and conditions of the exchange are fair (both procedurally and substantively) to those to whom securities will be issued; and must be advised before the hearing that the issuer will rely on the Section 3(a)(10) exemption based on the reviewer’s approval of the transaction. The SEC’s most recent staff interpretation of the rules relating to 3(a)(10) fairness hearings can be found here.
The California Department of Corporations is authorized under California law to conduct fairness hearings (CCC: 25142). Such hearings are conducted by officers of the Department in both San Francisco and Los Angeles. The Department of Corporations reports doing some 423 fairness hearings over the past ten years, with the bulk occurring during the dot com bubble when stock ruled as consideration.
ALthough the reliance on fairness hearings has declined recently, the fairness hearing is not entirely a product of the bubble. It was used by Aruba Networks in their acquisition of Airwave last year. The application as well as the hearing transcript are available through the CALEASI database here. The merger agreement is unfortunately not included in the materials made available online.
The hearing took place less than two months after the deal was signed – so about a month faster than an S-4 process. The expense was also likely considerably less – no late nights at the printer and no lengthy comment letters before the hearing. However, there was a hearing and it was more than just a check the box exercise. If you take a look at the transcript of the hearing, you’ll see that the hearing officer spends a lot of time on procedure, but then delves into the substance of the transaction. Here’s a sample of his questioning of the buyer and counsel:
Q: Let’s discuss the economic terms of the merger. What was the purchase price that the parties agreed on?
A: Gross level of 37 million.
Q: Okay, how was that determined?
A: So we went through an economic analysis. We looked at if we were to bring this in-house, where would the revenues come from. So we looked at what revenues could Airwave contribute. We looked at selling the Airwave product with the Aruba product. What that would generate. We looked at selling their technology into our install base; and then the reverse, selling their technology into our install base….
Q: And how is the purchase price going to be paid?
A: It’s a mixture of cash and stock.
Q: Okay, What’s the appropriate mix?
A: So we ended up at 45% cash and 55% stock.
Q: And was the agreement amended to reflect that ratio?
A: Yes, it was. We started at 35% cash and incremented that to 45 as one of the amendments.
Q: Why was that change made?
A: So, there has been a decrease in our share price. Partly just by macroeconomics, partly we’re in a high tech basket. We had downward pressure on it.
and so on...
Although in the current deal environment, there aren’t many transactions getting done for stock at some point when things turn around the fairness hearing may make a come-back. In any event, it’s worth keeping the fairness hearing in one’s tool-kit of potential solutions.
UPDATE: Steven Davidoff at The Deal Professor notes that pursuant to a 1999 staff interpretation that a foreign scheme of arrangement can qualify for the 3(a)(10) exemption.
Thursday, June 18, 2009
Wednesday, June 17, 2009
Last night's Frontline episode gives a blow-by-blow of the BoA/Merrill deal in crisp Frontline style. Watch it over lunch at your desk.
For those of you keeping score at home, the material adverse change language is from the merger agreement is below. Having it in front of you will come in handy at certain points while watching the show.
3.8 Absence of Certain Changes or Events. (a) Since June 27, 2008, no event or events have occurred that have had or would reasonably be expected to have, either individually or in the aggregate, a Material Adverse Effect on Company. As used in this Agreement, the term “Material Adverse Effect” means, with respect to Parent or Company, as the case may be, a material adverse effect on (i) the financial condition, results of operations or business of such party and its Subsidiaries taken as a whole (provided, however, that, with respect to clause (i), a “Material Adverse Effect” shall not be deemed to include effects to the extent resulting from (A) changes, after the date hereof, in GAAP or regulatory accounting requirements applicable generally to companies in the industries in which such party and its Subsidiaries operate, (B) changes, after the date hereof, in laws, rules, regulations or the interpretation of laws, rules or regulations by Governmental Authorities of general applicability to companies in the industries in which such party and its Subsidiaries operate, (C) actions or omissions taken with the prior written consent of the other party or expressly required by this Agreement, (D) changes in global, national or regional political conditions (including acts of terrorism or war) or general business, economic or market conditions, including changes generally in prevailing interest rates, currency exchange rates, credit markets and price levels or trading volumes in the United States or foreign securities markets, in each case generally affecting the industries in which such party or its Subsidiaries operate and including changes to any previously correctly applied asset marks resulting therefrom, (E) the execution of this Agreement or the public disclosure of this Agreement or the transactions contemplated hereby, including acts of competitors or losses of employees to the extent resulting therefrom, (F) failure, in and of itself, to meet earnings projections, but not including any underlying causes thereof or (G) changes in the trading price of a party’s common stock, in and of itself, but not including any underlying causes, except, with respect to clauses (A), (B) and (D), to the extent that the effects of such change are disproportionately adverse to the financial condition, results of operations or business of such party and its Subsidiaries, taken as a whole, as compared to other companies in the industry in which such party and its Subsidiaries operate) or (ii) the ability of such party to timely consummate the transactions contemplated by this Agreement.
Tuesday, June 16, 2009
The proposed shareholder access rules and the debate surrounding the role of shareholder activists got me thinking. Some opposed to increased shareholder power paint pictures of the end of capitalism that will come when shareholders force boards to adopt unwise business positions motivated by political and other interests. Of course, this is not the first time we’ve had this debate. Long before cheap credit fueled the private equity bubble of the past few years and before Mike Milken and the junk bonds made the buyout craze of the 1980’s possible, there were a set a characters who started the modern takeover movement and were the original shareholder activists.
The first corporate raiders of the post-World War II era were Thomas Mellon Evans, Robert Young and Louis Wolfson among others. They were called pirates and financial hooligans for their attacks on the comfortable life of corporate boards that typified the 1950s. The takeover tactics that these raiders developed would later become commonplace. They used cumulative voting to get minority board representation, they successfully challenged staggered boards, they used leverage to increase their influence, and they sought to make the market more efficient by buying up underperformers and turning them around.
I just finished reading Diana Henriques’ White Sharks of Wall Street. White Sharks is a portrait of these raiders and Thomas Evans in particular. Evans, Wolfson, and Young all looked to acquire underperforming “businesses run by boards devoid of any meaningful ownership” and underperforming family-owned businesses where the genetic lottery resulted in an uninterested group of founders’ children trying to manage the business. They bought these businesses and shook them up – sometimes by turning them around and other times by breaking them up and selling them off.
Evans and the other “activists” of the 1950s were the face of the nascent takeover market. They were also a threat to the social and political fabric of the day. By forcing boards to face facts, they undid all the stability of the business in the 1950s. Notwithstanding this threat from activist shareholders, boards and the system stood up reasonably well, adapted and thrived for many years. One wonders what parallels we can learn from that experience that might inform how we think about shareholder access rules.
Monday, June 15, 2009
The proposed amendments to the proxy rules to require companies to include disclosures about shareholder nominees for director in the companies’ proxy materials, under certain circumstances, so long as the shareholders are not seeking a change in control require companies to include shareholder nominees for director in the companies’ proxy materials. This requirement would apply unless state law or a company’s governing documents prohibits shareholders from nominating directors.