M & A Law Prof Blog

Editor: Brian JM Quinn
Boston College Law School

Friday, May 14, 2010

Why 102(b)(7) Matters

I wanted to follow up on an earlier post, Triggering Revlon with Nonconvertible Debt.  In the last paragraph of that post I noted that Lyondell reminds us that good faith claims are very hard to win.  Stefan Padfield (Business Law Prof Blog) wrote me to remind me that the presence of an optional 102(b)(7) provision in the certificate is what is really motivating the good faith litigation.

It's Friday, and the last day of exams in many places, so it's probably worth quickly walking through why 102(b)(7) matters and the role it's playing in many of these cases, like Binks.

In Van Gorkom the court found directors had breached their duty of care when - among other things - they approved a merger agreement without adequately informing themselves of the agreement's contents.  The directors in that case had to pay damages.   The response to this decision was swift.  Delaware adopted Sec. 102(b)(7) which permits corporations to include provisions eliminating monetary damages for director for any breach of fiduciary duty.   This limitation on personal liability is subject to certain conditions.  A corporation may not eliminate liability for any of the following:  

(i) For any breach of the director's duty of loyalty to the corporation or its stockholders; (ii) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law; (iii) under § 174 of this title; or (iv) for any transaction from which the director derived an improper personal benefit.

This language basically tells you that with a 102(b)(7) provision in its certificate there are no monetary damages for Van Gorkom-like violations of the duty of care. Where there is only a care claim at stake and where plaintiffs are only seeking monetary damages, then courts will permit defendants to raise 102(b)(7) as an affirmative defense and will dismiss these cases at the earliest possible moment.

Now, the drafters 102(b)(7) could have just said a corporation may only eliminate liability for monetary damages for any violation of the director's duty of care, but they didn't.  What they did was create some unintended ambiguities that created an opportunity for creative plaintiff counsel to bring new claims.  In this case, the language that does not permit exculpation of acts not in good faith became a license for new claims.  The plaintiff’s strategy in the face of a 102(b)(7) provisions was to take an act by an otherwise independent and informed board that should by all rights be a care claim and convert it into a claim for which there might be the prospect of monetary damages.  By arguing that directors acted in bad faith, it might be possible to convert a care claim into a claim for damages.  Plaintiffs made that argument with gusto.  

However, in Stone v Ritter, the court started to put the brakes on such claims by endorsing Caremark and placing these good faith claims clearly in the realm of the duty of loyalty.  

In Lyondell, the plaintiffs again made an argument that an otherwise independent board had violated its fiduciary duties when it agreed to sell the company.  Plaintiffs argued that the board’s failure was not one of care, but that they had acted in bad faith.  Had this argument won the day, the action would have survived summary judgment and what would otherwise be an exculpable care claim would have been converted to a loyalty claim for which monetary damages would be available. 

The court in Lyondell recognized that there may be some violations of a director’s duty of care – for example a failure to act in the face of a known duty – that can rise to the level of acts not in good faith.  However, in order to make the magical conversion from an exculpable care claim to a non-exculpable loyalty claim, the facts must be extreme.  That’s where the court’s language “utter failure” comes into play.   To convert a care claim to a loyalty claim, a board would have to utterly fail to act in the face of a known duty. 

It’s hard to utterly fail.  I mean, you really have to try.  Think about how malleable the Revlon standard is.  There is no single blueprint to guide a board on how to fulfill their obligations under Revlon.  In the face of several reasonable alternatives, a court is not going to step in and tell an informed and disinterested board that it picked the wrong one.  It’s hard to imagine how a well-advised board would ever run afoul of Revlon's reasonableness standard to such a degree that it utterly fails.  I guess it could happen, but it’s not going to happen very often.

Is it Summer already?


May 14, 2010 | Permalink | Comments (0) | TrackBack (0)

Tuesday, May 11, 2010

Meatballs, Golfballs and Goofballs

Paul Thayer, former CEO of LTV, passed away last week.  Obits here and here.  LTV was the iconic conglomerate of the 1950s and the Go-Go 1960s.  LTV was put together by Jimmy Ling, one of the biggest characters of the conglomerate era.  He amassed a slew of mismatched corporate entities under the LTV umbrella.  By 1969 its 33 different divisions spanned the gamut from meatballs, golfballs to goofballs.  It was an eclectic mix with almost no synergies, unless you think that food service, sports equipment and aerospace go together.  In 1970 Jimmy Ling was ousted by the LTV board and replaced by Paul Thayer, who was president of the Vought division of LTV (the "V" in LTV).  He may have been one of the first to recognize that the conglomerate was a business model without a future.  Thayer spent the next 12 years shedding non-core assets and focusing LTV into a profitable operating company.  In doing so Thayer helped usher in the LBO boom of the 1980s.   He's worth remembering.


May 11, 2010 | Permalink | Comments (0) | TrackBack (0)

Monday, May 10, 2010

Unscrambling Eggs

It doesn't happen often. But, that doesn't mean it doesn't happen.  The FTC is now suing Dun & Bradstreet (H/T Main Justice) to unwind a transaction D&B closed last year.  According to the complaint, D&B acquired the Quality Education Data (QED), a division of Scholastic, Inc., in an asset purchase and integrated QED with its own Market Data Retrieval unit in February 2009.  The FTC sums up the transaction this way:

 Market Data Retrieval (“MDR”), a company of D&B, is the leading provider of data for marketing to kindergarten through twelfth-grade teachers, administrators, schools and school districts (“K-12 data”) in the United States. K-12 data includes but is not limited to contact, demographic and other information relating to K-12 educators. K-12 data is sold or leased to customers that use the data to market products and services to educators. In early 2009, D&B acquired the assets of QED, MDR’s primary competitor. As a result of the acquisition, MDR now holds over 90% of the relevant market, with only a small fringe consisting of two firms accounting for the remainder. This transaction is in practical effect a merger-to-monopoly and, if allowed to remain, would likely allow MDR unilaterally to exercise market power in various ways, including increasing prices and reducing product quality and services to K-12 data customers.

"Merge-to-monopoly"?  Acquiring your “primary competitor”?  Neither of those sound good.  In fact, they’re not.  So, why didn’t the HSR process catch this transaction?  Simply put, the deal was too small to trigger a required HSR filing.  The transaction was valued at $29 million, well below the $69 million trigger at the time.  It was probably unwise not to file anyway.  Certainly, in antitrust sensitive transactions the FTC will accept a voluntary filing.  Here it looks like the parties decided against such a filing.  They either neglected to consult antitrust counsel on the transaction, or they did, and then took a shot (in Feb 2009) that the somnolent attitude towards enforcement that was a hallmark of the previous administration would continue going forward.  And anyway … unscrambling the eggs post closing is so expensive and time-consuming, the FTC wouldn’t waste their time on such a small market.  Would they?

They would.  Here's a little advice from the FTC's Richard Feinstein, Director of the Bureau of Competition

Despite its relatively low dollar value, this transaction dramatically decreased competition in the marketplace.  When Dun & Bradstreet acquired QED, it bought its closest competitor and created a monopoly. That’s going to get the FTC’s attention every time.

While a voluntary HSR filing would not have created an absolute safe harbor from a subsequent antitrust suit, it might have cleared the ground and allowed the parties to address the government's antitrust concerns earlier on in the process - before there had been any integration work, before there had been any joint marketing, etc.  True, making such a filing might have added additional costs and added time to an otherwise small transaction.    These are common cost/benefit questions that parties have to consider with antitrust counsel in these kinds of transactions.  They can be close calls.  In this case, it looks like the parties may have made the wrong call.  By avoiding a voluntary pre-closing process, the parties have apparently triggered a worse fate - the potential that the government will come in ex post and undo a deal that closed more than a year ago.   


Update:  A reader helpfully points out the following:  

Technically there is no such thing as a voluntary HSR filing.  If you fall below the jurisdictional thresholds they’ll reject your filing. Of course, regulators will be glad to discuss whatever parties bring to their attention about pending transaction.  So, there is a way that you can get the antitrust regulators’ temperature before driving the car into the deep blue.  But, as a business matter, a target might be disinclined to wait for months pre-closing as the regulators sort it out.

May 10, 2010 in Antitrust, Cases | Permalink | Comments (2) | TrackBack (0)