Tuesday, November 6, 2012
Two interesting papers that raise the question of the true value of disclosure. The first is by Steven Davidoff and Claire Hill, Limits of Disclosure. Disclosure has been a common regulatory device since it was by Louis Brandeis ("Sunlight is said to be the best of disinfectants", Other People's Money). Indeed, our system of securities regulation is built upon this premise. Davidoff and Hill look at just how effective disclosure was in the run up to the financial crisis with respect to retial investors and in regulation of executive compensation. They come away disappointed:
The two examples, taken together, serve to elucidate our broader point: underlying the rationale for disclosure are common sense views about how people make decisions — views that turn out to be importantly incomplete. This does not argue for making considerably less use of disclosure. But it does sound some cautionary notes. The strong allure of the disclosure solution is unfortunate, although perhaps unavoidable. The admittedly nebulous bottom line is this: disclosure is too often a convenient path for policymakers and many others looking to take action and hold onto comforting beliefs in the face of a bad outcome. Disclosure’s limits reveal yet again the need for a nuanced view of human nature that can better inform policy decisions.
In another paper, Jeffrey Manns and Robert Anderson, The Merger Agreement Myth, take on the question of whether M&A lawyers are really creating any value or if they are just haggling over nits that no one cares about. Manns and Anderson conduct an event study to figure out whether there is value to all that drafting. They take advantage of the fact that not all merger agreements are filed with the SEC on the same day they are announced. So, they look for stock price changes that they can attribute to the addition of new information after the market learns about the terms of the merger agreement. If lawyers add value, they hypothesize that prices should rise after the market has learned the terms of the agreement - that's the value attributable to lawyers. It's basically a disclosure argument. If disclosure works, then the market should be able to instantly - or reasonably quickly - absorb new information and have that information reflected in stock prices. Like Davidoff and Hill, Manns and Anderson come away disappointed:
Our analysis shows that there is no economically consequential market reaction to the disclosure of the acquisition agreement. Markets appear to recognize that parties publicly committed to a merger have strong incentives to complete the deal regardless of what legal contingencies are triggered. We argue that the results suggest that M&A lawyers are fixated on the wrong problems by focusing too much on negotiating “contingent closings” that allow clients to call off a deal, rather than “contingent consideration” that compensates clients for closing deals that are less advantageous than expected. This approach can enable M&A lawyers to protect clients against the effects of the clients’ own managerial hubris in pursuing mergers that may (and often do) fall short of expectations.
So, disclosure as a regulatory device, or as a determiner of value, is not that successful and suggests we start looking elsewhere.
Wednesday, April 11, 2012
Most analysis of the JOBS Act has focused on its implications for capital markets activity. Now, Davis Polk has a short client alert focusing on the implications of the JOBS Act for private company M&A. Worth a quick read.
Wednesday, July 20, 2011
According to this story from Bloomberg, the SEC
sued a Michigan man, claiming he traded on information he learned from a houseguest about the impending acquisition of Brink’s Home Security
investment banker for Tyco International Inc., the buyer, inadvertently left behind a draft presentation on the deal.
According to the SEC, months later, the homeowner discovered the draft. Another month or so after the discovery, the homeowner intuited from changes in the banker’s travel schedule that the transaction was imminent.
According to the SEC, the homeowner profited from trading in Brink’s stock after the public announcement of the deal caused its price to jump 30 percent.
The homeowner's lawyer said his client has settled the case and will turn over his profits and pay a fine.
Obviously the facts are incomplete, but I wonder if Professor Bainbridge would have advised the homeowner to fight the case.
Monday, August 16, 2010
In this helpful Client Alert Latham & Watkins reviews the accounting and tax issues associated with equity awards to company employees during the months preceding an IPO, and provides a summary of the related concerns of the Staff of the SEC. The alert includes specific, practical guidance on how to avoid cheap stock issues during the SEC Staff’s review of an IPO registration statement.
Monday, June 28, 2010
The U.S. Supreme Court recently vacated the conspiracy conviction (premised on an improper theory of "honest services" wire fraud) of former Enron chief executive officer Jeffrey Skilling. In vacating the conviction, the Court essentially narrowed the scope of the U.S. wire fraud statute. As a result, prosecutors will likely be deterred from bringing mail and wire fraud charges against corporate executives whose alleged acts of disloyalty do not involve the receipt of bribes or kickbacks. Read this alert from Proskauer Rose to learn more about the decision and its ramifications.
Monday, May 3, 2010
Last month the second circuit affirmed the district court's opinion in Thesling v Bioenvision - holding that issuers have no duty to disclose merger negotiations. Whether and when one has a duty to disclose merger negotiations is a regular question that comes up with students. Bioenvision provides a succinct summary of the law on this question.
The plaintiffs claimed that when Bioenvision failed to disclose that it was engaging in merger negotiation with Genzyme that this failure to disclose caused several other statements to be materially misleading. The court's opinion is very short and reads in relevant part:
Thus, it is by now axiomatic that "a corporation is not required to disclose a fact merely because a reasonable investor would very much like to know that fact." In re Time Warner Inc. Sec. Litig., 9 F.3d 259, 267 (2d Cir. 1993). As the district court correctly observed, however, no express duty requires the disclosure of merger negotiations, as opposed to a definitive merger agreement. Moreover, "[s]ilence, absent a duty to disclose, is not misleading . . . ." Basic Inc. v. Levinson, 485
224, 239 n.17 (1988). For substantially similar reasons to those stated by the district court, we hold that plaintiff has not identified any part of the seven challenged statements that were rendered materially misleading by the alleged omissions relating to Bioenvision's merger negotiations. This pleading deficiency is sufficient to warrant the affirmance of the entire portion of the district court's decision that is challenged in this appeal, including the dismissal of plaintiff's claims against defendants-appellees for control-person liability. See ATSI Commc'ns, Inc. v. Shaar Fund, Ltd., 493 F.3d 87, 108 (2d Cir. 2007). U.S.
Thursday, January 14, 2010
Brian recently posted about the NACCO Industries case (here), As he reminds us:
NACCO reminds us that if you are going to terminate a merger agreement, you better comply with all its provisions. If you don't, if you perhaps willfully delay your notice to the buyer about a competing proposal, you might not be able to terminate without breaching. And, if you breach, your damages will be contract damages and not limited by the termination fee provision. Remember, you only get the benefit of the termination fee if you terminate in accordance with the terms of the agreement. Willfully breaching by not providing "prompt notice" potentially leaves a seller exposed for expectancy damages.
Davis Polk has just issued this client alert, drawing a few more lessons from the case. Here's a sample:
A recent Delaware Chancery Court decision raises the stakes for faulty compliance with Section 13(d) filings, holding that a jilted merger partner in a deal-jump situation may proceed with a common law fraud claim for damages against the topping bidder based on its misleading Schedule 13D disclosures. NACCO Industries, Inc. v. Applica Inc., No. 2541-VCL (Del. Ch. Dec 22, 2009). The decision, which holds that NACCO Industries may proceed with numerous claims arising out of its failed 2006 merger with Applica Incorporated, also serves as a cautionary reminder to both buyers and sellers that failure to comply with a "no-shop" provision in a merger agreement not only exposes the target to damages for breach of contract, but in certain circumstances can also open the topping bidder to claims of tortious interference.
January 14, 2010 in Break Fees, Contracts, Corporate, Deals, Federal Securities Laws, Leveraged Buy-Outs, Merger Agreements, Mergers, Private Equity, Transactions | Permalink | Comments (1) | TrackBack (0)
Friday, August 7, 2009
On August 3, 2009, the SEC proposed for comment a new rule under the Investment Advisers Act designed to address alleged “pay to play” practices by investment advisers when seeking to manage assets of government entities.
If adopted in its current form, the new Rule would prohibit investment advisers from
- providing advisory services to a government entity for compensation for two years after the adviser or certain of its associates make a contribution to a government official who can influence the entity’s selection of investment advisers.
- making any payment to a third party to solicit investment advisory business from a government entity.
The proposed Rule will affect virtually all private investment fund managers. It takes aim at alleged “pay to play” abuses in New York and New Mexico and is intended to address policy concerns that such payments (i) can harm government pension plan beneficiaries who may receive inferior services for higher fees and (ii) can create an uneven playing field for advisers that cannot or will not make the same payments.
Friday, June 26, 2009
The internal e-mail disclosed as part of the House Oversight Committee's hearings on the BAC/Merrill deal make for some interesting reading. In the exchange below Scott Alvarez, General Counsel for the Federal Reserve Board, lays out the major legal issues surrounding the last minute "MAC-attack" by Lewis. He correctly identifies the disclosure issue with respect ML's losses as the real hot button legal problem for Lewis.
From: Scott Alvarez
To: [Ben Bernanke]
Date: 12/23/08, 10:18AM
Shareholder suits against management for decisions like this are more a nuisance than successful. Courts will apply a “business judgment” rule that allows management wide discretion to make reasonable business judgments and seldom holds management liable for decisions that go bad. Witness Bear Stearns. A different question that doesn’t seem to be the one Lewis is focused on is related to disclosure. Management may be exposed if it doesn’t properly disclose information that is material to investors. There are also Sarbanes-Oxley requirements that the management certify the accuracy of various financial reports. Lewis should be able to comply with all those reporting and certification requirements while completing this deal. His potential liability here will be whether he knew (or reasonably should have known) the magnitude of the ML losses when BAC made its disclosure to get the shareholder vote on the ML deal in early December. I’m sure his lawyers were much involved in that set of disclosures and Lewis was clear to us that he didn’t hear about the increase in losses till recently.
All that said, I don’t think it’s necessary or appropriate for us to give Lewis a letter along the lines he asked. First, we didn’t order him to go forward – we simply explained our views on what the market reaction would be and left the decision to him. Second, making hard decisions is what he gets paid for and only he has the full information needed to make the decision – so we shouldn’t take him off the hook by appearing to take the decision our of his hands.
Let me know if you’d like any more information on this.
From: [Ben Bernanke]
To: Scott Alvarez
Date: 12/23/08, 11:08AM
Thanks, Scott. Just to be clear, though we did not order Lewis to go forward, we did indicate that we believed that [not] going forward would detrimental to the health of (safety and soundness) of his company. I think this is remote and so this question may be just academic, but anyway: What would be wrong with a letter, not in advance of litigation but if requested by the defense in the litigation, to the effect that our analysis supported the safety and soundness case for proceeding with the merger and that we communicated that to Lewis?
From Bernanke's response, it's pretty clear that while the Fed didn't order BAC to close the deal, they probably told Lewis that if he decided not to close the deal that the world economy would implode and it would be all his fault. Hmm. Tough choice. Tough choices like these are just examples of the "Big Deal" in action.
On the other hand, to the Chairman's question about preparing a letter to help with Lewis' potential defense in any lawsuit - through the combined wonders of e-mail and discovery, the letter he thinks might be helpful isn't required!
Recap of Bernanke's testimony:
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.
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.
Tuesday, June 2, 2009
The real question regarding the shareholder access debate is whether once shareholders have the power to nominate minority directors whether they will use it for good or ill, or at all. Yair Listokin has a paper, “If You Give Shareholders Power, Do They Use It? An Empirical Analysis,” in which suggests the answer might be that they won’t use it at all. Listokin looked at state antitakeover protection statutes that provide shareholders with the opportunity to opt-out through the adoption of shareholder initiated bylaw proposals. He finds that very few companies’ shareholders take advantage of the opportunity to opt-out of these statutes. This finding is consistent with earlier work from Rob Daines and Michael Klausner who looked at customization of incorporation documents and found very little opting out of default provisions (here).
Recently, we started to have experience with shareholder votes relating to ‘say-on-pay’ a hot-button issue (and here) it there ever was one. So far, shareholders who have had the opportunity to vote on pay packages appear reticent to say ‘no.’ The WSJ recently canvassed 15 companies large cap companies with say-on-pay policies that permit shareholders to review executive pay policies (here) and none of questions passed. Given the high degree of emotion that pay questions can generate, the vote results (or lack of them) are pretty amazing. All of this simply provides fuel for the shareholder access debate.
Tuesday, November 13, 2007
On Nov. 1 the Delaware Chancery Court issued an opinion in In re Checkfree Corp Securities Litigation. The case is yet another in the recent line of Chancery Court opinions examining the required disclosure in takeover proxy statements of financial analyses underlying a fairness opinion. The particular issue in Checkfree was whether management projections are required to be disclosed in a proxy statement if they are utilized by the financial advisor in the preparation of their fairness opinion.
In this case, Checkfree had agreed to be acquired by Fiserv for $48 a share. In connection with their agreement, the Checkfree Board had received a fairness opinion from Goldman Sachs. Checkfree's proxy statement to approve the transaction contained the usual summary description of the financial analyses underlying the fairness opinion. Plaintiffs' claimed that this was deficient under Delaware law and sued to preliminary enjoin completion of the transaction. More specifically, plaintiffs alleged that:
the CheckFree board breached its duty to disclose by not including management's financial projections in the company's definitive proxy statement. They argue that the proxy otherwise indicates that management prepared certain financial projections, that these projections were shared with Fiserv, and that Goldman utilized these projections when analyzing the fairness of the merger price.
Here, the plaintiffs' relied heavily on the recent case of In re Netsmart Technologies, Inc. Shareholders Litigation, 924 A.2d 171 (Del. Ch.2007), for the proposition that a company is required to disclose all of the information underlying its fairness opinion in its takeover proxy statement.
The court began its analysis by rejecting this sweeping requirement. Chancellor Chandler wrote:
"disclosure that does not include all financial data needed to make an independent determination of fair value is not ... per se misleading or omitting a material fact. The fact that the financial advisors may have considered certain non-disclosed information does not alter this analysis."
The court then put forth the relevant standard:
The In re Pure Resources Court established the proper frame of analysis for disclosure of financial data in this situation: "[S]tockholders are entitled to a fair summary of the substantive work performed by the investment bankers upon whose advice the recommendations of their board as to how to vote on a merger or tender rely."
It then went on to distinguish Netsmart by stating:
the proxy at issue [in Netsmart] did not include a fair summary of all the valuation methods the investment bank used to reach its fairness opinion. Although the Netsmart Court did indeed require additional disclosure of certain management projections used to generate the discounted cash flow analysis conducted by the investment bank, the proxy in that case affirmatively disclosed an early version of some of management's projections. Because management must give materially complete information "[o]nce a board broaches a topic in its disclosures," the Court held that further disclosure was required.
Finally, the court held:
Here, while a clever shareholder might be able to recalculate limited portions of management's projections by toying with some of the figures included in the proxy's charts, the proxy never purports to disclose these projections and in fact explicitly warns that Goldman had to interview members of senior management to ascertain the risks that threatened the accuracy of those projections. One must reasonably infer, therefore, that the projections given to Goldman did not take those risks into account on their own. These raw, admittedly incomplete projections are not material and may, in fact, be misleading.
This is the right decision under Delaware law. M&A lawyers in the future should now be careful about unnecessary disclosure of projections in proxy statements to avoid triggering NetSmart's requirements. Relatively simple.
The problem with this decision is of wider consequence. Namely, can anyone tell me what exactly is required to be disclosed concerning fairness opinion financial analyses under Delaware law? In Pure Resources, Netsmart and here, the Delaware courts have created an obligation of disclosure for the analyses underlying fairness opinions under Delaware law. Yet, while a worthy goal, judge-made disclosure rules are standard-based and decided on a case-by-case basis. This is a poor way to regulate disclosure. It would be better done through the traditional way -- SEC rule-making under the Williams Act and proxy rules. Yet, the SEC has largely abandoned takeover regulation. In the last seventeen years it has only initiated two major rule-making procedures (the M&A Release and all-holders/best price amendments). There were rumors two years ago that the SEC was looking at fairness opinion disclosure, but nothing has come of it. Instead, we are stuck with this, uncertain disclosure rules that arguably do not ameliorate the fundamental issues underlying fairness opinions. I'm not criticizing Delaware here -- they are doing their best to fill the gap with the tools at hand. But, this all would be much better done by the SEC. Is anybody out there?
Wednesday, September 12, 2007
By now most of you have probably read that Applebee's last week disclosed in its preliminary proxy filing that its board split 9-5 in favor of being acquired by IHOP. The dissenters included the current and former CEOs of IHOP. The history is worth a full read as it reveals Applebee's consideration and rejection of a stand-alone plan involving a recapitalization and special dividend and that IHOP reduced its offering price from $27.50 to $25.50 as a result of its due diligence on Applebee's.
What I think is the more troubling here is a Applebee's failure to disclose this split vote until about a month and a half after it agreed to the transaction. I think that you could make a good claim that Applebee's failure to do so was a material omission in violation of the federal anti-fraud rules. If I am a shareholder purchasing shares post-transaction announcement, I would think I would find this significant in the total mix of information. After-all, this fact would have significance to many shareholders in making their vote.
You could quibble with this point, but I think that in a post-Dura Pharmaceuticals v Broudo, 544 U.S. 336 (2005) world Applebee's has almost no liability exposure if indeed the fact is material. Dura held that a plaintiff could not establish loss causation under Rule 10b-5 by proving that the price on the date of the purchase was inflated because of the misrepresentation. Rather, a plaintiff must show an actual loss such as a share price fall related to the misstatement. In the case of Applebee's, to establish loss causation in a post-Dura world a plaintiff would have to show that there was a share price movement triggered by Applebee's disclosure of this fact in its proxy statement filing. The problem, though, is two-fold. First, the Applebee's share price is anchored by the IHOP offered price. This isn't likely a foreclosing problem under Dura, though, as the trading of Applebee's stock would still likely be affected to some extent due to a reassessment of the chances of the deal collapsing. Rather, the actual problem is that the institutional shareholders and proxy advising agencies will not make their recommendations and take positions until closer to the vote, and certainly will not on the day the proxy statement is filed -- they need time to read and analyze it. A more significant change in the Applebee's share price will not come until that assessment is completed and disclosed and shareholders have more information on their respective positions. Under Dura loss causation for failure to disclose this information at the time of the transaction announcement would therefore be almost impossible to establish. Yet, these institutional shareholders and proxy services will likely base their decision on this split vote. Of course, if the shareholders then vote to disapprove the merger, the share price will move even more then, but again, loss causation will be even closer to impossible to prove for this ommission.
I admit there are a number of assumptions underlying my statements above, and that I make one double materiality assumption (i.e., the information is material to the instit shareholders and proxy services and their voting decisions are material to other shareholders). Nonetheless, my main point here is that post-Dura the incentives to disclose material information early in takeover transactions appear to be shifted to permit more leeway towards non-disclosure. This likely exacerbates the traditional problems with disclosure in the history of the transaction section of takeover documents. This section is often the most carefully drafted portion of the takeover document; it is written to gloss over or spin problems which arose during the transaction negotiation, and often management will put strong pressure on the lawyers to make judgments about materiality which exclude seemingly important facts. The SEC review process often picks up on some of these problems and corrects them, but this review is limited at best. The interesting development is that, in this void, the Delaware courts have rapidly become the guardians for good disclosure. In NetSmart, Lear and other recent Delaware cases the Chancery Court has been quick to enjoin transactions under Delaware law for failure to disclose material information about the history of the transaction. This is attributable to the active role in takeovers by Delaware, compared to the quiescent one of the SEC (in contrast to other areas of securities law, the SEC has since the 1990s abstained from active regulating in the takeover arena). It is also due to the discovery power in litigation that plaintiffs have in the Delaware courts -- they can find these non-disclosed facts. It is clearly symbolic that the Delaware courts are increasingly enforcing the disclosure obligations of participants in takeovers -- something which historically has been the SEC's sole regulatory turf. For more on this see my forthcoming Article, The SEC and the Failure of Takeover Regulation.