Securities Regulation Daily Chancery enjoins anti-activist poison pill with 5 percent threshold
Monday, March 1, 2021

Chancery enjoins anti-activist poison pill with 5 percent threshold

By Anne Sherry, J.D.

The Williams Companies board’s actions in adopting an "unprecedented" anti-activist poison pill with a 5-percent ownership trigger was not proportional to the threat of "lighting strike" acquisition of stock.

The Delaware Court of Chancery enjoined a poison pill designed to impose a one-year bar on stockholder activism. The "unprecedented" pill adopted by the board of oil-and-gas company The Williams Companies had a low 5-percent trigger threshold, a broad definition of "acting in concert," and a narrow definition of "passive investor" designed to bar any type of activism. The court concluded that under Unocal, even assuming the board had a reasonable ground for identifying a threat to the corporation, the pill was not reasonable in relation to that threat (The Williams Companies Stockholder Litigation, February 26, 2021, McCormick, K.).

Poison pill structure. In early March 2020, after Williams’s stock price had fallen rather dramatically due to the impact of COVID-19 and the oil-price war between Saudi Arabia and Russia, an outside director with M&A experience conceived of the poison pill to insulate management from challenges by activist investors. The plan, as adopted by the board, had a one-year term and the following features:

  • a trigger upon a person’s acquisition of "beneficial ownership" of 5 percent or more of Williams stock (about a $650 million investment at the time the pill was adopted);
  • a definition of "beneficial ownership" that reaches further than that of Exchange Act Rule 13d-3, to also include warrants and options;
  • an "acting in concert" definition that includes a wolfpack provision (allowing the board great latitude for making an AIC determination) and a daisy chain (meaning that two people who act in concert with the same third party are deemed to be in concert with each other); and
  • a carveout for "passive investors" that, even read most broadly, would only carve out 13G filers, of which there were only three (BlackRock, Vanguard, and State Street).

As the chancery court pointed out, and as the board knew, the 5-percent trigger was unprecedented. The Delaware Supreme Court first upheld a poison pill with a 20-percent trigger as an anti-takeover device in Moran v. Household Int’l, Inc. (1985). After states enacted anti-takeover statutes, triggers crept down to 15 percent and then to 10 percent, and they defended against threats other than takeovers, such as protecting net operating loss assets (NOL) and, more recently, stockholder activism. At the board meeting to vote on the poison pill, Morgan Stanley gave a presentation that informed the board that only 2 percent of rights plans triggered below 10 percent, over three-fourths of plans had a trigger between 15 and 20 percent, and there was no precedent below 5 percent.

As expected, the reaction to the plan was negative. ISS recommended that stockholders vote against the chairman’s reelection, citing the poison pill. ISS argued that the pill was not a reaction to an actual threat and that the board did not appear to consider other alternatives. The chairman secured reelection by a narrow margin of only two-thirds of shares cast. Fidelity, which had voted in support of all directors, nevertheless warned that the board should put the pill to a stockholder vote the next year "or we likely will hold directors accountable."

The plaintiff stockholders filed a complaint asserting a direct claim for breach of fiduciary duty against the director defendants seeking declaratory and injunctive relief. The court certified a class and held a three-day trial in January.

Claims are direct. The court had occasion to determine, for the first time since Tooley (Del. 2004), whether a claim seeking to enjoin a stockholder rights plan is derivative. If derivative, the plaintiffs would have to demonstrate demand futility. While all rights plans interfere with a stockholder’s right to sell and right to vote, under Moran this degree of interference is nominal in the traditional anti-takeover pill that has a high trigger and an exception for soliciting revocable proxies. The Williams pill, however, goes beyond the traditional by "combining a parsimonious trigger of 5% with the AIC Provision and a limited passive ownership exception." This limits the act of communicating and restricts stockholders’ ability to nominate directors, harms that flow to stockholders and not the company. Accordingly, the injunction the plaintiffs seek is a remedy that affects stockholders alone, and their claims are direct.

Unocal inquiry. The court also sided with the plaintiffs on the issue of the standard of review. Rather than the business judgment rule as the defendants urged, enhanced scrutiny applied under Unocal because the Supreme Court has decided that all poison pills, by nature, have a potentially entrenching effect that brings Unocal into play. Unocal is a two-part inquiry: first, the board must show it had reasonable grounds to conclude a threat existed to the corporate enterprise. In other words, directors must demonstrate they acted in good faith to achieve a legitimate corporate objective. This requires that the board show that its good faith, and a reasonable investigation, gave it grounds for concluding that a threat existed. Under the second prong, the board must show that the defensive measures were reasonable in relation to that threat. The court does not substitute its judgment for that of the board, but rather assesses whether the measure falls within the range of reasonableness.

Looking to the first prong, the court noted that the pill was not designed as a takeover defense or to protect against any specific threat at all, but rather to stave off hypothetical future threats. Based on the director defendants’ testimony, the court identified three themes: (1) the plan was intended to deter stockholder activism; (2) the board wanted to insulate itself from activists pursuing "short-term" agendas and from distraction and disruption generally; and (3) the board was concerned that a stockholder might stealthily and rapidly accumulate large amounts of stock.

The first two of these amounted to hypothetical justifications for preventing stockholders from voting erroneously, which is not a cognizable threat under Delaware law. That left the final threat of the rapid accumulation of stock via "lightning strikes," or accumulating stock within the ten-day disclosure period under federal securities law. Even assuming for the sake of analysis that this presented a legitimate corporate objective, the pill was not a proportional response. (Although not reaching this issue, the court observed that if the desire to fill gaps in the federal disclosure laws was a legitimate corporate objective justifying such a poison pill, it would exist for every Delaware corporation subject to federal filing requirements, and upholding the pill would constitute a sea change in Delaware law.).

The pill was not proportional because of its extreme features: Williams was one of only two Delaware corporations to adopt a 5-percent trigger outside the NOL context, but the other corporation did so in the face of an actual activist campaign. The plan’s beneficial ownership definition’s going beyond the federal definitions, and the acting-in-concert definition’s going beyond the default of federal law, "increase … Williams’ nuclear missile range by a considerable distance beyond the ordinary poison pill." Indeed, the plan’s features were more aggressive than the gap-filling pills discussed in the academic literature, creating a response disproportionate to the hypothetical threat.

Even evaluating the plan’s features independently of any other type of pill, the plan was likely to chill a wide range of communications via the AIC provision, which sweeps up stockholder communications relating to so much as "influencing" control of the company. This "wolfpack" provision gives the board broad leeway to trigger the pill. Furthermore, the passive-investor definition potentially even extends to the actual scenario in which BlackRock, after the plan was announced, criticized Williams by saying "This doesn’t look good from an ESG perspective." By "exercising the power to direct or cause the direction of the management and policies of the Company," BlackRock here took itself out of the passive investor definition.

The court concluded that it was the defendants’ burden to show their actions were reasonable, and they failed to show that this "extreme, unprecedented collection of features bears a reasonable relationship to their stated corporate objective." The court declared the plan unenforceable and permanently enjoined its continued operation, obviating the need to resolve whether the defendants breached their fiduciary duties by failing to redeem the plan despite having the authority to do so.

The case is No. 2020-0707-KSJM.

Attorneys: Gregory V. Varallo (Bernstein Litowitz Berger & Grossmann LLP) for Plaintiff. William M. Lafferty (Morris, Nichols, Arsht & Tunnell LLP) for The Williams Companies, Inc. Patricia R. Urban (Pinckney, Weidinger, Urban & Joyce LLC) for Computershare Trust Company, N.A.

Companies: The Williams Companies, Inc.; Computershare Trust Co. N.A

MainStory: TopStory CorporateGovernance FiduciaryDuties GCNNews PublicCompanyReportingDisclosure RiskManagement ShareholderActivismNews DelawareNews

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