Cornerstone Research released its latest report on lawsuits contesting mergers and acquisitions and found a significant drop in the percentage of deals valued above $100 million that were challenged in recent years. This was the first drop in this metric that Cornerstone has observed since 2009, but questions remain whether the trend will hold over time. A recent Delaware opinion likely figured prominently in the results announced via a Cornerstone press release.
If not Delaware, where? The Cornerstone study, which examined lawsuits in deals valued at more than $100 million that were filed by shareholders of public target companies for deals announced between 2007 and the end of June 2016, detected a fall in the percentage of these deals being challenged in court. Cornerstone posited that developments in Delaware law that seem to be limiting the number of such cases brought there may account for at least part of the percentage drop. But Cornerstone said it is an open question whether other courts will adopt the Delaware Court of Chancery’s newly restrictive view of so-called disclosure-only settlements in deal cases.
According to Cornerstone, 84 percent of deals of the size studied were litigated in 2015, while 64 percent have been litigated so far in 2016. Cornerstone also said the average number of suits per deal fell. But Cornerstone warned that the percentage of suits could eventually rise again if a trend indicting a longer lag time between deal announcement and the first law suit filed persists.
Cornerstone also noted that Delaware’s hostility to disclosure-only settlements has pushed some of these cases to other jurisdictions. Cornerstone said there were already some indications that other states’ courts may be less hostile that Delaware courts. An earlier Cornerstone/Stanford study of a different set of securities class actions noted the possibility that some deal cases could migrate from state to federal courts due to changed attitudes in Delaware. Cornerstone also posed the question of whether approvals of settlements agreed to prior to the latest developments in Delaware would hold true for settlements made afterwards.
Agency, insurance, and peppercorns. The driving force behind Cornerstone’s findings, at least in part, is likely a pair of Delaware opinions handed down within the past year questioning, and then discouraging, disclosure-only settlements. Former Chancellor William Allen is said to have originated use of the phrase "peppercorn" to describe these cases because the bargain to be struck results in disclosures that often have little value in light of the claims to be released. The peppercorn theory has spurred a lively, and now resurgent, academic literature (e.g., in both cases discussed below, a law professor was allowed to oppose a settlement on agency theory grounds that he had advocated in his academic writings in one case, and to participate as amicus curiae in another case).
Vice Chancellor Sam Glasscock openly challenged the wisdom of disclosure-only settlements in a September 2015 opinion in In re Riverbed, a merger case that raised what the vice chancellor called "meta-" and "meta-meta-agency" questions because of the potent combination of the parties’ and their representatives’ potentially divided loyalties and varying incentives to aggressively pursue litigation (a footnote cites a transcript in another case in which former Vice Chancellor John Noble—currently a partner at Morris James—called such settlements "deal insurance"). Vice Chancellor Glasscock said:
This case, like many stockholder actions settled in this Court, was resolved by the Defendants agreeing to make additional disclosures to the stockholders, which in theory enable the plaintiff Class to exercise its franchise in a better-informed manner. While such disclosures are in some instances material to the class members in exercising their voting franchise, and are thus valuable, in other cases their value is dubious. In return, the Plaintiffs agreed to forgo the substantive process claims alleged in the complaint and to release all claims arising from the merger.
In a later passage, Vice Chancellor Glasscock would note the "troubling" scope of the requested release and liken the disclosures to be made to a "peppercorn" and the release to a "mustard seed." Still, based partly on "unique circumstances," the vice chancellor approved the settlement and a related fee request.
Trulia. In January 2016, Chancellor Andre Bouchard seemingly upped the ante for court approval of disclosure-only settlements when he disapproved a settlement between shareholders of Trulia, Inc. who complained that Zillow, Inc.’s acquisition of Trulia resulted from a breach of fiduciary duty by Trulia’s directors, who allegedly agreed to the deal based on an unfair exchange ratio. The settlement at issue in In re Trulia arose only four months after the objecting shareholders filed suit. The chancellor ultimately found that the proposed supplemental disclosures were nonmaterial such that the consideration for the release was inadequate.
The chancellor wasted little time getting to his main point, saying on page two of the opinion that: "…to the extent that litigants continue to pursue disclosure settlements, they can expect that the Court will be increasingly vigilant in scrutinizing the ‘give’ and the ‘get’ of such settlements to ensure that they are genuinely fair and reasonable to the absent class members."
According to Chancellor Bouchard, the chancery court needs to revisit the propriety of disclosure-only settlements, which may deliver few benefits to shareholders, can pose a risk that shareholders may be unable to later pursue unknown yet valuable claims (see note 4 at page 7 for how the Trulia stipulation initially defined "Unknown Claims," a provision later abandoned, but the release was still too broad to be approved), and the non-adversarial character of these proceedings.
By contrast, the chancellor would prefer these cases to be heard via adversarial proceedings in which the court can review the claims outside of a settlement agreement, such as through a motion for preliminary injunction or a fee request (with no release at stake) that would spur the defendants to dispute outsized fees. Moreover, a "logical and sensible framework" could be a mootness fee proceeding in which there is no release, but the litigation would likely still come to an end, and the parties could even seek to resolve their fee dispute outside of court.
Thus, what would it mean for the court to examine the "give" and the "get" more closely in disclosure-only cases. Chancellor Bouchard said:
To be more specific, practitioners should expect that disclosure settlements are likely to be met with continued disfavor in the future unless the supplemental disclosures address a plainly material misrepresentation or omission, and the subject matter of the proposed release is narrowly circumscribed to encompass nothing more than disclosure claims and fiduciary duty claims concerning the sale process, if the record shows that such claims have been investigated sufficiently [footnote omitted regarding mootness fee proceeding]. In using the term "plainly material," I mean that it should not be a close call that the supplemental information is material as that term is defined under Delaware law.
Citing Boilermakers, the chancellor noted that a Delaware corporation might invoke its power to adopt a forum selection bylaw regarding the possibility that deal cases historically brought in Delaware could migrate to other jurisdictions post Trulia. The chancellor also urged other state courts to follow the Delaware approach to disclosure-only settlements in the merger space.
Companies: Cornerstone Research; Trulia, Inc.; Zillow, Inc.; Riverbed Technology, Inc.; Thoma Bravo, LLC; Teachers’ Private Capital; Ontario Teachers’ Pension Plan
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