Chancery Explains Safest Deal Structure to Defend M & A Challenges
Southeastern Pennsylvania Transportation Authority v. Volgenau, C.A. No. 6354-VCN (Del. Ch. Aug. 5, 2005)
Issue addressed: This Chancery opinion explains the procedures to follow in order to benefit from the business judgment rule’s deferential standard of review for a merger that involves a controlling shareholder and a third-party.
This decision provides a road map for corporate lawyers who seek to establish procedures to follow in order to structure a merger involving a controlling stockholder and a third party, in a manner that is most likely to provide a successful defense to challenges by plaintiffs’ lawyers. As often happens, the selection of the standard of review helped to predict the outcome, and by rejecting the application of the entire fairness standard, the result was more likely.
Clothing your M&A deal in both a belt and suspenders is proving to be a solid safety play
Cajun humorist and chef Justin Wilson used to say that he was a “safety man,” as evidenced by his wearing both belt and suspenders. It turns out that that’s a pretty good metaphor for emerging Delaware law. Vice Chancellor John Noble recently held that:
A transaction involving a third party and a company with a controller stockholder is entitled to review under the business judgment rule if the transaction is (1) recommended by a disinterested and independent special committee and (2) approved by stockholders in a non-waivable vote of the majority of all the minority stockholders.
Noble noted that Chancellor Strine had previously reached the same result:
… the Court’s recent decision in In re MFW Shareholders Litigation (“MFW”) illuminates many of the procedural protections at issue in this case. For the first time, the Court addressed the question whether, and under what conditions, a merger between a controlling stockholder and its subsidiary could be reviewed under the business judgment rule, as opposed to the entire fairness standard. The Court held that the business judgment rule could apply if all of the following conditions were satisfied: (1) the controlling stockholder at the outset conditions the transaction on the approval of both a special committee and a non-waivable vote of a majority of the minority investors; (2) the special committee was independent, (3) fully empowered to negotiate the transaction, or to say no definitively, and to select its own advisors, and (4) satisfied its requisite duty of care; and (5) the stockholders were fully informed and uncoerced.
Noble further explained how the case before him extended MFW to a new fact setting:
Unlike MFW, which involved a controlling stockholder on both sides of the transaction, this case involves a merger between a third-party and a company with a controlling stockholder.
Alison Frankel has a typically cogent analysis of the issues:
Noble’s ruling is a direct descendant of then Chancellor William Chandler‘s 2009 opinion in In re John Q. Hammons Hotels Shareholder Litigation, in which Chandler said that the board of Hammons, a company controlled by founder John Hammons, could have adopted procedures in its sale to a third party that would have entitled it to deference under the business judgment rule, but didn’t. Chandler spelled out the protections for minority shareholders that the Hammons board could have applied, and SRA apparently heeded them. Noble said SRA passed the test Chandler set forth in the Hammons ruling.