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M&A in Brief: Q1 2024

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1. Chancery Court Rejects Forum Selection Clause
2. A Revlon Refresher
3. Procedural Safeguards Preserve Business Judgment Standard
4. Delaware Chancery Court Provides Additional Guidance on What Constitutes a Sale of “Substantially All” Assets

1. Chancery Court Rejects Forum Selection Clause
By Mark Tarallo

In a letter ruling, the Delaware Chancery Court held that where neither the target nor the acquiror was a Delaware entity, the transaction documents between the parties could not confer jurisdiction in the Chancery Court despite clear and explicit language in the documents. In D. Jackson Milhollan v. Live Ventures, Inc., C.A. No. 2022-0915-PAF, Vice Chancellor Fioravanti issued a letter ruling dated April 13, 2023, dismissing the action for lack of subject matter jurisdiction. The defendant, a Nevada corporation, and Precision Industries, Inc., a Pennsylvania corporation, entered into a Merger Agreement dated July 14, 2020 (the “Merger Agreement”). The Merger Agreement provided for an amount to be held back as security for indemnity claims, and to be released to the sellers after approximately 18 months. After the release date had passed, Live Ventures, Inc. (the buyer) informed the sellers that the holdback would not be released.

The plaintiffs brought suit in the Delaware Chancery Court based on the language in the Merger Agreement that stated that any claims, actions, and proceedings that arise from or relate to the Merger Agreement “shall be heard and determined exclusively in the Court of Chancery of Delaware” and that the parties submit to the exclusive jurisdiction of the Chancery Court. The Chancery Court dismissed the claim however, based on the inability of the plaintiffs to show that the Chancery Court had jurisdiction over the matter beyond the language of the Merger Agreement. The Chancery Court noted that there were typically three ways for jurisdiction to lay with the Chancery Court:  (i) the assertion of an equitable claim; (ii) a request for equitable relief; and (iii) by statutory grant. No statutory basis existed for jurisdiction since neither party was a Delaware entity, and because the complaint sought only money damages, no equitable claim was asserted. The Chancery Court then dispensed with the plaintiff’s claims for equitable relief as insufficient to confer jurisdiction, noting that “the mere request for a form of equitable relief does not confer equity jurisdiction where, as here, the Plaintiff has an adequate remedy at law.”  Since none of the three jurisdictional tests could be met, the Chancery Court dismissed the complaint.

Why the Chancery Court Would Consider a Case

Parties drafting transactional documents must give careful consideration to a connection to Delaware if they hope to use the Chancery Court as a forum to resolve any disputes. It is clear that the Chancery Court will take a close look at the facts and circumstances of any claim, in particular the type of relief requested, even where the transaction documents call for Chancery Court jurisdiction. Drafters should be familiar with the statutory bases for jurisdiction in the Chancery Court, and should consider alternative jurisdictions if the statutory requirements are not satisfied and the only damages likely to be sought are money damages.

2. A Revlon Refresher
By Kadeem Apply

What Is the Revlon Rule?

The Revlon Rule imposes a heightened fiduciary duty on the board of directors and requires that it seeks out the highest price possible in the event of an imminent corporate takeover or merger. See Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc., 506 A.2d 173 (Del. 1986). Under the Revlon Rule, the court will review the board's actions with enhanced scrutiny. Unlike the business judgment rule, the enhanced scrutiny applicable under the Revlon Rule will shift the burden of proof back from the plaintiff to the board and requires the independent directors to establish (i) that the process through which a decision was agreed upon was executed with proper care and (ii) that the actions taken were reasonable in light of then-existing circumstances the company was facing.

Lessons from In re Mindbody, Inc. Stockholder Litigation

During the summer of 2018, Richard Stollmeyer, the CEO of Mindbody, Inc., discussed a potential sale transaction with an investment banker at Qatalyst, who then connected him to Vista Equity Partners. In August, Stollmeyer met with Luxor Capital Partners, L.P., a 14% stockholder in Mindbody, and inquired whether they would support a sale. Luxor was disinterested in a near-term sale, however. In October, Stollmeyer persisted in expressing his interest in Vista by attending their CXO Summit and then followed up after receiving an expression of interest from them on October 15. After the Summit, Qatalyst warned Stollmeyer about the risks of rushing a deal. Stollmeyer ignored the warning, however. Stollmeyer informed a single board member about Vista’s interest and largely left the remaining board members uninformed, until he told the remaining members about a week later. Shortly thereafter, the board formed a transaction team, and they provided instructions on the necessary consent required to receive approval from management and guidelines for management’s communication with potential bidders. Stollmeyer ignored the instructions, , and Vista was able to acquire information that gave them an advantage in the bidding. 

In December, Vista received a market study before any other potential bidders accessed the data room that had been created in connection with the potential transaction. Vista then made a formal bid at $35 per share; Mindbody countered at $40 per share; and Vista responded to the counter with a final offer at $36.50 per share, which Mindbody accepted. A few days later, Vista and Mindbody entered into a merger agreement. The transaction was swift, as an internal Vista email detailed how Vista was “able to conduct all of our outside-in work before the process launched,” providing Vista the opportunity to provide a definitive offer within three days of the opening of the data room. As proxy statements went out to solicit approvals, they omitted references to Stollmeyer’s ongoing interaction with Vista before the transaction. Upon learning of Vista’s involvement, Luxor filed a Schedule 13D asserting that the merger undervalued Mindbody, and filed a section 220 demand to review the corporate books and records of Mindbody. Luxor also commenced litigation, alleging that Stollmeyer violated his fiduciary duties and committed fraud on the board because his conduct leading to the merger was unreasonable, and that his disclosures to the board were deficient.  In Re Mindbody, Inc. S’Holder Litig., C.A. No. 2019-0442-KSJM, 2023 WL 2518149 (Del. Ch. March 15, 2023).

The court held Stollmeyer liable under Revlon because “he did not strive in good faith to pursue the best transaction reasonably available, rather he pursued a fast sale to Vista to further his personal interests and tilted the sale process in Vista's favor for personal reasons, therefore, the process did not achieve a result that falls within the range of reasonableness.” Mindbody, 2023 WL 2518149, at *2. Second, the court held Stollmeyer and Vista jointly and severally liable for damages for disclosure violations concerning the sale because “Stollmeyer breached his duty of disclosure when he failed to disclose the full extent of his involvement with Vista, which was a material omission and Vista aided and abetted Stollmeyer's breach by failing to correct the proxy materials to include a full and fair description of its own interactions with Stollmeyer.” Mindbody, 2023 WL 2518149, at *3. The court concluded that Vista would have paid $37.50 per share; therefore, Stollmeyer and Vista were liable for $1 per share. Mindbody, 2023 WL 2518149, at *48.

The court’s analysis focused on three aspects of the claims. First, the business judgment rule could not cleanse this transaction because Stollmeyer’s conduct was unreasonable, and his disclosures were deficient. Second, Stollmeyer’s behavior was motivated by the liquidity the transaction would bring because 98% of his net worth was invested in Mindbody. He was limited by his opportunity to sell large amounts due to the limitation of his 10b5-1 plan. Third, Stollmeyer felt the pressure from a sunset provision in the high-vote class B stock he held, which entitled him to 19.8% of Mindbody’s vote but would convert in 2021 to single-vote stock carrying less than 4% of the vote.

Practical Considerations

In a competitive acquisition by private equity sponsors with a target CEO who was fearful of a volatile public market and whether he would be able to lead his company to its next stage of growth, the target CEO attempted a rush sale and failed to uphold the fiduciary duty standard of care by failing to negotiate the best-selling price for his shareholders. As a result, a successful Revlon claim was brought against the target CEO, a rare occurrence.

Generally, directors’ decisions are entitled to deference under the business judgment rule unless they face a conflict of interest or the company’s perpetual existence as a corporate entity is at issue. The business judgment rule offers a low bar by which the action of a board would likely be upheld. Once the presumption of the business judgment rule is rebutted, however, the court will undergo a different standard of review, leaving the directors susceptible to the Revlon Rule. Under a Revlon analysis, the court will have heightened scrutiny regarding the sale of control of a corporation because the directors could take action to benefit or entrench themselves at the expense of the stockholders. Enhanced scrutiny does not alter the nature of the fiduciary duties owed by directors but instead emphasizes the “board must perform its traditional fiduciary duties in the service of a specific objective, namely, to maximize the sale price of the enterprise.” See Malpiede v. Townson, 780 A.2d 1075, 1083 (Del. 2001). It is therefore important that both buyers and sellers are vigilant of their corporate duties while transacting business; if not, they can potentially be held jointly and severally liable.

Parties contemplating a transaction should consider:

  1. Structure of deal. A cash-out transaction, in which stockholders exchange their shares for cash considerations, or a stock-for-stock transaction, where control of the combined business does not remain among a large and changeable base of stockholders but becomes concentrated in a few large stockholders.
  2. Full disclosure of material information. Both buyer and seller should strive to disclose all material information to board members to avoid allegations of being an interested party. Stockholders also need to be fully informed.
  3. Avoiding shortcuts. Avoid any strategy that allows one buyer to gain an inside track and the ability to sprint to the finish line.
  4. Seeking personal counsel. Officers and directors should clearly understand their fiduciary duties and how to satisfy their obligations; if not, they should seek separate counsel to gain understanding.

3. Procedural Safeguards Preserve Business Judgment Standard
By Mark Tarallo

The Delaware Court of Chancery found that conflicted transactions involving a potential controller may still be considered under the deferential business judgment rule, rather than entire fairness, if the evidence does not establish the potential controller exercised actual control. In In Re Oracle Corporation Derivative Litigation, C.A. No. 2017-0337-SG (May 12, 2023), the Chancery Court considered claims brought against Oracle Corporation and its founder Larry Ellison relating to its acquisition of NetSuite, another entity founded and controlled by Ellison. The Chancery Court found that while Ellison had the potential to exert control over Oracle, the processes and procedures that the board adopted in connection with the transaction prevented him from exerting actual control, and therefore the transaction was subject to review under the business judgment rule and not the more rigorous entire fairness standard. 

The case serves as a good example of how to handle a transaction with a potentially conflicted controller. A robust and diligent special committee is critical, along with advisors who are experienced, free of any conflicts, and not afraid to engaged in “hard nosed” negotiations on behalf of the company that might jeopardize the deal. Any business contemplating a transaction involving a potentially conflicted control person would be well-served to follow the lessons from this case. 

Oracle Acquires NetSuite

Larry Ellison was the founder of Oracle and controlled approximately 28.4% of its outstanding stock at the time of the transaction in question. Ellison had stepped down as CEO in 2014, but remained Oracle’s Chief Technology Officer. In 2016, Oracle’s management proposed to acquire NetSuite, a company also founded by Ellison, who owned approximately 40% of the outstanding stock of NetSuite. Once significant discussions began regarding the acquisition of NetSuite, Ellison recused himself from any such discussions at Oracle. The board then formed a Special Committee to lead the potential transaction with NetSuite. The Special Committee hired its own legal counsel, separate financial advisors, and adopted a set of rules relative to the NetSuite acquisition. Among other requirements, the “rules of recusal” (i) prohibited Ellison from discussing the transaction with anyone but the Special Committee, (ii) required Oracle employees brought in to assess the transaction to be made aware of Ellison’s recusal, and (iii) forbade Oracle officers and other employees from participating in the negotiation process absent Special Committee direction.

A Potential Conflict of Interest?

Oracle and NetSuite executed and announced the Merger Agreement on July 28, 2016, at a price per share of $109. The Merger Agreement structured the transaction as a tender offer, requiring a majority of NetSuite shares not affiliated with Ellison, NetSuite’s officers, or NetSuite’s directors to tender in support of the transaction. Ultimately, the tender offer period expired on November 4, 2016, with 53.2% of NetSuite’s unaffiliated shares tendered, and the acquisition closed on November 7, 2016. A number of Oracle shareholders then filed suit, alleging that Ellison had caused Oracle to pay for more NetSuite than it was worth, for his own personal benefit. Among other claims, the plaintiffs alleged that Ellison controlled Oracle and sat on both sides of the transaction and that he had improperly influenced the Special Committee, and because of this the transaction should be reviewed for entire fairness and not under the business judgment rule.

Clout vs. Controller

The Chancery Court found that Ellison was not a “controller.” Because he held less than 50% of the outstanding shares, he was not a “hard controller.” The Chancery Court then ruled that while Ellison had “clout” he did not act as an actual controller. The Chancery Court stated that “… [f]or an individual or entity to exercise general control over the corporate machinery, the power of the putative controller must be such that independent directors ‘cannot freely exercise their judgment’ for fear of retribution.” This was not the case in the NetSuite transaction, where “… the Oracle board vigorously debated assumptions and was not afraid to stand opposed to Ellison. For example, in one instance, the board forced Ellison to fire a senior member of his team over his strong objection.”

The Chancery Court then considered whether Ellison had exercised his “clout” so as to improperly influence the Special Committee, and found that he had not done so. The Chancery Court held that the evidence showed that “the Special Committee, aided by its advisors, negotiated in a hard-nosed fashion that reduced the deal price in a way that—given Ellison’s greater interest in the target than in Oracle—was against Ellison’s interest.” Key to the Chancery Court’s findings were the facts that the Special Committee was prepared to let the deal die rather than increase Oracle’s offer when the requisite approval from the NetSuite minority appeared not to be forthcoming, and that the Special Committee ultimately negotiated a deal at $109.00 per share, which was a dollar less than its price ceiling.

Because the Chancery Court found that Ellison was not a controller and did not improperly influence the Special Committee, it applied the business judgment rule to its analysis of the transaction and found in favor of the defendants. The Chancery Court attributed great weight to the conduct of the Special Committee and the processes and procedures it laid out (and followed).

4. Delaware Chancery Court Provides Additional Guidance on What Constitutes a Sale of “Substantially All” Assets
By Armand Santaniello

All M&A transactions are structured in one of three ways: (1) a merger, (2) a stock purchase, or (3) an asset sale in which the target sells all or “substantially all” of its assets. Pursuant to Section 271 of the General Corporation Law of the State of Delaware (the “DGCL”), the sale of all or substantially all of a company’s assets requires company stockholder approval.

In an asset sale, what constitutes “substantially all” assets? In Altieri v. Alexy, the Delaware Chancery Court analyzed prior Delaware case law to provide additional guidance as to when the sale of less than all of a company’s assets meets the statutory threshold of substantially all of a company’s assets.

Altieri v. Alexy

In 2013, cybersecurity company Mandiant, Inc. (the “Company”) combined with cybersecurity company FireEye, Inc. (“FireEye”). In the years following the combination, the FireEye line of business came to represent a significant portion of the combined businesses, at one point accounting for 62% of overall Company revenue. In 2021, the Company sold the FireEye line of business so that it could concentrate on other aspects of its operations. As the Company and the Company’s then-current board of directors (the “Board”) did not view this sale as a sale of all or substantially all of the Company’s assets, Company stockholder approval was not sought. Following the sale, a Company stockholder sued the Company and the Board seeking to void the sale under the theory that the Company sold substantially all of its assets and that Company stockholder approval was not received, in contravention of Section 271 of the DGCL.

The Gimbel Test

In Altieri, the court applied the test set forth in Gimbel v. Signal Companies, Inc. Pursuant to the Gimbel test, Delaware courts analyzing whether a sale constituted a sale of substantially all of a company’s assets for purposes of Section 271 of the DGCL must evaluate both quantitative and qualitative factors. The underlying purpose of this analysis is to ascertain whether a sale struck at the heart of a company such that it can no longer accomplish its primary purpose. Under the Gimbel test, the court ruled the FireEye sale was not a sale of substantially all of the Company’s assets.

Regarding quantitative metrics, Delaware courts applying the Gimbel test “consider data points such as the revenue generated by the assets sold as a percentage of total company revenue, the percentage of book value of the sale, the contribution of the assets sold to the company’s overall EBITDA, and future earnings potential.” The court also made a point to state that there is no threshold percentage. That said, the court determined that the FireEye line of business represented approximately 38% of total Company pre-sale assets and because of that the sale was not a sale of substantially all of the Company’s assets from a quantitative perspective.

Regarding qualitative metrics, Delaware courts applying the Gimbel test focus on whether a sale affects a company in such a way that stockholders are left with a qualitatively different investment. In the court’s opinion, the FireEye sale did not meet this test because “[the Company] was a cybersecurity company before the sale. It is a cybersecurity company after the sale.” The sale of the FireEye line of business, although important, did not fundamentally alter the Company’s primary business.

Court Analysis Suggests Qualitative and Quantitative Metrics Should Be Analyzed Together and Independently

In ruling that the Company’s sale of the FireEye line of business did not constitute a sale of substantially all assets that required Company stockholder approval, the court’s rationale suggests that quantitative metrics and qualitative metrics should be assessed both collectively and separately.

Although the court made a point to state that there is no set quantitative threshold percentage, the court’s analysis of prior case law suggests that the higher the percentage the more likely it is that the sale is a sale of substantially all assets. In B.S.F. Co. v. Phila. Nat’l Bank, in which the court ruled that a sale was one of substantially all assets, “the asset sale . . . constituted 75% of the company’s assets.” In Thorpe v. CERBCO, the sale was one of substantially all assets because the sale was of 68% of the company’s overall assets.

While hard percentages may allow for quantitative metrics to be assessed more easily than qualitative metrics, the two analyses are intertwined. If 75% or 68% of assets are sold, it is easy to assume that a sale of that magnitude strikes at the heart of a company and leaves little left for ongoing operations and stockholder return. As the percentage decreases, quantitative metrics appear to give way to qualitative metrics. In Winston v. Mandor, in which the court ruled that a sale was of substantially all assets, the assets sold were estimated to represent 60% of the company’s net assets but, importantly, the court relied more heavily on qualitative factors in that the company’s focus shifted from holding real property to holding real estate securities. Further still, in Katz v. Bregman, a company sold an even lower percentage of its assets but was deemed to have sold substantially all assets because the sale was in an effort to depart from its historical business model.

The court then synthesized its analysis with Hollinger Inc. v. Hollinger Int’l, Inc. Even when the company in Hollinger sold its most valuable asset, one that accounted for approximately 56-57% of the company’s assets, it was not a sale of substantially all assets because what remained was a company with profitable assets and a strong reputation. In other words, while the assets that were sold were important, the sale did not strike a blow to the company’s heart.

Important Considerations in Asset Sales

The ruling in Altieri highlights how the Gimbel test is applied on a case-by-case basis and weighs several company-specific factors both independently and in tandem. Quantitatively, hard percentages serve as a helpful starting point, but that alone is not dispositive. Qualitatively, factors regarding the historic business, the stature of the assets being sold, and the go forward impact on the company must all be considered even if they constitute a modest percentage of overall assets. Business should closely examine the nature of an asset sale to determine whether it may be a sale of substantially all assets, thus requiring prior stockholder approval.

This update is for information purposes only and should not be construed as legal advice on any specific facts or circumstances. Under the rules of the Supreme Judicial Court of Massachusetts, this material may be considered as advertising.

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