{"id":242,"date":"2024-03-28T10:23:19","date_gmt":"2024-03-28T14:23:19","guid":{"rendered":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/?p=242"},"modified":"2024-03-28T16:43:48","modified_gmt":"2024-03-28T20:43:48","slug":"a-searching-obligation-of-disclosure-must-be-satisfied-to-obtain-mfw-deal-protection","status":"publish","type":"post","link":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/2024\/03\/28\/a-searching-obligation-of-disclosure-must-be-satisfied-to-obtain-mfw-deal-protection\/","title":{"rendered":"A Searching Obligation of Disclosure Must Be Satisfied to Obtain MFW Deal Protection"},"content":{"rendered":"

On Monday in City of Dearborn Police and Fire Revised Retirement System (Chapter 23) v. Brookfield Asset Management Inc.<\/a><\/em>, the Delaware Supreme Court reversed the Court of Chancery in a case challenging a squeeze-out merger.\u00a0 The Court of Chancery had dismissed on the basis of the MFW <\/em>cleansing, ruling that an effective special committee and informed, disinterested stockholder vote had neutralized the conflict of interest in the controller-led buyout.\u00a0 But, the Supreme Court held that deficient disclosures in the proxy material surrounding conflicts of interest affecting the financial and legal advisors to the special committee impaired the stockholder vote, even though those conflicts were not themselves sufficiently serious as to constitute a breach of duty.<\/p>\n

As we have discussed before<\/a>, under the \u201cbusiness judgment rule\u201d while Delaware courts do not second-guess corporate boards\u2019 actions in most cases, that deference does not apply when a corporate board, or someone upon whom they are beholden, has a conflict of interest.\u00a0 One of the most important types of these conflicted transactions are \u2018squeeze-outs,\u2019 i.e. <\/em>transactions in which a controlling stockholder seeks to buy out the minority stockholders.\u00a0 Because of the conflict of interest this creates, Delaware courts review these transactions under the searching \u201centire fairness\u201d standard of review.\u00a0 Delaware does, however, provide a mechanism for controllers interested in pursuing a squeeze-out to do so without losing the protection of the business judgment rule.\u00a0 This mechanism, called \u201cMFW<\/em>\u201d<\/a> cleansing, requires the controller to first set up an independent special committee to negotiate the transaction, and to condition the transaction on the fully-informed approval of the minority stockholders.\u00a0 If the special committee independently negotiates the transaction, and if the minority stockholders approve it, Delaware law regards this as effectively neutralizing the conflict of interest and will apply the business judgment rule, resulting in a pleading-stage dismissal of a lawsuit challenging the transaction.<\/p>\n

But, if a plaintiff demonstrates that either of these procedural protections were flawed \u2013 that the special committee could not or did not perform its function of properly mimicking an independent board, or if the vote of the minority stockholders was not fully informed \u2013 then the business judgment rule does not apply and a court will review the transaction under the entire fairness standard.<\/p>\n

City of Dearborn <\/em>concerns just such a freeze-out merger transaction.\u00a0 A company owning 62% of the stock in a publicly-traded company proposed to buy out the minority stockholders.\u00a0 The controller set up a special committee, which hired its own advisors and negotiated, eventually agreeing to a transaction that valued the company at $3.3 billion.\u00a0 The special committee recommended the board approve the transaction, which it did, after which the company prepared a proxy statement to be sent to investors.<\/p>\n

The plaintiff stockholders sued.\u00a0 The stockholders argued that the special committee could not act independently because of improper threats by the controlling company; or, in the alternative, that it failed to do so by improperly relying on legal and financial advisors whose relationships were too close to the controlling company.\u00a0 It also argued that the stockholder vote was uninformed, because of a number of things which they allege the company omitted or misstated in the proxy materials.\u00a0 The trial court disagreed and held both MFW <\/em>protections were satisfied, and dismissed the case under the business judgment rule.\u00a0 The stockholders appealed and, on Monday, the Supreme Court reversed.<\/p>\n

On this appeal, the Supreme Court agreed with the trial court that the special committee had functioned properly and was not coerced, but disagreed that the stockholder vote had been fully informed.\u00a0 In particular, it held that three pieces of information were missing or incorrectly described in the proxy materials, fatally undermining the disclosures.\u00a0 First, it characterized the proxy materials as failing to disclose that the special committee\u2019s financial advisor had a $470 million stake in the controlling company and its affiliates; second, as failing to disclose the special committee\u2019s legal advisor had both prior and ongoing representations of the controlling company; and third, as failing to adequately disclose the benefits the controlling company would reap from consolidation.<\/p>\n

The Supreme Court held that, although the financial and legal advisors\u2019 relationships with the controller were not sufficiently close to make it wrongful for the special committee to retain them, the duty of disclosure is broader and requires candor about an advisor\u2019s conflicts which are not themselves disabling. Additionally, a description of the benefits from consolidation needed to be \u201cclear and transparent.\u201d \u00a0The company\u2019s disclosures fell short with respect to a change in management fees, which would net $130 million per year, as it disclosed only a formula, and significant additional research and work would have been necessary for a stockholder to replicate that calculation.<\/p>\n

As a result of those deficiencies, the case was remanded back to the trial court, which will now \u2013 after discovery and trial \u2013 examine the transaction for its entire fairness.\u00a0 The directors may still prevail \u2013 with the operation of the special committee and the $3.3 billion price tag, the Court of Chancery may still hold that the transaction was \u2018entirely fair.\u2019\u00a0 But, even if it does, the discovery and trial process may be expensive and time-consuming, emphasizing the importance of scrupulously adhering to the MFW <\/em>framework in order to obtain pleading-stage dismissal.<\/p>\n","protected":false},"excerpt":{"rendered":"

On Monday in City of Dearborn Police and Fire Revised Retirement System (Chapter 23) v. Brookfield Asset Management Inc., the Delaware Supreme Court reversed the Court of Chancery in a case challenging a squeeze-out merger.\u00a0 The Court of Chancery had dismissed on the basis of the MFW cleansing, ruling that an effective special committee and … <\/p>\n

Continue reading “A Searching Obligation of Disclosure Must Be Satisfied to Obtain MFW Deal Protection”<\/span><\/a><\/p>\n","protected":false},"author":598,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[2],"tags":[],"ppma_author":[166],"class_list":["post-242","post","type-post","status-publish","format-standard","hentry","category-general"],"authors":[{"term_id":166,"user_id":598,"is_guest":0,"slug":"mbgonen","display_name":"Michael Gonen","avatar_url":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-content\/uploads\/sites\/16\/2023\/01\/gonenmichael-100x100.jpg","0":null,"1":"","2":"","3":"","4":"","5":"","6":"","7":"","8":""}],"_links":{"self":[{"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/posts\/242","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/users\/598"}],"replies":[{"embeddable":true,"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/comments?post=242"}],"version-history":[{"count":0,"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/posts\/242\/revisions"}],"wp:attachment":[{"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/media?parent=242"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/categories?post=242"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/tags?post=242"},{"taxonomy":"author","embeddable":true,"href":"https:\/\/blogs.duanemorris.com\/delawarebusinesslaw\/wp-json\/wp\/v2\/ppma_author?post=242"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}