1CORPORATE GOVERNANCE & M&As

[THESE NOTES SHOULD BE READ IN CONJUNCTION WITH THE

READING ASSIGNMENTS PER THE SYLLABUS]

PROF. HARVEY PONIACHEK

MERGERS & ACQUISITIONS

BARUCH COLLEGE, GRADUATE DIVISION

FALL 2013

2DUTIES OF THE BOARD OF DIRECTORS

INTRODUCTION, CASE LAW & MAJOR ISSUES

TAKEOVERS CHALLENGED IN COURTS PRODUCED JUDICIAL DECISIONS RELATING TO THE DUTIES OF DIRECTORS OF THE BOARD, ANTI TAKEOVER DEFENSES, AND CONCERNS ABOUT DIRECTORS POTENTIAL CONFLICT OF INTEREST

MOST TAKEOVER CASES WERE ADJUDICATED BY THE DELAWARE COURTS WHERE MOST OF THE FORTUNE 500 ARE INCORPORATED

3 DUTIES OF DIRECTORS

LEGALLY, MOST JURISDICTION DESCRIBE THE DIRECTORS AS HAVING TWO FIDUCIARY DUTIES: 1. THE DUTY OF CARE, AND 2. THE DUTY OF LOYALTY [SEE MONKS & MINOW, PP. 182]

DUTY OF CARE--REQUIRES A DIRECTOR TO EXERCISE DUE DILIGENCE IN MAKING DECISIONS BY RELYING ON FULL INFORMATION

DUTY OF LOYALTY--REQUIRES A DIRECTOR TO DEMONSTRATE UNYIELDING LOYALTY TO THE COMPANY’S SHs

ADDITIONAL AND MORE SPECIFIC DEFINITIONS OF THE BOARD’S DUTIES--BEYOND THE LEGAL DEFINITIONS CITED ABOVE--WERE SUGGESTED BY THE BUSINESS ROUNDTABLE AND THE AMERICAN LAW INSTITUTE [SEE MONKS & MINOW, PP. 183]

4 DUTIES OF DIRECTORS—CONT.

THE PRESUMED DUAL FIDUCIARY DUTIES OF DIRECTORS CONSTITUTE THE BUSINESS JUDGMENT RULE OR STANDARD

THE BUSINESS JUDGMENT RULE IS THE STANDARD BY WHICH DIRECTORS ARE JUDGED WHEN THEY EXERCISE THEIR FIDUCIARY DUTIES TO SHs IN THE COURSE OF AN ATTEMPTED TAKEOVER (RELATING TO PRICING AND PROCESS)

THE COURT WILL NOT SECOND GUESS A DIRECTOR’S BUSINESS JUDGEMENT DECISION IF IT CAN BE DEMONSTRATED THAT HE/SHE EXERCISED ALL POSSIBLE CARE AND ACTED WITH DUE LOYALTY (NOTE THAT THE BURDEN OF PROOF SHIFTED TO THE DIRECTOR)

IN THE M&A CONTEXT, SOME SPECIAL APPLICATIONS OF THE BUSINESS JUDGMENT RULE HAVE DEVELOPED THROUGH LITIGATIONS CHALLENGING DIRECTORS’ CONDUCT [SEE WHITE & COOPERMAN]

5SEMINAL COURT CASES

ON CORPORATE GOVERNANCE

IN THE TRANS UNION CASE (1985) THE COURT RULED THAT DIRECTORS HAD NOT MET THEIR DUTY AS FIDUCIARIES BY AGREEING TO SALE THE COMPANY WITHOUT A SUFFICIENT VERIFICATION PROCESS TO OBTAIN THE BEST TERMS

THE PRIMARY IMPLICATION OF THE TRANS UNION CASE WAS THAT THE DECISION MAKING PROCESS AND NOT THE SUBSTANCE OF THE DECISION WAS OF IMPORTANCE, AND THE COURT DID NOT RULE ON THE BUSINESS JUDGMENT

FOLLOWING THE TRANS UNION DECISION, THE DELAWARE LEGISLATURE AMENDED THE DELAWARE GENERAL CORPORATION LAW RELATING TO DUTIES OF DIRECTORS IN MERGERS / ACQUISITION CASES, AS FOLLOWS: 1. ONCE IT IS RECOGNIZED THAT A COMPANY IS “IN PLAY” AND IT IS LIKELY TO BE SOLD, DIRECTORS’ OBLIGATION IS TO OBTAIN THE BEST PRICE FOR SHs; 2. DIRECTORS SHOULD BE FAIR TO ALL BIDDERS; AND 3. SELF INTEREST SHOULD NOT IMPAIR DIRECTORS’ DECISIONS [WESTON, PP. 38]

6 SEMINAL COURT CASES—CONT.

In Unocal v. Messa Petroleum (1985), UNOCAL ANTI TAKEOVER DEFENSES INCLUDED A SELF TENDER OFFER IN WHICH THE TARGET MADE A TENDER OFFER FOR ITSELF IN COMPETITION WITH THE MESA OFFER

THE DELAWARE SUPREME COURT HELD THAT THE DIRECTORS MAY HAVE ACTED IN THEIR OWN SELF INTEREST IN WHICH THEY FAVORED THEIR OWN TENDER INSTEAD OF OBJECTIVELY SEARCHING FOR THE BEST DEAL FOR SHs

IN SUCH INSTANCES, THE DIRECTORS ARE SUBJECT TO ENHANCED SCRUTINY AND MUST DEMONSTRATE THAT (1) BASED ON THEIR BUSINESS JUDGMENT THEY HAD REASONABLE GROUNDS TO BELIEVE THAT THERE WAS A DANGER TO THE PURSUIT OF A CORPORATE POLICY THAT WAS IN THE BEST INTEREST OF SHs, AND (2) THAT THEIR DEFENSES WERE REASONABLE IN RELATION TO THE THREAT

7 SEMINAL COURT CASES—CONT.

IN THE REVLON CASE (1985) THE COURT HELD THAT WHEN IT BECOMES CLEAR THAT THE SALE OR BREAK UP OF A COMPANY IS INEVITABLE, THE BOARD HAS THE FIDUCIARY DUTY TO MAXIMIZE SHs WEALTH --BY SHIFTING THEIR FOCUS AWAY FROM DEFENDING THE COMPANY TO SELLING IT AT THE HIGHEST PRICE (THESE DUTIES BECAME KNOWN AS THE REVLON DUTIES)

THE COURT ESTABLISHED THAT RATHER THAN PROMOTE THE AUCTION PROCESS TO MAXIMIZE SHs VALUE, REVLON’S ANTI TAKEOVER MEASURES INHIBITED IT

IN THE REVLON AND UNOCAL CASES THE COURTS ADDRESSED WHETHER UNDER CERTAIN CIRCUMSTANCES THERE WAS A LIMIT TO THE ANTI TAKEOVER DEFENSES THAT A BOARD COULD UNDERTAKE TO REBUFF AN UNSOLICITED OFFER TO ACQUIRE IT

8SEMINAL COURT CASES—CONT.

IN THE PARAMOUNT v. TIME (1989) CASE, THE COURT STATED THAT TIME-WARNER WAS A STRATEGIC MERGER NOT INVOLVING A CHANGE IN CONTROL, THEREFORE, THE REVLON DUTIES WERE NOT TRIGGERED AND THE NORMAL BUSINESS JUDGMENT RULE STANDARD APPLIED

IN THE CASE OF PARAMOUNT v. QVC NETWORK (1993) THE SUPREME COURT OF DELAWARE HELD THAT THE DIRECTORS OF PARAMOUNT VIOLATED THEIR FIDUCIARY DUTIES IN NOT MAXIMIZING THE SELLING PRICE OF THEIR COMPANY. THE BIDDING CONTEST PROCEEDED WITH VIACOM ULTIMATELY ACQUIRING PARAMOUNT

9DETAILED DISCUSSION

TRANS UNION CASETHE DIRECTOR’S DUTY--PROCESS & BUSINESS JUDGMENT FACTS: SEE SMITH V. VAN GORKUM, 488 A.2ND 858 (DEL. SUPR. 1985), HTTP://WWW.SEAMLESSLAWWEB.COM/

MR. VAN GORKUM, THE CHAIRMAN OF TRANS UNION CORPORATION WHO WAS APPROACHING MANDATORY RETIREMENT OF 65, CONSIDERED PUTTING THE COMPANY UP FOR SALE

THE CFO EVALUATED THE COMPANY UNDER A LEVERAGE BUYOUT ASSUMPTION, AND CAME UP WITH A PRICE RANGE OF $50-60 PER SHARE

VAN GORKUN OFFERED MR. PRITZKER, A TAKEOVER INVESTOR, TO ACQUIRE TRANS UNION AT $55 PER SHARE, WHICH REPRESENTED A 60% PREMIUM OVER MARKET

OTHER PARTIES, INCLUDING GE CREDIT AND KKR, WERE APPROACHED BUT DECLINED TO BID

ULTIMATELY, PRITZKER OFFER WAS SUBMITTED TO VOTE AND WAS APPROVED BY SOME 70% OF THE SHs

THE CLASS ACTION SUIT WAS BROUGHT AGAINST MR VAN GORKUM AND THE BOARD OF DIRECTORS ALLEGING NEGLIGENCE

10TRANS UNION--COURT DECISION

IN THE CASE OF Smith V. Van GorkUm (1985), THE COURT RULED THAT THE DIRECTORS VIOLATED THEIR FIDUCIARY DUTIES IN THE SALE OF TRANS UNION BY APPROVING A DEAL WITHIN TWO HOURS AFTER BEING INTRODUCED TO IT FOR THE FIRST TIME BY MR.VAN GORKOM

THE DELAWARE SUPREME COURT FOUND ON APPEALS THAT TRANS UNION DIRECTORS WERE GROSSLY NEGLIGENT BECAUSE (1) THEY DID NOT ADEQUATE EVALUATE THE OFFER, AND (2) THEY FAILED TO INDEPENDENTLY DETERMINE WHETHER VAN GORKUM EVALUATED THE COMPANY ADEQUATELY AND NEGOTIATED THE BEST MERGER AGREEMENT

11TRANS UNION—CONT.

THE SUBSTANTIAL PREMIUM OVER THE MARKET PRICE, THE MARKET TEST PERIOD FOR ENTERTAINING OTHER OFFERS, THE ADVISE OF COUNSEL THAT THEY MIGHT BE VIOLATING THEIR FIDUCIARY DUTY IF THEY REJECT THE TRANSACTION AND THE SHs APPROVAL--WERE ALL INSUFFICIENT TO COMPENSATE FOR THE BOARD’S FAILURE TO EVALUATE THE DEAL INDEPENDENTLY

THE PRIMARY IMPLICATION OF THE TRANS UNION CASE WAS THAT THE DECISION MAKING PROCESS AND NOT THE SUBSTANCE OF THE DECISION per se WAS OF IMPORTANCE, AND THE COURT DID NOT RULE ON THE BUSINESS JUDGMENT STANDARD

COURT DAMAGES WERE ASSESSED AT THE LEVEL BY WHICH THE FAIR MARKET VALUE (FMV) EXCEEDED $55, AND THE CASE WAS ULTIMATELY SETTLED AT $ 23 MIL

12UNOCAL STANDARD

BUSINESS JUDGMENT RULE & ENHANCES SCRUTINY SEE UNOCAL CORP V. MESA PETROLEUM CO., SUPREM COURT OF

DELAWARE, 493 A.2ND 946 (1985), HTTP://MAIL.LAW.MISSOURI.EDU/LAWLESS/M&A/BODY_UNOCAL.HTM

In Unocal v. Messa Petroleum THE DELAWARE SUPREME COURT REVIEWED UNOCAL’S ANTI TAKEOVER STRATEGY AGAINST THE UNSOLICITED TAKEOVER OFFER OF MESA

THE COURT WAS CONCERN WITH THE SPECTER THAT THE BOARD WOULD ACT IN ITS OWN INTEREST WHEN FACED WITH A TAKEOVER OFFER

COURTS NORMALLY GIVE DIRECTORS’ BUSINESS JUDGEMENT GREAT DEFERENCE, HOWEVER, IN A TAKEOVER CASE DIRECTORS HAVE THE BURDEN OF PROOF TO DEMONSTRATE THAT THEIR DECISIONS WERE MADE IN GOOD FAITH, THAT THEY WERE WELL INFORMED, AND THEIR DEFENSES WERE REASONABLE IN RELATION TO THE THREAT

13 UNOCAL STANDARD—CONT.

UNOCAL ANTITAKEOVER DEFENSES INCLUDED A SELF TENDER OFFER IN WHICH THE TARGET MADE A TENDER OFFER FOR ITSELF IN COMPETITION WITH THE MESA OFFER

THE COURT STATED THAT THE DIRECTORS MAY HAVE ACTED IN THEIR OWN SELF INTEREST--IN WHICH THEY FAVORED THEIR OWN TENDER INSTEAD OF OBJECTIVELY SEARCHING FOR THE BEST DEAL FOR SHs

IN SUCH INSTANCES, THE DIRECTORS ARE SUBJECT TO ENHANCED SCRUTINY: 1. THEY MUST DEMONSTRATE THAT THEY HAD REASON TO BELIEVE THAT THERE WAS A DANGER TO THE PURSUIT OF A CORPORATE POLICY THAT WAS IN THE BEST INTEREST OF SHs, AND 2. THAT THEIR DEFENSES WERE REASONABLE IN RELATION TO THE THREAT

SUBSEQUENT COURTS HAVE REFINED THE UNOCAL STANDARD TO FEATURE A TWO PART RESPONSIBILITY TEST, INCLUDING REASONABLENESS AND PROPORTIONALITY IN RESPONSE TO A PERCEIVED TAKEOVER THREAT

14REVLON DUTIES

BOARD’S OBLIGATION & IMMINENT SALE FACTS: SEE REVLON, INC. V. MacANDREWS HOLDINGS, INC., SUPREM

COURT OF DELAWARE, 506 A.2ND 173 (1985), HTTP://MAIL.LAW.MISSOURI.EDU/LAWLESS/M&A/BODY_REVLON.HTM

RONALD O. PERELMAN, CH & CEO OF PANTRY PRIDE, MET WITH THE HEAD OF REVLON IN JUNE 1985 AND SUGGESTED TO ACQUIRE THEM IN A FRIENDLY TRANSACTION AT $45 PER SHARE

REVLON’S INVESTMENT BANKER SUGGESTED THAT THE PRICE WAS TOO LOW AND ITS BREAK UP COULD YIELD $70 PER SHARE

IN OCTOBER REVLON RECEIVED AN LBO OFFER FROM FORSTMANN LITTLE AND ADLER & SHAYKIN AT $56 PER SHARE, WITH MANAGEMENT GETTING A SUBSTANTIAL STOCK POSITION IN THE NEW COMPANY

REVLON‘S BOARD GRANTED FORSTMANN A LOCKUP OPTION TO PURCHASE CERTAIN REVLON ASSETS; A NO-SHOP PROVISION TO DEAL EXCLUSIVELY WITH FORSTMANN; AND A TERMINATION FEE OF $25 MILIN REACTION TO PANTRY PRIDE’S OFFER OF $45 --[WERE THESE DEFENSES REASONABLE IN RELATION TO THE TAKEOVER THREAT?]

ADDITIONAL COUNTERBIDING OCCURRED BY PANTRY PRIDE AND FORSTMANN

15 REVLON COURT’S DECISION

THE DELAWARE SUPREME COURT RULED IN THE CASE OF Revlon v. MacAndrews and Forbs Holdings THAT WHEN THE OFFER BY PANTRY WAS RAISED TO $53, THE DEFENSIVE MEASURE WERE NO LONGER REASONABLE BECAUSE THE BREAK UP OF REVLON WAS INEVITABLE, AND THE DIRECTORS ROLE CHANGED FROM DEFENDERS OF THE CORPORATION TO AUCTIONEERS CHARGED WITH GETTING THE BEST PRICE FOR SHs

THE DELAWARE SUPREME COURT RULED THAT CERTAIN TAKEOVER DEFENSES THAT FAVORED ONE BIDDER OVER ANOTHER WERE INVALID, AND THE DIRECTORS CANNOT FULFILL THEIR UNOCAL DUTIES BY PLAYING FAVORS WITH THE CONTENDING FACTIONS

IN INVALIDATING THE LOCK-UP OPTION AND NO-SHOP PROVISIONS, THE COURT DID NOT INVALIDATE ANTI TAKEOVER DEFENSES

IN TAKEOVER THREATS, THE DIRECTORS MUST DEMONSTRATE THAT THEY HAD REASON TO BELIEVE THAT THERE WAS A DANGER TO THE PURSUIT OF A CORPORATE POLICY THAT WAS IN THE BEST INTEREST OF SHs

16TIME-WARNER-PARAMOUNT

STRATEGIC MERGER, FOR SALE AND REVLON DUTIES

FACTS: IN MARCH 1989, UPON CONCLUDING A STOCK-FOR-STOCK

MERGER AGREEMENT BETWEEN TIME INC AND WARNER COMMUNICATION INC, PARAMOUNT COMMUNICATIONS, INC MADE A HOSTILE TENDER BID FOR TIME, PRICED ABOVE THE TIME-WARNER TRANSACTION

TIME RESPONDED WITH A TWO TIER TENDER FOR WARNER--51% FOR CASH AND THE SECOND STEP AT STOCK-FOR-STOCK

PARAMOUNT SUED AND ARGUED THAT THE ORIGINAL MERGER BETWEEN TIME AND WARNER CONSTITUTED AN IMPENDING CHANGE IN CONTROL, THEREBY INVOKING THE REVLON DUTIES OF DIRECTORS.

17THE COURT’S DECISON

IN THE Paramount v.Time CASE, THE COURT REJECTED PARAMOUNT’S ARGUMENT THAT THERE WOULD BE A CHANGE IN CONTROL, AND STATED THAT THIS WAS NOT AN ACQUISITION BUT RATHER A STRATEGIC MERGER, THEREFOR, REVLON DUTIES WERE NOT TRIGGERED, AND THE NORMAL BUSINESS JUDGMENT STANDARD APPLIED

THE SIGNIFICANCE OF THIS DECISION IS THAT THE ANNOUNCEMENT OF A STRATEGIC MERGER BETWEEN TWO PARTIES IS NOT A SIGNAL THAT EITHER OF THE FIRMS IS FOR SALE, AND THE DIRECTORS ARE NOT BOUND BY THE REVLON DUTIES

IN THE EVENT OF A HOSTILE BID, THE DIRECTORS MAY CONSIDER ANTI TAKEOVER DEFENSES TO AVOID IT, WHILE PROCEEDING WITH THEIR STRATEGIC TRANSACTION

18PARAMOUNT v. QVC NETWORK

FACTS: FAILING TO ACQUIRE TINE INC IN 1989, PARAMOUNT’S SOUGHT IN

1993 TO BE ACQUIRED BY VIACOM, WHICH WAS CONTROLLED BY SUMNER REDSTONE, WHO OWNED ABOUT 90% OF THE COMPANY

THE TRANSACTION WAS STRUCTURED WITH AN ATTEMPT TO AVOID THE SPECTER OF CHANGE OF CONTROL AND THE REVLON TRIGGER

THE MERGER AGREEMENT PROVIDED VIACOM WITH A LOCKUP AGREEMENT (VIACOM COULD PURCHASE 20% OF PARAMOUNT COMMON SHARES AT $69.14 PER SHARE--IF ANY OF THE TRIGGERING EVENT RELATED TO THE TERMINATION FEE OCCURRED), NO-SHOP PROVISION AND A TERMINATION FEE TO VIACOM OF $100 MIL

ON SEPT 12, 1993 THE PARAMOUNT BOARD APPROVED THE MERGER

19

PARAMOUNT v. QVC NETWORK—CONT.

BARRY DILLER, CEO OF QVC, BELL SOUTH AND COMCAST PROPOSED A MERGER WITH PARAMOUNT--PAYING $80 PER SHARE, WHICH CONSISTED OF $30 IN CASH AND 0.9 COMMON SHARES OF QVC

THE DELAWARE SUPREME COURT HELD THAT THE DIRECTORS OF PARAMOUNT BREACHED THEIR FIDUCIARY DUTY—BY REFUSING TO NEGOTIATE WITH QVC OR TO SEEK OTHER ALTERNATIVES

A BIDDING WAR ENSUED WITH VIACOM ULTIMATELY ACQUIRING PARAMOUNT

20PARAMOUNT v. QVC NETWORK—

WHY WERE THE REVLON DUTIES TRIGGERED?

VIACOM WAS CONTROLLED BY SUMNER REDSTONE, WHO OWNED ABOUT 90% OF THE COMPANY

THE MERGER WOULD HAVE CHANGED THE CONTROL OF THE TARGET, THEREFORE, THE REVLON DUTIES ARE TRIGGERED

QUESTION—WHY WAS THERE NO CHANGE OF CONTROL?

21REFERENCES

Robert A.G. Monks and NELL Minow, Corporate Governance, 2nd Ed., Blackwell, 2001

Patrick A. Gaughan, Mergers, Acquisitions And Corporate Restructuring, 4th Ed., Wiley 2007, Ch 3

J. Fred Weston Et Al, Takeovers, Restructuring And Corporate Governance, 4th Ed, Prentice Hall, 2004, Ch 2 & 20

Bruce Wasserstein, Big Deal: 2000 And Beyond, Warner Bros., 2000 Student’s With Further Interest In The Cited Cases Could Obtain

Court Opinions Through Lexis Nexis--available At The Library Fred B. White And Steven M. Cooperman, Fiduciary Duties Of

Directors In Corporate Takeovers, Mergers And Acquisitions: Recent Development, Practicing Law Institute And Practice Handbook Services, February 1997