Gimbel v. Signal Companies, Inc.
Delaware Court of Chancery
316 A.2d 599 (Del. Ch. 1974)
Rule of Law
The sale of a wholly owned subsidiary by a conglomerate does not require majority
stockholder approval if the sale does not constitute a sale of all or substantially all of the
conglomerate's assets.
Facts
Signal Companies, Inc. (Signal) (defendant) was incorporated as an oil business. Signal then became a
conglomerate that engaged in a variety of industries. Signal transferred its oil and gas business to its wholly
owned subsidiary, Signal Gas & Oil Co. (Signal Oil). Signal’s operation involved constant acquisition and
disposal of corporate branches. Signal’s board of directors approved a proposal to sell Signal Oil to Burmah
Oil Inc. (Burmah). Signal’s books showed that Signal Oil represented 26 percent of Signal’s total assets,
41 percent of its net worth, and 15 percent of Signal’s revenues and earnings. Louis Gimbel (plaintiff), a
Signal shareholder, sought a preliminary injunction to prevent the sale. Gimbel alleged that the approval by
the Signal board was insufficient and that majority shareholder approval was necessary to authorize the
sale, as it accounted for all or substantially all of Signal’s assets.
Issue
Does the sale of a wholly owned subsidiary by a conglomerate require majority stockholder approval if the
sale does not constitute a sale of all or substantially all of the conglomerate's assets?
Holding and Reasoning (Quillen, J.)
No. Delaware statute requires majority stockholder approval for a sale of "all or substantially all" of the
assets of a Delaware corporation. Del. C. tit. 8, § 271(a). The sale of a wholly owned subsidiary by a
conglomerate does not require majority stockholder approval if the sale does not constitute a sale of "all or
substantially all" of the conglomerate's assets. A sale of assets should be measured both quantitatively and
qualitatively. If the sale is "of assets quantitatively vital to the operation of the corporation" and is "out of the
ordinary and substantially affects the existence and purpose of the corporation," it constitutes a sale of all
or substantially all assets and majority stockholder approval is required. In Philadelphia Nat’l Bank v. B.S.F.,
199 A.2d 746 (1964), the court held the sale of stock was a sale of substantially all assets, because the
asset sold was the corporation's principal asset and constituted at least 75 percent of the total assets. In
this case, Signal Oil represents only about 26 percent of the total assets of Signal. While Signal Oil
represents 41 percent of Signal's total net worth, it produces only 15 percent of Signal’s revenues and
earnings. Thus, quantitatively, the sale of Signal Oil does not constitute a sale of all or substantially all of
Signal's assets. Further, although Signal's original business was oil and gas, Signal is now a conglomerate
whose operation involves constant acquisition and disposal of its corporate branches. Thus, acquisition and
disposal of corporate branches, including the oil and gas subsidiary, has become part of Signal's ordinary
course of business. Therefore, the sale of Signal Oil by Signal does not constitute a sale of all or
substantially all of Signal's asset, both quantitatively and qualitatively. Accordingly, majority stockholder
approval is not necessary.
Katz v. Bregman
Delaware Court of Chancery
431 A.2d 1274 (Del. Ch. 1981)
Rule of Law
The sale of substantially all of a corporation’s assets requires approval by a majority of
the corporation's outstanding shareholders entitled to vote at a meeting called upon at
least 20 days' notice.
Facts
Plant Industries, Inc. (Plant) (defendant) produced steel drums. Over the course of six months, Plant’s
board of directors sold off several of its unprofitable subsidiaries. Plant’s chief executive officer, Bregman
(defendant), then began negotiating the sale of Plant National (Quebec) Ltd. (National) to raise funds and
help Plant’s balance sheets. National was Plant’s Canadian division and had been the only Plant facility
producing income for the past four years. In the years leading up to the negotiated transfer, National
accounted for 34.9 percent, 36.9 percent, 42 percent, 51 percent, and 52.4 percent of Plant’s pre-tax
income, respectively. By then, National accounted for 51 percent of Plant’s total assets and 45 percent of
its net sales. After the sale, Plant planned to move away from its steel-drum business and begin making
plastic drums. Plant ultimately entered into an agreement to sell National to Vulcan Industrial Packaging,
Ltd. (Vulcan), despite getting a higher offer from Universal Drum Reconditioning Co. (Universal). Plant’s
board argued that it could not negotiate with Universal because it had entered a firm agreement with Vulcan.
Hyman Katz, one of Plant’s shareholders, filed a lawsuit in the Delaware Court of Chancery, seeking to
enjoin the sale. Katz argued that the deal with Vulcan constituted a sale of “substantially all” of Plant’s
assets and could therefore only be accomplished by a majority vote of the shareholders at a meeting called
with 20 days’ notice under 8 Del. C. § 271.
Issue
Does the sale of substantially all of a corporation’s assets require approval by a majority of the corporation's
outstanding shareholders entitled to vote at a meeting called upon at least 20 days' notice?
Holding and Reasoning (Marvel, J.)
Yes. Delaware law provides that a sale of substantially all of a corporation’s assets can only be
accomplished by a majority vote of all outstanding shareholders entitled to vote at a shareholders’ meeting
called upon at least 20 days’ notice. 8 Del. C. § 271. A sale may be considered to be of "substantially all"
of the corporation's assets if the sale is of "quantitatively vital" assets to the corporation's operation and if
the sale is not an ordinary transaction, but rather one that affects the corporation's very existence and
purpose. If this type of sale is negotiated, an injunction may be issued to stop the transfer until a
shareholders’ vote can take place. In this case, National represents 51 percent of Plant’s assets and 45
percent of its net sales. Further, Plant’s management plans to leave its historically successful steel-drum
business to take the company in a whole new direction. The sale of all of Plant’s Canadian operations thus
constitutes the sale of substantially all of its assets. For comparison, in Gimbel v. Signal Companies, Inc.,
316 A.2d 599 (Del. Ch. 1974), the sale of a subsidiary representing only 26 percent of the company’s
assets, 41 percent of its net worth, and 15 percent of its revenues was deemed not to be the sale of
substantially all of the corporation’s assets. Because the Vulcan deal is a sale of substantially all of Plant’s
assets, there is no need to consider the adequacy of consideration or whether the board breached trust by
not negotiating with Universal. The injunction is granted, at least until shareholder approval is obtained for
the proposed sale to Vulcan.
Hollinger, Inc. v. Hollinger International, Inc.
Delaware Court of Chancery
858 A.2d 342 (Del. Ch. 2004)
Rule of Law
Assets comprise substantially all of a corporation’s assets only if they: (1) are
quantitatively vital to the operation of the corporation and (2) substantially affect the
existence and purpose of the corporation.
Facts
Hollinger International, Inc. (International) (defendant) owned TelegraphGroup Ltd. (Telegraph) and
Chicago Group, entities that owned newspapers in the United States and England. These assets were,
together, extremely valuable for International. Each asset was of similar importance to International,
although Telegraph arguably was slightly more valuable than Chicago Group. International agreed to
sell Telegraph to a third party. Hollinger, Inc. (Inc.) (plaintiff) controlled 68 percent of the voting power in
International and objected to the sale. Inc. filed a motion in the Delaware Court of Chancery, seeking a
preliminary injunction enjoining the sale of Telegraph on the grounds that it amounted to a sale of
substantially all of International’s assets and thus required shareholder approval.
Issue
Do assets comprise substantially all of a corporation’s assets if they: (1) are not quantitatively vital to the
operation of the corporation and (2) do not substantially affect the existence and purpose of the corporation?
Holding and Reasoning (Strine, J.)
No. Under Delaware law, a corporation’s board of directors may sell all or substantially all of the
corporation’s assets only after approval by shareholder vote. Assets comprise substantially all of a
corporation’s assets if they: (1) are quantitatively vital to the operation of the corporation and (2)
substantially affect the heart of the existence and purpose of the corporation. These quantitative and
qualitative analyses, while separate, are not unrelated. In this case, Telegraph does not amount to all or
substantially all of International’s assets. Beginning with a quantitative analysis, while Telegraph is without
a doubt important to International’s economic success, it is not vital to such success. International will retain
the Chicago Group after the proposed sale, and the Chicago Group is almost, if not equally, as important
to International’s finances as Telegraph. Indeed, it is clear that International will survive financially after the
sale of Telegraph. It thus cannot be said that Telegraph is vital to the operation of International. The
qualitative analysis, although legally separate, cannot be conducted without reference to the quantitative
analysis, as the qualitative test is heavily influenced by economic quality. After the sale of Telegraph, Inc.
and other International stockholders will still own interest in the Chicago Group. As such, while the
stockholders would be losing interest in valuable newspapers, they will still have an interest in various other
newspapers, and valuable newspapers at that. It cannot be said, then, that the sale of Telegraphaffects the
heart of the existence and purpose of International. In sum, the sale of Telegraph does not amount to a
sale of all or substantially all of International’s assets. Accordingly, a shareholder vote is not required for
the sale. Inc.’s motion for a preliminary injunction is denied.
Weinberger v. UOP, Inc.
Delaware Supreme Court
457 A.2d 701 (Del. 1983)
Rule of Law
Minority shareholders voting in favor of a proposed merger must be informed of all
material information regarding the merger for the merger to be considered fair.
Facts
The Signal Companies, Inc. (Signal) acquired 50.5 percent of UOP, Inc.’s (UOP) (defendants) outstanding
stock. Signal elected six members to the new board of UOP, five of which were either directors or
employees of Signal. After the acquisition, Signal still had a significant amount of cash on hand due to a
sale of one of its subsidiaries. Signal was unsuccessful in finding other good investment opportunities for
this extra cash so it decided to look into UOP once again. Charles Arledge and Andrew Chitiea, two Signal
officers who were also UOP directors, conducted a “feasibility study” for Signal and determined that the
other 49.5 percent of UOP would be a good investment for Signal for any price up to $24 per share. The
study found that the return on investment at a purchase price of $21 per share would be 15.7 percent,
whereas the return at $24 per share would be 15.5 percent. Despite this small difference in return, the
difference in purchase price per share would mean a $17 million difference to the UOP minority
shareholders. This information was never passed along to Arledge and Chitiea’s fellow UOP directors or
the UOP minority shareholders. The UOP board agreed on a $21 per share purchase price. The UOP
minority shareholders subsequently voted in favor of the merger. Weinberger, et al. (plaintiffs) were UOP
minority shareholders and brought suit, challenging the merger. The Delaware Court of Chancery found in
favor of the defendants. The plaintiffs appealed.
Issue
Is a minority shareholder vote in favor of a proposed merger fair if the shareholders were not given
information on the highest price that the buyer was willing to offer for the shares?
Holding and Reasoning (Moore, J.)
No. The “entire fairness” of a merger is comprised of fair dealing and fair price. Minority shareholders voting
in favor of a proposed merger must be informed of all material information regarding the merger for the
dealing to be fair. Failure to provide the minority shareholders with all material information is a breach of
fiduciary duty. Here, although Arledge and Chitiea had prepared their study for Signal and were actually
Signal officers, they still owed a duty to UOP because they were also UOP directors. The feasibility study
and, more specifically, the possible sale price of $24 per share and the resulting $17 million difference in
amount paid to the UOP minority shareholders clearly constitute material information that the shareholders
were entitled to know before voting. Arledge and Chitiea’s failure to disclose that information was a breach
of their fiduciary duties and their actions thus cannot be considered fair dealing. In terms of fair price, to
determine whether the price of a cash-out merger was fair, a court is to consider “all relevant factors,”
something that the Delaware Court of Chancery did not do. On remand all relevant factors concerning the
value of UOP should be considered in determining whether the price was fair. As a result of the foregoing,
the Delaware Court of Chancery’s findings that the circumstances of and price paid for the merger were fair
are reversed and the case is remanded.
Cede & Co. v. Technicolor, Inc.
Supreme Court of Delaware
634 A.2d 345 (1993)
Rule of Law
The judicial appraisal process must consider non-speculative future value attributable to
the acquiring party’s post-merger plans for the company.
Facts
Technicolor, Inc. (defendant) was in serious financial trouble in early 1982. Ron Perelman, controlling
shareholder of MacAndrews & Forbes Group, Inc. (MAF), determined that Technicolor would be an
attractive takeover candidate for MAF. Technicolor agreed to a two-step merger, in which MAF would first
make a cash tender offer and then conduct a cash-out merger with any shareholders who did not accept
the tender offer. The tender offer opened in November 1982, and by the end of the month, MAF had
acquired 82 percent of Technicolor’s shares. Meanwhile, Perelman had developed a plan for improving
Technicolor’s performance, which included selling all of Technicolor’s unprofitable units. Cinerama, Inc.
(plaintiff) did not accept the tender offer and dissented from the cash-out merger, which was completed in
January 1983. Cinerama sued for an appraisal. The trial court computed an appraisal value which excluded
any value created by Perelman’s plans for the new company, on the reasoning that the appraisal should
exclude any future value which, but for the merger, would not exist. Cinerama appealed, arguing that
Perelman’s plans should be factored in.
Issue
Must the court appraisal process consider non-speculative future value attributable to the acquiring party’s
post-merger plans for the company?
Holding and Reasoning (Holland, J.)
Yes. A shareholder that dissents to a merger is entitled to receive his proportion of the enterprise’s going
concern value. That valuation is calculated as of the date of the merger, but projected future value as of
that time may be considered. In a two-step merger, a period of months may elapse between the
announcement of the tender offer and the second-step merger. Significantly, during that time, the acquiring
party gains control of the company. It may begin to implement new strategies. The appraised valuation
should not include speculative future gains, based on unverifiable claims made by the acquiring party.
However, when the acquiring party has formulated concrete steps that will affect the future value of the
company, these factors must be considered. Here, MAF developed a strategy for Technicolor prior to
beginning the two-step merger process. During the intermediate period while the tender offer was pending,
MAF refined its strategy and took initial steps towards eliminating unprofitable divisions. Though the
appraised value of Cinerama’s shares should not include speculative future gains the company might make
under MAF’s control, MAF’s specific plans to sell certain assets must be considered. The trial court erred
as a matter of law when it ruled that any future value stemming from the merger could not be considered.
This requirement has never been imposed by statute or by this court. The trial court therefore undervalued
Technicolor’s shares. The case is remanded for a recalculation of Technicolor’s value as of the date of the
merger, specifically considering Perelman’s plans for the company.
Rabkin v. Philip A. Hunt Chemical Corporation
Delaware Supreme Court
498 A.2d 1099 (Del. 1985)
Rule of Law
In a cash-out merger appraisal rights are not a stockholder’s only remedy where the
stockholder has claimed specific acts of misconduct.
Facts
Olin Corp. (Olin) bought 63.4 percent of the outstanding shares of Philip A. Hunt Chemical Corporation
(Hunt) (defendant) from Turner and Newall Industries, Inc. (Turner) for $25 a share. Olin’s purchase
agreement with Turner required that if Olin acquired the remaining Hunt stock within one year, it would pay
$25 per share for that stock as well. Olin had always intended to acquire the remaining Hunt stock, but did
not act on that intention until right after one year had passed, thus avoiding the $25 per share requirement
in the agreement with Turner. After the year had passed, Olin hired Morgan Lewis to render a fairness
opinion on a purchase price of $20 per share. Morgan Lewis agreed that it was fair and Olin’s Finance
Committee voted unanimously to propose a price of $20 per share for the remaining Hunt stock. Upon the
merger proposal, the Hunt board appointed a committee to review its fairness. The committee’s advisor,
Merrill Lynch, found that although $20 per share was fair, it was on the low end as the stock was worth
somewhere between $19 to $25 per share. The committee recommended to Olin that it increase its offer,
but Olin declined to act on the recommendation. The committee subsequently declared that $20 per share
was fair and recommended approval of the merger. Rabkin, et al. (plaintiffs) brought suit challenging the
merger. The plaintiffs claim that Olin manipulated the timing of its merger proposal to avoid the one year
commitment price it had agreed to with Turner, thus costing the plaintiffs $4 per share. The Delaware Court
of Chancery dismissed the plaintiffs’ claims, holding that absent fraud or deception, the plaintiffs’ only
remedy was their appraisal right. The plaintiffs appealed.
Issue
In a cash-out merger are appraisal rights a stockholder’s only remedy where the stockholder has claimed
specific acts of misconduct?
Holding and Reasoning (Moore, J.)
No. In a cash-out merger appraisal rights are not a stockholder’s only remedy where the stockholder has
claimed specific acts of misconduct. Upon review of the specific claims in a given case, appraisal rights
may be the best, or, in some cases, only remedy available, but that is not necessarily the case. It cannot
be found to be the only remedy available without an inquiry into the entire fairness—the fair price and fair
dealing aspects—of the merger, established in Weinberger v. UOP, Inc., 457 A.2d 701 (Del. 1983). In this
case, the Delaware Court of Chancery did not look into the entire fairness of the merger, it merely dismissed
the plaintiffs’ claim on the theory that appraisal was the only possible remedy. This was inappropriate
because it was clear that Olin manipulated the timing of its purchase of the remaining shares of Hunt in
order to be able to pay less than $25 per share. Such conduct surrounding a transaction, although not
necessarily fraudulent, calls for an inquiry into the entire fairness of the transaction and possibly a remedy
other than appraisal. The Delaware Court of Chancery is therefore reversed and the case is remanded.
Basic Inc. v. Levinson
United States Supreme Court
485 U.S. 224 (1988)
Rule of Law
Misstatements about merger negotiations can be material statements of fact, depending
on the significance that a reasonable investor would place on the withheld or
misrepresented information.
Facts
Starting in 1976, Combustion Engineering, Inc. (Combustion) had discussions with directors of Basic Inc
(Basic) (defendants) about a possible merger between the corporations. Over the next two years, Basic
made three public statements denying that it was engaged in any merger negotiations. Allegedly in reliance
on those statements, the plaintiffs sold their stock in Basic at artificially low prices. The plaintiffs then brought
a class action suit against Basic and its directors, alleging that the false public statements violated SEC
Rule 10b-5. The district court certified the class, but granted summary judgment to the defendants, finding
that statements about merger negotiations are not material statements of fact. The United States Court of
Appeals for the Sixth Circuit affirmed the class certification based on the fraud-on-the-market theory of
reliance, but reversed the summary judgment. The United States Supreme Court granted certiorari on the
two issues.
Issue
Can misstatements about merger negotiations be material statements of fact?
Holding and Reasoning (Blackmun, J.)
Yes. Generally, the materiality of a statement about a prospective event depends on the probability that the
event will occur and the importance of the event to the company. Thus, because mergers can be the most
important event in a company’s existence, misstatements about merger negotiations can be material
statements of fact. Whether they are or not depends on the facts of the case, specifically the significance
that a reasonable investor would place on the withheld or misrepresented information. This standard differs
from the standard used by the lower courts, so the case is remanded on this issue. In terms of the
certification of the plaintiffs as a class, the Court determines that the fraud-on-the-market theory is an
appropriate method by which to certify the class. Requiring each individual plaintiff to prove actual reliance
on the misstatements would place an “unnecessarily unrealistic evidentiary burden on the rule 10b-5
plaintiff.” In addition, it is common sense that people who buy or sell stocks rely on the integrity of the
market, and this integrity is based on the available public information about companies. An investor’s
reliance on public misinformation about a company is therefore presumed under rule 10b-5. The lower
courts’ certification of the plaintiffs’ class is affirmed, but the presumption may be rebutted by Basic. In
accordance with the foregoing, the judgment of the United States Court of Appeals for the Sixth Circuit is
vacated and the case is remanded.
United States v. O'Hagan
United States Supreme Court
521 U.S. 642 (1997)
Rule of Law
(1) A person is guilty of securities fraud when he misappropriates confidential information
for securities trading purposes, in breach of a duty to the source of that information.
(2) SEC Rule 14e-3 is a proper use of the SEC’s rulemaking authority and should be
given deference.
Facts
James O’Hagan (defendant) was a partner in the law firm that represented Grand Metropolitan PLC in its
tender offer of Pillsbury Company (Pillsbury) common stock. The possibility of the tender offer was
confidential and not public until the offer was formally made by Grand Met. However, during the time when
the potential tender offer was still confidential and nonpublic, O’Hagan used the inside information he
received through his firm to purchase call options and general stock in Pillsbury. Subsequently, after the
information of the tender offer became public, Pillsbury stock skyrocketed and O’Hagan sold his shares,
making a profit of over $4 million. The Securities and Exchange Commission (SEC) initiated an investigation
into O’Hagan’s transactions and brought charges against O’Hagan for violating § 10(b) and § 14(e) of the
Securities Exchange Act. The trial jury convicted O’Hagan, but the United States Court of Appeals for the
Eighth Circuit reversed on the grounds that violation of SEC Rule 10b-5 cannot be grounded in the
misappropriation theory of insider trading. The United States Supreme Court granted certiorari.
Issue
(1) Is a person guilty of securities fraud when he misappropriates confidential information for securities
trading purposes, in breach of a duty to the source of said information?
(2) Is SEC Rule 14e-3, creating a duty to disclose or abstain from trading on information that is obtained
from an insider, a proper use of the SEC’s rulemaking authority that should be given deference?
Holding and Reasoning (Ginsburg, J.)
(1) Yes. A person is guilty of securities fraud when he misappropriates confidential information for securities
trading purposes, in breach of a duty to the source of the information. Under the misappropriation theory of
insider trading, an individual misappropriates material nonpublic information for the purposes of trading, in
breach of a fiduciary duty to the source of the information. This is in contrast to the classical theory of insider
trading where a corporate insider misappropriates material nonpublic information for the purposes of
trading, in breach of a fiduciary duty to the shareholders of the corporation itself. Insider trading under the
misappropriation theory satisfies SEC Rule 10b-5’s requirements of fraudulent practices because
individuals who engage in such misappropriation clearly use deceptive practices in connection with the
purchase of securities. Such individuals “deal in deception” by feigning loyalty to the principal while using
confidential information to purchase stocks—a clear violation of Rule 10b-5. In this case, the
misappropriation theory applies because O’Hagan violated a fiduciary duty to his law firm and Grand Met
(i.e. the sources of the information), not Pillsbury, the trading party in which he bought the stock. This
deceptive misuse of confidential information in order to purchase stocks constitutes a violation of Rule 10b5. Therefore, O’Hagan breached his duty, and his conviction should be upheld. The judgment of the court
of appeals is reversed.
(2) Yes. SEC Rule 14e-3, which creates a duty to disclose or abstain from trading on information that is
obtained from an insider, is a proper use of the SEC’s rulemaking authority and should be given deference.
O’Hagan’s conviction based on violation of Rule 14e-3 should not have been vacated because the SEC’s
creation of this rule was proper. The SEC is permitted to prohibit acts if the intent is to prevent fraudulent
acts, and if the prohibition is reasonably designed to prevent these acts. The SEC will be granted deference
in its prohibition of certain acts as long as the prohibition is not arbitrary, capricious, or contrary to statute.
In regard to Rule 14e-3, the SEC has created a reasonable rule in which fraud is prevented by prohibiting
trades based on the acquisition of inside information. The SEC is well within its authority to prohibit trades
that may be fraudulent. Since the rule is proper, O’Hagan may be found guilty of violating the rule. The
judgment of the court of appeals is reversed.
United States v. Newman
United States Court of Appeals for the Second Circuit
773 F.3d 438 (2014)
Rule of Law
To sustain a conviction for insider trading against a tippee, the government must prove
that the tippee knew that an insider disclosed confidential information in exchange for a
personal benefit.
Facts
Financial analysts at various firms obtained non-public information from corporate insiders. The analysts
knew the insiders as family friends, casual acquaintances, or fellow business school alumni. With one
exception involving the mutual sharing of career advice, the insiders received nothing in exchange for their
disclosures to the analysts. Todd Newman and Anthony Chiasson (defendants) were fund managers
several levels removed from the disclosing corporate insiders. They received and traded on the inside
information. The U.S. government (plaintiff) charged Newman and Chiasson with securities fraud. The
district court instructed the jury that, in order for it to reach a guilty verdict, the defendants had to have
known that the corporate insiders disclosed material, non-public information. Newman and Chiasson were
convicted. They appealed, arguing that the jury instructions were improper and that the government had
failed to prove that they knew that the corporate insiders had obtained a personal benefit in exchange for
their disclosure.
Issue
To sustain a conviction for insider trading against a tippee, must the government prove that the tippee knew
that an insider disclosed confidential information in exchange for a personal benefit?
Holding and Reasoning (Parker, J.)
Yes. To sustain a conviction for insider trading against a tippee, the government must prove that the tippee
knew that an insider disclosed the confidential information and that he did so in exchange for a personal
benefit. This is the same standard as is applied to a tipper. A tippee’s liability is derived from the tipper’s
breach of fiduciary duty, and the tippee must have knowledge of each element of the tipper’s breach. A
receipt of personal benefits in exchange for disclosure of information is a necessary element of a tipper’s
breach. If a tippee does not know that the tipper received a personal benefit in exchange for information,
then the tippee cannot know that the tipper has breached his or her fiduciary duty. If the tippee did not know
about the tipper’s breach, then the tippee is not guilty. In this case, the district court erred because its jury
instructions did not require Newman and Chiasson to have knowledge of the corporate insiders’ receipt of
personal benefit in exchange for their disclosure. No reasonable jury could find that Newman and Chiasson
had such knowledge, because there was not sufficient evidence that the insiders received any personal
benefit in exchange for their disclosure. The insiders mostly had casual relationships with the analysts.
Even the career advice received in one instance is not sufficient to constitute the personal benefit necessary
to maintain a securities fraud claim. This advice was what any analyst might give a fellow alumnus without
the exchange of any insider information. Moreover, the government also failed to prove that Newman and
Chiasson knew that the information originated from corporate insiders in the first place. In sum, Newman
and Chiasson did not have the intent to commit insider trading. The convictions are reversed.
Salman v. United States
United States Supreme Court
137 S. Ct. 420 (2016)
Rule of Law
A tippee is liable for securities fraud if the tipper breaches a fiduciary duty by making a
gift of confidential information to a trading relative or friend.
Facts
Maher Kara (Maher) was an investment banker for Citigroup. Maher gave inside information to his brother,
Michael Kara (Michael). Maher knew that Michael would trade on the information. Maher loved his brother
and testified at trial that he gave Michael the information to help him. In addition to trading on this information
himself, Michael gave the information to his friend Bassam Salman (defendant), who also traded on the
inside information. At trial, Michael testified that Salman knew the inside information was coming from
Maher. Salman made over $1.5 million in profits using the inside information. A jury in the United States
District Court for the Northern District of California convicted Salman of securities fraud. The United States
Court of Appeals for the Ninth Circuit affirmed. The United States Supreme Court granted certiorari.
Issue
Is a tippee liable for securities fraud if the tipper breaches a fiduciary duty by making a gift of confidential
information to a trading relative or friend?
Holding and Reasoning (Alito, J.)
Yes. A tippee is liable for securities fraud if the tipper breaches a fiduciary duty by making a gift of
confidential information to a trading relative or friend. Generally, a tippee is liable for securities fraud based
on insider trading if the tipper personally benefits from the disclosure of the inside information. A tipper
personally benefits from a gift of the inside information if the gift is made to a trading relative or friend
because, absent the gift of information, the tipper could simply use the information to trade for himself or
herself and then pass the profits on to the tippee. This practice would clearly be securities fraud, and if the
information is given to and traded on by a friend or relative, the result of the practice is the same. Thus, in
a securities fraud case under these circumstances, the jury can infer that the tipper intended the information
to be the same as a cash gift. Here, the lower courts properly found Salman liable for securities fraud.
Maher gifted inside information to Michael, a close relative. The jury was entitled to infer that Maher intended
the information to be the equivalent of a monetary gift to Michael, and that Maher thus personally benefitted
from disclosing the information. Salman knew Maher had gifted the information to Michael, and, as a tippee,
Salman is also liable for securities fraud. The conviction is affirmed.
Smith v. Van Gorkom
Delaware Supreme Court
488 A.2d 858 (Del.Sup.Ct. 1985)
Rule of Law
There is a rebuttable presumption that a business determination made by a corporation’s
board of directors is fully informed and made in good faith and in the best interests of the
corporation.
Facts
Jerome Van Gorkom, the CEO of Trans Union Corporation (Trans Union), engaged in his own negotiations
with a third party for a buyout/merger with Trans Union. Prior to negotiations, Van Gorkom determined the
value of Trans Union to be $55 per share and during negotiations agreed in principle on a merger. There is
no evidence showing how Van Gorkom came up with this value other than Trans Union’s market price at
the time of $38 per share. Subsequently, Van Gorkom called a meeting of Trans Union’s senior
management, followed by a meeting of the board of directors (defendants). Senior management reacted
very negatively to the idea of the buyout. However, the board of directors approved the buyout at the next
meeting, based mostly on an oral presentation by Van Gorkom. The meeting lasted two hours and the
board of directors did not have an opportunity to review the merger agreement before or during the meeting.
The directors had no documents summarizing the merger, nor did they have justification for the sale price
of $55 per share. Smith et al. (plaintiffs) brought a class action suit against the Trans Union board of
directors, alleging that the directors’ decision to approve the merger was uninformed. The Delaware Court
of Chancery ruled in favor of the defendants. The plaintiffs appealed.
Issue
May directors of a corporation be liable to shareholders under the business judgment rule for approving a
merger without reviewing the agreement and only considering the transaction at a two-hour meeting?
Holding and Reasoning (Horsey, J.)
Yes. Under the business judgment rule, a business determination made by a corporation’s board of
directors is presumed to be fully informed and made in good faith and in the best interests of the corporation.
However, this presumption is rebuttable if the plaintiffs can show that the directors were grossly negligent
in that they did not inform themselves of “all material information reasonably available to them.” The court
determines that in this case, the Trans Union board of directors did not make an informed business
judgment in voting to approve the merger. The directors did not adequately inquire into Van Gorkom’s role
and motives behind bringing about the transaction, including where the price of $55 per share came from;
the directors were uninformed of the intrinsic value of Trans Union; and, lacking this knowledge, the
directors only considered the merger at a two-hour meeting, without taking the time to fully consider the
reasons, alternatives, and consequences. The evidence presented is sufficient to rebut the presumption of
an informed decision under the business judgment rule. The directors’ decision to approve the merger was
not fully informed. As a result, the plaintiffs are entitled to the fair value of their shares that were sold in the
merger, which is to be based on the intrinsic value of Trans Union. The Delaware Court of Chancery is
reversed, and the case is remanded to determine that value.
Unocal Corporation v. Mesa Petroleum Co.
Delaware Supreme Court
493 A.2d 946 (Del. 1985)
Rule of Law
A board of directors may repurchase stock from a selected segment of its stockholders in
order to defeat a perceived threat to the corporation’s business so long as the board’s
selection of which stockholders to repurchase from is reasonable in relation to the threat
and not motivated primarily out of a desire to effectuate a perpetuation of control.
Facts
Mesa Petroleum Co. (Mesa) (plaintiff) owned 13 percent of Unocal Corporation’s (Unocal) (defendant)
stock. Mesa submitted a “two-tier” cash tender offer for an additional 37 percent of Unocal stock at a price
of $54 per share. The securities that Mesa offered on the back end of the two-tiered tender offer were highly
subordinated “junk bonds.” With the assistance of outside financial experts, the Unocal board of directors
determined that the Mesa offer was completely inadequate as the value of Unocal stock on the front end of
such a sale should have been at least $60 per share, and the junk bonds on the back end were worth far
less than $54 per share. To oppose the Mesa offer and provide an alternative to Unocal’s shareholders,
Unocal adopted a selective exchange offer, whereby Unocal would self-tender its own shares to its
stockholders for $72 per share. The Unocal board also determined that Mesa would be excluded from the
offer. The board approved this exclusion because if Mesa was able to tender the Unocal shares, Unocal
would effectively subsidize Mesa’s attempts to buy Unocal stock at $54 per share. In sum, the Unocal
board’s goal was either to win out over Mesa’s $54 per share tender offer, or, if the Mesa offer was still
successful despite the exchange offer, to provide the Unocal shareholders that remained with an adequate
alternative to accepting the junk bonds from Mesa on the back end. Mesa brought suit, challenging Unocal’s
exchange offer and its exclusion of Mesa. The Delaware Court of Chancery granted a preliminary injunction
to Mesa, enjoining Unocal’s exchange offer. Unocal appealed.
Issue
May a board of directors repurchase stock from its stockholders selectively?
Holding and Reasoning (Moore, J.)
Yes. Although in cases where a corporation purchases shares with corporate funds to remove a threat to
control the burden is on the directors to prove that their actions were reasonable, the business judgment
rule kicks in when the directors prove a good faith and reasonable investigation resulted in the purchase.
Thus, a board of directors may repurchase stock from its stockholders selectively in order to defeat a
perceived threat to the corporation’s business so long as the board’s selection of which stockholders to
repurchase from is reasonable in relation to the threat and not motivated primarily out of a desire to
effectuate a perpetuation of control. In the case at bar, Unocal’s board’s selective tender offer to the
exclusion of Mesa was reasonable in relation to the threat posed by Mesa. Mesa’s two-tiered tender offer
to Unocal stockholders was inadequate on both the front and back ends. The offer’s purpose was to force
stockholders to accept the undervalued $54 per share offer so they could avoid being stuck with accepting
junk bonds on the back end of the offer. Unocal was thus entitled to attempt to provide its stockholders with
a viable alternative and it did so by offering $72 per share. This alternative would have effectively been
thwarted if Mesa was included in the $72 per share offer as this would have subsidized Mesa’s continuing
efforts to buy Unocal stock. In addition, Unocal’s selective exchange offer was designed to protect its
stockholders from Mesa’s tender offer, and Mesa certainly would not qualify in the class of stockholders
being protected from its own offer. Accordingly, the selective exchange offer was reasonable in light of the
threat posed to Unocal by Mesa’s tender offer. It is therefore upheld under the business judgment rule and
the Delaware Court of Chancery is reversed.
Moran v. Household International, Inc.
Delaware Supreme Court
500 A.2d 1346 (Del. 1985)
Rule of Law
Under Delaware law, the enactment of a poison pill shareholders’ rights plan to prevent
hostile takeovers is a valid exercise of a corporate board’s business judgment.
Facts
Household International, Inc.’s (Household) (defendant) director, Moran (plaintiff), was chairman of DysonKissner-Moran Corporation (DKM) (plaintiff), Household’s largest shareholder. DKM suggested a buyout.
A financial survey showed that Household’s assets were worth more than its share price reflected.
Household’s board became concerned about bust-up takeovers and two-tier tender offers. The board
adopted a “poison pill” shareholders’ rights plan. Under the plan, shareholders would be issued one right
per common share allowing the holder to buy 1/100 of a share of preferred stock if a triggering event
occurred. If a tender offer was made for 30 percent of Household’s shares, the right issued fully exercisable.
The board could redeem the right for $0.50. If one entity acquired 20 percent of shares, non-redeemable
rights issued. After the merger, unexercised rights allowed holders to buy the offeror’s common stock for
half price under a “flip-over” provision. Moran and DKM sued in the Delaware Court of Chancery to
challenge the provision. The chancery court affirmed the rights plan as a valid exercise of the Household
board’s business judgment. The plaintiffs appealed to the Delaware Supreme Court.
Issue
Is the enactment of a so-called “poison pill” shareholders’ rights plan to prevent hostile takeovers a valid
exercise of a corporate board’s business judgment?
Holding and Reasoning (McNeilly, J.)
Yes. A board may enact a poison pill to block hostile takeovers. The business judgment rule applies to a
board’s authorized actions. The directors bear the burden of proving there were reasonable grounds to
believe “a danger to corporate policy…existed.” Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946 (Del.
1985). This burden is met if the directors acted in good faith after reasonable investigation and the act bore
“reasonable...relation to the threat posed.” Id. Sections 157 and 151(g) of Delaware’s corporate law
authorize a board to issue rights to buy stock and preferred shares. 8 Del. C. §§ 157, 151(g). Section 141(a)
grants the board inherent powers to manage the business. Delaware law thus provides authority for a board
to enact a poison pill. Nothing in the legislative history suggests an intent to limit the issuance of rights
unless the board’s purpose is to raise capital. Here, the rights are not a sham; they will be issued after a
triggering event and grant the holder superior rights. There is no reason to bar flip-over provisions. Antidestruction clauses guarantee security holders’ rights in case of a merger by allowing conversion of shares
into the surviving entity’s stock; the issuance of the rights to block takeovers does not negate their validity.
That Delaware law does not bar hostile takeovers does not mean it forbids private blocking mechanisms.
Household’s shareholders retain the right to receive tender offers, though the methods may be limited. The
board owes fiduciary duties and cannot reject tender offers arbitrarily. The plan does not impair the
company’s assets, tax liability, or share price. Further, because proxy holders are not beneficial owners,
holding proxies for 20 percent of shares is not a trigger. Household’s board acted in good faith on its belief
in the threat of hostile takeovers after DKM’s buyout talks. The plan’s enactment is reviewed under the
business judgment rule; it bore a reasonable relation to the threat the board feared. The board still owes
fiduciary duties if a takeover bid actually occurs, and the plan can be challenged then. Judgment is affirmed.
Moran v. Household Int'l, Inc.
Supreme Court of Delaware
500 A.2d 1346 (1985)
Rule of Law
A corporation’s board of directors may give existing shareholders the right to buy the
shares of a hostile purchaser at a discount.
Facts
The board of directors (defendants) of Household International, Inc. (Household) (defendant) adopted a
shareholder rights plan. Under the plan, if a single entity made a tender offer for at least 30 percent of
Household’s shares or acquired at least 20 percent of Household’s shares, Household’s existing
stockholders would have the right to buy that entity’s shares at half price, following the entity’s acquisition
of the shares. The plan was adopted as a defense against future hostile takeovers. Moran (plaintiff) was
one of two directors who voted against the plan. Moran was also the chairman of the Dyson-Kissner-Moran
Corporation (DKM) (plaintiff), which was the single largest stockholder of Household and had considered a
buyout of Household. Moran and DKM (Moran) sued Household and its directors. The court of chancery
ruled in the defendants’ favor. Moran appealed.
Issue
May a corporation’s board of directors give existing shareholders the right to buy the shares of a hostile
purchaser at a discount?
Holding and Reasoning (McNeilly, J.)
Yes. A corporation may defend against a hostile takeover by giving its shareholders the right to buy the
shares of a hostile purchaser at a discount following a takeover, thereby diluting the value of the hostile
purchaser’s targeted shares. Despite Moran’s arguments to the contrary, the Delaware General
Corporation Law, Del. Code tit. 8, § 157, provides sufficient authority for Household’s rights plan. Section
157 allows a corporation to create and issue rights or options entitling the right or option holder to purchase
stock from the corporation. While § 157 has never been used to authorize a takeover defense like the one
in this case, its silence on the matter does not mean that such a use is prohibited. The rights issued under
the plan are also not sham rights that have no economic value, which Moran argues are not authorized
under § 157. The rights of the existing stockholders to purchase a hostile bidder’s shares at a discount can
and will be exercised whenever those rights are triggered, either by a tender offer to purchase 30 percent
of Household’s shares or the acquisition of 20 percent of Household’s shares. Moran also argues that
Household’s board of directors may not usurp stockholders’ rights to receive hostile tender offers. However,
there are several ways to make a tender offer despite the plan, such as conditioning the tender offer on the
board’s redemption of the rights. Finally, Moran argues that the plan restricts stockholders’ rights to conduct
a proxy contest, because it prevents stockholders from forming a group to solicit proxies if, together, those
stockholders own 20 percent or more of Household’s stock. However, most proxy contests are won on less
than 20 percent ownership, and the effect of the plan on these contests will be minimal. The adoption of
the plan was therefore within the authority of Household’s directors. Under the business judgment rule,
corporate directors that make a business decision are presumed to have acted on an informed basis, in
good faith, and in the honest belief that the decision was in the company’s best interests. Here, there are
no allegations of bad faith on the part of Household’s directors. The directors’ adoption of the plan was a
response to what they reasonably perceived to be a threat of hostile takeovers. The Household directors'
decision is therefore protected under the business judgment rule.
Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc.
Delaware Supreme Court
506 A.2d 173 (Del. 1986)
Rule of Law
When the break-up of a corporation is inevitable, the duty of the corporation’s board of
directors changes from maintaining the company as a viable corporate entity to
maximizing the shareholders’ benefit when the company is eventually and inevitably sold.
Facts
Pantry Pride, Inc. (Pantry Pride) (plaintiff) sought to acquire Revlon, Inc. (Revlon) (defendant) and offered
$45 per share. Revlon determined the price to be inadequate and declined the offer. Despite defensive
efforts by Revlon, including an offer to exchange up to 10 million shares of Revlon stock for an equivalent
number of Senior Subordinated Notes (Notes) of $47.50 principal at 11.75 percent interest, Pantry Pride
remained committed to the acquisition of Revlon. Pantry Pride raised its offer to $50 per share and then to
$53 per share. Meanwhile, Revlon was in negotiations with Forstmann Little & Co. (Forstmann) (defendant)
and agreed to a leveraged buyout by Forstmann, subject to Forstmann obtaining adequate financing. Under
the agreement, Revlon stockholders would receive $56 per share and Forstmann would assume Revlon’s
debts, including what amounted to a waiver of the Notes covenants. Upon the announcement of that
agreement, the market value of the Notes began to drop dramatically and the Notes holders threatened suit
against Revlon. At about the same time, Pantry Pride raised its offer again, this time to $56.25 per share.
Upon hearing this, Forstmann raised its offer under the proposed agreement to $57.25 per share,
contingent on two pertinent conditions. First, a lock-up option giving Forstmann the exclusive option to
purchase part of Revlon for $100-$175 million below the purported value if another entity acquired 40
percent of Revlon shares. Second, a “no-shop” provision, which constituted a promise by Revlon to deal
exclusively with Forstmann. In return, Forstmann agreed to support the par value of the Notes even though
their market value had significantly declined. The Revlon board of directors approved the agreement with
Forstmann and Pantry Pride brought suit, challenging the lock-up option and the no-shop provision. The
Delaware Court of Chancery found that the Revlon directors had breached their duty of loyalty and enjoined
the transfer of any assets, the lock-up option, and the no-shop provision. The defendants appealed.
Issue
When the break-up of a corporation is inevitable, does the corporation’s board of directors violate its duty
of loyalty to the shareholders if its first consideration is not maximizing the shareholders’ benefit when the
company is eventually and inevitably sold?
Holding and Reasoning (Moore, J.)
Yes. In cases where a board implements “anti-takeover measures,” the burden is on the directors to prove
that their actions were reasonable. However, the business judgment rule kicks in if they prove a good faith
and reasonable investigation resulted in their decision. In the present case, the Revlon board’s initial
defensive measures—its exchange offer for Notes—was reasonable under the holding in Unocal
Corporation v. Mesa Petroleum Co., 493 A.2d 946 (Del. 1985), given the board’s determination that Pantry
Pride’s offer was less than adequate. However, when Pantry Pride continually increased its offer, the court
determines that it became obvious that “the break-up of [Revlon] was inevitable.” At that point, the Revlon
board’s duty was changed from maintaining Revlon as a viable corporate entity to maximizing the
shareholders’ benefit when the company was eventually and inevitably sold. By granting the lock-up option
to Forstmann that in turn guaranteed par value for the Note holders who were threatening litigation against
Revlon, it is apparent that the Revlon board of directors had their own legal interests in mind, rather than
the maximization of Revlon shareholders’ benefits. There was essentially an auction ongoing between
Forstmann and Pantry Pride for Revlon’s shares and the granting of the lock-up option effectively ended
the auction rather than letting the auction play out to obtain the highest bid for the Revlon stockholders. The
Revlon board put its own legal interests first to the detriment of the stockholders. This constitutes a breach
of the board’s duty of loyalty and therefore the board is not entitled to the deference of the business
judgment rule. The lock-up option should be enjoined and the Delaware Court of Chancery is affirmed.
Paramount Communications, Inc. v. Time Incorporated
Delaware Supreme Court
571 A.2d 1140 (Del. 1989)
Rule of Law
A board of directors may enter into a transaction in order to defeat a reasonably perceived
threat to the corporation’s business so long as the board’s decision is reasonable in
relation to the threat posed.
Facts
Time (defendant) began considering entering the field of entertainment and researched a wide range of
companies as merger candidates, including Paramount (plaintiff) and Warner Brothers (Warner). Time and
Warner eventually agreed to, and both boards approved, a stock-for-stock merger. However, before the
merger was approved by Time stockholders, Paramount announced an all-cash offer for all of Time’s
outstanding shares at $175 per share. Time’s board met to discuss the offer, but concluded that the offer
posed a threat to Time’s future business and the retention of the “Time Culture.” At the same time, the Time
board decided to change its merger with Warner into an all-cash and securities acquisition of Warner. Time
then made a cash offer for 51 percent of Warner’s outstanding stock at $70 per share with the remainder
to be purchased at a future date for a combination of cash and securities equaling $70 per share. A couple
of weeks later, Paramount raised its offer for Time’s outstanding stock to $200 per share. The Time board
again rejected the offer, maintaining that the Warner acquisition offered better long-term value for its
stockholders and that it did not jeopardize Time’s corporate survival and “culture.” Time shareholders
(plaintiffs) brought suit based on Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc., 506 A.2d 173 (1985),
claiming that the Time-Warner agreement effectively put Time up for sale, thus triggering Revlon duties
such as the requirement that the Time board seek to increase the corporation’s short-term value for its
shareholders. In addition, Paramount brought suit based on Unocal Corporation v. Mesa Petroleum Co.,
493 A.2d 946 (Del. 1985), claiming that Time’s belief that Paramount posed a threat to its future was not
reasonable, that Time failed to fully investigate Paramount’s offer, and, under Unocal’s second prong, that
Time’s response to any perceived threat was unreasonable. The Delaware Court of Chancery found in
favor of the defendants on all claims. The plaintiffs appealed.
Issue
May a board of directors enter into a transaction in order to defeat a perceived non-economic threat to the
corporation’s business?
Holding and Reasoning (Horsey, J.)
Yes. Under Unocal, a board of directors may enter into a transaction in order to defeat a reasonably
perceived threat to the corporation’s business so long as the board’s decision is reasonable in relation to
the threat posed. Such perceived threats include, but are not limited to inadequate value of the tender offer.
In this case, Paramount’s claim is misguided as Time’s conclusion that inadequate value was not the only
possible threat to its future is reasonable. There was the threat that Time shareholders would accept
Paramount’s tender offer without knowing the long-term benefits of the Paramount deal; there was the
threat to the Time “Culture”; and there was a general threat to Time’s business model moving forward since
it would be entering the new field of entertainment. Similarly, Paramount’s claim that Time did not fully
investigate its offer is misguided. Before deciding on Warner, the Time board fully investigated other options
for mergers—including a merger with Paramount—and determined that Paramount was not as good of a
fit as Warner. Moving to the second prong of the Unocal analysis, the court determines that Time’s
response to the threat posed by Paramount’s offer was reasonable. The defensive restructuring of the
Time-Warner merger, including the change to an all-cash/securities merger, was a way for Time to achieve
its goal of the “carrying forward of a pre-existing transaction in an altered form.” It was merely a way to
achieve its initial goal of the Time-Warner merger through another means, without interference from
Paramount. Accordingly, the Time board’s response to the Paramount threat was reasonable and the
business judgment rule granting deference to the board’s decision is invoked. Additionally, the Time
shareholders’ Revlon claim must fail because there is no evidence that the dissolution or break-up of Time
was inevitable, as is required by Revlon. The Time board’s defensive reaction to Paramount’s hostile tender
offer was not a step towards the end of Time’s existence. Therefore, Revlon duties did not attach to the
board. The Delaware Court of Chancery’s ruling in favor of the defendants is affirmed.
Paramount Communications Inc. v. QVC Network Inc.
Delaware Supreme Court
637 A.2d 34 (Del. 1994)
Rule of Law
When a corporation undertakes a transaction which will cause a change in corporate
control or a break-up of the corporate entity, the directors’ obligation is to seek the best
value reasonably available to the stockholders.
Facts
Paramount Communications Inc. (Paramount) (defendant) approved a merger agreement with Viacom Inc.
(Viacom). The agreement contained various defensive measures, including the following: a no-shop
provision, under which Paramount would not solicit any other offers, subject to certain exceptions; a
termination fee provision, under which Viacom would be paid a $100 million termination fee if the merger
was not consummated; and a stock option provision under which Viacom was granted an option to purchase
about 19.9 percent of Paramount’s outstanding stock if the merger was not consummated. After the
proposed merger was announced, QVC Network Inc. proposed an alternative merger to Paramount,
whereby QVC would acquire Paramount for $80 per share. Upon hearing of this offer, Viacom sweetened
its bid for Paramount, itself offering $80 per share. Paramount approved an amended merger agreement
with Viacom, although the terms were largely similar to the original agreement and the defensive measures
in place to make it hard for Paramount to effectuate an alternative transaction remained unchanged.
Subsequently, Viacom unilaterally raised its offer to $85 per share and QVC followed with an offer of $90
per share. The Paramount board then made a final determination that the Viacom merger was in the better
interests of the Paramount stockholders. QVC and Paramount stockholders (plaintiffs) brought suit and the
Court of Chancery granted a preliminary injunction enjoining the Paramount merger with Viacom.
Paramount appealed.
Issue
May a no-shop provision in a merger agreement between two corporations define or limit the fiduciary duties
of the directors of one or both of the corporations?
Holding and Reasoning (Veasey, J.)
No. When a corporation undertakes a transaction which will cause a change in corporate control or a breakup of the corporate entity, the directors’ obligation is to seek the best value reasonably available to the
stockholders. Defensive measures such as a no-shop provision making it difficult or unfeasible for a
corporation to accept another offer may not legally prevent directors from carrying out their fiduciary duties
to the corporation and its stockholders. In the case at bar, there were no protections in the merger
agreement for the Paramount stockholders who were about to become minority stockholders in the
corporation. Those stockholders are entitled to receive a control premium and because there were no
protections built into the agreement, it was up to the Paramount board of directors to obtain for them the
best possible value. Because of the no-shop and other draconian defensive measures in the agreement—
that the Paramount directors agreed to and did not modify even in the amended merger agreement—the
Paramount directors were not able to do this and thus did not fulfill their fiduciary duties. In addition, QVC
repeatedly demonstrated a willingness to meet and exceed Viacom’s offers. Paramount’s failure to
acknowledge this and amend the merger agreement with Viacom to make it more favorable constitutes a
breach of fiduciary duty. The Delaware Court of Chancery is therefore affirmed and the injunction is upheld.
Lyondell Chemical Co. v. Ryan
Delaware Supreme Court
970 A.2d 235 (2009)
Rule of Law
A fiduciary satisfies its good-faith requirement if it cannot be demonstrated that the
fiduciary intentionally failed to act in the face of a known duty to act.
Facts
Basell AF (Basell) made an offer to purchase Lyondell Chemical Company (Lyondell) at $40 per share. Dan
Smith, Lyondell’s CEO and Chair, responded that the offer was too low. Negotiations commenced and
eventually, Smith took an offer of $48 per share to the Lyondell board of directors (defendants). The board
held a special meeting at which it considered the offer, as well as a valuation report that had just been
prepared for Lyondell. A merger agreement was drafted, and the board, along with Lyondell’s financial and
legal advisors, reviewed the agreement. Lyondell’s financial advisor stated that Basell’s offer was fair and
that no other offers from the chemical industry would top it. The defendants approved the merger for a
stockholder vote. Lyondell did not receive any other offers between the board’s approval and the vote. The
stockholders approved the merger with 99 percent of the voting shares voting in favor. Walter Ryan, a
Lyondell stockholder (plaintiff), brought a class action suit alleging, among other things, that the Lyondell
directors breached their duty of loyalty by not obtaining the best available price in the sale to Basell. The
defendants filed a motion for summary judgment. The Delaware Court of Chancery denied the motion,
finding that the defendants did not conduct an auction for the sale, conduct a market check, or demonstrate
“an impeccable knowledge of the market,” as is required under Revlon, Inc. v. MacAndrews & Forbes
Holdings, Inc., 506 A.2d 173 (Del. 1986). The defendants appealed.
Issue
Does a fiduciary satisfy the good-faith requirement if it cannot be demonstrated that the fiduciary
intentionally failed to act in the face of a known duty to act?
Holding and Reasoning (Berger, J.)
Yes. A court will find that a director acted in bad faith if the director intentionally failed to act in the face of
a known duty to act, demonstrating a conscious disregard for the duty. Thus, if a failure or disregard cannot
be demonstrated, the fiduciary satisfies its good-faith obligation. Under Revlon, directors have a duty to
obtain in a sale the best available price for the stockholders. Importantly, Revlon does not require a
particular path for the directors to obtain the best price. In this case, although the defendants did not take
all the steps that they possibly could have prior to the sale to Basell, including those that the chancery court
outlined, the defendants did not fail to act in the face of their duty to find the best available price. As
mentioned, Revlon does not instill in directors any specific duty other than to achieve the best sale price
possible. Here, all indications are that the defendants acted in the face of that duty and did just that. The
Lyondell board met several times to discuss the sale; the board was aware of the chemical company market,
as well as Lyondell’s place within that market and valuation; the board considered the possibility that it
would receive any other offer, let alone any better offers; and the board negotiated the sale price to $48 per
share, up from $40. It cannot be demonstrated that the defendants exhibited a conscious disregard for their
duty to achieve the best sale price possible, so it cannot be said they breached their duty of loyalty. Thus,
the chancery court's decision is reversed, and the matter is remanded for judgment in favor of the
defendants.
Omnicare, Inc. v. NCS Healthcare, Inc.
Delaware Supreme Court
818 A.2d 914 (2003)
Rule of Law
Deal-protection devices that are designed to force the consummation of a merger and
foreclose consideration of any superior transaction are preclusive and coercive, and they
are thus unenforceable.
Facts
Genesis Health Ventures, Inc. (Genesis) (defendant) entered into negotiations to acquire NCS Healthcare,
Inc. (NCS) (defendant). At the urging of Genesis, the parties entered into an exclusivity agreement, which
prevented NCS from engaging in any negotiations in regards to a competing acquisition or transaction.
Subsequently, Omnicare, Inc. (Omnicare) (plaintiff) contacted NCS about a proposed transaction. NCS did
not respond due to the exclusivity agreement with Genesis, but NCS did use Omnicare's proposed
transaction to negotiate more favorable terms with Genesis. Complementary to Genesis’s merger proposal
was a voting agreement under which Jon Outcalt, Chairman of the NCS board, and Kevin Shaw, NCS
President and CEO, agreed to vote all of their shares—combined, a majority of NCS shares—in favor of
the merger agreement. This voting agreement effectively meant that NCS shareholder approval of the
merger was guaranteed even if the NCS board did not recommend its approval. The merger agreement,
which contained a clause restricting the rights of NCS to discuss an alternative merger with a third party,
was then executed. The merger agreement did not contain a fiduciary out clause, which would have given
the NCS board the opportunity to opt out of the agreement if it needed to do so to discharge its fiduciary
duties to the corporation. Meanwhile, before the official—although futile—NCS shareholder vote on the
Genesis merger proposal, Omnicare submitted a merger proposal that was superior to that of Genesis. At
that point, the NCS board withdrew its recommendation that the shareholders vote in favor of the Genesis
merger agreement. However, the Genesis merger agreement provided that the proposal still must be
submitted to a shareholder vote and, because of the Outcalt/Shaw voting agreement and the omission of a
fiduciary out clause, that meant that the merger agreement was going to be approved no matter what.
Omnicare brought suit.
Issue
Are deal-protection devices that are designed to force the consummation of a merger and foreclose
consideration of any superior transaction enforceable?
Holding and Reasoning (Holland, J.)
No. Deal-protection devices that are designed to force the consummation of a merger and foreclose
consideration of any superior transaction are preclusive and coercive, and they are thus unenforceable.
Under Unocal Corporation v. Mesa Petroleum Co., 493 A.2d 946 (Del. 1985), and its progeny, a board of
directors may enter into a transaction in order to respond to and defeat a reasonably perceived threat to
the corporation’s business so long as the board’s response is reasonable in relation to the threat posed and
not coercive or preclusive. A response is coercive if it forces stockholders to accept a “managementsponsored alternative to a hostile offer,” and a response is preclusive if it prevents stockholders from
hearing and voting on all available tender offers. In this case, the combination of the Outcalt/Shaw voting
agreement, the Genesis merger terms, and the omission of a fiduciary out clause amounted to a lock-up
that prevented any other merger proposal besides Genesis’s, including Omnicare’s, from succeeding no
matter how much better it was for NCS and its stockholders. This response to Genesis’s merger proposal
is not within the range of reasonable responses to the threat of losing Genesis's offer, and it is both coercive
and preclusive. Furthermore, the defensive measures taken by NCS are invalid and unenforceable because
they failed to allow the NCS board to discharge its fiduciary duties to the corporation. Accordingly, the court
rules in favor of Omnicare.
In re The Topps Company Shareholders Litigation
Delaware Court of Chancery
926 A.2d 58 (2007)
Rule of Law
When a board is soliciting bids for the sale of the company, it may not use a standstill
agreement to prevent a disfavored suitor from presenting its side of the story to the
shareholders.
Facts
Arthur Shorin, son of the founder of The Topps Company, Inc. (defendant), has been chairman and CEO
of Topps since 1980. Topps’ performance began to falter in the early 2000s and Topps began to consider
a sale of its business. Michael Eisner approached Shorin, expressing interest. He proposed a merger at
$9.24 per share, which the board negotiated upward to $9.75 per share. The board entered into a merger
agreement with Eisner at that price, which permitted Topps to shop for other bids for 40 days and to accept
a “superior proposal” subject only to a termination fee to be paid to Eisner. Eisner expressed to Shorin and
others at Topps that he intended to keep Shorin and substantially all of the rest of the company’s
management in place after the merger. During the 40-day shop period, the only party to express interest
was Topps’ main competitor, The Upper Deck Company (plaintiff). Near the end of the period, Upper Deck
expressed willingness to pay $10.75 per share, subject to financing and other conditions. Topps had the
option under the merger agreement to designate Upper Deck as an Excluded Party and to continue
negotiating after the 40 days. Topps declined to do so, opting to move forward and submit the Eisner merger
proposal to the shareholders for a vote. After the 40-day period, Upper Deck made another unsolicited offer
at $10.75 per share, without a financing condition. Topps did not seriously consider this proposal. Topps’
statement to the shareholders on the Eisner merger did not accurately reflect the seriousness of Upper
Deck’s proposals. It also did not disclose that Eisner had promised to retain management figures after the
merger. Topps had required Upper Deck to enter into a Standstill Agreement which prohibited Upper Deck
from negotiating or engaging directly with Topps’ shareholders. A group of Topps shareholders (plaintiffs),
along with Upper Deck, sued Topps and moved for a preliminary injunction blocking the shareholder vote
on the Eisner merger.
Issue
When a board is soliciting bids for the sale of the company, may it use a standstill agreement to prevent a
disfavored suitor from presenting its version of events to the shareholders?
Holding and Reasoning (Strine, J.)
No. When a corporation’s directors seek to sell the company, they have a duty to get the best price
reasonably attainable for their shareholders. Additionally, when proposing a particular merger to
shareholders, the directors must provide the shareholders with all the material facts they need to make an
informed decisions, and the directors must avoid making misleading statements. Though standstill
agreements are often an appropriate means of ensuring that bidders do not misuse confidential information,
they are subject to abuse. If a bidder accepts a standstill agreement and is ultimately rebuffed by the board,
it may be prevented by the agreement from sharing its version of events with the shareholders. The board
of the target corporation may therefore have a duty to release a bidder from a standstill agreement to fulfill
its disclosure requirements. In this case, it appears that the directors of Topps have breached their fiduciary
duty to their shareholders by not pursuing the $10.75 offer from Upper Deck since it represented a
significantly better price than that offered by Eisner. It compounded this breach of duty by inaccurately
describing events in its proxy statements and by refusing to permit Upper Deck to engage with Topps’
shareholders. The plaintiffs’ motion for a preliminary injunction against the merger vote is granted. It will
remain in place until Topps permits Upper Deck to (1) make an all-shares non-coercive tender offer similar
to its most recent $10.75 offer, and (2) communicate its version of events to Topps shareholders. Topps
must also issue corrective disclosures.
Gantler v. Stephens
Supreme Court of Delaware
965 A.2d 695 (2009)
Rule of Law
A complaint challenging a board’s decision to reject a merger proposal must allege other
facts beyond a self-entrenchment motive in order to adequately state a claim that the
directors acted disloyally.
Facts
The board of directors of First Nile Financial, Inc. (First Nile) put the company up for sale in August 2004
and attracted interest from several firms. An offer from Farmers National Banc Corp. (Farmers) was ignored
after Farmers stated that it would not retain the First Nile board if its bid were accepted. Cortland Bankcorp
(Cortland) and First Place Financial Corp. (First Place) also made offers and submitted due diligence
requests. William Stephens (defendant), First Nile’s chairman and CEO, did not inform the rest of the board
of the due diligence requests. This caused Cortland to drop out of the bidding and First Place to reduce its
bid. Ultimately the board rejected First Place’s offer and decided to pursue a privatization plan instead of a
sale. Because the privatization plan involved changes to shareholder rights, it required shareholder
approval. The board of First Nile submitted a proxy statement to the Securities and Exchange Commission
(SEC) which disclosed that the each of the directors had a conflict of interest with respect to the privatization
plan because, by virtue of their positions, they could structure the plan to their own benefit. The
shareholders nonetheless voted in favor of the privatization plan. A group of dissident shareholders
(plaintiffs) brought a derivative action against several First Nile directors (defendants), including Stephens.
The complaint alleged that the directors breached their fiduciary duty by rejecting a valuable opportunity to
sell the company. Three directors, constituting a majority that opposed the sale, were alleged to have had
improper personal motives in rejecting First Place’s offer. All wished to preserve their positions. Director
Kramer owned a heating and cooling company which did work for First Nile, which would presumably be
lost in the event of a sale. Director Zuzolo was a principal in a law firm which likewise did work for First Nile.
The trial court granted the directors’ motion to dismiss the complaint, on the grounds that (1) the business
judgment rule shielded the directors from duty of care claims, and (2) the shareholder vote ratified the
board’s actions and also served to shield the directors. The dissident shareholders appealed the dismissal.
Issue
Must a complaint allege specific facts to adequately state a claim that directors acted disloyally in rejecting
a merger offer?
Holding and Reasoning (Jacobs, J.)
Yes. Ordinarily, the business judgment rule shields directors from liability for decisions involving the
potential sale of the corporation. However, the business judgment rule does not apply if either (1) the board
did not act in the good-faith pursuit of a legitimate corporate interest, or (2) the board did not act advisedly.
In an effort to meet the first prong, a plaintiff could always allege the improper motive of self-entrenchment
in cases where a board rejects a purchase offer. Therefore, plaintiffs must allege facts beyond a selfentrenchment motive to state a claim that the board did not act in pursuit of a legitimate corporate interest.
The plaintiffs in this case have done so. With regard to Director Stephens, they specifically point to his
failure to disclose the due diligence requests to the rest of the board, in addition to his desire to keep his
positions as chairman and CEO. Directors Kramer and Zuzolo are alleged to be protecting specific interests
beyond their own positions: Kramer’s heating and cooling business and Zuzolo’s law firm both provided
services to First Nile. These three directors constituted a majority of the board. The board therefore is not
entitled to the protection of the business judgment rule, and the trial court’s dismissal on that ground was
inappropriate. The trial court was also incorrect in holding that the shareholder vote ratified the board’s
decision to reject the purchase offer. Despite some court rulings suggesting otherwise, shareholder votes
only serve to ratify board actions in cases where a shareholder vote was not otherwise required. Here, the
shareholder vote was necessary for the board to proceed with the privatization plan. The vote cannot also
serve to cleanse the board’s prior decision to reject First Place’s offer. The trial court’s decision to dismiss
the complaint is therefore reversed.
In re Pure Resources, Inc. Shareholders Litigation
Delaware Court of Chancery
808 A.2d 421 (Del. Ch. 2002)
Rule of Law
A tender offer made by a controlling shareholder is not subject to the entire fairness
standard if the offer is non-coercive and accompanied by full disclosure of all material
facts.
Facts
Unocal Corporation (Unocal) (defendant) owned 65.4 percent of Pure Resources, Inc. (Pure) stock. Pure's
management controlled between a quarter and a third of Pure stock. There were five Unocal-designated
directors, two management-designated directors, and one jointly designated director. Unocal had a
business opportunities agreement, which provided that as long as Unocal owned 35 percent of Pure, Pure's
business activities would be limited and Unocal could compete with Pure. Pure's management had put
agreements with Unocal that provided the managers better incentives than common shareholders when
tendering shares. Unocal had access to Pure's non-public information. Unocal made an offer to buy the
rest of Pure's stock. The offer contained a non-waivable majority-of-the-minority provision, a waivable
condition that the tender give it 90 percent ownership, and a planned second-step, short-form merger. The
"minority" included shareholders who were affiliated with Unocal and Pure's management. An independent
special committee was formed to consider the offer. The committee retained its own advisors and
negotiated the offer price with Unocal. The special committee did not deal with Unocal as aggressively as
it would have with a third-party bidder, such as by adopting a poison pill. Unocal refused to raise its price,
and the special committee voted against the offer. Pure's minority shareholders (plaintiffs) sought a
preliminary injunction. The plaintiffs alleged that the offer was inadequate and should be subject to the
entire fairness standard. The defendants argued that the offer should not be subject to the entire fairness
standard, but the Solomon standard, which they had met. Solomon v. Pathe Communications Corp., 672
A.2d 35 (Del. 2010).
Issue
Is a tender offer made by a controlling shareholder subject to the entire fairness standard if the offer is noncoercive and accompanied by full disclosure of all material facts?
Holding and Reasoning (Strine, J.)
No. A tender offer made by a controlling shareholder is not subject to the entire fairness standard if the offer
is non-coercive and accompanied by full disclosure of all material facts. Delaware law treats mergers and
tender offers by controlling shareholders differently, although it is uncertain that tender offers provide more
protections for minority shareholders than mergers. Courts apply the entire fairness standard if a target
board negotiates a merger with a controlling shareholder. Courts apply the Solomon standard if a controlling
shareholder seeks to buy out the company through a tender offer. Under Solomon, there will be no judicial
intervention, provided the offer is fully disclosed and non-coercive. Coercion is found if shareholders are
forced to tender at an inadequate price to avoid an even lower price later. A tender offer by a controlling
shareholder is non-coercive if: (1) it is subject to a non-waivable, majority-of-the-minority tender condition,
(2) the controlling shareholder promises to do a short-form merger at the same price if he obtains 90 percent
ownership, and (3) the controlling shareholder has made no retributive threats. Here, the offer is subject to
the Solomon standard rather than the entire fairness standard. The offer is coercive, because its majorityof-the-minority provision includes Unocal-affiliated shareholders and Pure's management in the "minority."
However, all the other the non-coercive requirements are met. Unocal promised to do a short-form merger,
and it has made no retributive threats. Therefore, the offer is preliminarily enjoined for lack of disclosure of
material information. Unocal can cure the problem by amending the offer to condition it on approval of a
majority of Pure's unaffiliated shareholders.
In re Pure Resources, Inc. Shareholders Litigation
Delaware Court of Chancery
808 A.2d 421 (Del. Ch. 2002)
Rule of Law
A tender offer made by a controlling shareholder is not subject to the entire fairness
standard if the offer is non-coercive and accompanied by full disclosure of all material
facts.
Facts
Unocal Corporation (Unocal) (defendant) owned 65.4 percent of Pure Resources, Inc. (Pure) stock. Pure's
management controlled between a quarter and a third of Pure stock. There were five Unocal-designated
directors, two management-designated directors, and one jointly designated director. Unocal had a
business opportunities agreement, which provided that as long as Unocal owned 35 percent of Pure, Pure's
business activities would be limited and Unocal could compete with Pure. Pure's management had put
agreements with Unocal that provided the managers better incentives than common shareholders when
tendering shares. Unocal had access to Pure's non-public information. Unocal made an offer to buy the
rest of Pure's stock. The offer contained a non-waivable majority-of-the-minority provision, a waivable
condition that the tender give it 90 percent ownership, and a planned second-step, short-form merger. The
"minority" included shareholders who were affiliated with Unocal and Pure's management. An independent
special committee was formed to consider the offer. The committee retained its own advisors and
negotiated the offer price with Unocal. The special committee did not deal with Unocal as aggressively as
it would have with a third-party bidder, such as by adopting a poison pill. Unocal refused to raise its price,
and the special committee voted against the offer. Pure's minority shareholders (plaintiffs) sought a
preliminary injunction. The plaintiffs alleged that the offer was inadequate and should be subject to the
entire fairness standard. The defendants argued that the offer should not be subject to the entire fairness
standard, but the Solomon standard, which they had met. Solomon v. Pathe Communications Corp., 672
A.2d 35 (Del. 2010).
Issue
Is a tender offer made by a controlling shareholder subject to the entire fairness standard if the offer is noncoercive and accompanied by full disclosure of all material facts?
Holding and Reasoning (Strine, J.)
No. A tender offer made by a controlling shareholder is not subject to the entire fairness standard if the offer
is non-coercive and accompanied by full disclosure of all material facts. Delaware law treats mergers and
tender offers by controlling shareholders differently, although it is uncertain that tender offers provide more
protections for minority shareholders than mergers. Courts apply the entire fairness standard if a target
board negotiates a merger with a controlling shareholder. Courts apply the Solomon standard if a controlling
shareholder seeks to buy out the company through a tender offer. Under Solomon, there will be no judicial
intervention, provided the offer is fully disclosed and non-coercive. Coercion is found if shareholders are
forced to tender at an inadequate price to avoid an even lower price later. A tender offer by a controlling
shareholder is non-coercive if: (1) it is subject to a non-waivable, majority-of-the-minority tender condition,
(2) the controlling shareholder promises to do a short-form merger at the same price if he obtains 90 percent
ownership, and (3) the controlling shareholder has made no retributive threats. Here, the offer is subject to
the Solomon standard rather than the entire fairness standard. The offer is coercive, because its majorityof-the-minority provision includes Unocal-affiliated shareholders and Pure's management in the "minority."
However, all the other the non-coercive requirements are met. Unocal promised to do a short-form merger,
and it has made no retributive threats. Therefore, the offer is preliminarily enjoined for lack of disclosure of
material information. Unocal can cure the problem by amending the offer to condition it on approval of a
majority of Pure's unaffiliated shareholders.
Glassman v. Unocal Exploration Corp.
Delaware Supreme Court
777 A.2d 242 (Del. 2001)
Rule of Law
The parent corporation in a short form merger does not have to establish entire fairness.
Facts
Unocal Corporation (UC) owned 96 percent of Unocal Exploration Corporation (UXC) (defendants) and
decided to eliminate the UXC minority to save the company money. The Delaware statute on short form
mergers provided the following: “In any case in which at least 90 percent of the outstanding shares of each
class of the stock of a corporation is owned by another corporation, the corporation having such stock
ownership may merge the other corporation into itself by executing, acknowledging and filing . . . a certificate
of such ownership and merger setting forth a copy of the resolution of its board of directors to so merge
and the date of the adoption.” Glassman, et al. (plaintiffs) filed a class action lawsuit, asserting that UC and
its directors breached their fiduciary duty of entire fairness to UXC’s stockholders. The Delaware Court of
Chancery found in favor of the defendants. The plaintiffs appealed.
Issue
Does the parent corporation in a short form merger have to establish entire fairness?
Holding and Reasoning (Berger, J.)
No. The short form merger statute enacted by the Delaware legislature does not include any requirement
for fair dealing, thus removing from short form mergers one of the main components of the entire fairness
standard. By doing this, the legislature made clear that the parent corporation in a short form merger does
not have to establish entire fairness. Accordingly, in this case, the defendants were not required to establish
entire fairness when they decided to merge UXC into UC. The defendants did everything that was required
of them under the Delaware short form merger statute, and in fact did more than was necessary. The only
remaining avenue for the plaintiffs—absent fraud or illegality—is appraisal. The Delaware Court of
Chancery is affirmed.
Solomon v. Pathe Communications Corp.
Supreme Court of Delaware
672 A.2d 35 (Del. 1996)
Rule of Law
A tender offer is voluntary if there is no (1) coercion or (2) materially false or misleading
disclosure made to shareholders in connection with the offer.
Facts
Credit Lyonnais Banque Nederland NV (CLBN) controlled 89.5 percent of the voting stock of Pathe
Communications Corp. (Pathe) (defendant). CLBN made a tender offer for the remaining shares. Pathe
created a special committee to review the offer. The committee supported the offer. John Solomon
(plaintiff), a minority Pathe shareholder, brought suit in the Delaware Court of Chancery, claiming that the
Pathe directors improperly supported the tender offer. Solomon claimed that the offer price was inadequate
and that the offer was coercive. Pathe filed a motion to dismiss for failure to state a claim on which relief
can be granted. The trial court granted the motion. Solomon appealed.
Issue
Is a tender offer voluntary if there is no (1) coercion or (2) materially false or misleading disclosure made to
shareholders in connection with the offer?
Holding and Reasoning (Hartnett, J.)
Yes. A tender offer is voluntary if there is no coercion or materially false or misleading disclosure made to
shareholders in connection with the offer. There is no fundamental right of a shareholder to obtain a
particular desired price in a voluntary tender offer. In the present case, Solomon merely pleads that the
tender offer price was inadequate. Solomon makes only conclusory statements with regard to coercion. A
court may not, on a motion to dismiss, infer facts to complete an adequate pleading for the plaintiff.
Solomon’s complaint does not state a claim upon which relief can be granted. The trial court’s dismissal of
the complaint is affirmed.
In re Volcano Corp. Stockholder Litigation
Delaware Court of Chancery
143 A.3d 727 (2016)
Rule of Law
Upon the acceptance of a first-step tender offer by fully informed, disinterested, and
uncoerced stockholders representing a majority of a corporation’s outstanding stock, the
business judgment rule irrebuttably applies to the transaction.
Facts
Volcano Corporation (Volcano) and Koninklijke Philips, N.V. (Philips) agreed to a two-step merger. Philips
made a tender offer to Volcano stockholders, and 89.1 percent of Volcano’s outstanding shares were
tendered. Volcano and Philips completed the merger. Former stockholders of Volcano (plaintiffs) brought
suit against Volcano’s board of directors (defendants), alleging that the board breached its fiduciary duty in
approving the merger. The plaintiffs sought to enjoin the merger. The board filed a motion to dismiss.
Issue
Upon the acceptance of a first-step tender offer by fully informed, disinterested, and uncoerced stockholders
representing a majority of a corporation’s outstanding stock, does the business judgment rule irrebuttably
applies to the transaction?
Holding and Reasoning (Montgomery-Reeves, J.)
Yes. Upon the acceptance of a first-step tender offer by fully informed, disinterested, and uncoerced
stockholders representing a majority of a corporation’s outstanding stock, the business judgment rule
irrebuttably applies to the transaction. This is true even though the tender offer is statutorily required for the
merger’s approval. In so holding, the court expands to stockholder acceptance of a tender offer the
cleansing effect of a stockholder vote approving a merger. Stockholder acceptance of a tender offer is
sufficiently similar to a stockholder merger approval to warrant this extension. The policy reasons behind
applying the business judgment rule to a merger approved by a stockholder vote apply equally to
stockholder acceptance of a tender offer. Each require approval, in some form, of a majority of the
company’s outstanding stock. Further, a board’s role in a first-step tender offer is similar to a board’s role
in a merger approved by a stockholder vote because, in each case, the board must negotiate, agree to,
and advise on the terms of the transaction. Further, a first-step tender offer is no more coercive than a
stockholder vote, because there are certain protections for stockholders in the two-step merger statute that
eliminate the risk of undue coercion. In this case, the business judgment rule applies to the Volcano board’s
decision to consummate the merger with Philips. The plaintiffs did not present sufficient evidence to support
a conclusion that the Volcano stockholders who accepted the tender offer were not fully informed,
disinterested, or uncoerced. Accordingly, as the accepting stockholders represented a majority of Volcano’s
outstanding stock, the business judgment rule irrebuttably applies to the board’s approval of the merger.
The board’s motion to dismiss is granted.
Air Products and Chemicals, Inc. v. Airgas, Inc.
Delaware Court of Chancery
16 A.3d 48 (2011)
Rule of Law
The board of directors has the ultimate power to defeat an inadequate hostile tender offer.
Facts
Air Products and Chemicals, Inc. (Air Products) (plaintiff) launched a $60 per share, all-cash, structurally
non-coercive hostile tender offer to acquire Airgas, Inc. (Airgas) (defendant). Airgas had a poison pill (i.e.,
a corporate strategy to defend against hostile takeovers), which its directors (defendants) refused to
remove. Airgas had a classified board of nine directors. With one class of directors up for election each
year, it took two shareholder meetings to win a board majority. Air Products successfully nominated a class
of three independent directors to the Airgas board. The Air Products nominees became supporters of the
poison pill. Air Products raised its bid several times and made its final offer of $70 per share. The Airgas
board, with the opinions of its independent financial advisors, again rejected the offer as inadequate.
Evidence showed that a majority of the Airgas shareholders were willing to tender their shares, regardless
of whether the price was adequate or not. Air Products asked the chancery court to remove the poison pill.
If the poison pill remained in place, Air Products could continue pursuing Airgas in two ways: (1) call a
special meeting and remove the entire board without cause by a 67 percent vote, as provided in the charter,
and (2) wait another eight months to nominate another class of directors at the next annual meeting.
Issue
Does the board of directors have the ultimate power to defeat an inadequate hostile tender offer?
Holding and Reasoning (Chandler, J.)
Yes. Under Delaware law, the board of directors has the ultimate power to defeat an inadequate hostile
tender offer. A board's decision not to remove a poison pill when facing a hostile tender offer is reviewed
under Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946 (Del. 1985). The first prong of Unocal requires
the board to show its good faith, a reasonable investigation, and a threat to the corporation. There are three
types of threats: (1) structural coercion (different treatments of non-tendering shareholders may change
shareholders' tender decisions), (2) opportunity loss (shareholders may lose the opportunity to choose a
better offer proposed by management), and (3) substantive coercion (shareholders may accept an
inadequate offer due to misvaluation). The second prong ofUnocal requires the defensive measure to be
proportionate in response to the threat brought by the tender offer. The directors must show that their
response is not preclusive or coercive and falls within "a range of reasonableness." The reasonableness of
the board's response is determined based on the context of the specific threat involved. A response is
coercive if it is meant to "cram down" a management-sponsored alternative. A response is preclusive if it
makes it "realistically unattainable" for a bidder to win a proxy context and gain control of the target board.
"Realistically attainable" must be something more than a theoretical possibility of overcoming a poison pill.
In this case, although Air Products's offer is not structurally coercive and poses no threat of opportunity
loss, it involves substantive coercion. Evidence shows that a majority of the shareholders were willing to
tender their shares even though the price might be inadequate. Further, the Airgas board's defense was
not coercive, because there is no management-sponsored alternative. Neither is the defense preclusive.
Although Air Products's removal of the entire board without cause at a special meeting is realistically
unattainable, it is realistically attainable for Air Products to nominate another slate of directors at the next
annual meeting. Considering the circumstances, the response falls within "a range of reasonableness."
Therefore, the Airgas board's decision not to remove the poison pill satisfies Unocal. The court rules in
favor of the defendants.
In re eBay, Inc. Shareholders Litigation
Delaware Court of Chancery
2004 WL 253521 (Del. Ch.)
Rule of Law
Directors of a corporation are not permitted to personally accept private stock allocations
in an initial public offering of the corporation’s stock when the corporation itself could have
purchased said stock.
Facts
Goldman Sachs was hired to underwrite the initial public offering of eBay stock. In doing so, Goldman Sachs
allocated shares of the initial eBay stock to eBay “insiders,” including members of eBay’s board of directors.
Shareholders of eBay (plaintiffs) brought suit against the directors (defendants), alleging that the directors’
acceptance of the private allocations violated their fiduciary duty to eBay by usurping eBay’s corporate
opportunity in that eBay could and would have purchased the stock that was allocated. It is undisputed that
eBay could afford the stock financially, that it was in the business of investing in securities, and that eBay
was never given an opportunity to turn down the allocations. The directors filed a motion to dismiss the
claim.
Issue
Are directors of a corporation personally permitted to accept private stock allocations in an initial public
offering of the corporation’s stock when the corporation itself could have purchased said stock?
Holding and Reasoning (Memorandum)
No. Directors of a corporation are not permitted to personally accept private stock allocations in an initial
public offering of the corporation’s stock when the corporation itself could have purchased said stock. There
was a clear conflict of interest between the self-interest of the defendants in acquiring the valuable eBay
stock and the interest of eBay, Inc., which could have acquired the stock for itself. The acceptance by the
eBay directors in this case is a violation of the corporate opportunity doctrine. eBay could afford the stock
financially, eBay was in the business of investing in securities, and eBay would have surely been interested
in purchasing the stock had it been given the opportunity. Further, even if it is assumed in this case that the
allocations in question do not constitute a “corporate opportunity” under the doctrine, it might still be a
breach of the directors’ fiduciary duty of loyalty as it is likely that Goldman Sachs intended the allocations
to be bribes designed to induce the eBay directors to hire Goldman Sachs for future business. As a result
of the foregoing, the defendants’ motion to dismiss is denied.
Turner Broadcasting System, Inc. v. McDavid
Georgia Court of Appeals
693 S.E.2d 873 (2010)
Rule of Law
Damages for breaching a contract to sell an asset are usually determined by the
difference between the contract price and the fair market value of the assets at the time
the contract was breached.
Facts
Turner Broadcasting System, Inc. (Turner) (defendant) owned the Atlanta Hawks and Atlanta Thrashers
sports teams. Turner also owned the operating rights to Philips Arena. In October 2002, Turner announce
that it was interested in selling these assets. David McDavid (plaintiff) expressed interest in purchasing the
assets, and the parties entered into a Letter of Intent. The parties negotiated the terms of the sale.
Eventually, the parties agreed to the primary terms, and Turner’s CEO stated that a deal had been reached.
The parties then turned to negotiating the written documents to memorialize the transaction. After a few
months of negotiations, Turner suggested a simplified restructuring of the deal. However, Turner assured
McDavid that the restructuring did not change the primary terms of the transaction and that the deal was
done. McDavid agreed to the restructuring, and Turner’s board of directors approved the restructured deal.
However, two members of Turner’s board of directors opposed the deal based on concerns that the assets
were undervalued. Subsequently, another corporation, Atlanta Spirit, LLC (Spirit), approached Turner about
purchasing the assets. Turner began to negotiate with Spirit while continuing to exchange drafts of
documents with McDavid. On September 12, 2003, Turner and McDavid agreed on the last remaining items
in the written agreement, and Turner again announced that the deal was done. Turner and McDavid agreed
to meet a few days later to sign the documents and hold a press conference. However, Turner signed an
agreement for the sale of the assets to Spirit on the same day. A few days later, Turner informed McDavid
that the deal was off. McDavid sued Turner for breach of the oral agreement. The parties submitted
competing evidence regarding the valuation of the assets. McDavid’s experts testified that the value of the
assets was between $647 million and $656 million. The jury found in favor of McDavid and awarded him
$281 million in damages. Turner appealed to the Georgia Court of Appeals.
Issue
Are damages for breaching a contract to sell an asset usually determined by the difference between the
contract price and the fair market value of the assets at the time the contract was breached?
Holding and Reasoning (Bernes, J.)
Yes. Damages for breaching a contract to sell an asset are usually determined by the difference between
the contract price and the fair market value of the assets at the time the contract was breached. A jury
award will only be reversed if, in light of the evidence, the award is so flagrantly excessive or inadequate
as to create a clear implication of bias, prejudice, or gross mistake on the part of the jurors. In this case,
the parties submitted competing expert testimony regarding the valuation of the assets. McDavid’s experts
provided testimony that the value of the assets was between $647 million and $656 million. Those values
would generate damages between $283 million and $335 million. Additionally, some members of Turner’s
board of directors thought that the sales price undervalued the assets. The jury award was thus supported
by the evidence presented at trial. The jury award was large in comparison to the total contract price, but
the question of damages was squarely an issue for the jury to determine. Accordingly, the judgment of the
trial court is affirmed.
Securities and Exchange Commission v. Carter Hawley Hale
Stores, Inc.
United States Court of Appeals for the Ninth Circuit
760 F.2d 945 (1985)
Rule of Law
A tender offer’s existence can be determined by the Wellman test: widespread solicitation
of public shareholders; solicitation for a substantial percentage of a company’s stock; the
offer for the shares is at a premium, given the market price for the shares; the offer’s
terms are firm; the offer is contingent on a fixed number of shares; the offer is only open
for a limited time; offerees are pressured into selling their stock; and the announcement
of the offer is accompanied by a large accumulation of shares.
Facts
In 1984, The Limited, a corporation, commenced a tender offer for Carter Hawley Hale Stores, Inc.
(defendant), in an attempt to obtain more than 50 percent of Carter Hawley. To prevent this from happening,
Carter Hawley began to buy back its stock at market price. The Securities and Exchange Commission
(plaintiff) then brought an action to obtain an injunction to prevent Carter Hawley from engaging in the buy
back, alleging that it constituted a tender offer, for which Carter Hawley did not register. The district court
ruled in favor of Carter Hawley. The SEC then appealed to the Ninth Circuit Court of Appeals.
Issue
Whether the Wellman test is appropriate for determining whether an offer constitutes a tender offer.
Holding and Reasoning (Skopil, J.)
Yes. Carter Hawley’s actions did not constitute a tender offer because several key factors in determining
the existence of a tender offer were not present. A tender offer’s existence can be determined by the
Wellman test: widespread solicitation of public shareholders; solicitation for a substantial percentage of a
company’s stock; the offer for the shares is at a premium, given the market price for the shares; the offer’s
terms are firm; the offer is contingent on a fixed number of shares; the offer is only open for a limited time;
offerees are pressured into selling their stock; and the announcement of the offer is accompanied by a large
accumulation of shares. In this case, Carter Hawley did not have firm terms for its offer, it did not offer a
premium over the market price for the shares in question, there was no timeframe in which the offer would
remain open, and there was no pressure on shareholders placed by Carter Hawley. Since these factors
were not present, Carter Hawley’s offer cannot be considered a tender offer. Thus, the judgment of the
court below is affirmed.
Hanson Trust PLC v. SCM Corporation
United States Court of Appeals for the Second Circuit
774 F.2d 47 (1985)
Rule of Law
A solicitation for the sale of stock will not be considered a tender offer unless there is a
substantial risk that solicitees will lack sufficient information to make an investing decision
if the rules governing a tender offer are not followed.
Facts
In 1985, Hanson Trust PLC (defendant) registered a tender offer for SCM Corporation (plaintiff) with the
Securities and Exchange. The board of SCM was against the tender offer, and as a result, negotiated with
Merrill Lynch to purchase the SCM shares that Hanson was attempting to purchase. Merrill Lynch agreed
to purchase the SCM stock at a price higher than that offered by Hanson. Hanson realized that its tender
offer was going to fail since Merrill Lynch was offering a higher price for SCM stock, and thus, withdrew its
tender offer. After withdrawing the tender offer, Hanson negotiated with five private SCM shareholders for
the purchase of their shares. SCM then brought an action to stop Hanson from utilizing this purchasing
arrangement, arguing that it still constituted a tender offer. The district court ruled in favor of SCM. Hanson
appealed to the Second Circuit Court of Appeals.
Issue
Will a solicitation for the sale of stock be considered a tender offer if there is a substantial risk that solicitees
will lack sufficient information to make an investing decision if the rules governing a tender offer are not
followed?
Holding and Reasoning (Mansfield, J.)
Yes. Hanson’s offer to five private investors after withdrawal of its tender offer did not constitute another
tender offer because the investors involved were sophisticated and had sufficient information available to
make an investing decision. A solicitation for the sale of stock will not be considered a tender offer unless
there is a substantial risk that solicitees will lack sufficient information to make an investing decision if the
rules governing a tender offer are not followed. In this case, the investors involved in the private sale of
SCM stock were all sophisticated investors. Therefore, they were aware of the information that must be
available in order to make sound investing decisions. Thus, these particular investors were not in need of
the protections offered by the federal securities laws requiring registration of a tender offer. Since the rules
governing a tender offer were not necessary in this case, the transactions in question are not considered a
tender offer. The judgment of the court below is reversed and remanded for judgment consistent with this
opinion.
Schreiber v. Burlington Northern, Inc.
United States Supreme Court
472 U.S. 1 (1985)
Rule of Law
A violation of § 14(e) of the Securities and Exchange Act of 1934 will only be found if a
party made a misrepresentation or nondisclosure in connection with a tender offer.
Facts
Burlington Northern, Inc. (Burlington) (defendant) attempted a hostile takeover of El Paso Gas Co. (El Paso)
(defendant) by a tender offer for 25.1 million shares at $24. El Paso’s management supported the offer
once shareholders showed support. Burlington rescinded the offer, and then offered to buy over four million
shares from El Paso and 21 million from shareholders at $24 per share. The new offer acknowledged
“golden-parachute” agreements with El Paso managers. Forty million shareholders accepted, resulting in
major proration of the per share price. Barbara Schreiber (plaintiff) sued Burlington, El Paso, and El Paso’s
board in district court on behalf of all similarly positioned stockholders. Schreiber claimed that the
defendants violated § 14(e) of the Securities and Exchange Act of 1934 (SEA) by their “manipulative”
behavior surrounding the two tender offers and failure to disclose the “golden parachutes.” Schreiber’s
action was dismissed for failure to state a claim, and the United States Court of Appeals for the Third Circuit
upheld the dismissal. Schreiber appealed to the United States Supreme Court.
Issue
Will the conduct of a tender offeror be held to violate SEA § 14(e) if there was no misrepresentation or
nondisclosure?
Holding and Reasoning (Burger, C.J.)
No. SEA § 14(e) prohibits “fraudulent, deceptive or manipulative acts or practices, in connection with any
tender offer.” The term “manipulative” has a special meaning in the context of securities law. Under Ernst
& Ernst v. Hochfelder, 425 U.S. 185 (1976), the word suggests “intentional or willful conduct designed to
deceive or defraud.” The legislative history of the Williams Act indicates that Congress intended to require
full disclosure so that shareholders could make informed decisions. Congress wanted to ensure “a neutral
setting” for offerors to make proposals. The few congressional reports that address § 14(e) provide
evidence that the goal of the provision was to ensure accurate disclosures of all material information. There
is no indication that Congress meant the antifraud provision to apply to anything other than disclosures or
intended for judges to weigh the merits of a proposal. That type of judicial oversight would create uncertainty
and be contrary to the will of the legislature. Conduct is not “manipulative” and in violation of § 14(e) unless
there has been a misrepresentation or nondisclosure. In this case, Schreiber argued that the defendants
behaved in a manipulative manner with respect to the tender offers, even though the defendants were
transparent about their activities. Schreiber was harmed by the rescission of the initial tender offer, and the
only misrepresentations or nondisclosures that occurred took place after that. Thus, there is no causation
for the harm. The district court’s dismissal is affirmed.
Kahn v. M & F Worldwide Corp.
Delaware Supreme Court
88 A.3d 635 (Del. 2014)
Rule of Law
The business judgment rule is the appropriate standard of review for a merger between
a controlling stockholder and its subsidiary that is conditioned upon: (1) the approval of
an independent, adequately-empowered special committee that fulfills its duty of care and
(2) the uncoerced, informed vote of a majority of the minority stockholders.
Facts
MacAndrews & Forbes Holdings, Inc. (M & F) (defendant) was a 43 percent stockholder in M & F Worldwide
Corp. (MFW). M & F proposed to buy the remaining common stock of MFW to take the corporation private.
The transaction was subject to two stockholder-protective procedural conditions: (1) the approval of a
special committee to be appointed by the MFW board of directors, and (2) the approval of a majority vote
of MFW minority stockholders. The MFW board established the special committee, which approved the
transaction. The minority stockholders voted to approve the merger. Kahn, et al. (plaintiffs) brought suit,
arguing that even both protections combined are inadequate to protect minority stockholders, because
directors on the special committee may be inept or timid and MFW minority stockholders may be subject to
improper influence. The plaintiffs claimed that the entire fairness standard should apply to the merger. In
addition, the plaintiffs alleged that the special committee was not independent because of various
relationships between members of the special committee and M & F. The Delaware Court of Chancery
ruled in favor of M & F. The plaintiffs appealed.
Issue
Is the business judgment rule the appropriate standard of review for a merger between a controlling
stockholder and its subsidiary that is conditioned upon (1) the approval of an independent, special
committee that fulfills its duty of care and (2) the informed vote of a majority of the minority stockholders?
Holding and Reasoning
Yes. The standard of review for a merger between a controlling stockholder and its subsidiary that is from
the outset conditioned upon: (1) the approval of an independent, adequately-empowered special committee
that fulfills its duty of care or (2) the uncoerced, informed vote of a majority of the minority stockholders is
entire fairness. However, when a merger between a controlling stockholder and its subsidiary is conditioned
upon both protections, the business judgment rule applies. There, the entire fairness standard is not
necessary to adequately protect minority stockholders’ interests, because the two procedural protections
offer the merger “the shareholder-protective characteristics of third-party, arm’s-length mergers, which are
reviewed under the business judgment standard.” This standard will only apply, however, if each
characteristic of the special committee and stockholder vote is met. The special committee must (1) be
independent, (2) be empowered to choose its own financial and legal advisors, and (3) exercise its duty of
care. The minority stockholder vote must be: (1) informed and (2) uncoerced. In the present case, the court
determines that the business judgment rule is the proper standard on which to review the merger, because
each of the prerequisites involving the two stockholder protections is met. First, the special committee was
independent. While certain members of the committee may have had social or business relationships with
M & F, such bare allegations are not enough to rebut the presumption of independence. To establish a lack
of independence, a plaintiff must show that a director is beholden to the acquiring interests. The plaintiffs
in this case did not make such a showing. Additionally, there is no evidence that the special committee was
not empowered or did not meet its duty of care. Similarly, there is no evidence that the MFW stockholder
vote was coerced or uninformed. As a result, the business judgment rule is the proper standard of review
for the merger. The judgment of the Delaware Court of Chancery is affirmed.
CTS Corporation v. Dynamics Corporation of America
United States Supreme Court
481 U.S. 69 (1987)
Rule of Law
A state statute requiring a majority vote of all disinterested shareholders in a corporation
to give voting rights to an entity that acquires “control shares” in the corporation does not
interfere with a federal statute designed to protect the interests of minority shareholders.
Facts
Indiana passed a law (Indiana Act) requiring a majority vote of all disinterested shareholders in a corporation
to give voting rights to an entity that acquires “control shares” in the corporation—an amount of shares that
would bring the entity’s amount of shares above 20, 33 1/3, or 50 percent. This gave the minority
shareholders a chance to consider the fairness of the tender offer collectively to make a well-informed
decision in their best interests. Under the Indiana Act, the shareholders must vote on whether to grant the
voting rights to the acquirer within 50 days of the acquisition. Dynamics Corporation of America (Dynamics)
(plaintiff) owned 9.6 percent of the stock of CTS Corporation (CTS) (defendant) when it announced a tender
offer for another million shares of CTS, an amount that would have brought Dynamics’s ownership interest
above the 20 percent threshold under the Indiana Act. Dynamics brought suit alleging that the Indiana Act
was preempted by the federal Williams Act, and that the Indiana Act violated the Commerce Clause. The
Williams Act was passed to regulate hostile tender offers and protect minority shareholders by putting them
“on an equal footing with the takeover bidder.” The Williams Act required (1) the offeror to disclose certain
information about the offer and the offeror’s business, and (2) certain procedural rules, including a
requirement that the offer remain open for at least 20 business days. Dynamics argued, among other things,
that the 50-day allowance under the Indiana Act conflicted with this 20-day period. The district court ruled
that the Williams Act preempted the Indiana Act and that the Indiana Act violated the Commerce Clause.
The court of appeals affirmed. CTS appealed.
Issue
Does a state statute requiring a majority vote of all disinterested shareholders in a corporation to give voting
rights to an entity that acquires “control shares” in the corporation interfere with a federal statute designed
to protect the interests of minority shareholders?
Holding and Reasoning (Powell, J.)
No. A state law will be preempted when simultaneous compliance with both the federal and state laws is
impossible or when the state law interferes with the objectives of the federal law. Here, simultaneous
compliance with the Indiana and Williams Acts is possible, so for Dynamics to prevail, it must be found that
the Indiana Act interferes with the purpose of the Williams Act. The court finds that it does not. The Indiana
Act is designed to protect the interests of minority shareholders, which is a basic purpose of the Williams
Act. By allowing minority shareholders to vote as a group on corporate control issues in this situation, the
Indiana Act protects them from the oppressive or coercive aspects of hostile tender offers. This in no way
conflicts with, but rather furthers the purposes of the Williams Act. In addition, Dynamics’s argument on the
timing of the voting rights vote is immaterial. Although the Indiana Act allows for a 50-day window for the
minority shareholders’ vote, there is nothing precluding an offeror from purchasing its shares on the
condition that its voting rights are approved. The conflict between the 20- and 50-day periods is “illusory”
and does not warrant preemption. Additionally, the court determines that the Indiana Act does not violate
the Commerce Clause as the Act has the same effect on tender offers coming from outside of Indiana as it
does on offers by residents of Indiana. Furthermore, the Act merely regulates entities that are a product of
state laws as states have the right to create corporations and define the rights by which they are acquired
and transferred. This regulation does not improperly intrude upon interstate commerce. As a result of the
foregoing, the Indiana Act is not preempted by the Williams Act, or in violation of the Commerce Clause.
The court of appeals is reversed.
Unitrin, Inc. v. Am. Gen. Corp. (In Re Unitrin, Inc.)
651 A.2d 1361 (Del. 1995)
RULE:
Under the Unocal standard, the business judgment rule will be applied in the context of a hostile battle
for control of a Delaware corporation where board action is taken to the exclusion of, or in limitation
upon, a valid stockholder vote. But, the board must carry its own initial two-part burden: first, a
reasonableness test, which is satisfied by a demonstration that the board of directors had reasonable
grounds for believing that a danger to corporate policy and effectiveness existed, and second, a
proportionality test, which is satisfied by a demonstration that the board of directors' defensive
response was reasonable in relation to the threat posed.
FACTS:
American General, which had publicly announced a proposal to merge with Unitrin for $ 2.6 billion at $ 503/8 per share, and certain Unitrin shareholder plaintiffs, filed suit in the Court of Chancery to enjoin Unitrin
from repurchasing up to 10 million shares of its own stock (the “Repurchase Program"). On August 26,
1994, the Court of Chancery temporarily restrained Unitrin from making any further repurchases. After
expedited discovery, briefing and argument, the Court of Chancery preliminarily enjoined Unitrin from
making further repurchases on the ground that the Repurchase Program was a disproportionate response
to the threat posed by American General's inadequate all cash for all shares offer.
ISSUE:
Did the chancery court correctly determine that the Unocal standard of enhanced judicial scrutiny be applied
to the defensive actions of the defendants?
ANSWER:
Yes.
CONCLUSION:
The court held that the chancery court correctly determined that the Unocal standard of enhanced judicial
scrutiny applied to the defensive actions of defendants in establishing the poison pill and implementing the
repurchase program. The court determined, however, that the chancery court incorrectly determined that
the repurchase program was a disproportionate defensive response and incorrectly applied an erroneous
legal standard of "necessity" to the repurchase program as a defensive response. As such, the Court
remanded the case for the chancery court to apply the appropriate standard.
Quickturn Design Systems. v. Shapiro
PROCEDURAL POSTURE: Appellant corporation challenged a ruling by the Court of Chancery, New Castle
County (Delaware), favoring appellee hostile bidder, and which declared appellant's amended rights
plan invalid, which plan included a delayed redemptive provision. Appellant contended that the
provision was proper.
OVERVIEW: Appellee hostile bidder sought a declaratory judgment that appellant corporation's adopted
takeover defenses were invalid, and sought an injunction requiring appellant's board to dismantle those
defenses. In response to a take-over bid initiated by appellee, appellant board had voted to amend its
by-laws pertaining to the requirements and time for holding any special meeting requested by
shareholders. The board also amended appellant's shareholder plan and replaced it with a deferred
redemption provision. The lower court found that the amended by-law was valid, but that the deferred
redemption provision was invalid. Appellant challenged the ruling.
HOLDING:
The court affirmed, holding that the delayed redemption provision was invalid under 8 Del. Laws §
141(a), because it prevented a newly elected board of directors from completely discharging its
fundamental management duties to the corporation and its stockholders for six months.
ANALYSIS:
The provision improperly and illegally restricted the board's exercise of fiduciary duties on matters of
management policy, including the ability to negotiate a possible sale of the corporation, which was a
matter of fundamental importance to shareholders.
OUTCOME: The court affirmed the lower court's ruling in favor of appellee hostile bidder, that the
deferred redemption provision enacted by appellant corporation was invalid. The court found that the
provision restricted appellant board's exercise of its fiduciary duties and curbed its statutory right to
manage and direct the affairs of the business.
In re Walt Disney Company Derivative Litigation (Disney II)
Delaware Court of Chancery
825 A.2d 275 (Del. Ch. 2003)
Rule of Law
Exculpatory provisions do not protect corporate directors from personal liability if the
directors consciously and intentionally disregard their responsibilities.
Facts
[Shareholders (plaintiffs) filed a derivative action against the old and the new Disney board of directors
(defendants), challenging the board's approval of the compensation package for the company's numbertwo executive, Michael Ovitz (defendant).] When the Disney compensation committee first met to discuss
Ovitz's compensation, the committee received a summary of the employment contract. The summary
indicated that Ovitz would receive stock options for 5,000,000 shares, which were worth around $80–$100
million. The committee failed to calculate the value of the options. The board approved the employment
contract based on the committee's recommendation. No director asked about the details of the options. The
board let Michael Eisner (defendant), Disney's chief executive officer and Ovitz's good friend, negotiate the
specific terms of the agreement. The contract also included a non-fault termination clause. Under it, Ovitz
would receive: (1) his salary for the remainder of the contract, (2) a $7.5 million bonus for each year
remaining on his contract, though no bonus was guaranteed if he was not terminated, and 3) a termination
payment of $10 million, which was the amount he would receive if he completed his full term without
receiving a new contract. Further, Ovitz's stock options would vest immediately. In other words, "the
contract was most valuable to Ovitz the sooner he left Disney." When Ovitz wanted out due to his
unsatisfying performance, Eisner granted him a non-fault termination and awarded him more than $38
million cash and $3 million stock options, which had a total present value of $140 million. Although the new
board played no role in Eisner's agreement to award Ovitz cash and stock options, the new board refused
to explore any alternatives or delay the transaction. Disney's charter had an exculpatory provision based
on Del. C. tit. 8 § 102(b)(7), which would protect individual directors from personal liability for breaches of
the duty of care. The defendants moved to dismiss based on the exculpatory provision.
Issue
Do exculpatory provisions protect corporate directors from personal liability if the directors consciously and
intentionally disregard their responsibilities?
Holding and Reasoning (Chandler, J.)
No. An exculpatory provision, based on Del. C. tit. 8 § 102(b)(7), protects individual directors from personal
liability for any breach of the duty of care. Exculpatory provisions do not apply if directors consciously and
intentionally disregard their responsibilities. Directors' failure to inform themselves adequately about a
material corporate matter is merely negligence or gross negligence. However, directors' adoption of a donot-care attitude about the risks of a material corporate decision is conscious and intentional disregard of
their responsibilities. Such conduct is not in good faith or the best interests of the company. Here, viewed
in the light most favorable to the plaintiffs, the complaint sufficiently stated a breach of the directors' duty to
act in good faith in the best interests of the corporation. The approval of Ovitz's compensation and handling
of Ovitz's non-fault termination were material corporate decisions. The directors knew that they did not have
adequate information and simply did not care whether the decision would cause injury to the corporation
and the shareholders. The alleged facts, if true, implicate more than negligence by the directors. Instead,
they involve intentional misconduct, meaning actions not taken in good faith in the best interest of the
company. Therefore, the exculpatory provision does not apply. The defendants' motion to dismiss is denied.
In re Walt Disney Company Derivative Litigation (Disney III)
Delaware Court of Chancery
907 A.2d 693 (Del. Ch. 2005)
Rule of Law
Directors do not necessarily breach their fiduciary duties by failing to comply with the best
practices of ideal corporate governance.
Facts
Shareholders (plaintiffs) filed a derivative action against the Disney board of directors (defendants),
challenging the board's hiring of the company's number-two executive, Michael Ovitz. Ovitz left Disney and
received a non-fault termination after unsatisfying job performance. The non-fault termination triggered a
large amount of severance pay. The plaintiffs alleged that Ovitz's employment contract incentivized Ovitz
to leave Disney as soon as possible and receive a non-fault termination, rather than complete the term of
the contract. As such, the plaintiffs argued that this amounted to waste. However, Ovitz argued that he had
no incentive to leave early, because he could not know whether he would be terminated or if the termination
would be without fault.
Issue
Do directors necessarily breach their fiduciary duties by failing to comply with the best practices of ideal
corporate governance?
Holding and Reasoning (Chandler, J.)
No. In Delaware, although directors are strongly encouraged to employ the best practices of ideal corporate
governance, they do not necessarily breach their fiduciary duties by a failure to comply with the best
practices. It is easy to blame a decision that eventually turns out to be a failure based on hindsight, but the
essence of business is risk. The outcomes may be predictable, but never certain. Therefore, on the one
hand, Delaware corporate law requires directors, who are corporate decision-makers, to strictly comply with
their fiduciary duties. Directors must act in good faith and make informed decisions in the best interests of
the shareholders. On the other hand, within the boundaries of those duties, directors are free to exercise
their business judgment without being punished by a court with the benefit of hindsight. In this case, the
evidence does not support the plaintiffs' allegation that Ovitz's employment contract incentivized Ovitz to
leave Disney and receive a non-fault termination, rather than complete the term of the contract. Ovitz could
not know if he would be terminated or whether he would be terminated with or without cause. It is unlikely
that Ovitz intended to perform just poorly enough to be fired quickly, but not so poorly to be fired for cause.
Based on Ovitz's performance, Ovitz could not be fired for cause. Any early termination of his employment
had to be a non-fault termination. Many of the defendants' actions are significantly below the best practices
of ideal corporate governance. However, in hiring Ovitz and approving his employment contract, the
defendants did not act in bad faith and were, at most, ordinarily negligent. Ordinary negligence is insufficient
to constitute a violation of the fiduciary duty of care. Therefore, the directors did not breach their fiduciary
duties.
In re The Walt Disney Co. Derivative Litigation
Delaware Supreme Court
906 A.2d 27 (Del. June 8, 2006)
Rule of Law
The concept of intentional dereliction of duty and a conscious disregard for one’s
responsibilities is an appropriate standard for determining whether fiduciaries have acted
in good faith.
Facts
Michael Ovitz was hired as the president of The Walt Disney Company (Disney). Ovitz was a much
respected and well known executive, and in convincing him to leave his lucrative and successful job with
Creative Artists Agency (CAA), Disney signed Ovitz to a very lucrative contract. The contract was for five
years, but if Ovitz were terminated without cause, he would be paid the remaining value of his contract as
well as a significant severance package in the form of stock option payouts. The contract was approved by
Disney’s compensation committee after its consideration of term sheets and other documents indicating
the total possible payout to Ovitz if he was fired without cause. The compensation committee then informed
Disney’s board of directors of the provisions of the contract, including the total possible payout to Ovitz.
The board approved the contract and elected Ovitz as president. After Ovitz’s first year on the job, it was
clear that he was not working out as president and that he was “a poor fit with his fellow executives.”
However, Disney’s CEO and attorneys could not find a way to fire him for any cause, so Disney instead
fired him without cause, triggering the severance package in the contract. Ovitz ended up being paid $130
million upon his termination. Disney shareholders (plaintiffs) brought derivative suits against Disney’s
directors for failure to exercise due care and good faith in approving the contract and in hiring Ovitz, and,
even if the contract was valid, for breaching their fiduciary duties by actually making the exorbitant
severance payout to Ovitz. The Delaware Court of Chancery found that although the process of hiring Ovitz
and the resulting contract did not constitute corporate “best practices,” the Disney directors did not breach
any fiduciary duty to the corporation. The Disney shareholders appealed.
Issue
Is the concept of intentional dereliction of duty and a conscious disregard for one’s responsibilities an
appropriate standard for determining whether fiduciaries have acted in good faith?
Holding and Reasoning (Jacobs, J.)
Yes. As an initial matter, the court determines that the directors did not breach their duty of due care in
approving the contract or hiring Ovitz because the directors were fully informed of all information available,
including the total possible severance payout to Ovitz. In terms of the bad faith claim, there are at least
three categories of fiduciary bad faith. The first two are clearer: subjective bad faith, meaning intent to harm,
and the lack of due care, meaning gross negligence. However, there is a form of fiduciary bad faith that is
not intentional, but “is qualitatively more culpable than gross negligence.” This category is appropriately
captured by the concept of intentional dereliction of duty and a conscious disregard for one’s
responsibilities. Therefore, although it is not the exclusive definition of fiduciary bad faith, that concept is an
appropriate standard for determining whether fiduciaries have acted in good faith. The court determines
that because the Disney compensation committee and directors were fully informed about the total potential
payout, and because of the well known skills and qualifications of Ovitz, the Delaware Court of Chancery
properly held that the directors’ actions, although not in line with corporate best practices, did not violate a
duty to act in good faith. Finally, the court finds that the directors did not violate any fiduciary duties by
actually making the severance payout to Ovitz because the directors were entitled, under the business
judgment rule, to rely on advice from Disney’s CEO and attorneys that there were no grounds for Ovitz to
be fired for cause. They were thus entitled to fire him without cause. As a result of the foregoing, the court
finds in favor of the defendants and the Delaware Court of Chancery is affirmed.
In re CNX Gas Corporation Shareholders Litigation
Delaware Court of Chancery
2010 WL 2291842 (Del. Ch. May 25, 2010)
Rule of Law
Under the unified standard, the business judgment standard of review applies to two-step
freeze-out mergers initiated by a controlling shareholders if the first-step tender offer was
(1) recommended by an independent committee of directors and (2) conditioned on
approval by a majority of the minority shareholders.
Facts
CONSOL Energy (CONSOL) (defendant) owned 83.5 percent of CNX Gas Corp. (CNX) (defendant). After
an unsuccessful attempt at acquiring CNX’s outstanding shares, CONSOL eliminated CNX’s board
committees and decreased the number of directors. Only one director, John Pipski, was independent.
CONSOL negotiated with T. Rowe Price (Price), an institutional investor that held 6.3 percent of CNX’s
stock and 6.5 percent of CONSOL’s on an acceptable tender offer. CONSOL commenced a two-step
freeze-out merger, offering $38.25 per share for its tender offer and planning a short-form merger afterward.
The offer was conditional on a majority of the minority shares being tendered. CNX’s board authorized a
special committee consisting of Pipski to consider the merger and complete a Section 14D-9 form for the
Securities and Exchange Commission. The board refused to add an additional director or authorize the
committee to negotiate. Pipski nevertheless tried to get CONSOL to up its offer. The CNX board
retroactively authorized the committee to negotiate, but CONSOL refused to raise the price. The committee
did not give an opinion on the offer, but suggested that CONSOL’s agreement with Price, whose interests
were different than other minority shareholders’, assured the tender offer’s success and nullified the
majority-of-the-minority condition. CNX’s minority shareholders (plaintiffs) sued in the Delaware Court of
Chancery to challenge the tender offer.
Issue
Does the business judgment standard of review always apply to two-step freeze-out mergers initiated by
controlling shareholders?
Holding and Reasoning (Laster, J.)
No. Business judgment review does not automatically apply to two-step freeze-out mergers. Under Kahn
v. Lynch Communications Systems, Inc., 638 A.2d 1110 (Del. 1994), a freeze-out merger by a controlling
shareholder will be reviewed for entire fairness. In re Siliconix Inc. Shareholders Litigation, 2001 WL 716787
(Del. Ch. 2001), imposed a less protective standard for two-step mergers in which the controlling
shareholder first made a tender offer and then a short-form merger. Siliconix was based on (1) the
difference between mergers in tender offers under statute and (2) the ruling in Solomon v. Pathe
Communications Corp., 672 A.2d 35 (Del. 1996) that tender offerors owed no duty to pay a fair price. This
is what is wrong with Siliconix. The statutory difference between mergers and tender offers does not justify
different fiduciary requirements. Further, Soloman did not involve a freeze-out merger, abolish entire
fairness review, or eliminate fiduciary duties on controlling shareholders. In re Cox Communications, Inc.,
876 A.2d 607 (Del. Ch. 2005) held that when a freeze-out merger was (1) approved by an independent
committee and (2) conditional on approval by “a majority of the minority stockholders,” business judgment
review was proper. If not, or if there is doubt about one of the requirements, the appropriate standard is
entire fairness. Here, the committee did not approve the transaction and lacked authority to negotiate. The
agreement with Price practically guaranteed the tender offer’s success and nullified the protection majorityof-the-minority condition. Price’s equity meant that it would benefit equally under any deal. This does not
mean courts must always consider institutional shareholders’ other interests or motivations. CONSOL put
Price’s interests at issue by negotiating with Price alone beforehand. A special committee did not approve
the deal, and the defendants must prove entire fairness.
Kahn v. Lynch Communication Sys., Inc. (Lynch I)
Delaware Supreme Court
638 A.2d 1110 (Del. 1994)
Rule of Law
Under the entire fairness standard, the burden of proof will not shift to the plaintiff if the
transaction is approved by an independent committee that has no real bargaining power.
Facts
Alcatel U.S.A. Corp. (Alcatel) (defendant) owed 43.3 percent of Lynch Communication Systems, Inc.
(Lynch) (defendant) stock. Lynch's charter required a supermajority vote to approve any business
combination. The Lynch board had 11 directors, five of which were Alcatel designees. Lynch's management
recommended that Lynch acquire Telco Systems, Inc. (Telco). Alcatel rejected this and proposed that Lynch
acquire Celwave Systems, Inc. (Celwave), one of Alcatel's affiliates. The Lynch board established an
independent committee to consider the Celwave proposal. Alcatel's investment banker suggested a stockfor-stock merger. The committee rejected the proposal, because its own investment banker said Celwave
was overvalued. Instead of further negotiating with the Lynch board about its Celwave proposal, Alcatel
responded by offering to buy the rest of Lynch's stock for $14 cash per share. The committee determined
that $14 was inadequate. After a few rounds of negotiations, the committee accepted Alcatel's offer of
$15.50 per share. Although some committee members considered $15.50 inadequate, they accepted the
offer under the pressure that there were no alternatives for Lynch, because Alcatel could block any
alternative transaction and would proceed with a hostile tender offer if this one got rejected. The Lynch
board approved the cash-out merger based on the committee's recommendation. Alcatel's nominees did
not participate in the approval. Alan Kahn (plaintiff), a minority shareholder of Lynch, sued to challenge the
cash-out merger. The court of chancery found that Alcatel owed the fiduciary duties of a controlling
shareholder to other Lynch shareholders, because Alcatel exercised actual control over Lynch by
dominating its corporate affairs. However, the court held that the independent committed effectively
negotiated the transactions at arm's length, and therefore, the burden of proof shifted to the challenging
shareholder, Kahn. Kahn appealed.
Issue
Under the entire fairness standard, will the burden of proof shift to the plaintiff if the transaction is approved
by an independent committee that has no real bargaining power?
Holding and Reasoning (Holland, J.)
No. Under the entire fairness standard, the burden of proof will not shift to the plaintiff if the transaction is
approved by an independent committee that has no real bargaining power. As established in Weinberger
v. UOP, Inc., 457 A.2d 701 (Del. 1983), a controlling shareholder sitting on both sides of a transaction bears
the burden of proving the transaction's entire fairness. Thus, the standard of review for a cash-out merger
by a controlling shareholder is entire fairness. An approval of the transaction by an independent committee
shifts the burden of proving that the transaction is unfair to the plaintiff. However, the mere existence of an
independent committee does not shift the burden. The controlling shareholder must not dictate the terms
of the merger, and the independent committee must have "real bargaining power." Here, the independent
committee's ability to bargain at arm's length with Alcatel was questionable. Although the committee
effectively rejected the merger with Celwave, as to Alcatel's offer to buy Lynch, the committee lacked the
ability to negotiate with Alcatel at arm's length. Alcatel threatened to proceed with a hostile tender offer if
the committee did not accept the $15.50 offer. Even though initially the committee was able to negotiate for
a few rounds, the arm's length bargaining ended when the committee "surrendered to" Alcatel's final offer.
Therefore, the judgment that the committee negotiated the transaction at arm's length is reversed and
remanded. The burden of proof remains on Alcatel.
Kahn v. Lynch Communication Sys., Inc. (Lynch II)
Delaware Supreme Court
669 A.2d 79 (Del. 1995)
Rule of Law
A defendant who bears the burden of proving the entire fairness of an interested
transaction must demonstrate both fair dealing and fair price.
Facts
In Lynch I, Alan Kahn (plaintiff), a minority shareholder of Lynch Communication Systems, Inc. (Lynch)
(defendant), challenged a cash-out merger dominated by Lynch's controlling shareholder, Alcatel U.S.A.
Corp. (Alcatel) (defendant). The case was remanded to the court of chancery to reexamine the merger with
the burden of proof on Alcatel. The court held that the defendants met the burden of proving that the merger
was entirely fair to Lynch shareholders. The court found that the transaction was conducted with fair dealing.
Lynch faced a development hurdle due to a lack of technology. The merger with Celwave Systems, Inc.
(Celwave) would remedy this weakness. Alcatel offered to buy Lynch as an alternative to the Celwave
proposal, after Lynch's chief executive officer (CEO) told Alcatel that a cash-out merger with Alcatel would
be better. Alcatel vetoed the acquisition of Telco Systems, Inc. (Telco), because Telco was not profitable,
and its technology was limited. Although being coerced, the independent committee did negotiate an
increase in price from $14 to $15.50 per share. Alcatel paid cash for all shares tendered. In finding the price
fair, the court accepted on the valuation by Alcatel's investment banker, which was $15.50 to $16.00 per
share. The valuation was based on the market stock price, plus a merger premium. The court also
considered the valuations by the independent committee's two investment bankers, which were $16.50 to
$17.50 per share. The court rejected the valuation by Kahn's expert, which was $18.25 per share, because
it found the valuation methodology flawed. Therefore, the court of chancery held that the defendants had
proven the entire fairness of the transaction. Kahn appealed.
Issue
Must a defendant who bears the burden of proving the entire fairness of an interested transaction
demonstrate both fair dealing and fair price?
Holding and Reasoning (Walsh, J.)
Yes. As noted in Lynch I, a controlling shareholder sitting on both sides of a transaction bears the burden
of proving the transaction's entire fairness. To prove entire fairness, the defendant must demonstrate both
fair dealing and fair price. Fair dealing is about the timing, initiation, structure, and negotiation of the
transaction, while fair price considers all the factors that affect the value of the company's stock. The test
requires consideration of all aspects of the transaction to decide whether "the deal in its entirety is fair."
Further, to show coercion of the controlling shareholder, the coercive conduct must be "a material influence
on the decision to sell." As to the issue of valuation, when faced with various valuations, the court of
chancery may reach its own conclusion, provided the valuation it adopts is based on "recognized valuation
standards." Here, the court of chancery correctly finds that the transaction constitutes fair dealing, based
on its timing, initiation, structure, and negotiations. The Celwave proposal and the cash-out merger were in
response to Lynch's development need. Although being coerced by Alcatel, the independent committee
negotiated an increase in price. Further, such coercion was not material to the decision to sell. This was
not a two-tier tender offer or squeeze-out merger situation. Every shareholder was treated the same. As for
the price, the court of chancery was free to adopt the opinion of Alcatel's investment banker, rejecting the
flawed valuation by Kahn's expert, and thus find the merger price fair. Therefore, the court of chancery's
holding that the defendants have proven the entire fairness of the transaction is logical and supported by
the evidence. Accordingly, the judgment is affirmed.