Mootness Fees

In Mootness Fees, forthcoming in the Vanderbilt Law Review, we document the latest development in merger litigation, mootness dismissals. In 2016, the Delaware courts announced in In re Trulia that they would no longer approve merger litigation settlements which provided for a release and an award of attorneys’ fees if they did not achieve meaningful benefits for shareholders. Trulia, coupled with other substantive changes in Delaware law, reduced the attractiveness of merger litigation in Delaware.

Delaware’s crackdown did not put an end to merger litigation, which, as we document in prior work, had become ubiquitous however. Instead, the changes resulted in the flight of case filings from Delaware to the federal courts. These federal suits repackaged state-law fiduciary duty claims into antifraud actions under Section 14A and Rule 14a-9 thereunder. By 2017, merger litigation rates, which had dipped to 74% of deals in 2016, rose to 83%, but only 10% of litigated deals faced a challenge in Delaware versus 87% in federal court. By 2018, the numbers were even more dramatic—5% of litigated deals were challenged in the Delaware courts, but 92% gave rise to a federal court lawsuit.

Based on what we can ascertain from public filings, post-Trulia cases filed in federal court are almost invariably prompt supplemental disclosures in the proxy statement. The cases are then terminated through a voluntary dismissal coupled with the payment of a mootness fee to the plaintiffs’ attorney. The mootness fee is typically in the range of $50,000 to $300,000, and is paid voluntarily by the defendants. Most federal courts do not review the request for dismissal or the proposed mootness fee payment at all.

In our article, we utilize a hand-collected sample of 2,320 unique deals from 2003-2018 to analyze empirically the scope and pervasiveness of the mootness fees. [1] We find that in 2018, plaintiffs’ attorneys received a mootness fee in at least 63% of litigated cases. [2] Notably, mootness dismissals appear to have displaced formal settlements (coupled with releases) entirely in federal court litigation. Of the cases filed in federal court in 2018, not a single case, to date, has resulted in a judgment or settlement—all of the cases filed have been dismissed—either with or without a mootness fee. We also document a marked shift in case filings away from the Delaware courts. Plaintiffs’ attorneys are overwhelmingly bringing litigation challenges to mergers in other state courts and federal court.

The rise of the mootness fee and the shift in merger litigation raise several issues. We view the resolution of cases through supplemental disclosure and a mootness fee as largely replacing a court-approved settlement. This development implicates several questions including the quality of the mootness fee cases, the lack of transparency with respect to the size of the mootness fee and, even in cases in which the mootness fee is reviewed by the court, the limited ability of a court to provide effective oversight of the resolution by evaluating the quality of the supplemental disclosures. Notably, we observe that a small subset of plaintiffs’ law firms file the majority of merger challenges in federal court. Top plaintiffs’ firms, which have been documented in other research as consistently obtaining superior monetary settlements for shareholders, are not active in filing these cases. This suggests the possibility that these suits are not being filed with the expectation of obtaining a meaningful recovery for the plaintiff class but rather in order to obtain a quick disclosure and mootness fee, a practice that S.D.N.Y. Judge Denise Cote describes as conferring “no or little appreciable benefit” on the target company shareholders.

We argue that part of the challenge lies in the ambiguous legal standard applicable to an application for mootness fees. Although some commentators have criticized the current materiality standard as providing insufficient guidance, we argue that applying a less demanding standard by asking whether the supplemental disclosures are “helpful” or “of some value” provides even less guidance and invites abusive litigation filed solely for the purpose of extracting a nominal fee payment. To the extent that mootness fees are paid in such cases, they are an inappropriate tax on the judicial system. Mootness fees and the accompanying litigation not only impose costs on parties to a merger, they do not appear to provide appreciable benefits to shareholders.

A related and potentially more problematic process is the negotiation and payment of mootness fees outside the judicial process. Although Delaware law requires disclosure and judicial review of mootness dismissals, the Federal Rules of Civil Procedure (FRCP) do not currently require either notice to the shareholders or court approval when merger suits are voluntarily dismissed prior to class certification. Although we believe that the shift of merger disclosure claims to federal court, where federal securities law rather than state law sets the legal standard for the required disclosures in mergers and tender offers, we maintain that a successful shift requires the federal courts to police the quality and resolution of merger litigation carefully. To date, they have failed to do so, and the current litigation trend appears, in part, to be an attempt to leverage this gap in judicial oversight.

We conclude by arguing that, given the public interests involved and the nature of plaintiffs’ attorneys as quasi representatives of all shareholders, mootness fees should be subject to meaningful judicial oversight. We propose an amendment to Rule 23 of the FRCP to require disclosure and court approval of mootness fee payments in connection with the dismissal of putative class actions challenging the adequacy of merger disclosures. Further changes would prevent plaintiffs from styling their actions as individual ones to avoid this requirement.

We also argue that the payment of a mootness fee should be conditioned on litigation resulting in a material corrective disclosure—the same legal standard as required by Trulia. We believe that both requirements are consistent with the purpose of the Private Litigation Securities Reform Act which is to remove the incentive for the filing of weak cases while preserving a viable litigation remedy in cases of significant wrongdoing. We hope these changes will finally put to an end the great game of frivolous merger litigation.

Endnotes

1Our empirical analysis in this Article examines a dataset of merger litigation for deals over $100 million completed from 2003 through 2018.We limit our analysis to larger transactions, as do many similar studies, because larger deals are more likely to attract interest from the plaintiffs’ bar. See, e.g., Elliot J. Weiss & Lawrence J. White, File Early, Then Free Ride: How Delaware Law (Mis)Shapes Shareholder Class Actions, 57 Vand. L. Rev. 1797, 1823 n.87 (2004) (employing similar approach)).(go back)

2Because mootness fees are often not publicly disclosed, our statistics may understate their frequency.(go back)