Tag: Fair values


The Importance of Merger Price and Process in Delaware Appraisal Actions

Jason M. Halper is partner in the Securities Litigation & Regulatory Enforcement Practice Group at Orrick, Herrington & Sutcliffe LLP. This post is based on an Orrick publication by Mr. Halper and Gregory Beaman. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

On April 30, 2015, the Delaware Court of Chancery issued a post-trial opinion in which it rejected an attempt by dissenting shareholders to extract extra consideration for their shares above the merger price through appraisal rights. See Merlin Partners LP v. AutoInfo, Inc., Slip. Op. Apr. 30, 2015, Case No. 8509-VCN (Del. Ch. Apr. 30, 2015). Vice Chancellor Noble’s decision in AutoInfo offers important lessons for companies, directors and their counsel when considering strategic transactions and/or defending against claims that they agreed to sell the company at an inadequate price. AutoInfo reaffirms that a negotiated merger price can be the most reliable indicator of value when it is the product of a fair and adequate process.

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SEC Responds to FAQs on 2014 Money Market Reform Release

John M. Loder is partner and co-head of the Investment Management practice group at Ropes & Gray LLP. This post is based on a Ropes & Gray Alert.

On April 22, 2015, the Securities and Exchange Commission (“SEC”) staff released guidance (available here), titled “2014 Money Market Fund Reform Frequently Asked Questions,” that discusses various interpretive issues arising from the SEC’s 2014 Money Market Fund Reform release (the “2014 Reform Release”). On April 23, 2015, the SEC staff released additional guidance (available here), titled “Valuation Guidance Frequently Asked Questions,” that discusses the valuation guidance applicable to all mutual funds that was included within the 2014 Reform Release. Both the April 22 release and the April 23 release (together, the “Guidance”) were in a question-and-answer format and represent the views of the SEC’s Division of Investment Management’s staff (the “IM Staff”). This post discusses the highlights of the Guidance.

For a detailed discussion of the 2014 Reform Release’s effects on money market funds, please refer to our August 2014 Alert, which can be accessed here.

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Over-Reaction to Use of Merger Price to Determine Fair Value

Philip Richter is co-head of the Mergers and Acquisitions Practice at Fried, Frank, Harris, Shriver & Jacobson LLP. This post is based on a Fried Frank publication authored by Mr. Richter, Steven Epstein, John E. Sorkin, and Gail Weinstein. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

The Delaware Chancery Court has used the merger price in the underlying transaction as the primary or sole factor in determining the “fair value” of dissenting shares in two recent appraisal cases. The Delaware Supreme Court recently upheld one of those decisions. However, the court’s use of the merger price in both cases was based on the same limited fact situation, suggesting that—contrary to much of the recent commentary—the merger price will not frequently be used as a key factor in determining fair value in appraisal cases.

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Crossing State Lines Again—Appraisal Rights Outside of Delaware

Daniel Wolf is a partner at Kirkland & Ellis focusing on mergers and acquisitions. The following post is based on a Kirkland memorandum by Mr. Wolf, Matthew Solum, David B. Feirstein, and Laura A. Sullivan. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

Even as the Delaware appraisal rights landscape continues to evolve, dealmakers should not assume that the issues and outcomes will be the same in transactions involving companies incorporated in other states. Although once an afterthought on the M&A landscape, in recent years appraisal rights have become a prominent topic of discussion among dealmakers. In an earlier M&A Update (discussed on the Forum here) we discussed a number of factors driving the recent uptick in shareholders exercising statutory appraisal remedies available in cash-out mergers. With the recent Delaware Supreme Court decision in CKx and Chancery Court opinion in Ancestry.com, both determining that the deal price was the best measure of fair price for appraisal purposes, and the upcoming appraisal trials for the Dell and Dole going-private transactions, the contours of the modern appraisal remedy, and the future prospects of the appraisal arbitrage strategy, are being decided in real-time. These and almost all of the other recent high-profile appraisal claims have one thing in common—the targets in question were all Delaware corporations and the parties have the benefit of a well-known statutory scheme and experienced judges relying on extensive (but evolving) case law. But, what if the target is not in Delaware?

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Recent Delaware Rulings Support Practice of “Appraisal Arbitrage”

The following post comes to us from William E. Curbow, partner in the Mergers & Acquisitions practice at Simpson Thacher & Bartlett LLP, and is based on a Simpson Thacher memorandum. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

In a pair of memorandum opinions written by Vice Chancellor Glasscock and decided on January 5, 2015, the Court of Chancery of the State of Delaware, in In Re Appraisal of Ancestry.com, Inc. and Merion Capital LP v. BMC Software, Inc., found that neither the beneficial owner nor the record owner of shares for which appraisal is sought under Section 262 of the General Corporation Law of the State of Delaware is required to show that the specific shares for which it seeks appraisal have not been voted in favor of the merger in question by previous stockholders. The findings follow the analysis applied in In Re Appraisal of Transkaryotic Therapies, Inc., a 2007 case which preceded an amendment to Section 262(e) later that year permitting beneficial owners to petition for appraisal in their own name. The decisions support the practice known as “appraisal arbitrage”—a practice which has contributed to the more than tripling of incidents of appraisal petition filings in eligible deals over the past 10 years—for investors who buy stock in target companies following the record date for stockholder votes on mergers and highlight public policy considerations concerning the role of Delaware’s appraisal statute in merger transactions.

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com, Inc. and Merion Capital LP v. BMC Software, Inc., found that neither the beneficial owner nor the record owner of shares for which appraisal is sought under Section 262 of the General Corporation Law of the State of Delaware is required to show that the specific shares for which it seeks appraisal have not been voted in favor of the merger in question by previous stockholders. The findings follow the analysis applied in In Re Appraisal of Transkaryotic Therapies, Inc., a 2007 case which preceded an amendment to Section 262(e) later that year permitting beneficial owners to petition for appraisal in their own name. The decisions support the practice known as “appraisal arbitrage”—a practice which has contributed to the more than tripling of incidents of appraisal petition filings in eligible deals over the past 10 years—for investors who buy stock in target companies following the record date for stockholder votes on mergers and highlight public policy considerations concerning the role of Delaware’s appraisal statute in merger transactions.

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A Strong Cautionary Note for M&A Practitioners and Professionals

Jack B. Jacobs is Senior Counsel at Sidley Austin LLP, and a former justice of the Delaware Supreme Court. The following post is based on a Sidley update, and is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

The volume of Court of Chancery decisions has been proceeding apace. We have culled out two that we believe are worthy of your attention:

Cigna Health & Life Ins. Co. v. Audax Health Solutions, 2014 WL 6784491 (Del. Ch.).

This is a “must read” for all M&A and Private Equity practitioners and professionals, given the use of certain of the deal devices found to be invalid in the specific circumstances of this case.

Cigna, a large stockholder of Audax, the acquired company, sued to invalidate certain conditions of an arm’s length negotiated cash-out merger of Audax into United. Essentially, the defendant merging corporations conditioned receipt of the merger consideration not only upon surrender of the (to-be-cancelled) shares, but also upon the execution of a Letter of Transmittal, wherein each surrendering stockholder agreed to the “Obligations” set forth therein. Cigna refused to execute a Letter of Transmittal, and in response the defendants refused to pay Cigna the merger consideration. Cigna sued in the Court of Chancery for a judgment declaring the Obligations invalid and mandating payment of the merger consideration to Cigna. The Court of Chancery (V.C. Parsons) held the obligations invalid under 8 Del. C. §251 and (relatedly) for lack of consideration.

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The Growth of Appraisal Litigation in Delaware

The following post comes to us from David J. Berger, partner focusing on corporate governance at Wilson Sonsini Goodrich & Rosati, and is based on a WSGR Alert memorandum. The complete publication, including footnotes, is available here. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

Numerous commentators and academics have written about the growth of M&A litigation over the last several years. Less noticed, but perhaps more significant, has been the growing tendency of institutional and other large investors to exercise their appraisal rights under Delaware law. Investors in several recent high-profile mergers have announced their intention to, or sought to, exercise their appraisal rights, including in deals involving Dell, Dole Food Company, and 3M/Cogent.

In many of these situations, an even more novel phenomenon is occurring: hedge funds, arbitrageurs, and other money managers are buying the stock of target companies even after a deal is announced to have the option to exercise appraisal rights. Some funds even have been created expressly for this purpose, perhaps with the view that the risks in an appraisal proceeding may be far greater to the target company than to the shareholder.

One such risk is that historically the definition of “fair value” in an appraisal proceeding under Delaware law provides wide discretion to the court to “take into account all relevant factors” beyond the price paid in the underlying merger, even where that price was the result of an arms-length transaction. The practical impact of this standard is that the court’s determination of value may get reduced to a “battle of the experts,” while the experts’ own analyses may be based on future projections and/or other financial information that is, by definition, uncertain. As a result, there is often little hard data to predict what the value of an entity in an appraisal proceeding could be.

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Does Fair Value Accounting Contribute to Procyclical Leverage?

The following post comes to us from Amir Amel-Zadeh of Judge Business School at the University of Cambridge; Mary Barth, Professor of Accounting at Stanford University; and Wayne Landsman, Professor of Accounting at the University of North Carolina.

Many academic researchers, policy makers, and other practitioners have concluded that fair value accounting can lead to suboptimal real decisions by firms, particularly financial institutions, and result in negative consequences for the financial system. This conclusion is sustained by the belief that fair value accounting was a major factor contributing to the 2008-2009 financial crisis by causing financial institutions to recognize excessive losses, which in turn caused excessive sales of assets and repayment of debt, thereby leading to procyclical accounting leverage. Leverage is procyclical when it decreases during economic downturns and increases during economic upturns. In our paper, Does Fair Value Accounting Contribute to Procyclical Leverage?, which was recently made publicly available on SSRN, we examine whether there exists any link between fair value accounting and procyclical accounting leverage.

To address this question, we develop a model of commercial bank actions taken in response to economic gains and losses on their assets throughout the economic cycle to meet regulatory leverage requirements. We focus on commercial banks because of the central role they play in the financial system and the allegation that their actions in response to fair value losses contributed to the financial crisis. Our model and empirical tests based on the model establish that procyclical accounting leverage for commercial banks only arises because of differences between regulatory and accounting leverage, and not because of fair value accounting.

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Court Holds Merger Price Is Reliable Indicator of Fair Value

William Savitt is a partner in the Litigation Department of Wachtell, Lipton, Rosen & Katz. This post is based on a Wachtell Lipton firm memorandum by Mr. Savitt and David E. Shapiro. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

In a thoughtful and well-reasoned decision, the Delaware Court of Chancery held last week that the merger price produced by a “throrough, effective” sales process, “free from any spectre of self-interest or disloyalty,” can be the most reliable indicator of the value of shares in an appraisal proceeding. Huff Fund Investment Partnership v. CKx, Inc., No. 6844-VCG (Del. Ch. Nov 1, 2013).

CKx was a publicly traded corporation with interests in iconic entertainment properties, including the American Idol television show, Elvis Presley Enterprises, and Muhammad Ali Enterprises. In 2011, following an attempted go-private transaction and faced with uncertainty related to the network renewal of American Idol, CKx received several unsolicited bids to purchase the Company for cash. The CKx board retained an independent financial advisor and conducted an expedited process to explore a sale of the Company. Interested bidders were given three weeks to conduct diligence and negotiate a transaction. The Company ultimately received an offer of $5.50 per share from Apollo and an offer of $5.60 from a competing private equity firm. The $5.60 bid, while nominally higher, was not supported by financing commitments and the bidder refused to provide documentation that would have allowed CKx to verify its representations as to financing. In light of the uncertainty surrounding the $5.60 bid, CKx accepted the offer from Apollo notwithstanding its nominally lower purchase price.

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Measurement in Financial Reporting: The Need for Concepts

The following post comes to us from Mary Barth, Professor of Accounting at Stanford University.

Measurement concepts in financial reporting are sorely needed. A key role of accounting is to depict economic phenomena in numbers, i.e., to develop measurements to report in financial statements. It is shameful that neither is there a conceptual definition of accounting measurement nor are there concepts guiding standard setters’ choice of measurement base. The Framework has a glaring hole until these concepts are developed. In the paper, Measurement in Financial Reporting: The Need for Concepts, which was recently made publicly available on SSRN, I offer a starting point for developing such concepts by focusing on how the objective of financial reporting, qualitative characteristics of useful financial information, and the asset and liability definitions can be applied to measurement. The Framework should be a coherent whole and, thus, any measurement concepts should flow from, be consistent with, and embody these concepts.

To date the focus of measurement in standard setting has been on individual assets and liabilities, and the lack of concepts for these measurements is obvious. However, aggregate amounts are also fundamental to financial reporting—financial reports include key aggregate amounts such as total assets, total liabilities, and net income. Changes in measurements of assets and liabilities during the reporting period also are fundamental because they determine items of income and expense as well as comprehensive income itself. Thus, if financial reports are to achieve their objective, measurement concepts need to deal with aggregate amounts and changes in measurements, as well as the implications of the measurements for the information revealed in a set of financial statements taken together.

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