Tag: Fiduciary duties


Risk Management and the Board of Directors

Martin Lipton is a founding partner of Wachtell, Lipton, Rosen & Katz, specializing in mergers and acquisitions and matters affecting corporate policy and strategy. This post is based on a Wachtell Lipton memorandum by Mr. Lipton, Daniel A. Neff, Andrew R. Brownstein, Steven A. Rosenblum, and Adam O. Emmerich.

Introduction

Overview

Corporate risk taking and the monitoring of risks have continued to remain front and center in the minds of boards of directors, legislators and the media, fueled by the powerful mix of continuing worldwide financial instability; ever-increasing regulation; anger and resentment at the alleged power of business and financial executives and boards, including particularly as to compensation during times of economic uncertainty, retrenchment, contraction, and changing dynamics between U.S., European, Asian and emerging market economies; and consistent media attention to corporations and economies in crisis. The reputational damage to companies and their boards that fail to properly manage risk is a major threat, and Institutional Shareholder Services now includes specific reference to risk oversight as part of its criteria for choosing when to recommend withhold votes in uncontested director elections. This focus on the board’s role in risk management has also led to increased public and governmental scrutiny of compensation arrangements and the board’s relationship to excessive risk taking and has brought added emphasis to the relationship between executive compensation and effective risk management. This post highlights a number of issues that have remained critical over the years and provides an update to reflect emerging and recent developments.

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What the Allergan/Valeant Story Teaches About Staggered Boards 

Arnold Pinkston is former General Counsel at Allergan, Inc. and Beckman Coulter, Inc. This post comments on the work of institutional investors working with the Shareholder Rights Project, (discussed on the Forum here, here, and here) which successfully advocated for board declassification in about 100 S&P 500 and Fortune 500 companies.

Until March 2015, I was the Executive Vice President and General Counsel of Allergan, Inc. For much of 2014 my job was to address the hostile bid launched by Valeant and Pershing Square to acquire Allergan.

With that perspective, I followed with interest the debate surrounding staggered boards, and in particular the success of institutional investors working with the Shareholder Rights Project in bringing about board declassification in over 100 S&P 500 and Fortune 500 companies. From my perspective, the debate did not seem to fully reflect the complexity of the relationship between a company and its shareholders—i) that each company and each set of shareholders is unique; ii) that destaggering a board can affect the value of companies positively, negatively or hardly at all; and iii) that shareholders, each from their own unique perspective, will be searching for factors that will determine whether annual elections are in their own best interests—not the company’s. For that reason, I respectfully offer my thoughts regarding the campaign to destagger boards.

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Delaware Court: Seating Board Designee Subject to Reasonable Conditions Not a Breach

Steven Epstein is a partner and Co-Head of the Mergers & Acquisitions practice at Fried, Frank, Harris, Shriver & Jacobson LLP. This post is based on a Fried Frank publication authored by Mr. Epstein, Robert C. Schwenkel, 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.

In Partners Healthcare Solutions Holdings, L.P. v. Universal American Corp. (June 17, 2015), the Delaware Chancery Court granted summary judgment to defendant Universal American Corp. (“UAM”), rejecting the contentions of one of UAM’s largest stockholders, Partners Healthcare Solutions Holdings (“Partners”), that UAM had breached a board seat agreement by imposing conditions on the seating of Partners’ designee to the UAM board that were not provided for in the agreement. Partners, a subsidiary of a private equity firm, acquired its stake in UAM through, and the board seat agreement had been entered into in connection with, UAM’s acquisition of a subsidiary of Partners (the “Portfolio Company”). The dispute relating to the seating of Partners’ board designee arose at the same time that UAM and Partners were involved in a separate fraud litigation arising from the Portfolio Company’s performance after the merger.

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Corporate Litigation: Disinterested Directors and “Entire Fairness” Cases

Joseph M. McLaughlin is a Partner in the Litigation Department at Simpson Thacher & Bartlett LLP. The post is based on a Simpson Thacher client memorandum by Mr. McLaughlin, 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.

Under Delaware law, where a controlling shareholder stands on both sides of a corporate transaction that is challenged by minority stakeholders, the controller presumptively bears the burden of proving the entire fairness of the transaction, i.e. “both fair dealing and fair price.” Conversely, disinterested directors—those with no financial stake in the transaction—may be liable for breach of fiduciary duty only where they have breached a non-exculpated duty in connection with the negotiation or approval of the transaction.

Delaware General Corporation Law §102(b)(7) authorizes corporations to include a provision in the certificate of incorporation exculpating their directors from money damages claims based on breach of the duty of care, but not the duty of loyalty. Delaware courts have long held that a §102(b)(7) charter provision “entitles directors to dismissal of any claims for money damages against them that are based solely on alleged breaches of the board’s duty of care.” [1] The overwhelming majority of Delaware corporations have adopted exculpatory provisions.

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D&O Liability: A Downside of Being a Corporate Director

Alex R. Lajoux is chief knowledge officer at the National Association of Corporate Directors (NACD). This post is based on a NACD publication authored by Ms. Lajoux. 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.

One of the few downsides to board service is the exposure to liability that directors of all corporations potentially face, day in and day out, as they perform their fiduciary duties. The chance of being sued for a major merger decision is now 90 percent; but that well known statistic is just the tip of an even larger iceberg. The Court of Chancery for the state of Delaware, where some one million corporations are incorporated (among them most major public companies), hears more than 200 cases per year, most of them involving director and officer liability. And given the high esteem in which Delaware courts are held, these influential D&O liability decisions impact the entire nation.

This ongoing story, covered in the May-June issue of NACD Directorship magazine, recently prompted the National Association of Corporate Directors (NACD) to take action. Represented by the law firm Gibson Dunn & Crutcher LLP, NACD filed an amicus curiae (“friend-of-the-court”) brief in the matter of In re Rural/Metro, a complex case likely to continue throughout the summer. Essentially, the Court of Chancery ruled against directors and their advisors, questioning their conduct in the sale of Rural/Metro to a private equity firm.

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Supreme Court: Fiduciaries Must Monitor Offered 401(k) Investment Alternatives

Boris Feldman is a member of Wilson Sonsini Goodrich & Rosati, P.C. This post is based on a WSGR alert.

On May 18, 2015, the U.S. Supreme Court unanimously held in Tibble v. Edison International that fiduciaries of 401(k) retirement plans have a continuing duty under the Employee Retirement Income Security Act of 1974 (ERISA) to monitor an investment alternative offered under a 401(k) plan after it is selected. In monitoring an investment alternative, the fiduciaries must engage in a prudent process. [1]

Although the principle described in Tibble was well understood by many 401(k) plan fiduciaries, the decision nonetheless serves as an important reminder that it is necessary for 401(k) plan fiduciaries to implement a due diligence process that will withstand scrutiny from the federal courts and the U.S. Department of Labor upon review.

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Practice Points Arising From the El Paso Decision

John E. Sorkin is a partner in the corporate practice at Fried, Frank, Harris, Shriver & Jacobson LLP. The following post is based on a Fried Frank publication authored by Mr. Sorkin, Philip Richter, Abigail Pickering Bomba, 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 recently ruled, in In re El Paso Pipeline Partners, L.P. Derivative Litigation (Apr. 20, 2015), that the general partner of a master limited partnership (MLP) was liable to the MLP for the $171 million by which the court determined that the MLP had overpaid for liquefied natural gas (LNG) assets purchased from its parent company for $1.4 billion in a typical “dropdown” transaction. In a separate memorandum (available here and discussed on the Forum here), we have discussed the decision and our view that it will have limited applicability given the unusual factual context. We note that the court’s extremely negative view of the conduct of the conflict committee and its investment banker offers a blueprint for how not to conduct a conflict committee process. We offer the following practice points arising out of the decision.

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Institutional Investing When Shareholders Are Not Supreme

Anne Tucker is Associate Professor of Law at Georgia State University College of Law. This post is based on an article that first appeared in the Harvard Business Law Review, authored by Professor Tucker, and Christopher Geczy, Jessica Jeffers and David Musto, all of the Department of Finance at the University of Pennsylvania.

Signs of the public’s appetite for alternative business forms, such as benefit corporations, [1] that blend profit with purpose include the success of get-one-give-one brands like Warby Parker, and Etsy’s recent $300 million IPO, which made it the second (and largest) B Corp to go public. The success of alternative business forms will also depend, in part, on acceptance by institutional investors, as companies would likely suffer without access to their trillions in assets under management.

The question of institutions’ attitudes toward investing in alternative business forms prompted our recent research, Institutional Investing When Shareholders Are Not Supreme. [2] We address the question by gauging institutional investors’ response to decreased pressure on public firms to maximize shareholder value caused by the passage of constituency statutes. Why constituency statutes? Constituency statutes, first passed as takeover defenses in the 1980’s, explicitly extended directors’ discretion to consider non-shareholder interests in takeover, and sometimes other, circumstances. [3] The changes imposed by constituency statutes were smaller in scope (permissive director discretion in limited circumstances) than the changes codified in benefit corporation legislation (mandatory director consideration of a broader range of circumstances), but constituency statutes were the first codification of directors’ ability to reject a potentially profit maximizing endeavor because of other, non-shareholder concerns. [4] We didn’t rely solely on the statutory language to demonstrate that constituency statutes constituted a legal change; we analyzed thirty years’ worth of case citations to conclude that the statutes, as enforced, expanded boards’ rights to serve nonshareholder interests as opposed to maintaining the status quo. [5] Constituency statutes, at the time of their initial passage, sparked a large body of corporate legal scholarship theorizing the impact (and legality) of reducing pressure to maximize shareholder value. [6] We reviewed this initial debate in our paper because it mirrors, in many respects, the rhetoric and theory evoked in today’s alternative business form debate.

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Perspective on El Paso—No Increased Risk for Directors

Philip Richter is partner and co-head of the Mergers and Acquisitions Practice at Fried, Frank, Harris, Shriver & Jacobson LLP. The following post is based on a Fried Frank publication authored by Mr. Richter, Robert C. Schwenkel, Steven Epstein, 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.

For what we believe is the first time, the Delaware Chancery Court has held the general partner of a master limited partnership (MLP) liable to the MLP for the amount by which the court determined that the MLP had overpaid for assets purchased from its parent company in a typical “dropdown” transaction. Vice Chancellor Laster found, in In re El Paso Pipeline Partners, L.P. Derivative Litigation (Apr. 20, 2015), that the general partner of the El Paso MLP was liable to the MLP for the $171 million by which the court determined that the MLP had overpaid for liquefied natural gas (LNG) purchased from the El Paso parent company for $1.4 billion. The Vice Chancellor was extremely critical of the conduct of the conflict committee of the general partner’s board, as well as the conduct of the committee’s investment banker. Nonetheless—and notwithstanding commentary on the case suggesting otherwise—in our view, the decision does not indicate that the court will be more likely than in the past to find liability of MLP general partners or their bankers.

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Related Party Transactions—Lessons from the El Paso MLP Decision

Christopher E. Austin is a partner focusing on public and private merger and acquisition transactions at Cleary Gottlieb Steen & Hamilton LLP. This post is based on a Cleary Gottlieb memorandum by Mr. Austin. 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 his recent decision in In Re: El Paso Pipeline Partners, L.P. Derivative Litigation [1], Vice Chancellor Laster awarded $171 million in damages to the limited partners of a master limited partnership (“MLP”) that had challenged the MLP’s acquisition of assets from a related party. The transaction at issue—a so-called “dropdown” of assets—involved the sale to the MLP by its controller and general partner (El Paso Corporation) of certain LNG-related assets in exchange for approximately $1.41 billion in cash.

One of the important stated benefits of using MLP structures is the ability to “contract away” from normal Delaware fiduciary duty principles and instead provide that related-party transactions will be evaluated under standards specified in the partnership agreement for the MLP. The relevant standard for the El Paso MLP was on its face quite challenging for the plaintiffs. In particular, the partnership agreement simply

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