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E-MailAdam Emmerich is a partner in the corporate department at Wachtell, Lipton, Rosen & Katz focusing primarily on mergers and acquisitions and securities law matters. This post is based on a Wachtell Lipton firm memorandum by Mr. Emmerich and William Savitt. A portion of their memo was quoted in a recent DealBook column from the New York Times, available here.
We have recently witnessed equity accumulations on both sides of the Atlantic that were first announced long after they began and long after the acquiring parties had effectively passed applicable disclosure thresholds. Here in the U.S., Pershing Square and Vornado earlier this month announced a combined stake of almost 27% in J.C. Penney. And last weekend French luxury-goods conglomerate LVMH announced that it had amassed a previously undisclosed stake in excess of 14% in Hermès, including through transactions extending over a period of years. Although the details of both accumulation programs are as yet not fully known, they appear to have been conducted on the assumption that the U.S. and French regulatory regimes requiring prompt and current disclosure of share accumulations can be evaded through derivatives and other synthetic and structured ownership arrangements, even when they involve ownership of actual shares by counterparties, up until the point when such trades are settled by taking options on or physical delivery of the underlying shares.
We have long warned of the dangers that new uses of swaps and other equity derivatives, securities loans, and stock purchases timed around record dates can pose to the fairness and transparency of equity securities markets, the legitimacy of corporate elections, and the appropriate interests of public companies and their shareholders in knowing who their shareholders are and when a significant stake is being accumulated. Despite a number of widely reported situations in which derivatives and other non-conventional ownership arrangements and control devices have been exposed as manipulative and improper (including the battles for control of CSX in the U.S. and Continental in Germany, Sears Canada, and the Porsche – Volkswagen affair, among others), despite moves by regulators in the U.K., Germany, Australia and elsewhere to tighten the rules governing the nature and timing of beneficial ownership reporting and the inclusion of derivatives and other unconventional ownership arrangements in those reporting regimes, and despite the public recognition by the SEC of the need for additional rulemaking and regulation in this area in the U.S., there has as yet been no substantive change in the U.S. reporting and enforcement environment. The J.C. Penney and Hermès situations demonstrate that the current legal and regulatory environment is not adequate to the task without both renewed focus and reform.
While we believe that abusive and misleading accumulation techniques are not immune from liability under existing rules and precedents dating back to SEC v. First City Financial, we continue to urge regulatory reform to definitively close the door on such techniques. However, unless and until lawmakers and securities regulators in the U.S. adopt disclosure requirements in accord with what is now the global consensus towards full and fair disclosure of equity derivatives and other synthetic and non-standard ownership and control techniques, U.S. corporations are well advised to adopt such self-help measures as are available. These include appropriate provisions in by-laws, rights plans, and other arrangements with change-in-control protections, to ensure that the purposes served by existing arrangements are not subject to being undermined by non-traditional ownership and corporate control arrangements, and to encourage adequate and timely disclosure of actual and synthetic share accumulations for the benefit of markets, shareholders and corporations.
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Show Me Sources and Authority for an Irrevocable Right of Control-Premiums in Contested Takeovers!
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If you break down the critical issue to its bare bones, synthetic stock accumulation programs staying outside the radar screen of traditional notification thresholds serve the purpose of stealth and surprise takeover bids where the bidder can circumvent, avoid and eschew payment of traditional control premiums that have been part of the American takeover landscape since shortly after the adoption of a level playing field via the Williams Act. If you recall Crown Zellerbach or Hanson, street sweeps are always possible since there is, different from the U.K., Germany or France under the respective European Directives transformed into municipal law, under U.S. law no corresponding obligation to launch a tender offer once a certain threshold is reached. The break-through of such customary control premium payments in the U.S. in the course of the 1970s never found compelling justification in corporate finance theory or legal doctrine. When Martin Lipton and his team devised the so-called poison pill in the early 1980s, what it essentially did is that it rendered control acquisitions, mostly in the form of tender offers back then, pricier but not impossible. It is the same underlying phenomenon which seeks to extract value from an acquiror for such change-of-control.
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We’ve had intense debate surrounding this issue in the Frankfurt, London, and New York marketplaces with Professor Baums and Maike Sauter of the Institute for Law and Finance who’ve subsequently as a fruit of this discussion come out with a paper in early 2009 advocating legislative intervention, gleaned after the FSA’s pronouncements on Contracts for Difference, that the German Federal Government has meanwhile adopted. This debate included several Wall Street and London law firms who’ve preferred to remain unnamed. I am still uncertain whether this further regulation, as pushed and advocated for by Wachtell Lipton since several years and adopted in Switzerland, Germany and Britain, really makes sense. If corporate finance theory innovation allows perfectly legal takeovers without control premiums, why stifle such innovation by retroactively legislating it into oblivion? Nobody thus far has convinced me that the payment, or flipping sides – the receipt, of a control-premium is the God-given right of oftentimes entrenched senior management. All that applicable Delaware case law does suggest over time is that in the event of competive bidding, such imaginary premium be all-decisive in who emerges as the auction’s winner, lest plausible argument be determinative for such bidder to win who musters the better long-term corporate strategy rather than pays the highest price. Source and authority of any control premiums in contested takeover contests remain muddy to say the least.
Oh the horror… Markets operating in a manner unconstrained from the wisdom and efficacy of government regulation! What we need is a bureaucrat to stop people from engaging in voluntary transactions which they freely enter!
Please. This policy “protects” no one but the management it entrenches.
Financial Innovation is Embraced by the Corporate Mainstream
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Keep in mind that the notion of control plays w/o takeover premiums whatsoever has travelled into the mainstay and mainstream of strategic acqurirors all over the world, as has synthetic stock accumulation as a step on the way. Against the backdrop of (1) creeping takeovers and streetsweeps as an established practice under U.S. securities laws, (2) the Staff’s position in the CSX controversy, and (3) such embrace by strategic acquirors of control change with reduced or no premium whatsoever, such emotionally tinged appeal and designation as “ambush” seems a bit out of touch. Moreover, when financial players or sponsors move, there is no synergy. If a target is reputationally damaged, there is little reason for any premium either. Please attempt to give me an answer to my polite doubts and objection from a couple of days ago.
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