Selectica Resets the Trigger on the Poison Pill

In our forthcoming Indiana Law Journal paper, Selectica Resets the Trigger on the Poison Pill: Where Should the Delaware Courts Go Next?, we discuss a novel form of rights plan that has recently been developed (the NOL rights plan), which has a 5% trigger level that is particularly onerous for hostile bidders. The legitimacy of an NOL rights plan was first put to the test in Delaware litigation, applying the preclusion prong of the Unocal test for defensive tactics. Trilogy argued that the NOL pill unduly restricted its ability to win a proxy contest and therefore violated Moran and Unitrin. The Delaware Supreme Court rejected this claim in a decision that leaves us with little guidance about how they would rule on other poison pills with a 5% (or less) trigger level.

This lack of guidance is troubling both for potential bidders and their targets. Presumably the Delaware courts would uphold other NOL rights plans with similar trigger levels but is the court’s decision limited to companies, like Selectica, who have suffered significant economic losses? Or, does it apply more broadly? What about target companies that drop their pill trigger to 5% claiming that hedge fund activists pose a serious threat to their corporate well-being?

In this paper, we seek to provide the Delaware courts with an alternative approach that will add clarity in the law. We propose a new methodology for courts that must determine if a rights plan trigger, or for that matter any defensive tactic, is preclusive and therefore invalid under Delaware law. We begin by analyzing the Delaware case law to determine the appropriate legal standard for determining when defensive tactics are preclusive. We show that the Delaware courts have not provided clear guidance in their tests for preclusion, particularly in the crucial Unitrin case, where they give three different tests in the same opinion, and in Selectica itself. In order to add clarity and certainty to the law, we argue that the Delaware courts should return to the original test set forth in Moran —a defensive tactic is preclusive if it “fundamentally restricts” a dissident shareholder’s ability to win a proxy contest.

We then show why the courts should reject ad hoc techniques based on fragments of evidence and instead adopt a more comprehensive approach to determine when a defensive tactic “fundamentally restricts” a shareholder’s ability to win a proxy contest. We develop a voting model that will allow them to transparently consider all of the key parameters that affect the outcome of corporate elections, including case-specific information about shareholder ownership patterns and voting recommendations of third party voting advisors. Using this model, we illustrate the effects of lower trigger levels for all rights plans on dissidents’ chances of winning proxy contests, as well as the effect of the classified board, ESOP’s and white squire defenses. We find that, for instance, given appropriate assumptions about the share ownership distribution of the target company, the Delaware Supreme Court was correct in Selectica when it found that the NOL poison pill is not preclusive.

Finally, we refine our analysis to consider several other significant, complicating factors, including the type of bidder, the type of contest, and the differences in third party voting advisor recommendations that result from these variations. We argue that the courts should explicitly consider these factors in their determination with regard to the preclusive effects of defensive tactics. We further claim that courts should distinguish between the different types of bidders and voting contests when considering the validity of different defensive tactics. By doing so, a court will be able to take into account the various societal wealth effects that flow from different types of bids.

The full paper is available for download here.