Delaware Court’s Reliance on MFW to Dismiss Challenge to Going Private Transaction

Christopher E. Austin is a partner in the New York office of Cleary Gottlieb Steen & Hamilton LLP. This post is based on a Cleary Gottlieb publication, and is part of the Delaware law series; links to other posts in the series are available here.

In a recent decision, [1] Vice Chancellor Laster of the Delaware Court of Chancery clarified certain issues related to the obligations of a controlling stockholder that often arise in connection with going private and similar transactions. The case involved a relatively conventional proposal by a controlling stockholder (the Anderson family) to acquire the remaining shares of Books-A-Million, Inc. (“BAM”) from BAM’s minority stockholders. The family structured the proposal with the goal of satisfying the conditions of the MFW decision so that any challenge to the transaction would benefit from the favorable “business judgment” level of judicial review. [2]

In litigation challenging the buyout, minority stockholders of BAM alleged that the defendants should not get the benefit of MFW because the members of BAM’s special committee of independent directors acted in bad faith and irrationally and therefore two elements of the MFW decision were not satisfied. [3] In particular, the plaintiffs alleged that the committee’s decision to recommend the transaction was irrational and in bad faith because (i) a third party had indicated an interest in acquiring BAM at a price higher than that offered by the family, (ii) the committee determined that pursuing the third party offer was not feasible because the family (as is normal in these types of situations) indicated it was unwilling to sell its controlling interest in BAM and (iii) the committee nonetheless proceeded to negotiate with the family and ultimately recommend that the family’s offer be accepted even though the offered price was less than that proposed by the third party.

Vice Chancellor Laster rejected the plaintiffs’ theory and, after concluding that the family had complied with the other elements of MFW, reviewed the claim under the business judgment rule and granted defendants’ motion to dismiss the complaint. [4] The opinion confirmed the following important principles:

A controlling stockholder has no obligation to sell its share or otherwise facilitate a third party offer. The Vice Chancellor confirmed that the “rights of [controlling stockholders] include[] the right not to have to sell their shares” [5] and that the Anderson family “did not breach its duties by refusing to sell its shares” to the third party offering a higher price. [6]

A controlling stockholder does not breach fiduciary duties simply by offering to acquire the minority’s shares, even at a price lower than the price that might be available from a third party bidder. Vice Chancellor Laster confirmed that the Anderson family “did not breach any duty to the corporation or its minority, nor did it overreach or threaten exploitation, by proposing a going-private transaction at a substantial premium to the market price”, even though that price was lower than the price offered by the third party. [7] In reaching this conclusion, the Vice Chancellor, relying heavily on former Chancellor Allen’s opinion in Mendel, [8] noted that the fact that the price offered by the controlling stockholder was lower than the price offered by a third party was not sufficient to establish unfairness or inadequacy. In particular, a simple comparison of the two prices was inappropriate since the price offered by a controlling stockholder does not (and need not) reflect a control premium (since the controlling stockholder already has control), while a third party offer necessarily includes a control premium. Instead, the Vice Chancellor noted that the inquiry should focus on whether the “amount of the minority discount was extreme” and not “within a rational range of discounts” and no facts were validly pled to support a “reasonable inference” that the discount fell outside of such a range. [9]

The independent directors generally have no obligation to seek to dilute a control block to facilitate a third party transaction opposed by the controlling stockholder. In some cases, a board considers whether it would be appropriate to take actions to dilute a controlling stockholder’s control position (e.g., by issuing new shares or options) in order to facilitate the acquisition of the company by a third party over the objection of the controlling stockholder. The BAM decision confirmed that the directors have no obligation to do so—and indeed doing so might violate the directors’ duties to the controlling stockholder—unless the controlling stockholder’s action “could be considered an abuse of power or exploitation of the minority”. [10] And importantly, the Vice Chancellor confirmed that simply submitting a proposal to acquire the minority’s shares, and concurrently indicating an unwillingness to support third party offers, would not normally constitute such abusive or exploitative conduct. [11]

Although these principles are not a surprise to experienced practitioners, Vice Chancellor Laster’s opinion is an important confirmation of their continued validity and, significantly, indicates the continued viability of MFW notwithstanding the creative efforts of the plaintiffs’ bar to seek to limit its benefits. [12]

Finally, one practical question raised by the BAM decision is whether it will encourage special committees to solicit third party offers even in the face of a statement by the controlling stockholder that it is not willing to sell its shares or otherwise facilitate a sale of the company to a third party. Vice Chancellor Laster noted that although doing so is not required (a “committee can satisfy its duty of care by negotiating diligently with the assistance of advisors”), (1) a “committee goes one better when it takes the additional step of gathering additional information through a market canvas” and that doing so “allowed the [c]ommittee to test the [f]amily’s conviction about not being a seller” and (2) the third party offer “would be a data point in any post-closing appraisal action, giving the [f]amily a reason to bump their offer.” [13] It is not clear, however, that third parties will be prepared to expend the time and effort required to submit a credible offer when the likelihood that the offer will result in a transaction will normally be quite low.


1 In re Books-A-Million, Inc. Stockholders Litigation, C.A. No. 11343-VCL (Del. Ch. Oct. 10, 2016).(go back)

2 Kahn v. M&F Worldwide Corp. (Del. 2014).(go back)

3 The two elements were (i) the members of the committee were “independent in fact” and (ii) the committee met its duty of care in negotiating a fair price.(go back)

4 See our prior discussions of the application of the business judgment rule in various circumstances here, here and here.(go back)

5 In re Books-A-Million at 30.(go back)

6 Id. at 31.(go back)

7 Id. at 31.(go back)

8 Mendel v. Carroll, 651 A.3d 297 (Del. Ch. 1994).(go back)

9 In re Books-A-Million at 35.(go back)

10 Id. at 28.(go back)

11 The Vice Chancellor did note that, by following MFW, the Anderson family had an “even stronger argument” as to the lack of abusive or exploitative conduct. Even if the family did not seek to comply with all elements of MFW (e.g., by not conditioning the transaction on a majority of the minority stockholder vote), its conduct would presumably not have been found abusive or exploitative, although in such a case the transaction would of course have been reviewed under the less favorable “entire fairness” standard.(go back)

12 Many commentators speculated that a footnote in the MFW opinion (suggesting that the original MFW complaint would have survived a motion to dismiss) might limit the benefit of the decision if trial court judges were not willing to grant motions to dismiss and continued to permit cases to proceed to discovery as to whether the MFW requirements were in fact satisfied. The Vice Chancellor’s willingness to terminate the BAM case at the motion to dismiss stage is further evidence that the footnote has not had such an impact to date.(go back)

13 Id. at 40.(go back)

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