Negotiating Appraisal Conditions in Public M&A Transactions

Victor Lewkow is a partner at Cleary Gottlieb Steen & Hamilton LLP. This post is based on a Cleary Gottlieb memorandum by Mr. Lewkow and Rob Gruszecki, and is part of the Delaware law series; links to other posts in the series are available here.

Appraisal rights in public M&A transactions have recently garnered greater attention, particularly in Delaware. As a result, more attention is being paid to the possible inclusion of a closing condition protecting the acquiror against excessive use of appraisal rights, and this should lead to careful attention being paid to the negotiation and drafting of any such conditions and related provisions. Discussed below are some of the reasons for this greater attention, and suggestions regarding negotiating and drafting such provisions.


As the recent decision in the Dell [1] appraisal proceeding illustrates, the Delaware Court of Chancery may at times conclude that the “fair value” of a target’s shares is significantly higher than the negotiated merger agreement price. While the higher price is only payable to those stockholders who have validly exercised appraisal rights, the exercise of those rights for a meaningful percentage of the outstanding shares can materially increase the total cost of the acquisition, to the regret of the acquiror (and its lenders in private equity deals and other leveraged acquisitions).

While all transactions are subject to some risk that appraisal rights will be exercised with respect to a large number of shares and result in a finding that the fair value is significantly above the deal price, that risk is probably greatest in controlling stockholder “going-private” transactions and private equity (or other financial sponsor) acquisitions. In the case of a merger with a controlling stockholder, this is because the controller almost always specifies that it will not agree to a sale to a third party bidder, thus largely or entirely eliminating the feasibility of a market check, and robust market checks have been used by the court in some appraisal proceedings to support the notion that the negotiated price was, itself, indicative of fair value. [2] In financial sponsor deals, even where there has been a significant market check, the court may not place much weight on the resulting price because of the absence of synergies, primacy of the sponsor’s hurdle rate as the driver of its valuation and potential limitations on price caused by the limited availability of sufficient debt financing. [3] In addition, the court may be dubious about management’s true level of commitment to facilitating alternative bids.

Of course, whoever the acquiror, there is a greater risk of appraisal demands for a large number of shares if there are one or more large existing stockholders who are viewed as likely to exercise appraisal rights. (And, if there are, the target may press to exclude their shares from any appraisal condition trigger, arguing that the acquiror can make its own evaluation of that risk.) And even if there are no such large stockholders at signing, some, seeking a higher price either through negotiations or appraisal, may acquire shares after signing. This is because investors can exercise appraisal rights in Delaware even if they purchased their shares after the announcement of the deal and, in one-step mergers, after the record date for the stockholder meeting. [4] This has led to “appraisal arbitrage” by hedge funds and other investors, and amendments earlier this year to the Delaware appraisal statute [5] seem unlikely to put an end to this practice.

These concerns have led more acquirors of Delaware companies to attempt to negotiate—at times successfully—a closing condition so that the acquiror is not required to close if appraisal rights are exercised for more than a specified percentage of the outstanding shares. Of course, since targets want as much deal certainty as possible, they will always resist such conditions and, if forced to accept one, push for as high a triggering percentage as possible. Although the threshold is typically the most important issue to be negotiated, the parties should also give careful attention to a number of other issues relating to such provisions as discussed below.

In a one-step merger as to which appraisal rights are available, [6] a stockholder must generally make its written “demand for appraisal” prior to the taking of the vote, [7] must not vote (by proxy or otherwise) in favor of the merger and, within 120 days after the effective date of the merger, must file a petition in Chancery Court to commence the appraisal proceeding. [8] An appraisal demand can be withdrawn unilaterally by the stockholder for 60 days following the consummation of the merger. [9] Thus, after the vote the parties know the maximum number of shares as to which appraisal rights may be exercised, but they don’t yet know the number of shares that in fact will be subject to appraisal.

Negotiating an appraisal condition in a one-step merger

Appraisal conditions are typically measured as of the proposed closing (not as of the date of the vote) and are waivable by the acquiror. The acquiror does not typically have a related termination right. Consequently, if stockholder approval is obtained and the number of shares covered by pre-vote appraisal demands exceeds the relevant threshold, the acquiror would not have the unilateral right to walk away from the transaction prior to the drop-dead date. This is because neither party will know if a sufficient number of stockholders will withdraw their appraisal demands prior to the drop-dead date so as to permit the condition to be satisfied. This of course could result in the transaction being in “limbo” for the period of time between the stockholder meeting date and the drop-dead date. While some period of limbo may be in both parties’ interests in many situations (for example, to allow time to attempt to convince some dissenters to withdraw their appraisal demands as to some or all of their shares), acquirors may want a termination right if, after a specified period, the threshold remains exceeded. This can be particularly important to the acquiror if it will be obligated to continue to navigate a difficult antitrust or regulatory approval process while the agreement remains in effect. [10] Similarly, a target may want the ability to force a decision by the acquiror as to whether it will or will not waive the condition, rather than be subject to the merger agreement’s operating covenants and to the acquiror effectively having an option to purchase the company through the drop-dead date. This could be accomplished by giving the target the right to terminate the merger agreement if the acquiror does not waive the appraisal condition within a specified period, which period could begin to run following the stockholder vote or only after all other conditions (other than conditions which by their nature can only be satisfied at closing) have been satisfied. If the target is to have such a termination right, the acquiror may seek a right to prior notice of its exercise so that the acquiror has a last chance to waive the condition.

Negotiating an appraisal condition in a two-step merger with a tender offer under DGCL §251(h)

Prior to the passage of DGCL §251(h), it was not possible to include an appraisal condition in a two-step public company merger agreement because acquirors would not know how many stockholders might seek appraisal at the time they closed the tender offer; in theory, appraisal could later be demanded with respect to every share not tendered. However, in a tender offer complying with DGCL §251(h), the target can include in its Schedule 14D-9 the notice of appraisal rights [11] and require stockholders to make their demand for appraisal prior to the close of the tender offer, thus opening the door for the parties to agree to the use of appraisal conditions in such tender offers. Generally in two-step merger agreements the acquiror has the right to extend the offer, and the target has the right to require the acquiror to extend the offer, until the drop-dead or a shorter specified period. Accordingly, if the acquiror does not waive the appraisal condition at such time as all other conditions are satisfied, the tender offer would presumably be extended, thereby creating the same sort of limbo discussed above in the one-step context. However, unlike appraisal conditions in the one-step context, no stockholder approval will have been obtained in such a scenario, with stockholders continuing to have withdrawal rights and the right to make an appraisal demand (unlike in the one-step context following the vote), and the transaction will continue to be vulnerable to interloper risk.

Also, for reasons similar to those discussed above in the one-step context, an acquiror might consider pushing for the inclusion of a limit (via a termination right prior to the drop-dead date) on the length of time the offer must be extended if the only remaining condition to be satisfied is the appraisal condition (an approach taken with respect to the minimum tender condition in some two-step merger agreements). Similarly, a target resigned to accepting the inclusion of an appraisal condition might want the ability to force a decision by the acquiror after some period of time as to whether it will or will not waive the condition; and if it will not so waive, provide the target the right to prohibit a further extension of the offer.

It should also be noted that it is possible that the SEC staff would take the position that the tender offer must remain open for at least five business days following the waiver of the appraisal rights condition, [12] and such a requirement would open up the possibility that additional appraisal demands could be made during that period. Presumably, the acquiror could protect itself by conditioning the waiver on no additional (or only minimal additional) appraisal demands during that period.


1In re: Appraisal of Dell Inc. (Del. Ch. May 31, 2016)(go back)

2As noted in our recent post discussing In re Books-A-Million, Inc. Stockholders Litigation, the court indicated that the existence of a third party offer at a higher valuation than the price being paid by the controlling stockholder “would be a data point in any post-closing appraisal action.” Also see In re Appraisal of, Inc. (Del. Ch. Jan. 30, 2015) and Huff Fund Investment Partnership v. CKx, Inc. for discussion of the merger price as indicative of fair value.(go back)

3See, for example, the discussion throughout the Dell decision regarding the use of an “LBO model” and its impact on valuation.(go back)

4See In re Appraisal of Transkaryotic Therapies, Inc. (Del. Ch. May 2, 2007) and In re Appraisal of, Inc. (Del. Ch. Jan. 5, 2015).(go back)

5The amendments provided, among other things, that (1) the court must dismiss appraisal proceedings brought under Section 262 of the DGCL unless “the total number of shares entitled to appraisal exceeds 1% of the outstanding shares” and “the value of the consideration provided in the merger or consolidation for such total number of shares exceeds $1 million” (see DGCL §262(g)) and (2) the surviving corporation in a merger may cut off the accrual of statutory interest on a portion of the amount ultimately payable in an appraisal proceeding by voluntarily paying at any time that portion to the stockholder(s) seeking appraisal (see DGCL §262(h)).(go back)

6Appraisal rights are available unless the target company’s shares are listed on the NYSE or NASDAQ or held of record by more than 2,000 holders and stockholders are receiving as consideration only shares similarly listed or held (see DGCL §262(b)).(go back)

7If stockholders approve by written consent or there is a short-form merger under DGCL §253, the demand must be made within 20 days after the date of the mailing of the notice of merger and availability of appraisal rights to the stockholders entitled to seek appraisal (see DGCL §262(d)(2)). The timing requirements in connection with tender offers followed by mergers completed under DGCL §251(h) are discussed below.(go back)

8The surviving corporation in the merger may also commence the proceeding, but does not normally do so.(go back)

9DGCL §261(e) explicitly authorizes stockholders to withdraw demands during the 60 days after the effective date of the merger, thereby terminating the right to appraisal. However, no provision is specifically made for a stockholder that has demanded appraisal to effectively terminate its right prior to the stockholder vote or after the stockholder vote but prior to the effective date of the merger. In drafting the relevant provisions in the merger agreement, targets may want to make explicit that withdrawals prior to the meeting or between the meeting and the effective date will be given immediate effect for purposes of the condition. Also, as a practical matter, acquirors in such situations will want to take steps to ensure that any such withdrawals are clearly drafted and irrevocable.(go back)

10In most merger agreements where a long antitrust or regulatory process is expected, the period until the drop-dead date is quite long and there is often a right for either party to extend that period if all other conditions have been satisfied (other than those that by their nature can only be satisfied as of the closing date). If there is to be such an extension right in a merger with an appraisal condition, and the acquiror does not have a termination right as described in the text above, the acquiror may want to specify that the target cannot extend the drop-dead date if the appraisal condition is not satisfied at the time of extension.(go back)

11See DGCL §262(d)(2), which provides that stockholders must make demands for appraisal in connection with mergers approved pursuant to DGCL §251(h) by the “later of the consummation of the tender or exchange offer” and “20 days after the date of mailing” of the notice of appraisal rights.(go back)

12See Rule 14e-1 under the Securities Exchange Act of 1934 and SEC Release No. 33-7760; 34-42055; IC-24107 (Oct. 22, 1999).(go back)

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