Monthly Archives: May 2020

Strategic Acquisitions of Distressed Companies in the COVID-19 Environment

Jennifer F. Fitchen is a partner at Sidley Austin LLP. This post is based on her Sidley memorandum.

During the course of the most recent bull market, merger and acquisition (M&A) activity generally remained robust. We increasingly saw competitive auctions for desirable companies, some of which also had the ability to pursue an initial public offering instead of a sale. In the years since the 2008 financial crisis, many acquisitive companies have become accustomed to pursuing target companies with solid balance sheets and bright prospects.

With the COVID-19 crisis, we suddenly find ourselves, once again, in an extremely challenging economic environment, one that many companies are unprepared to face. Many will not survive the economic fallout from the pandemic. Many others will persevere, some perhaps even thrive. They will have the opportunity to strengthen and expand their own footprints by salvaging promising companies that now find themselves in distress. Those deals will look dramatically different from the deals to which most strategic acquirers have become accustomed. For a buyer, adjusting to the rules of the road in the world of distressed M&A may be the most challenging part of a transaction with an insolvent company.


Investor Protection and Capital Fragility: Evidence from Hedge Funds Around the World

George O. Aragon is associate professor of finance at the W. P. Carey School of Business at Arizona State; Vikram K. Nanda is the O.P. Jindal Distinguished Chair in Finance at the University of Texas at Dallas School of Management; and Haibei Zhao is an assistant professor at Lehigh University. This post is based on their recent paper, forthcoming in the Review of Financial Studies. Related research from the Program on Corporate Governance includes The Elusive Quest for Global Governance Standards by Lucian Bebchuk and Assaf Hamdani; What Matters in Corporate Governance? by Lucian Bebchuk, Alma Cohen, and Allen Ferrell; and The “Antidirector Rights Index” Revisited by Holger Spamann.

Does weak investor protection exacerbate capital fragility? In this paper, we examine this issue within an important investment vehicle—hedge funds—across countries that differ substantially in the quality of their institutions, as reflected in country-level investor protection. Hedge funds are lightly regulated investment vehicles with minimal disclosure requirements. Consequently, investors may lack relevant information to assess the operational risks of the investment manager. Specifically, the absence of regulatory oversight can increase the risk of management fraud and, in turn, generate large losses for fund investors. In addition, hedge funds’ use of leverage can expose investors to the risk of fund failure and legal risks related to asset recoveries during liquidation proceedings. We contend that, in environments with weak legal rules related to investor protection and poor enforcement of these rules, concerns about operational risks are amplified. Hence, in such environments, funds experience more outflows of investor capital following poor performance and, in this sense, exhibit greater fragility.


An Early Look at Securities Act Litigation Amid COVID-19

Michael G. Bongiorno, Christopher Davies, and Timothy J. Perla are partners at Wilmer Cutler Pickering Hale and Dorr LLP. This post is based on a WilmerHale memorandum by Mr. Bongiorno, Mr. Davies, Mr. Perla, Robert Kingsley Smith and Sierra Shear.

As noted in our earlier alert concerning securities fraud litigation under Section 10(b) of the Securities Exchange Act, the spread of COVID-19 and its effect on the global economy have caused extreme market volatility and, beginning in mid-February, the largest decline in stock prices since the 2008 financial crisis. Market volatility has historically precipitated increased securities litigation and might be expected to have an outsized impact on claims under the Securities Act, given rescissory damages and the absence of a requirement that plaintiffs plead and prove loss causation. [1] Although it is still too early to tell whether issuers that went public just before and then amid the COVID-19 crisis will face Securities Act lawsuits in greater than average numbers, plaintiffs are poised to file suit against issuers of substantial offerings whose share prices have been impacted by the recent market decline. The following analysis of offerings during late 2019 and early 2020, immediately prior to and during the COVID-19-induced market volatility, and the Securities Act complaints filed against some of those issuers amid the market unrest provide preliminary insights into whether, when and on what basis recent issuers—and their underwriters and auditors—are facing Securities Act litigation.


The Right Timing for NOL Rights Plan Adoption

William L. McRae, James E. Langston, and Corey M. Goodman are partners at Cleary Gottlieb Steen & Hamilton LLP. This post is based on a Cleary Gottlieb memorandum by Mr. McRae, Mr. Langston, Mr. Goodman, and Jason R. FactorRelated research from the Program on Corporate Governance includes Toward a Constitutional Review of the Poison Pill by Lucian Bebchuk and Robert J. Jackson, Jr. (discussed on the Forum here).

In the current climate of market volatility prompted by the COVID-19 pandemic, more and more public companies with valuable US tax assets (e.g., net operating loss carryforwards) may, or at least should, consider adopting a shareholder rights plan in order to preserve those tax assets. These plans are commonly referred to as “NOL rights plans” (or “NOL poison pills”).

I. Background

What is an NOL Rights Plan?

An NOL rights plan is a variation on the traditional takeover defense rights plan, but is designed to protect a corporation’s US NOL carryforwards and other US tax attributes, rather than simply deter takeovers and other hostile attacks not supported by the board of directors.

NOLs and other tax attributes can be irreversibly limited if the corporate stock undergoes an “ownership change” (as determined under US tax principles), which can be triggered by certain acquisitions of the corporation’s stock. An NOL rights plan is intended to discourage acquisitions of the stock that might trigger an ownership change.


SeLFIES: A New Pension Bond and Currency for Retirement

Robert Merton is Professor of Finance at the MIT Sloan School of Management and Arun Muralidhar is co-founder of AlphaEngine Global Investment Solutions LLC. This post is based on their recent paper.

There is a looming retirement crisis, as individuals are increasingly being asked to take responsibility for their own retirement planning and a majority of these individuals are financially unsophisticated. Yet, these individuals are being tasked with the responsibility for three complex, interconnected decisions: how much to save, how to invest, and how to decumulate one’s portfolio at retirement.

A commonly-accepted retirement goal for a healthy pension is for it to sustain the relatively higher standard-of-living of the latter part of one’s working life throughout retirement (and that they do not outlive their assets). Compounding the earlier noted challenges, current financial instruments and products (e.g. T-Bills, TIPs, or Target Date Funds) are risky because they focus on the wrong goal —wealth at retirement, as opposed to how much retirement income can be guaranteed to support pre-retirement standard-of-living. Moreover, while annuities are an effective means for providing income in retirement with longevity protection for those not in a pension plan, they are too illiquid and inflexible to employ during the accumulation period. Financial innovation and a change in the metric for measuring retirement success could address some of these challenges and help individuals achieve their retirement goals—a financially and socially desirable outcome for any country.


Standards of Review Applicable to Board Decisions in Delaware M&A Transactions

Robert B. Little is a partner and Steve J. Wright and Kiel Sauerman are associates at Gibson, Dunn & Crutcher LLP. This post is based on their Gibson Dunn memorandum and is part of the Delaware law series; links to other posts in the series are available here.

M&A practitioners are well aware of the several standards of review applied by Delaware courts in evaluating whether directors have complied with their fiduciary duties in the context of M&A transactions. Because the standard applied will often have a significant effect on the outcome of such evaluation, establishing processes to secure a more favorable standard of review is a significant part of Delaware M&A practice. The chart below identifies fact patterns common to Delaware M&A and provides a preliminary assessment of the likely standard of review applicable to transactions fitting such fact patterns. However, because the Delaware courts evaluate each transaction in light of the transaction’s particular set of facts and circumstances, and due to the evolving nature of the law in this area, this chart should not be treated as a definitive statement of the standard of review applicable to any particular transaction.


Reopening to a New Normal: Considerations for Boards

Andrew R. Brownstein, Steven A. Rosenblum, and David M. Silk are partners at Wachtell, Lipton, Rosen & Katz. This post is based on a Wachtell Lipton memorandum by Mr. Brownstein, Mr. Rosenblum, Mr. Silk, William Savitt, David B. Anders, and Andrea K. Wahlquist.

As coronavirus infections begin to decline, a number of states have started to ease restrictions on public activity and permit businesses to resume normal operations. However, COVID-19 remains a threat that will likely persist into the remainder of the year and perhaps longer. Going forward, companies not only face an altered economic landscape but also heightened scrutiny on leadership, risk management and relationships with employees, customers and other stakeholders. While the development and execution of a “reopening plan” is a management function, boards of directors should be familiar with the major elements of that plan for their companies. Set forth below are some considerations for boards in preparation for a return to a “new normal”:


Agency Conflicts and Short- vs Long-Termism in Corporate Policies

Sebastian Gryglewicz is Professor of Finance at Erasmus University Rotterdam; Simon Mayer is a PhD student in Financial Economics at the Erasmus University Rotterdam; and Erwan Morellec is Professor of Finance at the Ecole Polytechnique Fédérale de Lausanne (EPFL). This post is based on their recent paper, forthcoming in the Journal of Financial Economics. Related research from the Program on Corporate Governance includes Paying for Long-Term Performance by Lucian Bebchuk and Jesse Fried (discussed on the Forum here) and The Myth that Insulating Boards Serves Long-Term Value by Lucian Bebchuk (discussed on the Forum here).

Should firms target short-term objectives or long-term performance? The question of the optimal horizon of corporate policies has received considerable attention in recent years, with much of the discussion focusing on whether short-termism destroys value. The worry often expressed in this literature is that short-termism—induced, for example, by stock market pressure—may lead firms to invest too little (see Asker, Farre-Mensa, and Ljunqvist, 2015; Bernstein, 2015; Gutierrez and Philippon, 2017, for empirical evidence). Another line of argument recognizes, however, that while firms must invest in their future if they are to have one, they must also produce earnings today to pay for doing so. In line with this view, Giannetti and Yu (2018) find that firms with more short-term institutional investors suffer smaller drops in investment and have better long-term performance than similar firms following shocks that change an industry’s economic environment.


Board Oversight of Human Capital Risk—Is it Time to Appoint a Chief Covid Officer?

Jen Rubin and Melissa Frayer are Members at Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. This post is based on their Mintz memorandum.

The coronavirus pandemic has brought many board responsibilities into sharp relief but the board’s responsibility to ensure that management appropriately address and respond to human capital risks takes on particular emphasis. While the responsibility to manage risk in general is inarguable, the unique risks to business performance that a worldwide pandemic poses to human capital calls for consideration of an appointment of a board-designated member of management with direct reporting responsibility to the board in whom responsibility is vested for pandemic-related compliance matters. A “Chief Covid Officer,” responsible for ensuring corporate compliance with applicable health and welfare obligations and the resulting safety of employees and consumers, is both an appropriate and desirable method to manage the multi-faceted risk the pandemic poses to corporate entities. While there are several roles that could fill these responsibilities—Chief Human Resources Officer, Chief Legal Officer/General Counsel, Chief Operating Officer or even Chief Compliance Officer—the key consideration for the board is identifying the individual with the right training, know-how and good sense to manage the complex and multi-dimensional risk the pandemic poses to the organization. This article focuses on the board’s responsibilities to fulfill its responsibilities to oversee management, and how those responsibilities should or could be carried out.


Responsible Executive Compensation During Times of Crisis

Shai Ganu, Don Delves and Ryan Resch are managing directors at Willis Towers Watson. This post is based on their Willis Towers Watson memorandum. Related research from the Program on Corporate includes Paying for Long-Term Performance by Lucian Bebchuk and Jesse Fried (discussed on the Forum here).

Against rising concerns of mortality, livelihood and recessions driven by COVID-19, “How much should executives get paid?” is, understandably, not the most pressing question to be answered. This pandemic is, first and foremost, a human-capital crisis.

The prominence of people in the economic equation has been made apparent, effectively revealing the importance of people versus physical and financial capital. With a direct impact on people’s lives, there is a great deal of uncertainty in terms of basic human needs—food, shelter, health—and concerns regarding the long-term economic impact and the relative pace of the recovery. All of this makes the coronavirus-driven downturn different.

Given this, boards should be looking at executive compensation plans as an important tool to focus management’s efforts on surviving the crisis while at the same time ensuring the health and wellbeing of all stakeholders: Employees, customers, supply-chain partners, communities and shareholders.


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