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E-MailAndrew F. Tuch is Professor of Law at Washington University School of Law. This post is based on his recent chapter, forthcoming in the Research Handbook on Comparative Corporate Governance (Edward Elgar Publishing).
The U.S. and U.K. regulatory frameworks diverge in important ways—especially concerning their fiduciary duties. Scholars have therefore found it useful to compare how the two frameworks govern both merger and acquisition (M&A) transactions and self-dealing transactions. But scholars have yet to comparatively assess U.S. and U.K. regulations for the M&A transaction that may pose the greatest risk of self-dealing: the management buyout (MBO).
In a paper that is forthcoming in the Research Handbook on Comparative Corporate Governance (Edward Elgar), I comparatively assess U.S. and U.K. law governing MBOs, focusing on the duties of directors and officers in these systems. The analysis casts doubt on persistent but mistaken perceptions about U.S. and U.K. corporate fiduciary duties for self-dealing. The U.K. no-conflict rule is seen as strict, the U.S. fairness rule as flexible and pragmatic. As the analysis for MBOs demonstrates, these fiduciary rules operate similarly, tasking neutral or disinterested directors with policing self-dealing, enabling commercially sensitive responses to conflict of interest. The analysis also reveals stronger formal private enforcement of corporate law and more robust disclosure rules in the United States. But because the available empirical evidence fails to justify broad claims that corporate fiduciaries’ misconduct is more severe under either regime, the analysis identifies U.K. law-related measures that may serve similar functions to formal enforcement and mandatory disclosure in constraining misconduct by corporate fiduciaries. These include informal enforcement by the U.K. Takeover Panel, stronger shareholder rights, and potentially greater monitoring by institutional investors.
Front-end Dealings
At the front end of MBOs, the United Kingdom governs self-dealing with a no-conflict rule, which bans self-dealing by directors with “no-further inquiry” into the merits of the transaction. By contrast, the United States adopts a fairness rule, which allows self-dealing transactions if they are fair. But comparing the rules requires us to consider the full range of cleansing devices under each regime and to identify the device that participating managers routinely use. As I’ve shown in other work, both regimes make available a similar cleansing device: approval by a majority of disinterested directors. The study shows that this device is routinely adopted for MBOs in both jurisdictions, with the result that both regimes task neutral directors with policing self-dealing. Rules of the City Code on Takeovers and Mergers (City Code) buttress this framework. The upshot is that, despite differing formal rules, both regimes tackle potential misconduct by corporate fiduciaries similarly. Still, neither regime clearly articulates limits on fiduciaries’ early contact with possible bidders—contact that may exacerbate participating managers’ conflicts.
Back-end Dealings
At the back end of transactions, directors owe Revlon duties under U.S. law and similar duties under U.K. law. The City Code heightens director responsibilities in the United Kingdom, requiring target companies to avoid “frustrating” action, and to share corporate information equally with competing bidders. Informed by these background rules and influenced by private equity firms and their advisers (and perhaps also by U.S. practices), target companies have adopted similar practices in response to the possibility of an MBO. Assisted and overseen by independent legal and financial advisors, special committees of disinterested directors conduct a deal process that attempts to promote arm’s-length bargaining over sale and level the playing field for bona fide bidders.
Modes of Enforcement and Disclosure Requirements
The comparison also reveals significant divergence between the two systems in modes of enforcement and in disclosure requirements for deal-related practices. As is well-known, the U.S. regime allows shareholders and competing bidders greater scope to challenge, with MBOs routinely facing litigation. In marked contrast, litigation rarely arises over MBOs in the United Kingdom. However, because the Takeover Panel adjudicates participants’ deal-related conduct on a real-time basis, the conduct of U.K. directors is scrutinized even where no breach is alleged. So the relative lack of fiduciary claims does not necessarily indicate lesser enforcement. The mechanics of the enforcement regimes differ, but the evidence does not show that the results differ as well.
Perhaps the most prominent difference between the U.S. and U.K. systems is that Delaware corporate law and U.S. federal securities laws require targets and their affiliates make extensive disclosures of pre-deal conduct, including directors’ dealings with the private equity firms with which they often partner. These disclosures are more detailed than those required in other systems. The U.S. requirements subject corporate fiduciaries and other deal participants to public scrutiny and thus conceivably help constrain misconduct. But if no such requirement holds in the United Kingdom, bidders there nonetheless tend to publicly disclose their offers early, limiting conduct that may deter competing bids. Other U.K. law-related mechanisms for constraining fiduciary misconduct may also be at work. Compared with U.S. law, U.K. law generally affords shareholders stronger rights, giving them greater ability to hold managers accountable. U.K. institutional investors and their investor associations monitor corporate affairs, imposing discipline on managers. These monitors have been regarded as stronger than their U.S. counterparts, although whether this is still true is uncertain given rising levels of U.S. institutional ownership and greater geographic dispersion of U.K. holdings. The extent to which required U.S. disclosures in fact constrain misconduct by participating managers is not clear.
Uncertainty
Neither regime clearly articulates directors’ duties at the front end of transactions, with the result that managers have room to maneuver. In the United States, practitioners continue to debate when participating managers need to inform their boards of a private equity firm’s interest. What dealings may corporate fiduciaries have when approached by private equity firms? When must they inform their corporate boards of such dealings? Although Salladay v. Lev (Lance Salladay v. Bruce L. Lev, et al., C.A. No. 2019-0048-SG (Del. Ch. Feb. 27, 2020) may signal toughening judicial attitudes, Delaware courts usually assess directors’ overall conduct under the enhanced-scrutiny standard, applying an intermediate standard of review focusing on the reasonableness of the deal process, rather than assessing directors’ front-end conduct under usual self-dealing doctrine.
In the United Kingdom, uncertainty also surrounds managers’ permissible dealings at the front end of deals. U.K. caselaw applying fiduciary duties to MBOs is thin, a product of the limited recourse that market participants have to courts in takeovers and schemes. U.K. practitioners report difficulties in determining when early discussions between private equity firms and managers have proceeded to the point of requiring disclosure to the board. Directors must disclose their interests in transactions or arrangements that are “proposed,” and what exactly counts as “proposed” is uncertain. Boards also lack firm guidance on the extent they must chaperone participating managers meeting with potential bidders.
The paper concludes by considering some of the suggestions for reform of the laws governing MBOs.
The complete paper is available here.
