M&A Outline - Mergers & Acquisitions PDF

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Mergers & Acquisitions...

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Mergers & Acquisitions I. Introduction to M&A (1-29) II. Acquisition mechanics a. Three basic state-law structures (30-57) i. Statutory Merger: Stock for Stock 1. Two corporations start as separate legal entities with separate owners. One corporation merges into the other, leaving the corporation being merged into as the sole survivor; or the two corporations can merge into a new corporation formed in the transaction. 2. Del. Gen. Corp. L. § 251 – governs if both parties are Delaware corporations a. § 251(a) – Authorizes both firms to engage in the transaction b. § 251(b) – Requires that the board of directors of both firms pass a resolution approving an “Agreement of Merger” and a statement “declaring its advisability.” The agreement states the terms and conditions of the merger and may amend the certificate of incorporation of the survivor. c. § 251(c) – Requires both constituent corporations to submit the agreement to a shareholder vote. A majority of all the outstanding shares “entitled to vote” must ratify the agreement. d. § 251(f) – The shareholders of the surviving firm do not have a right to vote on the merger if the rights, preferences, and privileges of their shares survive the merger and if their shares are not diluted by more than a specified amount. i. The 20 percent rule – The general rule is that the surviving shareholders must hold at least 83 percent of the voting shares, which means that the surviving corporation cannot issue more than 20 percent new stock in the merger.

e. § 251(g) – No shareholder voting is required in specified reorganizations of holding companies or in specified creations of holding company structure, since the transaction does not modify the rights and preferences of the corporation shareholders (holding company exception). 3. Del. Gen. Corp. L. § 253 – (short-form merger) Permits the merger of the subsidiary into the parent (an upstream merger) solely on a resolution of the parent’s board of directors when the parent corporation holds over 90 percent of each class of the subsidiary’s voting stock. The shareholders of neither the subsidiary nor the parent have a right to vote on the transaction (parent-90 percent sub exception). ii. Cash-for-Assets Acquisition 1. In a cash-for-assets acquisition, one corporation purchases the assets of the target corporation in exchange for either cash or for assumption of liability (assuming target corporation’s debt). There is no change in the constitutional documents of either corporation, nor is there any change in the number of shares outstanding in either corporation. Once the asset sale is complete, the target corporation usually uses its cash to settle any outstanding liabilities and pay off its shareholders. 2. Del. Gen. Corp. L. § 122 a. § 122(4) – Empowers Delaware corporations to buy and sell assets b. § 122(13) – Authorizes one corporation to assume the liabilities of another corporation as consideration 3. Del. Gen. Corp. L. § 271 – Requires a target corporation’s board, whenever it resolves to have the corporation sell “all or substantially all” of its assets, must submit a resolution to its shareholders and a majority of the outstanding shares “entitled to vote” must ratify the transaction.

4. Del. Gen. Corp. L. § 275 – To dissolve a corporation after an asset sale, the board must submit a resolution of dissolution to its shareholders and a majority of the outstanding shares “entitled to vote” must ratify the resolution. iii. “Substantially All” 1. What constitutes “substantially all” of a corporation’s assets? a. Gimbel Test: An asset constitutes “substantially all” of a corporation’s assets if the assets to be sold “are quantitatively vital to the operation of the corporation” and “substantially affect[] the existence and purpose of the corporation.” 2. MBCA § 12.02 – Safe Harbor Provision a. If a corporation retains a business activity that represented at least 25 percent of total assets at the end of the most recently completed fiscal year, and 25 percent of either income from continuing operations before taxes or revenues from continuing operations for that fiscal year . . . the corporation will conclusively be deemed to have retained a significant continuing business activity. iv. Basic Stock Acquisition: Cash for Stock 1. Structure: The acquiring corporation purchases the stock directly from the target corporation’s shareholders in exchange for cash. After the transaction, the acquiring corporation owns all of the stock of the target corporation; the acquiring corporation becomes the parent corporation of a new subsidiary corporation. 2. Del. Gen. Corp. L. a. §§ 124(4), (11) – Empower a corporation to purchase and hold stock of another corporation b. §122(10) – Empowers a corporation to manage the affairs of another corporation.

3. Voting Rights: The shareholders of either corporation do not have the right to vote on the stock acquisition. v. CASES 1. Hollinger Inc. v. Hollinger International, Inc. (Del. Ch. 2004) a. FACTS: Hollinger Inc. (Inc) sought a preliminary injunction to stop Hollinger International (International) from selling the Telegraph Group to Barclays. Inc argued that because the Telegraph Group was the most prestigious and profitable parts of International, it would constitute “substantially all” of its assets (and thus required a shareholder vote). b. ISSUE: What constitutes “substantially all” of a business’s assets? c. HOLDING: The court held that the sale of Telegraph Group would not constitute a sale of “substantially all” of International’s assets. It looked at the qualitative aspects and concluded that because the asset was not “vital to the operation of the corporation” and was not “out of the ordinary and substantially affect[ed] the existence and purpose of the corporation. 2. Shidler v. All American Life and Financial Corp. (Iowa 1980) a. FACTS: GUG was to be merged into All American Delaware Corporation. The merger agreement stipulated that all of GUG common stock would be converted into and exchanged for $3.25. While the merger carried by two-thirds of all GUG shares, it did not carry by two-thirds of the common stock. Plaintiffs asserted that the merger could not go through because the common stock class did not approve the merger; defendants contended that the common

stock did not constitute a “class entitled to vote.” b. ISSUE: Was the common stock a class by virtue of the effect the merger would have on it? c. HOLDING: Because the common stock was to be converted into money, the practical effect of the merger on the common stock as a cancellation. Under the GUG’s articles of incorporation, holders of outstanding shares of common stock are entitled to vote as a class if the effect of an amendment would be cancellation. d. ANALYSIS: The court rejected defendant’s contention that they could have easily converted the shares prior to the merger and thus not had this problem on the ground that the court had to deal with the facts as they are, not as they could be. b. Alternative structures (57-84) i. Transaction Planning Alternatives 1. Stock-for-Asset Acquisitions a. Instead of using cash consideration to purchase a firm’s assets, the acquiring corporation uses common stock. If the acquiring corporation not only purchases the assets of the target corporation, but also its liabilities, then the result is the same as in a statutory merger. The shareholders of the constituent corporations have pooled their ownership interests into a single corporation. b. The benefits of a stock-for-asset acquisition or a stock-for-stock acquisition over a statutory merger is that, under Delaware rules, the shareholders in the purchasing corporation do not have the right to vote on the transaction or to claim appraisal rights. c. Reverse Asset Sale: This transaction occurs when the technically purchasing its assets pays with a controlling block of shares.

After the transaction, the corporation technically selling its assets ends up with a controlling share of the purchasing corporation. Upon dissolution, the firm that has sold its assets transfers the shares of the other corporation to its shareholders. i. The point of a reverse asset sale is to locate shareholder voting for the asset disposition in the purchasing firm, thus minimizing shareholder vote or appraisal rights due the shareholders of the seller. ii. Do courts accept this structure? (Delaware courts are probably OK with it; other courts probably less so). d. Biggest Advantages: i. No voting rights ii. No appraisal rights e. RMBCA (1999) – voting rights only 2. Stock-for-Stock Acquisitions a. In this transaction, A Corp. purchases B Corp.’s assets and liabilities using A Corp.’s stock as consideration. After the transaction, B Corp. becomes a wholly-owned subsidiary of A Corp. b. The advantage of the parent-subsidiary structure is that the B Corp. creditors of the subsidiary do not have a claim on A Corp. assets held by the parent. What is more, the same post-transaction structure of a statutory can be accomplished by merging the wholly owned subsidiary into the parent corporation by a board of directors’ resolution. c. Advantages: i. Shielding parent company from liability (short of corporate veil piercing) ii. No voting rights for acquiring shareholders

d. 1999 MBCA – Voting rights but no appraisal rights e. CA Rule [see slides] i. Voting is expensive, particularly for large corporations. Thus, in CA, if the dilution is only 1/5th, then there is no statutory obligation to receive shareholder approval. ii. Small mergers (big companies merging with small companies) look more like business decisions rather than full-scale mergers. f. Cases: i. Irving Bank Corp. v Bank of New York, Co., Inc. (NY 1988) 3. Cash-Out Mergers a. In this merger, the acquiring corporation does not want the shareholders of the selling firm to hold voting common stock in the acquiring firm. The firm pays cash or other non-voting investments in the purchasing firm (debentures, or non-voting preferred or common stock). b. In cash-out mergers, the shareholders in the acquiring firm do not vote if the agreement of merger does not amend the certificate of incorporation and all of the shares outstanding before the deal continue to be outstanding after the deal. 4. Merger vs. Asset Sale a. Transfer of Control i. Merger process easier b. Transfer of Assets i. Merger process easier c. Transfer of Consideration i. Merger process easier d. Successor Liability i. Asset sale more flexible e. Shareholder Voting

i. Generally no voting by acquirer shareholders (Del.) f. Appraisal Rights i. No appraisal rights for seller (Del.) ii. CASES 1. Heilbrunn v. Sun Chemical Corp. (Del. 1959) – Majority Rule (except for CA, OH, and NJ) a. FACTS: Plaintiffs challenged the stock-forasset purchase of Ansbacher corporation by defendant, contending that the transaction was a de facto merger and that they had been denied appraisal rights and have suffered financial injury. b. ISSUE: Do stockholders of the acquiring corporation have appraisal rights under the de facto merger doctrine in a stock-for-asset acquisition? c. HOLDING: No. The court held that the stockholders of the acquiring corporation had not suffered any injury. They were not forced to accept stock in another corporation and the essential nature of the purchasing corporation remained unchanged. Nevertheless, the plaintiffs are still free to argue that the transaction was unfair on its terms. i. No damage to Sun stockholders ii. Business goes on with new assets iii. Not forced to accept stock in a foreign corporation iv. Essential nature of the corporation remains unchanged d. NOTES: i. The justification behind giving shareholders appraisal rights in mergers is that the stockholder is forced against his will to sell his shares and is a form of compensation for the repeal of the unanimity rule.

ii. If Ansbacher had continued as a subsidiary, then no merger iii. CA and OH allow acquiring firm shareholders voting and appraisal rights in asset sales 2. Hariton v. Arco Electronics (Del. 1963) a. FACTS: Defendant agreed with Loral to sell all of its assets to Loral in exchange for 283,000 shares of Loral. Part of the agreement called on defendant to then hold a stockholders meeting and vote on the dissolution of the corporation. Plaintiff argued that this asset sale was illegal because it constituted a de facto merger of the two companies. b. ISSUE: Is it legal for a corporation to structure an asset sale so as to accomplish a de facto merger that might otherwise be accomplished through a statutory merger? c. HOLDING: No. The two statutes are independent of each other and equal. A reorganization may be accomplished by either a sale of assets or through the merger statute. d. NOTES: i. Transaction was structured this way to deny appraisal rights ii. If we are worried about opportunism on the part of the corporation at the expense of minority shareholders, then it is possible or corporations to amend charters; also, shareholders can take advantage of incorporation arbitrage by purchasing shares in companies based on their by-laws 3. Irving Bank Corp. v. Bank of New York Co., Inc. (N.Y. Sp. 1988) a. FACTS: BNY proposed a to acquire IBC through a two-step process. First, it would purchase all or a majority of the outstanding

shares of IBC; second, it would consummate a merger between IBC or an affiliate of IBC. IBC asked the court to enjoin BNY’s plan. IBC argued that the plan was a de facto merger, and as such could only go forward after approval by two-thirds of the voting stock. b. HOLDING: The court held that the de facto merger doctrine did not apply here. The doctrine applies when the selling corporation “quickly ceases to exist.” What is more, because BNY is only purchasing IBC’s stock, not its assets, IBC will continue to exist as it did before after the transaction, regardless of whether a merger might take place in the future. i. The two-stage acquisition plan involving (1) acquisition of stock (not assets); and (2) a delay in the second step, is not a “merger” within the meaning of BCL ii. Court says that if we are going to have a de facto merger doctrine at all, it will be in cases where the corporation ceases to exist quickly 1. No compelling policy reason here; in Irving Bank the downstream merger was consummated immediately after c. NOTES: i. This case represents a hostile take over, where IBC did not want to merge with BNY and tried to stall as much as possible to prevent the acquisition from going forward. 4. Rauch v. RCA Corp. (2d Cir. 1988) a. FACTS: Gesub (a wholly-owned subsidiary of GE Corp.) entered into a merger agreement with RCA in which all common

and preferred stock of RCA were converted to cash. Gesub was then merged into RCA, and the common stock of Gesub was converted into common stock of RCA. The holders of RCA Preferred Stock claimed that the merger constituted a “liquidation or dissolution or winding up of RCA and a redemption of the Preferred Stock,” which entitled the holders of said shares to $100 per share in accordance with the redemption provisions of RCA’s certificate of incorporation. b. HOLDING: The court held that under Delaware Corporation Law, a conversion of shares to cash that is carried out in order to accomplish a merger is legally distinct from a redemption of shares by a corporation. The corporation had every right to convert the preferred stock to cash. The various provisions of Delaware General Corporation law are of equal dignity, and a corporation may resort to one section without having to answer for the consequences that would have arisen from invocation of another section. c. NOTES: i. Corporations are only under a duty to deal fairly with minority shareholders. Here, the merger was legally permitted and defendants chose to structure their transactions in the most effective way to achieve the desired corporate reorganization. ii. The plaintiff did not contend that the price was unfair—and thus was not seeking appraisal rights. Rather, the plaintiff was suing for breach of contract. 5. Equity Group Holdings v. DMG Inc. (S.D. Fla. 1983)

a. FACTS: DMG was a holding company with no assets (just a shell). It was incorporated for the purposes of carrying out a corporate reorganization, in which Carlsberg (which was three times the size of DMI) would merge into DMI and no longer exist as a corporate entity. As consideration for the merger, DMG issues 12.5 million shares of common stock to Carlsberg. Plaintiff argues that this constitutes a de facto merger and therefore under Florida law, a majority of all outstanding shares must approve the transaction, rather than the quorum that approved the transaction. b. HOLDING: This is not a de facto merger. Rather, this is a business judgment of both Carlsberg and DMG, and as such the only appropriate question is whether the board breaches their duty of loyalty or duty of care. c. NOTES: i. What we see the court doing here is refusing to get in the way of an economically sensible decision. It is not going to screw up a perfectly good deal just to satisfy some holdouts. c. Reorgs, Recaps, Reincorps, and Conversions (84-97) i. Introduction ii. Cases 1. Federal United Corp. v. Havender (Del. 1940) a. FACTS: Federal United Corporation effected a merger with its wholly-owned subsidiary to recapitalize the corporation. In doing so, it converted preferred shares into other securities, without paying the money dividends accrued thereon. The complainants contended that this constituted a breach of contract and that Federal United could only dispose of the dividends

accumulated on preference stock by paying those shareholders the accrued dividends. b. HOLDING: The court held that nothing in the charter provided such a remedy. Without a specific provision in the charter giving the holder of preferred shares the right to receive dividends in the case of a conversion of the shares, they are without remedy. c. NOTES: i. This was a rather surprising decision because it read the contractual language quite tightly. The plaintiffs could have argued that everyone expected that the dividends would have to be paid. ii. Essentially this is the court taking extraordinary steps to avoid opportunism in class voting and making sure that a value-creating merger is not blocked. 2. Elliott Assoc. v. Avatex Corp. (Del. 1998) a. FACTS: Avatex corporation proposed a merger with a wholly-owned subsidiary in order to effect a reorganization that would change the certificate of incorporation. The certificate of incorporation liad out the rights and preferences of the preferred stock. Plaintiffs asked the Court of Chancery to enjoin the merger on the ground that the transaction required class voting. Preferred shares had no voting rights except on any “amendment, alteration, or repeal” of the certificate of incorporation “whether by merger, consolidation, or otherwise,” that “materially and adversely” affects the rights of the preferred shares. b. HOLDING: The court held that the term “consolidation” meant that more than a mere §251(b)(3) merger could trigger this provision (on the ground that in a

consolidation, there are no surviving corporations—a new corporation is created). The court read the document as evincing the intention of allowing preferred shareholders to vote on a variety of other mergers and transactions that affected the certificate of incorporation. c. NOTES: i. What the court is doing here is rescuing the shocking holding of Federal United v. Havender. 3. VGS, Inc. v. Castell (Del. Ch. 2000) a. FACTS: S, Q, and C formed an LLC, in which C could appoint 2 of the board members and S could appoint one—giving S de facto control over all board decisions. When the relationship fell apart, S convinced Q (one of C’s appointees) to side with him and approve a merger with a shell corporation that would reduce C’s stake to the point where he no longer had control. To ensure that the deal worked, they executed the merger without his knowledge. The law governing LLCs stipulated that absent a specific provision, managers may take such action without prior notice or consent. b. HOLDING: The court held that while S and Q had not violated any specific LLC provision and had abided by the l...