Corporate governance litigation: 2007 review: report from Delaware: a spotlight on several court rulings that moved the governance needle

Directors & Boards, Summer, 2008 by John L. Reed, Paul D. Brown

Private equity deals: "Go shops" and insufficient disclosures

Two decisions from the Delaware Court of Chancery in 2007, In re The Topps Company Shareholder Litigation and In re Lear Corporation Shareholder Litigation, offer some practical guidance on how directors can satisfy their duty to maximize stockholder value where a merger agreement is not subject to a pre-signing public auction. Pursuant to the 1985 case of Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc., when a board of directors determines to sell control of a Delaware corporation, the board's duty shifts from that of a protector of corporate policy to that of a facilitator of a process to maximize value for the stockholders who will be "cashed out." While the phrase "Revlon duties" is often used as shorthand for a duty to shop or auction the company, Revlon itself imposes no such duty. Indeed, Revlon does not require any particular process, or even an auction at all. Regardless of what process is followed, however, directors must satisfy themselves that the transaction at issue is in the stockholders' best interests and, in light of other alternatives, offers the best value reasonably obtainable at the time. In this context, "go-shop" provisions become relevant because they provide a mechanism by which a board, in an effort to comply with Revlon, can execute a binding merger agreement without having conducted a presigning auction. Instead, the board shops the company during a reasonable period of time after signing.

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In Topps, Michael Eisner, through a private equity firm he controls, proposed to acquire Topps Co. Inc. in a going-private transaction. The deal contained an open go-shop provision that allowed the company to shop itself for a 40-day period, after which the company could only continue talks if a bidder submitted a superior proposal or, in the determination of the board, was reasonably likely to do so. Operating in tandem with the open go-shop was a two-tiered termination fee that allowed either party to walk away for the payment of a lower fee during the go-shop period and a higher fee thereafter. The court held that the deal process and terms satisfied Revlon.

However, the court enjoined a vote on the merger because the company failed to disclose material facts about the negotiation process and because the company refused to release a competitor from a standstill agreement that prohibited the competitor from launching a tender offer or publicly commenting on the company's characterizations of the deal process. In accordance with the terms of the injunction, the competitor launched a tender offer that was ultimately withdrawn.

In Lear, Carl Icahn proposed to take Lear Corp. private. As in Topps, the deal was conditioned on the absence of a pre-signing auction, but was subject to a go-shop provision. Unlike Topps, however, the go-shop in this case was "closed," which meant that in order for the company to avail itself of a lower termination fee during the go-shop period, a competing deal had to be fully negotiated and executed within the 45-day goshop period. The court was not impressed with this mechanism because it determined that it was highly unlikely that a competing deal could be sealed within the go-shop period. The court nevertheless concluded that the company's directors discharged their Revlon duties.