Delaware Corporate Law Update

Updates on Delaware Corporate Law by Evan O. Williford, Esq., Delaware Corporate Litigation Attorney.

Chancery Refuses to Pull Airgas Poison Pill

On Tuesday the Court of Chancery issued a post-trial opinion ending the takeover battle of Air Products and Chemicals, Inc. for Airgas, Inc. (available here).  The Court refused to invalidate a poison pill which had already given Airgas “more time than any litigated poison pill in Delaware history” (emphasis in opinion).  In summary, while the Court expressed its personal disagreement with defensive measures being justified solely by the risk that stockholders might mistakenly disagree with a board’s view of a company’s value (a concept known as “substantive coercion”), it held itself bound by Delaware Supreme Court precedent to hold otherwise.  Air Products has stated that it will not appeal the opinion.  The opinion emphasizes the difficulty of persuading the Court of Chancery to pull a pill so long as a proxy fight to replace the target’s board is a realistic option for the bidder.

A summary of this lengthy and nuanced opinion follows below.

Air Products had made its “final” tender offer to Airgas’s stockholders of $70 per share in cash and fully financed.  The Airgas board, including three directors Air Products itself had nominated, refused to redeem its poison pill.  It did so not to proceed with any other alternative  transaction, but to continue its pre-existing business plan under the belief that Airgas executing this plan was worth substantially more, at least $78 per share.

Chancellor William B. Chandler III expressed his “personal view” that the pill had “served its legitimate purpose”.  The Court applied the customary Unocal test for defensive measures under the circumstances.  The Chancellor agreed “theoretically” with previous Chancery opinions that “the risk that the stockholders will mistakenly accept an underpriced offer because they disbelieve management’s representation of intrinsic value” did not justify a defensive measure once enough time had passed for the board to be able to tell its side of the story effectively.  But the Court held it was bound by Supreme Court precedent, including Paramount Communications, Inc. v. Time, Inc., 571 A.2d 1140 (Del. 1990), to hold otherwise.

The Court held that the board had conducted a good faith, reasonable investigation in rejecting the bid.  All but one were independent directors.  Airgas procured advice from three financial advisors.  And Air Products’ own nominees had, in the end, agreed with Airgas that the offer was inadequate.

The Court noted that almost half the stockholder base was now arbitrageurs (or “arbs”).  Because of this, it found “sufficient evidence that a majority of stockholders might be willing to tender their shares regardless of whether the price is adequate or not”.  The Court cited an example of one arb who had endorsed a deal when the offer was only $65.50, stating that the arb seemed ready “to see a deal done at any price” above his purchase price.  Airgas’s CEO testified that he had initially tried to convince the arbs of Airgas’s real long-term value but gave up after he became convinced that the arbs did not care.  Air Products’ own expert testified that large numbers of the arbs would tender their shares regardless of long-term value.  The Court called this a “new facet of substantive coercion,” different from the risk recognized in Paramount.

Other than getting the Court to pull the pill or walking away, Air Products had principally two options.  It could have called for a special meeting at which a supermajority (67%) vote could replace the board, or wait eight months for the next annual meeting of Airgas’s staggered board.  At the latter meeting, should its nominees prevail, it would have elected a majority of the Airgas board (although Air Products’s first three nominees had “changed sides” so to speak).

The Court held that the latter at least was a realistic possibility for Air Products.  The Court recognized that at some point, it could be argued, delay could mean denial for typically time-sensitive tender offers, and that no tender offeror had ever persisted through two annual meetings.  Nevertheless, the Court again held itself bound by Supreme Court caselaw to hold this to be a realistic option for Air Products, thus rendering the defensive measures, including the poison pill, not “preclusive” or “coercive” under the Unocal analysis.

The Court discussed a hypothetical scenario, called the “Effective Staggered Board” (or “ESB”) previously posed by Vice Chancellor Leo E. Strine, Jr., in which a poison pill was “plausibl[y]…preclusive”.   In the ESB, a bidder wins a first proxy contest as to a staggered board but is forced by the incumbent majority to suffer the economic risks of maintaining its bid for another year before the second contest.  The Court noted that Airgas was not this case given that, for one, Air Products’ own nominees had changed sides.

The Court states that a board “cannot ‘just say no’” to a tender offer.  Given the Court’s recognition of a broad view of substantive coercion, however, acquirers are limited in their options when a board does finally say no.  Such a board is subject largely to a process-based review – whether it was “acting in good faith, after reasonable investigation and [at least in this case] reliance on the advice of outside advisors”.  So long as a proxy contest is a realistic possibility for an acquirer, it will be difficult to persuade a Delaware court to redeem a pill, even one in place as long as this one. 

Filed under: Court of Chancery, Poison Pill, Unocal

Justice Ridgely On Certifying Questions to the DE Supreme Court

For those litigating cases outside of Delaware involving novel issues of Delaware law, one option not always apparent is that of requesting that court to certify the question to the Delaware Supreme Court. Justice Henry duPont Ridgely of the Delaware Supreme Court recently published an essay in the SMU Law Review that discusses this option, noting that it can save other courts from having to guess how the Delaware Supreme Court would rule.  It has been posted on the Delaware Corporate and Commerical Litigation Blog here.

The Delaware Constitution permits the Delaware Supreme Court to hear questions certified to it from other Delaware  (e.g. trial) courts; the United States Supreme Court, Court of Appeals, or District Court; another state’s highest appeals court; and the SEC.  Del. Const. Art. IV, § 11(8).  According to Justice Ridgely, it is also “likely” that a federal bankruptcy court could certify a question based upon the general grant of power to receive questions from a US District Court.

Supreme Court Rule 41(b) provides that certification is to be accepted at the Court’s discretion “only where there exist important and urgent reasons for an immediate determination by this Court”.  Material facts cannot be in dispute.  Rule 41(b) lists “illustrate[d] reasons” for accepting a certified question, including that a novel Delaware question of law is involved, trial court decisions are in conflict, and there is an unsettled question involving a Delaware statute or constitutional provision.

Justice Ridgely sets forth statistics regarding accepted certified questions, including from the US Court of Appeals, a number from the US District Court of Delaware, four from other states’ US District Courts, and one from the SEC.  Interestingly, none are from the highest courts of other states.  According to Justice Ridgely, the Supreme Court is more likely to accept certified questions from foreign fora than from Delaware trial courts.

Filed under: Certified Questions, Delaware Supreme Court

Supreme Court Sets Standard For Preliminary Injunction Security

One of the practicalities of a motion for preliminary injunction is that the party enjoined may request the other side provide security for damages resulting from the injunction should it later be determined to have been wrongfully granted.  The standard governing such a request has, however, rarely been the subject of a written opinion in Delaware.  A recent opinion from the Supreme Court,  Guzzetta v. Service Corporation of Westover Hills, No. 34, 2010 (Del. Nov. 9, 2010) (attached), sheds some light on this subject.

Court of Chancery Rule 65(c) requires a party seeking an injunction to provide security “for the payment of such costs and damages as may be incurred or suffered by any party who is found to have been wrongfully enjoined.”   (Security typically takes the form of a bond, often costing only a small portion of its face amount).   In Guzzetta, the Court had granted a bond ultimately in the amount of $10,000, rejecting defendants’ request for a significantly higher one.  The Court ultimately determined the injunction to have been wrongfully granted and awarded defendants the amount of the bond.

The amount of the security sets the ceiling for damages the enjoined party may recover should the trial court ultimately rule in that party’s favor.  Thus, Guzzetta states that the trial court should “err on the high side” and set bond in an amount “likely to meet or exceed a reasonable estimate of potential damages.”  The Court noted, however, that the party seeking the bond must support its application with “facts of record or . . . some realistic as opposed to a yet-unproven legal theory from which damages could flow to the party enjoined.”  The Court held that, “If necessary,” the trial court could hold an evidentiary hearing to determine whether there was “some credible basis” for the estimated damages.

In applying that standard to the case at bar the Court affirmed the trial court’s rejection of certain items of possible damage as without merit.  The trial court had not explained, however, why it had rejected other items totaling more than twice the amount of the bond granted.  The Court thus reversed and remanded for further proceedings in light of its opinion.

Filed under: Delaware Supreme Court, Preliminary Injunction, Security

Chancery Bars Derivative Actions By Creditors Of LLCs and LPs

For several years it has been established that creditors of Delaware corporations have standing to bring derivative actions when the debtor corporation is insolvent.  A recent Court of Chancery opinion, however,  CML V, LLC v. Bax, C.A. No. 5373-VLC (Del. Ch. Nov. 3, 2010), has held that that is not the case with respect to Delaware  limited liability companies (LLCs) – and implicitly Delaware limited partnerships (LPs).

In 2007, the Delaware Supreme Court had held that creditors had standing to bring derivative actions in the name of debtor insolvent Delaware corporations.   N. Am. Catholic Educ. Prog. Found., Inc. v. Gheewalla, 930 A.2d 92, 101 (Del. 2007) (“Gheewalla”).  Late last year, the Court of Chancery held in Bax that creditors of Delaware LLCs cannot bring such derivative actions.  The Court did so based on a provision of the Delaware LLC Act requiring contemporaneous ownership of membership interests.  6 Del. C. § 18-1002.  Section 18-1002, unlike the equivalent corporation law provision,  states that plaintiff “must” be a “member or an assignee” of the LLC “at the time of the transaction of which the plaintiff complains” (known as the contemporaneous ownership requirement).  The Delaware LP Act contains substantively identical language.  While the Delaware General Corporation Law also contains a contemporaneous ownership provision, it is not worded to expressly require a derivative plaintiff to be a stockholder.  See 8 Del. C. § 327 (“In any derivative suit instituted by a stockholder of a corporation, it shall be averred in the complaint that the plaintiff was a stockholder of the corporation at the time of the transaction . . . .).

The Court was apparently not entirely comfortable with either of the two conflicting rules of Delaware law from which the holding in Bax resulted.  Vice Chancellor J. Travis Laster noted his prior criticism of the contemporaneous ownership requirement.  In justifying its decision, the Court noted the methods LLC creditors have to protect themselves, such as requiring protection in an LLC agreement.  The Court also referenced the criticism of creditor derivative standing itself by another member of the Court, though acknowledging that such standing is now the law under Gheewalla at least with respect to insolvent Delaware corporations.

Filed under: Court of Chancery, Derivative Actions, Derivative Standing

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Disclaimer

Delaware Corporate Law Update solely reflect the views of Evan Williford of The Williford Firm, LLP. Its purpose is to provide general information concerning Delaware law; no representation is made about the accuracy of any information contained herein, and it may or may not be updated to reflect subsequent relevant events. This website is not intended to provide legal advice. It does not form any attorney-client relationship and it is not a substitute for one.