On May 20, the Court ruled in In re Smurfit-Stone Container Corp. Shareholder Litigation that a merger transaction with consideration of 50% cash and 50% stock was subject to heightened “Revlon” scrutiny. In two previous cases, the Delaware Supreme Court had ruled that a 33% cash deal was not, while the Court of Chancery had assumed without deciding that a 62% cash deal was. Smurfit-Stone provides more guidance from the Court on the circumstances in which heightened “Revlon” scrutiny will apply in mixed cash/stock deals, assuming the target does not have a controlling stockholder or stockholder group. Such scrutiny will apply where either (i) a stockholder or stockholder group will control the combined entity; or (ii) some large portion of the consideration is cash. As to how much cash will trigger heightened scrutiny, Smurfit-Stone asks whether a “substantial” part of the stockholders’ investment has been cashed out, implying that Revlon may apply even where the percentage of cash is below 50%.
In Smurfit-Stone (opinion available here), plaintiffs moved for a preliminary injunction to block a merger between target Smurfit-Stone Container Corp. and a subsidiary of acquiror Rock-Tenn Company. A board with a majority of outside directors approved the transaction after negotiations with Rock-Tenn and one another potential acquiror, but without a market-check. Smurfit-Stone shareholders were to receive, for each share, $17.50 in cash and a percentage of a share of Rock-Tenn common stock worth approximately $17.50 at its closing price immediately prior to the announcement of the deal.
Vice Chancellor Donald F. Parsons, Jr. first determined whether Revlon applied. Revlon has been held to apply, among other circumstances, when the transaction effects a “sale or change of control”. Plaintiffs claimed that the merger would cause a sale or change of control.
The Court noted that all-cash deals have been held to constitute changes of control because there is “no tomorrow” for the stockholders: they are forever shut out of future corporate profits or the possibility of obtaining a control (or increased control) premium. All-stock deals do not — unless the combined entity has a controlling stockholder or stockholder group in which case, again, the stockholders have lost the ability to obtain a control premium in future transactions.
The Court then discussed two Delaware cases concerning mixed cash/stock deals. In In re Santa Fe Pacific Corp., 669 A.2d 59 (Del. 1995), the Delaware Supreme Court ruled Revlon inapplicable to a deal with 33% cash consideration (plaintiff had also not shown that the combined entity would have a controlling stockholder). In In re Lukens, 757 A.2d 732 (Del. Ch. 1999), the Court of Chancery had ruled Revlon did apply to a deal in which each stockholder had the right to elect to receive consideration in cash, up to a maximum of 62% of the total deal, even though (again) the combined entity would have no controlling stockholder.
The Court held that its reasoning in Lukens applied to this case as well. Defendants had argued that Lukens did not apply because a majority of stockholders could conceivably have elected to cash out entirely in Lukens, but not here. The Court disagreed: “while no Smurfit-Stone stockholder will be cashed out 100%, 100% of its stockholders who elect to participate in the merger will see approximately 50% of their Smurfit-Stone investment cashed out.” The Court characterized the “reasoning of Lukens” as concerning the Court’s need “to scrutinize under Revlon a transaction that constitutes an end-game for all or a substantial part of a stockholder’s investment in a Delaware corporation.” (emphasis added).
While the Court applied Revlon scrutiny, it went on to hold that the actions of the Smurfit-Stone board withstood this heightened scrutiny and, thus, denied plaintiffs’ motion for a preliminary injunction.
Smurfit-Stone reaffirms the result in Lukens that, in a mixed cash-stock consideration merger, Revlon may apply even if control of the resulting entity remains in the hands of public stockholders. It also extends the holding in Lukens that 63% cash consideration will trigger Revlon to 50%, under the reasoning that Revlon governs any transaction in which “a substantial part” of stockholders’ investments are cashed out.
Furthermore, Smurfit-Stone suggests that Revlon may apply at cash consideration levels even below 50% — such consideration is certainly “substantial” under the plain meaning of the word. Moreover, the Revlon analysis itself asks whether there has been a “change of control”. Under Delaware law, a stockholder can be deemed “controlling” so as to incur fiduciary duties to the other stockholders even where its percentage stock-holding is below 50% (where actual control by the stockholder can be established factually). Delaware courts have interpreted Revlon to be substantively less stringent over the years and more flexible to a good faith process implemented by an active board of directors, suggesting that they may, to a certain degree, be more willing to extend the doctrine. (Indeed, it has been reported that in January 0f this year Vice Chancellor J. Travis Laster suggested that Revlon should apply in any end-stage transaction involving the last opportunity to negotiate a premium, including when that premium is paid in stock of the combined entity).
Notably, the actions giving rise to the case were filed in both Delaware and Illinois. On the suggestion of defendants the Delaware and Illinois courts conferred, resulting in the Illinois court’s decision to stay the actions before it pending resolution of the Delaware action. Such interactions between Delaware judges and judges in other jurisdictions seem to be becoming more common, particularly given recent disputes in Delaware courts about multidistrict litigation. Such communication seems generally beneficial in eliminating duplicative work and expense for the courts and parties, as well as conflicts between the Delaware judicial system and that of other states.
Filed under: Court of Chancery, Preliminary Injunction, Revlon
Delaware Corporate Law Update 