On May 29, 2013, the Delaware Court of Chancery issued an important securities-law decision, holding that the Business Judgment Rule standard of review applies to going-private transactions with controlling stockholders under certain conditions.
In In re MFW Shareholders Litigation, C.A. No. 6566-CS (Del. Ch. May 29, 2013), Chancellor Leo E. Strine Jr. ruled that Delaware courts should apply the Business Judgment Rule, and not the Entire Fairness standard of review, so long as two conditions apply. First, the transaction must be negotiated and approved by a special committee of independent directors free to select its advisors and empowered to say no definitively. Second, the transaction must be approved by an uncoerced, fully informed vote of a majority of the minority.
The case arose out of a 2011 proposal by MacAndrews & Forbes Holdings Inc. (MacAndrews) to acquire MFW in a going-private transaction. MacAndrews owned 43 percent of the MFW outstanding stock at the time of the proposal, and sought to acquire the remaining 57 percent at a price of $24.00 per share. However, MacAndrews specifically conditioned its offer on both (1) a non-waivable majority-of-the-minority approval, and (2) approval by a special committee.
MFW's board of directors formed a special committee of independent directors to negotiate with MacAndrews. The special committee picked its own financial advisors, met eight times over three months, and actively negotiated with MacAndrews. The special committee was able to get MacAndrews to raise its bid by $1.00 per share, to $25.00 per share, which represented a 47 percent premium over the publicly-traded stock price.
After approval by the special committee, the offer was presented to the remaining independent members of MFW's board of directors and approved unanimously. The offer was then approved by an affirmative vote of the majority of the minority of MFW stockholders, with 65 percent approving the merger.
Chancellor Strine evaluated the independence of the individual directors, their steps to value and negotiate the proposal, and the circumstances surrounding the vote by the minority stockholders. Finding that plaintiffs had alleged no facts that could question the independence of the special committee members and noting that the various valuations of MFW shares were consistent with the $24.00 offer price, the court ruled that there was no triable issue of fact as to the special committee's satisfaction of the duty of care. Combined with the "cleansing device" of a majority-of-the-minority vote, the court noted that the conditions in this case were sufficient to invoke the Business Judgment Rule standard of review.
The court emphasized, however, the Business Judgment Rule is available only if (1) the controller conditions the transaction on the approval of both a special committee and a majority of the minority stockholders, (2) the special committee is independent, (3) the special committee is empowered to freely select its own advisors and to say no definitively, (4) the special committee meets its duty of care, (5) the minority vote is informed, and (6) the minority is not coerced. If any of these conditions is not satisfied, the transaction will be evaluated under the Entire Fairness standard and not the Business Judgment Rule.
Chancellor Strine noted the application of the Business Judgment Rule provides an incentive to controlling stockholders to satisfy these conditions, as an alternative to the "inherently more coercive" tender offer. He also noted that minority shareholders have the right to an appraisal in a going-private transaction, and that the prevalence of institutional investors has made that right more effective in recent years.
The Business Judgment Rule provides a less rigorous standard of review, which gives controlling shareholders a strong basis to dismiss shareholder litigation at the pleading stage before undergoing the high costs of discovery. Although Chancellor Strine noted that rational minds can disagree on this issue, and the case may ultimately be decided on appeal by the Delaware Supreme Court, he determined that the Business Judgment Rule is the correct standard under these circumstances.