- In Re PLX Technology Inc. Stockholders Litigation, C.A. 9880-VCL (October 16, 2018)
This massive decision is a primer on Delaware director fiduciary duty. It covers just about all the important issues, with an enormous amount of citations and explanation. It is particularly helpful in showing how directors must meet their disclosure obligations, both to their other directors and to stockholders. It is, of course, very much a product of its unique facts.
What may be its most lasting impact is its conclusion that the deal price in a merger established fair value and that yet again a DCF analysis was defective. At least for publicly traded and well shopped companies, we may be seeing the end of DCF as the preferred measure of value in Delaware. (emphasis added)
via Morris James
- Verition Partners Master Fund Ltd. V. Aruba Networks Inc., C.A. 11448-VCL (Feb. 15, 2018)
The forceful discussion of the efficient capital markets hypothesis in Dell and DFC indicates that Aruba’s unaffected market price is entitled to substantial weight.
[C]orporate finance theory reflects a belief that if an asset-such as the value of a company as reflected in the trading value of its stock-can be subject to close examination and bidding by many humans with an incentive to estimate its future cash flows value, the resulting collective judgment as to value is likely to be highly informative . . . .
“Market prices are typically viewed superior to other valuation techniques because, unlike, e.g., a single person’s discounted cash flow model, the market price should distill the collective judgment of the many based on all the publicly available information about a given company and the value of its shares.” “[I]n many circumstances a property interest is best valued by the amount a buyer will pay for it” and “a well-informed, liquid trading market will provide a measure of fair value superior to any estimate the court could impose.”
In this case, because Aruba’s shares “were widely traded on a public market based upon a rich information basis,” the fair value of the petitioners’ shares “would, to an economist, likely be best reflected by the prices at which their shares were trading as of the merger.” Aruba had “a deep base of public shareholders” and “highly active trading,” so “the price at which its shares trade is informative of fair value.” The unaffected thirty- day average market price of Aruba’s stock was $17.13 per share.
Dell and DFC teach that the deal price is also entitled to substantial weight. “In economics, the value of something is what it will fetch in the market. That is true of corporations, just as it is true of gold.” For a court to give weight to the deal price, it need not be the most reliable evidence of the Company’s value as a going concern.472 This court has authority “to determine, in its discretion, that the deal price is the most reliable evidence of fair value … , and that’s especially so in cases … where things like synergy gains or minority stockholder discounts are not contested.”
The deal price in this case resulted from an arm’s-length transaction involving a publicly traded company without a controlling stockholder. The deal price in this case contained synergies, so it logically exceeded fair value. There is also the fact that the petitioners failed to identify a bidder who would pay more than HP. “Fair value entails at minimum a price some buyer is willing to pay ….” Taken together, these propositions indicate that the deal price in this case operates as a ceiling for fair value.
The Dell and DFC decisions recognize that a deal price may include synergies and endorse deriving an indication of fair value from the deal price by deducting synergies. In this case, the evidence shows that the deal generated significant synergies. Using the low-end synergy range implies a standalone value of $21.08 per share. Using the high-end synergy range implies a standalone value of $15.32 per share. This decision has adopted the midpoint of $18.20 per share as its deal-price-less-synergies value.
This decision does not give any weight to the discounted cash flow analyses. As in Dell, “this appraisal case does not present the classic scenario in which there is reason to suspect that market forces cannot be relied upon to ensure fair treatment of the minority.” Discounted cash flow models are “often used in appraisal proceedings when the respondent company was not public or was not sold in an open market check.”
The reason for that is not that an economist wouldn’t consider the best estimate of a private company’s value to be the price it sold at in an open sale process of which all logical buyers were given full information and an equal opportunity to compete. Rather, the reason is that if such a process did not occur, corporate finance instructs that the value of the company to potential buyers should be reflected in its ability to generate future cash flows.
“But, a single person’s own estimate of the cash flows are just that, a good faith estimate by a single, reasonably informed person to predict the future. Thus, a singular discounted cash flow model is often most helpful when there isn’t an observable market price.” When market evidence is available, “the Court of Chancery should be chary about imposing the hazards that always come when a law-trained judge is forced to make a point estimate of fair value based on widely divergent partisan expert testimony.”
The unaffected market price provides direct evidence of the collective view of market participants as to Aruba’s fair value as a going concern during the period before the announcement of the transaction, which could be different than Aruba’s fair value as of closing. The same disconnect exists for the deal price, which provides evidence of how the parties to the merger agreement valued Aruba during the price negotiations, which could be different than Aruba’s fair value as of closing. Addressing a similar issue in the Union Illinois case, Chief Justice Strine described the temporal gap as a “quibble” and “not a forceful objection,” noting that “[t]he negotiation of merger terms always and necessarily precedes consummation.”484 Observing that “[n]othing in the record persuades me that [the company] was more valuable by [closing] than it was when the Merger terms were set,” he continued to use the deal price as an indicator of value.485 Similarly in this case, neither side proved that Aruba’s value had changed materially by closing, so this decision sticks with the unaffected market price and the deal price less synergies.
For Aruba, using its unaffected market price provides the more straightforward and reliable method for estimating the value of the entity as a going concern. I could strive to reach the same endpoint by backing out shared synergies and a share of value for reduced agency costs, but both steps are messy and provide ample opportunities for error. For Aruba, the unaffected market price provides a direct estimate of the same endpoint. Rather than representing my own fallible determination, it distills “the collective judgment of the many based on all the publicly available information about a given company and the value of its shares.” “[T]he price produced by an efficient market is generally a more reliable assessment of fair value than the view of a single analyst,” particularly when a trial judge is playing the analyst’s role.
This approach does not elevate “market value” to the governing standard under the appraisal statute. The governing standard for fair value under the appraisal statute remains the entity’s value as a going concern. For Aruba, the unaffected public market price provides the best evidence of its value as a going concern.
In this case, the best evidence of Aruba’s fair value as a going concern, exclusive of any value derived from the merger, is its thirty-day average unaffected market price of $17.13 per share. I recognize that no one argued for this result. I also recognize that the resulting award is lower than Aruba’s proposed figure of $19.75 per share. That figure relied on its expert’s discounted cash flow analysis, which this decision has found unpersuasive.
“When … none of the parties establishes a value that is persuasive, the Court must make a determination based on its own analysis.” The appraisal statute requires that “the Court shall determine the fair value of the shares.” This means that I must reach my own, independent determination of fair value. That determination is $17.13 per share.
via Morris James
In a recent podcast, the Columbia Law School BlueSky Blog features Delaware Vice Chancellor Laster – whose appraisal decisions we have covered repeatedly – discussing the appraisal remedy. While the entire podcast is certainly worth a listen, some important topics include the history of appraisal (~1:30); when markets may depart from fair value (~5:50); how appraisal may act as a reserve price (~9:30); the discovery burden in appraisal (~14:20); interest rates and the relevance of interest (~21:30); how to determine fair value (~23:30); and the future of appraisal (~29:00).
- Merion Capital, LP, et al. v. Lender Processing Services, Inc., C.A. No. 9320-VCL, memo. op. (Del. Ch. Dec. 16, 2016)
“… [T]the figure of $38.67 per share is my best estimate of the fair value of the Company based on the DCF method.
… As noted, a DCF analysis depends heavily on assumptions. Under the circumstances, as in [Merlin Partners, LP, et al. v. AutoInfo, Inc., C.A. No. 8509-VCN, memo. op. (Del. Ch. Apr. 30, 2015),] and [Merion Capital, LP, et al. v. BMC Software, Inc., C.A. No. 8900-VCG, memo. op. (Del. Ch. Oct. 21, 2015)], I give 100% weight to the transaction price.”
Evaluating the reliability and persuasiveness of the deal price for purposes of establishing fair value in an appraisal proceeding is a multifaceted, fact-specific inquiry. The relevant factors can vary from case to case depending on the nature of the company, the overarching market dynamics, and the areas on which the parties focus. The last is perhaps an underappreciated aspect of appraisal jurisprudence. Because an appraisal decision results from litigation in which adversarial parties advance arguments and present evidence, the issues that the court considers and the outcome that it reaches depend in large part on the arguments that the advocates make and the evidence they present. An argument may carry the day in a particular case if counsel advance it skillfully and present persuasive evidence to support it. The same argument may not prevail in another case if the proponents fail to generate a similarly persuasive level of probative evidence or if the opponents respond effectively.
Quadrant Structured Products Co. v. Vertin, 2015 WL 2062115 (Del. Ch. May 4, 2015):
Plaintiff Quadrant Structured Products Company, Ltd. (“Quadrant”) owns debt securities issued by defendant Athilon Capital Corp. (“Athilon” or the “Company”), a Delaware corporation. Quadrant contends that Athilon is insolvent and has asserted derivative claims for breach of fiduciary duty against the individual defendants, who are members of Athilon’s board of directors (the “Board”).
To bring a derivative action, a creditor-plaintiff must plead and later prove that the corporation was insolvent at the time the suit was filed. This decision also rejects the defendants’ attempt to establish irretrievable insolvency as the metric for determining when a creditor has standing to sue derivatively. To bring a derivative action, the creditor-plaintiff must plead and later prove insolvency under the traditional balance sheet or cash flow tests. See
For purposes of summary judgment, there is evidence which, when viewed in favor of the non-moving party, supports a reasonable inference that Athilon was insolvent at the time Quadrant filed suit. The defendants’ motion for summary judgment on the breach of fiduciary duty claims is therefore denied.
In light of this obligation, it is the duty of directors to pursue the best interests of the corporation and its common stockholders, if that can be done faithfully with the contractual promise owed to the preferred. Put differently, generally it will be the duty of the board, where discretionary judgment is to be exercised, to prefer the interests of the common stock as the good faith judgment of the board sees them to beuto the interests created by the special rights, preferences, etc. … of preferred stock. This principle is not unique to preferred stock; it applies equally to other holders of contract rights against the corporation. Consequently, as this court observed at the motion to dismiss stage, in circumstances where the interests of the common stockholders diverge from those of the preferred stockholders, it is possible that a director could breach her duty by improperly favoring the interests of the preferred stockholders over those of the common stockholders.
(footnotes, citations and internal quotation marks omitted)
via Delaware Business Litigation Report, PWRWG