Lock-Up Creep

Article excerpt

"customary" is documented on the chart set forth in Appendix A. The chart summarizes each Chancery Court decision involving a challenge to lock-ups decided since Omnicare through May 21, 2013 and is available on Westlaw. It reveals that, despite the expert testimony in Toys "R" Us, the Delaware Court of Chancery has repeatedly upheld termination fees within a 2% to 4% range. (112) In fact, according to Factset Mergermetrics, the average termination fee during the period from 2008 and 2012 was 3.52% of transaction value and the median termination fee was 3.41% of transaction value. (113) Moreover, the Court of Chancery has repeatedly upheld matching rights periods of between two and five business days. (114)

The Chancery Court's deferential approach to lock-ups in the wake of Toys " R" Us was illustrated two years later in Louisiana Municipal Police Employees' Retirement System v. Crawford (115) Relying on Toys "R " Us in its discussion, the court explained that there was no bright line rule that dealmakers must follow in designing deal protection devices. (116) More specifically, the court enumerated factors it would consider when examining termination fees, including:

   the overall size of the termination fee, as well as its percentage
   value; the benefit to shareholders, including a premium (if any)
   that directors seek to protect; the absolute size of the
   transaction, as well as the relative size of the partners to the
   merger; the degree to which a counterparty found such protections
   to be crucial to the deal, bearing in mind differences in
   bargaining power; and the preclusive or coercive power of all deal
   protections included in a transaction, taken as a whole. (117)

once again, the court warned that dealmakers should not rely on a "3% rule," which, although it may be "convenient ... it is simply too blunt an instrument, too subject to abuse, for th[e] [c]ourt to bless as a blanket rule." (118) The court also cautioned that dealmakers could not "rely upon some naturally-occurring rate or combination of deal protection measures, the existence of which will invoke the judicial blue pencil." (119) Instead, plaintiffs challenging deal protections would need to show how those deal protections "operate in an unreasonable, preclusive, or coercive manner, under the standards of this Court's Unocal jurisprudence, to inequitably harm shareholders." (120)

But while this rhetoric opens up some avenue for shareholders to challenge lock ups, a review of the cases shows in reality that the Delaware Chancery Court has repeatedly signed off on merger agreement lock-ups without significant scrutiny. (121) Chancellor Strine's decision in Toys "R" Us arguably remains one of the only Court of Chancery opinions in which the deal protection provisions were not automatically approved as standard. In contrast to Toys " R" Us, the majority of the Chancery Court decisions tend not to engage in a detailed analysis of the deal facts or otherwise cite to expert testimony. Even when there is some modicum of scrutiny, it is not focused on the full panoply of lock-ups but rather on the most significant ones with a particular focus on the termination fee. (122) This lack of a detailed analysis may well be attributed to the context in which most lock-up challenges are brought. Namely, the overwhelming majority of these cases are brought on a motion for a preliminary injunction, and the standard applied to obtain a preliminary injunction places the burden of proof on the plaintiff at each step of the analysis. (123) Thus, it is the plaintiff who must submit expert testimony as to the preclusive or coercive nature of the lock-ups. With the dramatic increase in takeover litigation in recent years, expecting plaintiffs to produce expert testimony and evidence may be too much when most cases settle. This is particularly true in light of the Delaware court's inherent skepticism of expert witness testimony, which creates an obstacle against putting forth such testimony. …

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