Academic journal article Northwestern University Law Review

Deal-Protection Measures and the Merger Recommendation

Academic journal article Northwestern University Law Review

Deal-Protection Measures and the Merger Recommendation

Article excerpt


The Trans Union case, formally known as Smith v. Van Gorkom,1 is renowned for its application of the duty of care. In this Article, we ignore this famous holding to focus instead on another aspect of the decision. One of the more persistent and vibrant debates in the otherwise staid corridors of corporate law addresses the tension between the contract rights created by deal-protection measures in a merger agreement and the fiduciary duties of directors in responding to post-contracting events, with the classic example being the emergence of an arguably superior bid.2 In Van Gorkom, the Delaware Supreme Court addressed this issue and appeared to resolve the question squarely in favor of contract rights: A board's compliance with its fiduciary duties is judged at the time it approves a merger agreement, and a board's ability to act subsequently in response to post-contracting events is governed by the terms of the merger agreement, not by generalized concepts of fiduciary duty.3 Under the Van Gorkom framework, the only complication relates to the directors' duty of disclosure and the statutory requirement, under Section 251 of the Delaware General Corporation Law (the "DGCL"), that directors declare that a merger is advisable.4 Unlike a board's decision to approve the merger agreement itself, which becomes fixed at the point in time at which the board acts, the duty of disclosure and the obligation to issue a recommendation impose continuing obligations on the board of directors that extend from the time of contracting through the point of stockholder approvals It is thus possible, and indeed likely, that a board of directors will need to respond to post-contracting events to fulfill its fiduciary duties. This in turn has important implications for the validity of various deal-protection measures.

Practitioners seem well aware that the emergence of a superior bid may play a role in a target board's ability to continue recommending a merger from the time the merger agreement is approved to the time it is presented to the stockholders. Many practitioners and commentators, however, overlook the fact that other factors may play an equally significant role in causing a merger agreement to no longer be in the best interests of the corporation and its stockholders.6 In the classic law school example, the target could discover the world's largest deposit of gold under its headquarters, causing the value of the target to increase dramatically. Under such changed circumstances, provisions in a merger agreement that purport to bind a board of directors to recommend a merger can become problematic.


In Smith v. Van Gorkom,7 the Delaware Supreme Court established that Delaware law does not give directors, just because they are fiduciaries, the right to accept better offers, distribute information to potential new bidders, or change their recommendation with respect to a merger agreement even if circumstances have changed.8

A. The Van Gorkom Analysis

Van Gorkom involved a cash-out merger agreement that contained the following provision:

The board of directors shall recommend to the stockholders of Trans Union that they approve and adopt the Merger Agreement ("the stockholders' approval") and to use its best efforts to obtain the requisite votes therefor. GL acknowledges that Trans Union directors may have a competing fiduciary obligation to the shareholders under certain circumstances.9

Based on this language, the directors of the target corporation, Trans Union, argued that they had preserved the right to accept a better offer.10 The court did not agree, reasoning that such language could not be construed as incorporating the right to accept a better offer or the right to distribute information to third parties.11

The court next focused on amendments made to the merger agreement several weeks after the original merger agreement had been executed. …

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