Recent Delaware Chancery Court Decisions Impacting M&A Transactions
The Delaware Chancery Court's recent rulings in Crispo v. Musk, West Palm Beach Firefighters v. Moelis & Company, Chordia v. Lee, and Sjunde AP-fonden v. Activision Blizzard, Inc. have significant implications for merger and acquisition (M&A) practitioners. This blog will summarize these decisions and discuss the proposed statutory changes by the Delaware Bar in response.
Crispo v. Musk
In Crispo v. Musk, the court addressed the issue of when a target company can claim premium damages if a buyer defaults on an acquisition agreement. When a public company is targeted in an acquisition, its board of directors acts as agents for shareholders who will receive the merger consideration, often at a premium. However, if the buyer breaches the agreement, the target company typically can only claim lost transaction costs, not the lost premium.
To mitigate this, targets can negotiate a “Con Ed clause,” which holds the buyer liable for lost premium if they wrongfully exit the deal. This clause, named after Consolidated Edison, Inc. v. Northeast Utilities, has been ambiguous until Crispo v. Musk. The Twitter acquisition agreement included a Con Ed clause, and when Musk attempted to back out, Crispo, a Twitter shareholder, sued for specific performance or damages.
The Chancellor ruled that Crispo lacked standing to sue for specific performance but could potentially claim damages under the Con Ed clause. The court clarified that the target company (Twitter) itself could not enforce the clause to obtain premium damages because only shareholders expect to receive the premium. The court suggested that to enforce such provisions, shareholders should be granted third-party beneficiary rights, allowing them to sue directly for lost premium.
West Palm Beach Firefighters v. Moelis & Company
In this case, the Delaware Chancery Court invalidated provisions in a stockholders' agreement that granted a company founder pre-approval rights over governance decisions, including stock issuances, financings, dividend payments, and senior officer appointments. The founder also had the right to designate a majority of the board members and required the company to recommend shareholders vote for the founder’s candidates.
The court found these provisions violated Section 141(a) of the Delaware General Corporation Law (DGCL), which mandates that the business and affairs of a corporation are managed by or under the direction of its board of directors. The court ruled that these provisions rendered the board powerless, which contravened Section 141(a). However, the court noted that if such provisions were included in the company’s certificate of incorporation, they would be enforceable.
This decision is significant for M&A practitioners because it challenges the enforceability of negative covenants and pre-approval governance obligations often imposed by investors and merger counterparts. Adding these provisions to the certificate of incorporation requires shareholder approval, which can be difficult for publicly held companies.
Chordia v. Lee
Chordia v. Lee involved a shareholder agreement with an “Efforts Clause” requiring the corporation to use reasonable efforts to effectuate the rights granted under the agreement. The court ruled that this clause took precedence over other contractual rights, particularly where those rights would interfere with the Efforts Clause.
The agreement allowed Key Holders who remained officers or employees to designate directors. The court found that the corporation could not terminate these Key Holders without violating their board designation rights. Unlike West Palm Beach Firefighters v. Moelis & Company, the Efforts Clause bound the corporation, not its Board of Directors, so Section 141(a) was not an issue.
This case highlights potential conflicts between majority stakeholders and key stockholders regarding strategic direction, IPO timing, related party agreements, and corporate culture. Shareholder agreements must be carefully drafted, as the Delaware Chancery Court scrutinizes provisions that restrict a board’s fiduciary obligations.
Sjunde AP-fonden v. Activision Blizzard, Inc.
In Sjunde AP-fonden v. Activision Blizzard, Inc., the court refused to dismiss a complaint against Activision Blizzard's board for violating several DGCL provisions during a merger transaction. The plaintiff alleged the board approved a late-stage draft of the merger agreement instead of the final version, improperly delegated authority to a board committee, and failed to provide a summary of the agreement in the shareholder meeting notice.
The court agreed that approving late-stage, but not final, versions of agreements is standard practice but found key material provisions were missing. The court emphasized that Section 251(b) requires a board to approve an essentially complete version of the merger agreement. The court also ruled that delegating authority to finalize key terms without full board approval violated the DGCL.
Statutory Changes Proposed by the Delaware Bar
In response to these decisions, the Delaware Bar has proposed several statutory amendments to the DGCL:
Amendment to Section 122: Allows corporations to enter governance agreements with stockholders, restricting the corporation's actions under specified conditions, requiring specified approvals, and covenanting actions by designated persons or bodies.
New Section 147: Permits the board of directors to approve agreements in final or substantially final form.
New Section 261(a)(1): Enables target companies to seek damages, including lost premium damages, against buyers failing to perform obligations under merger agreements.
New Section 261(a)(2): Allows stockholders to appoint representatives to enforce rights related to merger consideration, escrow, indemnification, and settlements through merger agreements.
These proposed changes aim to address the legal uncertainties and practical challenges highlighted by the recent Chancery Court decisions.