Legal Shaping of Deals

1. Legal Shaping of Deals Chapter 3

2. M&A law provides powerful tools • For deal planners, a “higher level programming language” • For example, Del. Section 259 . . .

3. Assigning contracts versus merging target and acquiring corporations Assign contracts 1 by 1 . . . V. Target Acquiror Merges w/

4. M&A law provides powerful tools • Planners can use separate legal entities • Corps, but also LLCs, LPs, offshore entities, foreign corps, etc.

5. For limited liability for example . . . Acquiror/Parent Limited liability wall; “corporate veil” Target/Sub

6. M&A law provides powerful tools • For policy makers, a “higher level language” • Regulations applied to acquisition-type transactions • Shareholder rights • Disclosure (securities reg) • Antitrust

7. The three simplified M&A legal rules • Directors rule most of the time • Shareholders check directors, but only 3 ways: vote, sell, and sue • Courts check agency power via fiduciary duty

8. Directors rule (most of the time) • Section 141, DGCA; Section 8.01(b), MBCA • Power includes hiring & firing, product decisions, compensation contracts, issuing shares and other securities • Business Judgment Rule • Negotiate on behalf of the s/h • But decisions are subject to rules . . .

9. Shareholders check directors • S/h elect directors once a year (w/ additional limitations); • vote on mergers and other fundamental changes; • s/h have power to amend bylaws in some situations • S/h can sell their shares, in market or in takeover • S/h can bring suit as part of judicial function • Shareholders best positioned as [residual claimaint?] to carry out this function

10. Judicial review to check agency power via fiduciary duty • Courts constrain directors with f-duty of care and loyalty

11. Statutory merger – the template • First 3 subsections of Section 251: • Any 2 corps may merge subject to agreement • The board of each corp shall adopt a resolution approving merger • Agreement shall be submitted to the s/h of each corp • Section 262(a) requires appraisal right be given

12. Statutory merger – the template • Agreement or plan of merger • Approval of plan by each BOD • Adoption of plan by s/h of each corp • (unless acquiring corp issuing less than 20 percent of new shares) • Exit rights of s/h

13. possible forms of acquisition • Merger – the touchstone legal form – Arm’s Length (No prior Acquirer [A] & Target [T] relationship) – Triangular (T Corp merges into A subsidiary) – Reverse Triangular (A Sub merges into T Corp) – Cash‐out (A Corp. already owns > 50%; merges T into a shell subsidiary of A)

14. Possible forms of acquisition • Sale of Assets (Contract between A & T Corp.) • Tender Offer (A Corp. offer to T shareholders; A will own majority of T stock) • Two‐Step (Tender offer for 51% followed by cash‐out merger for remaining 49%).

15. consider the multitude of mergers that are provided by statute See appendix (page 533) • 251‐ Merger of domestic corporations • 252 Domestic & foreign • 253 Parent & subsidiary • 254 Domestic & joint stock • 255 Domestic & non‐stock • 256 Domestic & foreign non‐stock • 257 Domestic stock & non‐stock • 258 Domestic & foreign; stock & non‐stock • 259 Status, rights, etc. • 260 Powers of merged corporation • 261 Effect on Suits • 262 Appraisal • 263 Domestic & Limited Partnership • 264 Domestic & LLC • 271 Sale of Assets

16. The Merger form as acquisition template • Where is a good place to start? • Section 251 -- Most requirements; most “protective” • Alternative forms allow ways around stat merger requirements

17. Delaware General Corporations Law Section 251 • Any 2 corporations may merge pursuant to an agreement of merger. • The board of directors of each corporation shall adopt a resolution approving an agreement of merger. • The agreement shall be submitted to the stockholders of each constituent corporation. http://delcode.delaware.gov/title8/c001/sc09/index.shtml#251

18. Del. 251 Merger requirements • Agreement or plan of merger • Approval of plan by BOD of both corps • Adoption of plan by s/h of both corps • Exit rights for s/h (262) • How different from usual rule?

19. “the board” of the eight legal effects of stat merger 1. A Corp. Board 3. A SHs Vote 5. A SHs Exit 2. T Corp. Board 4. T SHs Vote 6. T SHs Exit 7. T Liabilities assumed by A? [8. Taxes Currently Due] For each alternative to a 251 statutory merger, some of the requirements above may be avoided.

20. Basic deal variations • Statutory merger (or just “merger”) • Sale of Assets • Triangular merger • Reverse triangular merger • Tender offer

21. For each transaction form, ask yourself. . . • who ends up with control of the business and assets of the target? • The answer is always the board of the acquiring firm, sometimes through a controlled subsidiary. • What are the roles of directors of the two companies? • What are the roles of the shareholders of the two companies? • (this is going to include both voting and exit via appraisal) (4) What is the role for courts and the government?

22. Merger (Del. 251) Acquirer Corp. Merges “with & into” Target Corp.

23. Requirements for Stat. Merger • Required: plan of merger • Who is the surviving corporation? • What do T s/h get in exchange for T shares (exchange ratio) • Board approval (both boards) 251(b) • s/h approval (both corps) 251(c) • Shareholder exit – 262 • Cash-out merger T s/h still have appraisal rights in Del. (kinda weird)

24. Appraisal exception • Complex • You get appraisal rights, unless you are getting stock that is publically tradable (262(b)(1) • This is “market out exception” • But there is an exception to this exception • 262(b)(2) reverses exception if receiving anything other than specified types of consideration, including • Shares of the surviving corp • Shares of any other public corp • Cash in lieu of fractional shares (pre-computer language) • Long story short – Appraisal is preserved for cash-out merger

25. Sale of Assets Assets Acquiror Target Stock A Stock to T s/h in dissolution of T

26. Sale of Assets is financial equivalent of Merger A Corp T dissolves . . . Former T assets Former T s/h who are now A s/h

27. legal effects of asset sale (§271) • A Corp. Board Approval (§141) 3. A SHs Vote [no vote required] 5. A SHs Exit [no appraisal right under §262] 2. T Corp. Board Approval (§141) 4. T SHs Vote §271 requires 6. T SHs Exit [no appraisal right under §262] 7. T Liabilities assumed? [8. Taxes Currently Due]

28. Regulatory Arbitrage effectsMerger v. Asset Sale • Del. 271 requires s/h approval by Seller corp. (T) if selling “substantially all its assets” • But no s/h approval required for A corp. • Seller s/h have no appraisal rights in 271 sale • (This is Del. Most states they do)

29. Forward Triangular Merger A Corp • T corp merges w & into A Sub; • T corp disappears; • T s/h get A stock or cash A shares (or cash) S shares Acquisition Sub T Corp

30. legal effects of FTM • AS Corp. Board • Approval (§141) • No formal role for A BOD 3. AS SHs Vote • Formality; A owns 100% • No role for A s/h 5. A SHs Exit no appraisal right for A s/h 2. T Corp. Board Approval (§141) 4. T SHs Vote required §251 6. T SHs Exit 7. T Liabilities insulation for A [8. Taxes Currently Due]

31. Reverse Triangular Merger A Corp • S corp merges w & into T Sub; T survives • S corp disappears; • T s/h get A stock or cash A shares (or cash) S shares Acquisition Sub T Corp

32. legal effects of RTM • AS Corp. Board • Approval (§141) • No formal role for A BOD 3. AS SHs Vote • Formality; A owns 100% • No role for A s/h 5. A SHs Exit no appraisal right for A s/h 2. T Corp. Board Approval (§141) 4. T SHs Vote required §251 6. T SHs Exit appraisal 7. T Liabilities insulation for A [8. Taxes Currently Due]

33. End stateFTM v. RTM Forward Triangular Merger Reverse Triangular Merger A Corp. A Corp. S Corp T Corp

34. Why do FTM or RTM? • FTM • Avoids A s/h vote • A share prices often fall • Provides liability insulation • Good management structure • RTM • Avoids A s/h vote • Liability insulation • Allows asset transfer if FTM would violate alienation restriction (leases, contracts, licenses)

35. Tender offers Acquirer Target T shares A shares Target s/h [Note: TO’s usually for cash; using shares for share TO here to simplify illustration]

36. Tender offers • A offers to buy T stock from T s/h for A stock or cash • A gains control of T as majority s/h up to 100% • A uses control of T board to control T assets • Frequently will follow with merger of T into A or A sub, often for cash • Williams Act (1968 ammendment to 1934 Act) regulates tender offers

37. legal effects of TO 1. A Corp. Board • Approval (§141) 3. A SHs Vote • No (w/ exceptions) 5. A SHs Exit • no appraisal 2. T Corp. Board - Not required, but defenses 4. T SHs Vote • not formal vote • “vote with feet” 6. T SHs Exit • no appraisal 7. T Liabilities • insulation for A [8. Taxes Currently Due]

38. De facto merger doctrine vs. equal dignity (Del.) doctrine • Hariton v. Arco Electronics (Del. 1963) • Arco agrees to sell all assets to Loral for 283K shares of Loral • Arco s/h to approve plan and dissolution • Arco to distribute L shares to s/h

39. Hariton v. Arco electronics Step one Arco Arco dissolves Loral Distributes L stock to A s/h A assets Assets L stock L stock Loral Step two

40. Hariton v. Arco • At s/h meeting, all Arco shares voting (80%) approved. • Vote required under Del. 271 and 275 (dissolution) • Plaintiff argues this was really a merger, not asset sale – a de facto merger • But because asset sale, plaintiff got no appraisal right • Court rules sale of asset statute and merger statue of “equal dignity” • transaction may be structured either way.

41. Farris v. Glen Alden Corp. (Pa. 1958) • GA to acquire all assets of List • GA to issue 3.6M GA shares to List • List to distribute this stock to its s/h • ratio 5 GA shares for 6 L shares • GA has to increase authorized shares from 2.5M to 7.5M shares (with no preemptive rights) • GA to assume all List liabilities • GA to change name to List Alden • L dissolved and LA carries on business of GA and L

42. Farris v. Glen Alden Corp. (Pa. 1958) Step one Step two Step three List dissolves GA List distributes GA stock to L s/h 5:6 L assets & liabilities GA stock List • GA changes name to LA • Carries on GA and L business This step requires GA s/h approval

43. Farris v. Glen Alden Corp. (Pa. 1958) • GA s/h complains he did not get right to dissent and get appraisal • Court ruled deal was “de facto merger” • See p. 39 last paragraph

44. Terry v. Penn Central Corp. • Penn Central went through Ch. 11 in 1978 and had large loss carry-forwards • Planned to carry on series of acquisitions • 1981, Colt was target • Plan was to merge Colt into PCC Holdings, wholly owed sub of PC • Terry objected, sued. Plan abandoned • But court still reviews, ruling it was not moot (?)

45. Terry v. Penn Central Corp. • Terry & Hunt argue merger of PCC and Colt would be de facto merger of Penn Central and Colt • Therefore they should get dissent & appraisal rights

46. Terry v. Penn Central Corp. Terry & Hunt Penn Central s/h Penn Central • Penn Central stock = merger consideration • Requires PC s/h vote – why? 100% Sub Colt PCC Holdings Merge w/ & into

47. Terry v. Penn Central Corp. • PBCL 908 – only s/h of corps actually merging get D&A rights, unless covered by PBCL 311 • PBCL 311 says s/h of other corp also get D&A rights if so many shares of that corp issued that holders of new shares could elect majority BOD • In proposed deal, Penn Central shares to be issued not so many • So for Penn Central s/h to have D&A rights, Ct would have to apply de facto merger doctrine, and it refuses • Penn state legislature had rejected de facto merger doctrine.

48. Questions • What were the economic rationales of these deals (respectively)? • What merger requirements were planners trying to avoid by structuring deals as asset sales? • Why are firms so reluctant to pay appraisals to dissenting s/h?

49. More Questions • In the GA case, who was acquiring whom? • Why was deal structured as “real seller” as the buyer? • Does it make sense to give target s/h in asset deals more protection than acquirer s/h? (hint: what is a “final period problem”) • Why do PC s/h have to vote to approve triangular transaction?

50. Time Warner deal as example • Time Warner deal was changed from a Time – Warner triangular merger (Warner to merge with Time merger sub) into a TO by Time for Warner shares • This done when Paramount made competing cash bid for Time shares at big premium over Time Warner terms • TO would have made Time parent of W • Why restructure this way?