25th Annual Ruby R. Vale Interschool Corporate Moot Court Competition

Benjamin P. Chapple

Widener’s Institute of Corporate & Business Law, in partnership with the law school’s Moot Court Honor Society, hosted the 25th Annual Ruby R. Vale Interschool Corporate Moot Court Competition.  This year’s competition included a geographically diverse set of competitors, hailing from twenty different law schools.  The competition lasted four days, with the final round on March 17, 2013, judged by Delaware Supreme Court Justice Jack Jacobs, Justice Joseph Walsh (retired), Vice Chancellor J. Travis Laster, Vice Chancellor Sam Glasscock, and Judge Jed S. Rakoff of the United States District Court for the Southern District of New York.  We are extremely thankful for their generous participation.  Judge Rakoff also provided a Distinguished Scholar Lecture, in which he discussed the International Court of Commerce of Iraq and the heroism of the judges of that court who do their part to promote economic stability despite daily threats of assassination.  A summary of this year’s moot court problem and a list of award recipients are provided below.

The case appealed from involved the use of a “Don’t Ask, Don’t Waive” standstill agreement in the context of the sale of an entire company, Callison Inc., that is controlled by its 72% stockholder, Allen.  Because Allen needed funds to purchase another business—which it is contractually obligated to buy—it became interested in monetizing its 72% stake in Callison.   Allen approached Callison’s board of directors, expressing its interest in selling its holding through a sale of the entire company, and the Board—after forming an independent special committee—initiated a sale process for the Company that involved a private canvassing of the market of likely potential suitors.  Of the suitors identified, only six agreed to sign a DADW standstill.  Each of these six suitors was afforded a one-time opportunity to submit their highest and best bid to acquire the entire Company; however, each was contractually prevented—as a result of the DADW—from (1) making any further offers and (2) asking Callison’s Board for permission to do the same.

As a result of the bidding process, Vicente emerged as the highest bidder.  The Board and Vicente entered into a merger agreement that provided for a market check, but notably excluded the five unsuccessful bidders from participating in the market check.  One of these five unsuccessful bidders, Galena, approached Callison’s Board and privately requested that it waive the DADW provision so as to permit Galena to make a topping bid.  The Board, after consulting legal counsel, however, held firm to the DADW and rejected Galena’s offer.  As a result of this rejection, Galena took two actions.  First, it filed suit challenging the validity of the DADW standstill agreement, in which Galena sought a preliminary injunction to prevent Callison and/or Callison’s Board from attempting enforcement.  Second, on the same day, Galena launched a tender offer for $35.50—which is $1.50 more than the Vicente offer, representing a premium in excess of $120 million—conditioned on, inter alia, the judicial invalidation of the DADW standstill agreement. ­

In the hypothetical moot court problem, the Court of Chancery found the challenged DADW provision to be unenforceable under the Revlon/QVC “range of reasonableness” standard—thereby enjoining enforcement of the provisions.  Accordingly, it was unnecessary for the Court of Chancery to consider Galena’s argument that the more exacting entire fairness should apply.  The Delaware Supreme Court accepted an interlocutory appeal from the preliminary injunction order.   The appeal implicated two principal issues relating to the fiduciary duties of the directors of a Delaware corporation in relation to the sale of the company.  Both issues arose from the Board’s decision to accept Vicente’s indisputably lower offer in reliance upon the DADW agreement.

The first issue was the validity of the DADW standstill agreement as a matter of Delaware law.  Previous decisions of the Court of Chancery have examined this question, and concluded that these provisions are highly problematic.  In these prior decisions, the view has been that DADW standstill agreements “collectively operate to ensure an informational vacuum,” and prevent the board of directors from satisfying their duty to take care and remain informed of all material information reasonably available.  Additionally, past decisions have found that DADW provisions prevent the board from satisfying its ongoing statutory and fiduciary obligation to provide a current, candid, and accurate merger recommendation to the shareholders.  Notably, however, the Court of Chancery’s most recent decision that addressed the question—In re Ancestry.com—made clear that (1) these provisions are not per se invalid, and (2) the Court is “not prepared to rule out that [these provisions] can’t be [properly] used for value-maximizing purposes.” In re Ancestry.com Transcript, at 23.

Competitors, particularly in the final rounds, focused on Supreme Court precedent.  Appellants, on the one hand, argued that the Court has made clear that there is no single “blueprint” for the board to follow to satisfy Revlon‘s value maximization directive.  Additionally, Appellants stressed that the Appellee is a sophisticated party that knowingly entered into the DADW standstill.  Furthermore, Appellants argued the DADW standstills, here, were used in a value-maximizing manner, because the bidders were encouraged to put their best foot forward up front, thus preventing a costly protracted auction.  Appellees, on the other hand, argued that, although there is no single blueprint, Revlon and its progeny make clear that the Board’s role is to obtain the highest value reasonably available.  To that end, Appellees argued that the Callison Board’s decision to accept Vicente’s offer, which was more than $120 million less than the opposing offer, is clearly not value maximizing.  In response to Appellants’ reliance on the DADW standstill, Appellees argued contracts cannot limit a board’s fiduciary duties.  This issue, in large part, comes down to balancing two concepts: one, the Revlon/QVC directive that the target board must maximize shareholder value; and two, how much flexibility will the Court allow target boards in creating a value-maximizing sales process to satisfy this directive.

The second issue—whether the more exacting entire fairness standard should apply—arose because Callison’s majority shareholder, Allen, would incur $60 million in liquidated damages if he failed to close an independent business acquisition.  Relying on McMullin v. Beran, Appellee argued a conflict of interest was present because Allen (1) has an independent need for quick liquidity and (2) appointed all of Callison’s Directors.   Furthermore, Appellee argued that Allen dominated the sales process, making the special committee a “rubber stamp.”  Appellee’s argument, thus, implicates the duty of loyalty.  Appellants denied there was any disqualifying conflict.  They emphasized that under the Vicente offer Allen would be receiving the identical consideration (on a per share basis) as the minority, in a transaction that resulted from a deliberative process, involving a well-functioning independent special committee, which included an effective market check that allowed other topping bids to come forward to ensure value maximization.  Appellees cogently argued, however, that the market check was illusory because it excluded those most likely to making a topping bid—the DADW-bidders.

Although there were many great competitors at this year’s competition, we would like to specifically recognize:

1st Place 

Georgetown University Law Center 

Jeffrey DeSousa

Allyson Poulos

2nd Place

Brooklyn Law School

Andrew Ceppos

Tricia Lyon

The Donald E. Pease Best Brief Award

Michigan State University College of Law

Jeffrey Hayden

Jeffrey Mann

William Selesky

Best Oral Advocate

Georgetown University Law Center

Jeffrey DeSousa

 

Kallick v. SandRidge: Proxy Put Preliminarily Panned

Chancellor Strine’s March 8, 2013 opinion in Kallick v. SandRidge Energy is a welcome reaffirmation and clarification of director duties in relation to takeover deterrents built into otherwise customary commercial transactions—in this case, a put right (the “Proxy Put”) in the company’s credit agreements that would require the company to refinance debt in the event of a change in the majority of the board not approved by a majority of the pre-existing directors.

Responding to a dissident hedge fund’s consent solicitation to replace the board, the company (SandRidge) made the (in hindsight) grievous error of warning its stockholders that replacing the board could result in “mandatory refinancing of [a] magnitude [that] would present an extreme, risky and unnecessary financial burden” on the company. Talk about playing right into the dissident’s hands! You don’t have to be as smart as Chancellor Strine to figure out that this great a burden on the electoral franchise requires some explanation. Who agreed to it? Why? And why can’t the burden be avoided? The company later tried to ride a different horse, claiming that the Proxy Put was no problem after all, because refinancing would be easy and inexpensive – a better argument in light of Unocal, of course, but regrettably awkward in light of the company’s prior position .

Those first two questions—how and why did the Proxy Put get there in the first place?—didn’t get much of an answer in the record. The Chancellor usefully reminded transactional lawyers, however, that playing with matches like the Proxy Put requires some care: “the independent directors of the board should police aspects of agreements like this, to ensure that the company itself is not offering up these terms lightly precisely because of their entrenching utility, or accepting their proposal when there is no real need to do so.” SandRidge’s lawyers involved in negotiating the credit agreements may have missed that message from the Court’s 2009 opinion in San Antonio Fire & Police Pension Fund v. Amylin Pharms., Inc., 983 A.2d 304, 315 (Del. Ch. 2009) (“The court would want, at a minimum, to see evidence that the board believed in good faith that, in accepting [a Proxy Put], it was obtaining in return extraordinarily valuable economic benefits for the corporation that would not otherwise be available to it.”).

In any event, what was done was done. The real question in the case was not how the Proxy Put got there, but what to do about it. The premise from which the Chancellor approached the question was that the board could “approve” the dissident candidates for purposes of the Proxy Put (and thereby avoid triggering it) without endorsing their candidacy. The question then became whether there was any reason not to grant such limited approval, and that’s where the defendants’ proof fell totally to the ground. The Court noted that there was nothing in the record to “indicate[] that any incumbent board member or incumbent board advisor has any reasonable basis to dispute the basic qualifications of the [dissident] slate.” And the board’s financial advisor conceded that approving the dissident slate for purposes of the proxy put wouldn’t breach any obligation to the creditors.

And most notably, the Court found that:

[T]he incumbent board and its financial advisors have failed to provide any reliable market evidence that lenders place a tangible value on a Proxy Put trigger—not a change in board composition accompanying a merger or acquisition or another type of event having consequences for the company’s capital structure, but a mere change in the board majority.

It was this failure of proof that was defendants’ undoing, given the application of a legal standard of enhanced scrutiny that requires the defendants to demonstrate at least some justification for insisting on maintaining whatever deterrent effect the Proxy Put imposed on the stockholder vote. Summarizing the governing legal rules, the Chancellor explained:

By definition, a contract that imposes a penalty on the corporation, and therefore on potential acquirers, or in this case, simply stockholders seeking to elect a new board, has clear defensive value. Such contracts are dangerous because, as will be seen here, doubt can arise whether the change of control provision was in fact sought by the third party creditors or willingly inserted by the incumbent management as a latent takeover and proxy contest defense. Unocal is the proper standard of review to examine a board’s decision to agree to a contract with such provisions and to review a board’s exercise of discretion as to the change of control provisions under such a contract.

The Court’s approach to relief bought into a nuanced alternative thoughtfully put forward by plaintiff, who had originally asked for an order requiring the board to approve the dissidents’ candidacies for purposes of the Proxy Put. Recognizing that such affirmative, mandatory relief is an uncomfortable, extraordinary thing for a court to award, the plaintiff alternatively (but no less effectively) sought an order preventing the company from soliciting revocations of stockholder consents so long as the board was declining to approve the dissidents’ candidacies. And that’s exactly what the Court granted.

SCOTUS Concludes Proof of Materiality is Not a Prerequisite to Certification of a Securities-Fraud Action Alleging Violations of §10(b) and Rule 10(b)–5

Benjamin P. Chapple

On February 27, 2013, the United States Supreme Court, in Amgen, Inc. v. Connecticut Retirement Plans and Trust Funds, a 6-3 decision, concluded that proof of materiality is not a prerequisite to certification of a securities-fraud action that alleges violations of §10(b) or Rule 10b–5.  Below is a summary of the Court’s decision.

In all private securities-fraud actions brought under §10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b–5, the plaintiff must prove, inter alia, that it relied on a misrepresentation or omission of material fact that was made by the defendant.  In Basic v. Levinson, the United States Supreme Court concluded “requiring proof of direct evidence ‘would place an unnecessarily unrealistic burden on [a] plaintiff who has traded on an impersonal market.'” Slip Op. at 1 (quoting Basic).  In order to facilitate the certification of securities-fraud class actions, the Court in Basic fashioned the fraud-on-the-market (“FOTM”) theory.  The premise of this theory is that the price of a security that is traded in an efficient market will reflect all publicly available information about a company; therefore, one who purchases a security that trades in an efficient market will be presumed to have relied on that information in purchasing the security.  Additionally, “because immaterial information, by definition, does not affect the market price, it cannot be relied upon indirectly by investors who, as the [FOTM] theory presumes, rely on the market price’s integrity.” Slip Op. at 10.  As a result, the FOTM theory is inapplicable absent a showing that the misrepresentation or omission was in fact material.

Invoking the FOTM theory, Connecticut Retirement Plans and Trust Funds (“Plaintiff”) sought certification of a securities-fraud class action under Federal Rule of Civil Procedure 23(b)(3) against biotechnology company Amgen Inc. and several of its officers (collectively, “Amgen”).  The Plaintiff claims that Amgen violated §10(b) and Rule 10b–5 when it made material misrepresentations and misleading omissions regarding the safety, efficacy, and marketing of two of Amgen’s flagship drugs.  As a result of these alleged misrepresentations and omissions, the Plaintiff contends that the price of Amgen’s stock was artificially inflated, until “the truth came to light” and the Plaintiff, among others, suffered financial losses.  The district court certified the class, and the Court of Appeals for the Ninth Circuit affirmed.  Amgen appealed, and the Supreme Court granted certiorari and heard oral argument on November 5, 2013.  The Court issued a 6-3 opinion, with Justices Thomas, Scalia, and Kennedy dissenting.

Because Amgen conceded (1) the efficiency of the market for the securities at issue, (2) the public character of the allegedly fraudulent statements on which the Plaintiff’s complaint is based, and (3) that the Plaintiff satisfied all of the class-action prerequisites stated in Rule 23(a), the issue presented to the Court concerned the requirement stated in Rule 23(b)(3) that “the questions of law or fact common to class members predominate over any questions affecting only individual members.” Put differently, as the Court stated, “the pivotal inquiry in this case is whether proof of materiality is needed to ensure that the questions of law or fact common to the class ‘will predominate over any questions affecting only individual members’ as the litigation progresses.”  Amgen claimed that to meet the predominance requirement, the Plaintiff must do more than “plausibly plead that Amgen’s alleged misrepresentations and misleading omissions materially affected Amgen’s stock price.”  According to Amgen, certification must be denied unless the Plaintiff proves materiality, because immaterial misrepresentations or omissions, by definition, would have no impact on Amgen’s stock price in an efficient market.  To this end, Amgen claimed the key question in this case was whether materiality is an essential predicate of the FOTM theory.

Although agreeing with Amgen that “materiality is an essential predicate” of the FOTM theory, the Court explained that the “pivotal inquiry” in this case is whether proof of materiality is needed to ensure that the questions of law or fact common to the class will “predominate over any questions affecting only individual members” as the litigation progresses. Slip Op. at 10 (citing Fed. R. Civ. P. 23(b)(3)).  The Court answered this question in the negative for two reasons; thereby holding that proof of materiality is not a prerequisite to  class certification.  First, because the question of materiality is judged according to an objective standard, viewing the significance of an omitted or misrepresented fact from the purview of a reasonable investor, materiality can be proved through evidence common to the class.  As a result, the Court concluded, materiality is a common question for Rule 23(b)(3). Slip Op. at 11 (quoting Basic, where the Court listed “materiality” as one of the questions common to the Basic class members).   Second, because materiality is an essential element of a Rule 10b–5 claim, if the Plaintiff fails to present sufficient evidence of materiality, individual reliance questions will not overwhelm the questions common to the class.  Instead, the Court concluded, if the Plaintiff failed to establish materiality, whether upon summary-judgment or at trial, it “would end the case for one and for all; no claim would remain in which individual reliance issues could potentially predominate.” Id.

As is usual with most recent decisions from the United States Supreme Court, the conclusion that proof of materiality is not a prerequisite to class certification was not unanimous.  However, before turning to the dissenting views of Justices Thomas, Kennedy, and Scalia, attention should be paid to Justice Alito’s concurring opinion.  Although brief, Justice Alito explains: “As the dissent observes, more recent evidence suggests that the [FOTM] presumption may rest on a faulty economic promise.  In light of this development, reconsideration of the Basic presumption may be appropriate.” Alito, J. Concurring Op. at 1.

 Justice Thomas dissented, with Justice Kennedy joining fully, and Scalia joining only in part.  Justice Thomas explained:

Without demonstrating materiality at certification, plaintiffs cannot establish Basic‘s fraud-on-the-market presumption.  Without proof of fraud on the market, plaintiffs cannot show the otherwise individualized questions of reliance will predominate, as required by Rule 23(b)(3).  And without satisfying Rule 23(b)(3), class certification is improper.  Fraud on the market is thus a condition precedent to class certification, without which individualized claims of reliance will defeat certification.

Moreover, Justice Thomas stated that the majority opinion “transform[ed] the predicate certification inquiry into a novel either-or inquiry occurring much later on the merits.”  To this end, he explained:

According to the [majority], either (1) plaintiffs will prove materiality on the merits, thus demonstrating ex post that common questions predominated at class certification, or (2) they will fail to prove materiality, at which point they will learn ex post that certification was inappropriate because reliance was not, in fact, a common question.  In the [majority’s] second scenario, fraud on the market was never established, reliance for each class member was inherently individualized, and Rule 23(b)(3) in fact should have barred certification long ago.  The [majority] suggests that the problem created by the second scenario is excusable because the plaintiffs will lose anyway on alternative grounds, and the case will be over.  But nothing in logic or precedent justifies ignoring at certification whether reliance is susceptible to Rule 23(b)(3) classwide proof simply because one predicate of reliance—materiality—will be resolved, if at all, much later in the litigation on an independent merits element.

In addition to joining in Justice Thomas’s dissent, Justice Scalia also wrote a separate dissenting opinion, which in part stated that he views the FOTM theory as governing not only the question of whether class certification is proper, but also the question of substantive liability. But see Thomas, J. Dissenting Op. at 11 (“The result [of the majority’s error] is that [it] effectively equates §10(b) materiality with fraud-on-the-market materiality and elides reliance as a §10(b) element.”).  In accord with Justice Thomas’s dissenting opinion, Justice Scalia wrote that, in his view, “it makes no sense to ‘presume reliance’ on the misrepresentation merely because the plaintiff relied on the market price, unless the alleged misrepresentation would likely have affected the market price—that is, unless it was material.”  Scalia, J. Dissenting Op. at 2.  Finally, recognizing the practical import of the majority’s decision, Justice Scalia explained how “[c]ertification of the class is often, if not usually, the prelude to a substantial settlement by the defendant because the costs and risks of litigating further are so high.”