The Death of Disclosure-Only Settlements

In 2014 and 2015, I discussed the prevalence of suits brought against public companies engaging in M&A. The frequency rate climbed to over 90 percent at one point, and we typically saw multiple suits filed in any one deal.

Fast-forward to the end of 2015: recent developments in Delaware could be causing this deluge of plaintiff litigation to at least start to recede.

According to research by Berkley Law on M&A litigation, “the rates of filings for completed and uncompleted transactions fell to 21.4 percent and a number of settlements were withdrawn” in the fourth quarter of 2015; the research links this downward trend to recent decisions made in Delaware.

Delaware’s Decision: A Nail in the Coffin

The drop off in filings is closely correlated to the Delaware Court of Chancery’s taking a firm position against allowing plaintiff attorneys to be awarded lucrative fees in exchange for “disclosure-only” settlements. The Chancery Court is no longer willing to approve of settlements in which plaintiff attorneys are awarded legal fees when they did nothing more for the shareholders they represent than force defendants to provide additional, and largely immaterial, disclosures about the M&A deal.

To be sure, sometimes, these additional disclosures surface problems or useful information about the deal, but oftentimes they do not.

Delaware Chancellors made some very strong statements against disclosure-only settlements from the bench during the last quarter of 2015. One of the more recent decisions with this stance involved the sale of Trulia, Inc. to Zillow, Inc.

In the Court opinion, dated January 2016, Chancellor Andre Bouchard first outlined the routine nature of the disclosure settlement in this particular M&A: Trulia providing its shareholders with additional disclosure in their proxy materials in order to aid shareholders in their decision of whether or not to vote for the transaction.

Chancellor Bouchard then directly addressed the problem of paying plaintiff attorneys for this type of settlement:

If approved, the settlement will not provide Trulia stockholders with any economic benefits. The only money that would change hands is the payment of a fee to plaintiffs’ counsel … For the reasons explained in this opinion, I conclude that the terms of this proposed settlement are not fair or reasonable because none of the supplemental disclosures were material or even helpful to Trulia’s stockholders, and thus the proposed settlement does not afford them any meaningful consideration to warrant providing a release of claims to the defendants. Accordingly, I decline to approve the proposed settlement.

If the plaintiff attorneys did so little for defendants, why were defendants willing to pay plaintiff attorneys to settle the case? At least two reasons provide a compelling motive for defendants to pay plaintiffs’ attorneys to make these cases go away:

1. Avoiding litigation risk in favor of deal certainty, and
2. Obtaining a broad release of claims

On the first point, it’s axiomatic that the very people who negotiated a merger deal would want to see it close. Letting the case go any further introduces the risk that the deal might not close for whatever reason.

On the second point, if directors and officers were to obtain a broad enough release, future claims concerning the merger deal would be barred from being brought against them.

So whom are these deals really serving? This 2015 academic paper argued – as many have hypothesized – that these types of disclosure-only settlements usually serve plaintiffs’ lawyers and not the shareholders themselves.

From the paper’s abstract:

This Article offers a new approach to assessing the value of these claims by empirically testing the relationship between merger litigation and shareholder voting on the merger. If the supplemental disclosures produced by the settlement of merger litigation are valuable, they should affect shareholder voting behavior. Specifically, supplemental disclosures that are, in effect, “compelled” by settlement should produce new and unfavorable information about the merger and lead to a lower percentage of shares voted in favor of it. Applying this hypothesis to a hand-collected sample of 453 large public company mergers from 2005-2012, we find no such effect. We find no significant evidence that disclosure-only settlements affect shareholder voting.

It seems the Delaware courts agree at least in some part. In his opinion on the Trulia case, Chancellor Bouchard articulated the Court’s position on the broader issue of disclosure-only settlements:

Based on these considerations, this opinion offers the Court’s perspective that disclosure claims arising in deal litigation optimally should be adjudicated outside of the context of a proposed settlement so that the Court’s consideration of the merits of the disclosure claims can occur in an adversarial process without the defendants’ desire to obtain an often overly broad release hanging in the balance. The opinion further explains that, to the extent that litigants continue to pursue disclosure settlements, they can expect that the Court will be increasingly vigilant in scrutinizing the “give” and the “get” of such settlements to ensure that they are genuinely fair and reasonable to the absent class members.

This opinion is significant, and it represents the current trend in Delaware.

Other decisions have underscored the court’s tough stance on disclosure-only settlements: plaintiffs’ attorneys will not be paid, and defendants will not obtain a broad release if all that the shareholders get is additional but largely useless proxy disclosure.

Is All M&A Litigation Dead?

No, M&A litigation is not dead. In fact, in the months following these Delaware decisions in Trulia and other cases, we’ve seen suits filed in other jurisdictions even when the company being sued had a choice of forum provision in its charter documents.

This attempt at forum shopping by the plaintiffs is likely a result of the plaintiff’s realizing that Delaware courts won’t give them what they want when it comes to settling these claims.

Notwithstanding the fact that they are still being sued, there is a silver lining for a company being sued outside of Delaware provided that the company has choice of forum provisions in its charter documents.

Companies with choice of forum provisions may have a stronger hand to play if plaintiff attorneys try to extort an overly large cash settlement. It will be easier for defendants to negotiate the settlement number down since the defendants have the ability to refuse to waive their choice of forum provisions. Defendants can force a case back into Delaware, where plaintiff attorneys risk standing in front of a skeptical Chancellor who is likely to refuse to allow anything to be paid to the plaintiff attorneys as part of the settlement.

On the other hand, corporations could waive their right to be sued only in Delaware, which arguably creates an opportunity for the defendants to get a full release, something that defendants who don’t want to think about future claims will surely value.

What Now?

When it comes to mitigating the potential personal liability for Ds and Os of companies that are acquired, it’s important to pay attention to what’s happening with D&O insurance.

You’ll want to be sure that your broker or outside counsel has properly sent your insurance carriers notice of the litigation that has been filed against you. Carriers typically have the right to approve counsel and must be apprised of any potential settlement negotiation in a timely way.

It’s a good idea to confirm that the insurance carriers have agreed to the company’s strategy for defending against the claim, including whether or not to waive any choice of forum provisions. Keeping carriers informed helps to avoid any surprises.

It’s also critical that companies put into place a D&O tail policy to protect their directors and officers (more on tail policies and M&A in an earlier post here).

As a reminder, tail policies exist to respond to claims relating to pre-close activity that arise after the merger deal has closed. A tail policy is even more valuable when defendants don’t get a full release at the end of the merger objection suit.

Finally, given the unsettled nature of the environment, it’s also more important than ever to work with excellent, experienced corporate and M&A counsel as well as skilled M&A litigators.

While the rate of M&A litigation in the public company environment has declined, it’s still a real threat. While your particular deal may not result in a suit, it is still a good idea to be prepared for litigation.

The views expressed in this blog are solely those of the author. This blog should not be taken as insurance or legal advice for your particular situation. Questions? Comments? Concerns? Email: phuskins@woodruffsawyer.com.