Module VII Fiduciary Duties Chapter 22 Duties within

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Module VII – Fiduciary Duties Chapter 22 Duties within Corporate Groups • Control within

Module VII – Fiduciary Duties Chapter 22 Duties within Corporate Groups • Control within corporate groups Bar exam – Definition of control – Possible abuses of control: intra-group activities, squeeze-outs of minority shareholders • Dealings with subsidiaries Corporate practice – Sinclair Oil case – Comparison to director duties • Cash outs of minority shareholders Law profession Citizen of world – Weinberger – entire fairness standard • Nature of fair dealing • Nature of fair price (exclusivity of appraisal) – Lynch II - effect of disinterested approval – Short-form merger • Appraisal exclusive • Pure Resources: review of tender offer + SO merger Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 1 of 29

Review of fiduciary duties … (directors) Corporations: A Contemporary Approach Chapter 21 Executive Compensation

Review of fiduciary duties … (directors) Corporations: A Contemporary Approach Chapter 21 Executive Compensation Slide 2 of 27

Fiduciary duties (directors) Oversight Best interests Decision-making Business Judgment Rule Shlensky v Wrigley Inattention

Fiduciary duties (directors) Oversight Best interests Decision-making Business Judgment Rule Shlensky v Wrigley Inattention 102(b)(7) Waste Conflict interest Illegality Corp opp Aronson / Miller v AT&T Vogelstein. Van Gorkom Remillard (Allis-Chalmers) Farber Illegality Malfeasance Caremark (bad faith) Francis Corporations: A Contemporary Approach Gross negl 102(b)(7) Bad faith Disney Disinterested independent Benihana Chapter 21 Executive Compensation Slide 3 of 27

Corporate groups Shareholders Affiliate? Wholly-owned vs. Partially-owned sub? Public shareholders Subsidiary Company Corporations: A

Corporate groups Shareholders Affiliate? Wholly-owned vs. Partially-owned sub? Public shareholders Subsidiary Company Corporations: A Contemporary Approach Parent Company Subsidiary Company Chapter 22 Duties within Corporate Groups Subsidiary Company Slide 4 of 29

Corporate groups Shareholders Parent Company Difference between division / sub? Division Subsidiary Company Corporations:

Corporate groups Shareholders Parent Company Difference between division / sub? Division Subsidiary Company Corporations: A Contemporary Approach Subsidiary Company Chapter 22 Duties within Corporate Groups Subsidiary Company Slide 5 of 29

Corporate groups Shareholders How much necessary for control? Public shareholders Subsidiary Company Corporations: A

Corporate groups Shareholders How much necessary for control? Public shareholders Subsidiary Company Corporations: A Contemporary Approach Parent Company Subsidiary Company Chapter 22 Duties within Corporate Groups Subsidiary Company Slide 6 of 29

Law of corporate groups … Corporations: A Contemporary Approach Chapter 22 Duties within Corporate

Law of corporate groups … Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 7 of 29

Sinclair Oil v. Levien (Del 1971) Issues • Dividend policy • Intra-group dealings •

Sinclair Oil v. Levien (Del 1971) Issues • Dividend policy • Intra-group dealings • Allocation of business opportunities Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 8 of 29

Shareholders Dividend policy Sinclair Oil Minority public shareholders Sinclair Venezuelan Corporations: A Contemporary Approach

Shareholders Dividend policy Sinclair Oil Minority public shareholders Sinclair Venezuelan Corporations: A Contemporary Approach Sinclair International Chapter 22 Duties within Corporate Groups Sinclair Alaska Slide 9 of 29

Dividend Policy If a plaintiff can meet his burden of proving that a dividend

Dividend Policy If a plaintiff can meet his burden of proving that a dividend cannot be grounded on any reasonable business objective, then the courts can and will interfere with the board's decision to pay the dividend. The dividends resulted in great sums of money being transferred from Sin. Ven to Sinclair. However, a proportionate share of this money was received by the minority shareholders of Sin. Ven. . . Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Delaware Supreme Court Slide 10 of 29

Shareholders Sinclair Oil Minority public shareholders Sinclair Venezuelan Sinclair International Sinclair Alaska Intra-enterprise Contract

Shareholders Sinclair Oil Minority public shareholders Sinclair Venezuelan Sinclair International Sinclair Alaska Intra-enterprise Contract Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 11 of 29

Dealings between subs Sinclair caused Sin. Ven to contract with International whereby Sin. Ven

Dealings between subs Sinclair caused Sin. Ven to contract with International whereby Sin. Ven agreed to sell all of is crude oil and refined products to International at specified prices. The contract provided for minimum and maximum quantities and prices. . . International's payment lagged as much as 30 days after receipt. International did not comply with the [fixed minimum] requirement. Under the intrinsic fairness standard, Sinclair must prove that its causing Sin. Ven not to enforce the contract was intrinsically fair to the minority shareholders. Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Delaware Supreme Court Slide 12 of 29

Shareholders Business opportunity Sinclair Oil Minority public shareholders Sinclair Venezuelan Corporations: A Contemporary Approach

Shareholders Business opportunity Sinclair Oil Minority public shareholders Sinclair Venezuelan Corporations: A Contemporary Approach Sinclair International Chapter 22 Duties within Corporate Groups Sinclair Alaska Slide 13 of 29

Allocation of opportunities Sinclair made no real effort to expand Sin. Ven. [While] Sinclair

Allocation of opportunities Sinclair made no real effort to expand Sin. Ven. [While] Sinclair actively pursued a company-wide policy of developing new sources of revenue through its subsidiaries, Sin. Ven was not permitted to participate and was confined in its activities to Venezuela. . . with which subsidiaries should these opportunities have been shared? No evidence indicates a unique need or ability of Sin. Ven to develop these opportunities. The decision. . was one of business judgment. . Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Delaware Supreme Court Slide 14 of 29

Cash-out mergers • “Cash out” merger? • Reasons for squeezing out minority? • Standard

Cash-out mergers • “Cash out” merger? • Reasons for squeezing out minority? • Standard of review? • Remedies? Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 15 of 29

Cash-out merger (Weinberger) Shareholders Signal Companies Minority shareholders 50. 5% 49. 5% Get rid

Cash-out merger (Weinberger) Shareholders Signal Companies Minority shareholders 50. 5% 49. 5% Get rid of minority? (legally) UOP Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 16 of 29

Cash-out merger (Weinberger) Shareholders Cash Signal Companies = Minority shareholders + Signal Companies What

Cash-out merger (Weinberger) Shareholders Cash Signal Companies = Minority shareholders + Signal Companies What protection? 100% UOP Merger Sub Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups UOP Slide 17 of 29

Standard of review … Business purpose Fair price (intrinsic fairness) Entire fairness Corporations: A

Standard of review … Business purpose Fair price (intrinsic fairness) Entire fairness Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 18 of 29

 "When directors of a Delaware corporation are on both sides of a transaction,

"When directors of a Delaware corporation are on both sides of a transaction, they are required to demonstrate their utmost good faith and the most scrupulous, inherent fairness of the bargain. . . There is no dilution of this obligation where one holds dual. . . directorships, as in a parent-subsidiary context. Delaware Supreme Court What is • Inherent fairness? • Entire fairness? Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 19 of 29

Weinberger blueprint "The concept of fairness has two basic aspects: fair dealing and fair

Weinberger blueprint "The concept of fairness has two basic aspects: fair dealing and fair price • • ". . . The former embraces questions of when the transaction was timed, how it was initiated, structured, negotiated, disclosed to the directors, and how the approvals of the directors and the stockholders were obtained. " ". . . The latter aspect of fairness relates to the economic and financial considerations of the proposed merger, including. . . assets, market value, earnings, future prospects. . . Corporations: A Contemporary Approach Structure a squeeze-out (1) Who and when initiate? (2) How structure? (3) Who negotiates? (4) What sub directors told? (5) How sub Ds approve deal? (6) How sub SHs approve deal? • Business purpose? • What about appraisal? Chapter 22 Duties within Corporate Groups Slide 20 of 29

Independent directors Footnote 7: "Although perfection is not possible, or expected, the result here

Independent directors Footnote 7: "Although perfection is not possible, or expected, the result here could have been entirely different if UOP had appointed an independent negotiating committee of its outside directors to deal with Signal at arms' length. Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 21 of 29

How much $$ … (which valuation method? ) Corporations: A Contemporary Approach Chapter 22

How much $$ … (which valuation method? ) Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 22 of 29

Delaware black method Court Proportion Weight Avg earnings $120 55% $66. 00 Book value

Delaware black method Court Proportion Weight Avg earnings $120 55% $66. 00 Book value $100 35% $35. 00 Market value $75 10% $7. 50 TOTAL $108. 50 Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 23 of 29

 ". . . the discounted cash flow method [ie - earnings potential of

". . . the discounted cash flow method [ie - earnings potential of UOP] was essentially the focus. . . of Messrs. Arledge and Chitiea in the evaluation of the merger. "We believe that a more liberal approach must include proof of value by any techniques or methods which are generally considered acceptable in the financial community. . . " Corporations: A Contemporary Approach Delaware Supreme Court Chapter 22 Duties within Corporate Groups Slide 24 of 29

WONDERFUL NEWS (or slightly less wonderful than you thought) You have just won $1,

WONDERFUL NEWS (or slightly less wonderful than you thought) You have just won $1, 000 in the state lottery. You will be able to repay some of your student loans! Discount rate: Year 1: Year 2: Year 3: Year 4: . . . Year 19: Year 20: TOTAL 10% $45, 455 $41, 322 $37, 566 $34, 151. . . $ 8, 175 $ 7, 432 5% $47, 619 $45, 351 $43, 192 $39, 176 . . . $19, 787 $18, 844 $425, 678 $623, 111 You will receive your prize in installments -- $50, 000 each year for 20 years Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 25 of 29

Discounts in appraisal … (remember minority lacked control) Corporations: A Contemporary Approach Chapter 22

Discounts in appraisal … (remember minority lacked control) Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 26 of 29

Discounts in appraisal At what price? • What is Corporation’s “going concern” enterprise value?

Discounts in appraisal At what price? • What is Corporation’s “going concern” enterprise value? • What is Minority’s pro rata interest in the company? – “lack of control” discount? – “lack of marketability” discount? Corporations: A Contemporary Approach $120 million Chapter 22 Duties within Corporate Groups Enterprise Value Slide 27 of 29

Discounts in appraisal At what price? • What is Corporation’s “going concern” enterprise value?

Discounts in appraisal At what price? • What is Corporation’s “going concern” enterprise value? • What is Minority’s pro rata interest in the company? – “lack of control” discount? – “lack of marketability” discount? Corporations: A Contemporary Approach $50 million Chapter 22 Duties within Corporate Groups Pro rata (minority) Slide 28 of 29

Discounts in appraisal At what price? • What is Corporation’s “going concern” enterprise value?

Discounts in appraisal At what price? • What is Corporation’s “going concern” enterprise value? • What is Minority’s pro rata interest in the company? – “lack of control” discount? – “lack of marketability” discount? Lack of control $35 million Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 29 of 29

Discounts in appraisal At what price? • What is Corporation’s “going concern” enterprise value?

Discounts in appraisal At what price? • What is Corporation’s “going concern” enterprise value? • What is Minority’s pro rata interest in the company? – “lack of control” discount? – “lack of marketability” discount? Lack of control Lack of marketability $20 million Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 30 of 29

The end Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 31

The end Corporations: A Contemporary Approach Chapter 22 Duties within Corporate Groups Slide 31 of 29