SEMINAR 1 - INTRODUCTION TO M&A
DRIVERS OF M&A
GROWTH
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Need for growth
o Organic growth – internal – susceptible to slow rates
o Inorganic growth – external - through combinations and acquisitions – with a view to increase pace
Determinants of growth
o Size/revenues
o Profitability
Pinning down the optimal level of growth
o Maximise returns to shareholders
o Preserve or increase shareholder value
o Agency theory of corporate law
 Managers may have contrary incentives
Growth prospects depend on type of industry
o Old-economy (brick-and-mortar)
o New-age (knowledge, technology)
SIZE
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Leadership in an industry
o Dominant position
o Confers several advantages
o Creates barriers for new entrants
o Philosophy followed by GE – “Fix, sell or close” strategy
SYNERGY
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The “2 + 2 = 5” phenomenon
o he profitability of the combined business to be greater than the sum of both parts
Types of synergies
o Operating synergy – Cost reduction through economies of scale
o Revenue-enhancing synergy – Complementarities in offerings of the companies
Synergistic Benefits
o NAV = VAB – [VA + VB], where VAB = combined value of two companies, VA = value of A on its own, VB =
value of B on its own
But, there are transaction costs too
o NAV = VAB – [VA + VB] – E, where E = expenses/costs in the M&A process
o Integration costs may be significant but not taken into account at the initial stage. Opportunity costs too
Other Forms of Synergy
o Taxation benefits
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 Net operating losses (NOLs)
 Unabsorbed depreciation
Financial benefits
 Access to capital
OTHER FACTORS
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Other Factors
o To achieve greater market power (i.e. to increase market-share)
o Acquisition of R&D capabilities
o Deregulation in an industry
 Telecommunications, Airline industry, Banking industry
o Privatisation and disinvestment by the Government in state-owned enterprises
Core Competence and Diversification
o Core Competence - Focusing on core competencies creates unique, integrated systems that reinforce fit
among your firm’s diverse production and technology skills—a systemic advantage your competitors
can’t copy
o Diversification
 Creation of a portfolio
 De-risking strategy - “Don’t put all your eggs in one basket”
 Research on benefits of diversification
 Vitiates portfolio theory of investments
 Benefits only companies in related sectors
Availability of targets at low prices
o Usually a recipe for hostile takeovers
o Hostile takeovers usually do what boards with poor corporate governance cannot do
Low prices could be either due to:
o Poorly managed companies
o Poor market conditions, e.g. financial crisis
Market for corporate control
o Prices of shares are low in companies that do not realise potential or those that are mismanaged
o This is assuming that markets are efficient (i.e. efficient capital markets hypothesis (ECMH))
o Makes it cheap for acquisitions by raiders (e.g. if stock is trading at a low P/E compared to its peers)
Improved management hypothesis
o New management may be better able to realise potential
On the other hand, this forces existing managers to step up their act if they are to protect their jobs
o This may lead to existing managers to adopt practices that look good in the short term but not in the
long term. In the extreme, there may be fraudulent activities such as forgery of accounts
LESSONS OF M&A
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Managerial hubris hypothesis (Propagated by Richard Roll (1980))
o Hubris, or managerial pride, plays a role in explaining takeover activity
o Behavioural analysis
 Managers of bidders are afflicted with over-optimism bias and irrationality
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They tend to bid at valuations that are substantially higher than those determined more
objectively
 Hubris hypothesis is also supported by empirical evidence
o Studies show decline in market value of acquirer’s shares post-announcement whereas target’s shares
tend to appreciate in value
Empire-building by managers of acquirer – All of these benefit managers more than shareholders of acquirer
Winner’s curse
o Due to informational disparities
o Seller/target has more information about itself than the acquirer
o The issue is more acute in bidding / auction situations
How can these motivational factors surrounding managers be addressed?
Is corporate governance a solution?
o Independent financial analysis is preferred
Problems with integration
o Organisational issues
o Cultural issues
These are soft intangible factors. Proof of the pudding lies in dealing with these successfully
However, in practice, a number of obstacles need to be surmounted in this process. Note that the law is of very
little help in this area
SUCCESS OF M&A
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Usually difficult to measure
Cannot come to definitive conclusions
Transactions are not homogenous
Empirical evidence tends to be mixed
o Event studies
 Returns to shareholders, based on movement in market price upon announcement of the
transaction
o Accounting studies
 Financial performance of companies pre- and post-transaction
Case Study – AOL’s merger with Time Warner
o Context
 Combination of Internet and media companies
 AOL acquired Time Warner by issuing its own highly-valued stock
 However, merger failed to achieve any of the intended business objectives and synergies
 A “text-book” case
o Endogenous factors
 Complexity of the companies, their businesses and the deal itself
 Inadequacies in strategic thinking on business prospects
 Suggestions of managerial hubris
 Failure of proper integration
o Exogenous factors
 Bursting of the Internet bubble
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 Recession and stock-market crash
Case Study – SGX’s failed proposed merger with ASX
o Combination announced in October 2010
o Various reasons set out in statement to shareholders
o To create the premier international exchange in Asia Pacific
o But, deal failed before it could be consummated
o Keep in mind the role of national interest in cross-border M&As
ISSUES FOR THOUGHTS
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Are M&A transactions always beneficial to:
o Shareholders (of acquirer and target)?
o Other stakeholders (e.g. creditors/employees)?
How do we optimise value from transactions?
How do we curb value-reducing deals?
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SEMINAR 2 – TRANSACTION STRUCTURES AND TERMINOLOGY
OVERVIEW
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M&A generally involves transfer by a company of its
o Assets; or
o Control
Possible through numerous ways (structures)
Different legal structures may be used to achieve a single commercial goal
Topic is replete with jargon
Understanding of terms may vary depending on various factors
o Relevant jurisdiction, Business/commercial vs. legal/statutory, Tax considerations, Time, Regulations
changes, Competition laws
COMMERCIAL UNDERSTANDING
TAKEOVER
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A transaction or series of transactions;
An acquirer – individual, company or group;
Acquires control of:
o The assets of a company by becoming the owner of the assets
o The management of the company (and obtaining indirect control over its assets)
Sometimes referred to as an “acquisition
Is there a difference between acquiring control over asset and acquiring control over management?
o Liabilities
o Agency costs
o Control over management is all-or-nothing – cannot pick and choose which assets to inherit
o Consolidation (from an accounting perspective) – they are different from each other
A takeover generally involves a larger company taking control of assets or management of a smaller company
o But, the contrary is possible too, and does occur in reality (e.g. reverse takeovers)
CONTROL
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Absolute – 100%; Dominant – 90% (Compulsory Acquisition); Supermajority – 75% (Pass Special Resolutions);
Majority - >50% (Control over Board Composition); Effective - <50% (Depends on Remaining Shareholding);
Management – Dispersed shareholding
50% is the threshold for legal control of the company – can control composition of entire board
Pyramid structures
o Provide for greater control rights with limited economic risk
 E.g. majority at top-level holding company is sufficient to control all entities below
MERGER
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Arrangement;
Assets (and liabilities) of one or more companies become vested in a single company
o One of the companies surviving;
o Or a new company established;
Shareholders of each company become collective owners of the combined company
A combination of assets and ownership (e.g. “Pooling of interests”)
Generally a “merger of equals” – Companies tend to be roughly of same size
But, difference tends to be one of “intent” and “degree”
E.g. same result as a merger can be achieved through a takeover involving a “stock-swap”
TAKEOVER BID
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A “technique” for effecting either a takeover or merger
In case of a merger – it requires concurrence of target
o Between acquirer and company
In case of a takeover – it can either be friendly or hostile
o An offer is made to all shareholders to acquire their shares in the company
o Between acquirer and shareholders only.
Fundamental rule – a takeover bid is fundamentally a contractual offer between the acquirer and the
shareholders.
o However, increasingly, this is vitiated by companies getting interested in the movement of its
shareholdings
Companies are interested because it may result in:
o A change in management
o A change in company direction
o The breakup or liquidation of the company if the offer goes through
Strategy and result will depend on shareholding structure of the target
o Widely dispersed shareholding - Greater possibility of hostile bids
o Existence of controlling shareholders - Need to obtain concurrence of large shareholders
LEGAL STRUCTURES
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Broadly of 3 kinds:
o Asset / Business Acquisition
o Statutory Merger / Amalgamation
o Share Acquisition / Takeover
ASSET / BUSINESS ACQUISITION
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One of the simpler types of transactions
Acquirer purchases from the seller
o The seller’s business or undertaking
 All or substantially all of the assets
o Select assets only
 Cherry-picking
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Since the seller is foregoing assets, it is required to obtain corporate approvals
Liabilities, which are usually deducted from price paid, may not be known or, if known, quantifiable
o Possibly mitigated by insurance but it comes at a cost
Purchaser may discharge consideration through either:
o Payment of cash
o Issue of its own shares
 This may trigger requirement of corporate approvals on the part of the purchaser
STATUTORY MERGER / AMALGAMATION
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Two or more companies merge into one of them or into a new company
The undertakings (business, assets, liabilities) of the merging companies are transferred to the surviving
company
The merging companies are dissolved in the process
The surviving company may discharge consideration by either:
o Issuing its own shares to the shareholders of the merging companies
o Paying cash to the shareholders of the merging companies (cashout merger)
 To squeeze out minority shareholders?
Shares held by those shareholders in the merging company are cancelled
Most companies legislation contain specific provisions for mergers/amalgamations
These transactions require shareholder approvals (and sometimes the sanction of a court)
Once approved, they are binding on all shareholders
o A perceived advantage of this arrangement
Cash-out mergers can be used to eliminate minority shareholders
o Expropriation of shares?
Certain types of schemes of arrangement, e.g. reduction of capital can also be utilised for this purpose
Squeeze-outs / Freezeouts
SHARE ACQUISITION / TAKEOVER
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The acquirer obtains control of the target
o Usually by acquisition of voting shares
The business of the target continues as previously
o There is no alteration to the target’s corporate structure (except shareholding)
Acquirer may discharge consideration either by:
o Paying selling shareholders cash
 Similar, from a financial and commercial standpoint, to a cash-out merger
o Issuing its own shares to the selling shareholders
SOME OTHER VARIATIONS
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Triangular Mergers
o These are usually undertaken to avoid corporate processes involving large companies – processes such
as:
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Shareholder approval
Appraisal remedies
 Right of dissenting shareholders to get a fair value for their shares
 Rationale for giving such a remedy to such events – they go to the heart of the
business/corporate structure (unlike takeovers, mergers bind minority shareholders too)
 Why not use s216 of CA? A general remedy – not specific enough – have to prove oppression
These (i.e. triangular mergers) are popular in the U.S.
DISCUSSION
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Do these transaction structures provide too much leeway to parties and their lawyers to devise options that go
against the interests of minority shareholders?
How have the courts in the U.S. dealt with this?
Have courts applied a “substance over form” approach? Or vice-versa?
What do you think of the ability of courts to re-characterize transactions?
What about the concept of de facto mergers?
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SEMINAR 3 – BUSINESS SALES / ASSET SALES
DEAL STRUCTURE – ASSETS OR SHARES?
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Business/Assets Sale
o Direct purchase/ownership
o Assets move out of the seller and into the purchaser
Share sale
o Purchase/ownership of shares of the target company
o Target’s legal position is not altered in any way
o Ownership of business/assets continues unabated
Considerations for choice of structure
o Taxation – acquirer/seller
o Existence of other non-related businesses that the acquirer is not interested in
o Seller’s responsibilities in the business
o Allocation of liabilities of the business
o Formalities of transfer
o Consents and permissions necessary for transfer
Comparison between an asset sale and a share sale
Asset Sale
Sale of a business “as a going concern”
Business to be transferred is identified in
functional terms
o i.e. all that is required to ensure
continuity of business with the
acquirer
Lump sum consideration
o Concepts of “net worth” and
“goodwill” – buyer is willing to pay
more than net worth of company –
forecast of future profits
Liabilities relating to the business would go
along with it
o Unless expressly excluded
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Share Sale
Sale of assets on a piecemeal basis
o Usually required in situations such as
insolvency or distress sale
Assets being transferred are identified through
specific listing
Individual consideration for each asset
Liabilities (if any) would remain with the seller
o Unless expressly transferred
PROCESS
TRANSFERABILITY
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Depends on nature of assets or obligations involved
Land and buildings
o What if they or other assets are mortgaged, charged in favour of banks?
 Creditworthiness, alternative forms of security, repayment
Movable assets
o Plant and machinery
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o Furniture and fixtures
o Usually transferred by delivery
Mixture of both – constructive delivery
LICENSES AND APPROVALS TO CARRY ON THE BUSINESS
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May require consent of the granting authority
o Identity, qualifications
CONTRACTS AND AGREEMENTS
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Rights – choses in action?
o Consent, privity, novation, assignment
Obligations
o Are these assignable in nature?
o If so, do they require consent of the contracting party?
Assignability depends on the nature of the contract
o Rights are usually assignable
 Unless there is an express prohibition, or stipulation in the contract which requires contracting
party’s consent
 If there is a breach of no-assignment clause, the 3P can sue the seller but may not be desirable
when the seller is dissolved or has no assets remaining. Remedy may be limited
o Obligations cannot be assigned without consent of the beneficiary
 Novation of contract
 Tri-partite arrangement
Contracts that are personal in nature cannot be assigned
o Employment contracts are personal in nature
 In common law, they cannot be transferred. However, this position has been modified by
statutes. (Look at section on employees)
o What is the nature of a licence granted by contract?
CONSIDERATIONS
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Time
Inequality of bargaining power
Pre-disclosure of information, especially when a public company is involved
EMPLOYEES
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Position under common law
o Effect of a sale of business
 Original contract is terminated
 Employee is not obliged to work for the new employer
 Break in length of service and conditions
Common law position significantly altered by statute
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o UK: TUPE Regulations
o Singapore: Employment Act, s. 18A
Previous tests in the UK for “transfer”
o Sale as a going concern
o Whether there is goodwill, whether seller will discontinue the activity
Later tests adopted in the UK
o Following ECJ influence
o Not whether there is a disposal as “a going concern”
o But, whether the undertaking retains its identity with the acquirer
Singapore Employment Act, s. 18A
o “undertaking” includes any trade or business
o “transfer” includes the disposition of a business as a going concern and a transfer effected by sale,
amalgamation, merger, reconstruction or operation of law
o If an undertaking is transferred
 It shall not operate to terminate the contract of service
 It shall be effective vis-à-vis the transferee as if employment contract was originally with it
 Period of employment with transferor shall be counted, without a break in period of
employment
 Terms and conditions of service of the employee shall be preserved
 Notification and consultation with trade unions
Comparison between SG and UK/EU:
o A going concern – seems to be more concerned with the means rather than the end?
o Retention of identity – more concerned with the end
o First test – employees seem to bear the loss resulting from the takeover/merger while
company/shareholders get the gains – should this be the case? Policy point of view?
CORPORATE APPROVALS
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Sale of a business undertaking is significant business transaction – Requires shareholder approval
Companies Act (Cap 50, Sing.), s. 160
o “(1) … the directors shall not carry into effect any proposals for disposing of the whole or substantially
the whole of the company’s undertaking or property unless those proposals have been approved by the
company in general meeting”
Delaware General Corporation Law, §271
o “(a) Every corporation may at any meeting of its board of directors … sell, lease or exchange all or
substantially all of its property and assets, … as its board of directors … deems expedient and for the
best interests of the corporation, when and as authorized by a resolution adopted by the holders of a
majority of the outstanding stock of the corporation entitled to vote thereon”
Do these apply to asset sale or business sale or both?
o Sing: “ … the whole or substantially the whole of the company’s undertaking or property …”
o Delaware: “… all or substantially all of its property and assets …”
Hollinger v. Hollinger International (Del, 2004)
o International sought to sell the Telegraph newspaper and magazine, held by an indirect (6th tier) wholly
owned subsidiary
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Question: Whether the approval of International shareholders is required under §271
Court
 Trigger of §271 depends upon particular qualitative and quantitative characteristics of the
transaction
 Quantitative approach – simple, objective, certainty, but fails at borderline cases
 Qualitative approach – effect on remainder – less capable of manipulation (substance
over form) – lack of certainty
 Transaction must be viewed in terms of overall effect on the corporation
 There is no necessary qualifying percentage
 “Contextual approach” over “definitional approach” – whether:
 Assets quantitatively vital to operation of corporation
 Out of the ordinary
 Substantially affects the purpose and existence of the corporation
On facts
 Considered quantitatively and qualitatively
 Telegraph sale does not amount to a sale of substantially all of International’s assets
 Remaining assets were substantial and profitable
DISCUSSION
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How will a situation such as Hollinger turn out under the Singapore Companies Act?
o Will it make a difference that it is assets of the subsidiary that were sold?
What is the position if assets are merely charged or mortgaged without a “sale”?
o Selling = affecting shareholders immediately
o Mortgaging = intention to carry on business of company
EFFECT OF NON-COMPLIANCE
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Companies Act (Cap 50, Sing.), s. 160
o “(2) The Court may, on the application of any member of the company, restrain the directors from
entering into a transaction in contravention of subsection (1)
 “Restrain” suggests before and during the transaction
o (3) A transaction entered into in contravention of subsection (1) shall, in favour of any person dealing
with the company for valuable consideration and without actual notice of the contravention, be as valid
as if that subsection had been complied with” – extension of indoor mgmt rule
K.J. Kim Company v. Buck & Company (SGHC, 1996)
o 2 shareholders in a company
o Only asset was a piece of property
o Company entered into an option to sell the property to option holder
 Contract signed by managing director (MD) on behalf of company
o Later reneged on the contract, citing lack of shareholder approval under s. 160
o Court
 Option was signed by MD. Option holder had the right to assume MD’s authority
 Even if MD did not have authority, option holder had no actual knowledge
 There was valuable consideration (option fee)
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 Contract remains valid due to s. 160(3)
o Other aspects
 Whether mere option is “disposal”? Doubted
 For certainty – option subject to SH approval
 Option fee amount to valuable consideration
 Whether asset sale is part of business activity? (E.g. a real estate company)
For purchaser
o Cash consideration – no shareholder approvals are required generally
o Issue of shares as consideration – dilution concerns
 E.g. Singapore Companies Act, s. 161
 “(1) … the directors shall not, without the prior approval of the company in general
meeting, exercise any power of the company to issue shares”
 Such resolution is valid until the next annual general meeting
RECHARACTERISATION OF ASSET SALES
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Statutory mergers are sometimes structured as asset sales to avoid certain shareholder requirements, i.e.
o Shareholder approval of acquirer
o Appraisal rights to acquirer’s shareholders
These are stock-for-asset acquisitions
Often, the seller company becomes a shell entity and is then liquidated
End-result is the same as a statutory merger
DE FACTO MERGERS
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Heilbrunn v. Sun Chemical (Del, 1959)
o Suit brought by minority shareholders of Sun
o Sun to buy over all of Ansbacher’s assets and liabilities
o Sun to issue shares of common stock to Ansbacher
o Ansbacher will dissolve and distribute assets (including Sun shares) to its shareholders
o Although the transaction was taken to Sun’s shareholder (due to manager’s conflict of interest), they
were not given appraisal rights
o Court
 No injury inflicted upon Sun stockholders
 Sun has merely acquired property and paid with stock
 Transaction has not changed the essential nature of the enterprise of the purchasing
corporation
 There is no basis for granting of relief in equity on the theory of a de facto merger
Hariton v. Arco Electronics (Del, 1963)
o Arco agreed to sell all assets to Loral in consideration for issue of shares by Loral
o Arco to undergo dissolution thereafter
o Plaintiff, a minority shareholder of Arco sought appraisal rights invoking the de facto merger doctrine
o Court
 The plan of dissolution and distribution is legal
 Sale-of-assets and merger provisions in statute are independent of each other
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“[F]ramers of a reorganization plan may resort to either type of corporate mechanics to achieve
the desired end
Not only in M&A but also other areas – courts are reluctant to recharacterise and substitute the parties’
judgements with their own judgements – re-characterisation only occur in extreme situations
SUCCESSOR LIABILITY
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Rule
o In an asset sale, the acquirer is not liable for the debts and obligations of the seller
But, exceptions – Acquirer may be held liable if—
o It expressly or impliedly assumed seller’s liability
o There was a consolidation or merger of the seller
o Acquirer was merely a continuation of the seller
o Transaction entered into fraudulently to escape liability
Schumacher v. Richards Shear Co (NY, 1983)
o Injury caused by shearing machine
o RSC, who manufactured machine, sold substantially all assets to Logemann
o Whether Logemann is liable for tortious conduct of RSC or for its own conduct subsequent to the
acquisition
o Court
 The transaction did not fall within any of the exceptions
 As regards “continuity of the enterprise”, it usually applies when the seller corporation is
dissolved. Here, that was not to be the case
o Here, it seems to give too much leeway for parties to structure transactions to avoid liability
Brandon v. APM Associates (7th Cir, 2005)
o Plaintiff the holder of judgment in a diversity suit
o Defendants owned APM
o But, they formed another company St. Clair to squirrel away assets of APM and avoid recovery in favour
of plaintiff
o APM was left as a shell entity
o Court (Judge Posner)
 “The evasive purpose of creating St. Clair is plain and supports our interpretation of the rule’s
scope. The rule that a corporation can’t have a successor if it hasn’t been dissolved, … is not
intended to deprive the victim of a fraud of his legal remedy, as the defendants attempted to do
here by preserving a ghostly existence for APM”
 “APM is brain dead, but is being kept on corporate life support in order to prevent [the plaintiff]
from getting hold of any of St. Clair’s assets
 … [the plaintiff] is entitled to ignore the formation of St. Clair and treat its assets as if they were
APMs
National Labour v. Inn Credible Caterers (2d Cir., 2001)
o Duty imposed on successor of business to bargain with employees
 Substantial continuity test
 Successor has hired a substantial and representative complement of employees
However, a more narrow interpretation adopted in other cases
o Semenetz v. Sherling & Walden (NY 2006)
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Gallenberg v. Argomac (Wisc. 1998)
RATIONALES BEHIND SUCESSOR LIABILITY REGIMES
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Courts seem more open to impose successor liability in asset sale transactions compared to treating them as de
facto merger for purposes of protecting minority shareholder interest
o What might be the reason for this?
 SHs have remedies under company law
 Creditors have rights under insolvency regimes; their interests have to be taken into account
when bordering insolvency
o Can we deduce any policy rationale?
 To protect involuntary creditors who may not have the contractual rights that voluntary
creditors possess – courts have to step in to protect the interests of these involuntary creditors
Objectives that sometimes conflict
o Deterrence for tortfeasors
o Facilitate asset transfers that are value-generating for the economy
Difficulties with current position
o Inadequate deterrence because transfer of assets permits tortfeasor to escape liability
o Uncertainty in amount of liability prevents efficient asset transfers
Proposed model (Harv. L. Rev. Note)
o Presumption in favour of successor liability
 Successors will be held generally liable for predecessor’s torts
 Acquirer will tend to reduce the price to absorb costs of liability taken over
 Or seek indemnity from seller – what happens if seller has no more assets – seek guarantees of
assets/parents?
 Settlement prior to the deal
 Incentives to sellers to prevent liability in the first place
o Mandatory-litigation class action prior to transfer
 To aggregate all current and future tort claims
 Pay estimated damages
 Then, transfer assets free and clear of all tort liability
Discussion Questions
o Is this a workable model?
 What happens to unascertained future claims?
 Class actions workable in other jurisdictions?
 Incentive of US law firms to bring suits (contingency fees)
 Time cost – valuation of business/assets may change
 Information asymmetry between buyer and seller
o What are the practical issues in its implementation?
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SEMINAR 4 – SCHEMES OF ARRANGEMENT (1)
PURPOSE AND OUTCOME OF SCHEMES
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Acquisition of shares
o Cancellation scheme
o Transfer scheme
o Binding on minority – no choice but to comply
 Especially good when buyer wants 100% of company
 Statutory - initiator - target CO, other parties are acquirer & SHs
o As opposed to takeover – where minority has option whether to exit or not
 Takeover code - the initiator is the acquirer, other parties are SHs
Statutory amalgamation / merger
o Through court process
Outcome of amalgamation
Absorption of the entire undertaking of one or more companies into a surviving company
o Surviving company may be an existing company or a new company
Consideration is paid by the surviving company
o Usually in the form of issue of its own shares, sometimes in the form of cash or both
COURT-BASED APPROACH
STATUTORY PROVISIONS
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Traditionally used (and currently exists) in the Commonwealth
o Sing. CA, ss. 210-212
o UK Companies Act, 2006, Part 26 (previously ss. 425-427 of Companies Act, 1985)
SCOPE


Scheme of Arrangement
o Wide scope
o Distinguish from compromise
 Generally a transaction between CO and creditors where latter agree to forego something in
return for letting CO stay afloat
Between
o A company and its members or a class of them (E.g. Equity, Preference)
o A company and its creditors or a class of them
CLASSIFICATION OF MEMBERS



Process begins with approval of scheme by boards of companies involved
Application to court for convening meetings of members (and, if applicable, creditors)
Class meetings to be held
o Why is classification of members necessary?
16









Interests, understanding (consultation, deliberation), information
All these should take place among people who share similar interests so that they won’t be
persuaded to vote against that by people who don’t share the same interest
o What is the rationale?
Rationale: to promote consultation among persons with common interest
What is a “class”?
o “must be confined to those persons whose rights are not so dissimilar as to make it impossible for them
to consult together with a view to their common interest”: Sovereign Life Assurance Co. v. Dodd
Tests for commonality of interest
o Similarity of rights as shareholder
o Similarity of effect under scheme
In re Hellenic & General Trust (1975, UK)
o Scheme of arrangement – Shares to be cancelled and new ordinary shares to be issued to H, which will
pay off other shareholders.
o Forced exit of other shareholders
o Issue – Whether subsidiary of H, as a shareholder of the company, constitutes a separate class?
o Court found that subsidiary of H had an interest that was different from other shareholders
o Discussion:
 Why do courts adopt such a paternalistic approach?
 What criterion is used for classification?
Similar approach followed in Singapore (Wah Yuen Electrical, TT International)
Danger of overprotection of minority
o Obstructs deals
Discuss the level of detailed classification required
o Benefits vs. costs
o In Singapore (TT International), issues of classification is to be dealt at the very outset
INFORMATION


Dissemination of information
o Essential for shareholders to be in a position to make a reasoned decision
o Courts place significant reliance on this factor
 Element of transparency
Wah Yuen Electrical (2003,SG)
o “Court would take into account the adequacy of information provided in determining whether to
sanction the scheme”
o Scheme of compromise between company and its creditors
o Certain related party creditors voted commonly with other creditors
o Court found lack of transparency with respect to related party debts
 It “prevented the court from making a competent assessment of the bona fides of the related
party votes”
 Creditors were not in a position to assess the fairness and reasonableness of the scheme
o Insufficient information on whether returns in proposed scheme were greater than in liquidation
o Issue - Is proper and adequate disclosure of information more important than classification?
17

Re Econ Corp (2003,SG)
o Under the scheme, creditors were to receive shares of parent company EIL in return for foregoing debt
owed to them
o However, disclosure regarding EIL and its financial position (losses) was found lacking
 Creditors are entitled to this information before deciding – something intrinsically relevant
o Court refused to approve the scheme
MAJORITY

Approval of classes of shareholders
o Majority in number representing three-fourths in value
 2 requirements
 50% of the number of shareholders; AND
 >= 75% of share value
 Usually minority SHs are greater in number
o S. 210(2), Sing. CA
COURT SANCTION





Role of the court in sanctioning a scheme
o Supervisory in nature
o To ensure compliance with statutory provisions and procedure
o No substantive review or appellate jurisdiction
o Fairness
 Procedural fairness or encroaching into substantive fairness? To what extent can they encroach?
 Reasonable person – court substituting its judgement?
 Courts should not go into commercial aspects
 What about distributive fairness vis-à-vis creditors? Impact on 3Ps
Questions:
o Why are there so few court-based amalgamations?
o Time factor
o Why do courts adopt a restrictive approach?
Effect of court sanction
o Where does the scheme of arrangement derive its efficacy from?
 Statutory contract
 Order of court
o Importance of legal effect
 Vesting of undertaking (property and liabilities)
 From transferor to transferee company (S. 212(1)(a), Sing. CA)
Difference between asset/business sale and amalgamation
o Asset/business sale is accomplished through contract
 The transfer is pursuant to contract
o Amalgamation is effected through a court order granted pursuant to statutory provisions
 The transfer takes place pursuant to law
Statutory contract or court order?
18
o
o
Whether such a sanction draws its power from the former or latter
 Statutory K – courts can’t vary it; court order – can vary it
 SGCA case of Reliance General Asia
Differing views among jurisdictions. However, Singapore takes the position that the scheme draws
force as an order of the court
OUT-OF-COURT APPROACH
STATUTORY PROVISIONS


Introduced more recently in the Commonwealth
o Sing. CA, ss. 215A-J
o UK Companies Act, 2006, Part 27
Mainstay in Delaware (DGCL, §§251,253)
KEY FEATURES


Short-form amalgamation
o Vertical amalgamation
 Wholly-owned subsidiary (WOS) into parent
 Could’ve different 3P interests (creditors etc)
o Horizontal amalgamation
 Among 2 or more WOSs of a common parent
Standard amalgamation
o Those that do not qualify for short-form amalgamation
PROCESS
SHORT-FORM AMALGAMATION





Approval of directors
Solvency statement
o As it relates to the amalgamated company
Shareholders’ special resolution of the amalgamating companies
Lodging of requisite documents with the Registrar
No requirement to prepare an amalgamation proposal
STANDARD AMALGAMATION


Certain additional requirements apply
o Because third party interests are involved (e.g., minority shareholders)
Apart from special resolution of shareholders, the scheme has to be approved:
o “by any other person, where any provision in the amalgamation proposal would, if contained in any
amendment to the memorandum of an amalgamating company or otherwise proposed in relation to
that company, require the approval of that person.” (s. 215C(1)(b))
19

Query: Whether class meetings are required in a standard amalgamation?
o Lack of guidance from courts
o But, academic view is that it could be tantamount to a requirement for class meetings
 Does it make the out-of-court process too onerous?
 What about risks associated with class meetings? Uncertainty in classification etc
o Class meetings a form of minority shareholder protection?
SOLVENCY



Rationale for solvency requirement in out-of-court amalgamations
Solvency statement
o Required in the case of amalgamated company and each amalgamating company
o Cash flow solvency + balance sheet solvency
 Cash flow is indicative of short term debts
 Balance sheet is indicative of a longer term
o Also, that company will continue to pay its debts for 12 months
Queries:
o How does this impact the ability of companies to implement out-of-court amalgamations?
o What is the effect of the solvency statement requirement on directors?
 Does it make a difference if they are independent directors?
o Are the liability provisions a deterrent?
 Why does scheme of arrangement have no such requirements? Creditors have approval rights +
court’s approval is required
o Will this have a chilling effect on out-of-court amalgamations?
EFFECT OF AMALGAMATION



S. 215G, Sing. CA
o “(c) all the property, rights and privileges of each of the amalgamating companies shall be transferred to
and vest in the amalgamated company”
Transfer by operation of law
o Both rights and obligations can be transferred
Statutory contract – no court order involved
o Achieves the same effect as a vesting order under s. 212
MINORITY PROTECTION




Affected shareholders and creditors may approach the court per s215H
o To deny effectiveness of amalgamation, to modify the terms, etc.
o Need to show unfair prejudice – difficult to prove – s216
But, there is no buyout right to minority shareholders (i.e. no appraisal rights in Singapore)
o Only burden of proof is that plaintiff voted against proposal
Only other cause of action is “unfair prejudice” under s. 216, Sing. CA – oppression action
o To bring this action, you need to be a member of the final company
More rights to minorities = Rule by minority = increase risks of hold-outs?
20
DELAWARE POSITION




Essentially follows the out-of-court amalgamation process
Includes both short-form and standard mergers
o Short-form – only require 90% shareholding in subsidiary – no need for parent SH approval – rmbr that
minority has appraisal rights – not only present and voting – all of those entitled to vote, present or not
Shareholder majority threshold more onerous
o “majority of the outstanding stock of the corporation entitled to vote thereon” §251(c)
Shareholder approval not required for amalgamated/surviving company, if:
o No amendment to certificate of incorporation
o If shares of amalgamating company become identical shares of surviving company
o Shares issued by surviving company do not exceed 20% of stock immediately prior to effectiveness of
the merger
 Shareholding dilution is not significant
 Not possible in a reverse merger
21
SEMINAR 5 – SCHEMES OF ARRANGEMENT (2)

Background of squeeze-outs
o To make the company a wholly-owned subsidiary
 To avoid the cost of maintaining and servicing small shareholders
 For operational ease – no need to continue dealing with arms-length
o Minority shareholders are offered an exit from otherwise illiquid investments
o Squeeze out usually follows a takeover offer (and delisting in the case of previously listed companies)
o Shares provide a bundle of rights in a company (E.g., s. 121, Sing. CA)
 Movable property, transferable in the manner provided by the articles of the company
o Property right available to shareholder
 Fairness versus efficiency
 Procedural fairness
o Any denial of the right of holding or disposal raises issues
 Arguably amounts to expropriation
 But, such right is not unconditional – it is subject to statute
METHODS OF SQUEEZE-OUTS






Compulsory acquisition, e.g. s. 215, Sing. CA
Scheme for reduction of capital
Scheme of arrangement, e.g. s. 210, Sing. CA
Amalgamation procedure, e.g. s. 215A-J, Sing. CA
Alteration of articles of association
All of these are available under English law, subjected to minor modifications
COMPULSORY ACQUISITIONS




Sec. 215, CA
o The only statutory provision that directly recognises squeeze out of minority shareholders
Procedure established
o Scheme or contract for transfer
o To be approved within 4 months of offer
 By 90% in value of the shares whose transfer is involved
 If buying remaining 50%, need to acquire 90% of the remaining 50% (i.e. 45%) for a total
of 95% shareholding
o Notice of compulsory acquisition can be given within 2 months thereafter
o Acquirer is entitled to acquire shares of dissentient shareholders as well
o Two way-right (i.e. minority can require the majority to buy as well)
No requirement of prior court approval
o However, if dissenting shareholders approach court, then the squeeze out is subject to court order
This mechanism imposes onerous conditions
o Needs to be preceded by a general offer
o 9/10th of independent shareholders is a steep majority requirement
22


Hence, the provision has been rarely used
Parties have attempted to overcome the onerous nature of the provision
o By having a related party make the first offer, so as to obtain 90% majority
o However, courts have been quick to plug the loophole
 In re Bugle Press (ECA, 1960)
 Doesn’t satisfy fairness requirement – not done in good faith – mere technical
compliance is insufficient – a sham transaction
o This adds to the practical difficulties in using this provision
REDUCTION OF CAPITAL






Companies legislation provide for schemes involving reduction of capital
o E.g. ss. 78A-I, Sing. CA
Pre-conditions
o Special resolution of shareholders
o Sanction of the court (in some cases)
Comparison with s215 compulsory acquisition
o Can be selective in cancelling shares
 Note that there are some forms of reduction that must be pro rata
o Doesn’t involve transfer of shares (side note: no stamp duty?)
o Financial outlay comes from the company, not the majority SH(s)
Squeeze-outs
o Through selective reduction of capital
o Minority shareholders’ shares are bought back by the company and cancelled
o Majority shareholder’s shareholding will thereby increase to 100% to achieve squeeze-out
Courts are generally open to allowing such schemes, subject to compliance with:
o Process
o Fairness in pricing
General propositions in relation to use of reduction of capital for squeeze-outs
o Selective reduction of capital is possible – s78A allows the company to reduce its capital in any way
 Courts are deferential to the company’s decision as to whose shares are to be reduced and by
how much
o Separate class meetings need not be held for majority shareholders and minority (who are being
squeezed out)
 However, in UK, the case of Robert Stevens Holdings stated that this may be needed. India’s
position is that it is unneeded as the Act did not explicitly state so. Singapore’s position is
unsettled.
o Court performs only a supervisory role while sanctioning a reduction scheme
SCHEME OF ARRANGEMENT


The expression “arrangement” is wide enough to cover squeeze-out transactions
Exemplified in Hellenic & General Trust
o The purpose of the scheme was precisely to squeeze out minority shareholders
23



Process
o Court-convened meetings of shareholders
o Class meetings are mandatory
Why use scheme of arrangement? Many takeover documents in Singapore are structured as schemes of
arrangement because:
o It allows the acquirer to squeeze out minority shareholders, possibly without their approval
o It allows the acquirer to obtain 100% control
Other considerations
o Whether majority and minority shareholders will be treated under the same class?
 No. See Hellenic & General Trust
o Onerous shareholder approval requirement
 Majority in number and 3/4ths in value
o Sanction of the court
 Fairness to shareholders
 Process + price (valuation)
AMALGAMATION PROCEDURE







Cash-out mergers
o Indirect method for achieving squeeze outs
o Target company is merged with the holding company
o Minority shareholders in the target are paid cash in exchange for the shares held by them
o The business of the target becomes vested in the holding company with minority shareholders having
exited
o Alternatively, holding company could issue shares to the shareholders of the target, especially if it is a
listed company
Prof Wan Wai Yee opines that this is potentially a method to squeeze out minority shareholders although it was
not intended by the legislature to do so
Approval of shareholders
o Special resolution at general meeting
o Class meetings?
 Statute does not require, but some contrary academic opinion exists
Solvency requirements
o Do not impact squeeze-outs directly
o As they are catered towards protection of creditors
Objections by dissenting shareholders
o S. 215H, Sing. CA
Scrutiny of court in case of objections
o Deny effectiveness to scheme
o Modify scheme
o Direct companies to reconsider the scheme
No appraisal rights under Singapore law
o Academic critique
o Compared with New Zealand (also US, Canada)
24



Note that this amalgamation procedure was based on New Zealand’s and yet there were
appraisal rights in New Zealand.
But, buyout of shares is a remedy in an oppression action
o S. 216, Sing. CA. However, onerous requirements to demonstrate “unfair prejudice”
Question:
o Is the amalgamation procedure too lenient towards majority shareholders in squeezing out minority?
ALTERATION OF ARTICL ES



Clause in the articles providing majority shareholder a right to require minority to sell
o Inclusion in the articles at the time of incorporation of company; or
o Subsequent inclusion through alteration of article
Alteration of articles
o Special resolution of shareholders
o Alteration must be “bona fide for the benefit of the company as a whole”
 Allen v. Goldreefs
o Courts have allowed alteration in certain circumstances
 Sidebottom v. Kershaw - Amendment that requires competitors to exit the company is valid and
was upheld
o Gambotto (Aust) opined that compulsory acquisition amounts to a form of expropriation
 Whether this is applicable in the wider Commonwealth is questionable.
Question: In what type of companies will this option work?
o Listed
 Listing requires some form of shareholdings held by the public.
 Also, regulator may take action.
o Public Unlisted
o Private
CHOICE OF OPTION

The most appropriate option must be chosen depending on facts and circumstances:
o Available majority
o Willingness to adopt the court-route
o Appropriateness of an amalgamation
o Willingness to provide solvency certificate
US –FREEZEOUT MERGERS


Similar to the cashout mergers in Singapore
o Minority shareholders will be compulsorily bought ought through payment of cash
Traditional remedies under US state law
o Appraisal rights
o However, they are not entirely effective here
 Transaction structures that avoid appraisal
25









Individual claims to be made – not every SH will make such a claim – more likely to be
institutional investors who have the motivation to make such claims – cost ineffective
 Lack of recovery on future value upon merger
Need for fiduciary duty class actions
o Against controlling shareholders (owed to minority and C)
o Discussion Question: Does this raise any peculiar problem under corporate law?
 Commonwealth – Ds don’t owe a direct duty to SHs; US – Ds may owe a direct duty to SHs
 Alteration of articles – majority has to ensure that alteration is bona fide
o Ultimately, have to be cognisant that r/s between majority and minority is predicated on contract
(articles or SHs agreement)
 May have additional statutory duties such as no oppression and vote bona bide
Availability of class action mechanism – no collection action problem?
Onus on company to show that transaction was “entirely fair” to the shareholders
Suitable remedy can be crafted by the court
o Appraisal rights
o Injunction against the merger
Weinberger v. UOP (Del SC, 1983) ***
o Signal owned 50.5% of UOP, and proposed a freezeout merger with UOP
o Feasibility studies for Signal conducted by Signal officials who were on UOP’s board (for the exclusive
benefit of Signal)
 Information asymmetry between S and minorities
o Plaintiff (minority shareholder) brought a suit for breach of fiduciary duties
o Delaware Supreme Court
 Fiduciary duty class actions would be available to minority shareholders in certain situations
 Fraud, over-reaching
 Self-dealing
 Misrepresentation
 Fairness of transaction is crucial – fair dealing and fair price (2-pronged approach)
 Set up an independent committee of directors (interested directors should recluse
themselves)
Kahn v. Lynch (Del, 1995)
o Extends the principle in Weinberger
Indicia of fairness
o E.g., an independent committee of directors to negotiate the transaction at arm’s length
o Shifts the burden of proof to plaintiff to prove lack of fairness
Tender-offer freezeouts
o Further development of the law
o A more lenient approach followed by the courts
26
SEMINAR 6 – NATURE OF TAKEOVER REGULATION
NEED FOR REGULATION




Disclosure
o Of shareholding – info asymmetry for offeree
o Of information in a takeover bid (esp share-swap)
 Appropriate to enable shareholders to make a decision whether to exit or stay – bidder’s
financing options
 To prevent false bids – prospect of success
 Future of company – whether bidder may sell assets
Equality of Opportunity
o Right of shareholders to tender their shares
o Right to receive same price as other shareholders
 Prevent 2-tier pricing that induces sub-optimal decisions
Historical approach is deference to market. However, recent approach is more of regulation
Downside of disclosure – may encourage institutional investors such as hedge funds in buying shares in
anticipation of a takeover which is short-term in nature for the funds’ own benefits
REGULATION IN THE UK
CITY CODE



City Code on Takeovers and Mergers
o Came into effect in 1968
o A system of “voluntary self-regulation”
 Established and administered by market participants
 Prominence of institutional investors in the U.K. context
o Rationale for a voluntary system – lawyers no incentive to bypass the law
o Speed in action
o Flexibility
o Avoidance of enforcement mechanisms as a “ploy”
Structure of the City Code
o General Principles
 “statement of standards of commercial behaviour”
o Rules
 Procedure to govern specific forms of takeovers
 Examples of application of the General Principles
Neither a statutory enactment nor subsidiary legislation
o Changing market conditions – takeovers sensitive to market conditions; speedy resolution is essential
o Strong institutional investor interests
PANEL

Takeover Panel
27
o
o
o


Body which administers the City Code
Comprises generally of industry participants
Bodies of the Panel
 Code Committee
 Hearings Committee
 Panel Executive (for day-to-day functioning)
Takeover Panel possesses subtle powers to ensure compliance
o Public censuring
o “Cold shouldering”
o Other powers
 Refer the matter to DTI for investigation
Whether actions of the Panel can be challenged by aggrieved party? Refer to Datafin case.
ENFORCEMENT OF PANEL DECISIONS


Datafin Case (CA, 1987)
o Two bidders Norton Opax (NO) and Datafin made offers to take over McCorquodale
o NO was acting in concert with Greenwell Montagu which was in turn acting with KIO
 Concert parties
o Question: whether NO was therefore acting in concert with KIO, as KIO had made purchases of target
stock that would have changed terms of the offer
o Panel concluded that they were not acting in concert
o Decision challenged by Datafin before lower court and then Court of Appeal
o Question: whether decisions of Panel are subject to judicial review
o Court of Appeal:
 Panel is a body whose actions are subject to judicial review
 Not a court of appeal; only a court of review
 Panel “operated as an integral part of a system which performed public law duties”
 Supported by public law sanctions
 E.g., if there is excess of jurisdiction, lack of bona fides
 Scope of judicial review is “carefully and narrowly demarcated”
 “Relationship between the Panel and the court has to be historic rather than contemporaneous”
 “The court should allow contemporary decisions to take their course, considering the
complaint and intervening, if at all, later and in retrospect by declaratory orders”
 Present parties cannot get immediate relief but declaratory orders will benefit future cases –
voluntary nature of Panel
 Reduce incentive to seek resource through courts – no point spending money litigating
without any benefits
 But, on facts, the Court of Appeal refused to overturn the ruling of the Panel
Powers of the Panel - Guinness Case (CA, 1990)
o Takeover bid by Guinness for Distillers plc.
o Pipetec AG alleged to have acted in concert with Guinness in purchase of Target’s shares
o Ruling by Panel to increase the price in Guinness’ offer
o Guinness sought review of the decision
28
o
Court of Appeal:
 “The Court would only intervene by way of judicial review where it was satisfied that the
outcome resulted in injustice”
 Emphasis on principles of natural justice
 The need to give sufficient opportunity / hearing
 “G plc was a witness in inquisitorial proceedings rather than a defendant to a
disciplinary or criminal charge; and that, accordingly, the panel’s decisions, while
insensitive and unwise, were not such as required the court to intervene by way of
judicial review”
 The challenge did not succeed on facts
CHANGES TO UK REGULATION




EU Takeovers Directive
o Made effective in 2006
o To bring about uniformity in takeover regime among EU countries
o Significant delay in implementation of the Directive
o Points of contention
 Hostile takeovers and role of the target’s board
 Non-shareholder interests (e.g. employees)
Takeover Panel now has statutory status under the Companies Act, 2006
Additional powers
o To seek enforcement by court
o To order compensation
o But validity of transactions not affected
Discussion Question: What changes, if any, might there be to the operation of the City Code and the Panel in
practice?
o Even with the changes, it is likely that the current market practice will continue to hold sway
REGULATION IN THE US




Statutory form of regulation
o Securities Exchange Act of 1934
o As amended by the Williams Act of 1968
 To introduce equality of treatment among shareholders
o State corporate laws – the duties aspect, behaviour of parties
Regulation is often detailed
Enforcement by regulator (SEC)
US regulations involve checks and balances
o Finance and corporate professionals
o Federal regulators
 Mandate for investor protection
o State legislators
 Influenced by decision of corporate managers to incorporate in suitable jurisdictions
29

Level and extent of corporate duties in a takeover situation determined by state law (e.g.
Delaware)
REGULATION IN SINGAP ORE





Essentially tracks the pre-existing UK model
Regulation through a voluntary code rather than legislation
Singapore Code on Take-overs and Mergers
Securities Industry Council (SIC)
Discussion Questions:
o Do you think this approach is appropriate?
 SIC more flexible, more suitable for a less-litigious environment, can give light-touch sanctions
(to affect the reputation)
o What is the impact of recent changes in the UK? Should it alter Singapore’s approach?
 Similar to the UK, the SIC has moved towards greater statutory recognition
SECURITIES AND FUTURES ACT (SFA) & THE SECURITIES INDUSTRY COUNCIL(SIC)









Code now has statutory recognition
o SFA, s. 321
o But, not subsidiary legislation
SIC too has statutory recognition
o SFA, ss. 138-140
o S. 139(7) – “The Securities Industry Council may issue rulings on the interpretation of the general
principles and rules in the Take-over Code …, and such rulings or practice shall be final”
Issue – can SIC rulings be challenged judicially? Finality is important for certainty but is it susceptible?
o Principles of administrative law may allow judicial review
SIC decisions are likely to subject to judicial review, similar to the UK
However, no specific court rulings yet in Singapore about reviewability of SIC decisions.
Other decisions under administrative law may provide some light
Petaling Tin (Malaysian SC, 1994)
o Panel issued public censure. Issue is whether that exonerated party from making a mandatory takeover
offer
o Exercise of powers beyond Panel’s jurisdiction
 Panel’s decision subject to judicial review as it performs a public function
 Public censure does not automatically release party from obligations to make takeover offer
Other cases in the non-takeover context
o Stansfield Business (SGHC, 1999)
 No ouster of jurisdiction if authority acts in breach of the rules of natural justice
o PSC v. Linda Lai (SGCA, 2000)
 Court will not interfere if relationship between parties is not underpinned by statute or
subsidiary legislation.
 Relief not granted: matter of pure contract
Companies Act, s. 159
30
o

“The matters to which the directors of a company are entitled to have regard in exercising their powers
shall include …
 (b) the rulings of the Securities Industry Council on the interpretation of the principles and rules
of and the practice to be followed under the Singapore Code on Take-overs and Mergers”
o ***This provision allows directors to follow SIC rulings without breaching their fiduciary duties ***
Listing Manual of the SGX-ST (Chapters 10 and 11)
o For listed companies
o Disclosure and shareholder approvals
31
SEMINAR 7 – TAKEOVERS (1)
PRE-BID AND BID PROCEDURES
PREPARATION OF A BID

Factors to consider
o Likely attitude of the Target’s board
 Goes into formulation of strategy in making the offer
o Shareholder profile of the Target
 F&N takeover – Offeror bought shares directly from OCBC without going through the board
o Arguments to be presented to Target’s shareholders
o Arguments to be presented to Offeror’s shareholders (in a share offer)
COMMENCEMENT


Approach to the Target (UK: r. 1; Sing: r. 1)
o Offer should in the first instance be made to the board of Target or its advisors
 Discussion Question: Why should the board be involved in a transaction pertaining to the
Offeror and the Target’s shareholders?
 Board can provide guidance to SHs
 Board is more informed than SHs about the details/structure/fairness
 Board will make decision in the best interest
 Board can mount suitable defences if necessary
 However, it may not be good for CO
 Board may have a side deal (golden parachute) for a second-best offer
 Board may block a good takeover offer if they are afraid of being jettisoned – not in best
interest of company
 Board may be closely related to offeror (real conflict of interest) e.g. MBO
Satisfaction of the Board (Sing: r. 1.3)
o That Offeror is in a position to complete the offer
o Comfort/assurance from the Offeror’s financial advisor
o To prevent making of a false bid (distortion of share price/frivolous bids)
INFORMATION




Containment and management of information is critical in an takeover situation
Information regarding a takeover is price-sensitive in nature – relates to insider trading
o Recall previous discussion on Efficient Capital Markets Hypothesis
Secrecy is of utmost importance (UK: r. 2.1; Sing: r. 2)
o Flow of information must be channeled and timed carefully – on a needs basis
o Early announcement – attract rival bids, pre-mature offers
o Other than needs basis, enter into confidentiality K arrangement
Sharing of information by Target (UK: r. 20; Sing: r. 9)
32
o
o
Information may be provided to Offeror (e.g. during due diligence)
It must be provided equally fully and promptly to any other competing offeror, even if not welcome by
the Target
 Answers to specific questions
 Risk of overbroad disclosure to initial Offeror
INSIDER TRADING




Trading on the basis of price-sensitive information (PSI) not known to the public
Impending takeover is generally price-sensitive
Use by Offeror of information gathered from Target to purchase shares in the market
o But, Offeror’s knowledge of its own activities and intentions to make an offer is not a bar
 i.e. safe harbour under Securities and Futures Act
o Why? Facilitates takeovers, allows for a premium (offerors less adverse to offering a premium),
uniformity of offer made to all SHs based on PSI
Various scenarios
o Scenario 1 – offeror has PSI and made and offer – safe harbour
o Scenario 2 – offeror has PSI and purchases more than 2% of shares, be it privately or on the market –
insider trading
o Scenario 3 – offeror makes an offer without PSI privately – safe harbour (s299) – not insider trading
because the offer was not made on the basis of the PSI
MARKET MANIPULATION



False trading with a view to artificially inflate or deflate the market price of shares
Applies to both Target as well as Offeror (in the case of a share offer)
o Target – to deter bid or angle for a better price
o Offeror – to make its offer more attractive in case of share swaps
***Care must be taken to ensure that structuring of transaction and timing of announcement comply with
securities laws and regulations***
ANNOUNCEMENT OF OFFER



When is an announcement of offer necessary (UK: r. 2.2; Sing: rr. 3.1-3.3)?
o When a firm intention to make an offer is notified to the board of the Target
o Acquisition of shares resulting in obligation to make a mandatory offer
o When Target becomes the subject of rumour or speculation, or there is untoward movement in price
o Extensive negotiations for a possible offer
o Purchaser being sought for a large shareholder (holding 30% or more)
Obligation (UK: r. 2.2; Sing: rr. 3.1-3.3)
o Initially lies with the Offeror (i.e. before the Target’s board is approached)
o Thereafter with the Target (i.e. after its board has been approached)
Type of statement
o Definitive
o Holding announcement
33





Creates distortion in market – uncertainty
Target and investors may not welcome the uncertainty
Time-bound requirements in the UK (r. 2.6)
 “Put up or shut up” regime (changed after Kraft-Cadbury takeover) – intention has to be
made clear within 28 days or offeror is prevented from bidding for target for 6 months
 Permitted in Singapore but need to be renewed every month. Can theoretically be extended
forever until SIC steps in
o Request to stock exchange to suspend trading in the stock
 Discussion Question: What might be the reason for this requirement?
 Prevents fluctuation of stock price
 Prevents insider trading
Contents of offer announcement(UK: r. 2.7; Sing: r. 3.5)
o Terms of the offer
o Identity of the Offeror – may be an SPV
o Conditions to which the offer is subject
o Confirmation by financial advisor as to availability of sufficient resources to complete the offer
 See Singapore case of Jade Technologies
Communication
o To shareholders, employees
CONDUCT OF OFFER

Independent Advice (UK: r. 3; Sing: r. 7)
o Target’s board to obtain competent independent advice immediately – needs to be fair and reasonable
o To communicate the substance of the advice to shareholders
o Independence of advisor (from target) is key
 Impact of multi-service organisations
 Strength of “Chinese walls” – different departments are segregated and no information flow
between them
o Why the need for independent advice?
 Overcome conflict of interests
 Competence of the board – helps the board better evaluate and communicate advice to SHs
 Board has to evaluate and advise the SHs upon receiving the recommendations – accept or
reject – usually on the basis of valuation
o Examples (from US) where independence has been questioned more recently
 In re El Paso Shareholder Litigation
 Advisor’s investment in offeror
 Second opinion not effective
 Transaction enjoined (i.e. instructed) by court – a form of injunction/court order?
 Del Monte Foods Shareholder Litigation
 Advisor to a takeover
 Transactions with other parties
 Involvement in buyer side financing
 Treated as conflict on the part of advisor
34


 Imposes onerous responsibilities on advisors and also boards appointing them
Target’s Board
o Accept and support the bid
o Reject and oppose the bid
o Adopt a neutral stance
Communication to shareholders (UK: r. 25.1)
o To enable shareholders to take a decision on the offer
o A somewhat paternalistic approach towards shareholders
 Regardless of level of sophistication (Query: are shareholders all unsophisticated? What about
hedge-funds/pension-funds/institutional investors?)
US APPROACH

Tender offers
o Regulated by the SEC pursuant to the Williams Act
o Basic terms for shareholders
 Offer period – minimum 20 days
 Minimum price
 Shareholder withdrawal rights
 Pro rata acceptances for oversubscribed offers
 Information rights
o Tender offers: deliberately not defined by SEC
COMPARISON BETWEEN US AND UK/SG APPROACHES



Offer made to SHs rather than board
Greater power of the board
However, board’s power is exercised more tactically compared to the advisory approach in UK/SG
o Note this difference in the context of defences – US boards have more power to mount defences in the
face of hostile bids compared to UK/SG boards
DISCLOSURE OF INTEREST




Transparency is key to takeover regulation in all the jurisdictions being examined
Disclosure of acquisition of shares
o By Offeror
o By persons “acting in concert”
Discussion Question: What is the rationale for requiring disclosure of shareholding?
o If offeror has a large shareholding, the offer is more likely to succeed – other SHs need to know
Timing of disclosure
o During the offer period (UK: rr. 8.1-8.3; Sing: 12.1-12.3)
o Prior to any offer, upon exceeding prescribed limit of 5% (US: Securities Exchange Act, s. 13(d)(1))
CURRENT TRENDS
35


Greater role of hedge funds and other sophisticated financial investors in takeovers
o Tendency of speculative investments?
o Use of derivative instruments (with underlying shares of Target) to mask shareholding interests in
companies
o Sudden launch of offers/disclosures upon unwinding derivative positions
Should acquirers of CFDs be compelled to disclose?
o One could argue that the acquirer is a “beneficial” owner
 Some courts have went to the extent of characterising instruments as such
o However, the regulation of a takeover is about control (i.e. voting rights)
 Here, the acquirer only has economic rights. It doesn’t have voting rights.
o One could also argue that the CFD itself may give de facto control to acquirer
 However, this doesn’t amount to acting in concert because acting in concert can’t be done with
respect to the same set of shares
o Settlement of contract – how does the contract unwind at its termination?
 If physical settlement (i.e. counterparty gives shares to acquirer), there is grounds for disclosure
DEFINITION UNDER THE CURRENT REGIMES



City Code in the UK has been amended to include derivatives within ”interest in securities”
Singapore Code was amended in 2012 to recognise derivatives – see notes 6(a)(iii) and 8 to r 12.3
In the US, specific rules being promulgated by SEC in connection with derivatives and disclosure – under Dodd
Frank Act
36
SEMINAR 8 – TAKEOVERS (2)
PROCEDURES AND OBLIGATIONS
DUTIES OF OFFEROR

General duties
o To make comparable offers where Target has multiple classes of shares
 Only applicable to equity shares, not instruments convertible to equity shares
 Recommended approach – converting instruments into equity shares
 Another option is to include holders of such convertible instruments in the offer, at a
different price
o To take into account conversion rights, options and subscription rights in Target’s shares
o To offer uniform terms to all shareholders
 To avoid “side-deals” with specific shareholders that are not applicable to others
 Types of side-deals
 Additional premium/different price
 Non-compete fees
 Acquirer’s giving shares to management upon completion of deal
o What if it was given at a discount? Golden parachute?
o Arm’s length test + prevailing market rate
o Do the other SHs know about such terms?
TERMS OF THE OFFER

Greater flexibility to Offeror in the case of a voluntary offer
ACCEPTANCE CONDITION (UK: R. 10; SING: R. 15.1)




Offer to succeed only if Offeror has acquired (either in the offer or otherwise) 50% of voting rights in the Target
(not de facto but actual) – not shares
o Offeror may prescribe a higher threshold: e.g. 90%
Discussion questions
o What is the rationale for such an acceptance condition?
 Protects minority SHs by not letting Offerors to take effective control with a lower price
 If not, Offerors may take effective control and compel minority SHs to accept lower
price
o Is there merit in eliminating this concept?
Note: this applies to “voting rights” and not just shares (or mere interest in shares)
Discussion questions:
o How does this affect an Offeror who may hold derivatives (that represent “interest” in securities in the
UK)?
o Is it easier or more difficult for such a holder of derivatives to satisfy the acceptance condition?
o Should there be acceptance conditions for mandatory offers? (see below)
37
OTHER CONDITIONS


Permitted only in specific circumstances (UK: r. 13.1; Sing: r. 15.1)
o Objective test can be used to demonstrate satisfaction of condition
 E.g. by an independent third party
o Satisfaction of the conditions must not be within the hands of the Offeror or its directors
o Parties must take necessary steps to achieve satisfaction of the conditions (e.g. holding GMs)
Examples
o Regulatory approvals
o Shareholders’ approval of the Offeror
 Sometimes required under the Listing Manual or for issuance of new shares
o Material Adverse Change (MAC) clause
 Normally not entertained by regulators
 Subjective in nature
 General trends vs. events specific to Target
 E.g. WPP Group’s bid for Tempus Group in 2001
 UK Panel said 9-11 attacks were a short term extraneous factor
 Test is a material change that strikes at the heart of the deal that almost akin to a
frustration of contract
 Internal – regulators more inclined to allow such clauses
 Selling assets, Bankruptcy, Board, Shareholding pattern, Misrepresentation
 External – regulators less inclined for such clauses
 Decrease in industry prospects, Financial crisis (e.g. financing) – huge debate
 Regulatory approval
 What if approval is given subject to conditions which may be too onerous?
COMPETITION LAW CONSIDERATIONS (UK: R. 12; SING: R. 3.5)
o
o
Conditions under takeover codes linked with process of review by Competition Commission
Multiple levels/phases of review
 Consequences could be different for the takeover process
BREACH OF OFFEROR’S OBLIGATIONS

Case Study of Jade Technologies
o Offer by Asia Pacific Links Ltd (APL) to shares of Jade Technologies Limited (Jade)
o Offer disclosed that APL held 46.54% in Jade
o Subsequently found that APL held only 16.06% in Jade
 A pre-existing security over the shares was enforced by lenders of a stock broking firm
o Hence, lack of financial resources to complete the offer
o Action by SIC, against:
 Dr. Soh
 Announcing an offer without being able to implement in full
 Misleading disclosures as to shareholding in Jade
 Sale of shares in Jade during offer period
38

o
o
Consequences
o Prohibitions from making a takeover offer, from buying and selling on stock
exchange, and from being a director on a listed company
 OCBC (financial advisor)
 Failure to verify availability of funds – shouldn’t have really relied on Dr Soh’s
verification
 But, breaches were less culpable due to conduct of Dr. Soh
 Consequences
o Voluntary abstention from financial advisory work, and donation of S$ 1 million
 But, vindication of OCBC’s claim in the High Court
 Allen & Gledhill (solicitors)
 Breach as to Offeror’s disclosures
 Although primary obligation to disclose rests with Dr. Soh
 Partner’s voluntary abstention from work relating to Takeover Code
SIC didn’t:
 Compel the completion of takeover – lack of financial resources
 Compensation of target’s SHs – doubt as to whether it had the power to do so
 Subsequent regulatory amendments expressly conferred such power on SIC
 Partly as a result of this case
Prof Umakanth believes that this case ups the standard for all players in an M&A deal, especially in a
situation where the Offeror has to pull out
MANDATORY OFFERS
RATIONALE



In case of acquisition of, or change in, “control”
o Need to provide exit option to shareholders
o Part of the rule of equality of opportunity
Acquirer to mandatorily make an offer to all shareholders (UK: r. 9.1; Sing: r. 14.1)
o Concept does not exist in the US. Why?
 Concentrated shareholding – usually Offerors will just make an offer to the controlling SH
 Diffused shareholding (more prevalent in US) – Offerors have to make a partial offer to all SHs
 Funnily, UK has requirement to make mandatory offers despite most COs having diffused share
holdings
Discussion Questions:
o What is the rationale for mandatory offers? (as above)
 Need to provide exit option to shareholders
 Part of the rule of equality of opportunity
 These trumps Offeror’s choice
o Are they really required to maintain equality? Is equality necessary?
 Control premium – why should minority SHs receive control premium?
 In reality, most minority SHs are just short-term SHs (e.g. hedge funds, private equity funds).
They are probably sophisticated enough to protect themselves.
39

Are mandatory offers an overkill?
o Prof Umakanth seem to think so but probably not a pressing issue of reform for regulators
CONTROL



Definition of “control”
o Subjective criteria
 Depends on facts and circumstances
 Pattern of shareholdings generally in companies
o Objective definition (favoured in UK and SG)
 Threshold fixed at 30% of voting rights
Discussion questions:
o Do you agree with having a percentage threshold?
 Objective:
 Certainty (e.g. 29.9%)
 However, may be prone to technical skirting/abuse
 Subjective:
 Prevent abuse by looking at the situation holistically
 Places a bit of uncertainty
o What is the rationale for fixing 30%?
 Does a small amount (e.g. 20%) mean no effective control?
 Diffused shareholding – more power than SH-ing (20% versus other diffused SHs)
 Articles allowing for effective control more than what SH-ing prescribes
 Why 30%?
 25% - used to be the threshold – legal reason for blocking special resolutions
 Why 30%? Probably after conducting a general study of SH-ing structure in SG
o The lower the threshold, the more onerous for M&A market
o Looking at other jurisdictions
 Not a fixed number but can be changed from time to time
Do derivatives/instruments count towards “control”?
o UK – counted towards part of SH-ing (shares + derivatives)
o SG – derivatives only counted towards disclosure purposes but for mandatory offers, Offeror has to
consult SIC
CREEPER




When acquirer’s current shareholding is between 30% and 50%
Certain acquisitions attract mandatory offer requirements
o UK: Any acquisition of voting rights by acquirer
o Sing.: Acquisition of more than 1% voting rights in any period of 6 months
But, beyond 50%, any acquisition will not trigger mandatory offer requirements
o As it does not alter control
SG approach may benefit controlling SHs
o To counter a rival’s bid and increase controlling SH’s leverage – incumbent friendly rule
40
ACTING IN CONCERT




Acquisitions by persons acting in concert (PACs) will be aggregated with that of the acquirer
Parameters to determine PAC
o Agreement or understanding
o Formal or informal
o Co-operation
o To obtain or consolidate control or to frustrate an offer
General definition is accompanied by presumptions (unless the contrary is established), e.g.:
o Company – parent & subsidiaries
o Company – directors
o Fund manager – investment company
Scenario: 3 independent COs holding 10% each coming to a common agreement – should they make an offer?
o Which should come first? Acquisition or agreement?
o Literature and regulatory text seems to suggest agreement – act of acquisition triggers the mandatory
offer
TERMS OF MANDATORY OFFER (C.F. TERMS OF OFFER)







Set at 50% - cannot impose a higher threshold
o Hence, mandatory offers do not permit threshold such as 90% to prepare for a squeeze out to follow
Discussion Questions:
o Should there be an acceptance condition for mandatory offers at all?
o Does it defeat the purpose? (see below)
No MAC clauses
If someone buys 35% and there is an acceptance condition
o Selling SH gets to exit but minority SHs gets their shares returned to them (disparity and flies in the face
of equality of treatment)
Mandatory offer
o Principle of equality of treatment/equal opportunity/free exit trumps Offeror’s choice
o Should mandatory offers be replaced with appraisal rights instead?
Limitation on imposing subjective conditions
o Limited exception for competition law matters
Hence, need to avoid a mandatory offer (through share acquisitions) during an existing voluntary offer
o As more onerous requirements apply
ROLE OF TARGET’S BOARD
MARKET FOR CORPORATE CONTROL


Law and economics analysis (Easterbrook & Fischel)
o Premised on 2 counts
Efficiency of the capital markets
o Assuming markets are efficient, share price of a Target will reflect performance of its managers
o Agency costs in companies
41


Shirking by managers
Self-dealing by managers
AGENCY COSTS




Agency costs can be reduced by monitoring the managers in the interests of shareholders
But, who is to monitor?
o Managers: are insiders and may not monitor effectively; also, measurement problems
o Shareholders: ultimate residual beneficiaries of managers’ actions, but suffer from collective action
problems
o Hence, external bidder/raider acts as a corporate control check on managers
If stock price is languishing due to poor performance of managers
o Then premium offer by bidder will act to protect shareholders’ investment
 Premium reflects bidder’s expectation of generating greater returns from the investment than
present management
o Alternatively, the possibility of a bid itself will force managers to act in the interests of shareholders
However, this means that managers may spend more time and resources defending against takeovers instead
o Leads to short-termism in terms of performance (quarterly) – due to dependence on share prices
o Distorted incentive to act fraudulent – window-dressing of account
o Moves by managers to seek golden parachutes from would-be offerors
MANAGERIAL PASSIVITY?





Authors argue for managerial passivity in the context of takeovers
o Managers are inherently interested in a takeover offer
o As their position / continuance is at stake
Discussion Questions:
o Do you agree with the authors’ analysis?
o Are there any alternative approaches?
Should managers have no role at all?
o Easterbrook argues to the extent of recommendation only
Should the directors owe its duty to the companies (incl. employees etc under s159 of CA) or to the
shareholders only?
o Note that under SG law, directors owe fiduciary duties to companies
 Subject to duties to shareholders when faced with a takeover bid per the Takeover Code
Can directors enter into a binding agreement with Offeror to positively recommend the bid (even though the bid
would’ve been recommended under independent due diligence)?
o Looks like it can be done, at least in the US, but on the condition of a fiduciary out (i.e. directors can opt
to rescind the recommendation if at some point in time they are advised to do so by their independent
advisers)
42
SEMINAR 9 – TAKEOVER DEFENCES
BACKGROUND

Differences among jurisdictions
o UK/Singapore
 Takeovers are essentially a matters between offerors and shareholders
 Board can only provide advice and information
 But cannot take action to:
o Frustrate the offer; or
o Take away the ability of shareholders to make a decision regarding their
investment
 Weighs in favour of a “shareholder primacy” approach
o US (Delaware)
 Boards/directors are conferred a greater role in takeovers
 Boards can decide the responses to an offeror
 They may also set up various takeover defences
 Greater freedom to board compared to UK/Singapore
 Arguably weighs in favour of a “director primacy” approach
TAKEOVER DEFENCES IN UK/SINGAPORE
FRAMEWORK OF BOARD’S POWERS


The board has limited powers to protect a company from an unwanted (hostile) offeror
The role of the board is determined by two sets of duties:
o Duties under the Takeover Code
 To act in the interests of the company as a whole; not to deny shareholders the opportunity to
decide on the merits of a bid (UK: GP 3)
 Not to frustrate an offer or to take other similar action without consent of the shareholders (UK:
r. 21.1; Sing: r. 5)
 The duties under the Code come into play once an offer has been made or is imminent
o Duties generally under company law
 To act in the interests of the company
 To act for proper purpose
 The “proper purpose” duty usually arises in the case of issue of shares by a target
company in the wake of a takeover so as to dilute some shareholders
 These company law duties are determined through a combination of statutory provisions as well
as common law
ADVANCE DEFENCES


Some measures can be taken in advance to prevent takeovers (even before they become imminent)
o When is it considered “imminent”? Possibly when rumours start and there is share price movement
Examples are:
43
o
o
o
o
o
o
o
Voting agreements between shareholders:
 To obtain control of the company
 Caution against parties to the agreement being treated persons acting in concert
Interlocking or circular shareholdings
 Combined with common board membership
Pyramiding
 Ability to obtain significant control with minimal economic ownership
Issue or sale of shares to a friendly holder (similar to a white knight)
 E.g. to an employee trust (with a company loan)
 Whether this amounts to a proper purpose?
 Will this amount to parties acting in concert?
 See Hogg v. Cramphorn – frustration of an offer?
 Will this result in unauthorised financial assistance?
o Subsequent whitewashing?
 Usually need to show that the trustee is independent from board influence
 E.g. to a collaborator or business partner
Defensive merger
Differential shares
 With no voting rights or limited voting rights (e.g. Bushell v. Faith)
 Google stock – post-IPO
 However, restricted in the Singapore context – s. 64 of the Companies Act
 S. 64: Provides for a “one-share one-vote” rule on a poll
 However, s64(5) – limited to “public companies”
Service agreements/ management contracts
 With beneficial arrangements for employees upon termination (e.g. “Golden parachutes”)
 Protection for employees personally + defence against takeovers (as they become costly)
 Huge momentum in US/UK to exercise greater oversight over executive compensation
DEFENCES IN THE FACE OF AN OFFER







Takeover Code imposes strict restrictions on ability of directors to defend a bid
Most defensive actions require shareholder approval
o Cannot be effected unilaterally by the board
Board cannot generally take a frustrating action on a bid; or deny shareholders the decision-making powers
o UK: r. 21.1; Sing: r. 5
Such actions requiring shareholders’ approval include:
o Issue of shares/options on shares
o Issue of securities carrying conversion rights
o Disposal of assets (or agreement thereof)
o Entering into contract, including services contract, outside the ordinary course of business
Issue of timing – lag may reduce efficacy of defence
Approval – SHs may not approve of such defences.
o Even if SHs approve, they may not even accept such offers in the first place
In addition, there are certain company law requirements to obtain shareholders approval for specific actions
44

o E.g. issue of shares (Sing: s. 161, Companies Act)
If the company is merely giving effect to pre-existing obligations, then Takeover Panel or SIC must be consulted
o E.g. conversion of pre-issued securities
o Exercise of options previously issued
o Performance of contract previously entered into
DUTIES OF DIRECTORS



Primary duties in the context of takeovers
o To act in the best interest of the company
 Whose interests are represented by the company?
 Do directors have to consider the interests of present shareholders or those in future?
 Should directors take into account short-term interests of shareholders or long-term interests?
 E.g. that offer price is fair and to consider competing bids
 Short-term SH interest will never take into account other stakeholders’ interests;
 Over long term, there is an interest in sustainability – particularly acute today
o Other interests – creditor interests / employee interests
 A lot of SHs now are short-term SHs (e.g. hedge funds)
o Do they require such protections? Should such SHs be disenfranchised?
o Should SHs be required to hold their shares for a minimum period of time
before being allowed to sell them
o To exercise powers for proper purpose
 Need to be exercised for the purpose the powers were granted for – not dilution/altering
control/minority
Howard Smith v. Ampol Petroleum (1974, UKPC (Aust))
o Rival takeover offer for target company, RW Miller (Holdings) Ltd
o Competing bidders were Howard Smith and Ampol (which already held 55% shares)
o Majority of Millers’ directors favoured Howard Smith’s offer and decided to issue $10m worth of new
shares to Howard Smith
o Purpose of the share issuance:
 For capital to finance its business
 For diluting Ampol’s existing shareholding
o Ampol challenged the validity of the share issuance
o Privy Council:
 It is necessary to begin with the exercise of power in question
 Court must examine the substantial purpose for which it was exercised
 Court will give credit to bona fide opinion of directors, and respect their opinion as to matters of
management
 But, on trial, it was found that purpose of Millers’ issue of shares was to dilute majority voting
power held by Ampol
 Directors cannot use the power for shifting control in the company
 Hence, power was improperly exercised by the directors of Miller
Heron International Ltd v. Lord Grade (1983, ECA)
o Target company: Associated Communications
45
o
o
o
o
Takeover bids from two companies, Bell and Heron
Transfer of voting shares possible only to person nominated by the directors
Court of Appeal
 When directors have decided that the company be sold, the only duty of the directors is to
obtain the best price
 Once the directors decide to hand over control of CO, the duty shifts from towards the
long-term SH interest to short-term SH interest
 Where directors are to decide between rival bidders, the interest of the company must be the
interest of the current shareholders
Note: Compare this with the position in Delaware: the Revlon Case (discussed later)
TAKEOVER DEFENCES IN US (DELAWARE)
BOARD’S DUTIES


In a takeover situation, the board will be judged against one of three standards:
o Business judgment rule
o Enhanced standard (Unocal test)
o Entire fairness standard
 Recall earlier discussion relating to freeze-out of minority shareholders (Weinberger v. UOP)
Much of the Delaware jurisprudence on board’s duties revolves around the appropriate standard to be applied
to a given case
FRIENDLY TAKEOVERS



In this case, generally the business judgment rule (BJR) is applied
Scope of the Business Judgement Rule (BJR)
o Business and affairs of a company are managed by its board of directors
o BJR “exists to protect and promote the full and free exercise of powers granted to … directors” - if not
directors will act in a risk-adverse manner
o It is a presumption that in making a business decision, directors have acted in good faith and honest
belief that action was in the interests of company
o The party attacking the board’s decision must show that the decision was not an informed one
Smith v. Van Gorkom (1985, Del. SC)
o Class action suit by shareholders of Trans Union (TU)
o TU was seeking a cash-out merger with a Pritzker company
o Board of TU approved the merger
o But, the board:
 Didn’t adequately inform themselves of Van Gorkom’s role in advising the merger
 Unaware of precise terms of merger agreement
 Did not obtain adequate information regarding valuation
 No expert was appointed
 Valuation exercise undertaken by CFO Romans was indicative and for purpose of
leveraged buyout
46

o
Mere premium over market price may not reflect the true worth of the company in the
future
 Was negligent in approving the transaction at such short notice – must give at least some time
for due diligences
 Note: nowadays, COs usually employ an independent M&A team
Court held shareholders’ approval was obtained without providing sufficient information
TAKEOVER DEFENCES

3 types of takeover defences
o Those that require shareholder ratification
o Those that can be adopted directly by the board
o Those that are based on corporate powers granted under corporate statutes
REQUIRING SHAREHOLDER RATIFICATION




E.g. shark repellent charter document amendments
Staggered board
Limits on shareholder voting, caps on voting rights, etc.
Supermajority rights for back-end mergers
CAN BE ADOPTED DIRECTLY BY THE BOARD

Poison Pill Plans
o Distribution of stock rights to shareholders (in the form of dividend)
 Such plans usually found in charter document
o Granting shareholder the right to convert to common stock at substantial discount
 When an acquirer’s holding crosses a threshold (usually 15%, but could vary)
o Poison pills usually alter the share capital of the CO (incl. adjusting share prices to reflect the new share
capital)
o Stock rights not available to such acquirer, who gets substantially diluted upon conversion of rights
o Such poison pills chill the takeover market – boards can effectively block such takeovers
 The invocation of the pill makes it extremely expensive for acquirers
 Hence, they will be compelled to approach the target’s board to negotiate and obtain a
redemption of the pill
o Types of pills (Flip in, Flip over, Chewable, TIDE provision)
BASED ON CORPORATE POWER GRANTED BY CORPORATE STATUTES




Used to make the target unwanted to an acquirer (e.g. sale of key assets (crown jewels))
Handsome rewards to managers (golden parachutes)
Acquisition of another entity to attract competition law concerns
Launch of a bid on the acquirer (Pac-Man defence)
HOSTILE TAKEOVERS
47


In hostile takeovers (which involves the employment of takeover defences), the enhanced scrutiny (Unocal test)
is applied
o Why is BJR not applicable in hostile takeovers?
o Enhanced scrutiny test seems to be long-term rather than short-term (relates to corporate policies)
Difficulty in applying BJR per se
o Directors are confronted with an inherent conflict of interest
o “… omnipresent specter that a board may be acting primarily in its own interests, rather than those of
the corporation and its shareholders.” (Unocal)
SCOPE OF THE ENHANCED SCRUTINY TEST (UNOCAL)

Before the target’s board is accorded protection of the BJR, it must establish:
o Reasonableness test: that board had reasonable grounds for believing a “danger to corporate policy and
effectiveness” existed from the hostile offer
o Proportionality test: that the board’s defensive response was reasonable in relation to the threat posed
RECENT POSITION – AIRGAS



Air Products v. Airgas (2011, Del.)
o Poison pill by Airgas to prevent takeover by Air Products
o Offer at $70 a share considered inadequate
o 3 directors nominated to the board by Air Products
Plaintiff prayed for invalidity of poison pill and for it to be redeemed
o Ground – directors of Airgas failed to fulfill their duties
Court
o Applied the two Unocal tests
o Bifurcated the application into (whether there was)
 Structural coercion – e.g. 2-tiered share offers (SHs ‘coerced’ to accept the offer due to
ignorance/fear)
 Substantive coercion
 UK/SG – board can only recommend/reject
 US – board has more actions (e.g. poison pill)
o In this case, court deferred to board because more than half of Airgas SHs are short-term investors and
arbitrageurs
 Identity and motivation of SHs determine how much protection they should be given
o Held that Airgas board “acted in good faith and in the honest belief”
 No breach of duty
 Actions of the board withstood the enhanced test
LESSONS FROM AIRGAS


Usefulness of the poison pill continues (no appeal to Delaware Supreme Court in this case)
o Why no appeal? Circumstances such as share price may have changed.
o Also, costs of appeal are too high?
Reliance on law laid down by the Delaware Supreme Court
48



A “just-say-no” defence is valid
o Even though directors have not taken any additional defensive actions
Process followed acquires importance
o E.g. retention of outside legal and financial advisors
o Perhaps independence of the board was a factor
 Only insider of the board was the CEO.
 Even Air Products’ nominee directors agreed with Airgas board decision
Role of short-term investors & arbitrageurs
COMPETING OFFERS – REVLON POSITION

Revlon Inc. v. MacAndrews & Forbes (1986, Del. SC)
o Offer by Pantry Pride for shares of Revlon – using junk bond financing
o Rejected by Revlon upon advise of investment bank
o Instead, Revlon implemented share repurchase program and a note purchase program (having the effect
of a poison pill)
o Revlon separately had negotiations with another bidder Forstmann
o Directors agreed to a leveraged buyout by Forstmann
o Court:
 Although the adoption of the pill was valid under the circumstances, its continued use was not
 It became apparent that a break-up of the company was inevitable
 Recognition that the company was up for sale
 This significantly altered the board’s responsibility under the Unocal standard
 There was no threat to corporate policy and effectiveness
 Directors’ role changed from “defenders of corporate bastion to auctioneers charged with
getting the best price for the stockholders at a sale of the company.”
 “Selective dealing to fend off a hostile but determined bidder was no longer a proper
objective. Instead, obtaining the highest price for the benefit of the stockholders
should have been the central theme guiding director action. Thus, the Revlon board
could not make the requisite showing of good faith …”
DISCUSSION QUESTIONS ABOUT POISON PILLS



In the current era of short term investors and arbitrageurs, would the court in Revlon have decided differently
and gave SHs so much protection?
Revlon case that shows convergence between US and UK judicial attitudes towards board conduct in takeovers
o Really?
o Should Heron be decided differently if a majority of its SHs are arbitrageurs?
When do cases shade from defending the CO (per Unocal) into breaking-up (per Revlon)?
o What happens when 2 offers come in – a lower offer that won’t break-up the CO or a higher offer that
will break-up the CO?
 No break-up = need to defend against threat to corporate policy and effectiveness (Unocal)
 Break-up = obtain best price possible for SHs (Revlon)
STAGGERED BOARDS
49



Poison pill and other embedded defenses are subject to redemption by the board or shareholders
Offeror may seek to obtain redemption by taking control of the board – through obtaining enough shares to
mount a proxy fight
Hence, in order to ensure robustness of defense, poison pills are usually accompanied by a staggered board
WHAT IS A STAGGERED BOARD?





Structure of a staggered (or classified) board
o Board is divided into classes (usually 3 classes)
o Each class of directors will retire each year (i.e. a third of the board changes each year)
o Each director will therefore have a term of 3 years
Nothing preventing staggered board arrangements in UK/SG but it won’t be as effective as in US
o Anyone with control of CO can simply remove entire board in UK/SG
o Even though this is only applicable to public COs, bear in mind that for private COs, there is no need to
approach board
 You probably have to approach the SHs (which are most likely the ones in control) directly.
In case the Offeror needs to acquire control of the board, it must wait two election cycles
o i.e. to obtain majority on the board
In addition, law and constitutional documents of Delaware companies contain strict restrictions on removal of
directors
o Shareholders can remove directors only for ‘cause’
 E.g. severe misconduct, offence of moral turpitude, etc.
o But, greater removal rights to shareholders in UK/Singapore
This makes staggered boards a formidable defense in the U.S.
o Offeror to undertake prolonged proxy fights in order to overthrow the board
o Delays and costs may result in offeror surrendering in their takeover attempts
 E.g. Recent Airgas takeover battle
PROXY FIGHTS




Offeror's attempts to reconstitute the board are taken through proxy fights
o Offeror calls for a shareholders’ meeting where it seeks to propose its own candidates for directorship
o These candidates are countered by the management
The process of voting is important. Balance is usually tilted in favor of management
o It has access to the proxy machinery
 List of shareholders
o Less costly for managers
But, an extensive set of regulations in the US attempts to grant limited rights to shareholders
o Movement towards shareholder primacy is extremely slow in US
Blasius Industries Inc. v. Atlas Corp. (Del, 1988)
o Blasius a new stockholder of Atlas (holding 9.1%)
 Proposed a restructuring of the company
 Intended to obtain control by seeking appropriate representation on Atlas board – by increasing
the board size to 15 and appointing its own nominees
50
o

Management called an emergency board meeting
 Added 2 more directors (taking the total to 9)
 To defeat Blasius’ ability to appoint majority board
o Evidence establishes Atlas’ principal motive for acting as preventing Blasius’ control
o Court of Chancery (Allen, J.)
 Board was not acting out of a self-interested motive – it acted in good faith
 Similar to “best interests” test in UK/Singapore
 But, question whether principal purpose of board’s action was to prevent shareholders from
electing majority of the board
 Ordinary considerations of business judgments are not present in matter involving shareholder
voting (Unocal test not applicable here)
 It is a question of authority between the board and shareholders
 Facts did not justify coercive action by the board. There was a violation of the duty of loyalty
owed by the company
Discussion of Blasius test
o Unocal versus Blasius test (academic rationalisation)
 Blasius – SH right to vote (a company law right)
 Unocal/Airgas – SH right to exit (a contractual right)
 Boils down to nature of rights being interfered with?
o How does this compare with Howard Smith (proper purpose test)?
 Seems rather similar
TAKEOVER DEFENCES INTERACTION WITH TAKEOVER REGULATIONS




Final takeaway from discussions on takeover process, hostile takeovers and defenses
Role of regulation
Differences in the US and UK positions
o Analysis in article by Armour and Skeel
o There are historical reasons why regulations have developed in a divergent manner – need to be
cognisant of the players involved in setting up these regulations
 Type of shareholding – more diffused in US/UK and more concentrated in SG
 Which regime is better?
 Shareholder primacy (UK/SG position)
 Management primacy (US position)
o Short term SHs (do they need so much protection?)
o Better able to take care of other stakeholders such as employees and creditors
 Does it matter in East Asian Cos when the controlling SHs are also on the board?
 Why not give to the board since the controlling SHs can exercise their power through
the boards also?
o Studies suggest that the US approach lead to better value from M&A
Discussion Question: Based on analysis of takeover regulation, can we draw some strands as to the background
and rationale for takeover regulation in Singapore?
o UK approach – shareholder primacy
o Controlling shareholders – protection mechanisms for minority shareholders
51


 Mandatory offers (why not appraisal rights?)
 Oppression remedies – sufficient? Easy to claim?
Recent changes in the UK
o Reaction to the Cadbury/Kraft takeover – are such reactions knee-jerk and uncalled for?
o Call for greater protection to:
 Target companies, Managements, Employees
o Imposition of greater restrictions on Offeror
Discussion question: Will the recent measures place obstacles on hostile takeovers in the UK?
o Yes – offerors may find it more expensive and time consuming to mount hostile takeovers
o No – merely clarification of current standards – also boards in UK still not given as much latitude in
mounting defences in the face of a hostile takeover compared to boards in the US.
52
SEMINAR 10 – LEVERAGED BUYOUTS
HOW ARE TAKEOVERS FINANCED?


Share swaps
o No (or less) cash outflow from acquirer
o But, dilution of existing shareholders
o Useful for reverse takeovers
 When the offeror has a smaller asset size – can be used to do “backdoor listing”
o Need for shareholder approvals – s161 CA SH approval for share issues by the board
Cash takeovers
o Internal resources
o Borrowings
LEVERAGED BUYOUTS (LBOS)
STRUCTURE


Key features of LBO
o Significant use of external financing (banks, bonds) –
 Highest tier - senior debts (long term bank loans)
 Middle tier - Mezzanine financing
 Lowest tier - Junk bonds (high-yield / high-risk)
o Partial sponsor-funding
o Use of targets assets to leverage the financing
 Mostly by way of security or guarantee – if not external financiers only own target’s shares, not
the assets themselves
o Why indirect borrowing by sponsor? To separate and limit liability into SPV
Structuring Issues
o Direct borrowings vs. use of special purpose vehicles (SPVs)
53



 Bankruptcy remoteness / limited recourse financing
Documentation
o Negotiation of conditions
o Confirmation of financial resources
 Remember Jade Technologies – threshold triggering mandatory takeovers; need to talk to SIC
first
 Also need to talk to lender (c.f. danger of info leak)
o Standardization of documentation
o Documentation usually provided by underwriters – such loans are binding upon conditions precedent
 Also, sometimes financial advisers will have to look at the financial situation of underwriters
o Issues for financial advisers to look at:
 Is there enough financing?
 Are the documentation done properly?
Directors to act in good faith in the interests of the company
o Group company situations
o When subsidiary provides guarantee/security for parent’s obligations
The rule against financial assistance
o Does security guarantee over Target’s assets amount to financial assistance by Target to Acquirer(s)?
FINANCIAL ASSISTANCE



Applies in the case of acquisition of shares of the Target (i.e. in a takeover)
o Probably not an issue if it was an acquisition of Target’s assets by the SPV
Rule against financial assistance
o Largely to protect creditors
o Also, to protect against trafficking in shares / manipulation of price, etc.
o Protect minority against controlling shareholders
Comes in the way of LBO transactions
o Particularly in the UK and Singapore
 Little such rules in US
o UK/SG adopts a more rules-based approach compared to US
WHAT CONSTITUTES FINANCIAL ASSISTANCE?



Financial assistance “for the purpose of” or “in connection with”
o Examples:
 SPV borrows from bondholders and provides the shares it holds in the Target as security
 SPV borrows from banks and provides Target’s assets as security
 3 months after the acquisition, the Target declares extraordinary dividend used by the SPV to
repay part of its loan to banks
FA can be direct or indirect, for example:
o Interposing another entity in between company and lender
o Acquisition of assets by company at substantial value when those assets are not necessary for its
business
Reason v. purpose (just need to be a purpose, not THE purpose)
54
o



Even though motive (reason) of transaction may be justifiable, if purpose was to give financial
assistance to acquirer, then transaction in doubt
 Even if the declaration of dividends was for the substantive purpose of financing external
acquirers, it will amount to FA
Target company’s board should show why the entire transaction is beneficial to the target company
o Should be done by an independent committee of the Target’s board
 Look at SGCA case of Intraco
o To protect Target’s creditors, a process called structural subordination can be done to make the Target’s
creditors have priority over the Target’s assets over other creditors – possibly soothing fears of FA
Gradual relaxation in law
o UK: exception to private companies under the Companies Act, 2006
 If target is privatised after the takeover, it can subsequently finance the acquirer (e.g. through
extraordinary dividends)
 How to privatise? Do a squeeze-out and forcefully de-list the company
 Company must be privatised within 3 months of takeover
 Determination of legality of FA should be whether company is privatised already at the
point of FA
 How do independent financiers ensure that Target will lend the money subsequently?
 Charge a higher rate of interest until the Target lends money.
 Can’t create charges over Target’s assets because it may amount to FA
o E.g. Singapore Companies Act, s. 76
 Several exceptions incorporated
 Lending to employees trust (Hogg v. Cramphorn)
 Dividend in the ordinary course of business
 Scheme of arrangement – need to get creditors’ approval and court’s sanction
o Whitewash provisions (conjunctive) - Look at case of NatSteel for LBO and FA
 Shareholders’ approval
 Solvency declaration by directors
 Subject to restrictions
Discussion Question: Does the legal position change if the transaction involves an acquisition of assets/business,
and not shares?
o No. FA provisions only apply to acquisitions of shares, not assets/business (see above).
55
SEMINAR 11 – MANAGEMENT BUYOUTS (MBOS)
FEATURES OF AN MBO





A group of managers buy the assets, business or control of the Target
o Backed by a group of financiers (banks or investors)
o With management taking an equity stake
 To ensure risk and commitment to the venture
Reasons
o Managers feel CO is undervalued
o Flexibility in restructuring CO
Why management wants to privatise CO?
o No need to disclose sensitive information to public
o Ability to take long-term decisions without being subject to pressures of market share prices and
quarterly results
Usually involves 100% acquisition of shares of the Target
o I.e. a “going private” transaction. Shares are delisted from stock exchanges
It is another form of an LBO – a sub-set
o Hence, involves same issues pertaining to financial assistance - “whitewash” provisions
CONFLICT OF INTERESTS OF MANAGERS



Managers are on both sides of the transaction
o As purchasers
o As directors/managers of the Target (Board members which are supposed to advice SHs on TO)
How do they protect the interests of Target shareholders?
How do they ensure parity of information regarding value of the Target?
TAKEOVER CODE MEASURES



Independent Advice (UK: r. 3, Sing: r. 7)
o Element of independent becomes much more important in MBOs compared to other forms
Involvement of non-executive directors
o Who appoint the independent advisors
o Who advice the shareholders about merits of the offer
Equality of information (UK: r. 20, Sing: r. 9)
o All information given to financiers must be shared with directors/shareholders
CHECKS & BALANCES


Fairness opinions
o From investment banker
o That price for the offer is fair (based on a range)
Appraisal rights
o Not entirely useful to individual shareholders
56





Independent negotiating committee
o Consisting of independent directors to address conflict situation
o But, how is independence ensured?
 Can such a committee be fully independent?
 Formal independence is easy to ensure but how about substantive independence?
o Expertise, availability of information to directors?
Shareholder vote on the MBO instead of board
o Need to give SHs information – informed consent
Requiring greater disclosure of the transaction
o Especially walk-out price for managers
Mandatory auctions
o SIC actually intervened and force such auctions.
o Gives the possibility of a better offer from another party – indirectly forcing management to increase
its price
Most practicable option consists of a combination of:
o Independent fairness opinion
o Independent committee of directors to negotiate
o Adequate disclosures
o Shareholder vote
CASE STUDY OF DELL MBO



Agreement between company and its founder + Silver Lake Partners
Usual conflicts in MBOs apparent
o Here, the CO is effectively represented by an independent committee of directors
Hence, lawyers devised protective terms in the agreemen
o “Go-shop” period for 45 days
 Relevance of such a clause - Obligation to talk to other potential offerors – to reduce
information asymmetry?
 Contrast with “no-shop” and “no-talk”
 Usually very risky for directors to enter into as they can be questioned as to whether
they discharged their fiduciary duties
 Only justification is that but for these clauses, there will be no acquirers seeking to
acquire the CO – problem of potential rivals free-riding?
o Termination fee – payable by Target company – to compensate resources expended by buyer in
mounting bid
 During go-shop period – lower fee
 After go-shop period – higher fee
o Separate investment banker hired to find a higher bidder
o Matching rights to bidders (especially initial bidder)
o Disinterested shareholder approval
o Reverse termination fee for buyer termination (i.e. management terminates) – to compensate Target for
disruption to business, possibility of lawsuits, loss of key personnel during bid process etc
 Relates to financing conditions
57

o
o
o
o
o
Something similar to the Jade Technologies scenario – show that MBO isn’t being given
favourable treatment
 Consequence of 2008 financial ccrisis
How feasible are these conditions?
Are they sufficient to overcome conflicts in MBOs?
Latest position
 Further bids by Blackstone & Carl Icahn
 How does the board decide on a “superior proposal?
 Price? Financing terms? Future prospects of the company
Note the Unocal/Airgas versus Revlon scenarios
 Auction = long-term interests no longer relevant?
 Or since CO is still alive, long-term interests still relevant?
Break fees for termination
 Is it FA? No because it isn’t for the purpose of acquiring shares.
 Also, US regime for FA more lax
58
SEMINAR 12(1) – DEAL-MAKING 1
DEAL-MAKING PROCESS




M&A for closely-held COs seem more contractual in nature and less regulated by Code and regulations
compared to M&A for public listed COs
Considerations of expertise versus considerations of confidentiality – whether to engage lawyers
o Expertise – binding/non-binding agreements; non-solicitation
o Confidentiality – costs
o Questions of announcements – need legal advice on the timing of such announcements?
Due diligence
o May not be that necessary for public companies that have a lot of information in the public domain.
However, some potential offerors still opt to do so because of fears of liabilities and trade secrets
Signing = signing of an agreement subject to conditions which requires performance by respective parties at
closing
o Some conditions – competition, continuation in ordinary course of business, material adverse change
(controversial as it is pretty subjective)
PRELIMINARY DOCUMENTS
CONFIDENTIALITY AGREEMENTS






Entered into during initial stages (e.g. at commencement of discussions)
Definition/scope of “confidential information”
Need to bind employees and advisors of purchaser
Exceptions
o Information already available publicly
o Where disclosure is required by law, e.g. Takeover Code
Offeror will probably make Target responsible for its employees (and vice-versa?) – indemnification
o Employees – usually already incorporated into employment contracts
o Other advisers – usually made to enter into such agreements by acquirer
o Target in a no-talk agreement – perhaps to protect confidentiality
Reverse confidentiality agreements (Target to keep Offeror’s information confidential)
59
o
Share swap – acquirer needs to provide info about its own shares
LETTERS OF INTENT






To reflect preliminary understanding between parties
o Contains essential (commercial) terms of the deal
To enable negotiation of detailed documentation and commencement of due diligence
Binding or non-binding?
o No thumb-rule
o Depends on the wording of the LoI and the intention of the parties
A clause not to talk to other parties in an LoI may be binding notwithstanding the other clauses being nonbinding
Dispute arises when parties fail to execute definitive agreement after signing LoI
o AIH Acquisition Corp. v. Alaska Indus. (SDNY, 2003)
 AIH entered into a commitment letter to purchase Alaska. There were extensive negotiations on
T&Cs of stock purchase agreement. They agreed to “all the material terms in final form with
signatures coming the next day as a mere formality.”
 AIH also incurred substantial expense in the course of conducting due diligence. Alaska
subsequently refused to execute the final definite agreement.
 Court held that parties entered into final and binding agreement notwithstanding the lack of
signatures as it was a “mere formality”. Agreement was legally enforceable and court granted
specific performance
o Texaco Inc. v. Pennzoil Co.(US, 1987)
 Pennzoil entered into Memorandum of Agreement, subject to individual board approval, on a
merger with Getty. Texaco made an alternative offer to Getty’s board. Getty repudiated
Pennzoil’s offer and accepted Texaco’s instead.
 Pennzoil sued Texaco for tort of interference with contract but Texaco contended that there was
no binding agreement between Getty and Pennzoil.
 Court held that Pennzoil and Getty had an intention to be bound, as evinced from the
Memorandum and their press release.
 Difference between transaction being subject to various requirements and formation of
agreement being conditioned upon completion of such requirements
 Matter of degree? Perhaps the former is a condition and the latter is a condition
precedent?
o Factors to consider
 Whether parties intended to be bound on when definitive agreement is signed;
 Whether there was partial performance;
 Whether all essential terms agreed upon;
 Whether complexity of the transaction demanded a detailed agreement.
o Courts are willing to hold that LoI and similar documents are binding even though they don’t justify the
complexity of an M&A transaction
But, certain terms are expressly made binding even in an LoI
o Confidentiality (if part of LoI)
o Exclusivity
60
o
o
“No shop” clauses
Break-up fee
ACQUISITION AGREEMENT
KEY CLAUSES



Definitions
Purchase and Sale
o In an asset or business sale, identify the assets and liabilities being transferred
o Need to be clear about what liabilities are covered
Consideration – cash, shares, notes, etc.
REPRESENTATIONS AND WARRANTIES








Statements of fact regarding the Target
To be vouched for by seller – so as to double up over or validate due diligence and valuation done by purchaser
Heavily negotiated
Usual qualifiers:
o Materiality threshold
 Subjective or objective (e.g. amount of money)
o “Best of knowledge”
 That which the seller “knows or ought to have known”
o Except as disclosed by the Seller
 In a disclosure schedule or separate disclosure letter
New trends: reps & warranties insurance
o Buyers may want this if Seller goes insolvent – can recover from insurance CO. However, there could be
exclusions in the policy
o Also, insurance policy could be void for lack of full disclosure by Seller – insurers will conduct due
diligence before policy
o May not be cost-effective to get policies for every deal
Usually given by Seller for Buyer’s benefit. Why give such reps/warranties?
o To give Buyer contractual certainty to sue (in case of info asymmetry) above and on top of what the law
provides
o If Buyer ascribes more value to asset than it actually commands (due to info asymmetry), the Buyer can,
upon discovery of misrepresentation, rely on the warranty to recover the deficit
 Purchase price adjustment to arrive at real value of CO
Personal guarantees by controlling SHs/directors
Need to be cognisant of the regulatory requirements/disclosure regimes
CONDITIONS PRECEDENTS (CPS)

To be satisfied (or waived) before the deal can be implemented
o E.g., objective conditions - shareholder approvals, any governmental consent, antitrust review, etc.
 SH approval usually not needed for cash txns (duh!)
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o
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Some subjective conditions – no material adverse change (MAC), completion of due diligence
 Consequences – if no fault of either parties -> agreement comes to an end (only if drafted as
such)
Failure of CPs will result in walk-away right to one or both of the parties
o But, each party to take best/reasonable efforts to ensure satisfaction of CPs
Drop dead date – a date which the agreement will end if CPs not fulfilled
o Lack of such drop dead date is akin to an exclusivity clause
 Good for buyer (seller can’t shop around for other buyers)
COVENANTS
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E.g. to carry on business in the ordinary course between signing and closing
o Non-compete clause
o No sale of assets
o No increasing of liability of CO (e.g. borrowing a lot of $$$)
Also, some post-closing conditions
Breach usually results in indemnification or a claim for damages
o Indemnification akin liquidated damages clause.
 Better as it is more certain w.r.t. quantum of damages compared to claim for damages due to
breach of K
o ***Remedy is suing for enforcing another K obligation, not for breach of K***
 Parties have flexibility to provide for conditions of such indemnification
INDEMNIFICATION
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A specific contractual remedy
o As opposed to relying on general remedy for breach of contract
Liability arises when there is a breach of representation, warranty or covenant
Usually a payment obligation
Most negotiation tends to occur on limitations to indemnification obligation on following counts:
o Cap on liability
 As a percentage of purchase price
o Trigger on liability
 To avoid de minimis situations
 Baskets
 Only if liability aggregates to certain threshold amount
 Whether threshold amount deductible or not?
o Time period for invoking indemnity
 Relationship with limitation period under law
o Exceptions for certain types of liability
 IP, Environmental, Tax (8 years)
EMPLOYMENT AGREEMENTS
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For continuation of existing management
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o To ensure smooth transition
Term of employment
Non-compete provisions
Earn-out
o Part of consideration for sale linked to future profits
o To minimise disagreements on valuation – buyer has incentive to maximise earn-out as much as possible
(how much he has to pay is under his control)
o But, issues can arise in implementation of earn outs
 Differences in strategy post-acquisition
 Disagreements regarding role of continuing management personnel
o O’tool v. Genmar Holdings Inc.(US 10th Circuit, 2004)
 Sellar retained as GM of CO. Earn-out linked to sale of particular product from seller to buyer.
Seller’s powers began to be eroded by buyer. Buyer started cannibalising seller’s product with
its own product.
 Court held in favour of seller – buyer found to have deliberately done things to minimise earnout
 However, cannot always depend on court to come to rescue of seller
LEGAL OPINIONS
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Issued by seller’s law firm in favour of purchaser
Covers legal aspects of the transaction
o Mainly an enforceability opinion
Law firm acts as a gatekeeper
o Stakes its reputation
Limitations on legal opinion – assumptions, exceptions as to enforceability
Liability of issuing law firm
OTHER ISSUES
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
A lot of due diligence info here is relevant to private COs. For public COs, a lot of the information is already
available in the public domain
For a public M&A, selective availability of information (that results in share price movements) may infringe
security laws
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SEMINAR 12(2) – DEAL-MAKING 2
DUE-DILIGENCE
CONCEPT
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
Evolved as a method to protect directors
o Of issuers companies under securities laws
 To prevent possible infringement of insider trading laws
o Of acquirer companies under corporate laws
Process of seeking further information
o To make an information judgment about value
o To identify risks and deal with them – not the materiality of risks but the type of such risks
 By walking out of the deal; or
 E.g. fraud/embezzlement/corruption
 By including specific protection in deal documentation
GENERAL ISSUES
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Utility
o Minimizing risk
o Allocating risk
 This is performed largely by deal documentation than by due diligence
o Maximizing shareholder value for client
o Contractual modification to the caveat emptor rule
Parties
o Due diligence is usually conducted by the acquirer on the seller
 But, in case of share consideration, seller may conduct limited due diligence on acquirer
o Also, there may be prior seller due diligence conducted by seller’s own lawyers
 “Clean up act”
Areas
o Business, financial, tax, human resources, environment
o Legal (e.g. Organisation, Contracts, Labour/employees, Insurance, Accounting/finance, Tax, Property,
Litigation, Environmental matters)
Limitations
o Depends on quantity and quality of data provided by the Seller
o All risks are not “diligenceable”
o Limitations on time
o Often, competitive bidding does not permit full due diligence
Disputes over Due-diligence
o Sherwood Brands, Inc. v. Levie (US 4th Cir, 2007)
 Acquisition of shares from controlling shareholders
 Extensive due diligence conducted by acquirer’s personnel
 But, they failed to ask the appropriate questions, despite high level of sophistication
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o
 No relief granted to acquirer,
Also, recent example of HP – Autonomy deal
 Auditor warned HP (acquirer) of financial irregularities in Autonomy’s accounts
 HP still went ahead – led to a significant loss for HP
VALUATION

Role of Lawyers
o Broad understanding of valuation methodologies
o Technicalities of valuation are not important
o Valuation is usually the most contested aspect in an M&A deal
 E.g. minority shareholder litigation
o Historical approach – may not work well for future projections
 Futuristic approach – may not be true in future
VALUATION METHODS
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Discounted Cash Flow method
o Forward looking in nature
 Takes into account the future prospects of the Target
 Represents the real value to be derived by the acquirer
o Present value of future cash flows + present value of the company’s assets
 Applying a discount rate
 Where present value = The current worth of a future sum of money or stream of cash
flows given a specified rate of return.
o Most widely accepted by the financial community
o Important for knowledge-based industries where existing assets are minimal
o But, value is dependent on accuracy of inputs
 Estimation of cash flows and terminal value
 Application of a discount rate
Comparable Company method
o Market value of share + control premium
o Comparison with other public traded companies
 Financial performance across years
 Price-to-earnings (P/E) ratios
o Element of subjectivity
 In identification of comparable companies
 Depends on industry
Delaware Block Approach
o Combination of different values
 Earnings value – net income
 Market value – stock price
 Asset value – liquidation value
o Weightages assigned to each values to arrive at the final figure
o Based largely on historical performance
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

 Future prospects are not incorporated to the extent required
Trading Market Value
o Based on stock price of the company
o After weeding out information relating to the M&A transaction
 As that is an abnormal stock price movement
o Deficiencies
 Choice of relevant date is subjective
 Market movements due to extraneous reasons – i.e. beta
 Questions regarding ECMH (Efficient Capital Markets Hypothesis)
Liquidation Value
o Net asset value
 Total assets less total liabilities
o Usually on a break up basis
 Not a going concern
o Again, purely historic in nature
 Does not incorporate future prospects of business
ADJUSTMENTS TO VALUATION
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Discounts to determined value
o Minority discount
 Due to inability to exercise control
o Illiquidity discount
 For private and unlisted companies
 Lack of ability to trade in the market
 In case of private companies, restrictions on transfer of shares in the articles of association
Control premium
o For the availability of controlling block
o Not shared by minority shareholders
Usually possible in private negotiated deals
o ***Regulations do not permit control premium in public takeovers***
 E.g. uniform pricing requirements under takeover codes
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