In AT&T’s merger agreement with Leap Wireless, two provisions in particular make it harder than normal for a competing bid to succeed.
The first is a so-called force-the-vote clause. Merger agreements typically allow a target company’s board to terminate a deal to accept a superior competing bid. But Delaware law permits the two parties in a merger deal to agree that a shareholder vote must be held even if a competing bid emerges.
Even though such a clause is legal, only in 9.6 percent of public acquisition agreements since 2010 have contained a force-the-vote clause, according to FactSet Mergermetrics.
The reason is simple expediency. If a higher bid emerges, it is unlikely that the target company’s shareholders will vote to approve the original deal. Requiring a shareholder vote is thus only delaying the inevitable no vote.
In this case, though, AT&T and Leap have paired a force-the-vote provision with a voting agreement, making it a more powerful. MHR Fund Management, an investment fund headed by Mark H. Rachesky that holds about 30 percent of Leap’s shares, has irrevocably agreed to vote in favor of AT&T’s bid. When I say irrevocably, I mean it. MHR’s voting agreement does not give the fund an out if a higher bid comes along.
So even if a competing bidder comes along, AT&T can force a shareholder vote to be held – and it has already locked up about MHR’s vote.
Still, this does not mean that it is a done deal. If another bidder comes along, it could still sway the rest of Leap’s shareholders, or at least enough of them to prevent Leap from exceeding the t50 percent mark needed to complete the deal with AT&T.
The deal protection provisions thus have two functions. First, the clauses deter marginally better bids. Second, they extend the time period for any competing acquisition to be agreed upon and completed, perhaps providing a second deterrent.
If a competing bid is made and ultimately accepted, however, Leap has to pay AT&T a termination fee of $46.3 million, or 3.9 percent of transaction value. According to FactSet Mergermetrics, in the last 12 months, the average termination fee was 3.36 percent of transaction value. Though not a big difference from the average, the higher percentage offers additional protection.
The merger agreement also limits the Leap board’s ability to change its recommendation if an “intervening event” occurs – that is, if something unexpected happens that makes the AT&T bid no longer in the best interests of stockholders. The key here is that the event must be wholly unexpected.
The example practitioners use for what constitutes an intervening event is something like the target company discovering a gold mine under its headquarters, thereby suddenly making the current bid woefully underpriced. But how often are gold mines actually discovered under a company’s headquarters?
While the gold mine example is extreme, this type of clause has never been invoked in the history of takeovers. It is also probably meaningless in this case. The effect of the protection provisions is in some ways a prediction by AT&T and Leap about the likelihood of a competing bid. One possibility is that AT&T, worried about the competitive consolidation and furious rate of bidding for companies in the wireless market, demanded these deal protections.
Leap may have shopped itself, and its board may be fairly confident that another bidder was not out there. The directors could therefore agree to these stronger deal protections, safe in the knowledge that, though stronger than normal, they might not matter much.
In other words, the deal protections here may be appropriate given the state of the market. The fact that MHR, which is a pretty sophisticated investor, also agreed to these protections supports this hypothesis.
That’s the rub about deal protections. Over the last several years, they have become ever stronger and more intricate, a phenomenon known as lockup creep. But whether this is being driven by target companies or bidders – and whether the trend signals a fuller shopping of the company – can be difficult to determine, even when the negotiations are disclosed.
As for the legality of these deal protections, they are unlikely to be struck down by the Delaware courts. In fact, the protections here show how the law has changed in Delaware in the last decade.
The reason is the long slow death of Omnicare. What is Omnicare, you may ask?
In 2003, NCS Healthcare negotiated to sell itself to Genesis Health Ventures in a locked-up deal. A majority of the NCS stockholders irrevocably agreed to vote in favor of the Genesis acquisition, even if the NCS board later changed its recommendation because of another competing bidder. Since the agreement also contained a force-the-vote provision, this meant that the Genesis acquisition was a fait accompli.
These arrangements were challenged by Omnicare, a competing bidder, which offered significantly more money for NCS. In Omnicare v. NCS, the Delaware Supreme Court delivered a 3-to-2 split decision to strike down the voting agreement. The court ruled that such an agreement made the deal certain, and therefore breached the board’s fiduciary duties.
The Omnicare decision was quite controversial, criticized by practitioners and academics alike. At some point, an auction to sell a company must end, and in this instance, NCS had thoroughly canvassed the market and would have faced bankruptcy without the Genesis deal.
But the Omnicare decision was slowly whittled away by the lower Delaware courts. In Miami v. WCI Steel Inc., then-Vice Chancellor Stephen P. Lamb held that the ruling in Omnicare was not implicated when a merger was then approved by the stockholders of WCI by written consent the very same day that the board also approved the deal. Today, it is generally thought that the Omnicare ruling is dead, and that if the Delaware Supreme Court again took up the matter, it would overturn its own decision.
All of this is relevant when reviewing the deal AT&T reached with Leap Wireless. Given the state of Omnicare, this type of lockup – a force-the-vote provision coupled with a voting agreement for less than a majority of a target company’s shares – is undoubtedly acceptable. In the wake of the death of Omnicare and the reduced court scrutiny it brought for deal protections, practitioners have felt much freer to push the bounds – negotiating more aggressive deal protections. Expect to see deals like this again and again in the future.
But are these protections being negotiated simply because the parties can? Or are they being used because the target company believes these lockups provide an incentive for the first bidder to pay up and no other bids are out there? The matter could be put to the test in the AT&T-Leap deal if a second bidder emerges and attempts to overcome these deal protections.
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