Will judges outside Delaware follow Chancery’s lead in M&A shareholder cases?

August 4, 2016

(Reuters) – There were two big takeaways from a new Cornerstone Research study of shareholder suits challenging big M&A announcements. First, Cornerstone confirmed what other analysts have previously reported: Plaintiffs’ lawyers are filing fewer cases in the wake of a 2015 crackdown on disclosure-only settlements by Delaware’s Chancery Court. The drop-off is dramatic (assuming that, like me, you accept the premise that the filing rate of shareholder M&A suits is the stuff of drama). At the 2013 peak of shareholder M&A litigation, plaintiffs’ lawyers sued to challenge 94 percent of announced deals valued at more than $100 million. In the first half of 2016, the rate was down to 64 percent – lower than we’ve seen since 2009.

Cornerstone’s second big finding is that when plaintiffs’ lawyers do sue over M&A transactions, they are much more likely to file cases outside of Delaware. In the first three quarters of 2015 – before Chancery Court judges began rejecting settlements that granted defendants broad releases in exchange for immaterial additional proxy disclosures – shareholders sued in Delaware in 61 percent of the M&A deals that prompted litigation. After the crackdown, only 26 percent of the deal challenges were filed in Delaware. Even when the acquired company is incorporated in Delaware, shareholders’ lawyers sued in Chancery Court in only 36 percent of all cases, compared to 74 percent in 2015.

It is increasingly likely, in other words, that judges outside of Delaware Chancery Court will preside over shareholder M&A litigation. So the Cornerstone report adds real-life urgency to a question I’ve previously asked in theory. In Delaware, plaintiffs’ lawyers know they can’t collect six-figure fees for bringing unwarranted deal challenges and defendants know they can’t buy global releases for the low, low price of a few hundred thousand bucks in fees to shareholders’ counsel. But will other judges countenance those agreements?

Fordham law professor Sean Griffith is worried that they will. As you may recall, Griffith is one of the academics who stirred the debate over disclosure-only settlements, co-authoring the 2015 paper, “Confronting the Peppercorn Settlement in Merger Litigation.” He then pledged to put his theories into practice. Griffith bought shares of recently acquired companies in order to object to disclosure-only settlements in shareholder class actions challenging the transactions. He made a splash last summer as an objector in a Delaware case involving Riverbed Technologies. (Griffith’s objection didn’t squelch the Riverbed settlement but provoked an opinion expressing skepticism about the viability of future disclosure-only settlements; the judge nevertheless awarded the professor’s lawyer only $10,000 in fees because he was worried about encouraging meritless objections.)

Now Griffith is busy warning courts outside of Delaware about disclosure-only settlements. In April, he objected to a proposed settlement in New Jersey state court to resolve a challenge to the $105 million buyout of a company called Metalico. The settlement agreement called for plaintiffs’ lawyers to receive $525,000 for negotiating supplemental disclosures to the deal documents. Griffith’s objection argued that the New Jersey judge should apply Delaware law, which, since last year, disfavors such settlements. In June, Union County Superior Court Judge Thomas Walsh agreed the additional disclosures were not material and rejected the settlement. His ruling aligns New Jersey state court with judges in New York State Supreme Court who, as Griffith notes, began bouncing disclosure-only M&A settlements even before Delaware Chancery Court threw down the gauntlet.

Griffith has fared less well in federal court in Massachusetts, where U.S. District Judge Leo Sorokin approved a settlement stemming from Medtronic’s takeover of Covidien, despite an objection arguing the settlement would be viewed skeptically in Delaware; and in state court in North Carolina, where Guilford County Superior Court Judge James Gale approved a settlement partially resolving a challenge to RJ Reynolds’ acquisition of Lorillard. The North Carolina judge acknowledged Delaware precedent discouraging disclosure-only settlements, but said the supplemental disclosures in the Reynolds case were material.

The Fordham professor told me his big fear is that defendants will be able to game the system if judges outside of Delaware don’t adopt Delaware’s skeptical approach to disclosure-only settlements. For defendants, the goal is broad releases from shareholder claims. If they can obtain those releases by negotiating settlements with plaintiffs’ lawyers who sue in courts that allow disclosure-only resolutions, Griffith said, they will be perfectly happy to make those deals. “This a defendants’ racket,” he said. “We academics have been hammering on the plaintiffs’ side for too long.”

Many corporations have forum selection bylaws or charter provisions designating Delaware as the exclusive forum for shareholder litigation. But a lot of those forum selection clauses give corporate directors flexibility about whether to enforce their own rules. Griffith said Chancery Court’s rigidity about disclosure-only settlements will encourage corporate defendants to negotiate ineffectual settlements with second-rate plaintiffs’ firms suing outside of Delaware. The fees generated by such settlements, he said, will continue to fuel these marginal plaintiffs’ firms. Shareholders are the big potential losers in this scenario, he said, because legitimate M&A suits that ought to be litigated before experienced Delaware judges will be settled outside of Delaware.

“This is not a good public policy position we’re in right now,” Griffith said.

Shareholders’ lawyer Jason Leviton of Block & Leviton – who opposed Griffith’s objections in the Riverbed, Covidien and Reynolds cases – said the Fordham professor isn’t giving enough credit to strong plaintiffs’ firms. “Good firms don’t run from particular jurisdictions,” he said. If a top-tier firm with a pending Delaware case believes a defendant is trying to settle on the cheap in another forum with a less capable plaintiffs’ firm, Leviton said, the elite firm can object to the proposed settlement. Most judges won’t allow defendants to get away with forum-shopping, he said.

The lead author of the Cornerstone study, Ravi Sinha, told me that it’s too soon to know whether defendants are enforcing forum selection clauses and moving to dismiss shareholder suits filed in other state-court jurisdictions. (Forum selection for M&A shareholder suits filed in federal court is typically more complicated because those cases tend to assert federal-law securities claims in addition to breach of duty claims.) But Sinha said Cornerstone plans to monitor the fate of cases brought outside of Delaware. Maybe by the end of the year, we’ll know whether Griffith’s forum shopping fears are legitimate.

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