Select Page

Merger and Acquisitions
University of Illinois School of Law
Aviram, Amitai

Mergers and Acquisitions


Spring 2015

Governance Framework (Overview of Section 1a)

Introduction to M&A

I. Imports from BA

a. What is corporate law?

i. Corporate law (in the broad sense of the law of business organization, including agency law, partnership law, LLCs, etc.) is the law that governs acting through others (the act of one on another’s behalf)

1. The one who acts is the corporate actor (A); the one on whose behalf the actor is acting is the beneficiary (B); a person interacting with A in connection with the matter on which A is acting on behalf of B is the third part (T)

ii. Acting through others raises two sets of legal issues

1. External relationships (corporate compliance): addressing when A’s behavior changes the legal relationship between B and T (e.g., contract/tort liability)

2. Internal relationships (corporate governance): mitigating the agency problem (A’s incentive to “shirk or steal”, that is – to fail to put B’s interests before A’s own interests)

a. How does A “steal” from B? This is often called “tunneling”

i. A conducts a transaction between B & A, skewed in favor of A

1. Excessive compensation for A (excessive money, perks, stock options, etc.)

2. A buys/rents/borrows an asset from B at below market price

3. A sells/lets an asset to B at above market price

ii. A makes personal use of the position of acting on B’s behalf, or of information that belongs to B (e.g., obtained by A in acting on B’s behalf)

1. Usurping business opportunities (diverting the opportunity from B to A)

2. Insider trading (buying or selling shares in market with advantage of non-public information A has by virtue of his position)

iii. Controller (“C”; SH who controls firm’s board) influences the board to enter a transaction that diverts value from the minority shareholders (“MSHs”) to C

1. Freezeout: C acquires sole ownership of firm, paying MSGs less than fair value

2. Sale of control: firm enters agreement to sell itself to T, with C receiving undeserved preferential terms compared to the MSHs

b. Constitutional documents (charter & bylaws)

i. A firm’s constitutional documents regulate the firm’s legal internal relationships (between the firm, SHs & the board)

1. Charter (“Articles of Incorporation” in MBCA; “Certificate of Incorporation” in DGCL)

2. Bylaws

ii. Creation of constitutional documents

1. Charter [DGCL §101(a)]: incorporator

2. Bylaws [DGCL §109]: until stock is issued – BoD; after – SHs (charter may also allow BoD)

iii. Amendment of constitutional documents

1. Charter [DGCL §242(b)]

a. First, BoD must adopt the proposed amendment

b. Then, SHs approve the proposed amendment (in some circumstances, SHs vote in separate groups [DGCL §242(b)(2)]

2. Bylaws [DGCL §109]

a. SHs always allowed to amend

b. By default BoD can’t amend bylaws, but charter may allow BoD to amend

c. Corporate actors: who are agents & directors, what is their authority and when do their actions bind the firm

i. Agents (A)

1. Restatement of Agency §1.01: An agency relationship is created when A & P manifest assent that A shall act –

a. On P’s behalf

b. Subject to P’s control

2. For this course, officers are agents (law is ambiguous about this)

ii. Organs – act for the firm, but not subject to the firm’s control (agency law does not apply)

1. Organs act by approving resolutions, either by:

a. Written consent

i. BoD: requires unanimity [DGCL §141(f)]

ii. SH meeting: requires SHs having no less than the minimum # of votes needed to take the action at meeting in which all shares entitled to vote were present [DGCL §228(a)]

b. Meeting (rules for SH meetings discussed in Section 1c)

i. Call (authority to call meeting + appropriate notice)

1. BoD: No statutory notice requirement, but abuse breaches FD

ii. Quorum

1. BoD: by default, majority of total # of directors (may be modified in charter, but no less than 1/3); presence via teleconferencing [DGCL §141(b),(i)]

iii. Vote

1. BoD: by default, majority of directors present at the meeting [DGCL §141(b)]

2. Authority can be granted by law, agreement or approval

a. Agents: is A an agent (Rest. 1.01) & does A have actual authority (Rest. 2.01)?

b. Organs: is A an organ & does a law, agreement or approval grant A authority?

3. Organ authority created by law

a. Board: All firm’s powers not reserved to others by law/charter [DGCL §141(a)]

b. Board committees

i. As stated in charter/bylaws

ii. As authorized by board (limits on authorizing committees [DGCL §141(c)])

c. SH meeting

i. Exclusive to SH meeting

1. Electing directors

2. Appointing firm’s independent auditor

3. Precatory (non-binding) SH resolutions

ii. Jointly with board

1. Charter amendments

2. Mergers/sale of all or substantially all of firm’s assets

3. Dissolution of the firm

4. Ratification of certain unauthorized corporate actions [DGCL §204]

iii. Either SH meeting or board

1. Bylaw amendments

2. Ratifying breach of FD

4. Firm’s duties to its actors

a. Contract & tort law

i. E.g., express & implied terms of contract between actor & firm

b. B owes a duty of good faith & fair dealing to A (Rest §8.15)

i. Duty not to frustrate A’s justified expectations, when contract lacks specific language governing the issue, and B’s conduct frustrates purposes reflected in contract’s express language

ii. Duty to warn A about unreasonable risks involved in the agency, if risk is foreseeable to P & A is unlikely to become aware of risk on his own

c. B has a duty to indemnify A for expenses & losses that are incurred in the exercise of A’s authority

i. For agents, governed by Rest. §8.14(2)

ii. For organs, governed by DGCL §145

5. External relationships

a. Third party as plaintiff

i. Enforcing a contract with a firm’s agent:

1. Agency relationship + actual authority/ratification (retroactive actual authority)

2. Apparent authority

3. Estoppel

4. If P is undisclosed: agency relationship + “virtual apparent authority”

ii. Enforcing a contract with a firm’s organ

1. If act is not authorized by law, firm is not bound by it

2. If act is authorized by law, firm is bound by it

a. If act is ultra vires (authorized by law but prohibited by charter): firm is bound unless SH or the AG sue to enjoin it, in which case T is compensated but doesn’t get anticipated profits of contract [DGCL §124(1)]

b. Third party as defendant

i. Firm can sue T based on contract law, tort, agency, etc.

ii. T doesn’t owe a FD to the firm or its SHs unless another relationship creates a FD (e.g., T is firms agent)

iii. T may be liable to firm for aiding & abetting a breach of FD by an actor for the firm; elements required

1. Existence of a fiduciary relationship;

2. Breach of the fiduciary’s duty;

3. Knowing participation in that breach by T; and

4. Damages proximately caused by the breach

6. Internal relationships

a. A beneficiary can challenge an actor’s behavior for lacking authority and/or for breaching fiduciar

breaches FD only if act was unfair to the corporation & its SHs

b. Fairness analysis for acts

i. Was taking the act (e.g. hiring CEO’s spouse) fair to the firm?

ii. Were terms of act (e.g., employment contract) similar to what firm would have received in an arm’s length transaction?

1. Fair process (for determining price/other terms) – indirect assessment

2. Fair price (valuation/comparison) – direct assessment

c. Fairness analysis for omissions

i. FD breached if an unauthorized benefit was derived from the fiduciary position

ii. Test for determining whether opportunity was derived from the fiduciary position (no single factor is dispositive; court balances all factors)

1. Was the corporation financially able to take the opportunity

2. Was the opportunity in the corporation’s line of business

3. Did the corporation have an interest or expectancy in the opportunity

4. By embracing the opportunity, would the officer/director create a conflict between his/her self-interest and that of the corporation

3. BJR

a. When BJR is the applicable SoR, application of the SoR takes 2 steps:

i. BJR rebutted? (Does court defer to A’s discretion?)

1. Court defers to A (no FD breach), unless –

a. A didn’t make a business judgment (inaction or negligent act)

b. A didn’t act in good faith pursuit of a legitimate corporate interest

ii. FD breached? (Applying judicial discretion, did A’s behavior breach FD?)

1. Once BJR is rebutted, FD is breached –

a. If legal flaw was negligence, FD is breached if act was grossly negligent

b. If legal flaw was a bad faith action, FD is automatically breached

c. If legal flaw was a bad faith inaction, certain tests for whether FD was breached

b. Negligence

i. Negligent inaction

1. BJR is rebutted (no business judgment to defer to)

2. FD is breached if inaction was grossly negligent

ii. Negligent act: to see if BJR is rebutted –

1. Identify necessary expertise & information – depends on:

a. Nature of the challenged act

b. Importance of the challenged act to corporation/SHs

2. Did actor acquire necessary expertise & information?

a. Reliance on actor’s own knowledge/expertise

b. Reliance on advisors [DGCL §141(e)]

i. Expertise

ii. Independence

iii. No abdication of decision

3. Note: whether an act amounts to a business judgment is a matter of the procedure of reaching the decision, not the substance of the decision

iii. If negligence is alleged & BJR rebutted, FD is breached only if actor was grossly negligent

iv. When an action (but not an inaction) is allegedly grossly negligent, if BJR is rebutted due to carelessness, then the action was grossly negligent (so FD was breached)

1. When an inaction is allegedly negligent, BJR automatically rebutted, so you now need to analyze whether inaction was grossly negligent