In a much anticipated decision, on March 14, 2014 the Delaware Supreme Court sitting en banc unanimously affirmed then-Chancellor Strine’s decision in In re MFW Shareholders Litigation to dismiss a stockholder lawsuit related to the 2011 acquisition of M&F Worldwide Corp. (“MFW”) by its controlling stockholder, MacAndrews & Forbes Holdings, Inc. (“Holdings”). In upholding the dismissal, the Delaware Supreme Court confirmed that the business judgment standard of review, rather than an “entire fairness” standard of review, applies to controlling-party buyouts where the transaction is conditioned ab initio upon both: (1) the approval of an independent, adequately-empowered special committee that meets its duty of care and (2) the un-coerced, informed vote of a majority of the minority stockholders.
In May 2011, Holdings, which owned 43.4% of MFW’s common stock, began to explore the possibility of taking MFW private. In June 2011, Holdings delivered a written proposal to purchase the MFW shares not already owned by Holdings for $24 per share in cash, representing a premium to the prior day’s closing price of $16.96. Holdings’ proposal expressly stated that it would be subject to approval by a special committee of MFW’s board made up of independent directors, and included a non-waivable condition that a majority of the minority of stockholders approve the transaction.
Following consideration of Holdings’ proposal, the independent directors of MFW formed a special committee to further evaluate the proposal. The special committee proceeded to negotiate with Holdings and ultimately approved a transaction with Holdings for a price of $25 per share in September 2011. The transaction was subsequently submitted for a stockholder vote, and was approved by 65.4% of the unaffiliated minority stockholders. Several stockholders sued MFW, its directors, and Holdings’ controlling stockholder, Ronald Perelman, first seeking to enjoin the transaction and then for post-closing relief claiming breach of fiduciary duty.
Upon a motion for summary judgment by the defendants, the suit was dismissed in the Chancery Court upon the application of the business judgment standard (rather than the entire fairness standard). On appeal, the plaintiffs argued that the Chancery Court erred (1) in concluding that no material disputed facts existed regarding the conditions precedent to the application of a business judgment review, and (2) as a matter of law in holding that the business judgment standard applies to controlling stockholder freeze-out mergers where the controlling stockholder’s offer is conditioned on both special committee approval and the approval of a majority of the minority stockholders.
On appeal, the Supreme Court affirmed that the business judgment rule, rather than an entire fairness standard, should apply. In upholding the Chancery Court’s decision, the Court recognized Delaware precedent holding that when a transaction is challenged that involves self-dealing by a controlling party, the standard of review is the “entire fairness” test, which places the burden on the defendants to prove the transaction was entirely fair to the minority stockholders. However, the Court distinguished such cases as they did not involve situations where both an independent special committee approved the transaction and the controlling stockholder gave up its voting power by agreeing to a non-waivable condition that the majority of the minority stockholders approve the transaction, as did Holdings with respect to the MFW merger.
The Court articulated that “in controller buyouts, the business judgment standard of review will be applied if and only if: (i) the controller conditions the procession of the transaction on the approval of both a special committee and a majority of the minority stockholders; (ii) the special committee is independent; (iii) the special committee is empowered to freely select its own advisors and to say no definitively; (iv) the special committee meets its duty of care in negotiating a fair price; (v) the vote of the minority is informed; and (vi) there is no coercion of the minority.”
The Court reasoned that if both the special committee and majority-of-the-minority protections are in place at the outset of a controlling person transaction, the controller “irrevocably and publicly disables itself from using its control to dictate the outcome of the negotiations and the shareholder vote,” and then the transaction acquires the stockholder-protective characteristics of a third-party, arm’s-length transaction, which would optimally protect the minority stockholders and would be reviewed under the business judgment standard. Further, the Court noted that applying the business judgment standard is consistent with Delaware’s tradition of deferring to the informed decisions of impartial directors, particularly when such decisions have been approved by the disinterested stockholders on full information and without coercion. Finally, the Court noted that the dual protections and the entire fairness standard of review converge and are fulfilled at the same critical point – a fair price – which the Court has consistently held may be the “preponderant consideration outweighing other features” in a non-fraudulent transaction.
Based on its review of the facts presented, the Court affirmed that the business judgment rule properly applied at summary judgment due to the dual minority stockholder protection structure and upheld the dismissal as it could not be credibly argued that no rational person would find the merger favorable to MFW’s minority stockholders. Interestingly, the Court noted that the plaintiffs’ claims would have survived a motion to dismiss under this new standard as there were sufficient allegations about the sufficiency of the price to call into question the adequacy of the special committee’s negotiations, thereby necessitating discovery on all of the prerequisites to the application of the business judgment rule. See, e.g. Kahn v. Lunch Comc’n Sys., Inc., 638 A.2d 1110 (Del. 1994).