In In re Books-A-Million, Inc. Stockholders Litigation, No. 11343-VCL (Del. Ch. Oct. 10, 2016), the plaintiffs, minority stockholders of Books-A-Million, Inc. (the “Company”), alleged that the Company’s directors, controlling stockholders and several of its officers breached their fiduciary duties in connection with a squeeze-out merger effected by the controlling stockholders in 2015 to take the Company private. The Court of Chancery held that the plaintiffs failed to plead facts to take the transaction outside the six-pronged framework approved by the Delaware Supreme Court in Kahn v. M&F Worldwide Corp., 88 A.3d 635 (2014) (“MFW”), and, consequently, the business judgment rule, rather than the entire fairness test, applied in reviewing the merger. Upon application of the business judgment rule, the Court dismissed the case.
In April 2012, the descendants of the founder of the Company, who collectively controlled the Company through their holding of shares representing approximately 58% of the voting power before the merger (the “Anderson family”), proposed to acquire the Company’s remaining outstanding shares. The offer was withdrawn when the Company, after forming a special committee, concluded the proposal undervalued the Company. Subsequently, another party described in the proxy statement relating to the merger as Party Y (“Party Y”) approached the Company about a potential transaction. After a meeting with the Company in April 2014, Party Y offered to purchase all outstanding shares (including those owned by the Anderson family), though the proposal was subject to the Anderson family providing a backstop commitment to acquire certain Company assets, totaling approximately $22 million. The board terminated discussions with Party Y, however, given that, among other things, the Anderson family was unwilling to sell their shares and the Party Y proposal relied on the Anderson family committing to acquire certain Company assets, which the Anderson family was unwilling to do.
In January 2015, the Company received an unsolicited proposal from the Anderson family to acquire the Company’s outstanding shares for $2.75 per share (a 64% premium over the Company’s closing price the day before the offer). The proposal indicated that the Anderson family would not move forward unless the offer was approved by an independent special committee and that any definitive documentation included a non-waivable majority-of-the-minority vote condition. The proposal also stated that the Anderson family was not interested in selling its shares to a third party.
The board – comprised of five individuals, two of whom were members of the Anderson family and none of whom were members of management – formed a special committee to review, evaluate and negotiate the terms of a potential transaction, giving it authority to hire its own legal and financial advisers. The board further indicated it would only move forward with the transaction with the special committee’s approval. The special committee was initially comprised of the three directors that were not members of the Anderson family – Ronald Domanico, Edward Wilhelm and Ronald Bruno; however, Bruno resigned a few days later after discussing with Domanico and Wilhelm certain “social and civic relationships” he had with the Anderson family.
The special committee hired independent legal counsel and a financial adviser, and, despite the Anderson family’s professed unwillingness to sell their shares, the committee decided to solicit third-party offers for the Company and evaluate alternative transaction structures. One party – Party Y – submitted a new indication of interest in April 2015, proposing to acquire all shares for $4.21 per share. The Anderson family reiterated, however, that it was not interested in selling its shares. Consequently, the committee determined that its best course was to negotiate with the Anderson family, and the committee countered twice on the price, eventually agreeing in May 2015 to $3.25 per share.
In July 2015, the committee met to consider the proposed transaction. After legal counsel had advised the committee of its legal duties, the committee invited Bruno to listen in to the financial adviser’s presentation wherein the adviser expressed its opinion that the transaction was fair to the Company’s minority stockholders from a financial point of view. Because the two Anderson family board members had recused themselves, Bruno was the only other board director who would need to hear the presentation before considering whether to approve the merger. After this presentation, Bruno and the financial adviser left the meeting, and the special committee deliberated and voted to recommend the offer to the full board. The board then approved the merger agreement and the transaction (with the two Anderson family directors abstaining), and resolved to recommend it to the Company’s stockholders. In December 2015, over 66% of the shares not affiliated with the Anderson family approved the merger. The transaction closed two days after the stockholder vote. A stockholder plaintiff filed suit in July 2015 and another in October, and the cases were consolidated.
The plaintiffs alleged that the Company’s directors, controlling stockholders and several of its officers involved in the merger breached their fiduciary duties. Ordinarily, when a controlling stockholder (like the Anderson family) takes a company private, the standard of review is entire fairness; however, in MFW, the Delaware Supreme Court held that the business judgment rule would apply if the controller satisfied the following six factors:
- the controller conditions the procession of the transaction on the approval of both a special committee and a majority of the minority stockholders;
- the special committee is independent;
- the special committee is empowered to freely select its own advisers and to say no definitely;
- the special committee meets its duty of care in negotiating a fair price;
- the vote of the minority is informed; and
- there is no coercion of the minority.
If the business judgment rule is the standard of review, the court will not consider the substance of the transaction unless there are facts to support waste or bad faith. The Court reviewed each factor. With respect to the first MFW factor (conditioning the transaction on approval of both a special committee and a majority of the minority stockholders), the Court noted that the Anderson family’s proposal from January 2015 expressly conditioned any transaction, at the outset, on approval by both a special committee of independent directors and a non-waivable vote of disinterested stockholders. The Court rejected an argument that the Anderson family’s 2015 proposal was a continuation of its 2012 going-private proposal (which did not include these MFW procedural safeguards), which had been rejected by the special committee and included different terms and found that the first factor was satisfied.
With respect to the second MFW factor (the special committee’s independence), the plaintiffs alleged that Bruno, who purportedly was not independent, tainted the independence of the committee by sitting in on the fairness opinion presentation and, second, the other committee members – Domanico and Wilhelm – approved the merger in bad faith, displaying a lack of independence in fact. In rejecting the first argument, the Court noted that Bruno promptly resigned from the committee after receiving feedback relating to his independence from Domanico and Wilhelm (which the Court termed “commendable” rather than a detriment to the process), and that Bruno was invited to hear the fairness opinion presentation as a matter of efficiency given that he was the only other board member who would need to hear the presentation before he ultimately voted on the merger. The Court noted that a “truly pristine process” would have excluded Bruno from the presentation, and “[u]nder different circumstances, the participation of a director whose independence was compromised might be problematic,” but here, the allegations did not support a reasonably conceivable inference that Bruno undermined the committee’s independence (assuming Bruno himself was not independent).
The Court then noted the plaintiffs’ second argument under this factor – relating to subjective bad faith – goes to the “core of their case.” The Court agreed that pleading subjective bad faith was a “theoretically viable means of attacking the [MFW] framework” because an inference of subjective bad faith “can establish disloyalty sufficient to rebut the business judgment rule” but that such a pleading would be “difficult” – akin to an “intent to harm” or an “intentional dereliction of duty.” The plaintiffs’ principal argument was that the independent directors acted in bad faith in rejecting Party Y’s offer (even though the board did not consider it feasible given the expressed unwillingness of the controlling Anderson family to sell their shares) because “it is not rational for a director to take a lower priced offer when a comparable, higher priced offer is available.” However, citing relevant precedent, the Court rejected the argument, concluding that the Company need not obtain the higher price offered by Party Y because the Anderson family had no obligation to sell its shares (nor could the Company take action against it for failure to do so) and that an offer from a Party Y would be expected to reflect a premium for control, while the Anderson family’s offer would be expected to reflect a discount because it already took into account the family’s existing control over the Company. The Court did acknowledge, however, that if the independent directors “facilitated a grossly inadequate offer,” then an inference of bad faith may be possible, and Party Y’s offer price may be relevant to such an evaluation. On that point, the Court concluded that the approximately 30% premium of the Party Y offer price over the Anderson family offer price fell within “a rational range of discounts and premiums” stretching between approximately 20-50%. The Court found that the second factor was met.
With respect to the third MFW factor, the plaintiffs did not contest the requirement that the special committee be able to select its own advisers and say no definitely, and the related board resolutions provided this authority to the committee. The related proxy statement also disclosed that the board committed not to proceed without the special committee’s recommendation. The Court found that the third factor was met.
In assessing the fourth MFW factor (the special committee’s duty of care in negotiating a fair price), the Court noted that the standard of conduct for the duty of care requires that directors inform themselves, prior to making any business decision, of all material information reasonably available to them, and that, for purposes of applying the MFW framework to a motion to dismiss, the standard for measuring compliance with the duty of care is whether the complaint has alleged facts supporting a reasonably conceivable inference that the directors were grossly negligent. The Court then rejected the plaintiffs’ argument, summarizing the relevant facts that rebutted gross negligence, including, that the special committee met 33 times, sought alternative buyers, considered alternative structures and submitted multiple counteroffers to the Anderson family, resulting in an increase in the final offer price. The Court then stated that, for the reasons set forth in the discussion of the second factor above, the committee was not grossly negligent in accepting the Anderson family’s offer when a higher offer price was available from Party Y. In fact, the Court indicated that the special committee’s decision to explore third-party alternatives, rather than negotiate only with the Anderson family or rely on the advice from its financial adviser, “definitively undercuts any possible interference of gross negligence” notwithstanding that the Anderson family expressed its unwillingness to sell its shares.
With respect to the final two MFW factors (informed minority stockholders and absence of coercion of minority stockholders), the plaintiffs did not assert any disclosure claims, nor that any minority stockholders were coerced, and thus these factors were satisfied.
Having satisfied the six MFW factors, the Court applied the business judgment rule to the merger, under which it must dismiss the plaintiffs’ challenge unless the “merger’s terms were so disparate that no rational person acting in good faith could have thought the merger was fair to the minority,” emphasizing that it would be “logically difficult to conceptualize how a plaintiff can ultimately prove a waste or gift claim in the face of a decision by fully formed, uncoerced, independent stockholders to ratify the transaction,” as was the case here where “rational people who were members of the minority thought the merger was fair.” The court dismissed the complaint on this ground, citing a 90% premium to minority stockholders, receipt of a fairness opinion from the financial adviser retained by the special committee and approval of the transaction by over 66% of the minority stockholders after receipt of all material information.