Mergers And Acquisitions
My firm is constantly working on a merger, acquisition and/or reverse merger transaction. Earlier this year I did a multi-part Lawcast series on reverse mergers and today is the first in a series on straight mergers and acquisitions. I’ll begin the series with discussions on the responsibilities of the board of directors and in particular their fiduciary duties related to merger and acquisition transactions.
Under state corporate law, the business and affairs of a corporation is managed under the direction of its board of directors. Members of the board of directors have a fiduciary relationship to the corporation, which requires that they act in the best interest of the corporation, as opposed to their own.
In all matters, directors’ fiduciary duties to a corporation include honesty and good faith as well as the duty of care, duty of loyalty and a duty of disclosure. In short, the duty of care requires the director to perform their duty with the same care a reasonable person would use, to further the best interest of the corporation and to exercise good faith, under the facts and circumstances of that particular corporation. The duty of loyalty requires that there be no conflict between duty and self-interest. The duty of disclosure requires the director to provide complete and materially accurate information to a corporation, including of course any conflicts of interest.
Generally a court will not second-guess directors’ decisions as long as the board has conducted an appropriate process in reaching its decisions. I stress the word “process” because it is the process that ultimately will determine whether the board has met its fiduciary responsibilities.
This is referred to as the “business judgment rule.” The business judgment rule creates a rebuttable presumption that “in making a business decision the directors of a corporation acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the company.”
In certain instances, such as in a merger and acquisition transaction, a board of directors naturally face a conflict of interest (i.e., get the most money for the corporation and its shareholders vs. getting the most for themselves via either cash or job security), and as such their actions face a higher level of scrutiny. This is referred to as the “enhanced scrutiny business judgment rule” and stems from the Unocal and Revlon cases which I will discuss.
There is also a third and even higher standard for directors called the “entire fairness standard” which is triggered when the directors (or shareholders) are on both sides of the transaction, such as when the director has an ownership interest in the company being acquired or sold to. Under the entire fairness standard, the directors must establish that the entire transaction is fair to the shareholders, including both the process and dealings and price and terms.
In the next Lawcast in this series I will continue to discuss the general duties of the board of directors in a merger or acquisition transaction, including considering whether the company is on the buy or sell side of the transaction.