The Delaware Court of Chancery has again confirmed that it will not entertain lawsuits that seek to second-guess a board of directors' good-faith decision to accept one acquisition proposal over another as long as a majority of the board is unaffected by conflicts or the influence of a controlling stockholder. In a recent opinion—In re Essendant Shareholder Litigation, C.A. No. 2018-0789-JRS—the court held that Essendant's directors did not breach their fiduciary duties by choosing to accept an all-cash offer over an already accepted stock deal, even though it was alleged that the rejected stock deal provided more value to Essendant stockholders. The decision reinforces Delaware's strong policy of protecting and promoting the role of the board of directors as the ultimate manager of the corporation as well as Delaware law's reluctance to displace or interfere with good-faith directorial decisions.

Background

In 2018, Essendant, an office supply company, signed a merger agreement with Genuine Parts Co., an automotive and industrial parts company. As part of the contemplated transaction, Essendant was to merge with a spun-off subsidiary of Genuine Parts, and Essendant stockholders were to receive a 49% ownership stake in the combined entity in exchange for their shares of Essendant. According to Essendant's financial advisers, the transaction was valued at $13.30-$23.90 per share, with $8.35-$11.25 attributed to synergies. The merger agreement contained a no-shop clause, but permitted Essendant's board to consider unsolicited offers. It also provided for a $12 million termination fee to be paid to Genuine Parts if terminated.

Shortly after signing, Essendant received an all-cash offer from Sycamore Partners, a minority stockholder of Essendant. Following diligence, Sycamore offered $12.80 per share. The offer represented a 51% premium over Essendant's stock price before announcement of the Genuine Parts merger, but an 11% discount from its post-announcement share price. Essendant's financial adviser concluded that the Sycamore offer was fair, but that the Genuine Parts offer, including synergies, represented a greater value range. Essendant's board recommended the Sycamore offer over the Genuine Parts merger. It did so, in part, because of its concerns regarding the combined entity's long-term prospects in a declining industry and potential difficulties securing antitrust approval of the Genuine Parts merger.

The stockholder-plaintiffs brought suit, challenging the board's decision to terminate the stock-for-stock merger with Genuine Parts in favor of the all-cash offer by Sycamore. The plaintiffs alleged that the board's decision was unfair to Essendant stockholders, in part, because Sycamore's offer represented an 11% discount from Essendant's then-current stock price, was below the valuation range implied by the proposed merger with Genuine Parts, and required Essendant to pay a $12 million breakup fee.

The Court's Analysis

Notwithstanding the stockholder-plaintiffs' allegations, the court ruled in favor of Essendant's board and dismissed the stockholder-plaintiffs' complaint. It began its analysis with a bedrock principle of Delaware law—in order to plead an actionable breach of fiduciary duty claim against a board when a corporation's charter contains an exculpatory provision adopted pursuant to 8 Del. C. Section 102(b)(7), the stockholder-plaintiff must allege facts suggesting that a majority of the board was either interested in the transaction or lacked independence from an interested party. In other words, a stockholder-plaintiff must plead facts that "invoke loyalty and bad faith claims."

In an attempt to meet that standard, the stockholder-plaintiffs alleged that the following facts demonstrated that the board was beholden to and lacked independence from Sycamore: the Essendant board's decision not to inform Genuine Parts of a phone call between an Essendant representative and a Sycamore representative three days before the Genuine Parts merger agreement was signed; Essendant's suggestion to Sycamore that it would be open to considering an offer; the purported slow-walking of the Genuine Parts merger's regulatory approval process in order to facilitate negotiations with Sycamore; and the ultimate decision that the Sycamore merger was preferable to the Genuine Parts merger.

The court found that the stockholder-plaintiffs' allegations, both independently and collectively, were insufficient to impugn the independence of the board. It explained that none of the allegations "support an inference that a majority of the Essendant board was beholden to Sycamore." In so holding, the court acknowledged that "Delaware law empowers directors to consider whether, under the circumstances, stock or other noncash consideration is preferable to cash when evaluating a proposal" and that the board's determination that the Sycamore offer was superior to the Genuine Parts merger was "a judgment call well within [the] board's prerogative." Thus, the court found that the stockholder-plaintiffs failed to state a claim against the Essendant board and dismissed the complaint.

Takeaways

The court's decision in Essendant reinforces a long line of Delaware case law holding that a disinterested and independent board's good-faith decision to choose one acquisition proposal over another is squarely within the board's business judgment and will not be subject to challenge by corporate stockholders. As Delaware courts have long held, the relative value of competing acquisition proposals is a matter best determined by the good-faith business judgment of disinterested and independent directors—individuals with business acumen appointed by stockholders precisely for their skill at making such evaluations. As the Essendant decision makes clear, their judgment should be respected even when, as here, the plaintiff-stockholder has pleaded facts suggesting that the acquisition proposal rejected by the board could have yielded more value to stockholders, including allegations that the accepted offer represented a discount from the company's then-current stock price, was below the valuation range implied by the rejected offer, and the acceptance of which required the company to pay a termination fee. As the court made clear, absent facts that sufficiently challenge the board's disinterestedness or independence, it is within the board's authority to make those managerial decisions and Delaware courts will not entertain stockholder requests to second-guess them.

Christopher B. Chuff ([email protected]), Joanna J. Cline ([email protected]), Matthew M. Greeberg ([email protected]) and Taylor B. Bartholomew ([email protected]) are attorneys with Pepper Hamilton, resident in the firm's Wilmington office. They concentrate their practice in the areas of corporate governance and commercial litigation, stockholder litigation, fiduciary duties, and partnership and limited liability company disputes.