The Robins Kaplan Spotlight, Vol. 6 No. 1, Spring 2021 – Shareholder Risks in Mergers and Acquisitions | Robins Kaplan LLP
Company mergers and acquisitions can affect minority shareholders and members of closed companies disproportionately. These effects can include the dilution of the value of shares, the loss of the holder’s voting rights or, in connection with legacy family shares, the complete loss of the original family’s stake in the company. For this reason, owners of these stocks should consider their shareholder rights as they face any proposed merger or reorganization of the company. This article sets out some of the tools and procedures that the minority shareholder can use to protect his interests during a corporate merger or other reorganization.
THE Fiduciary Duty of Officials, Directors, and Controlling Shareholders
The established trust law offers minority shareholders facing a merger or other restructuring a common place of assurance. States generally recognize two main roles: officers and directors are held in trust for all shareholders; and controlling shareholders are held in trust for minority shareholders. As a rule of thumb, officers, directors and majority shareholders should act to the best of their knowledge and belief in the interests of the company and its shareholders. For example, California has adopted a comprehensive rule of “Inherent fairness from the perspective of the company and those interested in it.” The rule applies equally to officers, directors and controlling shareholders in the exercise of their powers based on their position, and to transactions in which controlling shareholders seek to gain an advantage in the sale or transfer or use of their controlling block of shares. ”2
In the context of a merger or reorganization, trust laws require that officers, directors and majority shareholders:
- Act to the best of your knowledge and belief.
- Refrain from unrestricted proprietary trading;
- Follow all company regulations to approve a proposed transaction. and,
- Follow all legal procedures for deviating shareholder rights.
Violation of any of these standards could result in a minority shareholder agreeing to a merger or reorganization on which they would otherwise have disagreed or on which they would have investigated further. For such violations of the fiduciary duty of an executive, director or majority shareholder, a claim for damages can be brought.
In most jurisdictions, shareholders with statutory rights of objection can opt for a buyout at either the fair value3 or the fair value4 of the shares determined prior to the announcement of the merger or other reorganization. These statutory rights generally apply to minority shareholders with a certain amount of voting rights in the company. Reasons for forcing a buyout are a lack of appetite for the economic risks of the planned transaction, the unwillingness to invest in a company that is fundamentally different after the transaction, or the distrust of a takeover company.
State laws protect deviating rights by forcing the company to make fair offers to buy these stocks at a pre-transaction price. For example, in California, a company must provide shareholders with written notice that includes:
- a copy of designated sections of California law that govern the rights of those who think differently,
- a declaration of the price set by the company to represent the fair value of the different shares, and
- a brief description of the procedure to be followed if the shareholder wishes to exercise the shareholder’s rights to have the company purchase the shares in accordance with these provisions.
If a company undervalues the dissenting shares, the minority shareholder can file a civil lawsuit to assess the market value of the shares. The right of judgment is fundamental to the ability of a minority shareholder to receive adequate compensation in lieu of the proposed merger or other reorganization.
RIGHTS OF ATTACK FOR MERGERS WITH COMMON CONTROL
Judgment rights are generally the sole remedy of a minority shareholder to obtain a fair buyout. That is, minority shareholders usually cannot challenge or attack the company’s proposed merger. An exception to this rule applies when one party to the merger is directly or indirectly controlled by another party to the merger or is under common control with another party to the merger. This type of “merger under common control” can occur when a majority shareholder attempts to dilute the interests of a minority shareholder by a company under his joint control acquiring the company. Often, through such a transaction, the majority shareholder has full control of the primary assets through the common control company, but the minority shareholder remains severely undervalued or is completely diluted by its shares.
In such a merger with joint control, a shareholder who does not request a cash buyout may take action to attack the validity of the merger or to suspend or suspend the proposed transaction. To further protect against proprietary transactions, the law stipulates that the jointly controlled party bears the burden of proof that the transaction is fair and appropriate for the shareholders of such a controlled party.
In summary, a minority shareholder has rights and remedies prior to the merger or any other reorganization. Any minority shareholder in such a situation should exercise their legal right to scrutinize their options to challenge the transaction or conduct a fair buyout. Each of the procedures available to the minority shareholder must be carried out in a timely manner, so that early action by the minority shareholder is very important.
2 Singhania v. Uttarwar (2006) 136 Cal.App.4th 416, 426 (citing Jones, 1 Cal.3d
at 110) (internal quotations omitted).
3 See generally Cal. Corp. Code § 1300 ff.
4 Del. Code Ann. tit. 8, § 262 (2020); Dell, Inc. v Magnetar Glob. Event Driven Master Fund Ltd., 177 A.3d 1, 5 (Del. 2017); Minn. Stat. § 302A.473, Subd. 7. Advanced Commc’ns Design Inc. v Follett, 615 NW2d 285, 292 (Min. 2000).