As recently as 2014, nearly 95% of all mergers of public companies valued at $100 million or more triggered stockholder class action litigation. Historically, a large number of merger-related stockholder litigation settled solely on the basis of supplemental proxy disclosures coupled with the payment of the plaintiff’s attorneys’ fees. Such disclosure-based settlements have been criticized for providing little real benefit to stockholders and amounting to no more than a “deal tax” in favor of plaintiff’s lawyers, while at the same time threatening the loss of potentially valuable stockholder claims as a result of an overly broad release of defendants. In In re Trulia Stockholder Litigation, 2016 Del. Ch. LEXIS 8 (Del. Ch. Jan. 22, 2016), the Delaware Court of Chancery (Bouchard C.) confirmed that the Court will be “increasingly vigilant in scrutinizing the ‘give’ and the ‘get’ of [disclosure based] settlements to ensure that they are genuinely fair and reasonable to the absent class members.”
On July 28, 2014, Trulia and Zillow (both online real estate firms) announced that they had entered into a merger agreement under which Zillow would acquire Trulia for approximately $3.5 billion in stock. After the merger was announced, four stockholder plaintiffs filed suit challenging the merger and seeking to enjoin it. The complaints, which were essentially identical, alleged that the individual defendants had breached their fiduciary duties and that Zillow and Trulia had aided and abetted those breaches. The Court consolidated the lawsuits and the parties agreed to expedited discovery. As part of expedited discovery, plaintiffs reviewed approximately 3,000 documents and deposed the Company’s CEO and one director. On November 14, 2014, plaintiffs filed a motion for a preliminary injunction focused primarily on purported disclosure deficiencies in Trulia’s proxy statement. Before defendants even filed an opposition to the request for an injunction, the parties entered into a Memorandum of Understanding detailing an agreement-in-principle to settle the litigation in exchange for a payment of attorneys’ fees and supplemental disclosures in Trulia’s proxy, subject to confirmatory discovery. The merger was ultimately approved by Trulia’s stockholders on December 18, 2014.
The final settlement agreement contained an extremely broad release in favor of defendants in exchange for an agreement from defendants not to oppose plaintiffs’ claims for attorneys’ fees up to $375,000. As required by Court of Chancery Rule 23, the Court held a settlement approval hearing. After considering the briefing, the Court refused to approve the settlement finding that it was neither “fair” nor “reasonable” to the absent class members.
The supplemental disclosures obtained by plaintiffs were not material and did not justify the broad release granted in favor of defendants. The plaintiffs argued that Trulia’s proxy was misleading because it omitted some of the details regarding the financial analysis the board relied upon to approve the merger. Under Delaware law, the proxy must contain a “fair summary” of the investment banker’s analysis regarding the merger. In Trulia, the Proxy contained a 10 page, single-spaced summary of the investment banker’s analysis. Although the plaintiffs identified the following omissions in the proxy: (1) certain synergy numbers in J.P. Morgan’s value creation analysis; (2) selected comparable transaction multiples; (3) selected public trading multiples; and (4) implied terminal EBITDA multiples for a relative discounted cash flow analysis, the Court found that these additional details were not material. In fact, the supplemental disclosures obtained by the plaintiffs were “not even helpful to stockholders” and did not facilitate a better informed vote. The “fair summary” standard does not require the disclosure of all of the minutiae of the investment banker’s analysis. All that is required is a “fair summary,” which the 10 pages of single spaced information in Trulia’s proxy accomplished.
Although the analysis of the facts at issue in Trulia is straightforward, the Court conducted an academic review of the problems presented by disclosure only settlements, including: (i) lack of an adversarial process; (ii) overbroad releases in favor of defendants; and (iii) the lack of any real shareholder value generated as a result of the additional disclosures. The Court recognized that its prior willingness to approve disclosure settlements of marginal value, routinely approve broad releases in favor of defendants, and six-figure fees to plaintiffs’ counsel had encouraged the explosion of merger related litigation. Disclosure based settlements create the risk that stockholders may lose potentially valuable claims in exchange for supplemental disclosures that rarely yield genuine benefits to the stockholders.
To avoid the dangers inherent in disclosure based settlements, the Court recommends two procedures. First, the Court can test the stockholder plaintiff’s claims during the briefing on the preliminary injunction, where the plaintiff would bear the burden of showing a substantial likelihood that the purportedly omitted facts were material. Because the parties settled before the defendants opposed the stockholder plaintiff’s request for an injunction, the Court was deprived of a fully “adversarial” round of briefing concerning the Trulia plaintiffs’ claims. Second, the Court can subject the plaintiffs’ claims to judicial review when plaintiffs’ counsel applies for an award of attorneys’ fees after defendants voluntarily supplement their proxy materials by making one or more of the disclosures sought by the plaintiffs. In this scenario, where securing a release is not at issue, defendants are incentivized to oppose the fee request and the adversarial process is preserved.
The Court’s ultimate conclusion is best summarized by the Court’s own words:
Returning to the historically trodden but suboptimal path of seeking to resolve disclosure claims in deal litigation through a Court-approved settlement, practitioners should expect that the Court will continue to be increasingly vigilant in applying its independent judgment to its case-by-case assessment of the reasonableness of the “give” and “get” of such settlements in light of the concerns discussed above. To be more specific, practitioners should expect that disclosure settlements are likely to be met with continued disfavor in the future unless the supplemental disclosures address a plainly material misrepresentation or omission, and the subject matter of the proposed release is narrowly circumscribed to encompass nothing more than disclosure claims and fiduciary duty claims concerning the sale process, if the record shows that such claims have been investigated sufficiently.
To avoid the problems inherent in disclosure based settlements, defense counsel should advise their clients to “moot” the stockholder plaintiff’s claims by making the requested supplemental disclosures prior to the closing of the merger. The Court can then consider plaintiff’s fee request with the benefit of defense counsel’s briefing regarding the merits (or lack thereof) of the supplemental disclosures.