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Delaware Supreme Court Establishes Equitable Relief in Short Form Mergers

By Harvard Law School Program on Corporate Governance

(Editor’s Note: This post is by Andrew J. Nussbaum, William Savitt, and Ryan A. McLeod of Wachtell, Lipton, Rosen & Katz.)

In a decision that could increase the litigation risk associated with short-form mergers under 8 Del. C. § 253, the Delaware Supreme Court has ruled that where there is a breach of the duty of disclosure in connection with a short-form merger, the appropriate remedy is an automatic ?quasi appraisal? action in which the minority shareholders may adopt an ?opt-out? class approach and need not escrow any of the merger consideration they have already received. Berger v. Pubco Corp., No. 509, 2008 (Del. July 9, 2009).

Under Delaware?s short-form merger statute, a parent corporation that owns at least
90% of its subsidiary?s outstanding stock may summarily cash out the minority holders by the unilateral adoption of a resolution setting forth the consideration to be given. In 2001, the Supreme Court ruled that controlling stockholders owed no duty to pay a fair price in a short-form merger, and a minority stockholder?s only recourse is to seek appraisal. Consequently, the only obligation of a company effecting a short-form merger is to provide minority shareholders with all information material to the decision of whether or not to seek appraisal. Glassman v. Unocal Exploration Corp., 777 A.2d 242, 248 (Del. 2001).

The Court of Chancery in Berger found several inadequacies in the parent?s disclosure notice, including that it had failed to provide any information about the method used to determine the consideration offered. Because the merger had already been effected and consideration had already been paid, the Court of Chancery ordered a ?quasi appraisal,? which would replicate a statutory appraisal action by requiring minority shareholders to ?opt-in? to the proceeding and place in escrow a portion of the consideration they had already received.

Reversing, the Supreme Court held that principles of ?fairness? dictated that ?majority stockholders that deprive their minority shareholders of material information should forfeit their statutory right to retain the merger proceeds payable to shareholder who, if fully informed, would have elected appraisal.? Consequently, the Court held that the proper remedy for disclosure violations in a short-form merger is a quasi appraisal action on behalf of an automatic class of all minority stockholders with no escrow requirement.

Because the Supreme Court?s remedy removes the ordinary downside risks of an appraisal action and facilitates class action-style proceedings, this decision may encourage increased litigation following short-form mergers. At the same time, however, Berger reemphasizes the limited fiduciary remedies available to minority stockholders in a short-form merger, and its holding applies only in circumstances where the merger was accompanied by material disclosure violations. The decision thus serves as a useful reminder to Boards and controlling shareholders pursuing shortform mergers that appropriately complete disclosure is critical to obtaining the statutory benefits to acquirors of the Delaware short-form merger and appraisal provisions.

Full post as published by The Harvard Law School Corporate Governance Blog on July 26, 2009 (boomark / email).