Category Archives: Derivative Litigation

On “Merger Tax” Cases, Mark Twain, Abe Vigoda, and Other Premature Death Reports

Mark Twain is famously reported as saying “Reports of my death are greatly exaggerated.”  Well, in that respect, he may have been like Yogi Berra (RIP), whose autobiography was titled “I Really Didn’t Say Everything I Said.”  A little research yielded Mark Twain’s original note, which was less pithy: “the report of my death was an exaggeration.”

Mark Twain on His Reported Death

“The report of my death was an exaggeration.”

Yogi Berra Autobiography

Mark Twain was not alone.  Samuel Taylor Coleridge overheard someone talking about a coroner’s inquest into his suicide (by hanging), and responded: “it is a most extraordinary thing that he should have hanged himself, be the subject of an inquest, and yet that he should at this moment be speaking to you.”  Many other folks have been the subject of premature death reports, including, many of us remember vividly, Paul McCartney.  This seems to be common among musicians — it also happened to Madonna, Lou Reed, Bob Seger, John Mellencamp, Lena Horne, Fats Domino, Alice Cooper, Neil Young (three times), and Gordon Lightfoot (who was at the dentist when he heard of his death).  Others in this club include Pope John Paul II (three times), Queen Elizabeth II, Ernest Hemingway (who reportedly read his obituaries every morning with a glass of champagne), P.T. Barnum (at his request, so he could see what people would say about him), Alfred Nobel (who is said to have read in his obit that he was a “merchant of death” and then decided to fund the Nobel Prize), Joe DiMaggio, Bob Hope (twice),  James Earl Jones (mistakenly identified when James Earl Ray died), Sean Connery, Steve Jobs, George Soros, Russell Crowe, Ken Kesey (who faked his own suicide to avoid criminal charges), and William “The Refrigerator” Perry (who was watching a Chicago Bears game when he saw a ticker message glide by announcing his death).  And don’t forget Abe Vigoda, whose death was reported on at least two occasions, and who, as of today, is 94 years old and has a website devoted to reporting that he remains alive:

What do Mark Twain and all of these people have to do with securities law?  The reports of their deaths were, indeed, premature, as may be the reported death of one of the most enduring securities litigation scams – the “merger tax” litigation.

If you read this blog, you may have seen several discussions of “merger tax” litigation, that cynical sham in which virtually every merger or acquisition is met by a legal challenge regardless of whether there is any reasonable basis for doing so.  The legal challenge is not calculated to protect shareholders or increase shareholder value – in fact, it most likely victimizes them and diminishes that value.  Instead, it is calculated to delay the completion of the proposed transaction sufficiently to convince the parties to pay the plaintiffs’ lawyers to go away by settling the case for attorneys’ fees and otherwise meaningless non-monetary relief, supposedly for the benefit of shareholders, but actually worthless or even a net cost to them.

This long-standing charade is high on the list of lawyer chicanery that leads the public to view lawyers as among the least honest and most unethical professionals around.  In 2013, lawyers were ranked as having high honesty and ethical standards by only 20% of those polled, falling above only TV reporters, advertising practitioners, State officeholders, car salespeople, Members of Congress, and lobbyists, and below 15 other professions (including nursing home operators, who beat lawyers handily).  See

The practice of paying the “merger tax” to get rid of worthless legal challenges is the product of greed by unscrupulous plaintiffs’ lawyers, cynical deal-making by defense lawyers and their corporate clients, and “go along, get along” judges, who ultimately have to approve these sham transactions in their role of supposedly protecting the interests of the absent real parties in interest, the shareholders.  Unfortunately, most judges in this situation act like potted plants. For reasons that are hard to determine, they accept the sham and, worse, place their judicial imprimatur on the transaction.

In recent months, however, we have reported on repeated judicial decisions to say “No Mas.” We reported on Judge Melvin Schweitzer’s decision to reject a merger tax settlement in Gordon v. Verizon Communications in our Commentary on Abusive State Law Actions Following M&A Deals, which was followed by a post discussing a welcome judicial discussion of the impropriety of “merger tax” cases in City Trading Fund v. Nye: NY Court Flexes Muscles in Rejecting Bogus “Merger Tax” Settlement.  And the securities law world has taken note of several recent Delaware Chancery Court cases that excoriate the practice.  See Delaware Judge Tells Plaintiff Lawyers: The M&A ‘Deal Tax’ Game Is Over; Game Over?: Del. Chancery Court Rejects Disclosure-Only Settlement in H-P/Aruba Networks Merger Objection Lawsuit; and Transcript of Del. Chancery Court Hearing in Aruba Networks Stockholder Litigation.

On the basis of these developments, we reported that “this sordid practice may be on the wane because judges finally are doing their jobs.”  Alas, as with Mark Twain and his comrades in faux-death mentioned above, our reports of the possible impending death of “merger tax” litigation may have been premature.

Witness the settlement proposed just last week in McGill v. Hake, a case brought in the Southern District of Indiana by plaintiffs’ law firms Faruqi & Faruqi and Robbins Orroyo, with local firm Riley Williams & Pyatt.  Complicit in this legal atrocity are the defense lawyers — from Sullivan & Cromwell, Jones Day, and Taft, Stettinius & Hollister — as well as their client, Harris Corporation and its directors, but at least they have the excuse that they view themselves as acting in the short term interest of their clients or shareholders.

The complaint in McGill, filed February 12, 2015, was purportedly brought for the benefit of all shareholders of Exelis Inc., and alleged that the acquisition of 100 percent of the shares of Exelis by Harris Corp. was a breach of fiduciary duty because the value offered to Exelis shareholders ($23.75 per share) was “insufficient, as it fails to account for the Company’s significant future earning potential and falls below the premium other defense contractors have recently sold for.”  The complaint sought to enjoin the transaction or, if the transaction were completed, damages suffered by the shareholders as a result of the alleged breaches of fiduciary duty.  The claims were allegedly “based on information and belief, including the investigation of counsel and review of publicly-available information.”  The complaint can be reviewed here: Complaint in McGill v. Hake.

Fast forward to last week.  Plaintiff’s counsel filed a motion for court approval of a settlement of the claims.  The terms of the settlement: the plaintiff’s lawyers get a payment of $410,000; the shareholders get nothing of value.  Instead, the plaintiff’s lawyers negotiated for the defendants “to make certain supplemental disclosures” in a Form 8-K which purportedly “provided Exelis’ shareholders with material information concerning the fairness of the Merger and the Merger Consideration.”  Notice that there was no adjustment to the value received by the Exelis shareholders, despite the original contention that the $23.75 value per share was “insufficient.” Instead, more information was provided that supposedly allowed the shareholders to confirm that the value offered was indeed adequate.  In short, although the case was supposedly brought to remedy the “insufficient” value given to Exelis shareholders, the only pecuniary benefit provided in the settlement goes to the plaintiff’s lawyers.  The motion for approval of the settlement can be reviewed here: Plaintiff’s Motion for Approval of Merger Tax Settlement in McGill v. Hake.

This is a quintessential “merger tax” “disclosure only” settlement.  Supposedly convinced that the alleged unfair value was not in fact unfair, the lawyers walk away from the case pocketing the only money transferred.  How were they convinced that the value was sufficient?  By reviewing materials provided to them that confirmed the fairness of the valuation, and performing so-called “confirmatory discovery” after the deal was done to “confirm” the fairness of the deal.  So-called “confirmatory discovery” of a settlement deal is a transparently fictitious way to generate time and effort by the plaintiff’s lawyers that they then present to the court as a justification for the dollar fee payment the parties previously agreed would be paid to the lawyers.  Trust me on this – I’ve negotiated many such settlements.  Settlements that fail to go forward after “confirmatory discovery” are a non-existent species.

So, here we are in October 2015, following a series of cases touted as the death-knell for the “merger tax” “disclosure only” settlement, looking at precisely such a settlement proposal.  District Judge Tanya Walton Pratt, relatively new to the bench, will conduct a hearing on February 16, 2016 to consider whether to approve the proposed settlement.  See Scheduling Order in McGill v. Hake.

Judge Tanya Walton Pratt

Judge Tanya Walton Pratt

We can only hope that Judge Pratt follows the lead of her brethren on New York and Delaware and continues the process by which the lawyers’ cottage industry of “merger tax” litigation can be eliminated by judges simply doing their jobs.

Straight Arrow

October 27, 2105

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Update on Status of Proposed Settlement in Gordon v. Verizon Communications, Inc.

I’ve noticed a number of searches seeking further information on the status of the case Gordon v. Verizon Communications, Inc., Index No. 653084/2013, pending before Judge Melvin Schweitzer in the New York Supreme Court, New York County.  This is a putative class action challenging the acquisition by Verizon of Vodafone’s 45% minority stake in Verizon Wireless for $130 billion.  We previously discussed the objections lodged to a proposed settlement in that action, and Judge Schweitzer’s rejection of the settlement, in this post: Commentary on Abusive State Law Actions Following M&A Deals.  That was followed by a post on a scathing judicial statement on the impropriety of such “merger tax” cases (NY Court Flexes Muscles in Rejecting Bogus “Merger Tax” Settlement), which discussed a New York judge’s rejection of a proposed settlement in another knee-jerk merger challenge in the case City Trading Fund v. Nye, No. 651668/2014 (NY Sup. Ct.).  I recently received a note asking about where things stand in Gordon v. Verizon Communications, so here is an update.

The December 2014 opinion rejecting the settlement in Gordon (which can be found here: Decision and Order in Gordon v. Verizon Communications) was followed by the following:

  1.   One of the objectors, New York attorney Gerald Walpin, filed a motion for summary judgment on January 6, 2015, asking that the judge dismiss the plaintiff’s claim with prejudice.  The filing in support of that motion can be found here.  The plaintiff opposed that motion, in papers that can be found here.  Mr. Walpin filed this reply brief in favor of the summary judgment motion.  The briefing on that motion appears to have been completed on January 24, 2015.
  2.   The plaintiff then did two things: (i) on January 21, 2015, she filed a notice of appeal of the decision denying approval of the settlement (the notice of appeal can be found here); and (ii) on February 3, 2105, she filed a motion for reconsideration and reargument of the motion for approval of the settlement (the brief in support of the motion for reconsideration can be found here).  In other words, the plaintiff filed an appeal of the decision and then afterward asked that the same decision be reconsidered.  These are mutually inconsistent steps.  If the decision is appealed, the lower court loses jurisdiction over it and no longer can consider a reconsideration motion.  On the other hand, if a timely motion for reconsideration is filed, the earlier decision cannot properly be appealed until that motion is acted upon.  Filing the reconsideration motion after the notice of appeal might well be sanctionable.  The appeal seems flawed in any event because normally an appeal cannot occur before a case is finally decided.  Since Judge Schweitzer only denied a motion to approve the settlement, leaving the underlying case still pending in his court, there would appear to be no decision by him that is immediately appealable, absent a special order allowing an interlocutory appeal to occur.  The oppositions to the motion for reconsideration and reargument by the two objectors can be found here (opposition by Mr. Walpin), and here (opposition by objector Jonathan Crist).  Plaintiff’s reply brief in support of the motion for reargument is here.
  3.   As far as I can tell, no further action has occurred on either the motion for summary judgment or the motion for reconsideration of the denial of the settlement.  They each appear to be fully briefed.  Until some further action occurs, the proposed settlement is rejected and the case remains pending.

For those interested in the case, and in particular in the hearing held by Judge Schweitzer to consider the proposed settlement, a copy of the transcript of that hearing is available here:  Transcript of December 2, 2014 Hearing in Gordon v. Verizon Communications, Inc. on the motion for approval of proposed settlement.

Straight Arrow

March 2, 2015

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NY Court Flexes Muscles in Rejecting Bogus “Merger Tax” Settlement

We recently wrote two posts about abuses in bogus plaintiff’s actions challenging merger transactions — litigation designed to generate legal fees for plaintiff’s counsel and not benefits to the company or shareholders.  See Commentary on Abusive State Law Actions Following M&A Deals, and Hi-Crush Securities Class Action Settlement Benefits Lawyers and No One Else.  The first post described a New York state court judge’s willingness to reject a proffered collusive settlement designed to generate unearned benefits to plaintiff’s counsel in return for dismissal of the action and a broad set of releases for the defendants.  The second described a federal court judge’s unfortunate willingness to sign off on a settlement that lined the pockets of plaintiff’s lawyers but gave no real benefit to the purportedly defrauded shareholders.

Today we can report on another enlightened action by a New York state court judge in such a case: City Trading Fund v. Nye, No. 651668/2014 (NY Sup. Ct.).  The opinion includes a remarkable discussion of the nature of frivolous “merger tax” litigation, and includes an unusually frank discussion of why the filing of such cases renders to plaintiff, and the plaintiff’s law firm, unfit to serve as class representatives or class counsel.

The case involved alleged misleading disclosures in connection with an acquisition of Texas Industries, Inc. by Martin Marietta Materials, Inc.  Just before a scheduled hearing on a motion for a preliminary injunction to enjoin the shareholder vote on the proposed transaction, the parties entered into a settlement.  As the court describes, it was “disturbed by the settlement, which presents significant public policy concerns.”  It ordered defendants to file a memorandum addressing the settlement, which was needed because otherwise the defendants would stand mute, as implicitly required by the settlement.

Following a motion to approve the settlement, and the mandated filing by the defendants, Judge Shirley Kornreich of the New York Supreme Court wrote a scathing opinion describing in detail the cynical and abusive nature of the claims asserted and the practice of the plaintiff’s law firm, the Brualdi Law Firm, of filing such claims on behalf of a supposed investor which, in fact, held a portfolio of stocks for the purpose of being able to file what the judge calls “merger tax lawsuits.”  She wrote in detail about why the claims asserted were meritless, and then took the unusual step of describing the sordid practice of the plaintiff’s firm and its “client” as follows:

Plaintiffs allege that CTF is a general partnership and that Bass and Carullo are its partners.  CTF, however, is not a business, at least in the sense that it does not engage in commerce.  It does not sell or manufacture products nor does it provide services.  Rather, CTF is the name of an E*Trade brokerage account belonging to Bass and Carullo.  Before the merger, CTF owned 10 shares of MMM, which was worth approximately $1,200 in April 2014.

This is the modus operandi of Bass and the Brualdi Law Firm.  They purchase nominal amounts of shares in publicly traded companies.  Then, when one of the companies announces a merger, the partnership engages the Brualdi Law Firm to file a merger tax lawsuit.  Since 2010, the Brualdi Law Firm has filed at least 13 lawsuits in this court in the name of different partnerships.  Aside from this lawsuit, the Brualdi Law Firm has filed lawsuits on behalf of entities called RSD Capital (Index No. 651883/2010), Broadbased Equities (Index No. 652413/2011), Broadbased Fund (Index No. 653236/2011), Special Trading Fund (Index No. 653253/2012), Reliant Equities (Index No. 651230/2012), Sector Grid Trading Company (Index No. 650121/2013), Broadway Capital (Index No. 650143/2013), Gotham Investors (Index No. 651831/2013), Realistic Partners (Index No. 654468/2013), Rational Strategies Fund (Index Nos. 653566/2012 & 651625/2013), and Equity Trading (Index No. 650112/2014).  The Brualdi Law Firm resists disclosure of the relationship between these partnerships unless, in the face of an objection, such as GBL § 130, it must disclose who is really behind the curtain.

The Brualdi Law Firm’s recent wave of litigation in this court appears to be a continuation of a business strategy it previously carried out in the Delaware Court of Chancery, which went awry.  See In re SS & C Techs., Inc. S’holders Lit., 948 A2d 1140, 1150 (Del Ch 2008) (“those entities and that relationship raise very disturbing questions and may well disqualify those partnerships or the persons associated with them from serving in a representative capacity in the future”).  The SS & C court sanctioned the Brualdi Law Firm in a merger lawsuit based on immaterial disclosures, which led to the court rejecting the settlement.  See id. at 1142.  Vice Chancellor Lamb held that “the record did not support a finding that plaintiffs’ counsel adequately represented the interests of the class or that the settlement terms [were] fair and reasonable.'”  Id.  After the settlement was rejected, defendants discovered that the Brualdi Law Firm was filing lawsuits on behalf of “a web of small investment partnerships for the sole purpose of bringing stockholder lawsuits”, similar to the CTF-like entities in this court.  See id. at 1144.  Sanctions were imposed for a pattern of unethical conduct, including making false statements to the court, which were compounded by further false statements made to hide the original inaccuracies. See id. at 1145.

In sum, this litigation is “pernicious” for reasons best articulated by defendants’ counsel:

First, permitting Mr. Brualdi’s clients—fictitious entities with no purpose for existing and no economic interests apart from the generation of attorneys’ fees—to act on behalf of classes of other, real investors with actual money staked on the financial health of public companies poses a stark conflict of interest.  Second, that fundamental conflict causes the Brualdi Law Firm to adopt inequitable litigation tactics and to advance meritless claims directed not at vindicating the rights of real shareholders but at maximizing the chance Brualdi Brand litigation will settle, resulting in awards of attorneys’ fees that are wholly out of proportion to any real benefit conferred on shareholders. Making this conflict even worse is the fact that ultimately, the shareholders themselves are (through their ownership of the companies Mr. Brualdi sues) responsible for paying fees awarded to Mr. Brualdi.  Allowing the Brualdi Law Firm’s tactics to succeed wastes judicial resources, undermines the public’s faith and confidence in the courts of this State and impairs the State’s reputation as a fair, welcoming place for companies to do business.

Dkt. 87 at 7-8.  The court could not agree more.

Slip op. at 14-16 (footnotes omitted).

The court went on to discuss why the supposed “corrective disclosures” agreed to as part of the settlement were not at all meaningful to shareholders because they were “grossly immaterial.”  See id. at 16-21.  It then says: “Plaintiffs’ counsel wants $500,000 for bringing this lawsuit.  This lawsuit has already cost the shareholders tens of (or possibly hundreds of) thousands of dollars to defend.  This is a problem.”  Id. at 22 (footnote omitted).

The court then proceeds to bemoan “the current state of merger litigation,” and mentions “proposed reforms to corporate by laws” to address these concerns (presumably referring to the current discussion of “loser pays” derivative actions provisions in corporate bylaws), as follows:

It is no secret that when a public company announces a merger, lawsuits follow. There is nothing inherently wrong with this phenomenon.  If the merger price is woefully unjustifiable or if shareholders are not given adequate disclosure to cast an informed vote, a lawsuit is very much the proper way to redress these matters.  However, the ubiquity and multiplicity of merger lawsuits, colloquially known as a “merger tax”, has caused many to view such lawsuits with a certain degree of skepticism.  The lawsuits are filed only a relatively short time before the shareholder vote, and all it takes is a remote threat of injunction or delay to rationally incentivize settlement, even if defendants firmly and rightfully believe the lawsuit has no merit and would be disposed on a motion to dismiss or at the summary judgment stage.  Most commonly, the lawsuits are brought on behalf of the company being acquired, and the claim is that the shareholders are not being bought-out at a high enough price. This court is well acquainted with such lawsuits. . . .  Likewise, this court, and presumably all counsel in this action, are aware of the proposed reforms to corporate bylaws aimed at addressing the concerns many have with the way in which this litigation occurs.  The wisdom of these reforms and their legality are hotly contested issues. Compelling arguments have been made by a variety of stakeholders. Aside from what one thinks of the proposed reforms, that such reforms are such a hot topic suggests a growing frustration with the current realities of merger taxes.

No one, not even plaintiffs, disputes this reality.  The defendant corporation’s cost-benefit calculus almost always leads the company to settle.  Even a slight change of an adverse outcome will induce a company to rationally settle given the costs.  Here, defendants provide countless examples of such costs, none of which are contested by plaintiffs. See Dkt. 87 at 23-24 (discussing impact on information technology, human resources, sales and marketing, finance, accounting, tax, and regulatory matters); see also In re Delphi Fin. Group S’holder Lit., 2012 WL 729232, at *19 (Del Ch 2012) (“if the merger is enjoined, the deal may be lost forever”); In re CheckFree, 2007 WL 3262188, at *4 (“The theoretical harm to plaintiffs here is not particularly substantial” and “the public interest requires an especially strong showing where a plaintiff seeks to enjoin a premium transaction in the absence of a competing bid”).  The very nature of this lawsuit incentivizes settlement, regardless of its frivolity.

Slip op. at 22-24 (footnotes omitted).

The court finally determines that it “will not certify the class nor will it approve the settlement because it is not in the best interest of the class.”  Judge Kornreich refers to Judge Schweitzer’s “highly persuasive opinion in Gordon v Verizon Communications, Inc., which was the subject of the earlier post Commentary on Abusive State Law Actions Following M&A Deals.  A copy of that opinion is available here: Decision and Order in Gordon v. Verizon Communications.  She concludes: “Here, had plaintiffs alleged material omissions or settled for material supplemental disclosures, the court would have approved the settlement.  Even if the court did not think the supplemental disclosures were worth much, if they were legally material, the court would have withheld any criticism of plaintiffs’ counsel until the final approval stage, when the court, as guardian of the best interests of the class, would have limited the attorneys’ fees award to an amount commensurate with the value of the disclosures.  However, in this case, the supplemental disclosures are utterly immaterial for the reasons discussed earlier. The settlement, therefore, should not be approved. . . .  Approving the settlement in this case would both undermine the public interest and the interests of MMM’s shareholders.  It would incentivize plaintiffs to file frivolous disclosure lawsuits shortly before a merger, knowing they will always procure a settlement and attorneys’ fees under conditions of duress — that is, where it is rational to settle obviously frivolous claims.  Without the court serving as a gatekeeper, plaintiffs who file such ligation will continue to unjustifiably extract money from shareholders, who get no benefit from the litigation but nonetheless end up paying two sets of attorneys, both plaintiffs’ and defendants’.  This is a perverse result.”  Slip op. at 32-33 (footnotes omitted).

Judge Kornreich’s coda is an attack on The Brualdi Firm and the plaintiff “and why they are ill suited to be class counsel and class representative”:

[T]he court does believe they filed this class action because they had a genuine concern for the Company’s corporate governance.  Rather, they are simply trying to make money from litigation.  They and their counsel have accurately identified a massive inefficiency in the way in which courts adjudicate merger litigation, and have capitalized accordingly.  They are, in a word, shrewd investors. Their investment, unfortunately, is in litigation. . . . 

In merger litigation — unlike other class action litigation (e.g., securities fraud) where, if the case is frivolous, the court can dispose of it on a motion to dismiss — the time crunch incentivizes a payout to plaintiffs to settle all cases, even frivolous ones.  Thus, extra scrutiny is warranted when it appears that the incentives of the purported class representatives diverge from those of the shareholders.  Such a divergence of incentives may exist, as is the case here, where it appears that the original plaintiff, CTF — essentially a fictitious entity — seeks to obfuscate what it really is.  When a proposed class representative appears to be a fiction, there is the concern that it has no accountability, either to the class or to the court. . . .

Simply put, the secretive nature in which plaintiffs and their counsel choose to litigate, both here and in Delaware, along with the frivolity of their claims, is a strong indication that they are ill suited to represent the class. . . .

Slip op. at 34-37 (footnote omitted).

Bravo Judge Kornreich.  May the seeds strewn by you and Judge Schweitzer bear fruit in other judicial orchards.

The full opinion can be found here.

Straight Arrow

December 9, 2015

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Commentary on Abusive State Law Actions Following M&A Deals

I devote this post to a commentary in the January 6, 2015 Wall Street Journal by Gerry Walpin, a highly-regarded New York litigator.  His op-ed piece entitled “How To Stop a Class-Action Scam” can be found here.

Gerald WalpinGerald Walpin

Gerry describes the abusive process now prevalent in filing suits objecting to corporate mergers or acquisitions.  Virtually every corporate m&a deal is met by a private action, normally filed in state court, challenging the transaction.  The calculation is simple: the plaintiff’s lawyer knows that completing the transaction is the company’s first priority and the cost of settling such a case is minor in comparison to the overall deal costs.  So, with virtually no work, the lawyers can bank a fee for entering into a “settlement” that really does not provide any significant benefit to the company or shareholders.  Usually, such settlements, being supported by all parties to the action, are rubber-stamped with the necessary court approval.  The deal is completed, making company management happy, and the settlement payment of legal fees makes the plaintiff’s lawyers happy.  It’s win-win, right?  Well, maybe so, if you don’t consider the interests of the shareholders, or, perhaps more importantly, the public interest in avoiding such abusive scams.

Here’s some of what Gerry had to say:

If you own any stock, you know the frustration of getting a notice announcing settlement of a lawsuit, commenced by a lawyer on behalf of a class composed of all shareholders—you included.  The notice informs you that, under this settlement, you get nothing.  What that really means is you get zilch but you must pay a pro rata share of your corporation’s legal expenses and of the legal fees for the lawyer who commenced the lawsuit—often millions of dollars. . . .

As soon as a corporation announces an asset acquisition or sale, the [plaintiff’s] lawyer finds one of his ready-plaintiffs and files a class action to stop the transaction. Such behavior is ubiquitous.  As an analysis of merger litigation in the February 2014 Texas Law Review showed, the likelihood of a shareholder suit exceeds 90%.

The defendant corporation, seeking to close the transaction and avoid costly litigation, accepts a quick settlement.  Both sides agree to wallpaper the settlement with meaningless “supplemental disclosures,” supposedly to demonstrate that the plaintiff lawyer contributed something of value, and thereby justify his claim to millions in legal fees.  Also, the corporation is forced to agree not to oppose the fee application. . . .

Case in point: On Nov. 10, 2014, I received a class-settlement notice regarding my Verizon  stock.  It concerned a September 2013 lawsuit commenced by a plaintiff’s lawyer filed only three days after Verizon announced its $130 billion purchase of Vodafone’s 45% minority stake in Verizon Wireless. The claim was that Verizon paid an “excessive and dilutive price” and that the company failed to disclose material information regarding the fairness of the transaction.

Yet the proposed nonmonetary settlement was limited to supplemental disclosures that added immaterial minutiae about the transaction, and Verizon’s agreement to obtain a fairness opinion from a financial adviser for “any transaction regarding assets of Verizon Wireless having a book value . . . in excess of $14.4 billion.”  Oh, and the plaintiffs lawyer sought $2 million in legal fees. . . .

[I] filed a 15-page objection with the court. . . .  In my objection, I detailed my reasons for concluding that this settlement was not in the interests of the shareholders the plaintiff’s counsel supposedly was representing.  Shareholders received nothing, while the plaintiff’s attorneys were to be paid $2 million, coming directly from shareholders. . . .

Happily, the New York Supreme Court judge on this case, Gordon v. Verizon Communications Inc., is Melvin L. Schweitzer, with an excellent reputation as conscientious, careful and courageous, and thus one who would not take the easy way to quickly close out a case by accepting any settlement.  [H]e rejected the proposed settlement and wrote that it would be “a misuse of corporate assets were plaintiff’s legal fees to be awarded.”  As for the supplemental disclosures, he ruled that they “fail to enhance the shareholders’ knowledge about the merger” and provide “no legally cognizable benefit to the shareholder class.”

Judge Schweitzer went on to decry the “tsunami of litigation” that abuses a “body of law meant to protect shareholder interests . . . turned on its head to diminish shareholder value by,” among other means, “imposing additional gratuitous costs, i.e. attorneys’ legal fees on the corporation.”

You can read an article in the New York Law Journal about Judge Schweitzer’s rejection of the settlement here And you can read Judge Schweitzer’s opinion here: Decision and Order in Gordon v. Verizon Communications.

Of course, Gerry Walpin is an experienced securities litigator who knew what to discuss in his objection, and Judge Schweitzer is perhaps more likely than many other judges to direct a jaundiced eye at the collusive settlement placed before him.  There was also another objector represented by counsel (Szenberg & Okun), who was reported as saying: “Lawyers should not be compensated for these type of actions and obtaining these useless settlements.”  The plaintiff’s law firm involved was Faruqi & Faruqi, a common player in these cases.

The state court judge is where the rubber really meets the road in these cases.  Even without a well-conceived objection filed by a knowledgeable shareholder, the judges in these cases should be turning away collusive settlements that do little other than line the pockets of opportunistic plaintiff’s lawyers — with the knowing assent of corporate abettors whose minds are focused elsewhere.  In the Verizon case, as Judge Schweitzer noted, the defense lawyers (heavy hitters Wachtell, Lipton, Rosen & Katz) were more focused on getting an extremely broad release of claims for the officers and directors than negotiating down the $2 million lawyer fees.  Court approval of these settlements is mandatory before they can proceed, and more judicial diligence is needed to make abusive practices like these unprofitable for the lawyers.

In some respects, the state of the law in this area is akin to federal securities class actions before 1995, when the Private Securities Litigation Reform Act was enacted to try to curb abusive practices in federal securities class actions.  Before then, federal securities class actions were virtually assured whenever a company suffered a significant stock price decline.  The statute made filing those actions a little more difficult.  Today, there are fewer abusive federal securities class actions filed, although the frequency of such filings is still significant, and more judicial skepticism for such claims is needed.

If state court judges are not willing to put the kibosh on the approval of extortion payments to plaintiff’s lawyers in order to complete these deals, statutory reform may be the only answer.  That would be difficult, though, because it would require changes to state laws governing the filing of such claims.  Delaware, the leading jurisdiction governing such corporate m&a transactions, tends to move through judicial, not legislative, reforms.  The recent brouhaha in Delaware over apparent judicial willingness to accept corporate “loser pays” by-laws for derivative actions could be where these issues are thrashed out.  But “loser pays” provisions won’t really do the job here, because it will be only the rare case that generates a judicial winner or loser, with collusive settlement being the norm.  There may be no recourse other than increased judicial willingness to hold the settling parties’ feet to the fire before approving such agreements.  Let’s hope that the state law judges will start earning their keep, as did Judge Schweitzer in the Verizon case.

Straight Arrow

January 6, 2015

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Will Fee-Shifting Put the Kibosh on Non-Meritorious Derivative Actions?

On May 8, 2014, the Delaware Supreme Court ruled that a corporate by-law providing for fee-shifting in claims brought against the company by shareholders was permissible under the Delaware General Corporation Law (DGCL).  The decision (which can be found here) occurred in connection with an internecine dispute in a private corporation (the ATP Tour that operates the professional men’s tennis tour), but it raises the prospect that public Delaware corporations could do the same to stem what some believe to be a blight of frivolous derivative shareholder litigation.  See Losing a Shareholder Lawsuit Could Soon Become More Expensive, linked in the column to the right.

The issue arose after the Delaware federal district court certified several questions to the Delaware Supreme Court about the validity or enforceability of the by-law after the ATP Tour won the case brought by its member shareholders.  The Supreme Court ruled that such a by-law was permissible under the DGCL and Delaware common law, but did not decide whether the by-law was enforceable in this case, saying that enforceability of such a provision depended on surrounding facts and circumstances not presented in the certified questions.

But the threat of possible fee-shifting by-laws impacting the cottage industry of private derivative litigation drew a lightening-rod response.  Those who believe the prevalence of knee-jerk derivative actions is abusive and harmful to shareholder interests were delighted at the prospect of possible “loser pays” by-laws.  Securities lawyers who bring derivative claims argue that such a provision might eliminate “nuisance suits,” but it would also deter meritorious actions because no shareholder would commence an action that provides essentially no individual relief but would expose the plaintiff to a large fee award if the action failed.  (Whether the same is true for the plaintiff’s law firms that actually generate many of these cases, and benefit from the settlements that often occur, is not clear.  Nor do I know whether a firm taking on the risk of such an award against its client would be ethically permissible.)

One thing is reasonably clear: For many years specialist plaintiff’s law firms have generated many derivative actions of questionable merit, at best, because of the possibility that out of a portfolio of such claims, a number will generate lucrative settlements (to the lawyers, in terms of attorneys’ fee reimbursements).  The Delaware Chancery Court has been trying for years to “encourage” plaintiff’s firms not to bring knee-jerk derivative actions, for example when companies merge or bad corporate news is announced, but instead to first engage in inquiry as to whether a valid claim might exist by issuing a demand to inspect books and records under Section 220 of the DGCL, which might, or might not, provide the necessary particularized facts to support a derivative claim.  (Vice Chancellor Laster recently reiterated the court’s concern about this problem at pages 38-59 of his opinion in Louisiana Municipal Police Employees’ Retirement System v. Pyott, which can be found here.)

In actuality, the widespread adoption of fee-shifting by-laws by corporations, assuming they would be approved by shareholders, might have unforeseen consequences.  Even while developing strict standards for shareholder actions that seek to supplant or second-guess the business judgment of Boards of Directors, the Delaware courts have strongly advocated the need for, and value of, such actions as an important means of preventing Board or management policies that stray beyond business judgment to self-perpetuation or aggrandizement (see pages 39-40 of VC Laster’s opinion).  In a court of equity, the adoption of by-laws that impose high burdens on unsuccessful actions could lead a court to be less demanding of derivative plaintiffs who appear to have acted in good faith.  Derivative plaintiffs currently face a high bar in pursuing derivative actions.  It might not be prudent to press for by-laws that could create incentives to loosen those standards.

Straight Arrow

May 21, 2014

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