Strategies to Survive the Merger Mania
from
Jul
y/August 2005
by Lisa Ferri
Hamlet would recognize the boardroom stress brought about by the mergers-and-acquisitions boom, and the directors’ quandary: To be acquired or not to be? The question absolutely requires pondering. As M&A experts like Byron F. Egan of the Texas law firm Jackson Walker point out, directors considering acquisition bids may be “leading their shareholders into the single most important business decision” in the life of the company.
More than $158 billion of M&A deals were announced in the first six weeks of 2005 alone, including Procter & Gamble’s $57 billion takeover of Gillette, according to Thomson Financial, a provider of financial information. In 2004 M&A deals hit $823.7 billion, up from about $552 billion in 2003. What’s driving this mania? One of the nation’s most prominent M&A attorneys, Martin Lipton of Wachtell Lipton Rosen & Katz, says one factor is that today companies “are finding that scale is very important. . . . [It is] important to create scale to stay competitive.”
What does the merger mania mean for directors’ responsibilities? M&A lawyers interviewed by Corporate Board Member agree that whether you are on the “acquire” or “be acquired” side, directors don’t have to memorize the nuances and technical aspects of a proposed deal. The business-judgment rule is still in play, says Egan: “Directors aren’t required to be perfect. They’re just required to be thoughtful and exercise reasonable care.” The first step toward achieving that goal, the M&A attorneys say, is to hire the right advisers, investment bankers, and (surprise) lawyers.
The downside to good advisers, says Stephen Fraidin of Kirkland & Ellis, is that their extreme sophistication may call for an infusion of common sense. That’s where directors come in. Fraidin says board members need to be on their guard for “commonsense red flags.” If a company they are considering merging with has met analysts’ estimates for 15 quarters in a row, he says, the directors need to ask, How’d they do that? And did they do that? According to Fraidin, directors are there to scrutinize the opposing side—either acquirer or acquiree—and to be on the lookout for some of the traditional ways companies can inflate their income, such as having customers prepay for items.
Byron Egan puts it more bluntly: Show me the money. And then another image: “It’s not who you’re in bed with,” he says, “it’s whether that company who wants to be in bed with you can actually perform.” Cases like Enron and WorldCom, adds Joel Greenberg of New York City’s Kaye Scholer, have shown that “companies can have absolutely fictional financial statements.”
In the Sarbanes-Oxley era, the need for squeaky-clean management and transparent financials is more urgent than ever on both sides of the deal. While the board itself usually doesn’t get involved in the due diligence, Leigh Walton of the Tennessee law firm Bass Berry & Sims says it’s up to the directors to “set the tone and the expectations for management pre-closing, so there aren’t any surprises post-closing.”
What if your company is the aggressor, moving against a reluctant target? David A. Katz, Lipton’s colleague at Wachtell Lipton Rosen & Katz, advises caution. “Directors don’t want to be surprised to learn that when they fail in an unsolicited hostile bid, their company is seen in a negative light and may become a target itself,” he says.
What if your company is being targeted and you want to resist? As Martin Lipton says, “The increase in the power of institutional and activist shareholders has been manifested in the dismantling of takeover defenses by many companies during the past two years. This, combined with the threat of a proxy fight to remove a board of directors that rejects a takeover bid, will encourage aggressive acquirers to make use of ‘bear hugs’ [unsolicited bids for a company at above-market prices] and hostile tender offers.”
When a hostile bid surfaces, says attorney Keith Flaum, partner in the mergers-and-acquisitions group at Cooley Godward in Palo Alto, California, the legal team should first remind directors of their duties of “care, loyalty, and good faith” and then lay out the company’s existing takeover posture, including any poison pill or other defensive measure that can give the board adequate time to respond.
Once the directors have decided to fight, says Flaum, they must do so on two fronts: legal and PR. “In a hostile bid, legal defenses will buy the board time,” he says, “but ultimately you win the fight by communicating with stockholders and convincing them that your strategy—independence—is best.”
From that point forward, directors need to remember that everything they do will be under a courtroom microscope. Judges will be scrutinizing the issue of whether the board’s actions are reasonable or draconian—and “what the courts find draconian changes from year to year,” Byron Egan warns. Nevertheless, says Joel Greenberg, there is a time-tested strategy for winning over the courts: Judges will be respectful of directors who can show that they were diligent and well informed and upheld their duties in good faith. Above all, in any kind of merger situation, says Egan, there’s just one central question directors need to ask themselves: Have I gotten the very best deal possible for the shareholders? Answer that adequately, he says, and you’ve won more than half the battle.
