- The Delaware Supreme Court Sets Forth the Proper Remedy for a Disclosure Violation in Connection with a Short-Form Merger
- August 5, 2009
- Law Firm: Richards, Layton & Finger, P.A. - Wilmington Office
In Berger v. Pubco Corp., C.A. No. 3414 (Del. July 9, 2009), the Delaware Supreme Court set forth for the first time the proper remedy for a parent corporation's failure to disclose facts material to a minority stockholder's decision whether to elect the exclusive remedy of appraisal in connection with a short-form merger pursuant to Section 253 of the General Corporation Law of the State of Delaware ("Section 253").
In effecting a short-form merger under Section 253, a parent corporation needs only to provide minority stockholders with notice that the merger has occurred and that they are entitled to seek appraisal under Section 262 of the General Corporation Law ("Section 262"). Statutory appraisal is the exclusive remedy for minority stockholders in connection with a short-form merger, provided that there is no fraud, illegality or disclosure violation. Glassman v. Unocal Exploration Corp., 777 A.2d 242 (Del. 2001). The notice, however, must include all information material to stockholders in deciding whether to seek appraisal, as well as a copy of the appraisal statute.
The Court of Chancery held on summary judgment, and the Supreme Court agreed, that the former parent corporation's notice of merger was deficient because it attached an outdated version of the appraisal statute and did not disclose the valuation methodology used to set the cash-out price. Because the merger already had been effected and consideration paid, to remedy the disclosure violation, the Court of Chancery held that the minority stockholders were entitled to a "quasi-appraisal" remedy, where (i) the parent would provide the minority stockholders with remedial supplemental disclosure; (ii) the stockholders would be given the option to opt in to the action; (iii) the stockholders who opted in would escrow a portion of the merger proceeds they had received; and (iv) valuation of the shares would be made as of the date of the merger. Exercising de novo review of the Court of Chancery's form of a remedy, the Supreme Court, sitting en banc, reversed and remanded back to the Court of Chancery.
The Supreme Court agreed that the optimal remedy for disclosure violations in this context is a "quasi-appraisal" action to recover the difference between "fair value" and the merger price. Unlike the Court of Chancery, however, the Supreme Court held that stockholders (i) would be treated automatically as members of the class and continue as members of the class unless and until they opt out after receiving the remedial supplemental disclosure and the notice of class action informing them of their opt out right, and (ii) would not be required to escrow a portion of the merger proceeds that they already received. Such a remedy, according to the Court, best effectuates the policies underlying Section 253, Section 262 and Glassman, and takes into consideration practicality of implementation and fairness to the litigants. Further, this remedy also gives the minority stockholders "credit" for the "expense and effort" of bringing litigation "solely because the controlling shareholder had violated its fiduciary obligation."
In determining that minority stockholders would not have to opt in, the Court focused on the respective burdens of the parties. According to the Court, an opt in requirement would potentially burden stockholders seeking appraisal recovery, who would bear the risk of forfeiture of their appraisal rights, whereas an opt out requirement would avoid any such risk. To the company, on the other hand, neither option is more burdensome than the other. Under either alternative, "the company will know at a relatively early stage which shareholders are (and are not) members of the class."
With respect to the escrow requirement, the Court recognized that removing this requirement would provide the stockholders with the dual benefit of retaining merger proceeds while at the same time litigating to recover a higher amount – a benefit they would not have in an actual appraisal. The Court determined that fairness nevertheless requires such a result. The Court reasoned that "[m]inority shareholders who fail to observe the appraisal statute's technical requirements risk forfeiting their statutory entitlement to recover the fair value of their shares. In fairness, majority stockholders that deprive their minority shareholders of material information should forfeit their statutory right to retain the merger proceeds payable to shareholders who, if fully informed, would have elected appraisal."
The Court qualified its opinion, however, acknowledging that where a "technical and non-prejudicial" violation of Section 253 occurs, e.g., where stockholders receive an incomplete copy of the appraisal statute with their notice of merger, a "quasi-appraisal" remedy with opt in and escrow requirements might arguably be supportable.