The recent decision in Badowski v. Corrao, No. 652986/2011, NYLJ 1202642854864 (Sup. Ct. N.Y. County, Commercial Division), is a timely application by a New York court of the limitations of so-called Revlon duties to stock-for-stock mergers.
In Badowski, the court dismissed with prejudice a class action brought by a shareholder of the target (Vertro, Inc.), challenging Vertro’s stock-for-stock merger with Inuvo, Inc. The court applied Delaware law under the internal affairs rule because Vertro is incorporated under the laws of Delaware. In applying Delaware law, the court clearly adhered to the principle that Revlon duties are not implicated where the challenged transaction does not result in a true change of control. ...
... Revlon duties are only triggered when a company embarks on a transaction, whether on its own or in response to an unsolicited offer, that will result in a change of control. Citing well-established Delaware authority, the court in Badowski stated as follows:
In the context of a stock-for-stock merger, a change of control for Revlon purposes can be triggered if the target's shareholders are relegated to a minority in the resulting entity, and the resulting entity has a controlling stockholder or stockholder group. Where, however, ownership of the merged company will remain in "a large, fluid, changeable and changing market," Revlon is not implicated.
The court in Badowski found that the facts, as pleaded, would not support the imposition of Revlonduties in part because there was no allegation that the shares of the resulting entity will not be freely traded in the marketplace, or that the former Vertro shareholders will be subjected to a controlling shareholder or block of shareholders. Badowski, at *7-*8. The court also recognized that the allegations of the complaint were contradicted by the proxy statement, as the final proxy statement stated that upon completion of the merger, current Vertro stockholders would hold approximately 52.8 percent of the outstanding shares of the new company, which would change to 51.4 percent, assuming exercise of all outstanding options (whether or not vested) and warrants. Id. at *8 n.3.
Plaintiff also argued that Revlon duties were implicated because the Vertro board had actively solicited a merger with a party other than Inuvo, and because Vertro’s officer and director contracts contained "change in control" provisions that were triggered by the merger. The court, however, rejected both of these arguments. The court held that the board’s initiation of an active bidding process does not render Revlon applicable unless the board seeks to sell control or takes other actions that would break up the company. Id. at *8. As to the officer and director contracts, the court found that plaintiff had cited no authority that change in control provisions in employment contracts establish change of control for Revlon purposes. Id.
Sadly, the Court did not cite my article The Geography of Revlon-Land, but the Court's analysis is consistent with the approach I advanced therein. Like the Court, I argued that:
Acme and Ajax are both public corporations listed on the New York Stock Exchange (NYSE). Acme offers to acquire Ajax in a merger of equals in which Acme shareholders would receive Ajax stock for their Acme shares. This is an easy case. Recall that in Time, Chancellor Allen had said that Revlon was not triggered because there was no change of control. This was so, he explained, because control of the combined entity after the merger remained “in a large, fluid, changeable and changing market.” The same is true here. Accordingly, because the merger does not involve a sale or other change of control, the Acme “board's decision . . . is entitled to judicial deference pursuant to the procedural and substantive operation of the business judgment rule.” In contrast, if the acquiring firm has a controlling shareholder, the merger would result in the requisite change of control and Revlon would trigger.
Start with the same facts as in the preceding hypothetical, but now assume Acme proposes a triangular merger in which Ajax would be merged into a wholly owned Acme subsidiary. Despite the change in form, the substantive effect of this transaction is precisely the same. The combined entity ends up being owned by dispersed shareholders “in a large, fluid, changeable and changing market.” Only by elevating form over substance could Revlon apply here.
Of course, this is easy. The more difficult questions are presented when cash constitutes some of all of the consideration to be paid by the acquirer. Some Delaware Chancery Court decisions suggest that Revlon would be triggered in such cases. In my article, I argue that those decisions are inconsistent with Delaware Supreme Court rulings and sould policy.