Beginning in 1985, the Delaware Supreme Court created a new framework for judicial review of decisions made by boards of directors when considering third-party mergers and acquisitions. Ever since, third-party M&A events, both hostile and friendly, have been reviewed using an intermediate standard known as enhanced scrutiny. Under that standard, the defendant directors bear the burden of proving that they sought to serve a legitimate corporate purpose and that their actions fell within a range of reasonableness.
Although the concept of a range of reasonableness implies an objective test, there is no Platonic form of reasonableness. Attitudes and perceptions necessarily influence what a court regards as reasonable. For the Delaware common law of fiduciary obligations, the attitudes and perceptions that emerge from the Delaware Supreme Court justices’ opinions and their scholarly writings necessarily influence a trial court’s assessment of the range.
Over the decades, the Delaware Supreme Court’s perceptions of recurring third-party M&A scenarios have evolved significantly, and many of the attitudes expressed in early opinions no longer hold. Four areas stand out. Early Delaware Supreme Court decisions regarded management-led, single-bidder processes with skepticism, while encouraging board-led, multi-bidder processes. They likewise treated skeptically the deployment of defensive measures, particularly no-shop clauses, that appeared designed to limit a board’s ability to generate multi-bidder processes. When the Delaware Supreme Court deemed a defensive measure to be questionable, it prioritized the fiduciary responsibilities of the selling directors over the contract rights of the third-party acquirer. The high court did not regard stockholders as capable of protecting their own interests through voting, leaving litigation to fill the gap. The resulting framework led to targeted preliminary injunctions that enjoined the specific features of the transaction agreements that the high court found problematic.
Recent Delaware Supreme Court decisions illustrate quite different attitudes. As exemplified by the C & J Energy opinion, a decision from 2014, the high court currently does not treat single-bidder, CEO-driven processes as warranting skepticism, and it accepts no-shop provisions as routine. In the event of breach, it expressly prioritizes the contract rights of third-party bidders, at least absent direct involvement in the underlying breach, and consequently limits the availability of targeted injunctions as a remedial measure. In lieu of relying on litigation to restrain sell-side director behavior, the high court defers to the stockholder vote as the principal check on deal practice.
Although the contrast is notable, the current attitudes did not burst forth suddenly. Most of the intervening evolutionary work took place at the Court of Chancery level, which C & J Energy elevated to Supreme Court doctrine. Nor are the current attitudes misguided or inappropriate. They represent understandable responses to changes in the M&A environment, most notably (i) the rise of sophisticated institutional investors who can influence the direction of the corporations in which they invest and determine the outcome of M&A events, and (ii) the system-wide failure of stockholder-led M&A litigation to generate meaningful benefits for investors, setting aside occasional recoveries by a small subset of the plaintiffs’ bar. When a market-driven protection is available and the litigant-driven mechanism has failed, it makes sense to favor the former over the latter.
Regardless of the reasons, enhanced scrutiny as applied in the second decade of the current millennium differs markedly from enhanced scrutiny as originally presented. No longer can courts, practitioners, or scholars treat the old learning as if it still applies. Nor should observers expect courts to intervene in M&A situations to the degree suggested by the early decisions. For lawyers and law professors, that might be an unwelcome change. But for anyone who believes markets should decide the outcome of M&A events rather than courts, it is a positive development.