The Delaware Court of Chancery's 2016 decision in In re Trulia Stockholder Litigation 1 sought to address the trend of meritless merger lawsuits flooding the Chancery Court. Following the decision, however, the battleground of merger deals simply shifted from the Delaware Court of Chancery to federal district courts. The federal court challenges to announced deals have not abated as a result of the current COVID-19 pandemic. In fact, since January 2020 over fifty M&A deal challenges have been filed in Delaware District Court by a single group of lawyers in what appear to be lawsuits intended to generate mootness fees. This trend underscores the critical need for reform of this type of abusive litigation.
M&A Challenges in 2020
Since January 2020, over fifty of the approximately sixty M&A deal challenges alleging violations of the Securities Exchange Act of 1934 have been filed in Delaware District Court jointly by one group of lawyers at Rigrodsky & Long2 and RM Law. These complaints allege that defendants omitted details regarding financial projections and deal background that purportedly render proxy or registration statements misleading and they hardly differ from the disclosure suits criticized by the court in Trulia. Notably, more than 60% of these cases filed since January 2020 have been voluntarily dismissed within months of their filings. The dismissals, before class certification, all appear to be without material benefit to the class of shareholders and did not trigger substantive court review. The circumstances surrounding these dismissals indicate that they likely involve mootness fees. The result is a blatant attempt to avoid court scrutiny and another tax on merger participants, their shareholders and insurers for the benefit of two law firms. Data collected by Cornerstone Research indicates unsurprisingly that since the 2016 Trulia decision there has been an increase in federal M&A filings3 and Rigrodsy & Long is responsible for a significant number of these cases.4 While the filings by Rigrodsky & Long have been on the rise since 2016, the over fifty M&A challenges filed in the first five months of 2020 put the firm on pace for a record number of filings this year at a time when M&A deals are down overall in light of the pandemic. This underscores the significant need for reform.
Beginning in 2009, filings of class action claims challenging mergers increased substantially. These cases generally alleged breaches of fiduciary duties and challenged the sufficiency of shareholder disclosures or the overall fairness of the proposed deals. By 2015, roughly 95% of merger transactions valued at more than $100 million were challenged and 60% of these challenges were filed in Delaware courts (more often than not in Chancery Court), while only 19% were filed in federal courts in other states.
These cases were normally resolved in early settlements with corrective disclosures which, like most settlements, were often approved by the courts. Because these corrective disclosures theoretically benefitted shareholder members of a class through the provision of additional information purportedly relevant in making an informed decision regarding the merger, plaintiffs' attorneys were generally awarded attorneys' fees by the courts under the common law corporate benefit doctrine. However, as the volume of cases increased, class actions seeking supplemental disclosures became a vehicle for plaintiffs' firms to obtain attorneys' fees while providing little, if any, meaningful benefit to shareholders and rarely impacting shareholder votes on the merger. Defendants were incentivized to quickly resolve the often meritless litigation in order to avoid costly litigation that could potentially complicate or delay the closing of the transaction. While class actions were created to benefit a class of injured claimants, it became clear that these disclosure only lawsuits were being used as a tool to justify plaintiffs' counsels' attorney fees and often provided little benefit to the shareholders. In fact, the broad releases of all future class claims routinely provided in connection with these settlements sometimes harmed shareholders by foreclosing potentially stronger claims that would not have the opportunity to be thoroughly vetted.
The Aftermath of In re Trulia Stockholder Litigation
In its 2016 decision in In re Trulia Stockholder Litigation, the Delaware Court of Chancery acknowledged the issue of meritless merger lawsuits and indicated a policy disfavoring approval of merger litigation settlements and associated attorneys' fees without a meaningful benefit to shareholders. However, Trulia led to a new trend in merger litigation: Plaintiffs shifted from pre-closing deal challenges seeking injunctive relief or additional disclosures to deal litigation under federal law alleging monetary damages for violations of Section 14 of the Securities Exchange Act of 1934, which prohibits materially misleading disclosures in connection with a proxy statement or tender offer.
As with the disclosure only suits filed in the Delaware Court of Chancery, companies seeking to avoid delays in completing merger transactions and the expense of litigating a case on the merits often elected to resolve these suits with supplemental disclosures and payment of relatively modest attorneys' fees. As a result, certain plaintiffs' firms started filing cases in federal court without expecting meaningful benefits for shareholder class members through corrective disclosures or recovery, but with the sole intent of obtaining attorneys' fees -- known as mootness fees -- in exchange for voluntary dismissals and non-material supplemental disclosures. In this way, plaintiffs simply moved the battle ground over deal disclosures from Delaware Chancery Court to federal district courts.
While settlements of federal securities class actions and attendant attorney fee awards generally require approval by the federal district courts in order to ensure fairness to the class, plaintiffs have circumvented this process through voluntary dismissal of cases upon supplemental disclosures -- which are often immaterial and minor -- and payment by defendants of mootness fees to plaintiffs' attorneys prior to class certification. This arrangement bypasses court approval and the potential analysis of the settlement by courts under Trulia because settlements before class certification are generally treated as individual actions and typically do not require court approval.5 The arrangement also typically avoids public scrutiny because mootness fees are generally immaterial to the paying company and are often not widely disclosed. As discussed above, the federal court mootness fee challenges to deals have not abated as a result of the current COVID-19 pandemic.
The public policy concerns underlying the decision in Trulia regarding disclosure only settlements that include little transparency provide no benefit to the company shareholders and serve as a deal tax on almost every transaction involving a public company are now a serious issue in federal court. These issues can only be remediated by court action or through congressional reform of securities law.
1. In re Trulia Inc. Stockholder Litigation, 129 A.3d 884 (Del. Ch. 2016).
2. Prior to the 2016 decision in Trulia, Rigrodsky & Long frequently brought disclosure suits in Delaware Chancery Court. In fact, the firm represented plaintiffs in the Trulia case.
3. Cornerstone Research data reflects 2 M&A challenges filed in federal court in 2015; 59 in 2016; 249 in 2017; 166 in 2018 and 160 in 2019.
4. Cornerstone Research data reflects that Rigrodsky & Long filed 14 M&A challenges in federal court in 2016, 86 in 2017 and 54 in 2018.
5. In a rare situation in the Northern District of Illinois, a shareholder sought to intervene and object to a settlement stipulation, which disclosed the payment of mootness fees prior to class certification. The court cited Trulia in abrogating the settlement.
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