In two recent rulings, the Chancery Court of the State of Delaware has provided important guidance on how so-called “don’t ask, don’t waive” standstill provisions—which are designed to encourage bidders to provide their best offers during an auction—will be viewed in future litigation. While the Chancery Court has recognized that “don’t ask, don’t waive” provisions can be appropriate and valuable tools for a board, these two rulings will affect the processes boards establish when conducting an auction process.
“Don’t ask, don’t waive” provisions have become increasingly common in M&A standstill agreements as a way of incentivizing competing bidders to put forth their best offer during the auction. These provisions prohibit potential bidders from either publically or privately requesting that a target company waive the terms of the standstill provision. Conventional wisdom holds that the existence of such a provision forces bidders to put forth their highest offer during the course of an auction, rather than low-balling initial offers and making post-auction bids after a competitive sales process or sitting out an auction altogether and using the bidders as stalking-horses. The M&A community generally thought these provisions were value maximizing by according finality to the auction.
On November 27, 2012, Vice Chancellor Travis Laster issued a bench ruling in In re Complete Genomics, Inc. Shareholder Litigation, C.A. No. 7888-VCL, enjoining the enforcement of a “don’t ask, don’t waive” provision in a standstill agreement. In Complete Genomics, the company explored a sale of the company and entered into several confidentiality agreements with standstills, some of which had “don’t ask, don’t waive” provisions. The company ultimately entered into a merger agreement with another party, but did not waive the existing provisions and continued to entertain proposals from other bidders. The Court analogized the “don’t ask, don’t waive” provision to an impermissible “no-talk” provision in a merger agreement, which prevents a target company from discussing alternative transactions with third parties. The Court found that the Complete Genomics board impermissibly limited its ability to discharge its ongoing statutory and fiduciary obligations by agreeing to such a provision. Specifically, the Court found that the board limited its ability to evaluate competing offers, to disclose material information, and to make a meaningful recommendation to stockholders on a merger. Importantly, however, the Court did not invalidate per se all “don’t ask, don’t waive” provisions. Instead, the Court questioned only the enforceability of such provisions where a sale agreement with another party has been announced and the target has an obligation to consider competing offers.
On December 17, 2012, Chancellor Leo Strine issued a bench ruling in In re Ancestry.com Inc. Shareholder Litigation, C.A. No. 7988-CS, in which the Court declined to enjoin a stockholder vote on the basis of a “don’t ask, don’t waive” provision in a standstill agreement and permitted the stockholder vote to go forward after the company made additional disclosures, including disclosures related to the use of the provision. There, the target company’s board conducted an auction to sell the company and entered into several standstill agreements with potential bidders that included “don’t ask, don’t waive” provisions. Chancellor Strine agreed with Vice Chancellor Laster’s conclusion in Complete Genomics that “don’t ask, don’t waive” provisions are not per se invalid, and found that these provisions, when used properly, can be “value-maximizing” tools for a board engaged in an auction process. Specifically, Chancellor Strine recognized a “well-motivated seller” may use these provisions “as a gavel” to impose finality in an auction, and thereby maximize stockholder value by eliciting the highest bids from auction participants. In other words, a company “can use this tool to gain credibility so that those final-round bidders know the winner is the winner, at least as to them.”
However, the Chancellor goes on to say that this provision is a “powerful tool” that must be used “consistently with [a board’s] fiduciary duties, not just of loyalty, but of care.” The Court noted that it was not apparent on the preliminary record that the board was aware of the “potency of the clause.” Ultimately (in connection with the transaction litigation) the seller waived the bidders’ “don’t ask, don’t waive” provisions and the Chancellor permitted the shareholder vote to approve the merger to proceed with additional disclosure regarding the preclusive effect the “don’t ask, don’t waive” provisions had on the bidders’ ability to submit a topping bid. However, the Chancellor strongly suggests the additional disclosure, absent the waiver of the “don’t ask, don’t waive” provisions, would not have been sufficient to avoid his enjoining the shareholder vote.
Boards are therefore left with a decision as to the best path forward. Assuming a board and its advisors determine that a “don’t ask, don’t waive” provision does in fact increase the robustness of an auction (a subject of debate), the Chancellor’s ruling suggests two permissible outcomes: (i) waive the “don’t ask, don’t waive” provision in the standstills with the non-winning bidders immediately prior to the execution of the acquisition agreement or (ii) use the provision diligently as an auction gavel (“impress upon the people that [the seller] has brought into the process the fact that the process is meaningful; that if you’re creating an auction, there is really an end to the auction for those who participate”). Facts that demonstrate a board was able to extract additional value from a winning bidder under option (ii) would certainly create a stronger record.
Finally, implicit in both of these decisions and a consistent theme coming out of the Chancery Court in recent years is the need for the creation of a contemporaneous record that demonstrates the board’s discharge of its fiduciary duties. While prompt and accurate corporate record keeping is always a best practice, this is particularly the case in the context of change of control transactions, with their attendant heightened standards of review. So, while the Chancery Court in both the Complete Genomics and Ancestry rulings highlight that “don’t ask, don’t waive” provisions are not impermissible per se, well advised sellers will need to create a contemporaneous record that demonstrates the board thoughtfully considered the implications of such a provision and made a reasonable decision in order to maximize value in order to successfully survive legal challenge.