Despite ebbs and flows of global economic uncertainty, M&A activity remained robust in 2019.  Total deal volume reached $4 trillion globally, a slight decrease from the $4.1 trillion volume in 2018, but higher than the $3.5 trillion in 2017.  The U.S. M&A market had a particularly strong year.  15 of the 20 largest deals involved U.S. companies, with deals involving U.S. targets totaling over $1.8 trillion, second only to the record of over $2 trillion set in 2015.  While deals over $10 billion fell from 60 globally in 2018 to 49 in 2019, deals over $25 billion increased from 16 globally in 2018 to 21 in 2019.  These mega-deals, including Celgene’s $93 billion sale to Bristol-Myers Squibb, AbbVie’s pending $83 billion acquisition of Allergan, the pending $48 billion combination of Pfizer’s Upjohn business and Mylan, Occidental’s $55 billion acquisition of Anadarko Petroleum and the pending $140 billion merger of United Technologies’ aerospace business with Raytheon, greatly buoyed deal activity in 2019.

As in 2018, the technology sector saw the largest deal volume, followed by healthcare, real estate and finance.  Global private equity-backed buyout volume reached $400 billion in 2019, robust by historical standards but down from nearly $500 billion in 2018.  Publicly announced hostile and unsolicited M&A declined, falling from $522 billion (or 13% of overall deal volume) in 2018 to $310 billion (or less than 8% of overall deal volume) in 2019, although many companies faced non-public unsolicited overtures from private equity firms as well as strategics, requiring deft handling.

We review below some of the key themes that drove M&A activity in 2019 and our expectations for 2020.

Technology Transactions

The tech sector continued to drive M&A in 2019, with 16% of global M&A volume and 20% of U.S. M&A volume involving a tech company as an acquiror or target.  A tech company was a transaction participant in five of each of the top 20 global deals and top 20 U.S. deals in 2019.  Some notable tech deals in 2019 included the London Stock Exchange’s $27 billion acquisition of Refinitiv, Salesforce’s $15.7 billion acquisition of Tableau Software, Broadcom’s $10.7 billion acquisition of Symantec’s enterprise security business, eBay’s $4 billion dollar sale of StubHub to viagogo and the $21.5 billion Global Payments merger with TSYS.  We expect that tech M&A will continue to represent a significant portion of M&A activity in 2020, as companies inside and outside the sector look to expand product offerings, drive more rapid growth, defend against competitors, enhance efficiency, move up the value chain and react to innovation and disruption.

Tech M&A will continue to be driven by the voracious appetites of the largest tech companies for the acquisition of new products, technologies, markets and talent through M&A, although certain of these companies are likely to face some headwinds in the form of closer scrutiny by U.S. and foreign antitrust regulators, particularly in acquisitions of nascent or potential competitors by allegedly dominant digital platforms.

There have also been a number of important developments in the private and public capital markets that have affected, and will continue to affect, tech companies and the M&A markets.  Over the past several years, tech companies have enjoyed access to record levels of private capital from a combination of venture capital funds, private equity funds, corporate investors, pension funds and large institutional investors.  Together with greater pre-IPO liquidity for founders, employees and early investors, this has significantly extended the length of time tech companies have been able to remain private and has allowed them to fund exponential growth without having to access the public markets.  Flexibility in the  securities laws governing private securities offerings (which the SEC has proposed to expand) and an increase in the number of shareholders that SEC rules allow a company to have before incurring public reporting obligations have facilitated this trend.  If not for the significant liquidity afforded by the public markets, some tech companies might forgo becoming subject to the heightened scrutiny, regulation and short-term pressures of the public equity markets in favor of a continued private company existence—including via a sale—that is often more accommodating of continuous heavy investment in R&D and product development at the expense of near-term profits.  In 2019, there were a number of high-profile and high-value IPOs of tech companies that had extended private lifecycles, including Uber, Lyft and Pinterest.  However, disappointing post-IPO trading by some (although certainly not all) companies—as well as aborted IPOs (with WeWork being the most prominent example)—has resulted in increased scrutiny of valuations of private companies seeking to tap the public markets.  In addition, investors have focused on a clearer understanding of the path to profitability and, in some cases, tighter governance controls (often at the expense of founders).

The performance of tech IPOs in 2019 is unlikely to deter a number of additional high-profile tech IPOs reportedly in the near-term pipeline.  At the same time, we expect these capital markets developments to lead to additional M&A opportunities in the tech sector.  As an IPO becomes potentially less attractive for some tech companies, their shareholders will look more closely at sale opportunities as a means to monetize their investments.  A number of very large technology companies are serial acquirors that some private company owners view as strong partners to help them continue to grow in hyper-competitive markets.  This further enhances the viability and attractiveness of a sale as an alternative to a potentially bumpy IPO and subsequent public company scrutiny.  While competition for top assets will remain intense, we also expect that potential acquirors will scrutinize these targets very closely from a diligence perspective.  Would-be targets can and should prepare in advance for this exercise.

Healthcare M&A

Global biopharma M&A volumes reached a record in 2019, with megamergers, such as the Bristol-Myers Squibb/Celgene deal, the AbbVie/Allergan deal and the Pfizer/Mylan deal, leading the way.  Key trends that contributed to this increased activity included:  (1) the drive to innovate, as large pharma continues to look to biotech companies to deal with patent expirations, especially in areas such as oncology, gene therapy, and rare diseases; (2) the desire to increase efficiency and build scale, as companies prepare for pricing pressure; and (3) convergence, as companies made vertical moves up and down the supply chain, seeking to provide more “one-stop shopping” for consumers (for example, insurance companies buying pharmacy benefit managers and healthcare providers).  Divestitures have also been a source of M&A in recent years as companies reposition themselves to focus on chosen areas and to free up resources for innovation in certain niches. Pfizer, Merck, and Eli Lilly, among others, have either announced or executed on major portfolio restructuring plans to focus attention on core areas.  The 2017 tax reform, which moved the headline corporate tax rate from 35% to 21%, has made divestitures more attractive and more competitive with tax-free spinoffs, especially where the targeted business lacks scale for a spin-off transaction.  By allowing U.S. companies to repatriate accumulated overseas earnings, the tax reform has provided an M&A war chest for many multinationals in the healthcare space.  It also has accelerated the trend away from inversions. In recent months, we have seen two large transactions—the AbbVie/Allergan and Pfizer/Mylan deals—that will result in previously inverted companies being acquired by U.S. companies.

Regulatory developments have cast a shadow on the industry and have had an impact on M&A.  The FDA is showing a commitment to regulatory innovation, including shortening approval timelines and allowing a record number of generic approvals.  With more generics flooding the market, prices continue to fall and generics makers have seen steep declines in market value, which has made for a tough M&A environment in this sub-segment.  In addition, opioid litigation is an overhang in some segments of biopharma, which can affect M&A activity and structuring.  Finally, as biopharma companies look to 2020, and the election ahead, there is concern that political pressure on drug prices is going to get worse.  Drug pricing has become a hot political issue for both parties, with populist sentiment driving scrutiny and various policy suggestions, ranging from price transparency to price controls, on the table.  Deal participants will need to remain sensitive to regulatory and political considerations in connection with future deal announcements.

Financial Institutions M&A

2019 marked a watershed year for financial institutions M&A, bookended by BB&T’s landmark $28 billion merger of equals with SunTrust announced in early February and Schwab’s $26 billion acquisition of TD Ameritrade announced in late November.  Measured by deal value at announcement, the BB&T/SunTrust merger is the largest U.S. bank merger since that of JPMorgan Chase and Bank One in 2004.  Other sectors in financial services also experienced continued consolidation—perhaps none more so than payment services.

In banking, several factors combined to drive larger bank mergers than in recent years.  First, in May 2018, Congress amended the regulatory framework established by Dodd Frank in 2010 that imposes increasingly stringent regulations on banks based on their size and complexity.  Congress raised the asset threshold that triggered the steepest increase in regulation from $50 billion to $250 billion.  In direct response to this change, a number of banks have broached or crossed the $50 billion threshold by merger or via organic growth.  Other powerful drivers of bank consolidation in 2019 were prolonged low interest rates, reduced recessionary fears, increased technology spend to offer competitive mobile banking services and the growing dominance of the “big four” U.S. banks in gathering retail deposits.  Deal structure gravitated to low and no premium mergers in light of continued investor skepticism toward higher premium acquisitions.

In brokerage, 2019 marked an industry shift to zero commissions for equity trading.  In addition to Schwab and TD Ameritrade, Bank of America, Wells Fargo and JP Morgan also began offering zero commission platforms.  The resulting loss of commission-based revenue combined with low interest rates have increased the need for scale and for expense reductions.  These factors should ensure continued consolidation.

Across financial services, few sectors experienced as much consolidation as payments services.  The $21.5 billion Global Payments/TSYS merger announced in May followed on the heels of the $35 billion acquisition by Fidelity National of Worldpay announced in March and the $22 billion merger of Fiserv and First Data announced in January.  The strategic imperatives of scale and international reach combined with the competitive threat posed by fintech companies such as Square and Stripe should ensure continued consolidation in this sector as well.

As the presidential election draws closer, some have argued for financial institutions to accelerate their strategic plans in an effort to obtain regulatory approval prior to a potential change in administration.  We do not subscribe to that view.  In our experience, regardless of the tone of the regulatory environment, there has almost always been a path for regulatory approval for transactions with compelling industrial logic.

Energy M&A

The biggest deal in the oil and gas sector in 2019 by far was Occidental’s $55 billion acquisition of Anadarko, itself accounting for more than half of U.S. oil and gas deal volume in the year.  Without that deal, the remaining $39 billion of U.S. oil and gas deal volume would have been around half the average of $78 billion over the last 10 years.

The U.S. shale industry is undergoing a significant transformation.  After years of substantial investment in exploration and production, including through M&A by E&P companies, energy investors are expecting E&P companies to deemphasize volume growth and focus more on reducing costs and increasing free cash flow and returns.  The fragmented state of the market and relatively small size of many E&P companies is likely to lead to increased consolidation in the sector.  This may include stock-for-stock deals between smaller players looking to increase scale and efficiency and reduce leverage, cash deals with relatively low takeover premiums, and acquisitions by the oil majors looking to further expand into shale.  Not all shale basins are created equal, and asset quality will be a key consideration in which deals get done, and at what valuations.  We expect private equity firms will also continue to be active in the sector, as sellers of portfolio companies, providers of capital to cash-strapped companies, and buyers where the valuations are attractive.

Cross-Border M&A

Cross-border M&A activity dropped precipitously in 2019, from $1.8 trillion in total volume in 2018 to $1.2 trillion in 2019.  A number of factors contributed to this trend, including global trade tensions, Brexit, economic slowdowns in key markets such as Germany, greatly enhanced foreign investment reviews and increasingly aggressive competition regulators.  Facing uncertainty abroad, dealmakers tended to stay regional to a greater degree than in prior years.  Cross-border activity represented just 30% of global volume in 2019, the lowest share in the last ten years.

The geopolitical picture in the near term remains mixed.  While there has been progress on U.S.-China trade talks, a comprehensive deal has not been reached; similarly, the United States-Mexico-Canada Agreement trade deal to replace NAFTA is moving forward, but the implications for North American trade remain uncertain.  It is difficult to predict how the 2020 elections may impact Washington’s stance on global trade issues.  Elsewhere, the recent U.K. elections have put Brexit firmly back on track, but key questions remain for 2020, including what shape the withdrawal agreement may take.  Dealmakers in 2020 will need to assess the potential risk that geopolitical developments may pose to their businesses and acquisition opportunities.

Private Equity Trends

Private equity had a strong finish to the decade.  Although global PE-backed buyout volume declined 20% from 2018 to 2019, the first half of 2019 saw PE dealmaking rise to its highest level since the lead-up to the global financial crisis, fueled by a series of megadeals, significant dry powder and record-low interest rates.  There were a number of $10 billion-plus PE deals in 2019, including Blackstone’s $18.7 billion purchase of the U.S. warehouse portfolio of Singapore-based GLP, the largest private real estate deal in history, EQT’s $10.1 billion purchase of Nestlé’s skincare unit, and the $14.3 billion sale of communications infrastructure services provider Zayo Group to Digital Colony Partners and EQT.  In addition, in November 2019, it was reported that KKR had approached drugstore giant Walgreens Boots Alliance about a potential $70 billion take-private transaction—a deal that, if successful, would be the largest LBO in history.

While a handful of megadeals took the spotlight in 2019, several other deals, including Apollo’s reported bid for Arconic, collapsed after months of negotiation.  More broadly, the strong reported PE activity in 2019 did not include extensive sponsor work in participating in auctions and other deal pursuits that ultimately did not succeed.  In an era of lofty stock prices and a drive for scale and synergies by strategic buyers, PE sponsors had their greatest success where they had a portfolio company to build on or strategic bidders lacked interest.

The challenges and risks associated with big take-privates led some PE firms to focus their attention on the opposite end of the deal size spectrum.  PE buyouts and investments with a price tag of less than $500 million now account for nearly 30% of the PE industry’s dealmaking by value, the highest level in nearly a decade.  Smaller transactions can provide an alternative path to growth and scale, and a basis to compete with strategics, through “buy and build” strategies, where PE funds buy a number of small companies within a sector, roll them up and exit through a listing or sale.

Looking ahead to 2020, political uncertainty has implications for deal activity generally and potentially private equity in particular.  For example, Democratic presidential candidate Elizabeth Warren unveiled proposed legislative changes targeting the industry in a bill called the “Stop Wall Street Looting Act”.  Nonetheless, we expect sponsors to continue to look for opportunities to deploy their record-high levels of capital in clever ways, whether through participation in divestitures by strategics shedding non-core assets, direct lending (as discussed below), bolt-on acquisitions or otherwise.

Activism and M&A

Activism remains a core feature of the corporate landscape, and M&A is a frequent activist demand asserted by traditional, “name-brand” activist hedge funds as well as emerging institutional investor and less established hedge fund entrants.  2019 continued to feature instances of activists seeking to (i) push companies to commence a public or private sales process; (ii) pressure two companies to merge (and even considering building stakes in both companies as part of an on-going campaign); (iii) urge a company to engage in buy-side M&A; (iv) push a company to sell divisions or assets to finance stock buybacks; or (v) push a spin-off with the idea of spinco (and/or the smaller post-spin parent) becoming a takeover target.  In some cases, activist funds, especially Elliott Management but also others, have become bidders themselves for all or part of a company, blurring the line between hedge fund activism and assertive private equity, or offered to serve as financing sources to help “get the deal done.”

2019 featured notable deal activism targeting announced M&A, with activists injecting themselves on both the buy-side and sell-side of a transaction.  Notable examples of buy-side activism, including Starboard’s subsequently withdrawn challenge to Bristol-Myers Squibb’s acquisition of Celgene, Icahn’s campaign against Occidental’s acquisition of Anadarko Petroleum and Pershing Square’s and Third Point’s brief objections to the United Technologies/Raytheon combination, illustrate that M&A activism need not be limited to target shareholders agitating for a higher price.  M&A transactions involving two public companies impact the price of two publicly traded securities (that begin trading with some degree of correlation post-announcement where the deal involves stock consideration).  Together with the typical tools of long, short and structured investments, this multiplies the trading opportunities (and risks) available, creating fertile ground for activist and other investors to insert themselves into the process where a viable opportunity for alpha exists.  The very fact of public opposition to a transaction can create trading volatility that investors can use to magnify profits, buy time to exit a misplaced short or otherwise hedge losses from having been on the wrong side of the trade pre-announcement.  Even traditional non-activist institutional investors may decide to enter the fray in certain circumstances, as exemplified by Wellington Management’s objections to the Bristol-Myers Squibb/Celgene transaction and T. Rowe Price’s objections to Occidental’s acquisition of Anadarko Petroleum.

While targeted transactions generally continue to move forward notwithstanding activist agitation, companies must increasingly gauge the potential for activist pressure and even initial opposition when evaluating, initiating and consummating strategic deals.  Where feasible, companies should consider weaving their M&A strategy into their investor relations narrative to reduce the risk of investors being caught off guard.  Companies should act to maximize the momentum established upon the deal’s public announcement by developing and executing best-in-class roll-out and communications plans that forcefully, clearly and consistently articulate strategic and financial benefits, especially where a transaction might be viewed as a “surprise.”  An analysis of top investors in each party to a transaction, including cross-ownership and their buy-in prices, can inform predictions about likely investor reactions and should be factored into the roll-out strategy.

Moreover, where buyer stock is a significant component of the deal price, parties should give careful consideration to whether the transaction can and should be structured to eliminate uncertainties from a buyer shareholder vote.  The amount of buyer stock to be issued in a transaction is dependent upon a number of financial and other factors, and the buyer’s board of directors has no legal obligation to structure a transaction to require a vote of the buyer’s shareholders.  That said, boards of directors should be prepared for complaints by activists and other investors about not having a vote on a transaction if they are opposed to the deal and it appears that the structure was motivated by a desire to avoid a vote.

Antitrust

In a year of robust M&A activity, the U.S. antitrust agencies investigated and challenged transactions in many sectors of the economy.  The Federal Trade Commission and the U.S. Department of Justice initiated court challenges to block four proposed transactions.  Two notable court challenges—the DOJ’s challenge of Sabre’s proposed $360 million acquisition of Farelogix and the FTC’s challenge of Illumina’s proposed $1.2 billion acquisition of Pacific Biosciences—highlight the agencies’ increased interest in innovation and nascent competition theories of harm.  The DOJ’s long-running challenge of AT&T’s acquisition of Time Warner—the agency’s first court challenge based on a vertical theory of competitive harm in 40 years—failed in February, when a three-judge panel on the U.S. Court of Appeals for the D.C. Circuit upheld the lower court’s decision allowing the merger to proceed.  Companies also abandoned five transactions due to antitrust agency opposition.

As in prior years, most transactions raising antitrust concerns were resolved through negotiated settlements, typically requiring asset divestitures.  The FTC and the DOJ required remedies in 17 proposed transactions, including Bristol-Myers Squibb’s acquisition of Celgene.  The FTC claimed that the divestiture in that transaction, valued at approximately $13.4 billion, was the largest that a federal antitrust agency has ever required in a merger enforcement matter.  The settlement was approved by the FTC with a 3-2 vote, with the two Democratic Commissioners dissenting, as they did in other merger enforcement actions in 2019.  The increased partisan divide at the FTC is likely to result in further delay in the agency’s review of transactions.

In 2020, the agencies will continue to closely scrutinize strategic transactions.  To the extent remedies are required to obtain clearance, structural divestitures will remain the remedy of choice, and the agencies will continue to require parties to address concerns as to the adequacy of any remedial package, including an upfront buyer.  Transaction parties should anticipate significant review periods at both agencies for transactions raising antitrust issues.

Healthcare mergers will continue to get special attention.  Partly in response to recent criticism of “under-enforcement” in the technology industry, the agencies will also closely scrutinize high-tech mergers.  More generally, transactions raising vertical, innovation or nascent competition theories of harm will remain of particular focus.  Evidencing the increased interest in mergers between companies that operate at different levels of the supply chain, the FTC and DOJ recently issued draft vertical merger guidelines—the first new guidelines for vertical mergers since 1984—describing the potential competitive concerns raised by these transactions and outlining the agencies’ analytical framework and enforcement policy.

Also worth watching in 2020 will be potential increased activism by state attorneys general in merger reviews.  Traditionally, state attorneys general have participated in the federal agencies’ review of mergers and sometimes joined them in court challenges or settlements, but they have rarely challenged a transaction reviewed and cleared by one of the federal agencies.  Last year’s challenge of the T-Mobile/Sprint merger, led by California and New York, is the most significant instance of such intervention to date, and a clear sign that state attorneys general are willing to pursue independent merger enforcement actions when they believe the federal agencies have been too lax.

Antitrust policy will remain in the political limelight in 2020 as Congress and Presidential candidates continue to call for more vigorous enforcement.  The uncertainty of the upcoming election may encourage some market participants to complete strategic transactions this year in anticipation of a potentially more hostile enforcement environment in 2021.  Careful analysis and planning at the earliest stages of potential M&A transactions will remain important, including a thorough evaluation of substantive antitrust risk and the development of an effective remedy strategy where necessary.

Foreign Investment Review

In 2019, the Committee on Foreign Investment in the United States (“CFIUS”) continued to use its authority to block or cause parties to abandon transactions.  This included forcing post-consummation divestitures of two Chinese companies’ investments in technology startups Grindr and PatientsLikeMe, allegedly due to concerns regarding cybersecurity or access to sensitive personal data.

In September 2019, the Treasury released draft rules to implement most of the remaining provisions of the Foreign Investment Risk Review Modernization Act of 2018 (“FIRRMA”), which in 2018 ushered in significant reforms to CFIUS.  The new rules were finalized yesterday and will become effective on February 13, 2020.  Among other things, the rules introduce a mandatory filing requirement for certain investments resulting in foreign-government controlled entities obtaining 25% or more of the voting power in a U.S. business involved in critical technology or infrastructure or sensitive personal data.  The new regulations also identify several categories of businesses involving “critical technology,” including the sorts of military- and defense-related items with which CFIUS has traditionally been associated, as well as certain “emerging and foundational technologies” used in industries such as computer storage, semiconductors and telecommunications equipment.  Businesses involving “critical infrastructure” are identified by reference to a list of 28 subsectors.  With respect to businesses involving “sensitive personal data,” the new regulations include any business that maintains or collects genetic information or other “identifiable data” such as financial, health-related, biometric or insurance data for more than one million individuals.  The rules also implement the real estate provisions of FIRRMA by expanding CFIUS’s jurisdiction to capture the purchase, lease or concession of certain U.S. real estate to a foreign person.

Rather than the more traditional indicia such as protection of defense facilities and infrastructure, government contracts, etc., FIRRMA mandates that CFIUS view national security through a wider lens and acknowledge that the capability to develop emerging technologies, both digital and otherwise, is critical to ensuring long-term U.S. national security.  While the full implications of the new law will depend on the yet-to-be-implemented provisions, the changes are expected to increase the number of CFIUS filings and result in longer overall review periods for many transactions, thus further increasing the potential impact of CFIUS in cross-border deals.  As a result, it will remain critical for foreign acquirors to factor into deal analysis and planning the risks and timing of the CFIUS review process.  Targets of foreign acquirors should also assess whether CFIUS review may pose a risk to deal consummation.

Acquisition Financing

Though the debt bull market looked shaky in the final months of 2018, it roared back to life in 2019 to continue a decade of nearly uninterrupted strength.  Opportunities were best for investment grade issuers and borrowers near the top of the high-yield spectrum, while companies rated single-B or below occasionally faced challenges.  Overall, 2019 was another strong year for borrowers.

As discussed in more detail in our recent memo, Acquisition Financing Year in Review:  A Decade of Debt, among the most interesting developments of the year was the emergence of “direct lenders”—private investment funds that make large, concentrated debt investments—as key players in large-scale leveraged acquisition financings.  Unlike traditional underwriters in syndicated lending commitments or securities offerings, direct lenders take a “buy and hold” approach to their debt investments, and correspondingly offer borrowers a concentrated source of funding, rather than a dispersed market of investors.  While debt provided by direct lenders is not necessarily cheaper than customary syndicated financing (and indeed is sometimes more expensive), it can offer unique advantages, including increased certainty of terms, elimination of a cumbersome debt marketing process, structural flexibility and optionality in challenging financing markets.  Traditional syndicated loan and bond markets are likely to remain the primary sources of financing for most large-scale leveraged acquisitions, but the direct lending market has clearly emerged as a viable alternative in certain large-scale transactions.  We expect this trend to continue.

SEC Developments

In August 2019, the SEC approved guidance in two releases affecting the proxy voting process.  Guidance issued by the Division of Investment Management focuses on the proxy voting responsibilities of investment advisers and their fiduciary duties, especially when relying upon proxy advisory firms.  This guidance notes that M&A transactions and contested elections, in particular, are areas where a higher degree of analysis may be required for an investment adviser to assess whether any votes it casts are in their clients’ best interests.

Separate guidance issued by the Division of Corporation Finance stated that recommendations and voting advice by proxy advisory firms such as ISS and Glass Lewis generally constitute “solicitations” under the proxy rules, and are subject to the anti-fraud provisions of Rule 14a-9.  ISS later filed suit against the SEC, claiming that the guidance would “diminish investor protections” and “chill ISS’ protected speech.”

Nonetheless, in November 2019, the SEC proposed rules that would codify the Division of Corporation Finance interpretations.  In addition, the proposed rules would require, as a condition for relying on exemptions for proxy advisors from the information and filing requirements of the proxy rules, that proxy advisors provide an opportunity for issuers and investors engaged in non-exempt solicitations to identify factual errors or methodological weaknesses in proxy advisor reports before they are published.  The final proxy advisor report as sent to clients would also be required, if requested by the issuer or non-exempt solicitors, to include a hyperlink that allows clients to access the written views of the requesting party as to the proxy voting report as published.  These requirements would also apply to M&A transactions and contested situations, representing a change from the status quo, in which ISS does not provide the opportunity to review draft reports in these circumstances.

Deal Litigation

The past year again saw high rates of stockholder litigation challenging public company mergers and acquisitions.  Continuing the trend sparked by the Delaware Court of Chancery’s decision in In re Trulia, Inc. Stockholder Litigation to reject “worthless” disclosure-only settlements, the bulk of the suits were styled as claims under the federal securities laws and were filed in federal court.  The overwhelming majority of such federal suits were “mooted” by the issuance of supplemental disclosures and payments of the stockholder plaintiffs’ lawyers’ fees.  Unless the federal courts begin applying heightened scrutiny to such resolutions akin to Delaware’s Trulia review of settlements, we expect this litigation activity will continue.

Although the majority of the volume of M&A-related stockholder litigation has moved to the federal courts, litigation—and particularly hard-fought, post-closing litigation—does continue in Delaware.  Such litigation has been aided by stockholders’ use of the statutory right to inspect corporate books and records under Section 220 of the Delaware General Corporation law to obtain pre-suit discovery of documents related to deals.  Stockholder plaintiffs can use this inspection right to obtain a wide range of materials, though the Delaware Supreme Court held last year that such inspections should normally be limited to board-level materials.  Activist stockholders also last year attempted to use Section 220 in aid of challenges to M&A activity.  For example, following Occidental’s approval of a $55 billion acquisition of Anadarko Petroleum in a transaction structured to not require a vote of Occidental shareholders, Carl Icahn commenced a proxy contest at Occidental and filed a lawsuit under Section 220.  The Court of Chancery in High River Limited Partnership v. Occidental Petroleum Corporation stated that although the standard for inspection under Section 220 is the lowest burden of proof recognized in Delaware law, a plaintiff must still provide some evidence of wrongdoing.  “Mere disagreement” with a business decision, including “disagreeing with a board’s business judgment” or a board’s “deal making prowess,” does not establish a credible basis to infer corporate mismanagement or wrongdoing sufficient to support a books-and-records demand.  The ruling provides an important reminder that stockholders cannot expect unfettered access to a company’s books and records to help them prosecute proxy contests or file lawsuits in the M&A context.

Finally, in December, the Delaware Court of Chancery ordered Boston Scientific Corporation to close its acquisition of Channel Medsystems, Inc., which Boston Scientific had tried to terminate on the basis of an alleged material adverse effect arising from fraud committed by one of Channel’s employees.  Channel is the first Delaware decision to address the issue since 2018’s ruling in Akorn, Inc. v. Fresenius Kabi AG, which marked the first finding by a Delaware court of a material adverse effect justifying termination of a merger.  The Channel decision reconfirms that, Akorn notwithstanding, proving a material adverse effect remains a very difficult task requiring objective evidence that the target faces serious, durationally significant adversity.

Corporate Purpose and M&A

In the year 2019, discussions regarding the purpose of the corporation and duties to stakeholders came to the fore, with statements by the Business Roundtable, major index fund managers and others regarding the threat to sustainable long-term value posed by theories of shareholder primacy and short-termism.  While the impact of these developments on the broader evolution of corporate governance is beyond the scope of this memorandum, the key point from an M&A perspective is that stakeholder governance is entirely consistent with traditional conceptions of directors’ duties in considering business combination transactions.

It is black letter law that unless and until a board of directors decides to sell a company, directors do not have a so-called Revlon duty to pursue the highest value reasonably available.  The decision of whether to sell the company is squarely within the business judgment of the board, and a well-informed, conflict-free and good faith decision to continue to pursue a strategy of maximizing the long-term value of the corporation—for the benefit of all stakeholders—will not be second-guessed by the courts.  Similarly, a board of directors is not obliged to pursue a major acquisition merely because it may be accretive to earnings and result in a near-term increase in stock price, without regard to the board’s view of the broader impact of the transaction on the company.  The formulation of the company’s strategy and the means of achieving it remains inherently within the discretion of the board.

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Some commentators believe that the long-running M&A boom is soon coming to an end.  Certain macroeconomic indicators certainly could support this point of view.  Trade tensions, fears of a global economic slowdown, periodic dislocations in debt markets and residual uncertainty surrounding Brexit all remain risks as of this writing.  In addition, the upcoming U.S. presidential election and the ever-evolving U.S. political landscape could be a substantial source of uncertainty in 2020.  Nonetheless, the U.S. economy remains strong, unemployment and interest rates are low and stock markets continue to perform well.  At present, many dealmakers continue to be at least cautiously optimistic that smart M&A creates value, including M&A designed to anticipate and address emerging risks and opportunities.  We expect that, as they have in years past, market participants will search for, identify, create and execute upon strategically and financially compelling M&A opportunities.

This post comes to us from Wachtell, Lipton, Rosen & Katz. It is based on the firm’s memorandum, “Mergers and Acquisitions–2020,” dated January 14, 2020.