For years it was a truism in M&A that once a deal was signed, shareholder approval would be automatic, assuming no higher credible bid emerged before the shareholder meeting. This truism began to fray in 2006 and became quite tattered during the first half of 2007. Since then, large fault lines have appeared in the leveraged finance market, and the pace of M&A in the United States has slowed dramatically. Nonetheless, and somewhat surprisingly, we have continued to see serious investor pushback on M&A deals.
The reasons include a rise in activist hedge funds, a willingness of traditional mutual fund investors to openly oppose merger deals, and an informal -- but highly effective -- investor communications system consisting of SEC filings and Internet messaging.
To counter shareholder pushback, deal participants have resorted to extensive road shows to promote the deal, postponing the shareholder meeting and sometimes resetting the record date to enfranchise buyers of the target stock after the original record date. These tactics have been largely successful, but at a cost of time and often an increase in price.
An alternative strategy has also emerged, consisting of a two-step deal structure of a tender offer followed by a back-end merger. This structure has been successful in countering shareholder pushback, often within a shorter time frame and-or at a lower overall price than in a more conventional one-step merger.
Why? First, unlike a one-step merger, the two-step transaction does not require a target shareholder vote on the critical first-step tender offer. So ISS Governance Services and its smaller proxy advisory competitors do not issue voting or other recommendations on tender offers.
The absence of a vote on the first-step tender offer has a second important benefit. The decision to tender is at most institutions a portfolio manager decision, not a voting committee decision. This helps avoid the spillover effect that a negative ISS recommendation may have on voting committees at institutional investors, which review ISS' analysis as part of the committee process.
Also, unlike not voting or voting against a one-step merger, there is no moral hazard in a decision not to tender stock. Retail and institutional investors understand this well. In a merger, a shareholder does not suffer an economic disadvantage if it fails to vote or votes no on the merger, because doing so will not affect receipt of the merger consideration at the same time as all other shareholders if the merger receives the minimum required vote.
This is not true in a tender offer. Here, a failure to tender in the initial offer results in a delay in receipt of the consideration if the back-end merger does not follow immediately upon completion of the tender offer. And the risk of delayed receipt is heightened because it can be avoided only by a short-form merger, which requires at least a 90% tender, not the typical 50% vote needed to assure completion of a one-step merger.
Another advantage of the tender offer is that it eliminates all disenfranchisement of late-coming shareholders. A tender offer does not rely on a record date for eligibility, as does a one-step merger. Rather, the owner of each share has until the very last day of the offer to tender. This means parties who sell shares before the conclusion of a tender offer lose the decision-making power to tender, as they should, and parties who buy shares up until the end of the tender offer gain the decision-making power to tender as an economic owner should.
Strategies to acquire votes without exposure to the economics of ownership -- "empty voting" -- are wholly ineffective in a tender offer. For these reasons, the impact of "lost votes" and "empty votes" disappears. The economic owners, and only the economic owners, of the stock make the critical decision whether to tender. -
Charles M. Nathan
Charles M. Nathan is a corporate partner resident in the New York office of Latham & Watkins LLP and is also global co-chair of the firm's mergers and acquisitions group
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