FYI
Fiduciary Duties of Directors in Evaluating Buyout Opportunities" that gives an easily understandable summary of director's responsibilities in the event of a buyout offer. As noted by the highlight, stockholders are only informed AFTER the BOD has an offer they want to accept.
The “business judgment rule” is a judicially created presumption that defers to the decisions of an independent board of directors. To receive the protection of the business judgment rule, the directors’ fiduciary duties require them to act in the best interests of the company; therefore, directors who make business decisions in good faith after informing themselves of all material facts are not likely to risk liability for the acceptance or rejection of a buyout offer. It is important for directors to employ the necessary procedures to demonstrate a full and independent review of the proposal, however, in order to avoid a more stringent judicial review than the business judgment rule.
A sale of the company imposes special obligations on the board. As such, courts often use enhanced scrutiny—a slightly stricter standard than the business judgment rule. When approached with an opportunity to sell the company, the board of directors is charged with the duty of obtaining the best buyout price for the sale of the company that is reasonably available, but this does not necessarily have to be the highest price.
In order to achieve the most reasonable price for the company, the directors are required to implement a procedure to evaluate the offer. The decision as to which evaluation process will produce the best value for the shareholders is within the protection of the business judgment rule, so an independent board has significant discretion in designing the evaluation of the transaction. There is no single blueprint that directors must follow, but corporate case law has established that in order for the directors to ward off potential claims for breach of fiduciary duty and receive the protection of the business judgment rule, they must fulfill their fiduciary duties of care and loyalty to the company. These duties require the board to fully inform themselves of available sale opportunities, carefully review and evaluate competing offers and their related financing commitments, and refrain from passing judgment on offers in which they have a material conflict of interest.
Directors are encouraged to seek, and may rely on, professional advisers, such as lawyers and investment bankers, in exercising their duty of due care. In fact, courts give special deference to boards that make decisions after seeking independent advice on the transaction from such third parties. Confirmation from an independent third party that the buyout offer is fair to the company will substantially reduce the risk of a successful breach of fiduciary duty claim.
Most companies are required to seek a shareholder vote on acquisition transactions; therefore, directors also have a duty of complete candor, which involves the full disclosure of all material terms of the transaction to the shareholders once the directors have found an offer they wish to accept.
In the event that shareholders of a company can show that directors appeared on both sides of a transaction, such as through a management-led buyout, courts typically apply a more stringent standard that requires directors to show that the transaction was intrinsically fair to the company. Under this stringent standard, courts look beyond the procedures that the board followed, and inquire into whether the transaction was fair to the company and its shareholders at the time of the transaction. Transactions are also subjected to the more stringent standard of entire fairness when a court finds a breach of the directors’ duty to be fully informed. However, if the board can show that it acted independent of the potential acquirers or interested management, in good faith and exercised due care in their evaluation, courts will typically revert back to the less-stringent standard of the business judgment rule.
In all decision-making, directors should strive to maintain independence, exercise due care and act in good faith in order to receive the full protection of the business judgment rule. Because of the direct impact and critical importance of a buyout offer to a potential target company’s shareholders, directors should fully inform themselves of available sale opportunities, carefully review and evaluate competing offers and their related financing commitments, and refrain from passing judgment on offers in which they have a material conflict of interest. If conflicts of interest arise, directors must be especially certain to employ adequate procedures to demonstrate that they were nevertheless fully informed and obtained the highest reasonable price.
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