Pandemic Poison Pill Wave Crashes
Date: March 16, 2021
On February 26, 2021, the Delaware Court of Chancery issued its eagerly anticipated decision addressing the validity of the shareholder rights plan (commonly referred to as a “poison pill”) adopted by the Williams Companies, Inc. (“Williams”) last March. As had been widely expected, the court invalidated the pill. The decision may limit a corporation’s ability to validly enact acting-in-concert provisions without identified activity among a group of investors and may spark increased litigation over such provisions.
A New Wave of Poison Pills
Williams was one of many U.S. companies that adopted a poison pill in the wake of the market decline caused by the COVID-19 pandemic. Poison pills are intended to deter the acquisition of large blocks of a company’s shares without approval of the company’s board of directors. If triggered, a pill would dilute the acquirer’s equity, such as by allowing existing stockholders (but not the acquirer) to purchase shares of the company at a discount. Poison pills were developed in the 1980s to fend off corporate raiders. More recently, they have also been deployed to defend against stockholder activism. Poison pills are also commonly employed to protect a company’s tax assets, primarily its net operating loss (NOL) carryforwards.
By the end of April 2020, more than 50 companies had adopted poison pills, an unprecedented number that far exceeded past practices. Interestingly, the trigger thresholds for these new pills were unusually low: Roughly 70% of the poison pills adopted in March had triggers of 10% or less, up from 44% of pills in years prior.
The Williams Pill
Within this sea of low-trigger pills, the Williams pill stood out. As the Delaware Court of Chancery noted, “The Williams pill is unprecedented in that it contains a more extreme combination of features than any pill previously evaluated by this court.”
The court evaluated the Williams pill under the two-part test established in Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946 (Del. 1985). Under that test, a defensive measure will be upheld only if (i) the board has reasonable grounds for identifying a threat to the corporate enterprise, and (ii) the response is reasonable in relation to the threat posed. In an 89-page opinion penned by Vice Chancellor McCormick, the court invalidated the Williams pill, holding that the defendants “failed to show that this extreme, unprecedented collection of features bears a reasonable relationship to their stated corporate objective.”
The Williams pill’s most headline-grabbing feature was its 5% trigger, an unusually low threshold for a non-NOL pill. Summarizing a presentation given to the Williams board, the court noted, “the 5% trigger alone distinguished the Plan; only 2% of all plans identified by Morgan Stanley had a trigger lower than 10%. Even among pills with 5% triggers, the Plan ranked as one of only nine pills to ever utilize a 5% trigger outside the NOL context. Among Delaware corporations, it was one of only two,” both adopted in response to specific activist campaigns. By contrast, the Williams pill was not adopted in response to a specific threat but rather generalized concerns about potential activism and “short-termism.”
The 5% trigger, however, was “not the most problematic aspect of the Plan.” Rather, as the court found, “[t]he primary offender” was the pill’s expansive “acting-in-concert” provision. These provisions, often referred to as “wolf pack” provisions, are designed to capture activity by two or more persons who may be acting together in so‑called “conscious parallelism,” even if they do not have an express agreement, as required to meet the definition of a “group” under SEC Rule 13d-5(b)(1).
The court took particular issue with what it termed a “daisy‑chain concept” in the acting-in-concert provision, which provided that “[a] Person who is Acting in Concert with another Person shall be deemed to be Acting in Concert with any third party who is also Acting in Concert with such other Person.” Thus, as the court noted, “stockholders act in concert with one another by separately and independently ‘Acting in Concert’ with the same third party,” operating “to aggregate stockholders even if members of the group have no idea that the other stockholders exist.”
Other problematic features of the acting-in-concert provision included a definition so broad that it would “sweep up potentially benign stockholder communications ‘relating to changing or influencing the control of the Company” and would “give the Board discretion to determine whether ‘plus’ factors as innocuous as ‘exchanging information, attending meetings, [or] conducting discussions’ can trigger the pill.” The court also noted the asymmetrical nature of the acting-in-concert provision, as it excluded actions by a director or officer of the company acting in such capacities, and therefore allowed incumbents to act in concert without suffering the consequences of the plan.
Finally, the court also took issue with the Williams pill’s “narrow definition of ‘passive investor,’” which went “beyond the influence-control default of federal law” to exclude any investor who seeks to “direct or cause the direction of the management and policies of the Company.” Such a broad provision would have excluded all but two of Williams’ investors—including Blackrock, a 13G filer that criticized Williams for failing to be fully transparent concerning the adoption of the pill.
Taken together, these “extreme” features of the Williams pill “increase[d] … Williams’ nuclear missile range by a considerable distance beyond the ordinary poison pill.”
Acting-in-concert provisions are increasingly common features of modern shareholder rights plans. For example, they appeared in approximately 50% of the rights plans adopted in 2020.
Delaware courts have never squarely addressed whether wolf pack provisions are valid under Unocal. However, in Third Point Limited Liability Company v. Ruprecht—a challenge to a shareholder rights plan adopted by the Sotheby’s board—the court held that the threat of “creeping control” by two activist hedge funds that were “accumulating [the company’s] stock simultaneously … on a relatively rapid basis” and who had a history of wolf pack activity was sufficient for the board to reasonably conclude that there existed “a legally cognizable threat,” as required to meet the first prong of Unocal.
Significantly, the court treated the board’s initial decision to adopt the rights plan differently than its decision seven months later to reject one of the activists’ request for a waiver of the 10% trigger, noting that it was “skeptical” that the board “had an objectively reasonable belief that [the fund] continued to pose a ‘creeping control’ risk to the Company, either individually or as part of a ‘wolf pack.’”
Williams does not undermine the availability of properly tailored shareholder rights plans, which remain a highly effective tool available to boards of directors in responding to active threats. However, the decision is likely to be heralded by plaintiffs’ firms and activist shareholders for its treatment of the acting-in-concert provision. Indeed, Williams is one of several recent cases in which plaintiffs’ firms have challenged shareholder rights plans that include aggressive acting-in-concert provisions.
With Williams and other precedents in mind, a board of directors considering whether to adopt a shareholder rights plan should be sure to do so only in response to active, cognizable threats, as courts are unmoved by plans which seek to “insulate the Board and management from all forms of stockholder activism during the uncertainty of the pandemic.” Boards should also assess the continued presence of such threats when taking subsequent defensive actions, such as evaluating requests to waive triggers. If including an acting-in-concert provision, boards should be sure to narrowly tailor it to ensure that appropriate stockholder communications are not unreasonably impeded.
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