Class-action lawsuits alleging boards of directors fell asleep on the job while signing off on buyouts have become nearly as ubiquitous in todays M&A world as bankers and second-guessers.
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Within five hours of announcing it reached a $2.8 billion leveraged buyout deal last month, for example, BJs Wholesale (BJ) was greeted by five different law firm investigations into whether or not the companys board breached its fiduciary duties by not properly shopping for a better deal.
The flurry of legal activity surrounding the BJs deal is becoming par for the course. According to Securities Class Action Services, there were 341 M&A lawsuits filed last year in the U.S., up 78.5% from 2009 and an incredible 847% from 2008.
Law firms sudden interest in ensuring shareholders are fairly compensated appears to be sparked by the realization that these M&A cases are easy money, often translating to hundreds of thousands of dollars in fees for very little work.
Lawyers Capitalize on Time Pressure
That hope is rooted in history. These lawsuits almost always result in a quick settlement and rarely go to trial. Its clear companies, which are under the gun to finalize the deals, have no interest in allowing their multi-billion dollar buyouts to be scuttled by a few disgruntled shareholders -- or aggressive law firms.
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That's especially true when the settlements represent just a rounding error on the total acquisition price tag.
The sooner they get it resolved, the sooner they can consummate the deal. It becomes a matter of cost-benefit. Pay to just get rid of them, said a lawyer involved in these types of lawsuits who wished to remain anonymous so as to speak freely.
To be sure, some M&A lawsuits are based on legitimately questionable deals and have merit. Some have even successfully forced companies to go back to the bargaining table, resulting in richer buyouts. But those seem to be the exception to the rule nowadays.
So how does the lawsuit process typically play out?
'Off to the Races'
Hours after a major deal is announced, fee-hungry law firms announce investigations into the transaction, asking shareholders to join lawsuits that will seek class-action status. These suits argue directors skirted their fiduciary duties by agreeing to a subpar deal or failing to reach a go-shop period that gives companies 30 days to search for a better offer.
While monetary damages may be sought, the lawsuits often demand companies release more information to prove directors are looking out for the best interest of shareholders.As part of a settlement, companies may agree to additional disclosures and typically pay the plaintiffs legal fees, which reach about $500,000 on average, according to Advisen MSCAd data.
Compared with complicated fraud cases or complex collateralized debt obligation lawsuits, these M&A cases are considered relatively simple and a low-investment undertaking for the plaintiffs legal team.
You dont have all those details to worry about, said William Ned Dodds, a partner at Dechert, which typically defends companies and directors in these types of cases. You check Dow Jones or Reuters or Bloomberg, you see something happening, you find a client and youre off to the races.
The uptick in M&A legal actions is continuing its record-shattering pace this year. According to Securities Class Action Services stats, there were 182 U.S. M&A cases filed in 2011 through July 7.
Merit of Cases Questioned
Even small law firms appear to be getting into the act. The median market cap of a public company targeted for a merger or acquisition that sparked a lawsuit plunged to $509 million in 2010, down from $1.1 billion in 2006, according to Advisen, which said the decline may be due to the involvement of progressively smaller law firms.
Ultimately, plaintiffs law firms are very savvy and opportunistic, said Luke Green, vice president of Securities Class Action Services. However, its obviously a very taxing thing on our judicial system.
Aside from being straining to the already-overworked court system, many of these M&A cases are looked at as lacking merit.
It seems a meaningful proportion of these cases dont reflect the reality of the situation. Many are brought so quickly they dont represent the due consideration of the facts, said Dodds.
That thinking seems to be shared by at least some judges.
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Earlier this year Delaware Vice Chancellor J. Travis Laster underscored that thinking, describing a lot of these sue-on-every-deal cases as worthless. He said the cases are all a bunch of movement for nothing and called the attorneys behind the suits frequent fliers.
Skepticism by courts that see many of these M&A cases has led some lawyers to file on a state level in hopes of landing in front of more favorable judges. Of the 532 suits filed in 2009 and 2010, just 36 were on the federal level.
Who Will Rein in M&A Suits?
The lack of a robust defense from companies being sued underscores the amount of pressure they are under to close the books on a transaction in a timely basis after it is announced.
"It is so commonplace today that its just part of the process," said Dodds.
Because a buyout is a once-in-a-lifetime event for companies, there is little incentive in taking a stand against frivolous suits.
But that thinking also signals to plaintiffs legal teams that they can score easy fees by simply filing a suit.
On the defense side, there may be times that companies need to be willing to say, OK we know your suit has no basis so were not going to pay you a penny,'" said Gregory Little, a partner at White & Case who has represented companies that have been sued in M&A cases.
Unless courts, lawmakers or defendants change their strategy, M&A suits appear to be here to stay.
The number of M&A-related lawsuits almost certainly will grow in the near term -- the question is by how much, Advisen said in its report. Longer term, legislation to rein in perceived abuses in M&A litigation is a possibility, albeit a distant one.
But judges and policymakers must be careful in restricting access to the courts. Shareholders in the past have used the threat of litigation as a policing mechanism aimed at preventing boards from signing off on poor deals.
Charles Whitehead, a professor at Cornell Law School, said, If the standard is too high for plaintiffs, meritorious cases may not be brought. You potentially lose the benefits of having this watchdog.