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Summary
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 SEC
adopts changes to address a split in
judicial interpretation of the best price rule
Response
to shareholder class actions
- Several shareholder class actions have been
brought under the best price rule, claiming that amounts paid (by the
bidder or by the target) to target executives under employment arrangements, or
to other related parties in contemporaneous transactions, actually constituted
additional payments for target company shares
- Plaintiffs claim that, in effect, the target
executives or related parties are getting paid more for their shares than the
public shareholders - violating the best price rule
- Thus, plaintiffs argue, all of the target
companys public shareholders are entitled to the same aggregate per share
payout
- Litigation has most frequently arisen over
employment compensation, severance or other employee benefit arrangements with
employees or directors of the target company
- Can result in claims well in excess of the total
deal price
Courts
have split over how to apply the best price rule
- Resulting litigation risk has limited use of
two-step mergers
- Most of the deals subject to litigation could have been structured as
one-step mergers, rather than tender offers, and avoided the issue entirely
- Court Split
Rule
changes are meant to clarify that the best-price rule applies
only to:
-
Consideration paid for tendered securities
-
Not to compensation for services
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Amendments to Rules
 Rule
14d-10(a)(2) Basic standard
- No bidder shall make a tender offer unless:
...
The consideration paid to any security holder pursuant to the tender offer
is the highest consideration paid to any other security holder during such
tender offer.
- No bidder shall make a tender offer unless:
...
The consideration paid to any security holder for securities tendered in
the tender offer is the highest consideration paid to any other security
holder for securities tendered in the tender offer.
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Rule
14d-10(d) Compensatory Arrangement Safe Harbor
- (1) Paragraph (a)(2) of this section shall not prohibit the
negotiation, execution or amendment of an employment compensation, severance or
other employee benefit arrangement, or payments made or to be made or benefits
granted or to be granted according to such an arrangement, with respect to any
security holder of the subject company, where the amount payable under the
arrangement:
- (i) Is being paid or granted as
compensation for past services performed, future services to be performed, or
future services to be refrained from performing, by the security holder (and
matters incidental thereto); and
- (ii) Is not calculated based on the
number of securities tendered or to be tendered in the tender offer by the
security holder.
- (2) The provisions of paragraph (d)(1) of this section
shall be satisfied and, therefore, pursuant to this non-exclusive safe harbor,
the negotiation, execution or amendment of an arrangement and any payments made
or to be made or benefits granted or to be granted according to that arrangement
shall not be prohibited by paragraph (a)(2) of this section, if the arrangement
is approved as an employment compensation, severance or other employee benefit
arrangement solely by independent directors as follows:
- (i) The compensation committee or a
committee of the board of directors that performs functions similar to a
compensation committee of the subject company approves the arrangement,
regardless of whether the subject company is a party to the arrangement, or, if
the bidder is a party to the arrangement, the compensation committee or a
committee of the board of directors that performs functions similar to a
compensation committee of the bidder approves the arrangement; or
- (ii) If the subject companys or
bidders board of directors, as applicable, does not have a compensation
committee or a committee of the board of directors that performs functions
similar to a compensation committee or if none of the members of the subject
companys or bidders compensation committee or committee that performs
functions similar to a compensation committee is independent, a special
committee of the board of directors formed to consider and approve the
arrangement approves the arrangement; or
- (iii) If the subject company or bidder,
as applicable, is a foreign private issuer, any or all members of the board of
directors or any committee of the board of directors authorized to approve
employment compensation, severance or other employee benefit arrangements under
the laws or regulations of the home country approves the arrangement.
_________________________
- Instructions to paragraph (d)(2): For purposes of determining
whether the members of the committee approving an arrangement in accordance with
the provisions of paragraph (d)(2) of this section are independent, the
following provisions shall apply:
- If the bidder or subject company, as
applicable, is a listed issuer (as defined in §240.10A-3 of this chapter)
whose securities are listed either on a national securities exchange
registered pursuant to section 6(a) of the Exchange Act (15 U.S.C. 78f(a))
or in an inter-dealer quotation system of a national securities association
registered pursuant to section 15A(a) of the Exchange Act (15 U.S.C.
78o-3(a)) that has independence requirements for compensation committee
members that have been approved by the Commission (as those requirements may
be modified or supplemented), apply the bidders or subject companys
definition of independence that it uses for determining that the members of
the compensation committee are independent in compliance with the listing
standards applicable to compensation committee members of the listed issuer.
- If the bidder or subject company, as
applicable, is not a listed issuer (as defined in §240.10A-3 of this
chapter), apply the independence requirements for compensation committee
members of a national securities exchange registered pursuant to section
6(a) of the Exchange Act (15 U.S.C. 78f(a)) or an inter-dealer quotation
system of a national securities association registered pursuant to section
15A(a) of the Exchange Act (15 U.S.C. 78o-3(a)) that have been approved by
the Commission (as those requirements may be modified or supplemented).
Whatever definition the bidder or subject company, as applicable, chooses,
it must apply that definition consistently to all members of the committee
approving the arrangement.
- Notwithstanding Instructions 1 and 2 to
paragraph (d)(2), if the bidder or subject company, as applicable, is a
closed-end investment company registered under the Investment Company Act of
1940, a director is considered to be independent if the director is not,
other than in his or her capacity as a member of the board of directors or
any board committee, an interested person of the investment company, as
defined in section 2(a)(19) of the Investment Company Act of 1940 (15 U.S.C.
80a-2(a)(19)).
- A determination by the bidders or the
subject companys board of directors, as applicable, that the members of the
board of directors or the committee of the board of directors, as
applicable, approving an arrangement in accordance with the provisions of
paragraph (d)(2) are independent in accordance with the provisions of this
instruction to paragraph (d)(2) shall satisfy the independence requirements
of paragraph (d)(2).
_________________________
- Instructions to paragraph (d): The fact that the provisions of
paragraph (d) of this section extend only to employment compensation, severance
and other employee benefit arrangements and not to other arrangements, such as
commercial arrangements, does not raise any inference that a payment under any
such other arrangement constitutes consideration paid for securities in a tender
offer.
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Rule
13e-4(f)(8)(ii) Basic standard - Issuer tender offers
- No issuer or affiliate shall make a tender offer
unless:
...
The consideration paid to any security holder pursuant to the tender offer
is the highest consideration paid to any other security holder during such
tender offer.
- No issuer or affiliate shall make a tender offer
unless:
...
The consideration paid to any security holder for securities tendered in
the tender offer is the highest consideration paid to any other security
holder for securities tendered in the tender offer.
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Rule
13e-4(12) Compensatory Arrangement Safe Harbor
- (i) Paragraph (f)(8)(ii) of this section shall not prohibit the
negotiation, execution or amendment of an employment compensation, severance or
other employee benefit arrangement, or payments made or to be made or benefits
granted or to be granted according to such an arrangement, with respect to any
security holder of the issuer, where the amount payable under the arrangement:
- (A) Is being paid or granted as
compensation for past services performed, future services to be performed, or
future services to be refrained from performing, by the security holder (and
matters incidental thereto); and
- (B) Is not calculated based on the
number of securities tendered or to be tendered in the tender offer by the
security holder.
- (ii) The provisions of paragraph (f)(12)(i) of this
section shall be satisfied and, therefore, pursuant to this non-exclusive safe
harbor, the negotiation, execution or amendment of an arrangement and any
payments made or to be made or benefits granted or to be granted according to
that arrangement shall not be prohibited by paragraph (f)(8)(ii) of this
section, if the arrangement is approved as an employment compensation, severance
or other employee benefit arrangement solely by independent directors as
follows:
- (A) The compensation committee or a
committee of the board of directors that performs functions similar to a
compensation committee of the issuer approves the arrangement, regardless of
whether the issuer is a party to the arrangement, or, if an affiliate is a party
to the arrangement, the compensation committee or a committee of the board of
directors that performs functions similar to a compensation committee of the
affiliate approves the arrangement; or
- (B) If the issuers or affiliates board
of directors, as applicable, does not have a compensation committee or a
committee of the board of directors that performs functions similar to a
compensation committee or if none of the members of the issuers or affiliates
compensation committee or committee that performs functions similar to a
compensation committee is independent, a special committee of the board of
directors formed to consider and approve the arrangement approves the
arrangement; or
- (C) If the issuer or affiliate, as
applicable, is a foreign private issuer, any or all members of the board of
directors or any committee of the board of directors authorized to approve
employment compensation, severance or other employee benefit arrangements under
the laws or regulations of the home country approves the arrangement.
_________________________
- Instructions to paragraph (f)(12)(ii): For purposes of determining
whether the members of the committee approving an arrangement in accordance with
the provisions of paragraph (f)(12)(ii) of this section are independent, the
following provisions shall apply:
- If the issuer or affiliate, as
applicable, is a listed issuer (as defined in §240.10A-3 of this chapter)
whose securities are listed either on a national securities exchange
registered pursuant to section 6(a) of the Exchange Act (15 U.S.C. 78f(a))
or in an inter-dealer quotation system of a national securities association
registered pursuant to section 15A(a) of the Exchange Act (15 U.S.C.
78o-3(a)) that has independence requirements for compensation committee
members that have been approved by the Commission (as those requirements may
be modified or supplemented), apply the issuers or affiliates definition
of independence that it uses for determining that the members of the
compensation committee are independent in compliance with the listing
standards applicable to compensation committee members of the listed issuer.
- If the issuer or affiliate, as
applicable, is not a listed issuer (as defined in §240.10A-3 of this
chapter), apply the independence requirements for compensation committee
members of a national securities exchange registered pursuant to section
6(a) of the Exchange Act (15 U.S.C. 78f(a)) or an inter-dealer quotation
system of a national securities association registered pursuant to section
15A(a) of the Exchange Act (15 U.S.C. 78o-3(a)) that have been approved by
the Commission (as those requirements may be modified or supplemented).
Whatever definition the issuer or affiliate, as applicable, chooses, it must
apply that definition consistently to all members of the committee approving
the arrangement.
- Notwithstanding Instructions 1 and 2 to
paragraph
(f)(12)(ii), if the issuer or affiliate, as applicable, is a
closed-end investment company registered under the Investment Company Act of
1940, a director is considered to be independent if the director is not,
other than in his or her capacity as a member of the board of directors or
any board committee, an interested person of the investment company, as
defined in section 2(a)(19) of the Investment Company Act of 1940 (15 U.S.C.
80a-2(a)(19)).
- If the issuer or affiliate, as
applicable, is a foreign private issuer, apply either the independence
standards set forth in Instructions 1 and 2 to paragraph (f)(12)(ii) or the
independence requirements of the laws, regulations, codes or standards of
the home country of the issuer or affiliate, as applicable, for members of
the board of directors or the committee of the board of directors approving
the arrangement.
- A determination by the issuers or
affiliates board of directors, as applicable, that the members of the board
of directors or the committee of the board of directors, as applicable,
approving an arrangement in accordance with the provisions of paragraph
(f)(12)(ii) are independent in accordance with the provisions of this
instruction to paragraph (f)(12)(ii) shall satisfy the independence
requirements of paragraph (f)(12)(ii).
_________________________
- Instructions to paragraph (f)(12): The fact that the provisions of
paragraph (f)(12) of this section extend only to employment compensation,
severance and other employee benefit arrangements and not to other arrangements,
such as commercial arrangements, does not raise any inference that a payment
under any such other arrangement constitutes consideration paid for securities
in a tender offer.
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Final Release 34-54684
11.01.06
Hyperlinked
Proposal Release 34-52968 Hyperlinked
Comment Letters
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Comment
letters on proposal
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Rule Change Addresses
Court Split
SEC_CODE_REF_0090001192884
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Courts
had split on how to apply the best price rule Bright
Line Test
- A transaction that preceded commencement of the
tender offer could never be subject to the best price rule
- Gave bidders predictability
- Courts applying this test often dismissed cases
before discovery began
Integral
Part Test
- A transaction integral or closely related to the
tender offer could be subject to the best price rule
- aka Functional Test
- This test was ambiguous and its application was
more difficult to predict
- Motions to dismiss were often denied and required
defendants to bear the expense of discovery
Luxottica
is an example of litigation risk
- Action brought in Eastern District New York
illustrates potentially draconian application of best price rule
- Luxottica acquired Sunglass Hut by tender offer
in 2001
- Italian eyeglass company paid $11.50 per share,
a substantial premium
- Plaintiffs argued that $15 million non-compete
agreement struck before the tender offer with Sunglass Hut CEO
(a 4% shareholder) implicated the best price rule
- Claims were also brought alleging payment was a
bribe;
CEO and board settled this claim for $3.75 million
- Early ruling in case applied the integral
part test
- Which plaintiffs argued would require every
shareholder to get the same per share payment as the CEO;
Making defendant liable for as much as $280 million
- Luxottica settled for $14.5 million
Sept 2005
 Defendant's
brief
4.04.05
- Motion for partial summary judgment
to cap potential damages
-
Motion
Judge
Weinstein memo
5.13.05
- Suggests a ruling in favor of plaintiffs
with a draconian determination of damages
Defendant's
brief
7.19.05
- No private right of action
- Best price rule is invalid
Defendant's
brief
7.19.05
- Best price rule applies only during the tender
offer
- Shouldn't apply to this non-compete
Defendant's
brief
7.19.05
- Non-compete didn't violate any fiduciary
duties
under applicable Florida law
- Fully disclosed to SHI board
Defendant's
brief
7.19.05
- Invokes Dura Pharmaceuticals to limit
damages
- Argues that Rule 14d-10 goes beyond §14d-7
Plaintiff's
brief
8.12.05
Preliminary
approval order
8.15.05
Settlement
letter
9.23.05
- Defendant settles best price claims for $14.5
million
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Commentary
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Proposed
changes
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SEC Amendment Proposal
|
SEC
adopts changes to address a split in judicial interpretation of the best price rule
- At SEC meeting, staff said final release will
address concerns raised by comment letters with a view to providing clarity
and certainty
- Note especially concerns raised by
joint seven firm comment letter 
- Changes will clarify that the best-price rule applies
only to:
- Consideration paid for tendered securities
- Not to compensation for services
Response
to shareholder class actions
- Several shareholder class actions have been
brought under the best price rule, claiming that amounts paid (by the
bidder or by the target) to target executives under employment arrangements , or
to other related parties in contemporaneous transactions, actually constituted
additional payments for target company shares
- Plaintiffs claim that, in effect, the target
executives or related parties are getting paid more for their shares than the
public shareholders - violating the best price rule
- Thus, plaintiffs argue, all of the target
companys public shareholders are entitled to the same aggregate per share
payout
- Litigation has most frequently arisen over
employment compensation, severance or other employee benefit arrangements with
employees or directors of the target company
- Can result in claims well in excess of the total
deal price
- Most of these deals could have been structured as
one-step mergers, rather than tender offers, and avoided the issue entirely
Courts
have split over how to analyze these cases
Bright Line Test:
A transaction that precedes commencement of the tender offer can never be subject to
the best price rule
Integral Part Test: A transaction
integral or closely related to the tender offer can be subject to the best price
rule
- aka Functional Test
- This test is ambiguous and its application is
more difficult to predict
- Motions to dismiss are often denied and require
defendants to bear the expense of discovery
- Epstein v MCA
(9th Cir 1995)
-
126 F3d 1235 (CA 9 Cal 1997)
- Luxottica
Proposal
Rel 34-52968 12.16.05 
Summary
I
- Reasons for proposal
I.A
- History of best-price rule
I.B
- History of case interpretations
I.C
◊ Integral-part test I.C.1
◊ Bright-line test I.C.2
◊ Impact of split
I.C.3
- SEC's proposed approach
I.D
SEC
proposals
II
- Changes to Rules 13e-4(f)(8)(ii) and 14d-10(a)(2)
II.A
- Changes to Rule 14d-10(c)
II.B
◊ Requirements of the exemption
II.B.1
◊ Compensation committee safe harbor
II.B.2
Text
of proposed amendments
X
Comment letters
Commentary
on proposal
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Spotlight
on Luxottica (EDNY 2005)
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Luxottica
settles best price rule claims
- Action brought in Eastern District New York
illustrates potentially draconian application of best price rule
Luxottica acquired Sunglass Hut by tender offer
in 2001
- Italian eyeglass company paid $11.50 per share,
a substantial premium
- Plaintiffs argued that $15 million non-compete
agreement struck before the tender offer with Sunglass Hut CEO
(a 4% shareholder) implicated the best price rule
- Claims were also brought alleging payment was a
bribe;
CEO and board settled this claim for $3.75 million
- Early ruling in case applied the integral part
test
- Which plaintiffs argued would require every
shareholder to get the same per share payment as the CEO;
Making defendant liable for as much as $280 million
- Luxottica settled for $14.5 million
Sept 2005
Defendant's brief
4.04.05
- Motion for partial summary judgment
to cap potential damages
-
Motion
Judge Weinstein memo
5.13.05
- Suggests a ruling in favor of plaintiffs
with a draconian determination of damages
Defendant's brief
7.19.05
- No private right of action
- Best price rule is invalid
Defendant's brief
7.19.05
- Best price rule applies only during the tender
offer
- Shouldn't apply to this non-compete
Defendant's brief
7.19.05
- Non-compete didn't violate any fiduciary
duties
under applicable Florida law
- Fully disclosed to SHI board
Defendant's brief
7.19.05
- Invokes Dura Pharmaceuticals to limit
damages
- Argues that Rule 14d-10 goes beyond §14d-7
Plaintiff's brief
8.12.05
Preliminary approval order
8.15.05
Settlement letter
9.23.05
- Defendant settles best price claims for $14.5 million
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Statute / Rules
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Exchange Act § 14(d)(7)
- Requires that, if the offer is amended to
increase the offered consideration, the increased consideration must be paid for
all tendered securities, regardless of whether the securities were tendered
before or after the amendment
- Prohibits the bidder from denying the benefits of
a price increase to those who tender early
Rule 14d-10
- Rule 14d-10(a)(2) requires that the consideration paid to any security
holder pursuant to the tender offer is the highest consideration paid to
any other security holder during such tender offer
- Also prohibits the bidder from excluding those who tender early from
a decrease in the offered consideration
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SEC Enforcement Actions
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In
re WHX Corporation
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