U.S. Court of Appeals for the Seventh Circuit Judge Richard Posner’s criticism of meritless settlements in In re Walgreen Co. Stockholder Litigation, (Aug. 10, 2016) will cheer hearts skeptical of the utility of mergers-and-acquisitions (M&A) class actions. The opinion reversed and remanded a district court’s approval of a disclosure settlement arising out of the merger of Walgreen Co. and Alliance Boot GmbH. Judge Posner explained why each of the six supplemental disclosures offered to the class as settlement consideration were, variously, “worthless,” “provided no new information,” or “could be derived by simple arithmetic from data in the proxy statement. . . .” After reversing the trial court, the appellate court suggested that the class counsel who had supported such a settlement, and sought $370,000 in fees, had not adequately represented the class, and advised the district court on remand to seriously consider dismissing the suit or appointing new class counsel.
With regard to valueless settlements, Judge Posner did not mince words:
The type of class action illustrated by this case—the class action that yields fees for class counsel and nothing for the class—is no better than a racket. It must end. No class action settlement that yields zero benefits for the class should be approved, and a class action that seeks only worthless benefits for the class should be dismissed out of hand.
Judge Posner emphasized that a disclosure settlement should not be approved unless the misrepresentation or omission that the supplemental disclosures correct are “plainly material,” adopting the standard from the Delaware Court of Chancery’s ruling in In re Trulia, Inc. Stockholder Litigation.
The Walgreen decision is notable as one of the few cases in which a court outside of Delaware has refused to approve a disclosure settlement while endorsing Trulia. While the percentage of deals valued at over $100 million subject to a stockholder lawsuit fell dramatically in the first half of 2016 (to 64%, from 84% in 2015 and 93% in 2014), over half of all such transactions still draw at least one lawsuit—most of them outside of Delaware. While Trulia has made Delaware a much less-friendly venue for meritless stockholder litigation, as we noted in an April 29, 2016 WLF Legal Backgrounder, other courts continue to approve disclosure settlements. That trend has continued.
Beyond its core holding, the outcome in the Walgreen litigation supports three takeaways:
- Adoption of Trulia outside Delaware appears dependent upon litigation by stockholder objectors. We are aware of only two post-Trulia cases in which a non-Delaware court has refused or reversed final approval of a disclosure settlement while citing to Trulia: the Walgreen decision and Vergiev v. Aguero, L-2276-15 (N.J. Super. Ct.—Union Cty. June 6, 2016).1 In both cases, represented objectors appeared to challenge the settlements. Meanwhile, we are aware of no court that has, sua sponte, addressed the Trulia opinion and refused final approval of a disclosure settlement. So far, the spread of Trulia’s new standard to other courts appears to be dependent on the appearance of stockholders willing to object to settlements in jurisdictions outside of Delaware.2 However, well-represented stockholder objectors remain rare, and the majority of courts approving disclosure settlements do so without any adversarial proceeding.
- Pursuit of Disclosure Settlements Poses Reputational Risks for Plaintiffs’ Firms. Nonetheless, the Walgreen court’s advice that class counsel be replaced on remand presents a new risk for plaintiffs’ counsel. Before Walgreen, disclosure settlements were close to a no-lose proposition: in all likelihood, counsel would receive a fee, and at worst an objector might appear or the court might question the settlement or fee. Walgreen may change this dynamic by concluding that counsel who put forward a meritless settlement “can’t be trusted to represent the interests of the class. . . .” Many plaintiffs’ counsel are repeat players and may not relish formal opinions containing language that can be cited by other firms competing for class leadership in later (and more lucrative) litigation. In two earlier cases, the Delaware Court of Chancery held that certain plaintiffs’ counsel who had reached settlement failed to adequately represent absent class members, but both rulings expressed concern that class counsel had settled without following up on potentially meritorious claims. See In re Aruba Networks, Inc. Shareholder Litigation, C. A. No. 10765-VCL (Oct. 9, 2015) (TRANSCRIPT); In re Revlon, Inc. Shareholders Litigation, 990 A.2d 940 (Del. Ch. 2010). If other courts follow Walgreen and hold that merely presenting a meritless disclosure settlement is a sign of inadequate representation, plaintiffs may be less willing to risk reputational harm in exchange for a six-figure fee.
- Forum Selection Clauses May Not Provide Effective Defense. Finally, although Walgreen did not involve a Delaware company or a forum-selection clause, the fact that it is a federal decision highlights a recent surge in M&A-related securities class actions in federal court, as noted by Cornerstone Research. This trend may limit the ability of corporations to keep M&A litigation in Delaware through the use of forum-selection clauses. Consider, for instance, the merger announcement between Delaware corporation Skullcandy, Inc. and Incipio, LLC. On June 23, 2016, the same date that the Skullcandy board entered into the merger agreement, it adopted a forum-selection bylaw in favor of Delaware. On July 19, 2016, the first of two class actions was filed challenging the merger—not in Delaware, but under federal securities law in the United States District Court for the District of Utah. These cases are ongoing, but they indicate that forum-selection bylaws may not protect companies from the initiation of litigation in federal court, and the accompanying expense of defending the suit.
It is still too early to tell what effect Trulia and its progeny will have on the overall incidence of M&A litigation. While early signs indicate that Trulia has reduced the overall number of lawsuits challenging mergers, more disclosure settlements have been approved outside of Delaware than rejected, and objectors to disclosure settlements remain the exception. Walgreen shows that courts outside of Delaware may be receptive to Truila, but the pace of the adoption of the Trulia decision appears to be dependent upon the willingness of stockholders to raise objections to disclosure settlements that offer no benefit to the class.
- Anthony Rickey was co-counsel to the objector in Vergiev v. Aguero.
- Notably, even before the Trulia decision, New York courts had issued a number of opinions rejecting disclosure settlements as “merger tax suits.” See Trulia, 129 A.3d at 896 n.36 (listing cases).