Ruling on Dell Buyout May Not Be Precedent Some Fear
$24.9 billion deal, it is a piddling sum: an extra $24.7 million plus
about $12 million in interest.
Yet a Delaware
recent ruling that the deal —
the 2013 buyout of Dell — had
shortchanged shareholders by that amount has roiled a debate on how it may
affect buyouts more broadly.
The law firm of
Wachtell, Lipton, Rosen & Katz
has criticized the decision for forcing
a buyer to pay a 30 percent higher price in a “fully shopped” deal.
According to the law firm, this decision may lead to shareholders “losing
private equity firms fear to do deals
and hedge funds seek to win big on appraisal awards.
colleague Andrew Ross Sorkin
wrote that the decision was “likely to
lead to a spate of lawsuits and second-guessing over the price of the next
big mergers and acquisitions.”
Matt Levine at
criticized the opinion’s methodology for
its reliance on Dell being the only one willing to pay this price in the
marketplace and moreover willing to take the risk of taking the company
Much of the
criticism has centered on the fact that the Delaware judge — in deciding
that the fair value of Dell shares was $17.62 a share, far above the $13.65
paid by the buyout consortium led by the company’s founder, Michael S. Dell
— found that there was no significant fault with the conduct of the
company’s directors and that no other bidder had emerged for Dell shares.
So should we be
worried that this decision will change buyouts?
The answer is
probably no, because of the deeply weird nature of appraisal and this case.
keep in mind how small the outcome of this case was. Some 20 Dell
shareholders are entitled to an additional $37 million.
The ruling came
in an appraisal rights proceeding. In such a proceeding, shareholders of a
company are allowed to go to court and argue that they were not paid fair
value for their shares in the acquisition. The different amount is based on
the court’s determination of whether the acquisition price was the fair
value of the shares.
Under the arcane
laws of appraisal, only Dell’s shareholders who voted against this
acquisition and properly exercised appraisal rights will get the extra
amount. (Some shareholders’ cases, including T. Rowe Price, which would have
received over $200 million, were thrown out on procedural grounds.)
The purpose of
appraisal rights is not to say what the company’s market price should have
been. Appraisal is about giving shareholders a remedy if they think the
negotiated deal price is just not good enough.
thus about finding a judicially determined “fair value” — the standard the
court determines whether to award more money to a dissenting shareholder.
The terms “market price” and “fair value” can have different meanings, and
fair value is not necessarily the price paid in the market.
is at the heart of the dispute over this decision and highlights the battle
going on over appraisal rights themselves. Courts are struggling to figure
out what “fair value” is in light of the emergence of hedge funds
specializing in exercising appraisal rights.
appraisal proceedings were reduced to a corporate finance exercise as each
party hired an expert to value the company using discounted cash flow and
In the case of
the Dell buyout, Glenn Hubbard was Dell’s expert (yes, that Glenn
Hubbard, the dean of Columbia’s Graduate School of Business and former
chairman of the Council of Economic Advisers under President George W.
Bush). He calculated fair value was $12.68 a share. Brad Cornell, a
professor at the University of California, Los Angeles, was the expert for
the dissident shareholders. He came out at $28.61.
What is a judge,
who is not an expert in valuations, to do?
recent years over this battle of the experts has led Delaware courts to
change how they calculate appraisal prices.
simply having to puzzle through conflicting expert opinions, judges have in
recent cases looked to the merger price to determine if the price was fair.
So long as the price paid was negotiated through an arm’s-length process,
the court deemed this to be fair value. The underlying assumption of course
was that the fairly bargained market price was fair value.
J. Travis Laster of the Delaware Court of Chancery found that the process
was not entirely complete because the Dell board did not reach out to all
parties, something I
had highlighted during this dispute.
To be fair,
however, the Dell board did later bend over backward to try to get things
Laster also asserted that because the pricing was based on a leveraged
buyout model, it was not a market price. That model is one where the buyer’s
price is based on what it thinks its returns will be and is used by private
equity firms. In this situation, a private equity firm would pay only what
would produce a targeted rate of return.
This is not
quite so neat in the real world, but the use of a leveraged buyout model to
price this transaction led the judge to determine that the market price was
not a reliable one, because it showed merely the price the private equity
firm could pay, not one that was “fair value.” In contrast, Vice Chancellor
Laster argued that a strategic acquirer, a competitor of Dell, for example,
would pay what the company was worth, closer to fair value.
buyout price was not a good one to determine fair value, the judge instead
conducted an old-style appraisal proceeding where he used a discounted cash
flow analysis to compute “fair value” using the expert opinions. Discounted
cash flow analysis is a financial technique that values the future revenue
streams of the company to determine an investment’s potential. This type of
analysis involves numerous estimates including what the company will earn in
result was thus inevitable, and that is how the court got to $17.65 a share.
highlights the problems with appraisal generally. Judges are being forced to
apply a law and to value companies based on a notion of fair value that is
uncertain at best.
As a result, the
Dell case is unlikely to be a game changer. The market price is likely to
continue to be the price used because it is so difficult to compute “fair
The opinion may
affect management buyouts, but that may not be such a bad thing — forcing
would-be managers to work hard to justify buying their own companies would
be better for shareholders. In any case, management buyouts are rare these
days; only two were proposed in 2015, according to Factset MergerMetrics.
Yet there will
be probably no impact outside management buyouts. Indeed, if the amount at
stake in the Dell case had been more significant, I would hazard a guess
that the judge just might have hesitated.
In the end, I
agree in large part with the critics of the Delaware ruling. They just
assume that the opinion will become the norm. I don’t think so for the
But let’s keep
one goal in mind about this decision and its ruling. If appraisal isn’t
there to serve as a check on management — or to be something more than the
acquisition price — what is it good for? Not much.
Davidoff Solomon is a professor of law at the University of
California, Berkeley. His columns can be found at nytimes.com/dealbook.
A version of
this article appears in print on June 8, 2016, on page B3 of the New
York edition with the headline: Ruling That Dell Buyout Shorted
Shareholders May Not Be Major Precedent.
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