Appraisal rights have long been a merger and acquisition afterthought. Due to a number of largely unrelated factors, appraisal rights have been attracting more attention from dealmakers. Appraisal rights are statutory protection available to objecting stockholders in certain extraordinary transactions. The details vary by state, but in Delaware the most common use is in a cash out merger, including a back- end merger after a tender offer, or stockholders can request that the Chancery Court step into determine the fair value of their stake so that they won’t have to accept the offer deal price.
The statute requires that both the stockholder and the company comply with strict procedural requirements. The process usually costs millions and can take several years. The court determines the fair value and the awarded amount can be higher or lower than the deal price received by the stockholders.
In recent years a number of developments have contributed to appraisal rights becoming a potential boundary for deal risk and litigation. In approximately 90 percent of domestic M&A transactions in the last few years, cash represented the deal currency, either alone or with stock options, causing the deals were appraisal rights applied to multiply. In 2011, the Delaware courts determined that appraisal rights could also apply to cash/stock election mergers when the application of the stock consideration would require shareholders who elect all stock to accept some cash as part of the merger consideration.
Hedge fund activity along with deal controversy have also seen an increase in appraisal rights. The significant increase in capital that’s available to hedge funds and the increase of deals such as distressed sales, PE, or management buyouts have all caused some sort of stockholder opposition.
In 2007, the Transkaryotic deal increased the arbitrage opportunity available to appraisal rights investors. According to the statute, stockholders can only seek appraisal if they do not vote in favor of the merger. As such, many thought that this requirement limited the remedy to stockholders who held their shares as of the record date. With this way of thinking, late arriving investors were often not allowed to buy into an appraisal claim. In the Transkaryotic case, the court determined that any beneficial stockholder, regardless of when the shares were acquired, could seek appraisal rights as long as the total number of shares was less than the total street name shares either voted against or not voted on in the merger. As a result, appraisal investors can delay their decision on whether to acquire a stake (with intentions of pursuing an appraisal action) right up to the date of the stockholder’s meeting. This gives them the opportunity for trend visibility (while the fair value is measured by the courts as of the date of the closing) while the deal price was offered under different market or industry conditions months before.
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