APL No. 2015-00155
New York County Clerk's Index No. 650571/12
court of appecti5
of the
tate of nelii pork
IN RE KENNETH COLE PRODUCTIONS, INC.
SHAREHOLDER LITIGATION
ERIE COUNTY EMPLOYEES RETIREMENT SYSTEM,
Lead Plaintiff-Appellant,
— against —
MICHAEL J. BLITZER, ROBERT C. GRAYSON, DENIS F. KELLY, PHILIP
R. PELLER, PAUL BLUM, KENNETH D. COLE, KCP HOLDCO, INC.
and KCP MERGERCO, INC.,
Defendants-Respondents.
AMICUS CURIAE BRIEF
HACH ROSE SCHIRRIPA
& CHEVERIE LLP
Frank R. Schirripa, Esq.
Co-Counsel for Amicus Curiae
Eastern New York Laborers' District Council
185 Madison Avenue, 14th Floor
New York, New York 10016
(212) 213-8311
(212) 779-0028 (facsimile)
WHITEMAN OSTERMAN & HANNA LLP
Howard A. Levine, Esq.
Alan J. Goldberg, Esq.
Counsel for Amicus Curiae
Eastern New York Laborers' District Council
One Commerce Plaza, 19th Floor
Albany, New York 12260
(518) 487-7600
(518) 487-7777 (facsimile)
TABLE OF CONTENTS
TABLE OF AUTHORITIES iii
PRELIMINARY STATEMENT 1
ARGUMENT 7
I. NEW YORK'S ESTABLISHED RULE REQUIRING ENTIRE
FAIRNESS REVIEW OF CONTROLLING SHAREHOLDER
FREEZE-OUT TRANSACTIONS IS SOLIDLY GROUNDED
IN THIS STATE'S LONG TRADITION HOLDING
FIDUCIARIES TO THE VERY HIGHEST STANDARDS OF
CONDUCT, AND IS REQUIRED BY THE PLAIN FACT
THAT CONTROLLING SHAREHOLDER TRANSACTIONS
ARE INHERENTLY COERCIVE. 7
A. For over one hundred years, New York's jurisprudence
has held fiduciaries, including controlling shareholders,
to the very highest standards of conduct. 7
B. The rule established by this Court in Alpert requiring
entire fairness review of all controlling shareholder
freeze-outs is based on the well-established dangers of
abuse and inherent coerciveness of such transactions. 10
C. New York's courts, though respectful of the Delaware
courts' experience in matters of corporate governance,
have never shied away from forging New York's own
common law path, consistent with its tradition of
imposing the very highest corporate fiduciary standards. 15
II. THIS COURT SHOULD NOT FOLLOW OR ADOPT FOR
NEW YORK THE RULE APPLIED BY THE DELAWARE
SUPREME COURT IN MFW 19
A. In favoring the interests of potential incorporators,
Delaware law has increasingly moved away from
protection of minority shareholders. 20
B. MFW, the culmination of Delaware's "race for the
bottom," is an a priori decision driven by Delaware's
policy favoring corporate management over minority
interests — it is both contrary to the empirical evidence
and wrong for New York. 26
III. THE APPELLATE DIVISION'S DECISION SHOULD BE
REVERSED, BOTH BECAUSE IT ERRONEOUSLY
CONCLUDES THAT THIS COURT'S ALPERT RULE DOES
NOT APPLY TO "GOING-PRIVATE" FREEZE-OUTS, AND
BECAUSE IT GOES EVEN FURTHER THAN MEW TO
EXPOSE MINORITY SHAREHOLDERS TO ABUSE BY A
CONTROLLER 44
A. The Appellate Division's decision erroneously concludes
that this Court's Alpert rule requiring entire fairness
review does not apply to controlling shareholder-initiated
"going-private" freeze-out transactions 44
B. The Appellate Division decision, if adopted by this
Court, would go even further than Delaware's MFW case
did to expose minority shareholders to abuse by a
controller. 47
CONCLUSION 56
ii
TABLE OF AUTHORITIES
STATE CASES
40 W. 67th St. v Pullman, 296 AD2d 120 (1st Dept 2002),
affd 100 NY2d 147 (2003)
Alpert v 28 Williams Street Corp., 63 NY2d 557 (1984)
51
passim
Americas Min. Corp. v Theriault, 51 A3d 1213 (Del 2012) 17
Aronson v Lewis, 473 A2d 805 (Del 1984) 49, 51
Auerbach v Bennett, 47 NY2d 619 (1979) 51
Beam ex rel. Martha Stewart Living Omnimedia, Inc. v Stewart,
845 A2d 1040 (Del 2004) 49
Brehm v Eisner, 746 A2d 244 (Del 2000) 49
Case v New York Cent. R. Co., 15 NY2d 150 (1965) 9, 11
Chelrob, Inc. v Barrett, 293 NY 442 (1944) 12
Citron v E.I. Du Pont de Nemours & Co.,
584 A2d 490 (Del Ch 1990) 14, 17, 34
Cox Communications, Inc. Shareholders Litigation,
879 A2d 604 (Del Ch 2005) 23, 24, 25, 26, 38, 40, 43
Dunlay v Ave. M Garage & Repair Co., 253 NY 274 (1930) 11
Everett v Phillips, 288 NY 227 (1942) 9
Glassman v Unocal Exploration Corp., 777 A2d 242 (Del 2001) 23
Globe Woolen Co. v Utica Gas & Electric Co., 224 NY 483 (1918) 2, 9, 10
Jones v Surrey Co-op. Apartments, Inc., 263 AD2d 33 (1st Dept 1999) 51
iii
Kahn v Lynch Communication Sys., Inc.,
638 A2d 1110 (Del 1994) 14, 17, 23, 24, 25,
Kahn v M & F Worldwide Corp., 88 A3d 635 (Del 2014)
34, 35, 38
passim
Kahn v Tremont Corp., 694 A2d 422 (Del 1997) 13, 17, 35
Katzowitz v Sidler, 24 NY2d 512 (1969) 11
Kavanaugh v Kavanaugh Knitting Co., 226 NY 185 (1919) 2, 8, 9, 10
Kenneth Cole Prods., Inc., Shareholder Litig.,
122 AD3d 500, 500 (1st Dept 2014) 44, 49, 50
Kirneldorfv First Union Real Estate Equity & Mtge. Invs.,
309 AD2d 151 (1st Dept 2003) 50
Klurfeld v Equity Enterprises, Inc., 79 AD2d 124 (2d Dept 1981) 11, 15
Leibert v Clapp, 13 NY2d 313 (1963) 8
Lerner v Prince, 119 AD3d 122 (1st Dept 2014) 50
Lirosi v Elkins, 89 AD2d 903 (2d Dept 1982) 12
Matter of Kemp & Beatley, Inc., 64 NY2d 63 (1984) 8, 9
Meinhard v Salmon, 249 NY 458 (1928) 1, 7, 41
MEW Shareholders Litig., 67 A3d 496 (Del Ch 2013), affd sub nom.
Kahn v M& F Worldwide Corp., 88 A3d 635 (Del 2014) 30, 31, 39, 43
Munson v Syracuse, Geneva & Corning R.R. Co., 103 NY 58 (1886) 10
Pollitz v Wabash R. Co., 207 NY 113 (1912) 8, 9
Pure Resources, Inc., Shareholders Litig., 808 A2d 421 (Del 2002) 23
iv
Rosenblatt v Getty Oil Co., 493 A2d 929 (1985) 17
Schulwolfv Cerro Corp., 86 Misc 2d 292 (Sup Ct NY County 1976) 11
Singer v Magnavox Co., 380 A2d 969 (Del 1977) 22
Solomon v Pathe Communications Corp., 672 A2d 35 (Del 1996) 23
Stilwell Value Partners, IV, L.P. v Cavanaugh, 41 Misc 3d 1216(A),
2013 NY Slip Op 51708(U) (Sup Ct NY County 2013),
affd 118 AD3d 518 (1st Dept 2014) 12
Swartz v Marien, 37 NY2d 487 (1975) 8, 9, 15
Weinberger v UOP, Inc., 457 A2d 701 (Del 1983) 12, 17, 18, 22, 23
Wolf v Rand, 258 AD2d 401 (1st Dept 1999) 12
FEDERAL CASES
Pepper v Litton, 308 US 295 (1939) 12
STATE STATUTES
8 Del C § 220 18
8 Del C § 262 18
NY Bus Corp L § 624 18
NY Bus Corp L § 910 18
OTHER AUTHORITIES
Arnoud W.A. Boot & Jonathan R. Macey, Monitoring Corporate
Performance: The Role of Objectivity, Proximity,and Adaptability
in Corporate Governance, 89 Cornell L Rev 356 (2004) 36
Victor Brudney & Marvin A. Chirelstein, A Restatement of
Corporate Freezeouts, 87 Yale LJ 1354 (1978) 11, 32, 44, 45, 46
William L. Cary, Federalism and Corporate Law: Reflections Upon
Delaware, 83 Yale LJ 663 (1974) 20, 21, 22
Louis Lowenstein, Management Buyouts,
85 Colum L Rev 730 (1985) 39, 40, 41
Donald C. Langevoort, The Human Nature of Corporate Boards:
Laws, Norms, and the Unintended Consequences of Independence and
Accountability, 89 Geo. LJ 797, 811 (2001) 37
Daniele Marchesani, The Concept of Autonomy and the Independent
Director of Public Corporations, 2 Berkeley Bus LJ 315, 328 (2005) 36
Faith Stevelman, Going Private at the Intersection of the Market
and the Law, 62 Bus Law 775 (2007) 38, 42
vi
PRELIMINARY STATEMENT
The Eastern New York Laborers' District Council (the "Council"), as
amicus curiae, respectfully submits this brief to urge reversal of the Appellate
Division's memorandum decision which, in violation this Court's decision in
Alpert v 28 Williams Street Corp. (63 NY2d 557 [1984]), declined to apply the
well-established "entire fairness" standard of judicial review to a transaction
initiated by controlling shareholder Kenneth Cole for the purpose of freezing
out minority shareholders. Instead, the Appellate Division erroneously affirmed
Supreme Court's dismissal of the Complaint on the pleadings by summary
application of the business judgment rule, disregarding a century of New York
common law protecting minority shareholders by strict application of fiduciary
duty jurisprudence.
For over a century, New York's courts have led the nation in establishing
and consistently reaffirming a standard under which business fiduciaries,
including corporate directors and majority shareholders, are held to the highest
level of ethical conduct — as Judge Cardozo famously phrased it, "[n]ot honesty
alone, but the punctilio of an honor the most sensitive" (Meinhard v Salmon,
249 NY 458, 464 [1928]). Because of the "[u]ncompromising rigidity" (id.) of
the fiduciary obligations of candor and fairness owed by majority stockholders
to the minority, courts are required to "to probe beneath the surface" of
challenged transactions (Globe Woolen Co. v Utica Gas & Electric Co., 224
NY 483, 489 [1918]) to "protect a minority stockholder against the acts . . . of
the board of directors or of the managing stockholders of the corporation, which
violate the fiduciary relation and are directly injurious to the stockholders"
(Kavanaugh v Kavanaugh Knitting Co., 226 NY 185, 196 [1919]).
New York's long-entrenched fiduciary duty jurisprudence is exemplified
by the requirement, established by this Court in Alpert, that where minority
shareholders challenge a controlling shareholder-initiated freeze-out, the
controlling shareholder must establish the transaction's entire fairness — i.e.,
both (1) fair dealing and (2) a resulting fair price. That standard of review is
necessary because of what this Court recognized as "the inherent conflict of
interest and the potential for self-dealing" when a controlling shareholder
freezes out the minority (Alpert, 63 NY2d at 570 [emphasis supplied]).
Furthermore, this Court recognized in Alpert that while the majority shareholder
may attempt to establish fair dealing by introducing evidence of efforts taken to
simulate arm's length negotiations, such as negotiation by an independent
committee of the board and approval by a majority of minority shareholders
(id.), the use of such mechanisms will not shift the burden of persuasion to the
plaintiffs, much less support abandoning the entire fairness standard altogether.
2
Respondents argue that this Court, rather than leading the nation as it
always has in enforcing fiduciary duties in corporate governance, should instead
follow the Delaware Supreme Court's decision in Kahn v M & F Worldwide
Corp. (88 A3d 635 [Del 2014]) ("MFW), which changed Delaware's judicial
review standard for cash-out mergers resulting in the freeze-out of minority
stockholders from entire fairness to the business judgment rule where only two
conditions are met: (1) approval by an empowered special committee of
independent directors, and (2) approval by a majority of informed minority
shareholders. The Court should decline to do so, and should reaffirm Alpert as
the right rule for New York.
It has long been observed that, quite unlike New York, Delaware's
corporate law jurisprudence is driven by an overriding policy intended to
encourage companies to incorporate there by providing a favorable and
permissive atmosphere for corporate management. Reflecting this policy,
Delaware case law has, over time, progressively relaxed protections for
minority shareholders in freeze-out transactions by diluting the applicable
standard of judicial review.
That anti-minority case law progression found its culmination in the
Delaware Supreme Court's 2014 MEW decision, which abandoned in most
3
cases the entire fairness standard, in favor of the highly-permissive business
judgment rule. Delaware's new MFW business judgment rule standard of
review for freeze-outs is based on pure policy considerations, employing a
priori reasoning and lacking any empirical evidence to support this drastic
change. It is directly inconsistent with New York's historical use of strict
fiduciary duty doctrine to ensure fair treatment of minority shareholders.
Notably, this Court had already declined to follow the Delaware Supreme Court
as it relaxed strict enforcement of the entire fairness requirement even before
MFW. New York should turn away, once again, from the Delaware courts'
decisions favoring majority corporate interests over protection of minority
shareholders.
Here, the Appellate Division's summary memorandum decision should
be reversed. First, in applying the toothless business judgment rule review
standard to the Kenneth Cole "going-private" freeze-out, the Appellate Division
totally misreads this Court's Alpert decision to limit entire fairness review to
"two-step" mergers. The Alpert decision is quite clear that entire fairness
minimally applies to all categories of freeze-outs, and that special scrutiny is
necessary in the case of a one-step "going-private" freeze-out, because it is both
the most subject to abuse and the least socially beneficial.
4
Second, to make matters much worse, with barely a nod to the fiduciary
duty Cole owed to his company's minority shareholders, the Appellate Division
upholds dismissal at the pleading stage for failure to allege facts showing board
of directors/special committee bad faith or self-interest — i.e., violation of the
business judgment rule. In essence, the Court applied the business judgment
rule to support dismissal without any regard for whether effective steps were
taken to address and eliminate the "inherent conflict" that this Court has
recognized with respect to all freeze-outs (Alpert, 63 NY2d at 570).
Uncritical application of the very deferential business judgment review
standard in this manner completely upends New York's century-old tradition of
protecting minority shareholders from abuses by a controlling majority. In
place of the burden on the interested defendants to affirmatively establish the
fairness of both the negotiation/approval process and the resulting price,
business judgment rule review rewards those same corporate defendants with
heavy presumptions in their favor. In practice, application of a business
judgment rule standard of review would reduce the likelihood of a plaintiff's
success to near zero.
The extreme consequences that would ensue if the Appellate Division's
decision were adopted as a new rule of law in New York are best demonstrated
5
by the outcome in this case — dismissal on the pleadings, despite very
substantial allegations which, if proved, could certainly support a factual
finding that the transaction was not "entirely fair" (in process and price) to
minority shareholders.
For these reasons, which are set forth more fully below, this Court should
reverse the Appellate Division's memorandum decision in its entirety, and
reaffirm the continued applicability of the entire fairness review standard for all
controlling shareholder-initiated minority freeze-out transactions.
6
ARGUMENT
I. NEW YORK'S ESTABLISHED RULE REQUIRING ENTIRE
FAIRNESS REVIEW OF CONTROLLING SHAREHOLDER
FREEZE-OUT TRANSACTIONS IS SOLIDLY GROUNDED
IN THIS STATE'S LONG TRADITION HOLDING
FIDUCIARIES TO THE VERY HIGHEST STANDARDS OF
CONDUCT, AND IS REQUIRED BY THE PLAIN FACT
THAT CONTROLLING SHAREHOLDER TRANSACTIONS
ARE INHERENTLY COERCIVE.
A. For over one hundred years, New York's jurisprudence
has held fiduciaries, including controlling shareholders,
to the very highest standards of conduct.
In a broad and deep vein of jurisprudence stretching back well over a
century, New York State courts have established and consistently reaffirmed
that corporate fiduciaries must be held to an exceptionally high standard of
conduct. The standard for a fiduciary's behavior is "[n]ot honesty alone, but the
punctilio of an honor the most sensitive" (Meinhard v Salmon, 249 NY 458,
464 [1928, Cardozo, J.]). As New York's courts have led the nation in
establishing and enforcing the very highest standards of fiduciary responsibility,
the "level of conduct for fiduciaries [has] been kept at a level higher than that
trodden by the crowd" only due to the "[u]ncompromising rigidity" of the
courts in developing this "tradition that is unbending and inveterate" (id.).
It is long-established that corporate directors and majority stockholders
owe fiduciary obligations to minority shareholders (Alpert v 28 Williams Street
Corp., 63 NY2d 557, 569 [1984] ["Because the power to manage the affairs of
a corporation is vested in the directors and majority shareholders, . . . they have
an obligation to all shareholders to adhere to fiduciary standards of conduct and
to exercise their responsibilities in good faith . . . ."]; accord Leibert v Clapp,
13 NY2d 313, 317 [1963] [same]; Matter of Kemp & Beatley, Inc., 64 NY2d
63, 69-70 [1984] [same]). As "guardians of the corporate welfare[,] [they] are
cast in the role of fiduciaries and must exercise their responsibilities as such
with scrupulous good faith" (Leibert, 13 NY2d at 317; accord Kavanaugh v
Kavanaugh Knitting Co., 226 NY 185, 195 [1919]). In this regard, "all
corporate responsibilities must be discharged [with] 'conscientious fairness,
morality and honesty in purpose' (Alpert, 63 NY2d at 569, quoting
Kavanaugh, 226 NY2d at 193). It is "the inflexible rule that [directors and
controlling shareholders] cannot exercise the corporate powers for their private
or personal advantage or gain" (Pollitz v Wabash R. Co., 207 NY 113, 124
[1912]; accord Swartz v Marien, 37 NY2d 487, 492 [1975] [fiduciaries are "not
to use their position for their own personal advantage or for that of their
confederates or to the detriment of stockholders"] [internal quotation marks and
8
citation omitted]; Kavanaugh, 226 NY2d at 195 ["[T]hey cannot use their 1
1
corporate power in bad faith or for their individual advantage or purpose."]).
All corporate fiduciaries owe a profound duty of candor (Globe Woolen
Co. v Utica Gas & Electric Co., 224 NY 483, 492 [1918]), and must, without
aberration, "treat all shareholders fairly and equally" (Matter of Kemp &
Beatley, 64 NY2d at 69; accord Swartz, 37 NY2d at 491; Alpert, 63 NY2d at
569; Case v New York Cent. R. Co., 15 NY2d 150, 156-157 [1965]). "Power of
control carries with it a trust or duty to exercise that power faithfully to promote
the corporate interests, and the courts of this State will insist upon scrupulous
performance of that duty" (Everett v Phillips, 288 NY 227, 232 [1942]). This
Court stressed over 100 years ago that these fundamental fiduciary "principles,
based upon a sound public policy and morality, are so firmly fixed in our
jurisprudence that they are not open to discussion" (Pollitz, 207 NY at 124).
As Judge Cardozo emphasized, 'the great rule of law' which holds a
[corporate fiduciary] to the duty of constant and unqualified fidelity is not a
thing of forms and phrases" (Globe Woolen Co., 224 NY at 489 [holding that
common director of two corporations did not fulfill his fiduciary duty by merely
recusing himself from voting on deal between the corporations, where he
nonetheless impacted the transaction's approval by "an influence . . . ,
dominating perhaps, and surely potent and persuasive, . . . from the beginning
to the end"], quoting Munson v Syracuse, Geneva & Corning R.R. Co., 103 NY
58, 73 [1886]). The corporate fiduciary's duty requires reviewing courts "to
probe beneath the surface" of challenged transactions (Globe Woolen Co., 224
NY at 489) in order to "protect a minority stockholder against the acts . . . of the
board of directors or of the managing stockholders of the corporation, which
violate the fiduciary relation and are directly injurious to the stockholders"
(Kavanaugh, 226 NY at 196). As is demonstrated below, New York's long-
entrenched fiduciary duty jurisprudence is exemplified by the requirement
established in Alpert (63 NY2d at 557), that courts review controlling
shareholder freeze-out transactions for their entire fairness. The Appellate
Division's decision in this case, if affirmed by this Court, would upend and
eviscerate that well-grounded standard, undermining a century of New York's
corporate fiduciary duty law. It should be reversed, and the vitality of the
Alpert rule reaffirmed.
B. The rule established by this Court in Alpert requiring
entire fairness review of all controlling shareholder
freeze-outs is based on the well-established dangers of
abuse and inherent coerciveness of such transactions.
In Alpert, this Court established strict standards for reviewing a "freeze-
out" transaction, which the Court defined broadly as one which "which by
10
majority rule forces the minority interest to give up its equity in the corporation
in exchange for cash or senior securities while allowing the controlling interest
to retain its equity" (63 NY2d at 566 n 2).1 In reviewing a freeze-out, "the
essence of the judicial inquiry is to determine whether the transaction, viewed
as a whole, was 'fair' as to all concerned" (id. at 569). Fairness has two
components: (1) "the majority shareholders must have followed 'a course of fair
dealing toward minority holders' (id., citing Case, 15 NY2d at 156; Dunlay v
Ave. M Garage & Repair Co., 253 NY 274, 279-280 [1930]); and (2) "they
must also have offered a fair price for the minority's stock" (Alpert, 63 NY2d at
569-570, citing Katzowitz v Sidler, 24 NY2d 512, 520 [1969]; Klurfeld v Equity
Enterprises, Inc., 79 AD2d 124, 135 [2d Dept 1981]; Schulwolf v Cerro Corp.,
86 Misc 2d 292, 298 [Sup Ct NY County 1976]).
1 The Court recognized that freeze-outs principally occur in one of three forms: (1)
two-step mergers; (2) parent-subsidiary mergers, and (3) 'going private mergers' where the
majority shareholders seek to remove the public investors" (Alpert, 63 NY2d at 567 n 3,
quoting Victor Brudney & Marvin A. Chirelstein, A Restatement of Corporate Freezeouts, 87
Yale L.1- 1354, 1355-1356 [1978]). Alpert presented a two-step merger freeze-out transaction,
and the Court noted that fiduciary standard owed to minority shareholders may require
"different protections for the minority and varying notions of fairness" in different types of
freeze-out transactions, "[d]ue to differences in the 'relative danger[s] of abuse and on the
social value[s] of the objective served by the elimination of the minority interest' (id.,
quoting Brudney and Chirelstein, 87 Yale LJ at 1359). The Court, however, plainly was not
suggesting a lower fairness standard for "going-private" freeze-outs, given that the scholarly
article that the Court cited on this precise point characterized "going-private" transactions as
having the highest potential for "unpoliceable abuse" and an "absence of social benefit"
(Brudney and Chirelstein, 87 Yale L.T at 1368). Thus, if anything, the Court in Alpert was
indicating that even higher fiduciary requirements would apply to going-private freeze-outs
like the one in this case. As discussed in Point infra, the Appellate Division in this case
badly misinterpreted the scope and significance of this Court's holding in Alpert.
11
The Alpert Court stressed that "[w]hen . . . there is a common
directorship or majority ownership, the inherent conflict of interest and the
potential for self-dealing requires careful scrutiny of the transaction" (63 NY2d
at 570 [emphasis supplied]). As a result, in freeze-out transactions by majority
owners, "the burden shifts to the interested directors or shareholders to prove
good faith and the entire fairness" of the transaction (id., citing Pepper v Litton,
308 US 295, 306 [1939]; Chelrob, Inc. v Barrett, 293 NY 442, 461-462 [1944];
Lirosi v Elkins, 89 AD2d 903, 906 [2d Dept 1982]; Weinberger v UOP, Inc.,
457 A2d 701, 710 [Del 1983]; see Wolf v Rand, 258 AD2d 401, 404 [1st Dept
1999] [because the business judgment rule "does not protect corporate officials
who engage in fraud or self-dealing . . . or corporate fiduciaries when they make
decisions affected by inherent conflict of interest, the burden shifts to
defendants to prove the fairness of the challenged acts"]; Stilwell Value
Partners, IV, L.P. v Cavanaugh, 41 Misc 3d 1216[A] 2013 NY Slip Op
51708[U] [Sup Ct NY County 2013], affd 118 AD3d 518 [1st Dept 2014]
[because common directorship or majority ownership presents an inherent
conflict of interest and the potential for self-dealing, "the burden shifts to the
interested directors or shareholders to prove good faith and the entire fairness"
of the transaction], quoting Alpert, 63 NY2d at 570).
12
Critically, the Court recognized that the interested parties "may attempt
to establish [the] element of fair dealing by introducing evidence of efforts
taken to simulate arm's length negotiations" (63 NY2d at 570). Thus, the Court
confirmed that adopting such mechanisms would not shift the burden of
persuasion to the plaintiffs, much less support abandoning the entire fairness
standard altogether. To the contrary, by stating that steps such as "the
appointment of an independent negotiating committee made up of neutral
directors or of an independent board to evaluate the merger proposal and to
oversee the process of its approval," would be relevant to the establishing the
"fair dealing" component of entire fairness, the Court was clarifying that the
long-established entire fairness standard (with the burden on the interested
parties) will remain in place even where such efforts are taken "to simulate
arm's length negotiations" (id.).
This Court's proper recognition in Alpert of the "inherent conflict of
interest" in controlling shareholder-initiated freeze-out transactions echoed
concerns expressed in a substantial body of pre-MFWDelaware case law. These
cases emphasize the inherently coercive potential impact of a controlling
shareholder, and that mechanisms such as independent board committees and
minority shareholder approval votes may fail to ensure the required fairness of
process (see e.g. Kahn v Tremont Corp., 694 A2d 422, 428 [Del 1997]; Kahn v
13
Lynch Communication Sys., Inc., 638 A2d 1110, 1116-1117 [Del 1994]; Citron
v E.I. Du Pont de Nemours & Co., 584 A2d 490, 502 [Del Ch 1990]). This
well-grounded body of Delaware case law, and the Delaware Supreme Court's
recent, flawed decision abandoning it in MFW, is discussed in detail in Point II
below.
Finally, the Alpert Court held that even where a majority shareholder
carries his burden to establish that he acted in good faith and that the
challenged freeze-out transaction satisfied the entire fairness standard, minority
shareholders will still have a breach of fiduciary duty claim unless the
transaction served a legitimate business purpose (id. at 572 ["Fair dealing and
fair price alone will not render the merger acceptable."]). The Court stressed
the "fiduciary duty to treat all shareholders equally," noting that:
"[I]in a freeze-out merger, the minority shareholders are
being treated in a different manner: the majority is permitted
continued participation in the equity of the surviving
corporation while the minority has no choice but to
surrender their shares for cash. On its face, the majority's
conduct would appear to breach this fiduciary obligation."
Continuing in Alpert, this Court held that "[d]eparture from precisely
uniform treatment of stockholders may be justified . . . where a bona fide
14
business purpose indicates that the best interests of the corporation would be
served by such a departure" (id., quoting Swartz, 37 NY2d at 492). As a result:
"In the context of a freeze-out merger, variant treatment of
the minority shareholders -- i.e., causing their removal --
will be justified when related to the advancement of a
general corporate interest. The benefit need not be great, but
it must be for the corporation."
(id. at 573). In this regard, the Court expressly cautioned that:
"[I]f the sole purpose of the merger is reduction of the
number of profit sharers -- in contrast to increasing the
corporation's capital or profits, or improving its
management structure -- there will exist no independent
corporate interest. All of these purposes ultimately seek to
increase the individual wealth of the remaining
shareholders. What distinguishes a proper corporate
purpose from an improper one is that, with the former,
removal of the minority shareholders furthers the objective
of conferring some general gain upon the corporation."
(id. [emphasis supplied; internal quotation marks omitted], citing Schwartz, 37
NY2d at 492, Klurfeld, 79 AD2d at 136).
C. New York's courts, though respectful of the Delaware
courts' experience in matters of corporate governance,
have never shied away from forging New York's own
common law path, consistent with its tradition of
imposing the very highest corporate fiduciary standards.
While the decisions of New York's courts certainly exhibit respect for
the Delaware courts' experience in corporate governance matters, that general
respect has never led to blind deference. To the contrary, consistent with this
15
Court's long tradition of providing thoughtful leadership to the country on
commercial law issues, it has never shied away from forging New York's own
path, and has consistently remained true to the State's long-established common
law principles, including those governing corporate fiduciaries. New York's
judicial independence is exemplified in this Court's Alpert standard for
reviewing controlling shareholder-initiated freeze-out transactions. Even before
the Delaware Supreme Court's 2014 decision in MFW, the Alpert standard was
significantly more protective of minority shareholders than Delaware law in at
least two ways.
First, unlike Delaware law, this Court's Alpert rule never shifts the
burden of persuasion to establish the entire fairness of a freeze-out transaction.
In any case involving the "inherent conflict of interest" raised by controlling
shareholders or interested directors, the burden to prove entire fairness is placed
on and remains with the interested corporate defendants (Alpert, 63 NY2d at
570).
In contrast, Delaware law shifts the burden of persuasion on the entire
fairness issue to the plaintiffs where either the transaction is negotiated
effectively and at arm's length by a special committee of independent directors,
or it is approved by an informed vote among the minority shareholders (see
16
Americas Min. Corp. v Theriault, 51 A3d 1213, 1242 [Del 2012]; Lynch
Communication Sys., Inc., 638 A2d at 1116; Tremont Corp., 694 A2d at 428;
Rosenblatt v Getty Oil Co., 493 A2d 929, 937 [1985]; Weinberger, 457 A2d at
703; Citron, 584 A2d at 501). The Delaware Supreme Court had already
established burden shifting based on minority shareholder approval in when this
Court decided Alpert in 1984 (see Weinberger, 457 A2d at 703). Nonetheless,
even though this Court cited Weinberger in Alpert, it departed from Delaware
law when it placed the burden on the controlling corporate parties in all
circumstances.
Second, as discussed above, even where a transaction is shown to have
been otherwise fair, Alpert requires the controlling corporate defendants to
establish that the transaction advanced a legitimate business purpose (i.e.,
something other than merely increasing the wealth of the remaining
shareholders after the freeze-out). If they cannot make that showing, then the
transaction will breach the fiduciary duty owed to the minority because they
will have been treated unequally without a countervailing business benefit
(Alpert, 63 NY2d at 572-573).
In contrast, shortly before Alpert was decided, the Delaware Supreme
Court had expressly eliminated the business purpose requirement under
17
Delaware law in Weinberger (457 A2d at 715 [holding that the business
purpose requirement "shall no longer be of any force or effect"]). Thus, even
though the Delaware Supreme Court had specifically addressed and eliminated
the business purpose requirement in its 1983 Weinberger decision, this Court
expressly chose to impose that same requirement the following year when it
issued Alpert.2
In short, this Court's Alpert review standard represents a carefully
considered path for New York's common law, firmly grounded in the State's
long tradition of holding corporate fiduciaries to the very highest standards of
conduct, particularly in connection with their treatment of minority
shareholders. Even before the Delaware Supreme Court's 2014 decision in
MFW, this Court charted an independent course for New York. As discussed in
Point II below, that course should not be changed. The MEW decision, in
addition to being deeply flawed in its own right, simply is wrong for New York.
2 There are at least two additional distinctions in New York and Delaware corporate
statutory law that are worthy of note. First, while Delaware provides a general appraisal
remedy to dissenting minority shareholders (8 Del C § 262), New York extends appraisal
rights only if the shares in question are not listed on a national stock exchange (NY Bus Corp
L § 910). Second, New York grants shareholders less pre-litigation access to corporate
books and records than does Delaware (compare 8 Del C § 220 with NY Bus Corp L § 624
(shareholders of New York corporation entitled only to examine minutes of proceedings of
company's shareholders and record of shareholders). The fact that New York's BCL accords
aggrieved minority shareholders fewer statutory rights is thus balanced out by New York's
stricter common law standard for judicial review of freeze-out transactions.
18
II. THIS COURT SHOULD NOT FOLLOW OR ADOPT FOR
NEW YORK THE RULE APPLIED BY THE DELAWARE
SUPREME COURT IN MFW
Respondents urge this Court to conform to the rule adopted by the
Delaware Supreme Court in MFW, which largely changed the standard of
judicial review of cash-out mergers resulting in the freeze-out of minority
stockholders from entire fairness to the business judgment rule. They argue that
a contrary holding result "would create needless inconsistencies across
jurisdictions and encourage forum shopping" (Resp. Brief at 26). That
argument should be rejected and this Court should reaffirm continued
application of the Alpert rule protecting the interests of minority shareholders
by requiring entire fairness review of all minority freeze-out transactions
initiated by controlling shareholders.
As discussed below, Delaware corporate law has long been driven by an
overriding policy intended to encourage companies to incorporate in the state
by providing a favorable and permissive atmosphere for corporate management.
This policy has been reflected in a line of Delaware decisional law that has,
over time, progressively relaxed protections for minority shareholders in freeze-
out transactions by lowering the bar represented by the applicable standard of
judicial review. That progression has found its culmination in the MFW
19
decision applying the highly-permissive business judgment rule rather than the
previously-applied entire fairness standard. The superficial logic of the MFW
decision flies in the face of decades of academic studies providing evidence that
the inherent biases and influences that exist in controlling shareholder-driven
freeze-outs can never be sufficiently ameliorated — such transactions are never
true arm's-length negotiations. Rather than being evidence-based, Delaware's
new MEW business judgment review standard appears to be driven by policy
considerations favoring corporate management in order to promote Delaware
incorporations. Those Delaware policy considerations are directly inconsistent
with New York's historical use of strict fiduciary duty doctrine to ensure fair
treatment of minority shareholders. MFW is the wrong rule for New York.
A. In favoring the interests of potential incorporators,
Delaware law has increasingly moved away from
protection of minority shareholders.
In a landmark article scrutinizing Delaware corporation law both
statutory and decisional (William L. Cary, Federalism and Corporate Law:
Reflections Upon Delaware, 83 Yale LT 663 (1974), Columbia Law Professor
and former Securities and Exchange Commission Chair William Cary quoted
express declarations of the Delaware State Legislature that the policy of the
State was to provide a favorable and permissive atmosphere for corporate
20
management, fostering the choice of Delaware as the preferred place of
incorporation and thereby increasing the revenues the State receives from its
corporate franchise tax (id. at 663, 669). Professor Cary found that the
Delaware courts were willing participants in fulfilling that State policy,
demonstrating what he characterized as a "race for the bottom" (id. at 666) in
competition with other state courts respecting favorable treatment of corporate
management:
"Judicial decisions in Delaware illustrate that the courts
have undertaken to carry-out the 'public policy' of the state
and create a 'favorable climate' for management.
Consciously or unconsciously, fiduciary standards and the
standards of fairness have been relaxed. In general, the
judicial decisions can best be reconciled on the basis of a
desire to foster incorporation in Delaware." (id. at 670).
The Delaware Supreme Court's decision in MFW shows that the
Delaware courts' tendency to promote a favorable climate for corporate
management, at the expense of fiduciary standards, still exists some forty years
after the Cary article. In MEW the Delaware Supreme Court retreated from
long-standing protections of minority interests judicially fashioned with respect
to minority freeze-outs by controlling stockholders when they take their
companies private. Those protections had reflected the special knowledge and
experience of the Delaware courts regarding the realities of minority freeze-outs
by management. In weighing those realities, the Delaware courts recognized,
21
as did this Court in Alpert, that freeze-outs present fundamental conflicts of
interest and tempting opportunities for breach of established fiduciary
obligations in corporate governance. This Court should not join the MFW court
in a "race for the bottom" (Cary, 83 Yale LI at 666) in favoring management
interests in corporate minority freeze-outs.
A brief review of the development of Delaware decisional law on
minority freeze-outs demonstrates the steady progression that led to the MFW
decision. Reflecting its awareness of controllers' potential breach of their
fiduciary duties to minority shareholders in the freeze-out context, the Delaware
Supreme Court in Singer v Magnavox Co. (380 A2d 969 [Del 1977]) laid down
requirements for upholding those transactions similar to what this Court
mandated in Alpert — namely, establishment in all cases that the controller did
not initiate the going private process "for the sole purpose of eliminating a
minority on a cash-out basis (id. at 978), and that the minority shareholders
were treated with "entire fairness" in the transaction (id. at 976).
In Weinberger, however, the Delaware Supreme Court diluted its Singer
holding in two respects (457 A2d 701 [1983]). First, the Court abandoned the
requirement to establish a valid business purpose supporting a minority freeze-
out merger; the Court justified its elimination of this requirement on the bare
22
conclusion that the requirement did not provide "any additional meaningful
protection" to minority stockholders (id. at 715). Second, although Weinberger
retained the entire fairness standard of review of minority freeze-outs — i.e.,
both "fair dealing" and "fair price" (id. at 717) — the Court shifted the burden of
proof concerning entire fairness to the minority interests (requiring them to
prove unfairness) if the transaction was approved by a vote of a majority of
informed minority stockholders (id. at 703).
Then, in Kahn v Lynch Communication Systems, Inc. (638 A2d 1110
[19941), although the Court reaffirmed the entire fairness standard of judicial
review of minority cash freeze-outs, it shifted the burden of proof to the
plaintiffs to prove unfairness if an empowered, committee of independent
directors approved the transaction (id. at 1117). 3
In 2005, a lengthy dicta opinion by Vice Chancellor Leo Strine in In Re
Cox Communications, Inc. Shareholders Litigation (879 A2d 604 [Del Ch
20051), presaged the Delaware Supreme Court's subsequent abandonment, in
3 Although the Delaware Supreme Court had adhered in Lynch to a somewhat
weakened entire fairness standard in judging a freeze-out of minority interests via a cash-out
merger, the Delaware courts have been far more lenient toward management in eliminating
minority interests through a tender offer followed by a short form statutory merger. Tender
offer-based mergers were adjudged under the business judgment rule, providing only that the
controller made full disclosure and did not engage in overt coercive behavior to obtain
minority shareholder approval (see Solomon v Pathe Communications Corp., 672 A2d 35
[Del 1996]; Glassman v Unocal Exploration Corp., 777 A2d 242 (Del 2001); In re Pure
Resources, Inc., Shareholders Litig., 808 A2d 421 [Del 2002]),
23
MFW, of the entire fairness standard in favor of the business judgment rule.
Cox addressed an application for counsel fees by class action counsel for the
minority shareholders, following an approved settlement of the action on terms
approved by a special committee of the Board of Directors, and subject to
approval by a majority of minority stockholders. Vice Chancellor Strine used
the occasion to opine on what he characterized as litigation abuses by the
stockholder plaintiffs' bar, asserting that those abuses were fostered by
continued adherence to the entire fairness standard for freeze-outs in Lynch (id.
at 619-620).
In seeking to take their company private, the Cox family had adopted the
procedural scenarios later approved in MFW, conditioning its proposal to buy
all minority shares on approval by a special committee of independent Directors
and by a majority of the minority stockholders. Vice Chancellor Strine viewed
the protection provided by requiring minority shareholder approval of the deal
negotiated by the special committee as critically important, stating that the
"integrity-enforcing utility of a Minority Approval Condition seems hard to
dispute" (879 A2d at 619). He continued, however, that, even with this
additional protection, the entire fairness standard made it "impossible" to
dispose of any class action challenging the freeze-out at the pleading stage, no
matter how strong the evidence of fairness might be (id.). Thus, he concluded,
24
controllers were impelled to settle non-meritorious claims and pay extravagant
class counsel fees to avoid delay and litigation expense (id. at 605-606).
Vice Chancellor Strine asserted in Cox that, in fostering minority
stockholder class actions challenging freeze-outs, the Lynch Court's adherence
to the entire fairness standard represented poor public policy, because it
"deter[red] the procession of offers that provides valuable liquidity to minority
stockholders and efficiency for the economy in general" (id at 646). Although
Vice Chancellor Strine noted that previously, "at various times the [Cox family]
had found it convenient to take Cox public in order to raise money from the
public capital markets," and that "[a]t other times the family had found it
preferable to run Cox as a private company" (id. at 607), he offered no
explanation as to how repeatedly shifting the company from public to private
and vice versa promoted "efficiency for the economy in general" benefitting
society (id. at 646).
The dicta discussion in the Cox decision was the final major step leading
to the Delaware Supreme Court's abandonment of entire fairness in favor of the
business judgment rule in MFW.
25
B. MFW, the culmination of Delaware's "race for the
bottom," is an a priori decision driven by Delaware's
policy favoring corporate management over minority
interests — it is both contrary to the empirical evidence
and wrong for New York.
The Delaware Supreme Court decision 2014 decision in MFW essentially
adopted the rationale and rule suggested in the Cox decision dicta, abandoning
entire fairness review of cash-out minority freeze-out mergers in favor of
review under the business judgment rule where only two conditions are met: (1)
approval by an empowered special committee of independent directors, and (2)
approval by a majority of informed minority shareholders (MFW, 88 A3d at
654).4
The controller in MFW was a company wholly-owned by the noted
hostile takeover strategist Ronald 0. Perelman. Perelman was the Chairman of
MFW's Board of Directors. He and his lieutenants, Barry Schwartz and
William Bevins, were interlocking Board members and officers of MFW and
the Perelman company that controlled MFW (id. at 640).
4 Once adopted as a standard of judicial review of a controller's freeze-out of minority
stockholders by taking a corporation private, the business judgment rule provides a virtually
insurmountable barrier to any minority class action claim of breach of fiduciary duty by the
controller, requiring dismissal "unless no rational person could have believed that the merger
was favorable to MFW's minority stockholders" (MFW, 88 A3d at 654).
26
Through Schwartz, Perelman's company made an initial offer of $24 a
share to acquire all MFW minority interests (id.). The offer was conditioned on
approval by a special committee of independent directors of MFW, and by a
vote of a majority of minority shareholders (id.). The proposal stipulated that
the controller was only interested in acquiring the minority shares, was
unwilling to sell the controlling shares, and would vote its majority shares
against any alternative disposition of the MFW company (id.). In its decision,
the Delaware Supreme Court upheld the trial court's finding that all members of
the special committee were truly independent, notwithstanding that:
• one of them had a nineteen year lucrative business
relationship with Perelman, ending nine years earlier;
• the law firm of a second member of the special committee
had earned $200,000 over the preceding two years advising
Perelman's company and another Perelman affiliated
company;
• that same committee member was also a professor at a law
school where Schwartz was a member of its board of visitors
and, only months after approval of the freeze-out, was
invited to join the Board of Revlon, another Perelman
company;
• a third special committee member had a business
relationship with Perelman from 1991-1996 through her
executive position at Perelman's bank, and also performed
advisory services for the Perelman-affiliated company in
2007 and 2008 as managing director of a firm that received a
$100,000 fee for her services;
27
(id. at 647-648). Nonetheless, the Delaware Supreme Court held that none of
the business relationships and financial benefits derived from the Perelman
company was "material," and that they were thus insufficient "to rebut the
presumption of independence" (id. at 648-649).
The special committee in MFW retained a financial advisor, Evercore
Partners, and a prominent law firm as legal advisor (id. at 650). The special
committee and Evercore initially used April and May 2011 MFW management
projections in considering the controller's $24 a share proposal (id. at 651). In
July 2011, however, the committee requested new projections from MFW's
management which were less favorable than those of April and May 2011 (id.).
The more recent projections constituted the major basis for Evercore's ultimate
range of valuation of MFW as a going concern (id.). Using those lower
projections and various computer models, Evercore generated a fair value range
of $22 to $38 per share; a premiums paid analysis resulted in a value range of
$22 to $45 per share (id. at 651-652).
On August 18, 2011, the MFW special committee rejected the
controller's $24 proposal and made a counter-offer to sell at $30 a share, but
characterized its own counter-offer as a mere "negotiating position,"
notwithstanding that $30 was well within Evercore's range of fair value (id. at
28
652). That counter-offer was rejected by Schwartz on behalf of the controller,
who adhered to the original $24 per share proposal (id.). After consulting with
Perelman, however, Schwartz made the controller's "best and final" offer of
$25 a share. The special committee accepted that offer the very next day (id. at
653). Following the circulation of a proxy statement, a 65% majority of the
minority shareholders approved the merger of MEW with the controller (id. at
654).
In its decision in MFW upholding the minority freeze-out, the Delaware
Supreme Court declared that the business judgment rule standard was the
proper judicial review standard for cash-out merger freeze-outs where
essentially two conditions were met: (1) approval by an empowered special
committee of independent directors; and (2) approval by a majority of informed
minority shareholders (id.). The Court's reasoning was as follows. Under prior
decisional law and to encourage controllers to adopt procedures more protective
of the minority shareholder rights and more likely to achieve fair results, the
Delaware courts had shifted the burden of proof on entire fairness from the
controller to the minority challengers of the transaction if there had been either
approval by a special committee of directors, or approval by a fully informed
and uncoerced majority vote of the minority shareholders (id. at 642). The
Delaware Supreme Court held that the evidence in MFW supported the
29
Chancery Court's finding that both of those procedures had been fully
implemented (id. at 653-654). The Supreme Court then quoted with approval
the lower court's holding that:
'That structure, it is important to note, is critically different
than a structure that uses only one of the procedural
protections. The 'or' structure does not replicate the
protections of a third-party merger under the [Delaware
General Corporation Law ("DGCL")] approval process,
because it only requires that one, and not both, of the
statutory requirements of director and stockholder approval
be accomplished by impartial decisionmakers. The 'both'
structure, by contrast, replicates the arm's-length merger
steps of the DGCL by requir[ing] two independent
approvals, which it is fair to say serve independent integrity-
enforcing functions.'
(id. at 643, quoting In re MFW Shareholders Litig., 67 A3d 496, 528 [Del Ch
2013] [additional internal quotation marks and citations omitted]). Thus, the
Supreme Court concluded, where a merger is subject to those "dual
ratifications," it "acquires the shareholder-protective characteristics of third-
party, arm's-length mergers, which are reviewed under the business judgment
standard" (id. at 644).
Second, reasoned the MFW Court, application of the business judgment
rule incentivizes controllers to institute the dual ratifications, which in turn will
"optimally protect[] the minority stockholders in controller buyouts" (id.).
30
Third, the MEW Court quoted with approval from the Chancery Court's
MFW opinion that applying the business judgment rule to review minority
freeze-outs by controllers brings freeze-out jurisprudence back within 'the
central tradition of Delaware law which defers to the informed decisions of
impartial directors . . . [and] will be of benefit to minority stockholders because
it will provide a strong incentive to controlling stockholders to accord minority
investors the transactional structures that respected scholars believe will provide
them the best protection, [giving them] the benefits of independent, empowered
negotiators to bargain for the best price and say no' (id. at 644, quoting MFW
Shareholders Litig., 67 A3d at 502-503 [emphasis omitted]).
Finally, the MFW Court concluded that the dual ratifications and then
application of the business judgment rule will achieve a substantially identical
financial benefit to minority shareholders as would applying the entire fairness
standard (id. at 644-645).
The Delaware Supreme Court's MFW decision is entirely consistent with
its historic doctrinal preference toward maintaining a favorable climate for
corporate management in order to achieve and retain the State's overwhelming
popularity as the most favorable place to incorporate. The rationale and factual
assumptions underlying the MFW decision are based purely on a priori
31
reasoning without any empirical support whatsoever. In fact, those assumptions
are inconsistent with conclusions both by Delaware judges based on their own
experience with minority freeze-outs, and by behavioral economics scholars in
studies of the conduct of "independent" directors in corporate governance.
Central to its ruling in MFW, the Delaware Supreme Court makes the
bald assertion that a freeze-out transaction that is subject to dual ratification
through approval a special committee of independent directors and by a
majority of the minority shareholders effectively "acquires the shareholder-
protective characteristics of third-party arm's-length mergers" (88 A3d at 644).
This assertion fails as a matter of both logic and experience. First, and
critically, a third-party, arm's-length merger is not over-shadowed — as a freeze-
out transaction is — by the inherent and unavoidable conflict of interest between
controlling and minority shareholders, where the controller has a strong
financial incentive to use superior economic and structural advantages,
including timing, opportunities to depress stock prices, informational
imbalances, and control of company proxy machinery, to effect reductions in
the price of minority shares. "In the ordinary arms-length merger negotiated by
the managements of two unrelated corporations, stockholders of the merged
entity are properly viewed as having a common interest in maximizing the
returns on their stock" (Brudney & Chirelstein, 87 Yale LJ at 1356). Second, in
32
Perelman's proposal in MFW (as well as the Kenneth Cole proposal here), the
special committee and minority were expressly advised that the controller
would not entertain any offer to buy its majority shares and would vote those
shares in opposition to any proposed sale of the company to a third party
(MFW, 88 A3d at 640-641). Thus, in the negotiations, the special committee
was left with only two options — continued negotiations on price solely with the
controller, or rejection of the controller's last offer, effectively ending any
possibility of a buy-out fair to the minority. In an arm's-length third party
merger, however, management of the company to be acquired has a third
negotiation option — sale to some other company, creating potential, if not
actual, price competition, an undeniably critical distinction for negotiation
purposes. Without any opportunity to explore the option of a sale of the
company to an outside investor or investors, the MFW Court's ostensible
"arm's length" negotiation left the special committee with one arm tied behind
its back.
In addition, the restriction against seeking outside offers deprived the
special committee of the most reliable procedure for assessing the true intrinsic
value of the company — a market check. This left the committee completely
dependent upon the opinions and evaluation models of its financial advisor.
33
Without citing any empirical evidence to support it, the Delaware
Supreme Court in MFW concluded that approval by an empowered special
committee of directors (presumed to be independent despite long-time social
and business relationships with the controller) and by a majority of informed
minority shareholders will achieve the same minority protections and the same
favorable results as the entire fairness standard of judicial review (88 A3d at
644). Both of these assumptions are contradicted by previous observations by
experienced Delaware judges, based upon their knowledge of the realities of
minority freeze-outs by controllers using approval procedures purporting to
demonstrate that entire fairness was achieved. Thus, in Lynch Communication
Systems, the Delaware Supreme Court rejected the business judgment rule in
favor of the entire fairness standard in part because of its skepticism on the
authenticity of "voluntary" minority shareholders' approval (638 A2d at 1116).
The Court quoted from the insights of the Court of Chancery in Citron v E.I.
Dupont de Nemours & Co. (584 A2d at 502) as follows:
"The controlling stockholder relationship has the potential to
influence, however, subtly, the vote of [ratifying] minority
stockholders in a manner that is not likely to occur in a
transaction with a non-controlling party.
"Even where no coercion is intended, stockholders voting on
a parent subsidiary merger might perceive that their
disapproval could risk retaliation of some kind by the
controlling stockholder. For example, the controlling
stockholder might decide to stop dividend payments or to
34
effect a subsequent cash out merger at a less favorable price,
for which the remedy would be time consuming and costly
litigation. At the very least, the potential for that perception,
and its possible impact upon a shareholder vote, could never
be fully eliminated." (Lynch Communication Sys., 638 A2d
at 1116).
Likewise, sophisticated Delaware judges have recognized the subtle
pressures on special committees of directors to conclude a deal in negotiation
with a controlling stockholder:
"Entire fairness remains applicable even when an
independent committee is utilized because the underlying
factors which raise the specter of impropriety can never be
completely eradicated and still require careful judicial
scrutiny. This policy reflects the reality that in a transaction
such as the one considered in this appeal, the controlling
shareholder will continue to dominate the company
regardless of the outcome of the transaction. The risk is thus
created that those that pass upon the propriety of the
transaction might perceive that disapproval may result in
retaliation by the controlling shareholder. Consequently,
even when the transaction is negotiated by a special
committee of independent directors, no court could be
certain whether the transaction fully approximate[d] what
truly independent parties would have achieved in an arm's
length negotiation." (Tremont Corp., 694 A2d at 428
[internal quotation marks and citations omitted]).
The foregoing views by Delaware's experienced corporate law judges comport
with the empirical evidence gathered and conclusions reached by behavioral
economics scientists who have studied the conduct of so-called "independent"
35
members of corporate boards of directors. For example, Professors Arnoud
W.A. Boot and Jonathan R. Macey conclude that:
"Public choice and psychology research illustrates that
boards with close proximity to management are likely to
become captured by management. Psychologists, for
example, have observed a loot-in-the-door' phenomenon,
which predicts that individuals will agree to a series of
escalating commitments once they make an initial
commitment. . . . As applied to board members, this
phenomenon suggests that board members begin to identify
strongly with management after some agreement with
management's decisions.
"Furthermore, social psychologists have found that people
tend to internalize their vocational roles. Occupational
choices, such as the choice to accept employment as a
corporate director, strongly influence our attitudes and
values. In the context of boards of directors, this
internalization leads board members to be influenced by
management's perspective. . . .
"This analysis applies what [two behavioral scientists]
describe as a cognitive bias or the 'inside view."'
(Arnoud W.A. Boot & Jonathan R. Macey, Monitoring Corporate
Performance: The Role of Objectivity, Proximity, and Adaptability in Corporate
Governance, 89 Cornell L Rev 356, 368-369 [2004]); see also, Daniele
Marchesani, The Concept of Autonomy and the Independent Director of Public
Corporations, 2 Berkeley Bus LJ 315, 328 [2005] [concluding that independent
directors lack incentive to actively monitor and disagree with management:
"[T]he phenomenon of group think within the boardroom poses an additional
36
obstacle to the directors' willingness to confront the management. [Also],
interpersonal board dynamics tend to create a nonconfrontational environment
where dissent is strongly discouraged."]; Donald C. Langevoort, The Human
Nature of Corporate Boards: Laws, Norms, and the Unintended Consequences
ofIndependence and Accountability, 89 Geo. LJ 797, 811 [2001] ["For a variety
of reasons, the natural gravitational pull is away from diversity and toward
collegiality. Boards self-select, often with strong input from the chief executive
officer. The natural inclination . . . is to choose those who will 'fit' well with
existing members. The invitation itself creates a strong pressure: the norm of
reciprocity, strongly felt in American culture, inclines people to support those
who have favored them in the past."]).
At the heart of the Delaware courts' abandonment of the entire fairness
standard in favor of the business judgment rule (when dual ratification has
occurred) for adjudging the validity of minority freeze-outs is a basic
assumption that the acquisition of minority interests in going-private
transactions is beneficial to minority shareholders in particular and to the
economic health of society in general. In this respect, the Delaware courts
appear to have been heavily influenced by the neo-classical law and economics
movement:
37
"[T]his school of thought emphasizes corporate law's role in
supporting strong capital markets and economic growth. A
basic tenet of neo-classical economic theory is that people
are rational, self-interested actors who will undertake a
transaction only if they believe doing so is in their mutual
self-interest. From the perspective of law-and-economics,
the role of corporate law is to facilitate transactions, since
they are presumed to increase wealth overall. Along these
lines, the consent by or on behalf of the minority
shareholders in a freezeout would suggest that the
transaction is wealth-enhancing, and thus socially
beneficial."
(Faith Stevelman, Going Private at the Intersection of the Market and the Law,
62 Bus Law 775, 895-896 [2007] [internal quotation marks and citations
omitted]).
The influence of the law and economics movement on Delaware's switch
from entire fairness to the business judgment rule standard of review of freeze-
outs is unmistakable. Thus, Vice Chancellor Strine in Cox, the forerunner of
MFW both in theory and result, criticizes the Lynch entire fairness standard as
"deterring the procession of offers that provide liquidity to minority
stockholders and efficiency for the economy in general" (Cox, 879 A2d at 646
[emphasis supplied]). And the Chancery Court in MFW expressed agreement
with those urging adoption of the business judgment rule for review of freeze-
out transactions: "the court is persuaded that what is optimal for the protection
of stockholders and the creation of wealth through the corporate form is
38
adopting a form of the rule the defendants advocate" (MFW Shareholders Litig.,
67 A3d at 528 [emphasis supplied], affd sub nom. Kahn v M & F Worldwide
Corp., 88 A3d 635 [Del 2014]).
However, the assumptions by the Delaware courts and law and
economics theorists respecting the social benefits of minority shareholder
freeze-outs do not withstand empirical analysis of how and why these
transactions take place in actual practice. The economic realities of minority
freeze-outs were reported in an article by Columbia Law Professor Louis
Lowenstein, Management Buyouts (85 Colum L Rev 730 [1985]). Professor
Lowenstein conducted an empirical study of 28 major corporate going private
transactions from 1981 to 1985. His findings were as follows.
First, management is strongly motivated by tax considerations in
structuring the taking of their company private through minority freeze-outs.
"Most of the tax savings or shelters created in an MBO [management buyout]
are not very novel. But their combined effect is that the management of a
company can, with suitable backing, purchase its business from the public and
finance much of the price, and most if not all of the premium portion of the
price, out of tax-generated cash flows" (Lowenstein, 85 Colum L Rev at 759).
39
Second, the structuring of buy-out transactions is complex and includes
substantial leveraging to finance the acquisition of minority shares through a
combination of borrowing and investments, with substantial transaction costs
(id. at 756-757). "The transaction costs in leveraged buyouts are quite
substantial" (id. at 757). They include fees to investment bankers for
structuring the transaction and recruiting investors, fees to banks providing
loans, and fees for financial advisors and lawyers. Such transaction costs have
totaled as much as $16.5 million (id. at 757 n 98).
Third, more often than not, despite the purported efficiencies achievable
through taking a company private, within a matter of years for one reason or
another, management decides to forego such claimed efficiencies and to incur
the substantial transaction costs of once again initiating a public offering to
obtain funding through the public capital markets. Professor Lowenstein thus
found that in most instances going private through a minority freeze-out is only
temporary (id. at 731). As illustrated in Cox, buy-outs are frequently followed
after a few years with a need of additional cash infusion through resort to the
public capital markets (879 A2d at 607). Professor Lowenstein describes these
practices as a "revolving door" (Lowenstein, 85 Col L Rev at 764). "However
these pluses and minuses add up, the newly private firms are inherently unstable
marriages of convenience. In three to five years . . . there are powerful
40
pressures on all concerned—managers, investment bankers, lenders, and
investors—to sell the firm, either as a whole or, by a public offering, in part"
(id. at 731). Ultimately, Professor Lowenstein found, "[d]espite the premium
over market price, it was difficult to find in an MBO any gains in productivity
or other value added" (id. at 734).
All of the foregoing factors showing waste and social and economic costs
are either not recognized or not addressed, either by law and economics
theorists or their judicial adherents on the Delaware bench. Also all but ignored
by the Delaware courts is the venerable fiduciary duty that controlling
shareholders owe to minority shareholders. New York, in the Alpert case
following the teachings of Chief Judge Cardozo in Meinhard v Salmon (249 NY
at 464) on the fiduciary duties of parties in business relationships ("the punctilio
of an honor the most sensitive"), required corporate controllers seeking the
freeze-out of minority shareholders to show both fair dealing, i.e., the
"procedural fairness of the transaction" (Alpert, 63 NY2d at 570), and fair
price, i.e., fair "financial remuneration" to minority shareholders for the loss of
their portion of the intrinsic value of the company (id. at 571).
MFW represents the culmination of the Delaware courts' dilution of the
fiduciary duty of controllers to act with entire fairness toward minority
41
shareholders in freeze-out transactions. Controllers may act with the sole
purpose of eliminating minority interests. Despite having the insider's
advantage of "informational asymmetry" over both minority shareholders and
independent directors serving on a special committee (Stevelman, 62 Bus Law
at 874), controllers no longer have the burden of proving entire fairness once
they have obtained approval from a less informed special committee with
limited options, and a majority of minority shareholders (who vote based on
proxy materials prepared by the controllers). Once that dual ratification has
been accomplished, aggrieved minority shareholders are faced with dismissal
under the business judgment rule for failure to plead specific facts showing
some procedural defect in achieving the dual ratification.
To make matters worse, minority challengers must bear that burden
despite their lack of access to the inner-workings of such ratification (see MFW,
88 A3d at 645). The Delaware courts are not receptive to exploration of such
inner workings. Thus, for example, board of directors special committee
members are presumed to be independent despite long-standing close social and
business ties to the controller. Any inquiry into how such ties might have
affected negotiations is foreclosed, absent proof that the director is "beholden"
to the controlling party, or "so under [the controller's] influence that the
42
[directors] discretion would be sterilized" (MFW, 88 A3d at 648-649 [internal
quotation marks and citations omitted]).
In short, a controller's fiduciary duty toward minority shareholders in
freeze-outs under current Delaware law comes down to setting up an ostensibly
"empowered" negotiating partner to join in a bargaining process where the
controller has powerful strategic advantages that can be freely employed
without reference to any fiduciary duties. Normative, moral and ethical
concerns (such as those of Judge Cardozo, which have guided New York
jurisprudence for almost a century) have been largely subordinated in Delaware
to the "optimal . . . creation of wealth" (MEW Shareholders Litig., 67 A3d at
528), "and efficiency for the economy in general" (Cox, 879 A2d at 646).
We urge this Court not to follow the Delaware lead, but instead adhere to
the values reflected in Alpert v 28 Williams Street Corp.
43
III. THE APPELLATE DIVISION'S DECISION SHOULD BE
REVERSED, BOTH BECAUSE IT ERRONEOUSLY
CONCLUDES THAT THIS COURT'S ALPERT RULE DOES
NOT APPLY TO "GOING-PRIVATE" FREEZE-OUTS, AND
BECAUSE IT GOES EVEN FURTHER THAN MFW TO
EXPOSE MINORITY SHAREHOLDERS TO ABUSE BY A
CONTROLLER.
A. The Appellate Division's decision erroneously concludes
that this Court's Alpert rule requiring entire fairness
review does not apply to controlling shareholder-
initiated "going-private" freeze-out transactions.
The Appellate Division decision badly misinterprets the central meaning
and scope of this Court's decision in Alpert when it concludes that "the motion
court was not required to apply the 'entire fairness' standard to the transaction
by which Mr. Cole . . . took the Company private" (In re Kenneth Cole Prods.,
Inc., Shareholder Litig., 122 AD3d 500, 500 [1st Dept 2014]). In reaching this
conclusion, the Appellate Division notes that the Alpert Court recognized that
"corporate freeze-outs of minority interests by mergers occur principally in
three distinct manners: (1) two-step mergers, (2) parent/subsidiary mergers, and
(3) 'going-private mergers' where the majority shareholders seek to remove the
public investors" (Kenneth Cole, Shareholder Litig., 122 AD3d at 500, quoting
Alpert, 63 NY2d at 567 n 3, quoting in turn Brudney & Chirelstein, 87 Yale LJ
at 1355-1356). Alpert involved a two-step merger freeze-out transaction, and
this Court noted that fiduciary standard owed to minority shareholders may
44
require "different protections for the minority and varying notions of fairness"
in different types of freeze-out transactions, "[d]ue to differences in the 'relative
danger[s] of abuse and on the social value[s] of the objective served by the
elimination of the minority interest' (Alpert, 63 NY2d at 567 n 3, quoting
Brudney & Chirelstein, 87 Yale LJ at 1359).
The Appellate Division here erroneously took this statement in Alpert to
mean that minority freeze-out transactions other than two-step mergers were not
encompassed within this Court's holding applying the entire fairness standard.
That reading of Alpert is simply wrong. The error is demonstrated both by the
plain language of Alpert and the Yale Law Journal article on which it relies.
This Court's holding in Alpert was absolutely clear: "In reviewing a
freeze-out merger, the essence of the judicial inquiry is to determine whether
the transaction, viewed as a whole, was 'fair' as to all concerned," and this
entire fairness review must include both "a course of fair dealing toward the
minority holders" and "a fair price for the minority's stock" (Alpert, 63 NY2d
at 569 [emphasis supplied; internal quotation marks and citations omitted]).
Given this Court's recognition — in the same decision — that there are three
varieties of "freeze-out mergers," there can be no serious question that Alpert's
45
unqualified holding that all freeze-out mergers must, at a minimum, be
reviewed for entire fairness applies to all three types.
Moreover, a review of the Yale Law Journal article relied upon by the
Alpert Court for this precise point confirms that the Court was not suggesting a
lower fairness standard for "going-private" freeze-outs — if anything, the Court
was suggesting that the conduct necessary to establish entire fairness in the case
of a "going-private" freeze-out would be more rigorous. The Yale Law Journal
article characterized "going-private" transactions as having the highest potential
of the three types of freeze-outs for "unpoliceable abuse" and an "absence of
social benefit" (Brudney and Chirelstein, 87 Yale LJ at 1368). Indeed, based on
the very high potential for abuse and lack of economic benefit to the business
enterprise, the article took the position that going-private freeze-outs should be
subject to a "flat prohibition" (id. at 1369). Thus, when the Alpert Court cited
the Brudney and Chirelstein Yale Law Journal article to support the notion that
"different protections for the minority and varying notions of fairness" in
different types of freeze-out transactions (63 NY2d at 567 n 3), it plainly meant
that, if anything, higher fiduciary requirements would apply to going-private
freeze-outs like the one in this case. In any event, there can be no doubt that,
contrary to the Appellate Division's reading, Alpert established entire fairness
review as the minimum standard for all minority freeze-out transactions.
46
B. The Appellate Division decision, if adopted by this
Court, would go even further than Delaware's MFW case
did to expose minority shareholders to abuse by a
controller.
For the reasons stated in Point II above, the Court should reject the
respondents' arguments that New York should adopt the Delaware Supreme
Court's decision in MFW as a new, far more deferential standard for review of
minority freeze-out transactions in New York. An affirmance of the Appellate
Division decision in this case, however, would do even more than MFW to
damage and undermine New York's tradition of applying strict fiduciary duty
doctrine to protect minority shareholders.
The MFW decision, for all its many flaws, nonetheless made clear that
the business judgment standard would only apply where a specific set of fact-
specific conditions could all be established:
"[T]he business judgment standard of review will be applied
if and only if.• (i) the controller conditions the procession of
the transaction on the approval of both a Special Committee
and a majority of the minority stockholders; (ii) the Special
Committee is independent; (iii) the Special Committee is
empowered to freely select its own advisors and to say no
definitively; (iv) the Special Committee meets its duty of
care in negotiating a fair price; (v) the vote of the minority
is informed; and (vi) there is no coercion of the minority."
(MFW, 88 A3d at 645 [bold emphasis supplied; internal quotation marks and
citations omitted]). In other words, under MFW, business judgment rule review
47
will not be applied merely based on the use of an independent directors
committee and majority-minority shareholder approval mechanisms — rather, it
will only be applied where defendants make fact-specific showings that those
mechanisms were actually "effective" (id. at 646). In this regard, the MFW
decision also made clear that issues concerning the presence or absence of the
required conditions generally would be subject to discovery, so long as a low
pleading threshold were satisfied:
"If a plaintiff that can plead a reasonably conceivable set of
facts showing that any or all of those enumerated conditions
did not exist, that complaint would state a claim for relief
that would entitle the plaintiff to proceed and conduct
discovery. If after discovery, triable issues of fact remain
about whether either or both of the dual procedural
protections were established, or if established were effective,
the case will proceed to a trial in which the court will
conduct an entire fairness review."
(id. at 645-646 [emphasis supplied]).5
In sharp contrast, the Appellate Division's memorandum decision in this
case (which does not so much as cite to MFW) does not even consider applying
entire fairness. Rather, after concluding (erroneously) that this Court's Alpert
holding did not require entire fairness review for going-private mergers, the
Appellate Division merely notes that the merger here required approval by the
Indeed, the MFW court noted that, although the discovery record established the
conditions for business judgment rule review (which resulted in the post-discovery dismissal
affirmed by the court), the complaint in the case "would have survived a motion to dismiss
under this new standard" (MFW, 88 A3d at 645 n 14).
48
majority of the minority shareholders and that Mr. Cole had not participated
when the board voted on the merger, and then proceeds to apply business
judgment rule precedents without further discussion (Kenneth Cole,
Shareholders Litig., 122 AD3d at 500-501).
For example, in rejecting — on the pleadings — the plaintiffs' contention
that the members of the special board committee were controlled by Mr. Cole,
the Appellate Division quotes Delaware business judgment rule precedent
holding that "it is not enough to charge that a director was nominated by or
elected at the behest of those controlling the outcome of a corporate election"
(id. at 500-501, quoting Aronson v Lewis, 473 A2d 805, 816 [Del 1984],
overruled in part on other grounds Brehm v Eisner, 746 A2d 244, 253-254 [Del
2000]). The Aronson case had nothing to do with a minority freeze-out —
rather, Aronson addressed a business judgment rule issue concerning whether a
derivative action plaintiff had sufficiently pled that a pre-action demand to the
board of directors would have been futile (Aronson, 473 A2d at 808, 814-816
[holding that demand can only be excused where facts are alleged with
particularity which create reasonable doubt that directors' action was entitled to
protection of the business judgment rule]).6
6 Similarly, on this same point, the Appellate Division also cited Beam ex rel. Martha
Stewart Living Omnimedia, Inc. v Stewart (845 A2d 1040, 1052 [Del 2004] [addressing
49
The Appellate Division then makes an unexplained, conclusory finding
that "[t]he complaint's allegations that the proxy statement sent to the
Company's shareholders was incomplete and misleading were insufficient,"
again citing a case where deferential business judgment review was applied
outside the context of a minority freeze-out (Kenneth Cole, Shareholders Litig.,
122 AD3d at 501, citing Kimeldorf v First Union Real Estate Equity & Mtge.
Invs., 309 AD2d 151, 158 [1st Dept 2003]). Finally, the Appellate Division
concludes that "pre-discovery dismissal based on the business judgment rule
was appropriate since there are no allegations sufficient to demonstrate that the
members of the board or the special committee did not act in good faith or were
otherwise interested" (id. at 501 [citing business judgment rule cases that did
not involve minority freeze-out transactions]).
Thus, while the Appellate Division's memorandum decision is unclear, it
either (1) applied the business judgment rule review based solely on the fact
that the freeze-out transaction at issue was not a "two-step" merger (as in
Alpert), or (2) at most, applied business judgment review because Mr. Cole did
not vote as a board member on the transaction and a majority of the minority
shareholders approved it. Most importantly, if the Appellate Division decision
business judgment rule demand futility issue]), and Lerner v Prince, 119 AD3d 122, 130 [1st
Dept 2014] [addressing same issue; applying Delaware law]).
50
was based on the latter, it did so without any inquiry into whether those
mechanisms were actually effective to address and eliminate the "inherent
conflict" that this Court has recognized with respect to all controlling
shareholder-driven freeze-outs (Alpert, 63 NY2d at 570).
Application of the very deferential business judgment review standard in
this manner completely eviscerates New York's century-old tradition of
protecting minority shareholders from abuses by a controlling majority. In
place of the burden that entire fairness review places on the controlling
shareholders to affirmatively establish the fairness of both the
negotiation/approval process and the resulting price (Alpert, 63 NY2d at 569-
570), business judgment review rewards those same corporate defendants with
heavy presumptions in their favor (see Jones v Surrey Co-op. Apartments, Inc.,
263 AD2d 33, 36 [1st Dept 1999] [under business judgment rule, absent an
affirmative showing of bad faith or wrongdoing, "corporate directors are
presumed to be acting 'in good faith and in the exercise of honest judgment in
the lawful and legitimate furtherance of corporate purposes'], quoting
Auerbach v Bennett, 47 NY2d 619, 629 [1979]; 40 W. 67th St. v Pullman, 296
AD2d 120, 126 [1st Dept 2002] [same], affd 100 NY2d 147 [2003]; Aronson,
473 A2d at 812, 817 ["The business judgment rule is an acknowledgment of the
managerial prerogatives . . . . It is a presumption that in making a business
51
decision the directors of a corporation acted on an informed basis, in good faith
and in the honest belief that the action taken was in the best interests of the
company. . . . The burden is on the party challenging the decision to establish
facts rebutting the presumption"; complaint must "factually particularize[] any
circumstances of control and domination to overcome the presumption of board
independence"]). It hardly needs stating that, in practice, application of a
business judgment rule standard of review will reduce the likelihood of a
plaintiff's success to near zero.
The extreme consequences that would ensue if the Appellate Division's
decision were adopted as a new rule of law in New York are best demonstrated
by the outcome in this case. Specifically, the result of the Appellate Division's
summary application of the business judgment rule as the standard of review
was dismissal of the case on the pleadings, without any discovery in the face of
the following factual allegations supporting serious questions as to the fairness
of the Kenneth Cole minority freeze-out:
• Controlling shareholder Kenneth Cole, either directly or
indirectly, controlled the entire membership of the Board of
Directors, including those that served on the Special
Committee, and the Complaint contains substantial
allegations indicating that the Board routinely acquiesced to
Cole on issues including compensation and perks, among
other matters (Rec at 566-569) (compare the findings of
behavioral economics scholars on the docility of
"independent" directors, supra at pp. 35-38);
52
• Cole's initial $15 per share offer on February 23, 2012 was a
mere 15% premium over the prior day's unaffected stock
price (Rec at 572). Cole's offer of $15.00 per share actually
reflected a 3.27% discount to the Company's closing stock
price on February 24, 2012, and far less than market analyst
valuations, which had exceeded $20 per share (Rec at 573-
574);
• Because controlling shareholder Cole refused to consider
sale of the company to a third party, the Special Committee
was effectively prevented from seeking any outside offers,
against which 1\4r. Cole's original offer of $15 per share
could have been tested. When the Committee asked Cole to
reconsider, he flatly refused, leaving the committee only two
options — request a higher price from Cole, or simply reject
his offer (Rec at 63, 67-68, 69, 72 & 81, 562, 576). As a
result, the Committee's negotiating leverage was severely
impaired — it did not even attempt to determine what another
bidder might pay for the Company to use as negotiating
leverage against Cole (Rec at 577);
• It appears that the Special Committee did not even ask its
financial advisor, BofA Merrill Lynch, to provide a
preliminary range of fair value for the company. As a result,
the Special Committee had no basis from which to propose
its own higher price in response to Cole's original $15 per
share offer, and never, in fact, proposed a specific higher
price that it considered to be the company's fair value.
Instead, the committee generally asked Cole to increase his
offer. BofA Merrill Lynch was then utilized solely to
provide an opinion confirming that Cole's "final" $15.25 per
share offer was "fair" to justify the Committee's
recommendation that it be accepted (Rec at 55 & 83);
• On March 27, 2012, the Special Committee reviewed the
Company's projections for 2012-2014 that management had
prepared (the "March Projections"). The Special Committee
determined that the March Projections were reasonable, but
53
did not use them as leverage to negotiate a higher offer from
Cole (Rec at 578).
• When the Special Committee met on April 24, 2012,
management informed it that the Company would modestly
miss quarterly revenue forecasted in the March Projections.
Rather than deciding that such information was not material,
the Special Committee demanded that management revise
the March Projections downward, thereby undermining its
own negotiation position and justifying a lower price for
buying out minority shareholders (Rec at 70, 578);
• On April 24, the Special Committee also learned that the
Company's principal real estate asset had a valuation of
approximately $42 million, and that the Company possessed
approximately $40 million in excess cash. The Special
Committee did not attempt to use these facts as negotiating
tools to get Cole to increase his offer. Instead, the Special
Committee waited for the Company's management to
provide the revised and lowered projections they had
demanded, which further diminished its negotiating leverage
(Rec at 70-71, 578);
• After receiving the downwardly-revised May projections,
the Committee started to "negotiate" with Cole in late May,
but did not demand any specific price. Instead, it simply
told Cole that an offer higher than $15 per share would be
required (Rec at 73, 579).
• Cole increased his offer $1 to $16 per share on May 27,
2012. After the Committee asked for $16.50, Cole
communicated on Thursday, May 31 that $16 was "best and
final." He then withdrew that $16 offer and reverted back to
$15 only two business days later on Monday, June 4, based
on a series of conclusory and plainly pretextual excuses,
including a "slowdown" in the company's operations,
"problems" in the European economy that, "in Mr. Cole's
view," could spread to the United States, a single
unemployment report issued by the U.S. government, and a
54
decline in the U.S. stock market the prior week (Rec at 74,
562, 577-579). After the Committee asked Cole to
reconsider, he communicated the next day (June 5) that his
"final" offer was $15.25 (Rec at 75).
• That same day, June 5, 2012, the Special Committee asked
BofA Merrill Lynch for an opinion as to the fairness of the
$15.25 per share offer. BofA Merrill Lynch then provided
an immediate oral opinion to the Special Committee (that
same day) confirming the 'fairness" of $15.25 per share
(Rec at 76). The Committee then immediately adopted a
resolution recommending that the full Board approve the
freeze-out merger at $15.25 per share (id). After three and
one-half months of "negotiation," the Special Committee
had ultimately obtained a 25 cent increase representing only
1.66% more than the controller's initial $15 per share offer.7
Those factual allegations, which fully demonstrate the inherent leverage
and resulting bias against the interests of minority shareholders in freeze-out
transactions, would unquestionably state a claim for relief requiring discovery
under the Alpert entire fairness standard. If the Appellate Division ruling is
adopted by this Court as the law of New York, however, application of the
business judgment will erect an effectively insurmountable barrier to justice for
the same minority shareholders that the common law tradition of this State has
protected for over a century. The inevitable result will be that potential
7 Moreover, as alleged in the Complaint, the price negotiated by the Special Committee
did not adequately account for the Company's $55 million in net operating loss
carryforwards and other deferred tax assets, which will allow the Company to shield future
income and will significantly enhance the Company's cash flow after going private (Rec at
583).
55
investors — including investors that manage institutional funds like the Eastern
New York Laborers' District Council that manage institutional funds — may be
driven away, for fear that the Courts of New York will offer them no protection
against controlling shareholder abuse.
This Court should reject any such result as directly contrary to the long-
standing policy and tradition of New York's common law. The entire fairness
standard set forth in Alpert should be reaffirmed as applicable to all minority
freeze-out transactions in New York, and the Appellate Division's decision
should be reversed.
CONCLUSION
For all the foregoing reasons, the Eastern New York Laborers' District
Council, as amicus curiae, urges this Court to reverse the Appellate Division
decision in its entirety, and reaffirm the continued applicability of the entire
fairness review standard for all controlling shareholder-initiated minority
freeze-out transactions.
56
Dated: Albany, New York
February 4, 2016
WHITEMAN OSTERMAN & HANNA LLP
By:
Howard A. Levine
Alan J. Goldberg
One Commerce Plaza
Albany, New York 12260
(518) 487-7600
(518) 487-7777 (facsimile)
HACH ROSE SCHIRRIPA &
CHEVERIE LLP
Frank R. Schirripa, Esq.
185 Madison Avenue, 14th Floor
New York, New York 10016
(212) 213-8311
(212) 779-0028 (facsimile)
Counsel for Eastern New York Laborers'
District Council, Amicus Curiae
57
4845-4125-3165, v. 1