In re TIBCO: Court of Chancery Declines to Reform Merger Terms or Enjoin Vote Due to Share-count Error

Practical Law Legal Update 2-591-2686 (Approx. 6 pages)

In re TIBCO: Court of Chancery Declines to Reform Merger Terms or Enjoin Vote Due to Share-count Error

by Practical Law Corporate & Securities

Background

The case arises out of the merger agreement dated September 27, 2014, for the acquisition of TIBCO Software Inc. by affiliates of private equity firm Vista Equity Partners. For a summary of the merger agreement, see What's Market, Vista Equity Partners/TIBCO Software Inc. Merger Agreement Summary.

In the weeks leading up to the signing, the special committee of the board of TIBCO conducted a robust sale process with the assistance of its financial advisor Goldman Sachs to obtain the highest price reasonably available for the company. During this process, on August 15, 2014, Goldman circulated a capitalization table to the bidders to help them assess the total purchase price for the company. This table contained a critical error in the share count of TIBCO. The table did not list a single, total number of fully diluted shares of TIBCO stock, but rather, separately listed the total number of shares of common stock outstanding and the number of options and award shares outstanding. Crucially, approximately 4.3 million unvested restricted shares were listed on the table in the latter group, even though they were included in the counting of outstanding common shares. Consequently, these restricted shares were double-counted as both outstanding award shares and outstanding common shares. This error remained undiscovered throughout the negotiations between Vista and TIBCO and was repeated in two subsequent drafts of the capitalization table. Even as a third version of the table became necessary because of the finding of a different error in the share count, the double-counting error remained undetected until after the deal was signed.

Vista ultimately won the auction with a $24.00 per share bid. Based on the share count that informed the parties' understanding, the $24.00 per share consideration implied an equity value of $4.244 billion and enterprise value of approximately $4.3 billion. The correct values, however, would be $100 million below those figures. The record after expedited discovery made clear that Vista understood the value of the deal to be the higher amounts, as evidenced by:

The break-up fee in the merger agreement, which was negotiated as 2.75% of $4.244 billion.
The sponsor's $275.8 million limited guaranty, which represented 6.5% of the $4.244 billion value.
A spreadsheet attached to the equity commitment letter that explicitly equated the $24.00 per share price to an equity value of $4.244 billion.
TIBCO's post-signing press release announcing the deal, which Vista reviewed, and which announced that the stockholders would receive a total of approximately $4.3 billion.
The deposition of Vista's chief operating officers, who admitted that he felt "pleasure" at the news of the share-count error, as it amounted to $100 million of found money for Vista.

Nevertheless, the merger agreement only referenced the per-share price and did not list a total purchase price or an implied equity value. Moreover, the capitalization representation in the merger agreement contained the correct numbers of outstanding shares and outstanding options and awards.

The parties continued to make statements after the signing to the effect that the deal was worth $4.3 billion, until a Goldman employee noticed the error in a draft of the proxy statement circulated among the parties on October 5. When the error was brought to its attention, the TIBCO board met to consider its options. The board did not know whether or not Vista had relied on the incorrect share number in reaching its $24.00 per share bid, and although Goldman became aware that Vista had in fact relied on the share number, that information was not shared with the TIBCO board. The board at that point considered four courses of action:

Attempt to renegotiate the per-share purchase price with Vista.
Pursue the matter further with its financial advisor.
Reconsider its recommendation in favor of the merger.
Proceed with the merger at the $24.00 per share price.

Ultimately, the board decided not to seek a modification of the per-share price and also did not change its recommendation to the TIBCO stockholders to vote in favor of the merger. The board did include a description of the error in its proxy statement, alerting the TIBCO stockholders to the issue, and proceeded with the merger. To explain why the board did not reach out to Vista to discuss amending the agreement, one TIBCO director testified that the board's view was that because the capitalization representation in the merger agreement was correct, the board had no basis to ask Vista for more money. According to the director, the board felt that asking to amend the price would reopen the entire agreement.

At a board meeting after the board learned of the error, Goldman made a presentation at which it described the economic impact of the error, but affirmed its opinion that the $24.00 price per share was fair from a financial point of view. However, the preliminary record suggested that no director asked Goldman how the error was made, whose fault it was, whether Goldman had discussed the overstated share count with Vista or whether Vista should or would pay the difference. The board ultimately determined to give its recommendation for the merger and included a description of the error in its proxy statement to alert the TIBCO stockholders (and the financial media) to the issue.

After news of the error made headlines, a stockholder of TIBCO filed a motion to enjoin the stockholder vote on the merger agreement until an expedited trial could be held on his argument to reform the per-share consideration in the merger agreement from $24.00 to $24.58. The stockholder added a theory at oral argument that the vote should be enjoined because of the board's breach of its fiduciary duties in the way it reacted to news of the error, and that proceeding to closing would irreparably harm the stockholders. In this regard, the plaintiff did not challenge the sales process or the disclosures in the proxy statement (the typical allegations in a Revlon claim), but the board's failure to obtain the best price reasonably available by not attempting to reform the merger agreement.

Outcome

The Court declined to grant a preliminary injunction, finding that the stockholder failed to demonstrate:

A reasonable probability of proving by clear and convincing evidence that Vista and TIBCO had agreed that the merger would be consummated at an aggregate equity value of $4.244 billion.
The existence of irreparable harm if the stockholders' meeting were to be held as scheduled.

Reformation Not Warranted

In reviewing the plaintiff stockholder's demand for a trial on reformation, the Court applied the analytical framework used by the Delaware Supreme Court in Cerberus International, Ltd. v. Apollo Management, L.P., the leading Delaware case on reformation. Under Cerberus, "the plaintiff must show by clear and convincing evidence that the parties came to a specific prior understanding that differed materially from the written agreement" (794 A.2d 1141, 1151-52 (Del. 2002)).

The plaintiff stockholder's main argument was that a rational and sophisticated bidder would not make an offer without first calculating its total exposure under the terms of the deal. According to the plaintiff, the $24.00 per share offer necessarily meant that Vista was willing to enter into a deal with a total aggregate equity value of $4.244 billion, based on the incorrect share count discovered only later. The plaintiff also pointed to evidence of Vista's then-understanding of the deal value, such as the break-up fee, limited guaranty, equity commitment letter and press release.

Vista countered that the only agreement between it and TIBCO that can be supported on the record was the economic term included in the merger agreement. This was the $24.00 per share consideration, which was correctly memorialized in the contract. The expectation of how that per-share amount would operate practically could not overtake the parties' recorded agreement, which contained no errors.

In applying Cerberus, the Court explained that to succeed on his reformation claim, the plaintiff would need to show that:

Vista thought the merger would be consummated at an aggregate equity value of $4.244 billion.
TIBCO thought the merger would be consummated at an aggregate equity value of $4.244 billion.
Vista and TIBCO specifically agreed that the merger would be consummated at an aggregate equity value of $4.244 billion.

The Court held the plaintiff had demonstrated a reasonable probability of proving by clear and convincing evidence that the first two elements were satisfied, but that the plaintiff failed to satisfy the third element. In reaching its holding, the Court acknowledged the reality that Vista's final per-share bid reflected an expectation of a $4.244 billion equity value and that TIBCO's board adopted the merger agreement with the understanding that $24.00 per share reflected a $4.244 billion equity value.

The Court determined, though, that the plaintiff did not demonstrate a reasonable probability that Vista and TIBCO specifically agreed that the merger would close at an aggregate equity value of $4.244 billion. The Court pointed to the fact that the economic term offered by Vista, and the economic term accepted by TIBCO, was expressed in terms of dollars per share and not in terms of aggregate equity value. In addition, the parties understood that the exact number of fully diluted shares was a "moving target" that would not be set until a definitive agreement was reached. Significant for the Court was the fact that the merger agreement did not include a provision allowing for an adjustment in the per-share price in proportion to any change in the share count after signing. Instead, the allocation of risk for any shift in the number of shares was reflected through the merger agreement's representations and warranties, closing conditions and termination rights, which provided for a termination right if any inaccuracies in the capitalization representation exceeded $10 million.

No Irreparable Harm Due to Breach of Fiduciary Duty with Stockholder Vote

The Court also rejected the plaintiff's argument that the stockholder vote should be enjoined because of the board's alleged breach of fiduciary duty. The plaintiff argued that the board had breached its duty of care by failing to seek a higher per-share price from Vista after the discovery of the share-count error, which would have prevented the $100 million shortfall for the stockholders. The plaintiff also argued that the stockholders would suffer an irreparable harm because of the exculpatory effect of DGCL Section 102(b)(7) for monetary damages for a breach of the duty of care. The TIBCO board disagreed, arguing that the balance of equities weighed against issuing an injunction because delaying the vote would mean that TIBCO would have to release its revenue and earnings figures. Because TIBCO had previously failed to meet Wall Street expectations in the prior two quarters, delaying the vote could present a risk to TIBCO stockholders.

The Court acknowledged that the plaintiff had raised serious questions, here involving flaws in the sales process flowing from breakdowns in communication. However, the Court still held that a preliminary injunction was not warranted, because TIBCO's stockholders were informed of the error that had occurred with the share count and therefore could make an informed decision about whether to vote to approve the merger agreement or not. Further, the Court noted that the stockholders would not suffer irreparable harm because the damages were easily quantifiable in the amount of the $100 million shortfall resulting from the incorrect share count.

Practical Implications

As the Court emphasizes in its remarks toward the end of its opinion, the TIBCO decision highlights above all that "precision is critical in conducting a corporate sale process." The error at the heart of the case is a $100 million oversight that, though it originated with the financial advisor, probably could and should have been caught before the signing by someone working on the deal. The confusion that reigned after the error's discovery as to when the necessary parties were alerted to the error also does not inspire much confidence in the process.

Although the plaintiff did not succeed in its effort to win an injunction, TIBCO is still a useful reminder that the board's Revlon duties do not relate only to the pre-signing process. Here the plaintiff acknowledged that the board had secured the highest reasonably obtainable bid, yet it still has a viable post-closing claim of breach of fiduciary duty because "a significant open question lingers concerning the basic competence with which the mechanics of the bid process were handled." Moreover, even if the directors themselves are ultimately exculpated for the breach because of TIBCO's Section 102(b)(7) provision in its certificate of incorporation, the financial advisor remains vulnerable to a claim of aiding and abetting that breach. This is another example of the application of the Rural/Metro decision, as noted by the TIBCO court (In re Rural Metro Corp. S'holders Litig., 88 A.3d 54, 99-103 (Del. Ch. 2014)).

In re TIBCO: Court of Chancery Declines to Reform Merger Terms or Enjoin Vote Due to Share-count Error | Practical Law