Muddy employee incentive issues in a disappointing exit: nine practical tips for public company acquirers

By Ed Batts

In mediocre pay-out situations, transaction proceeds are unlikely to give a substantial (if any) return to common stockholders, yet may be sufficient to at least return the initial investment, and perhaps a liquidation premium, to preferred stockholders. In such a scenario, the practical implementation of fiduciary duties for privately held boards has historically been somewhat murky.

Prior to 2013, many issues generally surrounded liquidation pay-outs to preferred investors when allocated among various series of preferred investments, whether structured as bridge notes that attached large additional preferences or as a pay-to-play, which immediately diluted non-participating legacy stockholders at the time of a bridge financing.

The 2013 In Re: Trados, Incorporated Shareholders Litigation case in Delaware renewed attention on this area by applying the rigorous ‘entire fairness’ legal review standard to a board’s actions when it was unclear that a board was zealously evaluating the impact of decisions on all stockholders, as opposed to just preferred stockholders. The entire fairness standard, first set forth in the decision in Weinberger v UOP Inc in 1983, requires the board (and not the plaintiffs) to prove that both a fair process and fair price were obtained for the stockholders. Although the Trados board happened to prevail on its particular facts, this rigorous standard highlights Delaware’s ongoing concerns in this context…

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