stating that shareholders generally “cannot pursue individual causes of action against third parties for wrongs or injuries to the corporation that result in the diminution or destruction of the value of their stock”
How later courts described this case
- stating that shareholders generally “cannot pursue individual causes of action against third parties for wrongs or injuries to the corporation that result in the diminution or destruction of the value of their stock”
- stating that the “judgment of the directors must be measured on the facts as they existed [when they acted]”
- refusing to grant injunctive relief as to directors’ approval of a “lock- up” option where the provision was a “necessary prerequisite” to the suitor making its tender offer
- applying Delaware’s version of the business judgment rule
Written by the judges who cited it.
The opinion
Ehrenhaus v. Baker, 2008 NCBC 20.
STATE OF NORTH CAROLINA IN THE GENERAL COURT OF JUSTICE
SUPERIOR COURT DIVISION
COUNTY OF MECKLENBURG CIVIL ACTION NO: 08 CVS 22632
IRVING EHRENHAUS, On Behalf of Himself
and All Others Similarly Situated,
Plaintiff,
v.
JOHN D. BAKER, II, PETER C. BROWNING,
JOHN T. CASTEEN, III, JERRY GITT,
WILLIAM H. GOODWIN, JR., MARYELLEN ORDER & OPINION
C. HERRINGER, ROBERT A. INGRAM,
DONALD M. JAMES, MACKEY J.
MCDONALD, JOSEPH NEUBAUER,
TIMOTHY D. PROCTOR, ERNEST S. RADY,
VAN I. RICHEY, RUTH G. SHAW, LANTY L.
SMITH, G. KENNEDY THOMPSON, DONA
DAVIS YOUNG, WACHOVIA
CORPORATION and WELLS FARGO &
COMPANY,
Defendants.
Greg Jones & Associates, P.A. by Greg Jones and Wolf Popper LLP by Robert
M. Kornreich, Chet Waldman and Carl L. Stine for Plaintiff.
Robinson, Bradshaw & Hinson, P.A. by Robert W. Fuller, Mark W. Merritt,
Garland S. Cassada, and Katherine G. Maynard for Defendants John D.
Baker, II, Peter C. Browning, John T. Casteen, III, Jerry Gitt, William H.
Goodwin, Jr., Maryellen C. Herringer, Robert A. Ingram, Donald M. James,
Mackey J. McDonald, Joseph Neubauer, Timothy D. Proctor, Ernest S. Rady,
Van I. Richey, Ruth G. Shaw, Lanty L. Smith, G. Kennedy Thompson, Dona
Davis Young and Wachovia Corporation.
Hunton & Williams LLP by T. Thomas Cottingham, III, Patrick L. Robson,
and Edward J. Fuhr; Wachtell, Lipton, Rosen & Katz by Paul K. Rowe and
George T. Conway, III; and Friedman Kaplan Seiler & Adelman LLP by Eric
Seiler for Defendant Wells Fargo & Company.
Diaz, Judge.
I.
INTRODUCTION
{1} Before the Court is Plaintiff’s Motion for Preliminary Injunction pursuant
to Rule 65 of the North Carolina Rules of Civil Procedure (“the Motion”).
{2} The Motion presents the following question for decision: Whether Plaintiff
has demonstrated a likelihood of success on the merits of his claim that the
individual Defendants named in this action, all of whom serve on the board of
directors of Defendant Wachovia Corporation (collectively the “Board”), breached
their fiduciary duties to the company’s shareholders when they approved a Merger
Agreement with Defendant Wells Fargo & Company (the “Merger Agreement”) that
provides substantial value to Wachovia shareholders and offered immediate
liquidity to Wachovia Corporation at a time of severe economic distress, but that
also:
(1) includes a separate Share Exchange agreement that grants Wells
Fargo & Company 39.9% of the votes to be cast on the Merger Agreement
and prohibits Wachovia Corporation from redeeming those shares for
eighteen (18) months following a vote on the Merger Agreement; and
(2) requires the Board to put the Merger Agreement to a vote even if a
superior proposal materializes during the interim (the so-called “limited
fiduciary out” clause).
{3} In answering this question, I do not decide the acumen of the business
judgments and strategic decisions made by the Board or Wachovia Corporation’s
executive officers in expanding the company’s banking franchise during the years
preceding the current crisis in the capital markets.
{4} Nor do I review the merits of the U.S. government’s seemingly ad hoc
choices in picking winners and losers among financial institutions over the past
several months.
{5} Plaintiff’s Complaint also does not ask me to determine the enforceability
of the various employment agreements between Wachovia Corporation and its
executive officers that, should the Merger Agreement be approved, may result in
payments to these officers totaling over $98 million. 1
{6} As to the question presented by Plaintiff, and after considering the Court
file, the Motion, the briefs and supporting materials of the parties, and the
arguments of counsel, I am satisfied that the Board’s approval of the Merger
Agreement was an informed decision, made in good faith, and with an honest belief
that the action was in the best interests of Wachovia Corporation and its
shareholders, given the circumstances then facing the Board. Accordingly, with one
exception, I find no basis for reversing the Board’s business judgment.
{7} I do, however, find merit in Plaintiff’s claim that the eighteen (18)-month
“tail” on Wells Fargo & Company’s almost 40% voting power, which survives even in
the event of a vote against the Merger Agreement, is an impermissible abrogation of
the Board’s duty to the Company.
{8} Accordingly, the Court shall GRANT Plaintiff’s request to preliminarily
enjoin enforcement of that provision pending the resolution of this action. In all
other respects, however, Plaintiff’s Motion is DENIED.
II.
PROCEDURAL BACKGROUND
{9} On 14 October 2008, Plaintiff filed a purported class action on behalf of
himself and all other public shareholders of Defendant Wachovia Corporation
(“Wachovia” or the “Company”). 2
1 I have received over 200 letters and e-mails from public officials, Wachovia Corporation
shareholders, and others regarding this case, all of which have been placed in the public court file.
In addition, the Charlotte Observer editorial board has weighed in on the controversy. See Let
Shareholders Have Their Say on Wells Deal, Charlotte Observer, Nov. 26, 2008,
http://www.charlotteobserver.com/408/story/376669.html. It is fair to say that the overwhelming
sentiment in this correspondence has been against approval of the Merger Agreement. Many of
these missives, however, rain their displeasure on issues that, like those I have noted above, are not
properly before me. In any event, this is a court of law, not of public opinion. Accordingly, while I
have read each submission, they form no part of my decision.
2 The term “public shareholders” refers to those Wachovia shareholders unaffiliated with Wells
Fargo & Company, the Board, or the Company’s management.
{10} The Complaint alleges that: (1) Wachovia and its Board breached their
fiduciary duties toward the public shareholders in connection with the Merger
Agreement; and (2) Wells Fargo & Company (“Wells Fargo”) aided and abetted in
this breach of fiduciary duties. (Compl. ¶¶ 26–51.)
{11} Plaintiff’s Complaint seeks preliminary and permanent injunctive relief or,
in the alternative, rescission of the merger, if consummated, and money damages.
(Compl. Prayer for Relief ¶¶ 2–5.)
{12} On the same day that he filed his Complaint, Plaintiff also filed the
Motion.
{13} Pursuant to a briefing schedule set by the Court, Plaintiff filed a brief in
support of the Motion on 10 November 2008.
{14} The individual Defendants and Wachovia filed a response brief on 17
November 2008.
{15} Also on 17 November 2008, Wells Fargo filed a response brief.
{16} Plaintiff filed a reply brief on 21 November 2008.
{17} With the Court’s consent, Wachovia filed a sur-reply on 23 November 2008.
{18} The Court heard oral argument on the Motion on 24 November 2008.
III.
THE FACTS
A.
THE PARTIES
{19} Plaintiff is, and has been at all relevant times, the owner of shares of
Wachovia common stock. (Compl. ¶ 2.)
{20} Wachovia is a North Carolina corporation with its principal office located
in Charlotte, North Carolina. (Compl. ¶ 3.)
{21} As a financial holding company, Wachovia provides commercial and retail
banking services and other financial services in the United States and
internationally. (Compl. ¶ 3.)
{22} As of 30 September 2008, Wachovia was the fourth largest bank holding
company in the United States based on assets.3 See Top 50 Bank Holding
Companies Summary Page, http://www.ffiec.gov/nicpubweb/nicweb/Top50form.aspx
(last visited Dec. 2, 2008); see also Proxy Statement-Prospectus dated 21 November
2008, at 88 (hereinafter “Proxy Statement”) (asserting that Wachovia is now the
sixth largest bank holding company in the United States). 4
{23} Wells Fargo is a Delaware corporation, headquartered in San Francisco,
California. (Compl. ¶ 4; Proxy Statement 88.)
{24} Wells Fargo operates a financial services company in the United States
through its subsidiaries. (Compl. ¶ 4.)
{25} As of 30 September 2008, Wells Fargo was the fifth largest bank holding
company in the United States based on assets. See Top 50 Bank Holding
Companies Summary Page, http://www.ffiec.gov/nicpubweb/nicweb/Top50form.aspx;
see also Proxy Statement 88 (asserting that Wells Fargo is now the seventh largest
bank holding company in the United States).
{26} Wells Fargo is also the only U.S. bank to have the highest possible credit
rating from both Moody’s Investor Services and Standard & Poor’s Ratings Services.
(Proxy Statement 20.)
{27} The individual Defendants are (or have been) directors of Wachovia.
(Compl. ¶¶ 5–21.)
{28} Except for G. Kennedy Thompson (“Thompson”), the individual Defendants
are all outside directors. (Stine Aff. Mot. Prelim. Inj., Ex. L, at 5–9.) 5
3 Pursuant to Rule 201 of the North Carolina Rules of Evidence, the Court takes judicial notice of
this fact. See N.C.R. Evid. 201 (2007).
4 Wells Fargo submitted the Proxy Statement to the Court at the hearing; readers may find an
electronic copy at the North Carolina Business Court website,
http://www.ncbusinesscourt.net/TCDDotNetPublic/default.aspx?CID=2 (enter “Ehrenhaus” into the
“Search” field; click “08CVS22632” hyperlink; click “Filing of Wachovia Corporation’s Proxy
Statement of Nov. 21, 2008” hyperlink).
5 On 9 July 2008, Wachovia named Robert K. Steel as its new CEO and President. (Proxy Statement
28.) Steel’s predecessor (G. Kennedy Thompson) is a defendant in this case; Steel is not. It does not
appear that Thompson was a member of the Wachovia Board when it approved the Merger
Agreement.
B.
EVENTS LEADING TO THE MERGER AGREEMENT
{29} The Court’s 3 November 2008 Order and Opinion in this case summarized
(in very broad terms) the financial crisis engulfing the Company and the world
when the Board met on the evening of 2 October 2008 to consider the Merger
Agreement.
{30} Although not relevant to my decision here, many experts believe
Wachovia’s financial spiral was precipitated by market concerns regarding the
Company’s real estate mortgage portfolio and, in particular, the assets the
Company acquired as part of its $25.5 billion purchase of Golden West Financial
Corporation (“Golden West”), which, when combined with the maelstrom affecting
world markets, caused an extended run on Wachovia’s bank deposits. (Green Reply
Aff. Mot. Exped. Proc., Ex. A, at 2–3; see also Proxy Statement 28 (stating that
“[t]he credit quality of this portfolio has deteriorated significantly in the current
mortgage crisis”).)
{31} Due in part to losses projected in the Golden West mortgage portfolio, the
Company reported a loss of $9.1 billion for the second quarter of 2008. (Proxy
Statement 28.)
{32} Even before the Company’s announcement of its second quarter loss,
however, Wachovia’s increasingly poor financial performance had led the Board to
fire Thompson, who was then serving as the Company’s Chief Executive Officer.
(Proxy Statement 28.)
{33} For several months prior to 2 October 2008, the Board was monitoring the
troubled capital markets and considering strategic alternatives. (Young Aff. ¶ 3.) 6
{34} Between 7 September 2008 and the Board’s vote on the Merger Agreement,
the following events roiled the world financial markets:
• On 7 September 2008, the U.S. government seized control of mortgage
giants Fannie Mae and Freddie Mac;
6 The Board met nine times between 16 September 2008 and 2 October 2008. (Young. Aff. ¶ 5.)
• On 15 September 2008, Lehman Brothers Holdings, Inc. collapsed and
filed for bankruptcy;
• That same day, Merrill Lynch & Co. avoided the same fate by agreeing
to be acquired by Bank of America;
• On 16 September 2008, the U.S. government agreed to a multi-billion
dollar rescue plan for American International Group, Inc., (“AIG”),
which effectively wiped out the holders of AIG stock;
• On 25 September 2008, the Federal Deposit Insurance Corporation
(the “FDIC”) seized the banking assets of Washington Mutual, Inc.,
leaving its equity shareholders with nothing; and
• That same day, the U.S. House of Representatives rejected the initial
“bailout” plan proposed by the United States Department of the
Treasury for the nation’s financial system.
(Steel Aff. ¶ 3 7 ; Young Affidavit ¶ 3; Proxy Statement 29–30.)
{35} The Board had met previously by telephone on 16 September 2008 to
discuss the Company’s strategic options in light of the financial crisis. During that
meeting, management advised the Board that the Company had begun experiencing
liquidity problems as a result of the larger market troubles. (Proxy Statement 29;
Young Aff. ¶ 4.)
{36} The Board expressed its preference for the Company to remain an
independent entity and directed management to pursue options to achieve that end
(including raising capital and selling assets), but it also determined that the
difficult market conditions required the Company to explore a potential merger.
(Proxy Statement 29; Young Aff. ¶ 4.) 8
{37} On 20 September 2008, U.S. government officials expressed concern to the
Company’s management about Wachovia’s liquidity posture and encouraged the
7 The affidavit of Robert K. Steel is attached as Exhibit 1 to the affidavit of Mark W. Merritt, which
was filed in conjunction with Defendants’ Brief in Opposition to Plaintiff’s Motion for Expedited
Proceedings.
8 The Board retained top-flight financial and legal advisors to assist it in considering Wachovia’s
financial and strategic options. (Proxy Statement 29.)
Company to consider acquisition proposals from an unidentified third-party suitor.
(Proxy Statement 29.)
{38} Wachovia’s management initiated that process the next day when the
Company signed a confidentiality agreement with an unidentified financial
institution. 9 Those talks, however, broke off without an agreement. (Proxy
Statement 29.)
{39} On 25 September 2008, the combination of the seizure of Washington
Mutual by federal regulators and Congress’ rejection of the U.S. Treasury’s bailout
plan exacerbated Wachovia’s liquidity crisis and caused a precipitous decline in the
Company’s share price. 10 (Young Aff. ¶ 6.)
{40} The Board met by telephone the following day to discuss its options.
(Proxy Statement 31.)
{41} At that meeting, management informed the Board “that if a combination
with another partner could not be arranged by Monday, September 29, the FDIC
would place Wachovia’s bank subsidiaries in receivership.” (Proxy Statement 31;
see also Steel Aff. ¶ 19.)
{42} Over the weekend of 27–28 September 2008, Wachovia engaged in parallel
negotiations with Citigroup, Inc. (“Citigroup”) and Wells Fargo over terms of a
potential merger. (Proxy Statement 31.)
{43} Both suitors, however, were unwilling to move forward without
government assistance in the form of a loss-sharing arrangement. (Proxy
Statement 31–32.) Citigroup, moreover, was only willing to consider the acquisition
of the Company’s bank subsidiaries. (Proxy Statement 31; Steel Aff. ¶ 6.)
{44} On 28 September 2008, the FDIC notified the Company that, because the
potential failure of Wachovia posed a “systemic risk” to the banking system, it
intended to exercise its authority under federal law to force the sale of Wachovia to
9 The Company had also begun merger talks with another suitor on 17 September 2008. In addition,
on 20 September 2008, the Company began merger discussions with Citigroup Inc. and Wells Fargo.
(Proxy Statement 29.)
10 By 29 September 2008, Wachovia’s shares were trading at $1.84, down over 90% from their closing
price ten days earlier. (Merritt Aff., Ex. 3.)
another financial institution in an “open bank assisted transaction.” (Proxy
Statement 31; Steel Aff. ¶ 8.)
{45} Wachovia’s Board met again by telephone following the FDIC’s
pronouncement. (Proxy Statement 32.)
{46} Following that meeting, the Company’s management proposed an
alternative transaction to the FDIC in a bid to allow Wachovia to remain
independent. (Proxy Statement 32.)
{47} Specifically, Wachovia proposed that the FDIC provide guarantees on a
portion of Wachovia’s loan portfolio, in exchange for an equity stake in the
Company, and Wachovia’s pledge to move quickly to raise $10 billion in capital in a
public offering. (Proxy Statement 32.)
{48} The FDIC, however, rejected that proposal and declared instead “that
Citigroup would acquire Wachovia’s bank subsidiaries” with assistance from the
FDIC. (Proxy Statement 32.)
{49} On 29 September 2008, Citigroup and Wachovia signed what the Company
characterizes as a non-binding agreement-in-principle by which Citigroup would
acquire Wachovia’s bank subsidiaries. (Proxy Statement 32.)
{50} Under the terms of the Citigroup merger, Citigroup agreed to (1) acquire
the stock of Wachovia’s bank subsidiaries for $2.16 billion in cash and/or stock at
Citigroup’s election, and (2) assume approximately $53.2 billion of Wachovia’s debt.
(Proxy Statement 32.)
{51} The Citigroup merger would have left Wachovia as a stand-alone entity,
but with its principal businesses limited to its retail brokerage and mutual fund
operations. (Proxy Statement 32.) Additionally, the Citigroup merger would have
required the FDIC to “provide Citigroup with loss protection on a $312 billion
[Wachovia] loan portfolio,” on which Citigroup would absorb the first $30 billion in
losses and another $4 billion in each of the first three years. (Proxy Statement 32.)
{52} On 2 October 2008, Wells Fargo tendered a merger proposal to acquire all
of Wachovia’s assets without government assistance. (Proxy Statement 34.) 11
{53} The Merger Agreement is a stock-for-stock transaction by which each
share of Wachovia common stock will be converted into 0.1991 shares of Wells
Fargo common stock, a deal that was worth more than $15.1 billion to Wachovia’s
shareholders on 2 October. (Proxy Statement 75; Green Reply Aff. Mot. Prelim. Inj.,
Ex. M, at 1–2.)
{54} The Merger Agreement also provides for a separate share exchange
agreement (the “Share Exchange”), pursuant to which Wells Fargo agreed to
purchase ten (10) newly issued shares of Wachovia Series M, Class A Preferred
Stock, representing 39.9% of the Company’s aggregate voting rights, including the
right to vote on the approval of the Merger Agreement, in exchange for 1,000 shares
of Wells Fargo common stock. (Green Reply Aff. Mot. Exped. Proc., Ex. E; Proxy
Statement 85; Green Reply Aff. Mot. Prelim. Inj., Ex. N.) 12
{55} The Merger Agreement also prohibits Wachovia from soliciting alternative
acquisition proposals. (Proxy Statement 19, 81, A-20.)
{56} If the Board receives what it considers to be a proposal superior to the
terms of the Merger Agreement, it may negotiate with the third-party bidder but
may not withdraw from the Merger Agreement. In such case, the Board’s sole
option is to submit the Merger Agreement to the Wachovia shareholders without
recommendation, although it may communicate the basis for its lack of
recommendation to the shareholders. (Proxy Statement 81–82, A-20.)
11 Despite its initial hesitation to consider a merger proposal without government help, Wells Fargo
continued evaluating a merger with Wachovia following the FDIC’s announcement that it would
assist Citigroup with a merger transaction. (Proxy Statement 33.)
12 The Court notes that the North Carolina Shareholder Protection Act (the “Act”), requires the
affirmative vote of ninety-five percent (95%) of the voting shares of a corporation to approve a
business combination with any other entity if that entity is the beneficial owner, directly or
indirectly, of more than twenty percent (20%) of the voting shares of the corporation. N.C. Gen. Stat.
§ 55-9-02 (2007). Although it is unclear whether a merger with an entity owning more than 20% of
the voting power to approve the transaction (as distinguished from ownership of a similar percentage
of general voting shares) is covered by the Act, the point is moot because, as allowed by North
Carolina law, Wachovia has opted out of this requirement. See N.C. Gen. Stat. § 55-9-05 (2007);
Proxy Statement 121.
{57} The Board convened at 11:00 p.m. on 2 October 2008 to consider the
Merger Agreement. (Proxy Statement 34–35.)
{58} The Board was no doubt aware that the U.S. Senate had passed a revised
bailout bill the previous day, with the House slated to consider this new measure on
3 October 2008. (Stine. Aff., Exs. E–G.) 13
{59} The Board received advice from counsel regarding its obligations in the
face of the pending Citigroup merger. (Proxy Statement 35.)
{60} In that regard, the Board was aware that negotiations with Citigroup “had
proven to be extremely difficult, with Citigroup insisting on terms that raised
significant concerns about whether the surviving Wachovia entity would be solvent
and viable, even if a transaction with Citigroup could be finalized.” (Young Aff. ¶ 8.)
{61} The Board also understood that the Merger Agreement was
contingent upon [Wells Fargo] receiving a substantial voting interest
via the share exchange agreement that would not be subject to prior
shareholder approval in order to provide assurances to the market
regarding the completion of Wachovia’s acquisition by Wells Fargo and
a resulting mitigation in the uncertainty and instability then faced by
Wachovia.
(Proxy Statement 35; see also Young Aff. ¶ 10 (stating that Wells Fargo had
“insisted upon this voting power in order to provide confirmation to the market that
the merger could be closed, which was needed in order to prevent further
deterioration in Wachovia’s financial condition as a result of uncertainty”).)14
{62} The Board was further advised that the Merger Agreement did not (1)
include a “material adverse change” clause allowing Wells Fargo to withdraw its
proposal if Wachovia’s financial situation deteriorated further (unless the Company
files for bankruptcy or is placed in receivership), or (2) require payment of a break-
13 On 3 October 2008, Congress passed and the President signed The Emergency Economic
Stabilization Act of 2008 (the “EESA”), which authorizes the United States Department of the
Treasury to use appropriated funds to restore liquidity and stability to the U.S. financial system.
(Green Reply Aff. Mot. Prelim. Inj., Ex. O; see generally 12 U.S.C.S. § 5213 (LEXIS through
legislation of Oct. 22, 2008).) The Treasury Secretary retains broad discretion under the EESA to
determine when and how to use these funds to assist financial institutions. 12 U.S.C.S. § 5213.
14 The original share exchange contemplated a transfer of more than 50% of the total voting power,
which the Company negotiated down to 39.9%. (Young Aff. ¶ 10.)
up or termination fee should the merger not be consummated. (Proxy Statement
35, A-10; Young Aff. ¶ 10.)
{63} The Board inquired whether further negotiations with Wells Fargo would
be likely to yield more favorable terms, but the Company’s advisors counseled
against such negotiations under the circumstances, “particularly in light of the time
constraints imposed upon Wachovia.” (Young Aff. ¶ 10.)
{64} The Board’s financial advisors indicated that they expected to be able to
render an opinion that the exchange ratio contained in the Merger Agreement was
fair, from a financial point of view, to Wachovia shareholders. (Proxy Statement
35.) 15
{65} In considering the merits of the Merger Agreement, the Board “took into
account the current and recent stresses on Wachovia’s liquidity.” (Proxy Statement
36.)
{66} The Board determined that the Merger Agreement provided a “strategic
fit” with a company with a strong balance sheet that had managed to avoid the
negative impact of the crisis in the capital markets. (Proxy Statement 36.)
{67} The Board also understood that the Merger Agreement was a “change in
control” transaction that would result in (1) eleven of Wachovia’s executive officers
and the Board Chairman receiving vested stock option benefits totaling
approximately $2.5 million, as a group, and (2) ten (10) executive officers being
entitled to receive an aggregate amount of up to $98.1 million in severance
payments should they be terminated from their employment following approval of
the merger. (Proxy Statement 8.) 16
15 Those advisors later provided their opinions orally and in writing. (Proxy Statement 35, App. B &
C.)
16 Wachovia’s President and CEO Robert Steel, who also serves on the Wachovia Board (but is not a
defendant in this case), has no employment agreement with the Company and, thus, will receive no
severance payment should the merger close and his employment be terminated. (Augliera Aff. ¶ 4.)
In addition, Mr. Steel holds certain Wachovia stock options, all of which currently have no cash value
and will not have value until Wells Fargo common stock reaches certain price thresholds. (Augliera
Aff. ¶¶ 5–7.)
{68} The Board also was aware that the FDIC had rebuffed an earlier attempt
by Wachovia’s management to obtain government assistance to allow Wachovia to
remain a stand-alone entity. (Proxy Statement 40; see Proxy Statement 32.)
{69} Company management advised the Board that the FDIC was again
threatening to place Wachovia into receivership if a merger did not materialize with
either Citigroup or Wells Fargo by the end of the day on 3 October 2008, which in
turn would likely result in Wachovia shareholders receiving little or no value for
their equity. (Steel Aff. ¶ 19; Proxy Statement 35, 40.)
{70} After discussing the options available to them, the Board concluded that
the Merger Agreement “provided an opportunity for enhanced financial
performance and shareholder value” and that it was otherwise fair to, and in the
best interest of, Wachovia shareholders. (Proxy Statement 36, 35.) Accordingly, the
Board voted unanimously to approve it. (Steel Aff. ¶ 19; Proxy Statement 35.)
{71} On 3 October 2008, following the Board’s approval of the Merger
Agreement, Wachovia’s share price closed at $6.21, up from the prior day’s close of
$3.91. (Merritt Aff., Ex. 3.) Additionally, the public announcement of the Merger
Agreement immediately alleviated Wachovia’s liquidity crisis. (Young Aff. ¶ 11.)
{72} A few days after the Merger Agreement was executed, Wachovia posted a
loss of almost $24 billion for the third quarter of 2008. (See Wachovia 10-Q Report
for Third Quarter 2008.) 17
{73} On 12 October 2008, the Board of Governors of the Federal Reserve
System (the “Fed Board”) approved the Merger Agreement. (Merritt Aff. Mot.
Exped. Proc., Ex. 7.)
{74} The Fed Board acted quickly, noting that “the unusual and exigent
circumstances affecting the financial markets [and] the weakened financial
condition of Wachovia . . . justified expeditious action on [the Merger Agreement].”
(Merritt Aff., Ex. 7, at 2.)
17 The 10-Q Report is incorporated by reference at page 126 of the Proxy Statement. The Court takes
judicial notice of this public record.
{75} On 20 October 2008, the Company and Wells Fargo completed the Share
Exchange. (Proxy Statement 10.) Pursuant to an amendment to the Company’s
articles of incorporation, the Company issued ten (10) shares of Series M, Class A
Preferred Stock. (Green Reply Aff. Mot. Prelim. Inj., Ex. D.) The amendment
provides further that these shares may not be redeemed by the Company for
eighteen (18) months following the vote on the Merger Agreement, even if the
merger is not consummated. (Green Reply Aff. Mot. Prelim. Inj., Ex. D.)
{76} The Wachovia Board has set a special meeting on 23 December 2008 for
the Company’s shareholders to consider and vote on the Merger Agreement. (Proxy
Statement 3.)
{77} At that meeting, over 150,000 holders of Wachovia common stock (totaling
over 2 billion shares) will be entitled to vote on the Merger Agreement. (Proxy
Statement 22.)
{78} Approval of the Merger Agreement “requires the affirmative vote of a
majority of the . . . outstanding shares of Wachovia common stock and the Series M
Preferred Stock, voting together as a single class.” (Proxy Statement 3.) 18
IV.
CONTENTIONS OF THE PARTIES
{79} Plaintiff contends the Merger Agreement provides for inadequate
consideration to Wachovia’s shareholders and substantially deprives the
shareholders of their ability to “determine the appropriateness and fairness of the
transaction.” (Pl.’s Br. Mot. Prelim. Inj. 1.)
{80} According to Plaintiff, the approximately $7-per-share valuation of the
Company’s stock at the time of execution of the Merger Agreement on 2 October
18 Wells Fargo also holds 32,883,669 shares of Wachovia common stock, which, together with the
Series M Preferred Stock it obtained via the Share Exchange, amount to 40.8% of the total voting
power of holders of Wachovia capital stock entitled to vote on the Merger Agreement. (Proxy
Statement 3.) Additionally, the Board and executive officers of Wachovia and their affiliates own
approximately 1.2% of all outstanding shares of Wachovia common stock, which Plaintiff asserts
should be included in the bloc of votes “locked up” in favor of the Merger Agreement. (Proxy
Statement 11; Pl.’s Reply Br. Mot. Prelim. Inj. 4.)
2008 was substantially below the stock’s market price a week earlier and was
inconsistent with pronouncements made to the media by the Company’s President
and CEO two weeks earlier purportedly touting Wachovia’s viability as an
independent entity. (Pl.’s Br. Mot. Prelim. Inj. 1, 3–4.)
{81} Plaintiff’s principal complaints, however, are related to the defensive
measures embedded in the Merger Agreement and, in particular, the Share
Exchange, by which the Board “handed to Wells Fargo almost 40% of Wachovia’s
voting rights whether the Merger was ultimately approved or not.” (Pl.’s Br. Mot.
Prelim. Inj. 1.)
{82} Plaintiff contends the Share Exchange is unduly coercive because it
effectively discourages any third-party suitors from coming forward with a better
offer and does not allow for a “‘valid and independent exercise of the shareholders’
franchise.’” (Pl.’s Br. Mot. Prelim. Inj. 18 (quoting First Union Corp. v. SunTrust
Banks, Inc., 2001 NCBC 9A ¶ 81 (N.C. Super. Ct. Aug. 10, 2001),
http://www.ncbusinesscourt.net/opinions/2001%20NCBC%2009A.pdf).)
{83} Plaintiff also contends the Board breached its fiduciary duties by “agreeing
to an improper ‘fiduciary out’ clause in the Merger Agreement.” (Pl.’s Br. Mot.
Prelim. Inj. 2.)
{84} According to Plaintiff, the Board has improperly tied its hands because it
cannot back out of the Merger Agreement, but instead can only withdraw its
recommendation for approval. (Pl.’s Br. Mot. Prelim. Inj. 2.)
{85} Defendants respond that Plaintiff is not entitled to an injunction because
he has no likelihood of success on the merits. (Wells Fargo Br. Opp’n Mot. Prelim.
Inj. 4; Wachovia Br. Opp’n Mot. Prelim. Inj. 12.)
{86} Defendants assert that “[u]nder the circumstances facing the Wachovia
directors when they approved the Wells Fargo merger, they fulfilled their statutory
duties and are entitled to the full deference accorded by the business judgment
rule.” (Wachovia Br. Opp’n Mot. Prelim. Inj. 1.)
{87} Defendants dispute the notion that the transfer to Wells Fargo of almost
40% of Wachovia’s aggregate voting rights pursuant to the Share Exchange
effectively disenfranchises Wachovia’s public shareholders and precludes any
competing bid for the Company, noting that (1) the Share Exchange was a
necessary part of the consideration for the merger, (2) a majority of the Wachovia
shareholders remains free—despite the 40% Wells Fargo voting bloc—to vote down
the Merger Agreement, and (3) there is no credible evidence of an option superior to
the Merger Agreement. (Wachovia Br. Opp’n Mot. Prelim. Inj. 1, 14–16; Wells
Fargo Br. Opp’n Mot. Prelim. Inj. 11.)
{88} As for Plaintiff’s attack on the “fiduciary out” clause in the Merger
Agreement, Defendants respond that the Board may still exercise its fiduciary
duties in the face of a superior proposal (should one materialize) by withdrawing its
recommendation of the Merger Agreement and explaining its reasons for doing so.
(Wells Fargo Br. Opp’n Mot. Prelim. Inj. 12–13.)
{89} Finally, Defendants assert that Plaintiff is in no position to provide
adequate security should the Court grant preliminary injunctive relief. (Wells
Fargo Br. Opp’n Mot. Prelim. Inj. 18–20; Wachovia Br. Opp’n Mot. Prelim. Inj. 20.)
V.
PRINCIPLES OF LAW
A.
PRELIMINARY INJUNCTION STANDARD
{90} A party seeking preliminary injunctive relief in the context of a merger
transaction must demonstrate (1) “a reasonable likelihood of success on the merits,”
(2) “a reasonable threat of irreparable injury if the court does not issue an
injunction,” and (3) “that the threat of injury from not issuing the injunction
outweighs the possible injury from issuing the injunction.” Marcoux v. Prim, 2004
NCBC 5 ¶ 62 (N.C. Super. Ct. Apr. 16, 2004),
http://www.ncbusinesscourt.net/opinions/2004%20NCBC%205.htm (citing Phelps
Dodge Corp. v. McAllister, 1999 Del. Ch. LEXIS 202 (Del. Ch. Sept. 27, 1999)). 19
{91} With respect to enjoining a proposed merger, “in the absence of a
competing offer a plaintiff must make a particularly strong showing on the merits to
obtain a preliminary injunction because an injunction in such circumstances risks
significant injury to shareholders.” Id. at ¶ 64 (citing In re The MONY Group, Inc.
S’holder Litig., 2004 Del. Ch. LEXIS 16 (Del. Ch. Feb. 18, 2004); In re Aquila, Inc.
S’holder Litig., 805 A.2d 187, 189 (Del. Ch. 2002)).
{92} Finally, before a preliminary injunction may issue, a plaintiff must post a
bond in an amount the Court determines “for the payment of such costs and
damages as may be incurred or suffered by any party who is found to have been
wrongfully enjoined or restrained.” N.C. R. Civ. P. 65(c) (2007).
B.
THE SHARE EXCHANGE
{93} Sections 55-11-02 and 55-11-03 of the North Carolina General Statutes
govern share exchanges. Under these provisions, “[a] corporation may acquire all of
the outstanding shares of one or more classes or series of another corporation if the
board of directors of each corporation adopts and its shareholders (if required by
[section] 55-11-03) approve the exchange.” N.C. Gen. Stat. § 55-11-02(a) (2007)
(emphasis added).
{94} The concept of “outstanding shares” is governed by section 55-6-03 of the
North Carolina General Statutes. A corporation is entitled to “issue the number of
shares of each class or series authorized by the articles of incorporation.” N.C. Gen.
Stat. § 55-6-03(a) (2007). “Shares that are issued are outstanding until they are
reacquired, redeemed, converted, or cancelled.” Id. Thus, shares must be issued in
order to be outstanding.
19 Although the corporate law of North Carolina and Delaware are not in complete lockstep, the
North Carolina courts frequently look to Delaware for guidance on questions of corporate governance
because of the special expertise and body of case law developed in the Delaware Chancery Court and
the Delaware Supreme Court. First Union Corp., 2001 NCBC 9A ¶ 32.
C.
THE BUSINESS JUDGMENT RULE
{95} In North Carolina, corporate directors owe fiduciary duties to the
corporation. See Pierce Concrete, Inc. v. Cannon Realty & Constr. Co., 77 N.C. App.
411, 413–14, 335 S.E.2d 30, 31 (1985) (citing Meiselman v. Meiselman, 309 N.C.
279, 307 S.E.2d 551 (1983)). More specifically, the law requires directors to
discharge their duties “(1) In good faith; (2) With the care an ordinarily prudent
person in a like position would exercise under similar circumstances; and (3) In a
manner [they] reasonably believe[] to be in the best interests of the corporation.”
N.C. Gen. Stat. § 55-8-30(a) (2007).
{96} Our General Assembly has also made clear that “[t]he duties of a director
weighing a change of control situation shall not be any different, nor the standard of
care any higher, than otherwise provided in [section 55-8-30].” N.C. Gen. Stat. § 55-
8-30(d) (2007).
{97} In discharging their duties, directors are entitled to rely on information,
opinions, reports, or statements from officers and employees of the corporation, as
well as legal counsel, accountants, and financial experts. N.C. Gen. Stat. § 55-8-
30(b) (2007).
{98} North Carolina law recognizes the business judgment rule. This rule
“operates primarily as a rule of evidence or judicial review and creates,
first, an initial evidentiary presumption that in making a decision the
directors acted with due care (i.e., on an informed basis) and in good
faith in the honest belief that their action was in the best interest of
the corporation, and second, absent rebuttal of the initial presumption,
a powerful substantive presumption that a decision by a loyal and
informed board will not be overturned by a court unless it cannot be
attributed to any rational business purpose.”
Hammonds v. Lumbee River Elec. Mbrshp. Corp., 178 N.C. App. 1, 20–21, 631
S.E.2d 1, 13 (2006) (quoting Russell M. Robinson, II, Robinson on North Carolina
Corporation Law, § 14.06, at 14-16 to 14-17 (2005)).
{99} In applying the business judgment rule to a director’s decision to accept
deal protection measures in a stock-for-stock merger:
[T]he court will first review the transaction, including the adoption of
deal protection measures, to determine if the directors have complied
with their statutory duty of care under [section] 55-8-30 [of the North
Carolina General Statutes]. The burden is upon the shareholder
challenging their actions to prove that a breach of duty has occurred.
First Union Corp., 2001 NCBC 9A ¶ 70.
{100} In that regard, this Court has made clear that
[d]irectors receive the benefit of court deference to business decisions
that are made in good faith and on an informed basis. As long as the
decision to include the deal protection measures in the merger
transaction was informed and in good faith, it will not be disturbed by
the courts absent proof by clear and convincing evidence of interference
with shareholder voting rights or statutory duties.
Id. at ¶ 72.
{101} If Plaintiff fails to prove a breach of duty,
the action of the directors is entitled to a strong presumption of
reasonableness and validity, including noncoercion, and the court
should not intervene unless the shareholder can rebut that
presumption by clear and convincing evidence that the deal protection
provisions were actionably coercive, or that the deal protection
provisions prevented the directors from performing their statutory
duties.
Id. at ¶ 70.
{102} If, on the other hand, Plaintiff does establish a breach of duty,
the burden shifts to the directors to prove that their actions were
reasonable . . . and, if at issue, that the deal protection measures were
not actionably coercive and did not prevent the directors from
performing their statutory duties. Where the court finds that the deal
protection measures are coercive or require directors to breach their
statutory duties, the court must then weigh the harm to the
shareholders in enjoining either the deal protection measures, the vote
on the transaction or the merger, if the transaction is approved,
against the harm resulting from not entering injunctive relief.
Id.
{103} As then Delaware Chancery Court Vice-Chancellor Myron T. Steele
noted, 20 the relevant question is whether the deal protection measures are
actionably coercive on the shareholders, that is, whether “the vote will be a valid
and independent exercise of the shareholders’ franchise, without any specific
preordained result which precludes them from rationally determining the fate of the
proposed merger.” In re IXC Commc’ns, Inc. S’holder Litig., 1999 Del. Ch. LEXIS
210, at *3 (Del. Ch. Oct. 27, 1999).
{104} Finally, under this review process, courts should “invalidate[] plans that
purport to restrict a board’s duty to fully protect the interests of the corporation and
its shareholders.” First Union Corp., 2001 NCBC 9A ¶ 88 (citing Paramount
Comm’cns, Inc. v. QVC Network, Inc., 637 A.2d 34 (Del. 1994)).
VI.
ANALYSIS
A.
DID THE SHARE EXCHANGE REQUIRE A STOCKHOLDER VOTE?
{105} Plaintiff contends the Board breached its fiduciary duties by failing to
obtain shareholder approval for the Share Exchange, which Plaintiff contends is
required under North Carolina law. The Court disagrees.
{106} It is clear enough that a director’s failure to see to it that the corporation is
operated according to law is a breach of fiduciary duty. See Clark v. B.H. Holland
Co., 852 F. Supp. 1268, 1275 (E.D.N.C. 1994) (citing Loy v. Lorm Corp., 52 N.C.
App. 428, 435, 278 S.E.2d 397, 902–03 (1981), for the proposition that the failure of
a director to comply with the statutory procedures required for a corporate merger
is a breach of fiduciary duty).
{107} The Court concludes, however, that the Share Exchange does not violate
any substantive provision of North Carolina law.
{108} Section 55-11-02(a) of the North Carolina General Statutes provides that
“[a] corporation may acquire all of the outstanding shares of one or more classes or
20 Vice-Chancellor Steele is now Chief Justice of the Delaware Supreme Court.
series of another corporation if the board of directors of each corporation adopts and
its shareholders (if required by [law]) approve the exchange.” N.C. Gen. Stat. § 55-
11-02(a) (2007).
{109} By its terms, this section does not apply to Wachovia’s issuance of Class M
preferred shares under the Share Exchange. As Wachovia correctly notes, section
55-11-02(a) “provides a process by which all of the holders of a class of already
existing and outstanding shares can be compelled to exchange their shares for
shares of another corporation when only the holders of a majority of shares favor
the exchange.” (Defs.’ Sur-Reply Br. Mot. Prelim. Inj. 1. (emphasis added).)
{110} In this case, the Share Exchange required Wachovia to issue new shares of
Class M preferred stock in exchange for 1,000 shares of Wells Fargo common stock.
(Proxy Statement 85.) The transaction did not, however, compel any shareholder to
exchange already outstanding shares and, therefore, did not require a shareholder
vote under the relevant statute.
{111} Accordingly, because the Board did not violate North Carolina substantive
law when it issued shares pursuant to the Share Exchange without a shareholder
vote, Plaintiff is not entitled to preliminary injunctive relief on this ground. 21
B.
DID THE BOARD OTHERWISE BREACH ITS FIDUCIARY DUTIES? 22
{112} Judicial review of this issue begins with a determination of the Board’s
compliance with its statutory duties under section 55-8-30 of the North Carolina
General Statutes. First Union Corp., 2001 NCBC 9A ¶ 70.
{113} The question is whether the Wachovia directors approved the Merger
Agreement in “good faith,” “[w]ith the care an ordinarily prudent person in a like
21 In any event, a vote to approve the Share Exchange would be limited by law to “each class or series
of shares to be acquired in the exchange, with each class or series constituting a separate voting
group.” N.C. Gen. Stat. 55-11-03(f)(2) (2007). Thus, the statute expressly denies standing to
Wachovia’s common stockholders as to a vote on the Share Exchange.
22 I emphasize again that my review of the Board’s business judgment is limited here to the three to
four weeks leading up to the Board’s decision to approve the Merger Agreement. Whether the Board
properly exercised its fiduciary duties with regard to the acquisition and growth strategies
implemented by Wachovia in the preceding years (and in particular, the Company’s decision in May
2006 to purchase Golden West for $25 billion) is not before me.
position would exercise under like circumstances,” and “in a manner which [they]
reasonably believe[d] to be in the best interests of the corporation.” N.C. Gen. Stat.
55-8-30 (2007).
{114} While Plaintiff’s papers rail against the substantial “golden parachute”
payments he claims many of Wachovia’s senior executives stand to receive if the
Merger Agreement is approved, at oral argument Plaintiff conceded that, at least as
to the Board members (all but one of whom are outside directors), he could not say
that they acted other than in good faith or in the best interests of the Company in
approving the Merger Agreement.
{115} Instead, Plaintiff’s principal argument is aimed at the mandate of due
care, as he contends the Board was neither “attentive” nor “informed” as to the
substantive deal protection devices embedded in the Merger Agreement. (Pl.’s Br.
Mot. Prelim. Inj. 1.) 23
{116} The Court’s analysis of this issue “is governed by the statutory direction
that directors act as an ordinarily prudent person under like circumstances.” First
Union Corp., 2001 NCBC 9A ¶ 134; see Thompson v. Enstar Corp., 509 A.2d 578,
582 (Del. Ch. 1984) (stating that the “judgment of the directors must be measured
on the facts as they existed [when they acted]”), rev’d on other grounds, In re Enstar
Corp., 604 A.2d 404 (Del. 1992).
23 Plaintiff’s Complaint also alleges that the consideration negotiated by the Board in the Merger
Agreement is inadequate. (Pl.’s Br. Mot. Prelim. Inj. 1.) This assertion, however, appears to be a
derivative claim, which Plaintiff may not press individually without a proper demand. See generally
Barger v. McCoy Hillard & Parks, 346 N.C. 650, 658, 488 S.E.2d 215, 219 (1997) (stating that
shareholders generally “cannot pursue individual causes of action against third parties for wrongs or
injuries to the corporation that result in the diminution or destruction of the value of their stock”);
see also N.C. Gen. Stat. §55-7-42 (2007) (setting forth the demand requirement). Plaintiff also
suggests that the Board was inattentive in failing to recognize “that because of newly promulgated
tax regulations, Wells Fargo stood to benefit more than $25 billion by entering into the deal (enough
to more than cover the transaction’s entire cost).” (Pl.’s Reply Br. Mot. Prelim. Inj. 14.) Assuming
Plaintiff’s interpretation of the tax regulations is correct, this contention also speaks to the
sufficiency of the consideration tendered by Wells Fargo for the Wachovia shares, an issue that
Plaintiff may only press derivatively. In any event, a claim that the Board did not obtain the highest
possible value for the Wachovia shareholders is one that can be remedied by money damages, which
provides an independent ground for denying injunctive relief. See, e.g., Robertson v. City of High
Point, 129 N.C. App. 88, 92, 497 S.E.2d 300, 303 (1998) (citing Peace River Elec. Coop., Inc. v. Ward
Transformer Co., 116 N.C. App. 493, 508, 449 S.E.2d 202, 213 (1994)).
{117} This requirement is entirely consistent with North Carolina’s business
judgment rule, which recognizes that directors often make important decisions
under fluid and uncertain circumstances and that a court must be loathe to review
such judgments on the basis of ex post judicial hindsight. See generally
Hammonds, 178 N.C. App. at 20–22, 631 S.E.2d at 13.
{118} Thus, in determining whether the Board was attentive and informed when
it approved the Merger Agreement, the Court examines the circumstances
surrounding the decisions made by the directors based upon “the information then
reasonably available to [them] and relevant to their decision.” Smith v.Van
Gorkom, 488 A.2d 858, 874 (Del. 1985) (applying Delaware’s version of the business
judgment rule).
{119} In this case, those circumstances include the following:
• The Board (all of whom save one are outside directors) faced a financial
crisis of historic proportions when it met on 2 October 2008 to consider
the Merger Agreement;
• In the second quarter of 2008, Wachovia had reported a loss of $ 9.1
billion;
• The Board had previously fired the Company’s CEO and President;
• Over the mere span of weeks, the Board had seen the demise of other
venerable financial institutions via bankruptcy or liquidation;
• The U.S. House of Representatives had rejected the U.S. Treasury’s
original bailout bill aimed at providing relief to the capital markets
and, although the U.S. Senate had passed a revised bill, it was unclear
whether the House would follow suit;
• The Company’s stock price had plummeted nearly 90% in ten (10)
days;
• Wachovia was facing an extreme liquidity crisis that had gotten the
attention of federal regulators, who had effectively demanded that the
Company merge with another financial institution to avoid a forced
liquidation;
• Although the Board had little time to digest the Merger Agreement, it
was not acting in an information vacuum as to the precarious financial
stability of the Company, having met nine (9) times between 16
September 2008 and 2 October 2008;
• Over the course of those meetings, the Board had been informed that
the Company had explored other merger options, attempted to raise
capital and sell assets, and made an unsuccessful overture to federal
regulators for assistance in allowing the Company to remain
independent;
• The Board understood and appreciated the substantive terms of the
Merger Agreement, including the deal protection devices embedded
therein, and it had the benefit of counsel from legal and financial
advisors;
• In deciding whether to accept the less palatable terms of the Merger
Agreement, the Board weighed the certain value of the transaction
against the risks of further negotiations with its two suitors and the
very real probability that failure to consummate a merger (whether
with Wells Fargo or Citigroup) would exacerbate Wachovia’s liquidity
crisis and result in a seizure of the Company’s banking assets by
federal regulators and the elimination of all shareholder equity;
• Following the Board’s approval of the Merger Agreement, Wachovia
posted a loss of more than $20 billion for the third quarter of 2008;
• No other entity has made a bid to purchase the Company; and
• There is no evidence that the U.S. government will assist Wachovia in
remaining a stand-alone entity should the Merger Agreement not be
consummated.
{120} After careful review of these circumstances, I conclude that Plaintiff has
not established that the Board breached its duties.
{121} To the contrary, I am satisfied that—except for the eighteen (18)-month
“tail” on the Board’s ability to redeem the preferred shares that give Wells Fargo
39.9.% of the Company’s total voting power—the Board’s decision-making process,
although necessarily compressed given the extraordinary circumstances confronting
it, was reasonable and fell within the standard of care demanded by law.
{122} What makes this case unique is the presence of the 800-pound gorilla in
the Wachovia board room, in the form of the U.S. government’s pervasive regulatory
oversight over bank holding companies.
{123} Indeed, there is little doubt that the threat of government intervention (in
the form of a forced liquidation of the Company’s banking assets) weighed heavily
on the Board as it considered the Merger Agreement.
{124} In that regard, this case does not fit neatly into conventional business
judgment rule jurisprudence, which assumes the presence of a free and competitive
market to assess the value and merits of a transaction. See First Union Corp., 2001
NCBC 9A ¶ 66.
{125} But other than insisting that he would have stood firm in the eye of what
can only be described as a cataclysmic financial storm, Plaintiff offers nothing to
suggest that the Board’s response to the Hobson’s choice before it was unreasonable.
{126} Plaintiff faults the Board for not waiting to act on the Merger Agreement
until after the House vote on a revised bailout bill, which was slated for 3 October
2008.
{127} But as Defendants note, the House had previously rejected the original bill
and no one could predict how it would treat the Senate’s amended proposal. In any
event, there is no evidence in this record that the U.S. government was then, or is
now, prepared to help Wachovia remain independent.
{128} Instead, what was clear to the Board as it met late in the evening on 2
October 2008 was that if it failed to consummate a merger with either Citigroup or
Wells Fargo by the end of the day on 3 October 2008, it faced the very real prospect
of a government-directed liquidation of the Company’s banking assets and, with it,
the loss of most, if not all, of the shareholder equity.
{129} Plaintiff contends that judicial approval of the terms of the Share
Exchange would set a dangerous precedent and effectively eviscerate shareholder
rights. (Pl.’s Br. Mot. Prelim Inj. 17.)
{130} But what precedent was there for the crisis confronting the Board on 2
October 2008 when it concluded that the Merger Agreement was in the best interest
of the shareholders?
{131} The stark reality is that the Board (1) recognized that Wachovia was on
the brink of failure because of an unprecedented financial tsunami, (2) understood
the very real and immediate threat of a forced liquidation of the Company by
government regulators in the absence of a completed merger transaction with
someone, and (3) possessed little (if any) leverage in its negotiations with Wells
Fargo because of the absence of any superior merger proposals.
{132} Against that backdrop, the Board had two options: (1) accept a merger
proposal that, although partially circumscribing the shareholders’ ability to vote on
its merits, nevertheless still gave the shareholders a voice in the transaction and
also provided substantial value; or (2) reject the Merger Agreement and face the
very real prospect that Wachovia shareholders would receive nothing.
{133} Pared to its essence, Plaintiff’s argument is that he would have voted to
reject the Merger Agreement and take his chances with the government had he
been sitting on the Board on 2 October 2008. But it is precisely this sort of post hoc
second-guessing that the business judgment rule prohibits, even where the
transaction involves a merger or sale of control.
{134} As the Delaware Supreme Court has explained in such a context:
[A] court should not ignore the complexity of the directors’ task in a
sale of control. There are many business and financial considerations
implicated in investigating and selecting the best value reasonably
available. The board of directors is the corporate decisionmaking [sic]
body best equipped to make these judgments. Accordingly, a court
[reviewing a board’s judgment] should be deciding whether the
directors made a reasonable decision, not a perfect decision. If a board
selected one of several reasonable alternatives, a court should not
second-guess that choice even though it might have decided otherwise
or subsequent events may have cast doubt on the board's
determination. Thus, courts will not substitute their business
judgment for that of the directors, but will determine if the directors’
decision was, on balance, within a range of reasonableness.
Paramount Commc’ns, Inc., 637 A.2d at 45–46 (citing Nixon v. Blackwell, 626 A.2d
1366, 1378 (Del. 1993); Mills Acquisition Co. v. MacMillan, Inc., 559 A.2d 1261,
1288 (Del. 1988); Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946, 955–56 (Del.
1985)).
{135} Thus, so long as the decision to include the deal protection measures in the
Merger Agreement was informed and in good faith, the Court will not intervene
absent proof by clear and convincing evidence “that the deal protection provisions
were actionably coercive, or . . . prevented the directors from performing their
statutory duties.” First Union Corp., 2001 NCBC 9A ¶ 70; see also Thompson, 509
A.2d at 584 (refusing to grant injunctive relief as to directors’ approval of a “lock-
up” option where the provision was a “necessary prerequisite” to the suitor making
its tender offer); In re Bear Stearns Litigation, Index No. 600780/08, at 32 (N.Y.
Sup. Ct. Dec. 4, 2008) (reviewing a merger that was entered into in the face of
governmental pressure due to the acquired investment bank’s liquidity crisis and
concluding that “[t]he financial catastrophe confronting Bear Stearns, and the
economy generally, justified the inclusion of the various merger protection
provisions [including the grant of a 39.5% interest to the acquiring company and a
‘no solicitation’ clause] intended to increase the certainty of the consummation of
the [merger]”). 24
{136} I turn now to discuss why, with one exception, Plaintiff has failed to meet
his burden.
1.
THE SHARE EXCHANGE
{137} Plaintiff contends the Share Exchange is coercive because it does not allow
for the “‘valid and independent exercise of the shareholders’ franchise.’” (Pl.’s Br.
Mot. Prelim. Inj. 19 (quoting First Union Corp., 2001 NCBC 9A ¶ 81).)
24 On 5 December 2008, Wells Fargo filed with the Court a Notice of Supplemental Authority, to
which was attached a copy of In re Bear Stearns Litigation. See North Carolina Business Court
website, http://www.ncbusinesscourt.net/TCDDotNetPublic/default.aspx?CID=2 (enter “Ehrenhaus”
into the “Search” field; click “08CVS22632” hyperlink; click “Notice of Supplemental Authority”
hyperlink).
{138} More specifically, Plaintiff claims that the transfer to Wells Fargo of
almost 40% of Wachovia’s aggregate voting rights pursuant to the Share Exchange
effectively disenfranchises Wachovia’s public shareholders and precludes any
competing bid for the Company. (Pl.’s Br. Mot. Prelim. Inj. 18–20.)
{139} Plaintiff is wrong on both counts.
{140} In the first place, Plaintiff’s contention that the outcome of the vote is a
foregone conclusion is literally incorrect because Wells Fargo has not “locked up” an
absolute majority of the votes required for approval of the Merger Agreement.
{141} Under North Carolina law, approval of the Merger Agreement requires the
affirmative vote of a majority of all votes entitled to be cast. Moreover, if a
shareholder abstains or otherwise fails to record a timely vote, it will have the same
effect as a vote against the Merger Agreement. (Proxy Statement 3.)
{142} Thus, while it is certainly true that slightly over 40% of the total votes to
be cast on the Merger Agreement have been spoken for, and that Plaintiff and those
in his camp face a substantial hurdle in defeating this transaction, a majority of
Wachovia shareholders (owning nearly 60% of all Wachovia shares) “may still freely
vote for or against the merger, based on their own perceived best interests, and
ultimately defeat the merger, if they desire.” In re IXC Commc’ns. S’holders Litig.,
1999 Del. Ch. LEXIS 210, at *23 (concluding that a vote-buying transaction did not
disenfranchise the remaining shareholders where a numerical majority of
shareholders were still in position to independently vote against the merger). 25
{143} Nor is the Share Exchange coercive because it has precluded other bidders
from coming forward and effectively “‘force[d] management’s preferred alternative
upon the stockholders.’” (Pl.’s Br. Mot. Prelim. Inj. 18 (quoting In re Gaylord
Container Corp. S’holder Litig., 753 A.2d 462, 480 (Del. Ch. 2000)).)
{144} As Delaware Vice-Chancellor Strine explained in Gaylord Container Corp.,
“the primary thrust of the [analysis regarding stockholder coercion] is to enable the
25 As Wells Fargo notes, the Wachovia shareholders are “free to consider every one of plaintiff’s
attacks on the merger—because his complaint and its allegations have been fully disclosed to the
shareholders,” and they may vote without fear of coercion or retribution. (Wells Fargo. Br. Opp’n
Mot. Prelim. Inj. 9.)
court to vitiate measures that foist an alternative strategic transaction (e.g., a
repurchase program or merger) on stockholders that prevents them from taking
advantage of another acquisition offer.” 753 A.2d at 484.
{145} In this case, however, except for the markedly inferior Citigroup merger
proposal, there simply is no other acquisition offer for the Wachovia shareholders to
consider.
{146} In support of his argument that the Merger Agreement precludes other
options, Plaintiff again faults the Board for not waiting to act until after the U.S.
House of Representatives’ vote on the revised bailout bill, arguing that Wachovia
would have been an ideal candidate for government assistance. (Pl.’s Br. Mot.
Prelim. Inj. 17.)
{147} But as the Court has already noted, the House had previously rejected
such a bill and no one could predict how it would treat the Senate’s revised
proposal.
{148} In any event, what evidence exists in this record indicates that the U.S.
government was prepared to abandon Wachovia on 2 October 2008, and there is
nothing to suggest that it now has the desire or appetite to subsidize Wachovia
should the Merger Agreement fail.
{149} Nor is there a reasonable prospect that a superior offer will materialize
even absent the Share Exchange.
{150} As of 30 September 2008, Wachovia was the fourth largest bank holding
company in the United States. Above it were: (1) JP Morgan Chase (who recently
merged with Bear Stearns Companies, Inc., and acquired the failed banking
subsidiaries of Washington Mutual, Inc.); (2) Citigroup (who made an inferior offer
to purchase the Company and has recently found itself teetering on the brink of
collapse); and (3) Bank of America (who is still digesting its recent acquisitions of
Countrywide Financial Corp., Lasalle Bank Corp., and Merrill Lynch & Co.). 26
26 The Court takes judicial notice of these facts, all of which are matters of public record.
{151} Thus, the sobering reality is that there are few (if any) entities in a
position to make a credible bid for Wachovia that would be superior to the Merger
Agreement.
{152} As a result, when the Board met to consider the Merger Agreement, it
was entirely reasonable for it to conclude that there would be no other suitors and
that if it failed to consummate a merger by the end of the day on 3 October 2008,
the Company faced a government-directed liquidation of its banking assets and,
with it, the obliteration of most, if not all, of the shareholder equity.
{153} I conclude that Plaintiff has not met his burden to demonstrate, by clear
and convincing evidence, that the Share Exchange is coercive.
2.
THE FIDUCIARY OUT CLAUSE
{154} I also conclude that the Board’s decision to approve the so-called “limited
fiduciary out clause” was reasonable and not actionably coercive.
{155} It is true that the Merger Agreement prohibits Wachovia from soliciting
third-party bidders for the Company and requires that the Merger Agreement be
put to a shareholder vote even if the Board determines subsequently that it can no
longer recommend it. (Proxy Statement A-20.)
{156} Nevertheless, as Wells Fargo notes, “[t]he fiduciary out in the merger is
not absolute and permits the Wachovia board to exercise its [fiduciary] duties” by,
for example: (1) responding to an unsolicited superior proposal should one be
presented to the Board before the vote on the Merger Agreement; and (2)
“withdrawing its recommendation of the Wells Fargo merger and fully and publicly
explaining its rationale . . . which would have the practical effect of advising
shareholders to vote down the merger.” (Wells Fargo Br. Opp’n Mot. Prelim. Inj.
13.)
{157} My review of the relevant clause satisfies me that it does not
impermissibly abrogate the Board’s fiduciary obligations to the Wachovia
shareholders. At worst, it requires the Board to submit the Merger Agreement to a
vote even if they later determine they no longer recommend it. And, as the Court
has already noted, the lack of any third-party bidders is a function of the realities of
the market, not the deal protection devices of which Plaintiff complains.
{158} Accordingly, the Court declines to grant preliminary injunctive relief on
this ground.
3.
THE EIGHTEEN-MONTH “TAIL” ON REDEMPTION OF
THE CLASS M PREFERRED SHARES
{159} Plaintiff notes correctly in his reply brief that, as part of the Merger
Agreement, the Board agreed that “the shares of [Class M Preferred Stock tendered
to Wells Fargo in the Share Exchange would] remain outstanding in the event that
the Merger [Agreement] is not consummated for at least 18 months, a date which
extends [Wells Fargo’s 39.9% voting bloc] far beyond the time of a shareholder vote.”
(Pl.’s Reply Br. Mot. Prelim. Inj. 3.)
{160} The Court has already determined that the Board acted in good faith, on
an informed basis, and in the best interests of the Company in approving the
Merger Agreement.
{161} Nevertheless, the Court also concludes that should the Wachovia
stockholders vote down the Merger Agreement, the Board’s duty to seek out other
merger partners should not be impeded by a suitor with substantial voting power
whose overtures have already been rejected.
{162} Accordingly, because this particular provision serves no beneficial purpose
in such an instance and, in fact, prevents the Board from fulfilling its fiduciary
duties, Plaintiff has demonstrated a likelihood of success on his claim that the
clause is invalid. Cf. First Union Corp., 2001 NCBC 9A ¶¶ 152–63 (concluding that
a non-termination clause in a merger agreement extending the life of the agreement
five months beyond a shareholder vote disapproving the merger was invalid, as “an
impermissible abrogation of the duties of the Wachovia directors and an actionably
coercive condition impeding the free exercise of the Wachovia shareholder’s right to
vote on the merger”).
{163} Finally, I have considered the balance of hardships in enjoining
enforcement of this amendment. I find that the narrow injunctive relief
contemplated here will cause little, if any, harm to Wachovia or Wells Fargo
because “[t]his is not a provision that affects the value or structure of the [Merger
Agreement].” First Union Corp., 2001 NCBC 9A ¶ 163.
{164} Additionally, should the Merger Agreement be voted down, the parties
remain free to negotiate and submit a new proposal to the Wachovia shareholders.
“On the other hand, the [Wachovia] shareholders have the benefit of knowing their
directors’ hands are not tied and that they are in a position to fully perform their
statutory duties.” Id.
{165} Accordingly, the Court shall GRANT preliminary injunctive relief as to the
Board’s decision to extend Wells Fargo’s 39.9% voting bloc beyond the date of the
vote on the Merger Agreement.
VII.
CONCLUSION
{166} For the reasons set forth above, the Court: (1) DENIES the Motion to
enjoin enforcement of the Share Exchange and “fiduciary out” provisions contained
in the Merger Agreement; but (2) GRANTS the Motion to preliminarily enjoin
enforcement of the provision prohibiting Wachovia from redeeming the Class M
Preferred Shares for eighteen (18) months following a shareholder vote on the
Merger Agreement.
{167} Under the circumstances of this case, the Court concludes that Plaintiff
shall not be required to post a bond at this time. Should the Merger Agreement be
voted down on 23 December 2008, the Court will then consider the amount of the
bond (if any) that Plaintiff shall be required to post in order to obtain preliminary
injunctive relief.
SO ORDERED, this the 5th day of December, 2008.