Entire Fairness is not a bifurcated test, but the court will look at all aspects of fairness, which includes:
- 1) fair dealings
- 2) fair price
Looks at the process and included in the process are issues of the transaction relating to:
- Disclosure is also an issue requiring complete candor of all material facts.
In Rabkin v. Philip A. Hunt Chem Corp., the Delaware Supreme Court restated Weinberger's view of unfair dealings as requiring more than nondisclosure, including other procedural fairness issues such as timing, structure and negotiation.
The defendant had purchased its shares from the control group. Contractually it agreed also to pay the minority shareholders the same consideration if it purchased those shares within a year. After the year had passed, a freezeout merger was proposed that would have apid the minroity a lower price.
The minority shareholders claimed unfair dealings by the controlling shareholder through its manipulating of the timing of the transaction. Defendants claimed no unfair dealings under Weinberger because there was full disclosure and the only remedy for the minority was an appraisal.
The alleged bad faith of the controlling shareholders in Rabkin in not following the contract (that is, unfair dealings) went beyond issues of mere inadequacy of price; therefore, appraisal was not the exclusive remedy.
Thus, if there is a lack of fair dealing and the shareholder's claim is not essentially over inadequate value, a class action in equity could be brough seeking greater damages or relief than provided for in the new appraisal. Thus, most freezeouts will claim a breach of fiduciary duty and unfair dealing allowing a proceeding in equity on the issue of entire fairness and thus avoiding appraisal.
Negotiating Committee fo Independent Directors
In trying to lessen the scrutiny placed on their decision, the controlling shareholder may use the Weinberger suggestion and have a group of independent directors as a committee of the board negotiate over the freezeout merger. Controlling shareholders would like to limit judicial scrutiny to the business judgment rule. Under Delaware law, the use of independent directors to review transactions with contorlling sharehodler will
- shift th burden of proof - this shift of burden will be in equity where the fairness inquiry is litigated.
- fairness is retained -
- business judgment rule will not apply - rejection of the use of the business judgment rule in this context recognizes that the presence of a controlling shareholder and its probable role in the selection of the independent directors to the board cannot assure that its decision was in fact equivalent to an arm's length bargain.
An important issue is whether the directors serving on the negotiating committtee are in fact independent. Under Delaware law independence requries an inquiry of whether a particular director lacks independence through either:
- domination -Ddmination can result from personal or familiar ties, through force of will or when a director is beholden to the interested party.
But even if the dreictors are found to be independent, if there is a controlling sharehodler, the decision of those directors can still be challenged by a plaintiff. In order to have the burden shift to the plaintiff, the independent directors must be able to act on behalf of the minority shareholders.
In Kahn v. Lynch Communications Sys., Inc. ("Kahn 1") Alcatel owned 43.3% of the shares of Lynch Communications. The certificate of incorporation had a provision that required an 80% shareholder vote for any business combination, which meant that Alcatel had veto power. The board consisted of 11 directors of whom 5 were Alcatel's designees. When an acquisition was proposed to Telco, Alcatel opposed it and instead proposed an acquisition of a corporation connected with it. The independent directors rejected the proposal. Alcatel then propsoed to purchase the remaining shares (56.7%) of Lynch for $14 per hsare which would eliminated the public shareholders. The committee of indpendent directors concluded that the price was too low and began negotiations. Alcatel finally raised its offer to $15.50 and idncated that if it was refused it would then proceed with an unfriendly tender offer at a lower price. The committee approve the sale.
Although Alcatel owned less than majority contorl, the court conlcued based upon how Alcatel had influenced decisions in the past that Alcatel was a controlling sharehodler and dominated Lynch's coroproate affiars. the court looked carefully at hte activiites of the committee to see if in fact there was an exercise of arms-lenght bargaining by them. Here, the committee could not sell to anyoen else since Alcatel had veto power because o the supermajroity vote requirement. Although the committee at three different times rejected Alcatel's offers, the threat by Alcatel to take hte last offer, or face a lower tender offer, was an ultimatium that ended any semblance of an arms-length bargain. The committee had no power to say no to the proposed freezeout. Thus, because of the coercion, the burden remained on the controlling shareholder to prove entire fairness.
After the case was remenaded in Kahn, teh Chancery Court found that Alcatel had met its burden to prove entire fairness even though there was some coercion in the process. The Delaware Supreme Court in Kahn v. Lynch Communications Sys.m Inc. ("Kahn 2") found that the previous findings that Alcatel had the buren of proof was not decisive on the issue of entire fairness. Futher, the focus of coercion in Kahn 2 was on the sharehodler unlike Kahn 1 which was on the negotiating committee. Under Kahn 2 such coercion would have had to be material in order to create liability per se. No ceorcion was found since all other shareholders were treated equally. The court indicated that under Weinberger the test of entire fairness was not bifurcated but requried an examination of all aspects of the tranasction to see if it was entirely fair. In fair dealing, the court agreed that when looking at the other elements of fair dealing such as timing, initiation, structure and negotation that Alcatel had met its burden.
looks at economic and financial factors.