Nearly everyone is on the generative AI bandwagon, and understandably so. But we are starting to hit some bumps in the road, rattling confidence and dampening enthusiasm. As legal professionals, we shouldn’t be deterred. Instead, we must take a measured and conscientious approach to tool selection and implementation.
The problem is that while we haven’t necessarily uncovered generative AI’s ideal application, AI-powered products are flooding the market. Some are useful; others not so much. Legal professionals must consider several key factors when selecting an AI-powered legal technology product.
How does it use our data?
Legal practice is deeply rooted in confidential and private information. When exploring a legal tech solution, legal teams must ask these essential questions:
How will the platform process and use our information?
Any legal tech solution must be built with privacy in mind from the ground up. Period. Peek behind the curtain to understand the underlying algorithm and its confidentiality implications. Without this insight, you cannot rely on a tool to protect your clients’ information or ensure that your organization is compliant with privacy laws and regulations.
Is it designed for our use case?
The legal field contains countless nuances. You wouldn’t task a person who has no legal background with reviewing contracts. Follow the same principle for AI.
An effective legal tech solution based on a large language model (LLM) requires customization. LLMs trained on general datasets lack the specific knowledge necessary to complete legal tasks effectively and accurately. Without a custom model, the algorithm’s knowledge base is too broad; it can miss critical context, resulting in contracts that do not apply to the circumstance, deviate from established best practices, or are unenforceable.
Legal teams need an LLM trained specifically on legal content; many tools are simply an interface for a general LLM. Once again, legal professionals need insight into a platform’s training data and use cases to understand if it aligns with their needs.
Does it help us improve workflows and performance?
Any legal technology tool must be built with human-centered AI. This design leverages the strengths of human critical thinking, creativity, and empathy while incorporating AI capabilities to automate repetitive tasks and free human bandwidth for high-value tasks.
When evaluating a tool’s fit for your team, consider:
What tasks does it accomplish?
Do its capabilities address pain points?
Does it streamline processes or add additional steps?
Each organization’s needs are different. The right solution will augment your people’s work, not impede it.
Generative AI alone is not enough
Generative AI is a piece of the puzzle, not the solution. The technology works best as part of a robust workflow involving a tech stack of established tools like rule-based AI. This form of AI functions on a set of predetermined rules to make decisions and solve problems, so its results are more predictable than generative AI. Examples of everyday use of rule-based AI include email spam filters, which rely on specific keywords and sender email addresses to flag potential spam, and e-commerce recommendations, which are powered by parameters such as products that are often purchased together.
Ideally, your chosen solution should be accessible from your team’s primary workspace, which for many legal professionals is Microsoft Word. Cumbersome, inconvenient solutions that require application toggling do not foster adoption. And if nobody uses the legal tech, no one benefits.
No matter how powerful AI becomes, technology can’t replace people. Your team possesses originality, experience, situational comprehension, and critical thinking that no machine will ever replicate. Any tool you select should support—not appropriate—legal professionals’ work.
The benefits of AI-powered legal tech
AI can deliver many advantages when leveraged correctly. Some of these benefits include:
Enforcement of best practices AI makes it possible to universally enforce best practices. Algorithms trained on a company’s or client’s legal playbooks can review contracts and replace language deviations with company-specific standardized definitions, preferred negotiation positions, and best practices, eliminating variations between contract writers and ensuring documents meet expectations.
Accelerated review Legal teams can leverage AI to review lengthy, complex contracts in just minutes. Automated processes reduce time-consuming manual tasks and errors and streamline redlining, resulting in faster negotiations and approvals.
Enhanced risk assessment and mitigation AI-powered reviews can assess contract risks and flag problematic language, uncovering potentially overlooked issues and allowing lawyers to prioritize high-urgency tasks.
Reduced workloads Completing repetitive, low-level tasks drains creativity and creates frustration. Lawyers want to make a positive impact, not push papers. AI platforms can bear some of the administrative burden, decreasing human workloads and empowering legal professionals to spend more time on high-value, rewarding activities like building client relationships.
Legal teams should consider embracing generative AI, as long as they are mindful of the risks. While many people may jump off the AI bandwagon as it bumps along the rough road, riding through its inevitable stops and slow progress ensures a faster arrival at the ultimate destination of mature technology.
The Federal Reserve Board has proposed a new rule for public comment that would significantly lower the cap on interchange fees that debit-card-issuing banks (issuers) may charge a merchant’s bank (an acquiring bank) for processing debit card transactions. Importantly, the proposal also includes a formula that would periodically adjust the interchange fee cap based on data voluntarily reported to the Board by debit card issuers. If adopted, this formulaic approach would result in automatic revisions to the amount of the interchange fee cap every two years, without any public comment.
Significantly, an exemption to the interchange fee cap for small issuers, defined as debit card issuers with consolidated assets of less than $10 billion, would remain intact. Fintech companies that partner with these small issuers, such as neobanks and digital wallets, can breathe a sigh of relief.
Debit cards are a vital component of the payments ecosystem, remaining the most popular form of noncash payment. Interchange fees are a key source of revenue for banks and their fintech partners. In 2021, interchange fees across all debit card transactions totaled $31.6 billion, a 19.1 percent increase from 2020. Market distortions inevitably result from price regulation, and this proposed rule, which would amend Regulation II, is no exception. Ramifications from this proposed rule, if adopted, will reverberate across the payments and banking industries.
Background
The Board first adopted debit card interchange fee standards in 2011, as mandated by Congress in the statutory provision known as the Durbin Amendment. Specifically, the statute requires the Board to establish standards for assessing whether the amount of any interchange fee received by a debit card issuer is “reasonable and proportional” to the cost incurred by the issuer with respect to the debit card transaction, while allowing for an adjustment to account for the costs incurred by the issuer to prevent fraud.
Under the current rule, each interchange fee received by a debit card issuer for a debit card transaction can be no more than the sum of 21 cents plus a small ad valorem component keyed to the amount of the debit card transaction and a small fraud prevention adjustment. The proposed rule would lower the cap of the base component to 14.4 cents per transaction such that, for example, the maximum permissible interchange fee for a $50 debit card transaction would be 17.7 cents under the proposal, down from 24.5 cents under the current rule.
Additionally, the proposal includes a mechanism that will, every other year, automatically adjust all three components of the interchange fee cap based on data reported to the Board in a voluntary survey of large debit card issuers. These future updates to the interchange fee cap would not be subject to public comment and would be published by March 31 of odd-numbered years, with the new amounts taking effect on July 1 and remaining in effect for two years until the next update.
Ramifications for Industry Participants and Consumers
Interchange fees are a zero-sum game between issuing banks and acquiring banks, with the latter tending to pass their costs on to merchants. Interestingly, the Board has noted (citing a study conducted by Board staff) that the introduction of the interchange fee cap in 2011 resulted in covered issuers increasing customer fees on checking accounts more than they otherwise would have, presumably to offset the lost revenue.
Although the proposed rule would apply only to large issuers, i.e., those with more than $10 billion in assets, small issuers exempt from the rule “do not exist in a vacuum” and could potentially indirectly face fee pressure in operating debit card programs, as Governor Michelle W. Bowman noted in a strong dissent. The impact of the proposed rule across the payments ecosystem may also be exacerbated by the Board’s recent revisions to debit card transaction routing rules for card-not-present transactions, which came into effect in July.
The Board is inviting public comment on the proposed rule until February 12, 2024.
In June 2023, the Connecticut legislature passed amendments to the Small Loan Lending and Related Activities Act. On September 11, 2023, the Connecticut Department of Banking (“Department”) subsequently issued related guidance on the scope of the Act and its requirements (“Guidance”). The amendments to the Act, which became effective on October 1, 2023, have potential implications for a wide range of financial services providers.
In addition to requiring the calculation of the annual percentage rate (“APR”) in accordance with the method prescribed by Military Lending Act, instead of by the method prescribed by federal Truth-in-Lending Act as had previously been done, the amendments broadened the scope of the Small Loan Lending and Related Activities Act in a number of ways. First, the amendments raised the dollar limit threshold for application of the Act from $15,000 to $50,000. The amendments also expressly imposed licensing on persons acting as agents, service providers, or in another capacity for persons who are exempt from licensure (such as a bank) under certain circumstances. Finally, the amendments simplified the definition of “small loan” in a manner that is arguably more inclusive.
The Department Guidance confirmed that imposing licensing on certain agents of exempt entities was designed to “codif[y] existing common law ‘true lender’ principles… to require licensure of partners to banks when the following conditions are met”:
Such person holds, acquires, or maintains, directly or indirectly, the predominant economic interest in a small loan;
such person markets, brokers, arranges, or facilitates the loan and holds the right, requirement, or right of first refusal to purchase the small loans, receivables, or interests in the small loans; or
the totality of the circumstances indicates that such person is the lender and the transaction is structured to evade the licensing requirements.
Inclusion of the predominant economic interest standard, consistent with similar recent legislation in other states (including Illinois, Maine, and New Mexico), would potentially require licensing of many fintech providers, as the nonbank partner in a bank partnership will often retain a greater financial interest in the transaction than the bank partner. The Department Guidance also confirms that the Department will consider the true lender factors set forth above, in addition to case law precedent construing such factors, to determine whether loans made on and after October 1, 2023, must comply with the provisions of the Act as amended, including its APR limitations. Additionally, those who service loans made by a bank pursuant to a “true lender” arrangement on and after October 1, 2023, will need to obtain licensure.
The amendments also changed the definition of a covered “small loan” to “any loan of money or extension of credit, or the purchase of, or an advance of money on, a borrower’s future potential source of money, including, but not limited to, future pay, salary, pension income or a tax refund” that was within the amount (now $50,000) and above the rate (12% APR) thresholds under the Act. The Act previously defined a covered “small loan” as “any loan of money or extension of credit, or the purchase of, or an advance of money on, a borrower’s future income” that met the amount and rate thresholds under the Act. The Act also previously defined “future income” to mean “any future potential source of money, [which] expressly includes, but is not limited to, a future pay or salary, pension or tax refund.”
The Department Guidance provided examples of nontraditional loan products that are generally covered by the Act as amended, when within the Act’s amount and rate thresholds. These include but are not limited to lawsuit settlement advances, inheritance advances, earned wage access advances, and income share agreements. While the Guidance conceded that applicability of the Act must be evaluated on a case-by-case basis, the Guidance also noted that “an advance of money on an individual’s future potential source of money of $50,000 or less with an APR greater than 12% will likely be covered by the Small Loan and Related Activities Act.” The Guidance further explained that an earned wage product, or an advance of money on future wages or salary that have been earned but not yet paid, will generally be covered by the Act as amended when the amount is $50,000 or less and the APR exceeds 12% when considering any finance charges. Notably, the Guidance states that “[i]n substance, the revised definition remains the same as the previous iteration concerning the types of transactions considered [covered small loans]” and simply “streamline[d] the small loan definition by removing this intermediary definition [of future income].” Accordingly, although the new definition of covered “small loans,” which is not limited by the term “future income,” may appear broader than the prior iteration, the Department’s position appears to be that the nonloan products identified in the Guidance as subject to the Act were also potentially subject to the Act before the amendments.
The Guidance also expresses a No-Action Position stating that the Department will not take enforcement action alleging unlicensed activity against a person that newly requires licensure for small loan activities under the Act as amended if the person filed an application for licensure by October 1, 2023.
One of the most basic questions that policyholders consider when assessing insurance policies is “who (or what) is covered?” Some policies, such as commercial general liability policies, answer that question more directly using standard form sections with titles like “Who Is an Insured.” Other liability policies, like those for directors and officers (D&O) liability or errors and omissions (E&O) coverage, may be less straightforward and require a more nuanced analysis of the various policy forms, definitions, and endorsements. In all cases, a good place to start is the policy declarations page, which typically identifies one or more “named insureds.” Those key insureds are the persons or entities who own the policy and whose names appear at the beginning of the policy.
Although the scope and amount of coverage available to entities or individuals varies significantly based on the type of coverage, policy terms, and facts giving rise to a particular claim, attention to the kind of insureds protected under a particular insuring agreement or policy is always critical. One event that could impact—or even eliminate—coverage for insureds is a name change, acquisition, merger, asset sale, or other change in corporate form. This article discusses several common insurability issues related to the corporate form for policyholders to consider when placing or renewing coverage.
Preserving Coverage in Deals
Nuanced analysis of who or what is covered may be academic if a change to corporate form following a deal negates potential coverage under legacy policies altogether. These insurance pitfalls can arise in a variety of ways.
For “claims-made” policies like D&O and E&O policies, an M&A transaction, restructuring, or other change to corporate form may result in a “change in control.” This matters because those policies typically will only cover wrongful acts by insureds that were alleged to occur before the closing date. A change in control sends the policy into “runoff,” which limits coverage to pre-transaction conduct and cuts off going-forward coverage for the company and its directors, officers, or employees.
The runoff terms depend on both the language of the seller’s D&O policy, which may provide for automatic conversion to runoff upon a change in control, and the effective date of the deal. Whether those provisions are triggered—and, if so, when the change in control occurs—can impact coverage for claims for pre-transaction wrongful acts that arise after the triggering event occurs.
To combat the risk of losing future coverage for pre-transaction acts, it is common (and encouraged) for buyers to require targets to obtain “tail” coverage for their policies for pre-transaction liabilities. Tail coverage extends the reporting period for a target’s current policy for a specified period of time. The period of the tail coverage can vary, but three to six years is most common. Tail coverage can protect buyers for claims that may have occurred prior to the consummation of the M&A transaction, and a buyer will want to avoid the risk that a claim is made against the target officers and directors after the acquisition and after expiration of the target’s D&O policy period. It is important to consider that many insurance companies will only provide D&O tail policies to a target company that already had D&O insurance in place before it received an offer to be bought.
Finally, careful attention must also be given to preserving insurance assets as part of any deal. In many deals, a surviving or acquiring entity does not assume all liabilities of the company it is acquiring. Many times, the successful transfer of interests under insurance policies in a particular transaction can turn on applicable state law. Limiting the transfer of liabilities or assets can have potential adverse impacts on the surviving entity’s ability to access historic insurance policies or to trigger coverage for legacy liabilities related to pre-transaction conduct.
Policy Changes May Lead to Unintended Consequences
There is no one-size-fits-all approach to modifying insurance policies to account for changes to corporate form. For example, there may be unintended consequences from identifying named insureds and any associated “dbas” (doing business as) or trade names in the declaration pages of liability policies. Some policyholders have found out the hard way, in litigation, that coverage may be limited depending on the specific wording of named insureds in an insurance policy. See, e.g., Masonic Temple Ass’n of Quincy, Inc. v. Patel, 185 N.E.3d 888 (Mass. 2022); see also Cent. Mut. Ins. Co. v. Davis, 576 F. Supp. 3d 493 (S.D. Tex. 2021) (stating as a matter of first impression that a designation of insured doing business as a named entity may still serve as a limiting phrase if the policy language shows that the parties intended to limit insurance coverage to one specific sole proprietorship).
In Masonic Temple Association of Quincy, Inc., for example, the Massachusetts Supreme Judicial Court held that a company was not covered under a liability policy where the company’s liabilities arose from activities outside the “dba” name identified in the policy’s declarations. The insured hotel business obtained several million dollars in general liability and umbrella coverage. When a dispute arose at a construction project about whether the business had adequate insurance to cover the work, the president of the company reached out to his insurance agent to modify the policies, including by listing the insured with reference to a “dba,” which led to a resumption of the construction project.
Following a fire at the property, an insurer denied coverage on the ground that it insured the hotel business only for operations at the “dba” address listed in the policy. In the coverage litigation that followed, the policyholder argued that the use of a “dba” name did not create a separate legal entity, so all of the company’s activities were covered under the policy, whether they related to the “dba” name or not. But the Massachusetts Supreme Judicial Court disagreed and held that the “ordinary understanding” of the phrase “doing business as” a particular entity meant that the policy only covered liability arising from activities undertaken while doing business as the listed entity. Any other interpretation, the court reasoned, would render the “dba” designation superfluous.
The Masonic Temple decision shows that clarifications to named insured provisions, even if well-intentioned, may have adverse consequences by unintentionally limiting coverage.
Takeaways
Insurance-related considerations for changes to corporate form are not limited to modified declarations pages or tail policies. For example, even in the absence of a change in control, policies may have other requirements related to acquisitions of new subsidiaries or similar operational changes that could jeopardize coverage if violated. Policyholders may have to undergo additional underwriting, or pay additional premiums, to cover the new acquisition. Even where coverage for new subsidiaries is automatic, policies may require notice or acceptance of special terms or exclusions related to the transaction to preserve coverage beyond an initial grace period. Engaging insurance coverage counsel as part of a deal team can help monitor these insurance requirements, ensure continuity of coverage, and avoid any unexpected coverage gaps.
The above concerns require nuanced analysis based on the specific lines of coverage, policy language, and circumstances giving rise to the name change or corporate restructuring. As just one example, the potential adverse impact of modifying named insureds to reflect trade names stands in contrast to insurance requirements in some jurisdictions where state regulators may require proof of name changes in certain policies when filing for a new “dba” or assumed name.
Careful analysis of insurance considerations in conjunction with changes to corporate form is of paramount importance in order to identify and resolve any issues before they cause problems securing coverage months, or even years later, when it may be too late. Retaining insurance coverage counsel early and often in the deal process can help minimize these risks and maximize recovery in the event of a claim.
This article is an introduction to the following article,[1] which was written by this author and published in the October 2023 issue of the Penn State Law Review’s online companion, the Penn Statim:
The Summary of New Developments article is based on the recent update of the New Developments section of chapter 1 of this author’s six-volume book, Mergers, Acquisitions and Tender Offers, which is published by the Practising Law Institute and updated twice a year. This New Developments section is divided into the following principal sections:
Section I, Recent Data: Macro View of the Recent Economic and Financial Impact of M&A, Sections 1:7.5 through 1:7.10;
Section II, Recent Data: Structural Issues in Recent M&A Deals, Sections 1:7.11 through 1:7.19;
Section III, Recent Data: Takeover Defenses, Tender Offers, and Related Issues, Sections 1:7.20 through 1:7.31;
Section IV, Recent Data: Cross Border M&A, Sections 1:7.32 through 1:7.36; and
Section V, Recent Data: Other M&A Issues, Section 1:7.37 through 1:7.43.
It must be emphasized that this Summary of New Developments focuses principally on the recent economic and financial aspects of M&A, and not on substantive legal developments. Those developments are addressed in the relevant chapters of the book, which has twenty-eight chapters. All mentions of specific chapters in the following text refer to Mergers, Acquisitions and Tender Offers.
The following sections of this article briefly discuss some of the highlights addressed in the five major sections of the Summary of New Developments. The emphasis here is on “some,” as there are many important concepts not discussed in this document.
Part I, Macro View of the Recent Economic and Financial Impact of M&A (Sections 1:7.5 through 1:7.10 of the Article)
The Rollercoaster Ride in Recent M&A. From 2013 through 2020, U.S. M&A activity was fairly level in both dollar value and number of deals. However, there was a “rollercoaster ride” from 2020 to 2022, with a significant increase in both deal volume and number of deals from 2020 to 2021, followed by a significant decrease in both of these measures from 2021 to 2022. Worldwide M&A activity generally followed this same pattern.
The fall in U.S. M&A activity from 2021 to 2022 was largely attributable to rising interest rates, which were engineered by the Federal Reserve Board in its fight against inflation.
M&A and GDP. M&A deal volume tends to move in lockstep with the growth or decline in aggregate Gross Domestic Product (GDP).[2] If GDP falls, which happens in a recession such as the recent one attributable to COVID-19, then M&A deal volume tends to fall.
M&A activity is also generally correlated with increases and decreases in the stock market. As inflation increases, interest rates will generally increase, and stock prices will generally fall. In addition, the S&P 500 (a broad measure of the value of stock) and total M&A transaction value generally move in lockstep, with both moving up or down together. However, during the COVID-19 years from 2019 to 2020, the stock market went up rather dramatically, while M&A volume dropped significantly, as did gross domestic product (GDP). This is an indication that the stock market is forward looking, whereas the growth in GDP from year to year is a function of the then-current economic performance.
Also, generally, when domestic M&A activity is robust, foreign M&A activity also tends to be robust, and when domestic activity declines, as was the case in 2022, foreign activity tends also to decline. This may mean that M&A activity, whether domestic or foreign, is driven by the same factors.
Cash or Stock? Most M&A transactions are all-cash deals, and this has remained true in recent years. As discussed in chapter 9, all-cash deals are virtually always taxable to the Target’s shareholders. On the other hand, if the consideration is all stock of the Acquirer, the transaction is generally tax free to the Target’s shareholders. In most years, in approximately 15% of all deals, stock of the Acquirer is the sole consideration.
Top Target Industries. For 2022, the top target industry in terms of both number of deals and dollar value of deals was “Technology Services.”
Domestic vs. Foreign Deals. Although in many years the value of U.S. deals exceeds the value of foreign deals, in all but one year since 2013 (2015), the number of foreign deals exceeded, by a wide margin, the number of U.S. deals. This indicates that the average value of foreign deals is substantially less than the average value of U.S. deals.
Overall Assessment of M&A in 2022. This brings us to the following overall assessment of M&A in 2022 by the Wachtell Lipton law firm, one of the most active law firms specializing in M&A:
The year 2022 was a tale of two halves for M&A. The beginning of the year was active, as robust deal-making carried over from the record-breaking levels of 2021 . . . . [However,] M&A activity slowed considerably after the first half of 2022, [as a result of] [1] a substantial dislocation in financing markets, [2] an increasingly volatile stock market, [3] declining share prices, [4] concerns over inflation, [5] rapidly increasing interest rates, [6] war in Europe, [7] supply chain disruption, and [8] the possibility of a global recession[.][3]
The article points out that “[n]otwithstanding lower overall activity, a number of megadeals were signed in 2022.”[4]
Part II, Structural Issues in Recent M&A Deals (Sections 1:7.11 through 1:7.19 of the Article)
Relative Numbers and Values of Public and Private Deals. While the number of public acquisitions and mergers is significantly less than the number of such private deals, the aggregate deal value of public deals is significantly more than the aggregated deal value of private deals. For example, for 2022, there were 216 acquisitions of publicly held U.S. Targets for a total of $653 billion, while, on the other hand, in the same year, there were 10,900 acquisitions of privately held domestic Targets for a total consideration of $252 billion.[5]
Thus, while the business press is full of articles discussing deals in which a publicly held Target is acquired, the number of these deals is nowhere near the number of non-public deals. However, the average value of these public deals generally exceeds by a wide margin the average value of private deals.
The EBITDA Valuation Metric. As discussed in chapter 11, which deals with valuation, a common deal metric is the comparison of (1) the Target’s earnings before interest, taxes, depreciation, and amortization (EBITDA) with (2) the Target’s total invested capital (TIC) or enterprise value (EV). Both TIC and EV mean the fair market value of the firm’s total debt (net of cash held) and equity. In addressing the EV/EBITDA ratio of the market generally as of the beginning of 2023, the Litera 2023 M&A Report explains:
Perhaps the biggest finding in this report is around EV/EBITDA valuations, which appear to be coming down at long last. Since 2016, the median M&A multiple has hovered around 10x, briefly wading into 11x territory in the buying frenzy of late 2021. For the first time in six years, however, the median EV/EBITDA multiple fell below 10x in Q3 2022, and the fourth quarter is following the same trajectory.[6]
In virtually all cases, the M&A multiple will be higher than the S&P 500 multiple because Acquirers have to pay a price that is higher than the going market price in order to get a sufficient number of a Target’s shareholders to accept the transaction.
Impact of Rising Interest Rates and PE Deals. It can be expected that as interest rates rise, thereby increasing the cost of financing acquisitions, the price Acquirers will be willing to pay for Targets will fall. Also, the increased interest rates in 2022 and 2023 have led some Private Equity (PE) deals (see chapter 14) to be done on an all-equity basis.
The Level of PE Activity. As an illustration of the significance of PE in M&A deals, it has been reported that over the years the following PE firms have completed the indicated number of deals: (1) Shore Capital Partners—586; (2) The Carlyle Group—485; and (3) KKR—438.[7]
Overpayments by Acquirers. In public deals, there is a tendency for the Acquirer to overpay. Investors’ concern about overpayment is illustrated in the 2020 acquisition of Slack by Salesforce. In that transaction, one source reported that the shares of Salesforce fell from around $264 before the deal became known to $220.78 at the end of the day the transaction was announced. The loss was 16.5% of the pre-announcement value, representing a $18.7 billion loss in value, which apparently was more than the amount paid for Slack.[8]
Part III, Takeover Defenses, Tender Offers, and Related Issues (Sections 1:7.20 through 1:7.31 of the Article)
The Pill. As discussed more fully in chapter 5, the most potent defensive tactic against a hostile takeover attempt is the Shareholder Rights Plan (i.e., Poison Pill), and although there had been a decrease in the number of companies with pills from 2006, there appears to have been a slight uptick in the number since COVID. However, a pill can be adopted in a “moment” after a Target’s board receives “notice” of an unwelcome offer.
The potential ineffectiveness of a pill in preventing a hostile takeover is illustrated in the 2022 acquisition by Elon Musk of Twitter. For example, an article in the New York Times on April 15, 2022, discussing the adoption of Twitter’s pill was entitled “Twitter Counters a Musk Takeover with a Time-Tested Barrier.”[9] Twitter’s “Time-Tested Barrier” was effective for exactly ten days, because, as a result of shareholder complaints and threats of suit, Twitter’s board entered into a merger agreement with Musk on April 25, 2022.[10]
This is an illustration that in Delaware, where Twitter is incorporated, a Target cannot use a pill to “Just Say No.” On the other hand, it may be possible for a Target incorporated in certain other states, such as Pennsylvania, to use a pill to “Just Say No.”
There is often a lot of interest in hostile tender offers. These are transactions in which a hostile Acquirer makes an unwanted bid directly to the shareholders of the Target. Tender offers can also be non-hostile as a first step in effectuating a two-step merger. As indicated in chapter 4, in many cases a consensual tender offer followed by merger can be effectuated much more quickly than a one-step merger.
Notwithstanding the large interest in hostile tender offers, they are rare. For example, in 2018 and 2019, there were only three; in 2020, there were six; in 2021, there was one; and in 2022, there were four. The treat of a hostile tender offer can cause a Target’s management to pay closer attention to their jobs; however, with the pill and the threat of a pill, potential hostile Acquirers are significantly deterred.
Deal Protection Devices; Direct and Reverse Termination Fees. A significant amount of time and effort goes into the planning and negotiating of a consensual deal, and an Acquirer will naturally be concerned that it will spend a lot of time and effort in securing a deal and then seeing the deal snatched by a higher bidder. One way of reducing the risk of loss is for the Acquirer to negotiate for a termination fee to be paid by the Target if the Target accepts a higher bid from a third party. As demonstrated in chapter 5, there can be a breach of the fiduciary duties of the Target’s directors if the termination fee is so high that potential topping bidders would be deterred from putting in a higher bid.
In addressing this issue in 2022, the average termination fee when measured against (1) the Target’s Total Invested Capital (i.e., equity and debt) was 4.1%, and (2) deal size was 3.3%.[11] As discussed in chapter 5, absent unusual circumstance, a court is likely to find a termination fee at these levels acceptable.
While termination fees are generally present in negotiated acquisitions of a public Target, they are rare in acquisitions of closely held Targets.
A termination fee paid by the Target to the Acquirer is commonly referred to as a Direct Termination Fee. A termination fee running from the Acquirer to the Target if the Acquirer walks away from the transaction is referred to as a Reverse Termination Fee, and as discussed in chapter 5, as a general matter, they do not present the same fiduciary duty issues as a Direct Termination Fee. Consequently, generally there is no limit on the size of a Reverse Termination Fee. In many transactions, such as in the Twitter deal, the Direct and Reverse Termination Fees are the same size.
In most public deals and in virtually all private deals, there will be a “No Shop” provision, which will, after the signing of the deal, prevent the Target’s board from actively seeking a higher deal. As indicated in chapter 5, while these provisions are generally acceptable in Delaware, they generally cannot be used by a Target’s board to “Just Say No” if it is approached by a potential higher bidder.
In some deals, the Target’s board may be given a “Go Shop,” which will for a specific period of time after the signing of the deal permit the Target’s board to seek an alternative buyer. As a general matter, the Termination Fee the Target will have to pay if it goes with a topping bidder that arises in the Go Shop period will be less than the Termination Fee that will have to be paid if the topping bidder shows up after the Go Shop period.
Banks and Bankruptcies. Virtually every business executive and business lawyer is aware of the bankruptcies of several banks that occurred in 2023. As addressed more fully in chapters 16 and 17, as a result of the Federal Reserve Board’s tight monetary policy (i.e., higher interest rates) for fighting inflation, there were the following three major bank bankruptcies during calendar year 2023 as of June 15, 2023:
Signature Bank;
Silicon Valley Bank; and
First Republic Bank of San Francisco.
In each of the above three transactions the banks were taken over by a profitable bank holding company. As of November 9, 2023, there were also bankruptcies by the following two banks: Citizens Bank, Sac City, Iowa and Heartland Tri-State Bank, Elkhart, Kansas.[12]
As discussed more fully in chapter 16, which deals with bankruptcy generally, and chapter 17, which deals with bank acquisitions, as a general matter, the cause of these bankruptcies was higher interest rates engineered by the Fed in its fight against inflation. Rather than borrowing low and lending high, these banks got caught into the trap of having to borrow high and lend low.
Most Active Investment Banks and Law Firms. As indicated from the following Figure 1-30 in the Summary of New Developments article, many of the usual investment banking firm and law firm “suspects” were the most active in M&A for 2022:
Figure 1-30
Top 10 M&A Investment Banking Firms and Law Firms Ranked by U.S. Deal Volume 2022
Investment Banking Firms (a)
Law Firm (b)
1
Goldman Sachs & Co. LLC
Simpson Thacher & Bartlett LLP
2
JPMorgan Chase & Co.
Sullivan & Cromwell LLP
3
Morgan Stanley
Skadden, Arps, Slate, Meagher & Flom LLP
4
Bank of America Securities Inc.
Latham & Watkins LLP
5
Citigroup Inc.
Wachtell, Lipton, Rosen & Katz
6
Barclays Bank Plc
Kirkland & Ellis LLP
7
Credit Suisse
Weil, Gotshal & Manges LLP
8
Evercore, Inc.
Gibson, Dunn & Crutcher LLP
9
Wells Fargo & Co.
Debevoise & Plimpton LLP
10
Allen & Co., Inc
Cravath, Swaine & Moore LLP
Sources: (a) 2022 Mergerstat Financial Advisor Rank by Total Value, 2023 FactSet Review at 74. (b) 2022 Mergerstat Legal Advisor Ranking by Total Value, 2023 FactSet Review at 75.
Proxy Contests. As discussed more fully in chapters 5 and 8, a proxy contest can involve, inter alia, (1) an attempt by an insurgent individual or group to gain control of the board of a publicly held company, and (2) an attempt by a potential Acquirer to replace the board of a publicly held Target company with the purpose of facilitating the acquisition of the Target by the Acquirer. Proxy contests may also involve the efforts of an activist shareholder, such as Carl Icahn, to use such a technique to gain control of the board for the purpose of changing the Target corporation’s business policies. Activist proxy contests are generally addressed in the next section.
The number of these contests ranged from 102[13] in 2018 to 85 in 2022, with the number going straight down yearly from 2018 to 2022. The reasons for this drop are not clear to this author; however, it can be expected that the SEC’s new “Universal Proxy” rules, which were adopted in 2021, could have had a depressing impact on the number of proxy contests.
Activist Shareholders. As discussed in chapter 28, activist shareholders are involved in many proxy contests. However, the activist does not prevail often; for example, in 2022 the Activist prevailed in eight of the 85 contests. As indicated next, an activist may employ a short selling strategy.
Short Selling and the Attack on Ichan Enterprises. Although short selling strategies are not included in the Summary of New Developments, there could be a heightened interest in short selling strategies as a result of the short selling attack on Icahn Enterprises, controlled by Carl Ichan, arguably one of the “Kings of Short Sellers.”
A traditional short selling investment strategy could include the following steps taken by the Short Seller:
The Short Seller borrows stock of the Short Selling Target;
The Short Seller then sells the borrowed stock on the open market at the going price, say $20 per share;
The Short Seller then talks down the price of the stock through publicly distributed analyses that show that the stock of the Short Selling Target is over-priced; and
After the expected fall in the price of the stock of the Short Selling Target, say to $12 per share, the Short Seller purchases the stock at $12 per share and uses that stock to close out the original borrowed stock position, which was $20 per share.
When the dust settles, the Short Seller has a profit of $8 per share before expenses.
Thus, rather than following the usual investing strategy of buying low and then selling high, the short seller sells high and then buys low, with that stock used to close out the high price position that was financed with debt.
As discussed in chapter 28, Icahn Enterprises, L.P., a publicly held firm controlled by Carl Icahn, came under a short selling attack in 2023 by a short selling firm, Hindenberg Research. As a result of that attack, there was a significant drop in the trading price of Ichan Enterprises, leading one source to title its report on the situation as “Icahn Got Icahn’ed.”
As a result of this situation, it can be expected that there will be a heightened interest in short-selling strategies.
Part IV, Cross Border M&A (Sections 1:7.32 through 1:7.36 of the Article)
In General. Chapters 19 through 22 address various aspects of inbound (i.e., acquisitions by a Foreign Acquirer of a US. Target) and outbound (i.e., acquisitions of by a U.S. Acquirer of a Foreign Target) cross border M&A. This section provides a high-level review of some of the financial and economic considerations of this activity.
Wachtell Lipton publishes an annual Cross-Border M&A Guide,[14] and the 2023 Guide, which was issued in early 2023 covering principally 2022 activity, provides the following overview of cross border M&A activity during 2022:
[Cross Border M&A Generally:] Cross-border merger and acquisition (“M&A”) transactions are a significant part of the global M&A landscape, representing approximately a third of all deal activity annually in recent years.
[The “Reversion to the Mean”:] After a record-shattering year for M&A in 2021, the year 2022 represented a reversion to the mean in terms of M&A volume, reflecting the impact of [1] Russia’s invasion of Ukraine, [2] interest rate spikes, [3] challenging debt markets, [4] ongoing supply chain disruption, and [5] the Covid-19 pandemic.
Worldwide M&A volume decreased to $3.6 trillion in 2022, compared to an average of $4.3 trillion annually over the prior ten years (in 2022 dollars). Cross-border deal volume in 2022 was $1.1 trillion, equivalent to 32% of global M&A volume and consistent with the average proportion (35%) over the prior decade.
[Inbound Transactions:] Acquisitions of U.S. companies by non-U.S. acquirors constituted $217 billion in transaction volume and represented 19% of 2022 cross-border M&A volume.[15]
It is interesting to note that, as would be expected, the bulk of M&A activity takes place in North America and Europe.
The Impact of the Exchange Rate. The foreign exchange rate can have a significant impact on inbound acquisitions and outbound acquisitions. For example, if the dollar becomes weaker (that is, it takes less of a foreign currency to purchase a dollar) when measured against the currencies of the major trading partners of the United States, then (1) it will be cheaper for potential Acquirers located in such countries to buy U.S. Targets, and (2) at the same time, it will become more expensive for potential U.S. Acquirers to buy Targets located in such countries. The reverse is true if the dollar becomes stronger (that is, it takes more of a foreign currency to purchase a dollar).
The UNCTAD World Investment Report. This Report, which was not available at the time of the writing of the Summary of New Developments, gives the following high-level overview regarding the level of M&A in 2022:
The multitude of crises and challenges on the global stage – the war in Ukraine, high food and energy prices, risks of recession and debt pressures in many countries – negatively affected . . . cross-border mergers and acquisitions (M&As), [which] were especially shaken by stiffer financing conditions, rising interest rates and uncertainty in financial markets.[16]
It can be expected that the war between Israel and Hamas, which began in October 2023 (and is still raging as this article is being written in early November 2023) will have a depressing impact on cross border M&A involving a company located in, or doing significant business in, the Middle East.
Another section of the UNCTAD Report provides the following observations on the M&A component of Foreign Direct Investment (FDI), which is investment by a company located in one country, such as the U.S., into another country, such as France:
In 2022, FDI flows to developed countries as a group fell by 37 per cent, largely in Europe and North America. In the other developed countries, they rose . . . In the United States, flows declined by 26 per cent to $285 billion, mainly due to the halving of cross-border M&As, which generally account for a large share of inflows. Among the 10 largest [M&A transactions], only one occurred in the United States. The decrease in M&As had a direct impact on the equity component of FDI, which fell by 35 per cent. . . . [I]n Canada [FDI] decreased by 20 per cent to $53 billion, as cross-border M&A sales fell by 37 per cent.
While cross-border M&As declined to $11 billion, announced greenfield [new investment] projects rose 28 per cent, to $25 billion.[17]
U.S. Acquirers of Foreign Targets, and Foreign Acquirers of U.S Targets. From 2018 to 2023, the number of Foreign Targets of U.S. Acquirers in outbound acquisitions exceeded the number of U.S. Targets of Foreign Acquirers in inbound acquisitions. Thus, over this period there were, and generally there are, more U.S. Acquirers of Foreign Targets than Foreign Acquirers of U.S. Targets. However, the number of inbound and outbound acquisitions for each of those years were not dramatically different. For example, in 2022, there were (1) 2,519 acquisitions by U.S. Acquirers of Foreign Targets and (2) 1,842 acquisitions by Foreign Acquirers of U.S. Targets.[18]
In elaborating on one aspect of inbound activity, a 2021 article entitled American Companies You Didn’t Know Were Owned By Chinese Investors contains, inter alia, discussions of the following U.S. companies that have significant Chinese shareholders: (1) AMC; (2) Shanghai Automotive Industry Corp (SAIC), which has a partnership with GM; (3) Spotify; (4) Hilton; and (5) GE’s appliance division.[19]
CFIUS-Type Restrictions. As a result of the growth in cross border acquisitions and ownership, many countries have adopted investment restrictions for investments by foreign persons similar to the Committee on Foreign Investment in the United States (CFIUS) law in the United States, which is discussed in chapter 19. On this development, the UNCTAD World Investment Report 2023 says:
[T]he trend observed in recent years towards introducing or tightening national security regulations that affect FDI in strategic industries continued and expanded. The approach to FDI screening varies significantly from country to country, resulting in a patchwork of different regimes. Together, countries with FDI screening regimes accounted for 71 per cent of global FDI flows and 68 per cent of FDI stock in 2022, compared with 66 and 70 per cent, respectively, in 2021. Furthermore, the number of merger and acquisition (M&A) deals valued at more than $50 million withdrawn by the parties for regulatory or political concerns in 2022 increased by a third, and their value increased by 69 per cent.[20]
These foreign CFIUS-type restrictions are discussed in chapter 20, which deals with outbound acquisitions.
Part V, Other M&A Issues (Sections 1:7.37 through 1:7.43 of the Article)
Recent Developments with Special Purpose Acquisition Companies (SPACs). SPACs, which are addressed generally in chapter 6, are companies organized through a blank check initial public offering (IPO). In these transactions, at the time of the IPO, the issuing company has no business other than the plan to use the funds raised in the IPO to acquire an operating company. When a SPAC completes an acquisition, the transaction is sometimes referred to as a de-SPAC. Obviously, SPAC transactions are heavily regulated by the SEC.
As indicated in the Summary of New Developments article, the number of SPACs between 2018 and 2022 has been on a “roller coaster” ride with (1) 2018 and 2019 having 29 SPACs each; (2) 2020 jumping to 98; (3) 2021 more than doubling at 210; and (4) 2027 more than halving to 127. Also, through August 2023, there were just 22, an 80% decline. [21]
Introduction to Blockchain and Cryptocurrency M&A. Although this topic is introduced in the Summary of New Developments, this author has limited expertise in this area. However, it appears that the SEC disclosures by Coinbase, which was the first major crypto company to go public in an initial public offering, can provide helpful information on this topic. For example, Coinbase’s April 1, 2021, IPO prospectus provides the following background information on Bitcoin, the largest cryptocurrency:
Bitcoin sparked a revolution by proving the ability to create digital scarcity: a unique and finite digital asset whose ownership could be proven with certainty. This innovation laid the foundation for an open financial system. Today, all forms of value – from those natively created online such as in-game digital goods to traditional securities like equities and bonds – can be represented digitally, as crypto assets. Like the bits of data that power the internet, these crypto assets can be dynamically transmitted, stored, and programmed to serve the needs of an increasingly digital and globally interconnected economy.
Today, we enable customers around the world to store their savings in a wide range of crypto assets, including Bitcoin and USD Coin, and to instantly transfer value globally with the tap of a finger on a smartphone.[22]
Coinbase’s more recent SEC filings may be helpful in understanding this topic as well.
For an excellent review of many of the legal issues impacting cryptocurrencies in the context of M&A, see the following article: Blockchain M&A: The Next Link in the Chain.[23] Among other things this article addresses the following issues:
U.S. Federal Securities Laws Considerations. [See chapter 6]
Commodities Regulation Considerations.
Federal and State Money Transmission Considerations.
U.S. Anti-Money Laundering Considerations.
Sanctions Considerations.
1940 Act Considerations.
IP Rights Considerations.
Privacy and Cybersecurity Considerations.
CFIUS Considerations [See chapter 19]
Tax Considerations [See chapter 9]
The Impact of Environmental, Social, and Governance (ESG) on M&A. Two lawyers from Wachtell Lipton paint the following picture of the potential impact of ESG on M&A in 2022:
In the past year, ESG has played an increasingly prominent role in activist campaigns, most dramatically exemplified by Engine No. 1’s success in electing three directors to Exxon Mobil’s board, as well as by the development of the two-front activist “pincer” attack in which an ESG activist attack is followed by an attack from an activist focusing on financial returns. Activists have also leveraged ESG to further their M&A theses: Third Point called for the breakup of Royal Dutch Shell, Elliott called for the separation of SSE’s renewables business and Bluebell called on Glencore to divest its coal business.
ESG’s influence is also increasingly evident in the context of M&A negotiations and larger deal considerations. As one example, it has become ever more critical for acquirors to comprehensively diligence the ESG profile of potential Targets—a result of the SEC’s increased focus on the adequacy of ESG disclosures and the growing legal, financial and reputational costs of ESG underperformance.[24]
This topic is discussed from a due diligence perspective in chapter 3.
The Impact of ChatGPT and Other Artificial Intelligence (AI) Firms on M&A. Business activity with AI is fast moving as indicated by the announcement in January 2023 by Microsoft of the expansion of its partnership with OpenAI, a leader in the AI business. A Microsoft press release[25] on the transaction explained:
Today, we [Microsoft] are announcing the third phase of our long-term partnership with OpenAI through a multiyear, multibillion dollar investment to accelerate AI breakthroughs to ensure these benefits are broadly shared with the world.
This agreement follows our previous investments in 2019 and 2021. It extends our ongoing collaboration across AI supercomputing and research and enables each of us to independently commercialize the resulting advanced AI technologies.
Supercomputing at scale – Microsoft will increase our investments in the development and deployment of specialized supercomputing systems to accelerate OpenAI’s groundbreaking independent AI research. We will also continue to build out Azure’s leading AI infrastructure to help customers build and deploy their AI applications on a global scale.
New AI-powered experiences – Microsoft will deploy OpenAI’s models across our consumer and enterprise products and introduce new categories of digital experiences built on OpenAI’s technology . . . .
Exclusive cloud provider – As OpenAI’s exclusive cloud provider, Azure [a computer system] will power all OpenAI workloads across research, products and API services.[26]
Obviously, this is a very complex topic, and the discussion here and in the Summary of New Developments is designed only to alert the reader to some of the issues related to AI.
Preliminary Report on M&A Activity in 2023. This section of the Summary of New Developments article discusses some of the M&A developments occurring in 2023 that are not discussed in the preceding sections. The developments discussed here generally occurred after the submission of the New Developments sections to PLI at the end of June 2023 and before September 30, 2023, several days before the publication of the Summary of New Developments on the Penn Statim.
This section of the article shows that both worldwide “Value” and “Number of Deals” were down dramatically through August 2023. With respect to the dollar size of deals, through August 2023, there were twenty-nine deals with an acquisition price of $5 billion or more, whereas in the same period during 2023 there were forty-nine deals of that size.[27]
I thank my following Penn State Law Research Assistants for comments on this article: Akshaya Senthil Kumar, an LLM student, and William Schroeder, a third-year student. ↑
GDP is the dollar value of aggregate purchases of new products and services by (1) consumers, (2) firms, (3) federal, state, and local governments, and (4) foreign persons (netted against foreign purchases by U.S. persons). ↑
Igor Kirman, Victor Goldfeld, Elina Tetelbaum, Wachtell Lipton Rosen & Katz, Takeover Law and Practice: Current Developments, Harv. L. Sch. F. Corp. Governance (May 3, 2023), https://perma.cc/95JP-2CD3. ↑
FactSet Mergerstat, 2023 FactSet Review, at 25 (Table 1-3, Composition of Aggregate Net Merger and Acquisition Announcements, with respect to Number of Deals) and at 31 (Table 1-5, Composition of Net Merger and Acquisition Announcements, 2018-2022, with respect to Value of Deals) (May 2023). ↑
Litera Corp., 2023 M&A Report: Return to Normal: Resilience and Resetting 12 (Dec. 1, 2022), https://perma.cc/QS5E-BVKA. ↑
Since 1992, shortly after the breakup of the Soviet Union, the Commercial Law Development Program of the U.S. Department of Commerce (CLDP) has aided post-conflict and developing countries through commercial law reform. These reforms are critical in establishing legislative, regulatory, and judicial environments conducive to international trade and investment, and in creating a level playing field for U.S. firms seeking to conduct business abroad.
CLDP works closely with the U.S. Department of State and engages in capacity-building technical assistance legal training programs with more than seventy foreign governments. These programs draw upon highly experienced regulators, judges, policymakers, business leaders, and attorneys from both public and private sectors to deliver results that make meaningful and lasting changes to legal and business environments in the host countries (seethe CLDP’s website). By providing technical legal assistance to countries seeking to understand and embrace international best practices in the development and implementation of commercial law, CLDP contributes to the global building and strengthening of the rule of law.
Expertise involved
CLDP attorneys and experts advise on commercial law topics, including energy transition, ethics and anti-corruption, information and communications technology, infrastructure (public private partnerships and project finance), intellectual property, private sector development, arbitration, procurement, bankruptcy, investment, and trade.
What does CLDP do and where?
CLDP operates worldwide and offers volunteer opportunities for legal experts to contribute to efforts that advance the rule of law through commercial legal reform. Current programming is conducted in the following regions of the world:
Europe and Eurasia;
Latin American and the Caribbean;
the Middle East and North Africa;
South Asia;
Southeast Asia and the Pacific; and
sub-Saharan Africa.
There are also global initiatives that target the development of commercial law frameworks; regulations and policies in energy sectors; women-owned and small business access to government contracts; digital connectivity; and international commercial arbitration.
Sample projects
A sample of regional projects illustrates the breadth of subject matter involved. For example:
To assist the transition of countries to stable, market-based economies that are integrated with the world’s economies, CLDP works with countries to align their rules and processes with international best practices [Eastern Europe, Southeastern Europe, the Southern Caucasus, and Central Asia].
CLDP works with government procurement agencies to improve transparency and effectiveness of systems and procedures, and it also supports better insolvency practices [Latin America and the Caribbean].
In the Middle East and North Africa, CLDP connects U.S. experts with country counterparts to assist and train on a range of commercial and legal issues, including insolvency in commercial arbitration.
Relying upon private sector lawyers, businesspersons, and professionals along with governmental officials, CLDP programming in South Asia includes trade and investment assistance, intellectual property protection, technology transfer and innovation, competition and consumer protection, company and franchise law reforms, energy and mining extractive concerns, information and communication technology, transportation and infrastructure, eCommerce and cyber law, banking and financing, insolvency and bankruptcy, ADR, and women’s economic empowerment.
CLDP also works with Southeast Asian and Pacific Island countries to develop transparent legal and procedural frameworks to oversee complex infrastructure projects to attract high-quality investors and developers [Thailand, Cambodia, Burma, Myanmar, Malaysia, Timor-Leste, Indonesia, Philippines, Vietnam, and the Pacific Islands].
In sub-Saharan Africa, CLDP seeks to reform and strengthen intellectual property legislation, administration, and enforcement on a country basis [Ghana, Nigeria, Liberia, Mali, South Africa, and Kenya]; and on a regional basis with the Economic Community of West African States (ECOWAS), Southern Africa Development Community (SADC), and East African Community (EAC).
On a global-initiative level, CLDP helps countries on the verge of becoming major oil and gas producers establish the capacity to manage resource revenues, maximizing value and transparency.
These projects rely on many pro bono lawyers and experts to help build and implement commercial law frameworks incorporating best practices of contracting, accounting, and taxation to attract foreign investment.
Role of volunteers (pro bono) and their expertise
CLDP operates only when invited by the host government, and first seeks to identify and assess problematic points in a host country’s commercial law framework. CLDP attorneys, who have experience employing a variety of development approaches, assess whether improvements needed in a host country commercial law framework are substantive or procedural, human or institutional. If expertise is needed from the private sector, pro bono volunteers conduct capacity-building training or legislative and regulatory reviews. The CLDP lawyer handling the project works to identify volunteers with the appropriate expertise from various channels, including federal and state judicial organizations and bar associations. The rich range of expertise found in the ABA Business Law Section would greatly enhance pro bono lawyer contributions to CLDP’s work and strengthen the global rule of law.
Procedure for your involvement
As a channel for announcements of CLDP opportunities, the Business Law Section (BLS) Rule of Law Committee will receive periodic notices of CLDP project opportunities and then liaise with BLS committees with the relevant expertise. The type of legal expertise is specified in the CLDP announcement, and CLDP will invite volunteers whose expertise matches CLDP’s project requirements and who are interested in participating for a video interview with CLDP project coordinators. Under this new cooperative program with the BLS, volunteer lawyers—if selected after the interview—may be offered the opportunity to provide in-person or remote technical legal assistance, including, inter alia:
seminar-type presentations for foreign officials;
simulation-styled training for the development of negotiation skills of foreign officials;
desktop or in-person review of draft laws and regulations to ensure they are compatible with international best practices;
revision of national investment laws ensuring they are conducive for foreign investors; or
service as arbitrators or judges for international moot court competitions.
While some CLDP projects are being conducted on a remote basis, many programs now involve volunteers conducting training programs in foreign countries and engaging in person-to-person interactions with foreign government officials, diplomats, and lawyers. In such cases, the volunteer’s pro bono contribution is time and expertise; CLDP will pay for the international travel costs.
Whether an issuer qualifies as a foreign private issuer, or FPI, will determine the filing regime it must follow with the Securities and Exchange Commission (SEC) and the applicable corporate governance requirements. The SEC and the exchanges in the United States give considerable deference to home-country requirements for an FPI and impose few additional requirements. An issuer’s FPI status is determined as of a date within thirty days before the initial filing of the registration statement with the SEC. Thereafter, FPI status is tested annually at the end of the second quarter of the issuer’s financial year.
Definition
A foreign private issuer is an entity (other than a government) incorporated or organized under the laws of a jurisdiction outside of the United States, unless the following two conditions apply:
more than 50% of its outstanding voting securities are directly or indirectly owned of record by U.S. residents, and
any of the following applies:
the majority of its executive officers are U.S. citizens or residents,
the majority of its directors are U.S. citizens or residents,
more than 50% of its assets are located in the United States, or
its business is administered principally in the United States.
A company incorporated under the laws of a non-U.S. jurisdiction will be treated as a U.S. issuer if more than 50% of its voting securities are held directly or indirectly by U.S. residents and it has any one of the enumerated U.S. contacts.
FPIs are allowed a number of benefits that are not available to U.S. issuers.
Determining FPI Status
Securities ownership. An issuer must look through record ownership of brokers, dealers, banks, and nominees holding securities for the accounts of their customers in the United States and in the issuer’s home country (and, in the case of an issuer with a public trading market, the country of its primary trading market if not the United States or its home country). Where an issuer cannot determine the ultimate residency of the owner of shares held by a nominee (either because the nominee will not provide the information or it imposes an unreasonable charge for the information), the issuer is entitled to presume that the residency of the nominee’s customers is the same as the nominee’s principal place of business. The issuer must also consider any beneficial ownership reports and any other information available. If an issuer has actual knowledge about the residency of its shareholders, it must consider that information in making the determination.
Non-voting securities are not included in the calculation.
If an issuer has more than one class of voting securities with different voting rights, the issuer can choose between two options: (1) calculating the percentage of voting power held by U.S. citizens or residents or (2) calculating the percentage of the number of securities. However, once the issuer chooses a method, it must apply that method consistently.
Residency and citizenship of officers and directors. The tests for officers and directors are separate, as are the tests for U.S. residency or U.S. citizenship. Dual citizens with U.S. citizenship are counted as U.S. citizens for these tests. Members of senior management with significant management responsibility or policy-making functions must be included as executive officers. Executive officers of subsidiaries must be treated as executive officers of the issuer if they perform policy-making functions for the issuer. A person with permanent resident status in the United States (sometimes known as a “green card” holder) must be counted as a U.S. resident. For other individuals who live in the United States but are not green card holders, the issuer must establish criteria to determine residency and apply the criteria consistently. Factors could include tax residency, nationality, mailing address, physical presence, or immigration status.
Location of assets. In determining the location of the issuer’s assets, an analysis of the balance sheet is required. Consideration should be given to the accounting treatment of the issuer’s assets in either a geographic segment footnote or other disclosures in the financial statements. However, additional analysis is required of the various categories of assets on the balance sheet. There may be considerable judgment in determining the location of assets. The issuer should adopt a documented methodology for making the determination and apply it consistently. In addition, the issuer’s auditors should review the methodology.
Location of administration. An issuer’s business is administered from the location where operational and policy decisions are made. In making the determination, the number of days the CEO spends at the issuer’s non-U.S. offices, the location of meetings of the board of directors and meetings of shareholders, and the location where each principal business function is administered should be considered.
Read More
This article is based on a CLE program titled “Disappearing Deference to Home Country Law for Foreign Private Issuers” that took place during the ABA Business Law Section’s 2023 Hybrid Spring Meeting. To learn more about this topic, view a recording of the program, free for members.
Raising rates is a standard business practice, often indicative of increased value and expertise. However, managing a client relationship in a way that makes a rate increase not only acceptable but also welcome is a nuanced skill. It’s rooted in consistent value delivery and open communication. In this article, we’ll delve into the strategies and best practices that can make this delicate transition smoother for both lawyers and their clients.
Setting the Foundation: Building a Strong Client Relationship
Deliver Extraordinary Service from Day One
The foundation of any successful client relationship is exceptional service. From your first interaction, strive to exceed expectations in terms of legal expertise, responsiveness, and outcomes. This sets the stage for any future discussions about rate adjustments.
Regularly Communicate Value
Your monthly invoice is more than just a bill; it’s an opportunity to communicate value. Use it to summarize the work that you’ve done, the time that you’ve saved the client, and the positive outcomes that you’ve achieved. This keeps the client aware of the value that you provide.
Build a Personal Relationship
A strong client relationship goes beyond professional interactions. Take the time to understand not just your client’s business but also their personal challenges and goals. This deeper connection fosters loyalty and can make conversations about rate increases more comfortable.
Be Transparent
Transparency is crucial in any client relationship. Keep your clients informed about any changes in their cases, matters, or billing. Even when there’s no significant update, a quick check-in can go a long way toward showing that you’re actively thinking about their needs.
Offer Value-Added Services
In today’s competitive landscape, going beyond billable legal work is essential. Consider offering value-added services such as educational webinars, professional introductions, newsletters, or even 24/7 availability for emergencies. These services not only enhance your value proposition but also provide tangible justifications for a rate increase.
Solicit and Act on Feedback
Feedback is invaluable for continuous improvement. Regularly solicit it through check-in meetings and anonymous surveys. More importantly, act on this feedback to refine your services, thereby enhancing your value proposition.
The Mechanics of Raising Your Rates
Assess the Value Delivered to the Client
Before initiating a rate increase, take stock of the additional value that you’ve been providing. This could be enhanced legal expertise in a specialized area, faster response times due to additional staff, or investments in technology that lead to more efficient and faster service.
Be Mindful of Timing
The timing of your rate increase can significantly impact its reception. Ideal times include after a successful case resolution, during a scheduled client review where you can demonstrate added value, or when introducing new services or technologies. The end or beginning of a fiscal year also offers a natural transition point.
Craft a Value-Backed Pitch
Your pitch should be a compelling narrative that centers around the value you bring to the table. It should review the value that you’ve consistently delivered, justify the rate increase by explaining new value-added services or expertise, and discuss how these enhancements will benefit the client. Write down your pitch and practice it to ensure clarity and confidence.
Choose the Right Communication Channel
The avenue you choose for this delicate conversation should facilitate a two-way dialogue. Options include an in-person meeting, a videoconference, or a formal letter or email followed by a meeting.
Conduct the Meeting
The discussion should be structured yet open. Execute the meeting with poise and professionalism. Listen actively, and be prepared to address any questions or concerns that your clients may have.
Follow Up
After the meeting, send a summary email or letter outlining what was discussed and agreed upon. Implement the new rates and added services as discussed and continue to monitor and communicate the value being provided.
Conclusion
In our many years of experience working with attorneys on business development and client relations, the prevalent concern around raising rates has been the fear of losing clients. However, it’s worth noting that we’ve only seen a client sever ties for this reason once. This underscores that with the right approach, most clients understand and accept the necessity of rate adjustments. A rate increase, when presented as a reflection of enhanced value, can actually strengthen your client relationships. The key is to focus on what’s in it for the client. By following these best practices, you’re not just asking for more—you’re offering more. Good luck!
The European Union (EU) Foreign Subsidies Regulation (FSR) has now entered into full effect. On October 12, 2023, its last element—the obligation to notify the European Commission (EC) of certain M&A transactions and public procurement procedures—became applicable. Companies must now adopt internal implementation measures to comply with all the obligations imposed by the FSR. This article will briefly outline the main aspects of the FSR and demonstrate why FSR issues may be important even for US companies.
A. Background
Investments in the EU by companies receiving subsidies from non-EU countries (including the US) have increased rapidly in recent years. This has raised concerns that fair competition in the EU market could be distorted, as subsidies granted from EU member states are subject to the EU’s strict rules on state aid. Adopted at the end of 2022, the FSR is intended to tackle this issue, with the goal of creating a level playing field in the EU for EU and non-EU companies alike.
The FSR empowers the EC to impose remedies on companies that receive subsidies from non-EU countries (such as reducing market presence or repaying the subsidies). The EC may even prohibit contemplated M&A transactions or require a completed transaction to be reversed. Fines for noncompliance can be imposed of up to 10% of aggregate worldwide turnover and periodic penalty payments. To avoid this, companies must make sure they are prepared, as the EC intends to enforce the FSR rigorously.
B. Three main tools
Under the FSR, the EC has three tools for assessing the legality of foreign subsidies:
First, the “M&A tool,” which enables the EC to review certain mergers and acquisitions of control. It creates an obligation to notify the EC of any M&A transactions that exceed two thresholds and a standstill obligation. Companies must notify financial contributions from non-EU countries when:
at least one merging company, the target, or the joint venture is established in the EU and generates aggregate turnover of at least EUR 500 million in the EU, and
taken together, all companies involved have received more than EUR 50 million in financial contributions from non-EU countries in the three preceding years.
Notifiable M&A transactions must not be implemented before their clearance by the EC. This has a direct impact on deal timelines (“standstill obligation”).
Second, the “public procurement instrument,” which expands the notification obligation to include procurement procedures. The EC is to be notified of financial contributions from non-EU countries when:
the estimated total value of the awarded public procurement agreement is at least EUR 250 million, and
the bidder has received at least EUR 4 million in financial contributions from non-EU countries in the three preceding years.
And third, a general instrument for market investigation, the “ex officio review tool.” Regardless of the above-mentioned formal notification obligations, the EC will also be able to investigate ex officio any potentially distorting foreign subsidies. A wide margin of discretion enables the EC to initiate such ex officio investigations with almost no restrictions. However, it is not yet clear to what extent the EC will actually make use of this tool.
C. Financial contributions and foreign subsidies
Notification requirements are tied to “financial contributions” granted (directly or indirectly) by non-EU countries. The term refers to more than just “foreign subsidies” and is defined very broadly.
A “financial contribution” can include but is not limited to:
transferring funds or liabilities (such as capital injections, grants, loans, loan guarantees, fiscal incentives, setting off operating losses, compensation for financial burdens imposed by public authorities, debt forgiveness, debt to equity swaps, or rescheduling),
the foregoing of revenue that is otherwise due (such as tax exemptions, or granting special or exclusive rights without adequate remuneration), or
providing goods or services or purchasing goods or services where a foreign subsidy necessitates finding a foreign financial contribution with:
a benefit for a company engaging in an economic activity in the internal market, and
a limitation of the benefit, in law or in fact, to one or more companies or industries.
Once notified, the EC will assess whether the foreign financial contribution constitutes a foreign subsidy and evaluate whether it has any distorting effect on the EU market. Finally, the EC may carry out a balancing act, taking into account all positive and negative effects of the foreign subsidy. The actual test criteria to be applied remain unclear and will only be further clarified by the EC in the coming years. The EC is expected to choose an approach inspired by well-established principles and jurisprudence regarding EU state aid law.
D. What do companies need in order to be prepared?
Because the FSR creates new notification requirements, companies are facing additional administrative burdens to ensure M&A compliance and be M&A-ready (i.e., collecting the necessary data and preparing a compliance system). The FSR will impact deal timelines and transaction security by creating one more regulatory filing that will have to be considered in addition to merger control and foreign direct investment filings.
The FSR also provides companies with new options to use the FSR itself against competitors. Companies can complain to the EC, which can result in an ex officio investigation. For example, such informal complaints over distortive subsidies from Qatar and the United Arab Emirates were raised by EU soccer clubs and associations earlier this year. So far, the EC has reacted with restraint.
E. Outlook
Because of the FSR’s wide scope, implementing the duties resulting from the FSR is a topic that also matters to US companies. Just to mention one example: according to the parties, the merger between the two US fashion companies Tapestry and Capri is subject to the FSR M&A notification obligation. Capri has a well-established business in Europe (brands such as Michael Kors, Jimmy Choo, or Versace). Hence, according to the EC Implementing Regulation it is deemed to be “established in the EU.” Therefore, the transaction is covered by the FSR regardless of the fact that Tapestry and Capri are both US—and not EU—companies.
Although concrete effects of the FSR may not have been strongly felt so far, this may change soon. According to the EC’s department for competition and its Director-General Olivier Guersent, the new EU reviewing power and the EC’s FSR activities will be “ramped up” over the next few months.
Specifically, FSR investigations may be initiated in the wind power industry in the near future. The EC recently encouraged the industry to submit information on potential unfair practices distorting competition in the wind power market. In its European Wind Power Action Plan of October 24, 2023, the EC explicitly announced that it intends to make use of the tools provided to it by the FSR. Another sector that could attract the EC’s interest is the electric vehicle industry: President of the European Commission Ursula von der Leyen announced in her State of the Union speech on September 12, 2023, the launch of anti-subsidy investigations into electric vehicles from China. FSR investigations could follow, although this is uncertain.
However, the situation remains very dynamic. So far, seventeen M&A deals have been pre-notified to the EC in order to discuss and determine jointly whether they will be covered by the FSR. More FSR (pre-)notifications to the EC will certainly follow soon. The EC can also be expected to extend its ex officio FSR activities sooner or later—in general and in regard to other specific sectors.
Knowledge is power, they say. In the context of a Delaware limited liability company (“LLC”), knowledge about the company’s finances, governance, operations, and affairs is found in the company’s books and records. But like any power, the power of a Delaware LLC’s members and managers to obtain information and knowledge about their LLC can be abused. A disgruntled, difficult, or disruptive member or manager can use their information rights as a cudgel against the LLC and its management, harassing them with burdensome or redundant requests for information and records for no legitimate reason.
But a member’s or manager’s right to LLC information is not absolute. The Delaware Limited Liability Act (the “Act”) establishes limits on why and how a member or manager can request and obtain LLC documents and information. However, those limits may not prevent bad actors’ abuse of those rights. Fortunately, the Act allows an LLC to further tailor and restrict members’ and managers’ information rights in its limited liability company agreement. Given the disruption, burdens, costs, and animosity involved in illegitimate or abusive information requests, Delaware LLCs should thoughtfully consider the information rights provisions they include in their organizing documents.
Information Rights under the Delaware LLC Act
As set forth in Section 18-305 of the Act, members and managers can make a reasonable, written demand for information from the LLC if the stated purpose of the request is “reasonably related to” either the member’s interest as a member of the LLC or the position of manager and the requested information is “necessary and essential to achieving that purpose.” This information includes:
True and full information regarding the status of the LLC’s business and financial condition.
A copy of the LLC’s federal, state, and local income tax returns for each year (promptly after becoming available).
A current list of each member and manager’s name and last known business, residence, or mailing address.
A copy of any written LLC agreement and certificate of formation, and all amendments and executed copies of any powers of attorney pursuant thereto.
True and full information regarding the amount of cash and a description and statement of the agreed value of any other property or services contributed by each member and which each member has agreed to contribute in the future, and the date on which each became a member.
Other information regarding the affairs of the LLC as is just and reasonable.
While an LLC must provide company documents and information so long as the request is “necessary and essential” for a proper purpose relating to the requestor’s role as a member or manager, Delaware courts have held that an LLC is under no obligation to create documents, explanations, summaries, or commentary. In evaluating whether a member or manager has a proper purpose, Delaware courts have held that when a manager makes an information request, they have made out a prima facie case for access given their role in managing the operations of an LLC. However, that presumptive manager access to information may nevertheless be denied if the LLC can demonstrate that the manager has made such request for an improper purpose.
Seemingly, the Act’s requirements of a proper purpose and limitation of requests to only “necessary and essential” documents would be sufficient to prevent the abuse of information rights. But that is not necessarily the case. A member or manager determined to cause havoc through abusive requests still has plenty of leeway to do so under the Act, including dragging the LLC through costly litigation about the legitimacy or scope of their demand if the LLC refuses to produce the requested information. LLCs can and should establish more robust protections against using information rights as a weapon.
Further Narrowing Information Rights in a Limited Liability Company Agreement
Like many other rights and obligations in the Act, the provisions in Section 18-305 regarding access to LLC information are default rules. That is, they apply in the absence of any corresponding provisions in the limited liability company agreement or the absence of any limited liability company agreement at all. As explained in that section, “The rights of a member or manager to obtain or examine information as provided in this section may be expanded or restricted in an original limited liability company agreement or in any subsequent amendment approved or adopted by all of the members or in compliance with any applicable requirements of the limited liability company agreement.”
To keep information rights from being abused, LLCs should consider drafting or amending their limited liability company agreement to include language providing the following:
Any sensitive information requested, including customer lists, financial records, and other proprietary information, shall remain confidential and not be disclosed to others pursuant to detailed confidentiality and nondisclosure provisions. Section 18-305(c) of the Act permits managers to keep confidential from members information (i) in the nature of trade secrets, (ii) that the manager believes in good faith is not in the best interest of the LLC to disclose, or (iii) that the LLC is required by law or agreement to keep confidential. Nevertheless, including restrictive covenants regarding confidential information in a limited liability company agreement that clearly delineate the scope of and restrictions on such information can reduce disputes over whether information falls under Section 18-305(c).
Information will be shared with members only on a “need-to-know” basis, meaning that only those members who require the information to perform their duties or make informed decisions will have access to it.
Access to detailed financial information—such as tax returns, bank statements, and investor agreements—is restricted to a subset of members, such as managers or designated financial officers.
Information rights may be terminated upon the withdrawal or expulsion of a member from the LLC.
Copyright 2023 Bodman PLC. A version of this piece was previously published as a Bodman Business Client Alert. Bodman has prepared this for informational purposes only. Neither this article nor the information contained in this article is intended to create, and receipt of it does not evidence, an attorney-client relationship. Readers should not act upon this information without seeking professional counsel. Individual circumstances or other factors might affect the applicability of conclusions expressed in this article.
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