In re CNX Gas Corp. Shareholders Litigation, C.A. No. 5377-VCL (May 25, 2010)
In this action, the Court of Chancery denied plaintiffs’ motion to preliminary enjoin a controlling stockholder freeze-out transaction, which was structured as a tender offer followed by a short-form merger. The Court first determined that the transaction was subject to entire fairness because the special committee appointed by the subsidiary’s board of directors to evaluate the offer did not recommend in favor of the transaction. Despite the entire fairness review, the Court denied plaintiffs’ request for a preliminary injunction because (i) any harm to the putative class could be remedied by a post-closing damages action; (ii) there was no viable disclosure claim; and (iii) the tender offer was not coercive. The court discussed the contours of the entire fairness standard as well as the considerations applicable to determining what stockholders constitute part of the “minority” for purpose of a majority of the minority vote on a transaction.
In 2005, CONSOL Energy, Inc (“CONSOL”) formed CNX Gas Corp. (“CNX”) as a subsidiary. Three of the four CNX directors were also directors of CONSOL. As of April 26, 2010, CONSOL owned approximately 83.5% of the outstanding shares of CNX. 87% of the remaining shares of CNX were held by approximately 25 institutional investors. The largest minority shareholder of CNX is T. Rowe Price, which owns 6.3% of the common stock and 37% of the public float. T. Rowe Price also owns approximately 6.5% of CONSOL’s outstanding common stock.
On March 10, 2010, T. Rowe Price placed CONSOL and CNX on its restricted list, which enabled them to negotiate with CONSOL over a potential acquisition of CNX in a freeze-out transaction. T. Rowe Price and CONSOL entered into an agreement whereby T. Rowe Price agreed to tender its shares for $38.25 per share in connection with any tender offer initiated by CONSOL. On April 28, 2010, CONSOL commenced a tender offer for all of the shares of CNX it did not already own for $38.25, which represented a 45.83% premium over the closing price of CNX’s common stock on the day before CONSOL announced its tender offer. CONSOL committed to effect a short-from merger of the remaining shares for the same price if it achieve ownership of 90% or more of the CNX shares as a result of its Tender Offer. Consummation of the Tender Offer was subject to a non-waivable condition that a majority of the outstanding minority shares be tendered, excluding shares owned by directors or officers of CONSOL or CNX. The T. Rowe Price shares were included in the majority-of-the-minority calculation.
The CNX board authorized the formation of a one-person special committee, consisting of the lone director independent of CONSOL. The Special Committee’s financial advisor found the $38.25 price to be fair, but it attempted to negotiate a higher price (even though it was not technically authorized to negotiate). The Special Committee decided to remain neutral on the merger and disclosed its position in a Form 14D-9.
In determining the appropriate standard of review, the Court of Chancery engaged in a lengthy analysis of Delaware law regarding controlling stockholder freeze-out transactions.
First, the Court noted that a negotiated merger between a controlling stockholder and its subsidiary is subject to entire fairness review under the Delaware Supreme Court’s holding in Kahn v. Lynch Communication Systems, Inc. Second, the Court explained that, under In re Siliconix Inc. S’holders Litig., a controller’s unilateral tender followed by a short-form merger is reviewed under “an evolving standard far less onerous than Lynch” (i.e., business judgment rule). Next, the Court noted Vice Chancellor Strine’s decision in Pure Resources, which held that entire fairness should not apply if (i) the tender offer is subject to a non-waivable majority-of-the-minority tender condition, (ii) the controlling stockholder commits to consummate a prompt short-form merger at the same price, and (iii) the controlling stockholder has made no retributive threats.
In departing from the standard espoused in other recent Court of Chancery decisions such as Siliconix, Aquila, and Pure Resources, the Court adopted the so-called “unified standard” proposed by Vice Chancellor Strine in In re Cox Communications, Inc. S’holders Litig., holding that entire fairness applies to a controlling stockholder freeze-out tender offer unless the tender offer is both (i) negotiated and affirmatively recommended by a special committee of independent directors and (ii) conditioned on the affirmative tender of a majority of the minority shares.
The Court held that an effective special committee must be “provided with authority comparable to what a board would possess in a thirdparty transaction,” which the special committee in this case did not possess. The Court also found that the role of T. Rowe Price “undercut the effectiveness of the majority-of-the-minority tender condition.” Citing to the Delaware Supreme Court’s decision in Crown EMAK Partners, LLC v. Kurz, the Court noted that economic incentives should be taken into account when determining the “effectiveness of a legitimizing mechanism like a majority-of-the-minority tender condition or a stockholder vote.” The Court was concerned that, given T. Rowe Price’s 6.5% ownership stake in CONSOL, it was “indifferent to the allocation of value between CONSOL and CNX.” Accordingly, the Court held that the transaction would be reviewed under the entire fairness standard.
In light of the application of the unified standard of Cox Communications, the Court held that there was no need to enjoin the transaction because the remedy of post-trial money damages would be sufficient.