When a company changes hands, the general counsel is faced with numerous tasks that need to be accomplished. Among those tasks is the need to determine whether a change-in-control clause has been triggered under the company’s management incentive plan.
When analyzing change-in-control questions, keep in the mind the following points to avoid a few potential pitfalls:
1. The federal securities laws may not apply when you interpret the plan
Typically, change-in-control clauses include definitions that borrow heavily from the federal securities laws. In fact, many change-in-control clauses have identical definitions for terms such as “control” and “affiliate” as those found in the securities laws. As a result, there is a knee-jerk assumption that those terms will be construed in accordance with case law interpreting the federal securities laws. Tread carefully before making that assumption and relying on those interpretations. The plain meaning of the term “control,” for example, differs from the meaning set forth in the federal securities laws.
The purpose of the federal securities laws is different than the purpose behind a change-in-control clause and a management incentive plan. Under the federal securities laws, the concepts of “control” and “affiliates” are interpreted with the goal of protecting the public from fraud and ensuring adequate disclosures regarding the relationship of various entities. For a management incentive plan, management and the shareholders are concerned with practical changes at the company and not academic arguments about the interpretation of securities terms.
2. Fiduciary duties may arise based on the company’s conduct
It is not uncommon for management incentive plans to contain provisions disclaiming fiduciary duties. These provisions do not always prohibit a finding that a company voluntarily undertook a fiduciary duty as a result of actions taken by its board of directors.
When a potential change-in-control transaction occurs, a company will need to investigate whether the transaction triggered a change-in-control payment. The company’s actions in connection with the investigation may expose it to an argument that it undertook a fiduciary duty to the individual members of the management incentive plan. For example, assurances to management that the investigation or contemplated transaction will be “fair” (or similar words) to the management may also result in a finding that the company undertook a fiduciary duty.
3. Do you want a “closing” opinion or a full analysis?
When change-in-control issues arise, a company may decide to retain outside counsel to review the transaction and render an opinion on whether the transaction will result in a change-in-control. Outside counsel will be concerned about exposing their analysis to potentially adverse management and later scrutiny in litigation. As a result, these opinions may take the form of a “closing opinion” that states a conclusion without any legal analysis. What may be missing from these types of opinions is a detailed legal analysis of the transaction to support the conclusion. While such opinions may give a company comfort and may be acceptable for some purposes, they could result in difficulties when dealing with a complicated change-in-control analysis.
4. Closing thoughts
Depending on the transaction, whether a change-in-control occurred may require a detailed and thorough analysis of a management incentive plan, the plan’s change-in-control clause, and the terms contained therein. A company risks lengthy litigation and reputation damage should it make the wrong decision on a change-in-control issue. Take a measured and analytical approach to the analysis and, if you retain outside counsel, ensure a thorough analysis is performed with an eye toward disputes with management. If all goes well, incentive plan disputes with management will be avoided and the company will thrive after any ownership changes.
Practice Areas: Complex Business Litigation and Arbitration