Fried, Frank, Harris, Shriver & Jacobson LLP

04/09/2024 | Press release | Distributed by Public on 04/09/2024 08:48

Delaware Supreme Court Rejects Recent Efforts to Limit MFW and Amplifies Special Committee Requirements—Match Group

M&A/PE Briefing | April 9, 2024

In a much-anticipated decision, In re Match Group, Inc. Derivative Litigation (Apr. 4, 2024), most notably, the Delaware Supreme Court rejected the proposition that MFW's applicability should be limited to squeeze-out mergers (the context in which the MFW case itself was decided). Notably, the Supreme Court, sua sponte, requested supplemental briefing on this issue from the Match Group parties-although, in the proceedings below, the parties had conceded MFW's applicability and had focused only on whether the MFW prerequisites to business judgment review had been satisfied. The Supreme Court concluded that nothing in MFW or subsequent Delaware law suggests that the MFW doctrine should be limited to the squeeze-out merger context.

Key Points

  • The decision establishes that MFW will continue to be applicable to all conflicted-controller transactions, not only to squeeze-out mergers. Therefore, unless the MFW prerequisites for business judgment review are satisfied, entire fairness (Delaware's most exacting standard of judicial review) will continue to apply to transactions in which a controller stands on both sides and receives a non-pro rata benefit.

  • The decision establishes, for the first time, that, to obtain business judgment review under MFW, all members of the special committee must have been independent. The Supreme Court reversed the Court of Chancery's holding that a special committee can be independent for MFW purposes if a majority of the members were independent and none of the non-independent members dominated the committee's process.

  • The decision reaffirms, however, that concerns about controllers' inherent coercion (as reflected in the MFW framework) do not excuse demand on the board with respect to derivative claims against a controller. The Supreme Court reiterated that the issue of demand on the board to bring derivative claims "stands apart" from the issue of the substantive standard of review for evaluating the underlying transaction. This should be helpful in defending against strike suit derivative claims against controllers.

  • The decision uses notably broad language in respect of the issue of director independence. In affirming the Court of Chancery's finding that one of the special committee members, who had been employed at the company over a decade, may not have been independent, the Supreme Court stressed the "personal relationship" the director had with the company and its alleged controller, given statements that the director was "grateful" to the company and the controller and that he and the controller had feelings of "mutual respect."

  • We note that a series of recent Delaware decisions (discussed below) indicate continued judicial skepticism with respect to transactions involving a controller. Following this trend, in Match Group, the Supreme Court emphasized that "a controlling stockholder generally has inherently coercive authority over the board and the minority stockholders," and that there is a high bar to successfully making a pretrial showing of arm's-length negotiation in connection with a conflicted-controller transaction.

Background. A multi-step reverse spinoff was effectuated by a controlling stockholder, which separated the two business segments of IAC/InterActiveCorp (the "Separation"). The Separation was approved by a special committee (the "Separation Committee") and the minority stockholders. The plaintiffs brought suit claiming that the Separation was unfair because the controlling stockholder received benefits at the expense of the minority stockholders. Specifically, although the transaction shifted some voting power from the controller to the minority stockholders, the plaintiffs were dissatisfied with the allocation of cash and other assets to the post-spin company. The Court of Chancery, at the pleading stage of the litigation, held (in a decision issued Sept. 1, 2022 by Vice Chancellor Morgan T. Zurn) that the MFW prerequisites for business judgment review of the transaction were satisfied; and the case was dismissed. On appeal by the plaintiffs, the Delaware Supreme Court, sitting en banc, held that the MFW prerequisites were not satisfied, and that the entire fairness standard of review therefore applies. The Supreme Court remanded the case to the Court of Chancery for further proceedings.


The MFW framework provides a pathway to business judgment (rather than entire fairness) review of conflicted-controller transactions. Where a controller has a personal interest in or will receive a non-ratable benefit from a transaction with the corporation, entire fairness review (Delaware's most exacting standard of review) applies-unless the MFW prerequisites for business judgement review have been satisfied. The MFW prerequisites are that the transaction was, from the outset, conditioned on approval by both (i) an independent special committee of directors that was fully authorized and functioned effectively to fulfill its duty of care and (ii) a majority of the unaffiliated stockholders in a fully informed, uncoerced vote. These dual protections for minority stockholders are intended to remove the controller's influence over the company and the board and thus replicate a transaction involving arm's-length bargaining. If the MFW prerequisites have been satisfied, any fiduciary breaches by the controller or directors in connection with the transaction are effectively "cleansed"-and claims of fiduciary breaches are dismissed at the early pleading stage of litigation. If only one (but not both) of the MFW prerequisites have been met, then entire fairness review applies, but the burden of proof shifts from the defendants (to prove fairness) to the plaintiffs (to prove unfairness).

Certain influential commentators have advocated that MFW should be applicable only in the context of squeeze-out mergers. Squeeze-out mergers are viewed as inherently benefiting a controller at the expense of the minority stockholders, and the MFW decision itself was decided in this context, based on precedent also in this context. Certain commentators have proposed thatconflicted-controller transactions in all other contexts (for example, say, the award of compensation to a controller-CEO) should be subject to business judgment review so long as the transaction was approved either by independent directors or by the minority stockholders. They have emphasized that modern corporate realities-such as the increased influence of institutional investors and the greater sophistication of directors-have reduced the need for protection of minority stockholders such that satisfaction of both of the MFW prerequisites is not necessary. In Match Group, the Supreme Court rejected this approach. The Supreme Court, based on an extensive review of precedential cases, concluded that nothing in MFW or subsequent decisions indicates that MFW should be limited to the squeeze-out merger context-and, to the contrary, the cases reflected the Delaware courts' longstanding "heightened concern for self-dealing when a controlling stockholder stands both sides of a transaction and receives a non-ratable benefit."

The Supreme Court established, for the first time, that, in the MFW context, for a special committee to be independent, every member of the committee must be independent. The Court of Chancery had held that the Separation Committee was independent, even though one of the three members ("TM") may not have been independent-because a majority of the members were independent and TM had not "dominated" or "infected" the Committee's process (specifically, there were no allegations that TM had controlled the information flow to the other Committee members, undermined the Committee's process in any way, or exerted undue influence or control over the other members). The Supreme Court rejected the lower court's approach, however, and held that the Separation Committee was not independent. The Supreme Court wrote: "We stated in MFW that the special committee must be independent, not that only a majority of the committee must be independent." The Supreme Court explained that, in the MFW context, "the inherently coercive presence of the controlling stockholder requires it to irrevocably and publicly disable itself from using its control to dictate the outcome of the negotiations to ensure an arm's-length outcome. A controlling stockholder's influence is not 'disabled' when the special committee is staffed with members loyal to the controlling stockholder." The Supreme Court confirmed that in contexts not involving a controlling stockholder, it is not required that every member of a special committee is independent.Indeed, in those contexts, the Supreme Court wrote, "forming a special committee is a delegation of the board's general authority to a subset of its directors." And, "[c]onsequently, akin to the board itself," even "majority independence is not a requirement."

The Supreme Court stressed that a director's owing a "debt of gratitude" to a controller, and a director and the controller having "mutual respect" for each other, may support a reasonable inference of non-independence. The plaintiffs alleged that TM had worked at IAC for over a decade, beginning when he was 35 years old and including a seven-year term as CFO, and that he had served over many years as a director of various IAC-affiliated companies. The Court of Chancery found that TM may not have been independent-based on his longtime employment at the company for which had received compensation of $55 million, as well as $4.5 million in compensation for his board service. The Supreme Court agreed with the lower court's conclusion-but, we would note, appeared to put less emphasis on his these monetary aspect, and seemed to focus on the "personal" aspects of his "relationship" with IAC and its alleged controller, Barry Diller. The Supreme Court noted that when TM announced his departure from the company, he stated that he was "more than grateful to Barry Diller for the opportunities he and IAC have given me"; and that Diller expressed "total respect" for TM. The Supreme Court wrote: "Longstanding business affiliations, particularly those based on mutual respect, are of the sort that can undermine a director's independence. Directors who owe their success to another will conceivably feel as though they owe a 'debt of gratitude' to the individual. The plaintiffs have adequately pleaded that [TM] may have such a relationship with IAC and Diller-one with 'personal ties of respect, loyalty, and affection'-and it is therefore a reasonable inference that he was not independent of [IAC] when negotiating the Separation." In a footnote, the Supreme Court rejected the defendants' argument that TM's success after he left IAC (around the time of the Separation) undercut any reasonable inference that he was financially beholden to IAC. The Supreme Court stated: "[TM]'s close and pervasive relationship with IAC and Diller are what undercut his independence"; and his later success inferably resulted directly or indirectly from this relationship with IAC, which spoke to a "debt of gratitude he owes to IAC and Diller for his own success."

The Supreme Court reaffirmed that the board of a controlled company can evaluate and determine a stockholder's demand to bring a derivative claim against the controller. A derivative claim is a claim made on behalf of the corporation, seeking damages for the corporation for wrongful acts by others that harmed the corporation (usually regarding actions by fiduciaries of the corporation, such as directors or controllers). Delaware law requires that a stockholder seeking to bring a derivative claim must either make a demand on the board for the board to bring the claim or must plead that demand was excused as it would have been futile (for example, because the board was not sufficiently independent to evaluate the demand impartially). The Supreme Court acknowledged some tension in Delaware law between, on the one hand, concerns (reflected in the MFW doctrine) about inherent coercion by a controller in respect of a board's negotiation of a business transaction, but, on the other hand, Aronson and other demand review precedent holding that independent directors of a controlled company are sufficiently independent to decide a demand to bring litigation against the controller. The Supreme Court emphasized that the issue of demand review (i.e., the decision whether to pursue litigation on behalf of the corporation) "stands apart" from the issue of what the substantive standard of review is for the transaction being challenged. The former, the court stated, is "grounded in the board's statutory authority to control the business and affairs of the corporation" (including when the corporation should bring litigation), while the latter relates to the issue of the substantive fairness of the underlying transaction. The Supreme Court wrote: "[D]emand is not excused for the sole reason that entire fairness is the standard of review in a controlling stockholder transaction." The Supreme Court's reaffirmation of the ability of the board of a controlled company to determine whether to sue a controller should be helpful in defending against strike suit derivative claims challenging controller transactions (outside the context of squeeze-out transactions).

The Delaware courts have long indicated judicial skepticism regarding controller transactions. Former Delaware Supreme Court Chief Justice Leo E. Strine Jr. has referred to controllers as "800-pound gorillas"-because they hold implicit influence over directors (who a controller typically can remove or not reappoint, or can reward and enrich) and over unaffiliated stockholders (who a controller can harm through retributive acts such as a squeeze-out merger or cutting of dividends). Recent Delaware decisions have reflected a view that even putatively independent directors may owe or feel an allegiance to the interests of a controller rather than to the corporation and its stockholders generally-and that this concern is not necessarily eliminated even where the controller has no intention to be coercive, the transaction is negotiated by "outside" directors, and/or the transaction is stockholder-approved. In Match Group, the Supreme Court encouraging "best practice" in connection with conflicted-controller transactions-that is, the controller's "employing procedural tools to replicate arm's length bargaining."

The Delaware courts have recently issued a series of decisions against controllers' interests. In Sears Hometown (Jan. 2024), the Supreme Court affirmed the Court of Chancery's holding that under certain circumstances controllers can have fiduciary duties (albeit limited ones) even when just exercising their stockholder voting power. In TripAdvisor (Feb. 2024), the Court of Chancery held that reincorporation of a controlled Delaware company to a jurisdiction with lower fiduciary standards is subject to entire fairness review as a conflicted controller transaction and under many circumstances would not be entirely fair. In Tornetta (Jan. 2024), the Court of Chancery held that Tesla Inc.'s 10-year equity-based compensation plan for Elon Musk, its alleged controller, was invalid, largely on the basis that the board wanted to please Musk. In Moelis (Feb. 2024), the Court of Chancery held that governance provisions contained in a stockholders agreement with a controller or other key stockholder may violate the statutory mandate that a corporation be managed by its board of directors except to the extent set forth in the company's charter. (We note that, in response to Moelis, the Delaware Legislature is considering amendments to the statute to permit governance rights in stockholders agreements). In addition, in several cases in recent years, on various grounds, the courts have found minority stockholders (in some cases those holding stakes nowhere near 50%) to be controllers.

Practice Points

  • A company, and a stockholder who might be deemed its controller, should be prepared that a transaction involving the controller may be subject to entire fairness. Even if the transaction is structured with MFW compliance as the objective, the court may find that the special committee members were not actually independent, that the special committee did not function effectively, and/or that the minority stockholder vote was coerced or not fully informed. Notably, in Match Group, as the Court of Chancery noted, the special committee appeared to function effectively on behalf of the minority stockholders-meeting at least twenty times, consulting with its own financial and legal advisors, considering the implications of saying "no" to the Separation, and successfully negotiating benefits for the minority that were not included in IAC's initial proposal. Nonetheless, as discussed, the Supreme Court held that business judgment review was not available under MFW as one of the members of the special committee may not have been independent.

  • A controller should consider the benefits of including at least some number of clearly independent directors on the board.Match Group indicates that, to structure a conflicted controller transaction to comply with MFW, there must be at least one independent director who can comprise the membership of the special committee. As there has been judicial skepticism with respect to one-person special committees, it may be advisable to appoint more than one clearly independent director when possible.

  • When determining if directors are independent for MFW (or other) purposes, a board should keep in mind the highly subjective factors that the court may take into account. A board should conduct a thorough analysis to evaluate whether a director to be selected for membership on a special committee would be likely to be considered by the court to be independent. The court's analysis as to independence is a holistic one that includes determinations relating to the nature and depth of relationships between a director and the company or its controller, as well as directors' states of mind. Companies, directors and controllers should be careful not to make statements (in testimony, public filings, published articles, public speeches, etc.) suggesting a close personal relationship, subjective feelings of "owing-ness" or "beholden-ness," or other factors to the extent they could be misleading in indicating a possible lack of independence. The broad language used by the Supreme Court in Match Group underscores that even expressions of "gratitude," "mutual respect," "loyalty" or "affection" may be interpreted by the court as indicating possible non-independence (at least when combined with other indicia of possible non-independence).

  • Whether a transaction should be structured to comply with MFW depends on the facts and circumstances. MFW compliance offers significant potential benefits-but may not always necessarily be the preferred path in connection with a conflicted controllertransaction.MFW essentially offers a path to business judgment review of a conflicted controller transaction, based on procedural protections for minority stockholders that the court deems sufficient to substitute for an actual arm's-length process. Importantly, MFW compliance makes possible a dismissal of the case at the early pleading stage of litigation. However, crafting a transaction to be MFW compliant gives directors negotiating leverage over the controller with respect to the transaction and may create deal-consummation risk relating to obtaining approval of the minority stockholders. Further, as established in Match Group, MFW compliance also requires that at least one independent director be on the board. Thus, depending on the facts and circumstances, it may be preferable in some cases not to utilize the MFW framework even though the transaction, if challenged, would then be subject to entire fairness review. Notably, although application of the entire fairness standard, historically, generally was outcome-determinative in favor of plaintiffs challenging conflicted-controller transactions, over the past few years, in several cases, the court has found that the standard was satisfied-and in some cases notwithstanding that the process apparently was seriously flawed. When determining whether to seek to craft a transaction to comply with MFW, the relevant considerations would include what would be gained and what would be given up as a business matter by seeking to comply with MFW; the likelihood that a court would find that the transaction complied with MFW; and the likelihood that the transaction would be found to meet the entire fairness standard.

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