A recent article, “Judge Posner Called It a ‘Racket’” by Gregory Markel, Daphe Morduchowitz, and Sarah Fedner reports on mootness fees in federal merger litigation.  This article was posted with permission.  The article reads:

In a recent decision from the United States District Court for the Southern District of New York, a federal Judge pushed back against the common but abusive practice of “mootness fee” payoffs in public M&A deals. In the February 2022 opinion, Judge Oetken denied a $250,000 attorneys’ fee demand by plaintiff’s counsel in an investor challenge to Microsoft’s $19.7 billion acquisition of Nuance Communications. The decision is by a court which took the opportunity to both consider and reject a widespread phenomenon that many call a meritless shakedown or transaction tax on public M&A deals. This decision is significant in that it is fairly rare for mootness fee payments to be subject to court scrutiny despite the increasingly common voluntary dismissals by plaintiffs in this type of case. For more information about the history of mootness fee and disclosure only settlements and the need for reform click here. 

The Delaware Court of Chancery’s 2016 decision in In re Trulia, Inc. Stockholder Litigation, which criticized so called “disclosure only settlements” paid to plaintiffs’ counsel in exchange for supplemental disclosures that do not provide any material additional information, led to a steep decline in filings of merger litigation in the Delaware Court of Chancery.[1] Following the Trulia decision,  there was a sharp increase in merger challenges filed in  federal court. A number of plaintiffs’ firms filed cases in federal court very similar to the ones criticized in Trulia with the apparently sole purpose of obtaining attorneys’ fees in exchange for voluntary dismissals and non-material supplemental disclosures. These voluntary dismissal cases, because they are dismissed prior to class certification, generally are not subject to court approval.

Background

Beginning in 2009, filings of class action claims challenging mergers increased substantially. As of 2015, the year before the Trulia decision, roughly 95% of merger transactions valued at more than $100 million were challenged.[2] 60% of these challenges were filed in Delaware courts, and more often than not in Chancery Court, while only 19% were filed in federal courts in other states.[3]

These cases were typically resolved in early settlements with corrective disclosures and broad releases of future class claims for defendants that required court approval. Plaintiffs’ attorneys’ fee requests were often approved by the courts under the common law, corporate benefit doctrine. The disclosures supposedly provided shareholders with information material to making an informed investment decision. In reality, however, the added disclosure they provided  was not meaningful and most often a makeweight to justify plaintiffs’ counsels’ attorneys’ fees. In many cases, the corrective disclosures were nearly pointless and did not affect many shareholder votes. Thus, many class actions filed in connection with M&A deals became a vehicle for plaintiffs’ firms to obtain attorneys’ fees with little, if any, meaningful benefit for shareholders. Since class actions were created to benefit a class of injured claimants, there was a fairly obvious disconnect between the theoretical purpose and the reality of the motive behind many merger cases. Judge Posner of the Seventh Circuit referred to this practice by plaintiffs as “no better than a racket.” [4]

The Trulia Decision

The Delaware Chancery’s Court decision in Trulia sought to put an end to this practice by limiting disclosure-only settlements to those that resulted in disclosures that added significant value to class members and provided releases of sensible scope. The Trulia court refused to approve a proposed settlement, which included supplemental disclosures and attorneys’ fees in exchange for a broad release, finding that the proposed disclosure was not “plainly material” as defined under Delaware law.[5] The Trulia court cautioned that, unless there was “a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the 'total mix' of information made available,”[6] proposed disclosure-only settlements and accompanying attorney’s fees would not be approved going forward by the Chancery Court.[7]

Federal Merger Litigation Post-Trulia

Trulia came as the culmination of several then recent Delaware Chancery Court decisions and it made clear there was a new regime in Delaware Chancery Court for settlements of merger cases. However, Trulia did not apply in other forums. As a result, certain plaintiffs’ firms took advantage of this by challenging mergers in alternative jurisdictions. In 2016, the rate of merger litigation plummeted in Delaware state court by almost 50% and continued to decrease thereafter.[8] This trend was accompanied by an immediate uptick in merger litigation in federal courts.[9] As of 2018, only 5% of completed deals were challenged in Delaware Chancery Court, while 92% were challenged in federal court.[10]

Not only did the rate of filings increase in federal court, but the number of class action cases resolved through voluntary dismissals before a class was certified skyrocketed. Starting in 2016, many merger case filings were followed by voluntary dismissals and a payment of attorneys’ fees to plaintiffs. By 2018, 92% of the federal merger challenges resulted in  voluntary dismissals and payment of mootness fees.[11]

These mootness fees cases generally do not require court approval as the cases are generally dismissed prior to class certification, and therefore without a requirement of court approval, and the fees are infrequently challenged by defendants who often elect to pay the mootness fee demands, even in  the often frivolous cases, in order to avoid delays in completing merger transactions and the costs of  fully litigating  a case on the merits.

Serion v. Nuance Communications, Inc.

In the recent Nuance decision, Judge Oetken denied plaintiff’s counsel’s fee petition, finding that  plaintiff’s counsel had not shown a “substantial benefit” to shareholders from the supplemental disclosures finding that the additional disclosure which was provided of  underlying metrics for data already disclosed did not confer a substantial benefit.” The holding is notable because the supplemental disclosures demanded by plaintiffs are typical of the truly marginal information added in connection with most cases involving mootness fee dismissals.

Conclusion

The payment of plaintiff's baseless fee demands, which individually are not large but in total are much more than trivial, to end frivolous deal challenges continues despite the Trulia decision that criticized a nearly identical practice. The cost of this frivolous deal tax is borne not just by the companies who pay them but also are passed along to consumers and other companies who do business with the payor company and the practice provides little or no benefit to shareholders in most instances. The Nuance ruling is an exception to the more common result of no court review of mootness fee settlements.  Plaintiffs, because of the procedural posture, were required to petition for court approval of the fee. Because mootness fees are not typically reviewed by the courts,  there is a strong need for legislative reform to deal with this practice. In the meantime, the “racket”  in Judge Posner’s terms likely will continue.

Gregory Markel and Daphne Morduchowitz are partners and Sarah Fedner is a senior associate at Seyfarth LLP in New York.  Partners Giovanna Ferrari, Andrew Escobar and associate Meryl Hulteng also contributed to this article.

A recent Law 360 story by Rose Krebs, “Attorneys Will Get $250K For Mooted EZCorp Investor Suit” reports that counsel for an EZCorp Inc. investor who alleged that officers of the Texas-based pawnshop operator oversaw the unauthorized distribution of more than $16 million worth of company shares will get a $250,000 fee award for a now-mooted Delaware Chancery Court suit.  Chancellor Kathaleen St. J. McCormick approved a stipulated order voluntarily dismissing a derivative suit filed in January by stockholder Jerry Edelman and directing the company to pay $250,000 to his counsel Levi & Korsinsky LLP and Bielli & Klauder LLC for attorneys' fees and expenses.

In the suit, Edelman accused a group of current and former EZCorp directors and executives of unlawfully granting themselves and others more than 2.7 million nonvoting shares of the company between May 2020 and October 2021.  Although EZCorp and the other defendants "deny any and all allegations of the complaint that defendants engaged in wrongdoing in any way," they agreed to pay attorneys' fees "to avoid the potential costs, risks and distraction associated with the defense of a fee application by plaintiff's counsel," the order said.

The stipulated order was filed and signed off on by the chancellor soon after.  It was filed less than 24 hours after attorneys from Richards Layton & Finger PA entered their appearance on behalf of EZCorp and the directors and officers.  At issue in the suit was a long-term incentive plan authorized by EZCorp shareholders in May 2010 that granted company shares to officers, directors and employees.  The plan expired in May 2020, and no new deal had been reached at the time of the suit's filing, Edelman claimed.

Despite that, board members awarded 2,757,293 shares to themselves and others between May 2020 and October 2021, according to the lawsuit.  The suit said shares were distributed six times during that period.  After the suit was filed, the company's board and Phillip Cohen, the company's executive chairman and sole holder of its voting class of common stock, ratified the granting of the stock awards and issuance of company shares, according to the order.

The company's incentive plan was amended effective April 30, 2020, "to allow for the grant of awards under the plan until December 31, 2021 and to increase the number of shares of the company's Class A non-voting common stock authorized for issuance under the plan," the order said.  On March 2, Cohen approved a new equity incentive plan to replace the previous one, "provided that the plan continues to govern awards made under the plan that were outstanding as of December 31, 2021 and that the authorized shares under the 2010 plan remain available to satisfy such awards," the order said.

Parties in the litigation "agree that the ratification of the grant of the awards, the issuances, and the plan amendment, and the adoption of the company's new equity incentive plan mooted the claims set forth in the complaint," the order said.  Edelman's now mooted suit had asserted breach of fiduciary duty, waste of corporate assets and unjust enrichment claims and sought damages and a court order rescinding the awarded shares.

A recent Law 360 story by Dean Seal, “Court Boots Mootness Fee Bid in Microsoft Merger Challenge,” reports that a New York federal judge denied Monteverde & Associates PC's $250,000 fee request for representing an investor whose challenge to Nuance Communications Inc.'s $19.7 billion acquisition by Microsoft wasn't found to have benefited other Nuance shareholders.  U.S. District Judge J. Paul Oetken issued a brief order rejecting the firm's motion for what is commonly referred to as a "mootness fee," siding with Nuance's argument that investor Albert Serion hadn't met his burden of showing that his suit, one of several challenging disclosures in the proxy statement for Nuance's merger, "conferred a substantial benefit on Nuance shareholders."

Monteverde had argued that its suit prompted Nuance to disclose certain previously withheld metrics used by financial adviser Evercore Group LLC when doing a comparative analysis of Nuance and its peer companies, but the judge said the Nuance proxy statement already provided investors with a detailed summary of that analysis.  "Numerous courts have concluded that prompting disclosure of underlying valuation metrics does not confer a substantial benefit on shareholders and that their disclosure is not required by law," the order said.

The law firm had also claimed that it spurred Nuance to disclose price targets from research analysts that were previously withheld, but Judge Oetken said the range of price targets that were already included in the proxy statement "provides a fair summary of Evercore's work and '[q]uibbles with a financial advisor's work simply cannot be the basis of a disclosure claim.'"

The order will be warmly welcomed by opponents of mootness fees, a controversial merger litigation practice in which plaintiff firms file objections to mergers and other large-scale transactions, many on the premise of seeking additional disclosures, and then request fee awards after defendant companies "moot" the investors' allegations by providing those additional disclosures.  Nuance, which specializes in tools that enable speech recognition and transcription services for doctor's offices, slammed the law firm's fee request last fall as a "demand to be compensated lavishly for filing a meritless copy-cat lawsuit."

In its opposition to the fee bid, Nuance said the firm didn't submit billing records but had conceded that it put in less than 100 hours of work on the case, meaning its $250,000 request would come out to a minimum $2,500 hourly rate.

The firm represents investors who appealed the decision to the Seventh Circuit and argued in April 2020 that the district court has no jurisdiction to rescind attorney fees for claims that have been voluntarily dismissed.  The federal appellate court has not yet rendered a ruling in the case, according to court records.

A recent Law 360 story by Rose Krebs, “3 Firms Seek Fee For Mooted ViacomCBS Board Suit in Del”, reports that Cooch & Taylor, Glancy Prongay & Murray, and Kranenburg have asked the Delaware Chancery Court award them $120,000 in attorneys' fees for an investor's suit dismissed earlier this year over a challenged bylaw as to how company directors can be removed.  In a stipulated agreement filed with Vice Chancellor Sam Glasscock III, Cooch & Taylor PA, Glancy Prongay & Murray LLP and Kranenburg, along with counsel for ViacomCBS and its directors, resolved the firms' bid for attorneys' fees and expenses now that the case has been dismissed after an action by the company's board mooted the underlying issue.

"The parties negotiated at arms' length and resolved Plaintiff's claim to entitlement to a mootness fee, with the company agreeing, in the exercise of business judgment, to pay $120,000 for any and all attorneys' fees and expenses" for the three firms, the stipulation said.  A notice that would be provided to the U.S. Securities and Exchange Commission, including a clause that the company has agreed to pay the fees and expenses, was attached to the filing.  The notice would be sent to the SEC once the court signs off an order finalizing the agreement.

The firms sought the fee in connection with a suit filed last year by stockholder Gerald Lovoi flagging a provision of the company's bylaws that gave directors the authority to remove other directors, contrary to Delaware law.  "Stockholders of a corporation organized and existing under Delaware law have the exclusive authority to remove directors," the lawsuit asserted.  Lovoi sought a declaration from that court "that the removal provision was invalid and sought attorneys' fees and expenses if the claim was successful," the suit said.

A recent Law 360 story by Rose Krebs, “Del. Justices Let $12M Attorney Fee in Versum Case Stand,” reports that the Delaware Supreme Court let stand a $12 million fee awarded to stockholder attorneys who won removal of poison pill measures that threatened to block Versum Materials Inc. from taking a $1.2 billion higher alternative bid in a 2019 merger.  In a brief order, the full court said that "after careful consideration" it decided to affirm Vice Chancellor J. Travis Laster's decision last year to award the fee to a class attorney in a consolidated action led by Prickett Jones & Elliott PA, along with Kessler Topaz Meltzer & Check LLP, Lynch & Pine and Labaton Sucharow LLP.

In a bench ruling last July, Vice Chancellor Laster acknowledged that he had concerns about the fee, which amounted to nearly $10,700 per hour.  But the result, he said, partly reflected an "aggressive" position taken by Versum's counsel against any award, or an award beyond the $680,000 that would cover regular billable hours for the firms and attorneys involved.

"The Delaware Supreme Court's summary affirmance by unanimous order confirmed that Vice Chancellor Laster's careful 38-page ruling was correct and rejected" efforts by Versum and certain interested parties in the case "to rewrite Delaware's well-established law on mootness fees," shareholders' attorney Michael Hanrahan of Prickett Jones & Elliott PA told Law360.

During oral arguments earlier this month on an appeal filed by Versum and its directors, a Supreme Court justice questioned calls for the reversal of the supposedly unsupported $12 million "mootness fee" awarded by the Chancery Court to the stockholder attorneys whose successful challenge of merger poison pill provisions begat a better deal.  Justice Karen L. Valihura told Versum's counsel that the vice chancellor had acknowledged concerns about the size of the fee awarded along with the semiconductor industry supplier's call to pay either nothing or $680,000 based on standard rates.

The justice suggested that if the vice chancellor had ""meaningful help" from Versum in establishing a fee, given his concerns about the amount, he might have reached a different conclusion.  The fee approved by the Chancery Court followed relatively brief stockholder litigation in early 2019 over Versum's consideration of a $3.8 billion all-stock merger with Entegris Inc. worth about $43 per share, and the adoption of a poison pill shield for the deal after Merck KGaA offered $48 per share.

The pill would have given all shareholders the right to buy additional, potentially deal-blocking shares at a steep discount if another party or potential buyer acquired 12.5% or more of the company's equity.  Days after the stockholders sued, Versum dropped what the vice chancellor described as a related "truly expansive" provision that would trigger the poison pill if individual stockholders were deemed to be "acting in concert" in discussions about the deal, regardless of their intent.  Soon afterward, the poison pill itself was withdrawn, with Merck soon winning the deal with a higher offer of $53 per share.

In approving the fee last year, the vice chancellor said it would have been reasonably conceivable in a motion to dismiss proceeding to conclude that Versum fielded the deal protections "to block a high-value cash deal and protect its merger of equals" with Entegris.  Versum's counsel argued earlier this month that the vice chancellor erred by conflating the better, company-secured price and the "monetary, corporate, therapeutic benefit" resulting from removal of the pill and acting-in-concert provisions.

"Plaintiff played no role in the bidding dynamic and bidding process that led to the increased merger consideration," an attorney for Versum, William M. Lafferty of Morris Nichols Arsht & Tunnell LLP, argued, adding that the vice chancellor's fee award "effectively rewards counsel as if they had created a monetary fund" and benefit, "which they didn't."

In response, Hanrahan told the justices that Lafferty was asking the court to second-guess the vice chancellor's factual findings, and said that the award amounted to about 1% of the benefit.  "The defendant basically just disagreed with the court of chancery's finding of a causal connection between the litigation and the increased merger price," Hanrahan said.  "They said no fee at all should be awarded, because the litigation did not cause Merck's offer.

But Hanrahan said that Versum conceded on appeal that the litigation caused the removal of the acting-in-concert provision.  "That's fatal to their causation argument," he said.  "The vice chancellor found those were obstacles to the Merck offer, and the removal of those obstacles caused the success of the Merck offer."

Lafferty contended that the Chancery Court's fee decision was made without an assessment of the stockholder suit's likelihood of success or merit when it was actually filed.  "The bottom line here is, the court of chancery had a duty to use its discretion to set a reasonable fee, and it didn't do that, we believe," Lafferty told the justices.

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