Adjusted Deal Price or Unaffected Market Value? Delaware Supreme Court Reverses “Fair Value” Ruling

Delaware’s Supreme Court recently struck down the Court of Chancery’s controversial statutory appraisal decision in Verition Partners Master Fund Ltd. v. Aruba Networks, Inc. On appeal, the court rejected exclusive reliance on the unaffected (premerger) market price in favor of the deal price adjusted for synergies. Here are the details.

Lower Court Uses Lowest Value

In 2015, Hewlett-Packard acquired Aruba Networks for $24.67 per share. Dissenting shareholders brought an action in Chancery Court seeking a determination of their shares’ fair value. The plaintiff’s expert determined that the fair value per share was $32.57 using the discounted cash flow (DCF) method. Using similar methodology, the defendant’s expert determined that the fair value was $19.75 per share.

The Chancery Court disregarded the DCF-based values. Instead, it considered the following market-based indicators of the fair value per share:

• The deal price less estimated synergies ($18.20), and
• The stock’s average unaffected market price during the 30-day period before news of the merger leaked ($17.13).

The court relied on the latter, in part, because it found estimating synergies to be uncertain and error-prone. It also maintained that the deal price included “reduced agency costs,” which are internal costs associated with resolving conflicts between shareholders and management. Because these costs resulted from the merger transaction to which the shareholders dissented, the court ruled they should be excluded from fair value.

Rather than adjust for agency cost reductions, the court found that the unaffected market price provided “a direct route to the same endpoint.” It ruled that reliance on market prices was compelled by the Delaware Supreme Court’s recent decisions in DFC Global and Dell.

Appeals Court Rejects Unaffected Deal Price

Delaware’s high court took issue with several aspects of the lower court’s decision. Notably, the appraisal statute requires fair value to be determined as of the merger’s effective date. But the lower court used trading prices from three to four months earlier.

In addition, the Chancery Court’s claim that it needed to deduct reduced agency costs from the deal price was based on an “inapt theory.” The appeals court found that there was no basis in the record or in corporate finance literature to assume that the court’s adjustment to the deal price for expected synergies excluded expected agency cost reductions.

Finally, the court rejected the idea that recent legal precedent compelled courts to rely on a stock’s market price in statutory appraisal cases. Though DFC Global and Dell give weight to the “collective view of market participants,” the deal price in an arm’s-length merger accomplished through a “vigorous sales process” continues to provide strong evidence of fair value.