Enhanced Scrutiny on the Buy-Side

Abstract

Empirical studies of acquisitions consistently find that public company bidders often overpay for targets, imposing significant losses on bidder shareholders. Numerous studies have connected bidder overpayment with managerial agency costs and behavioral biases that reflect management self-interest. For purposes of corporate law, these concerns implicate the behavior of fiduciaries—the officers and directors of the acquiring entity—and raise questions about whether those fiduciaries are fulfilling their duty of loyalty. To address comparable sell-side concerns, the Delaware courts developed an intermediate standard of review known as enhanced scrutiny. There has been little exploration, however, of whether the rationales for applying enhanced scrutiny to the actions of sell-side fiduciaries extend to comparable fiduciaries on the buy-side.

This Article addresses this long-neglected question. Drawing upon the history of Delaware jurisprudence on enhanced scrutiny, it argues that enhanced scrutiny should extend to the decisions of buy-side fiduciaries. The Article also recognizes that, although doctrinally coherent, applying enhanced scrutiny to buy-side decisions would open the door to well-documented stockholder litigation pathologies that have undermined the effectiveness of enhanced scrutiny for sell-side decisions. To address these pathologies, the Delaware courts have recently encouraged the use of a fully informed stockholder vote on the sell-side to lessen litigation risk. This Article reasons that a primary argument in favor of extending enhanced scrutiny to buy-side decisions rests not on the ability of the litigation itself to generate superior outcomes, rather as an inducement to more frequent buy-side votes. This argument builds on recent empirical literature which finds that stockholder voting can provide an important counterbalance against the self-interest and biases that lead to bidder overpayment.

Keywords: Mergers, Acquisitions, Enhanced Scrutiny, Bidder, Overpayment, Shareholder Voting

JEL Classification: K22, G34