Judge Posner Called It a “Racket”

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 latest court to have the opportunity to both consider and reject what some call a meritless shakedown or transaction tax on public M&A deals. This decision is significant in that it is increasingly rare for mootness fee payments to be subject to court scrutiny given the increasing trend of voluntary dismissals by plaintiffs in this type of case. For more information about the history of mootness fee payments 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.

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[1] In re Trulia, Inc. Stockholder Litigation, 129 A.3d 884 (Del.Ch. 2016).

[2] Matthew D. Cain, Jill E. Fisch, Steven Davidoff Solomon, & Randall S. Thomas, Mootness Fees, 72 Vand. L. Rev. 1777, 1785 (2019).

[3] Trulia, 129 A. 3d. at 844.

[4] In re Walgreen Co. Stockholder Litig., 832 F.3d 718, 724 (7th Cir. 2016).

[5] Trulia, 129 A.3d at 898-99.

[6] Id. at 899.

[7] However, in an unpublished decision a few months later, the Delaware Chancery Court appeared to apply a different standard to mootness dismissals as opposed to court approval of proposed class settlements. The court distinguished the Trulia decision, stating:

This Court in Trulia made clear that, to support a settlement and class-wide release based on disclosures only, the materiality of the disclosures to stockholders must be plain. The mootness context, in my view, supports a different analysis. That is because, here, the individual plaintiffs have surrendered only their own interests; the dismissal is to them only, not to the stockholder class.

In re Xoom Corp. Stockholder Litigation, No. 11263–VCG, WL 4146425, at *3 (Del.Ch. Aug. 4, 2016). The court upheld a $50,000 mootness fee award and noted “a fee can be awarded if the disclosure provides some benefit to stockholders, whether or not material to the vote. In other words, a helpful disclosure may support a fee award in this context.” Id.

[8] Cain, supra note 2, 72 Vand. L. Rev. at 1781, 1788.

[9] The rate of merger challenges filed in state courts also increased, but the majority of filings occurred in federal court.

[10] Cain, supra note 2, 72 Vand. L. Rev. at 1782.

[11] Id. at 1792-93.

[12] Serion v. Nuance Commc'ns, Inc., 21-CV-4701 (JPO), 2022 WL 356695, at *2 (S.D.N.Y. Feb. 7, 2022), reconsideration denied, 21-CV-4701 (JPO), 2022 WL 1166017 (S.D.N.Y. Apr. 20, 2022)