To be a corporate attorney sought after by clients on bet-the-company issues is an uplifting professional pursuit. To successfully close a transaction, however, someone must notify regulators, obtain third-party consents, and ensure that all signature pages are in place. These and other details make up the realm of lawyers. As the litigation arising out of the acquisition of Encore Acquisition Company by Denbury Resources Inc. reminds us, failure to exercise the utmost care in performing such tasks may have unexpected and costly consequences for the client. See Bensinger v. Denbury Res. Inc. (E.D.N.Y. Aug. 17, 2011).
On October 31, 2009, Denbury agreed to acquire Encore in a stock and cash transaction valued at approximately $4.5 billion. The merger agreement gave each Encore stockholder the right to receive, in exchange for each share of Encore common stock, $15 in cash and that number of shares of Denbury common stock equal to $35, divided by the volume weighted average price of [Denbury common stock] for the period of twenty (20) consecutive trading days ending on the second full trading day prior to the Effective Time.
Effective Time is the date and time of filing of the Certificate of Merger with the Secretary of State. Denbury and Encore publicly announced the merger on November 1, 2009. The joint press release, and the proxy and registration statements, reported that the final number of Denbury shares to be issued [to Encore stockholders] will be adjusted based on the volume weighted average price of Denbury common stock for a 20 day trading period ending on the second day prior to closing. See Press Release, Denbury Res. Inc. and Encore Acquisition Co. (Nov. 2, 2009). The deal became effective after the markets closed on Tuesday, March 9, 2010, upon filing of the Certificate of Merger with the Delaware Secretary of State.
At issue in Denbury was the number of shares of Denbury common stock that Encore stockholders were entitled to receive as part of the merger consideration. According to the merger agreement, because the Certificate of Merger was filed on the evening of Tuesday, March 9, after the markets closed, March 9 itself was considered a full trading day prior to the Effective Time.
Encore shareholders contended, however, that the stock exchange ratio should have been based on the second day prior to closing formulation disclosed in the press release and subsequent proxy and registration statements. Using this formulation, the second day prior to the Tuesday, March 9, closing was not March 8, but Friday, March 5. By basing the stock exchange ratio on the 20 trading day period ending on March 8, the second full trading day prior to the Effective Time according to Denbury, rather than March 5, the second day prior to closing according to Bensinger, Encore stockholders received approximately 800,000 fewer shares of Denbury common stock.
Bensinger filed suit alleging that Denburys proxy and registration statements were materially misleading, in violation of federal securities laws. In order to be actionable under Section 11 of the Securities Act of 1933 and Section 14 of the Exchange Act of 1934, a claim must arise out of statements made in a registration statement or a proxy solicitation that (i) contain a misstatement or omission at the time the statements are made, and (ii) are materially misleading as a result of such misstatement or omission. See In re N.Y. Cmty. Bancorp. Inc. Sec. Litig. (E.D.N.Y. 2006). Bensinger argued that Denbury misstated the stock consideration conversion ratio in the proxy and registration statements. Denbury moved to dismiss the complaint.
In denying Denburys motion to dismiss for failure to state a claim upon which relief may be granted, the court found that Denbury misstated in several instances the precise formula that would be used to calculate the merger consideration and that such misstatements are not immaterial as a matter of law. See Bensinger, at 15-16. In simple terms, failure to exercise greater care in drafting the press releases and Securities and Exchange Commission filings that publicly disclosed the merger gave Encore stockholders grounds for a viable, multi-million dollar claim against Denbury. This was undoubtedly not the outcome Denbury was expecting.
The Denbury case is an important reminder that a high degree of care is crucial to successfully executing any corporate transaction. In order to minimize the likelihood of an inadvertent misstatement or omission when disclosing a transaction to the public:
- All public statements should follow the language of the underlying purchase agreement to the fullest extent possible; and
- Lawyers should carefully review such disclosures to ensure that they comply with the truthful disclosure requirements of SEC rules.
The Denbury transaction exemplifies how seemingly minor omissions or inconsistencies in drafting documents can significantly alter the economic expectations of the parties involved. Deal documentationwhether contracts, press releases, or regulatory filingsshould always be carefully prepared and reviewed by legal advisers. All clients want to close transactions quickly and with certainty. So clients will always reward legal counsel capable of executing with speed and efficiency. But the lawyers task is to get the details right, and that takes a high degree of care. As Denbury reminds us, when lawyers do not meet this standard, what follows are costly litigation, unhappy clients, and perhaps fewer invitations to weigh in on those bet-the-company issues.
Jakub A. Wronski is a corporate associate at the Boston office of Weil, Gotshal and Manges. His practice focuses on mergers and acquisitions, equity investments, and general corporate matters. Joseph J. Basile is managing partner of the Boston office of Weil, Gotshal and Manges. Mr. Basile’s practice focuses on complex cross-border M&A transactions, control and minority investments, joint ventures, and strategic alliances in the United States, Canada, Europe, Asia, and Latin America.
