Match.com's Divorce: Delaware Supreme Court Decides Standard of Review for Controlling Stockholder Transactions
In Short
The Situation: When the Delaware Supreme Court decided Kahn v. M&F Worldwide Corp. (MFW) in 2014 (88 A.3d 635 (Del. 2014)), it provided a pathway for business judgment review for "freeze-out" merger transactions involving controlling stockholders. In Match, the Supreme Court considered whether the two-part MFW framework, which relies on the use of a special committee of independent directors and the vote of a majority of the unaffiliated stockholders, applies outside the context of freeze-out mergers.
The Result: Invoking "long-standing" precedent, the Delaware Supreme Court concluded that the MFW framework applies to all conflicted controlling shareholder transactions—including those outside the context of parent-subsidiary mergers. The Delaware Supreme Court held that all conflicted controller transactions are subject to entire fairness review unless the transaction is subject to the approval of (i) an independent special committee and (ii) a fully informed vote of a majority of the minority stockholders.
Looking Ahead: To obtain business judgment review, parties to all conflicted controlling stockholder transactions must comply with both elements of the MFW framework—an independent special committee and approval of the majority of the minority—regardless of the underlying nature of the transaction. The decision accordingly increases the litigation risk attendant on conflicted controller transactions and makes it harder for defendants to obtain a pleading-stage dismissal.
Background
IAC/InterActiveCorp was the controlling stockholder of Match.com. A minority of Match.com's voting power was held by public stockholders. In 2019, IAC formed a subsidiary and spun off its non-Match businesses to that subsidiary. IAC then split into two businesses: New Match and New IAC. Match.com's public stockholders received, at their election, either stock in New Match or cash. Certain Match.com stockholders challenged the transaction, alleging that the transaction improperly favored New IAC and that Match.com's board, IAC, and IAC's controller breached their fiduciary duties by approving the spinoff.
The defendants moved to dismiss the claims, arguing that they complied with MFW because the transaction was conditioned on the approval of a special committee and the majority of the minority stockholders. The parties did not dispute that entire fairness was the presumptive standard of review. The Court of Chancery agreed with defendants that they had satisfied the requirements of MFW, and ruled that the special committee had been effective even though one of the three directors had allegedly not been independent of IAC (In re Match Grp., Inc. Deriv. Litig., 2022 WL 3970159 (Del. Ch. Sept. 1, 2022)). The court accordingly applied the business judgment rule and dismissed the complaint.
Plaintiffs appealed. Defendants argued, for the first time, that the business judgment rule should apply even if only one of MFW's cleansing mechanisms applied. Accordingly, even if the committee had not been effective, the business judgment rule should still apply. The Delaware Supreme Court requested supplemental briefing on whether the MFW framework applies outside the context of parent-subsidiary mergers involving a controller.
Analysis
In a much-awaited decision, the Delaware Supreme Court held that, in conflicted controller transactions, both procedural requirements—an independent special committee and an informed vote of the majority of the minority—are required to shift the standard of review to the business judgment rule (In re Match Grp., Inc. Deriv. Litig., — A.3d —, 2024 WL 1449815 (Del. Apr. 4, 2024)). The Supreme Court reasoned that a common thread ran through its precedents: A heightened concern for self-dealing when a controlling stockholder stands on both sides of a transaction and receives a non-ratable benefit.
The Supreme Court further held that, even in MFW, it had remained focused on addressing this concern in all contexts—regardless of a transaction's nature. The Supreme Court in MFW concluded that, to make a pretrial showing of an arm's length negotiation and restore business judgment rule protection, a controlling stockholder must disable itself from using its control to dictate the outcome of negotiations and the shareholder vote. Accordingly, to receive business judgment review, conflicted controlling stockholder transactions must satisfy both of MFW's mechanisms: (i) approval by a committee of independent directors that is fully empowered and meets its duty of care, and (ii) approval from a majority of minority stockholders in a fully informed, uncoerced vote.
After determining that the MFW framework applied to the Match.com spinoff, the Supreme Court concluded that the plaintiffs adequately alleged that the defendants did not satisfy the MFW framework, disagreeing with the Court of Chancery. Though the Court of Chancery had concluded it was sufficient if a majority of the committee was independent, the Supreme Court disagreed, explaining that the entire special committee must be independent to satisfy the MFW framework—not just a majority. The Supreme Court also agreed with the Court of Chancery that one member of the special committee, who had formerly served as IAC's CFO, allegedly lacked independence from IAC. Entire fairness review therefore applied to the spinoff, and the Supreme Court remanded the case to the Court of Chancery to apply entire fairness review in the first instance. (The Supreme Court therefore did not address whether the stockholder vote was fully informed.)
The Supreme Court's ruling on the scope of MFW clarifies an open question of Delaware law, though remains subject to any legislative action that may be taken, and there remains a backdrop of uncertainty as to when non-majority stockholders are "controlling" or not. The requirement to follow MFW to obtain the protection of the business judgment rule will make it harder for defendants to obtain dismissals of meritless litigation. Moreover, the Supreme Court's holding that all members of a committee must be independent for the committee to be deemed effective will potentially lead courts not to apply MFW even when the committee has adequately performed its role.
Whether by design or otherwise, and absent legislative intervention, the Delaware Supreme Court's decision will require careful consideration of process in transactions that could potentially involve an interested stockholder. The holdings reflect a continuing trend by the Delaware court to increase the burdens on, and complexity of, a board's decision-making process.
Two Key Takeaways
- To receive business judgment review, conflicted controlling stockholder transactions must satisfy both of MFW's requirements: (i) approval by a committee of independent directors that is fully empowered and meets its duty of care, and (ii) approval from a majority of minority stockholders in a fully informed, uncoerced vote. Conflicted controlling stockholder transactions that satisfy only one of those requirements are not entitled to business judgment review if challenged.
- An independent committee approving a conflicted controlling stockholder transaction must consist entirely of independent directors. Because one interested director may deprive a transaction of business judgment review under MFW, membership on such committees should be carefully reviewed and confirmed. Indeed, transaction planners may find it safer to have smaller, not larger, committees if they believe that there is any possible challenge to the independence of one of the members. Any ties, no matter how attenuated, between potential committee members and the controlling stockholder should be carefully examined before committee members are selected.
