The efficacy of intra-corporate approvals in negotiated mergers between controlling shareholder and its corporation under delaware and brazilian law
| Autor | Mauro Bardawil Penteado |
| Páginas | 76-105 |
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Transactions between a Corporation and its controlling shareholder1 pose the danger that the latter will misuse her vot-ing power to approve a deal to extract pri-vate benefits unavailable to shareholders in
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general.2 This is possible because the con-trolling shareholder stands on both sides of the transaction and has the ability to unilat-erally define its terms and approve it.3 Such characterization makes a transaction be-tween a company and its controlling shareholder a type of self-dealing transaction,4
Notwithstanding the threatposed, self-dealing transactions are generally allowed under Delaware5 and Brazilian law for some compelling practical reasons. It seems to exist a common understanding that a self-dealing transaction may be more profitable to the company than a transaction with less informed outsiders.6 This is evidenced by the large number of corporate groups and parent-subsidiary structures in today's market environment.7
Because of this fact neither Brazil nor Delaware bans transaction between companies and their controlling shareholders, although in some rare cases per se prohibi-tion may apply.8 Rather, Brazilian and Delaware law adopt a wide range of legal mechanisms to control self-dealing transactions. Generally speaking, Brazilian and Delaware law require that a self-interest transaction be scrutinized by one or more of the following mechanisms: (a) manda-tory disclosure for transactions involving controlling shareholders, (b) board and/or shareholders ratification, (c) fiduciary du-ties and fairness norms, and, to a reduced range of cases, (d) per se prohibition on self-dealings transactions.9
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Despite the existence of such mecha-nisms to control controlling shareholder transactions, this paper will focus on the efficacy of certain intra-corporate approv-als mechanisms for long-form mergers be-tween the controlling shareholder and its Corporation. The examine of the board and/ or shareholders ratification procedures and the fairness test as techniques to ensure the reasonableness and adequacy of a merger of controlled Corporation will be an impor-tant part of this study because both Brazil and Delaware rely heavily on these mechanisms to control self-dealing transactions.
As part of this analysis, this study in-tends to survey Delaware law governing transactions between corporations and their controlling shareholders.10 It will be shown that Delaware courts, in the absence of a clear legislative guidance,11 review controlling shareholders transactions under the most demanding Standard of review in cor-porate law, the entire fairness.12
This paper also attempts to demon-strate that no matter the intra-corporate "cleansing process" undertook by the controlling shareholder when presenting the merger of the controlled corporation - for instance, by submitting the conflicted trans-action to the approval of the majority of minority shareholders or by independent directors -, Delaware courts will continue to scrutinize such transactions under entire fairness, even though the burden of prov-ing unfairness can ultimately shift to those challenging the transaction provided that an affirmative vote of an informed majority of the minority shareholders is obtained.13
Thus, differently from a self-dealing transaction effected by interested directors - where Delaware Code provides for a safe harbor applying business judgment Standard of review to independently approved transactions between directors and their corporation14 -, the treatment of controlling shareholders transactions given by Delaware courts, refusing to apply the business judgment rule even to independently approved transaction, reveals a distrust in the statu-tory mechanisms of independent director and minority shareholders approval to "cleansing" interested transactions involv-ing controlling shareholders.15
By way of comparison, this study in-tends to address the efficacy of the intra-corporate approval mechanism adopted by the Brazilian Corporation Law16 to merger of controlled corporations. It will be dem-onstrated that the Brazilian Corporation Law, recognizing the submission of the controlled corporation's interest to the interest of the controlling corporation, authorizes the latter to vote and ultimately approve the self-dealing transaction.
In this case, it will be advocated that the minority shareholders' protection af-
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forded by the Brazilian Corporation Law is the guarantee of a fair share exchange ratio. Section 264 of the Brazilian Corporation Law provides for an unbiased and objective Standard for computing the share exchange ratio, which shall be based on the net value of the shares of both the controlling and controlled corporations, the assets and liabilities of both corporations being valued according to the same criteria and on the same date, at market prices, or according to another criteria indicated by the Brazilian Securities Commission ("CVM") for publicly-held corporations. Importantly, the appraisal of the assets and liabilities at market values of the two corporations shall be carried out by an independent third party.
In addition, the minority shareholder can also rely on the protection of section 245 of Brazilian Corporation Law which directs officers and directors of controlled corporations not to favor a controlling shareholder to the detriment of their own corpo-ration and to ensure that the transaction between the corporations shall be equitable or be compensated by adequate payment. Such section imposes liabilities on officers and directors for any loss resulting from an infringement of such rule.
With this scenario in mind, this paper purports to reveal the interactions between the Brazilian and Delaware's solutions with respect to mergers between controlling and controlled corporations. It intends to examine the strategies employed by each juris-diction to regulate such transactions. Of course, this paper does not attempt to deal completely with ali of the controlling share-holders transactions challenges encountered in Brazil and Delaware. That task goes well beyond the scope of this article. Neverthe-less, as suggested above, this study does intend to raise some issues in order to em-phasize at least a few challenges and ten-sions involving the regulation of controlling shareholders transactions.
Part I of this paper is an overview of the relevant cases in Delaware involving controlling shareholder transactions. It in-troduces the judicial Standard of review for one of the most relevant and challenging controlling shareholders transaction, that is, the long-form negotiated merger under section 251 of the Delaware Code. This examination begins with the doctrine for independent approval set out in Weinberger v. UOP, Inc.17 It then turns to the discus-sion of the most relevant cases involving controlling shareholders in Delaware. Spe-cial attention is devoted to the discussion as to whether Delaware cases involving controlling shareholder ever applied either business judgment or entire fairness to in-dependently approved transactions.
Part II addresses the regulation of merger of controlled corporations under a Brazilian law perspective. It begins with an examination of the general rule concerning conflict of interest under the Brazilian Corporation Law. It then turns to the special regulation that the Brazilian Corporation Law offers to merger of controlled corpo-ration. It is advocated that because the Brazilian Corporation Law recognizes the pre-vailing interest of the controlling shareholder in mergers of controlled coiporation, the controlling shareholder is entitled to vote and ultimately approve the transaction. Then it will be sustained that the minority shareholder interest is protected by two sets of rules. First, the minority shareholder is provided with an objective method of valu-ation of the merged coiporation, which shall be made by an independent third party. Sec-ond, the minority shareholder is protected against violation of fiduciary duties of the officers and directors of both controlling and controlled corporations involved in the merger.
While discussing Part I and Part II, this study will attempt to illustrate the differ-ences and interactions between the controlling shareholders' regulation of conflicting transactions under Brazilian and Delaware law. It will be demonstrated that each ju-
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risdiction can enhance its approach toward a fair and effective regulation of transactions between a Corporation and its control-ling shareholder. A short conclusion is launched in Part III.
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