05/29/2013 06:28 pm ET Updated Jul 28, 2013

Directors Must Conduct a 'Market Check' When Selling the Corporation

The business judgment rule broadly shields directors from liability for mistakes when acting in a reasonable and informed manner. Precisely what constitutes a reasonable and informed process when directors negotiate the sale of the corporation was discussed by the Delaware Court of Chancery in an unpublished recent decision, Koehler v. NetSpend Holdings, Inc. Judicial review of the sale process considers whether or not the directors were sufficiently informed to obtain the best possible price for the shareholders. Being informed includes independently canvassing the market to determine if higher bids are available. Simply relying on an investment banker's opinion may be insufficient.

A court may review the sales process to determine if it is reasonably likely to produce the best sales price but may not substitute its own process for that created by the directors. However, a reasonable process typically contains certain features. A "fairness opinion" concerning the sales price from an investment banker is a poor substitute for the directors' own investigation, particularly when the directors are negotiating with a single potential purchaser. Another feature of an adequate sales process is a "go shop" provision in the sales agreement allowing the directors to solicit bids from other potential purchasers even after reaching an agreement with the initial bidder. While a "go shop" clause is not mandatory, it is additional evidence that the directors acted reasonably.

A potential purchaser may want the sales agreement to contain a "don't ask-don't waive" clause that, to simplify, prevents a biding potential purchaser from acquiring corporate shares outside of the formally established bidding process or even asking that the formal bidding process be waived. This provision limits the ability of the directors to reopen the sale after bids have been received and may encourage a bidder to make its best offer at the time of the initial bid. The directors' agreement to this clause may or may not be reasonable in a given situation. Directors should not agree to the indefinite duration of the provision since it prevents even the possibility of considering higher bids.

Directors should not expect the business judgment rule to provide blanket protection from shareholders' suits, particularly when the corporation is being sold. While directors are not expected to make perfect decisions, their decisions must be informed. Independent research concerning market conditions is a crucial part of demonstrating that the sale process was reasonable. While no single process must be followed, the more it appears that the directors were not utilizing all available avenues to obtain a maximum price for the shareholders, the more likely the directors will be found liable in a suit by shareholders for failing to act appropriately.