Delaware’s latest appraisal decision in LongPath Capital v. Ramtron International Corp. adopted the merger price as its appraisal valuation, but stands apart from the other recent appraisal decisions that likewise fell back on transaction consideration. Here, the court’s lengthy opinion repeatedly lamented the lack of any remotely reliable means of valuation other than the merger price, and the court was careful to satisfy itself that the sales process leading up to the deal was “proper,” “thorough” and “effective,” though these terms remain without precise definition. Ramtron ostensibly joins Chancery’s recent decisions — including Ancestry.com and AutoInfo — in adopting the negotiated deal price as conclusive proof of value. But unlike those two cases, the court in Ramtron found that fair value ($3.07/share) was actually below the deal price ($3.10/share) when accounting for synergies between Ramtron, the semiconductor manufacturer being acquired, and Cypress Semiconductor, the hostile acquirer.
Part of the unique nature of this action was that in a deal valued at $110 million, the merger price represented a 71% premium to the pre-deal stock price. Moreover, the petitioner, who acquired its shares after the merger announcement (more about the arbitrage play later), bought only a small stake worth about $1.5 million. But the bulk of the court’s analysis focused on whether or not the management projections presented in the petitioner’s DCF analysis were reliable, as Delaware courts apply the commonsense rule that a DCF predicated on suspect projections is worthless in an appraisal. The petitioner’s projections were fatally flawed in many respects, though three of the nine flaws identified by the court stand out the most. First, the projections were prepared by new management, using a new methodology (the product-by-product buildup method) and covering a longer time period than earlier forecasts. Furthermore, the projections had not been prepared in the ordinary course of business. Second, Ramtron distorted its revenue figures by engaging in so-called channel stuffing, the practice of pushing excess inventory into distribution channels so that more revenue can be recognized sooner (indeed, the court repeatedly cited an e-mail in which a salesman said that the company will “for sure stuff channel”). Third, Ramtron management provided alternative projections to Ramtron’s bank, which they described as “more accurate” than those cited by the petitioner. Given these deficiencies, the court had no trouble casting aside management’s pre-merger projections and the petitioner’s DCF which relied on them.
Indeed, the court took both experts to task for what appeared to be litigation-driven valuations. The court criticized the respondent’s “eyebrow-raising DCF” which, notwithstanding its reliance on projections that the expert presumed were overly optimistic, somehow still returned a “fair” value two cents below the merger price.
In any event, the court also had little trouble rejecting the petitioner’s suggested “comparable transactions” methodology, a market-based analysis which ascertains going-concern value by identifying precedent transactions involving similar companies and deriving metrics from those deals (and which we will be examining in greater detail in our next “Valuation Basics” post). The petitioner’s expert was hamstrung by a lack of deals involving companies similar to Ramtron, and could only point to two, which were themselves drastically different from each other and which resulted in disparate multiples. Given this “dearth of data points,” the court found that it could not give any weight to a precedent transactions approach. The court was also influenced by the fact that the petitioner’s expert himself only attributed 20% of his valuation to the comparable transactions analysis.
That left merger price, which the court acknowledged “does not necessarily represent the fair value of a company” as that term is used in Delaware law. To demonstrate this truism, the court cited to the short-form merger, in which the controlling stockholder sets the merger price unilaterally, forcing minority stockholders out and leaving them to choose between taking the deal and exercising appraisal rights. According to the court, pegging fair value to the merger price in such a circumstance would render the appraisal remedy a nullity for the minority stockholder — all roads lead to a merger price that has not been independently vetted. In a situation like Ramtron, however, where the company was actively shopped for months and the acquirer raised its bid multiple times, merger price could be deferred to as conclusive (and critically, independent) proof of fair value.
The court was not troubled by the fact that Cypress’s acquisition process was initiated by a hostile offer, or the fact that no other company made a bid for Ramtron. According to Vice Chancellor Parsons, there was no evidence that the hostile offer prevented other companies from bidding on Ramtron — there were six signed NDAs in total — and impediments to a higher bid for Ramtron were a result of the company’s operative reality, not any purported shortcomings in the deal process itself. Having found a fair merger process, the court concluded that the merger price was the best, if not the only, evidence of fair value. Simply put, “if Ramtron could have commanded a higher value, it would have.” Indeed, the court expressed its skepticism over the petitioner’s expert’s valuation of $4.96, as compared to its unaffected stock price of $1.81, suggesting that “the market left an amount on the table exceeding Ramtron’s unaffected market capitalization.” The court could not accept that such a significant market failure occurred here.
Coming back to the arbitrage issue, the Vice Chancellor makes a point of noting that LongPath only began acquiring Ramtron shares a month after the merger was announced. We’ve discussed the practice of appraisal arbitrage extensively, noting the arguments for (here) and against (here). The Court of Chancery has been reluctant to limit the practice thus far (here), and Vice Chancellor Parsons continues that pattern here, consistent with the Corporation Counsel of the Delaware Bar’s own refusal to recommend to the legislature that it limit or eliminate the arbitrage practice altogether, as we’ve previously posted here and here.