Managing Principal Gaurav Jetley and Vice President Xinyu Ji Publish on Appraisal Arbitrage in The Business Lawyer
April 21, 2016
Appraisal rights actions – shareholder-prompted assessments of the fair value of an acquired company's shares – are on the rise in Delaware Chancery Court. In their article, "Appraisal Arbitrage – Is There A Delaware Advantage?" (The Business Lawyer, Vol. 71, No. 2, Spring 2016), Managing Principal Gaurav Jetley and Vice President Xinyu Ji consider "the extent to which economic incentives may have improved for appraisal arbitrageurs in recent years" based on three specific issues: the economic implications of allowing petitioners to seek appraisal on shares acquired after the record date; the evidence that the Delaware Chancery Court prefers a lower equity risk premium than bankers, which may give rise to a systematic difference in valuation input choices that also works in favor of appraisal arbitrageurs; and their finding that the Delaware statutory interest rate more than compensates appraisal petitioners for the time value of money or for any bond-like claim that they may have on either the target or the surviving entity.
The authors find that, from a policy perspective, “it may be useful to limit petitioners' ability to seek appraisal to shares acquired before the record date.” They posit that, absent any finding of a flawed sales process, the actual transaction price may serve as a useful benchmark for fair value. Also, while the statutory interest rate may not be the main factor driving appraisal arbitrage, it does help improve the economics for arbitrageurs. Thus, the proposal by the Corporate Council of the Delaware Bar Association's Corporation Law Section to limit the amount of interest paid by appraisal respondents, by allowing them to pay appraisal claimants a sum of money at the beginning of the appraisal action, seems like a practical way to address concerns regarding the statutory rate. The authors point out, however, that “paying appraisal claimants a portion of the target's fair value up front is akin to funding claimants' appraisal actions, which may end up encouraging appraisal arbitrage.”