What happens when M&As fail over issues of valuation? Are Directors and management of companies personally liable to account for the losses to shareholders? Should shareholders suffer in silence in the clutches of irresponsible, incompetent or worse, devious self serving management and directors?
Directors owe fiduciary duties to act in good faith and in the best interests of shareholders. Management are additionally bound by their employment contracts to protect the interests of shareholders.
In M&A transactions, the parties are the Buyers and Sellers. For directors and management of corporate Sellers, it is incumbent of them to get the best price possible for the sale of its assets.
Valuation becomes a big issue. Whether an asset is overvalued or undervalued is always dependent on the facts and circumstances. Getting professional valuation done is part of the solution, but that is not the only relevant factor. Speed of transaction and the reliability and ability of the Buyer to complete the transaction are also factors to consider. Last minute offers you can’t refuse with high valuations from potential buyers complicate decision making by the board of directors and management of the Sellers. Business judgement rule may help but decisions are best made under professional guidance and legal advice.
Cases of inexcusable undervaluation will result in directors and management being held personally liable to shareholders of corporate Sellers. In some instances of gross overvaluation, misrepresentation, fraud and breach of warranties may be alleged by Buyers against the Sellers. The Sellers’ shareholders may also hold their directors and management accountable since the duty to act in the interests of a company include avoiding breach of contract and illegal conduct.
In the case of corporate Buyers, the issue gets even more critical. How and why did the overvaluation happen? Was legal, financial and commercial due diligence done? Fraud, misrepresentation and overvaluation can be detected with the help of competent due diligence professionals. If inexperienced professionals are used on the deal on account of cheaper or lower fees, in an appropriate case where the value of transaction is high, the directors and management of the Buyer may be held accountable for failure of duty or breach of employment contract to act in the best interests of the company.
Reliance on full M&A representations and warranties and limiting or dispensing with due diligence may be justifiable in limited cases but the bigger and more complex the transaction, the bigger the risks. Likewise the higher the valuation, the more foolhardy the decision to limit or dispense with due diligence. If overvaluation is detected by post acquisition special audits, those findings are self incriminating evidence that had proper financial due diligence been undertaken, the Buyer would have detected overvaluation issues and negotiated for a lower price.
In the above scenarios, directors and management of Buyers will be hard put to defend against allegations of failure of duty or breach of employment contract to protect the best interests of the company.
What remedies are available to aggrieved shareholders of Buyers and Sellers? Consulting professional advisers and lawyers is the first step. If the Buyers and Sellers are listed companies, shareholder activism at EGMs and AGMs are also avenues for recourse. Requests to Minority watchdog groups and regulatory authorities for assistance will also help.
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