Proxy Tactics Are Changing: Can Advance Notice Bylaws Do What Poison Pills Cannot?

By: John C. Coffee Jr. (CLS Blue Sky Blog)

Military strategy and takeover strategy share a few things in common. At some point, generals and M&A lawyers each must recognize that the old technology no longer works as it did in the past and can no longer dominate the battlefield. For example, in the Ukraine war, it has become obvious that battle tanks are vulnerable and do not reign supreme. Correspondingly, in the takeover war, the poison pill is no longer the absolute showstopper it once was and can be outflanked by activist hedge funds seeking to run a proxy contest — even if only for a minority of the board.

Legal developments have accelerated the pace of change, and two stand out: First, at the state level, last year in In re Williams Cos. Stockholder Litig.,[1] the Delaware Chancery Court curbed the use of the poison pill against smaller activists by invalidating a poison pill set at the 5% ownership level where no specific threat to the corporation (other than the pandemic) was advanced as a “threat.” Second, on the federal level, SEC Rule 14a-19 has just become effective, and we are entering the brave new world of the universal proxy card.[2] Many commentators have predicted (accurately, I believe) that its advent will mean more proxy contests, often by much smaller activists seeking only a small number of board seats. These smaller activists may often be working in concert with even smaller entities – sometimes called “sidecar vehicles” – that are formed by those same hedge funds principally to invest in the target in parallel with their flagship fund (but the details surrounding those vehicles do not clearly need to be disclosed for purposes of the Williams Act).

On this altered landscape in which more and smaller proxy contests for a minority of the board may be launched (or at least threatened), some fear that low visibility figures may exercise disproportionate influence, possibly funding such contests, without ever emerging into public view or becoming known to the voting shareholders. The reality of this threat can be debated, but the takeover defense bar is beginning to respond. This column will examine the defense devised by Masimo Corp., a publicly held medical technology company, to resist a proxy contest threatened by Politan Capital Management LP, an activist hedge fund. The architect of this campaign was Eduardo Gallardo, the head of the M&A department at Paul Hastings LLP, and, in my view, one of the more creative experts in this field. His response was an “advance notice” bylaw that would require any person (including any hedge fund) seeking to nominate a candidate for election to the board to disclose the identity of (and much additional data about) any limited partner or other investor who owned 5% or more of the hedge fund, as well as all investors in any sidecar vehicle. In addition, the bylaw would require the hedge fund to disclose if any of the 5% investors in it were invested in “principal competitors” of the target firm or a “counterparty to any litigation” with the target. Allegedly shocked by these requirements, the hedge fund community has asserted that information about their limited partners must remain confidential, and, if such disclosure were required, this might make it impossible (or at least more difficult) for them to raise capital for their proxy campaigns. In short, they claim that more disclosure means fewer contests…

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