“Giving away services to attract business is a sales tactic, however, not a corporate culture. … To the extent business measures like loss-leading products, money-back coupons, or putting products on sale are cultural artifacts, they reflect the American capitalist culture, not something unique to craigslist.”[FN14]Accordingly, with nothing unique about craigslist’s culture, there could be no reasonably perceived threat to it under Unocal.[FN15] What makes eBay troubling for a movie studio looking to implement a takeover defense is the Court’s use of the word “unique.” The Chancellor found craigslist’s culture was not unique and, therefore, its controlling shareholders could not rely on corporate culture as grounds for implementing a takeover defense. But exactly how unique must a business be? On the one hand, it could be argued that a movie studio derives its market edge from a unique corporate culture in which key employees put their qualitative taste to task. Change the corporate culture to one where those same employees cannot similarly employ their qualitative taste and presumably there will be a change to the studio’s financial performance. Thus, stakeholders looking to maximize their returns might very well want to preserve their investment’s corporate culture. On the other hand, it could be argued that all movie studios rely on a culture in which qualitative decision-making on matters of taste are encouraged. Thus, there would be nothing unique about any one studio’s corporate culture. Time-Warner itself offers little guidance. There, Time sought to preserve its “journalistic integrity,” a quality that perhaps all news organizations share, because “Time’s management made a studious effort to refrain from involvement in Time’s editorial policy,” a quality that may be unique to Time even within the industry. Moreover, there is an inter-industry component that complicates the Time-Warner analysis: Time feared its focus on journalism was threatened by a merger with an entertainment company (either Paramount, a hostile bidder, or Warner Bros., a friendly bidder that had promised to preserve Time’s journalistic integrity).[FN17] In summary, Time tried to preserve a culture that may have been unique to it and, even if that culture were ubiquitous in the news industry, would be unique in the entertainment industry. In either case, the facts of Time-Warner do not on their own delineate the bounds of what precisely satisfies a reasonable threat to corporate culture under Unocal’s first prong. For the avoidance of doubt, it is not inconceivable for an acquiror (hostile or friendly) to seek control of an entertainment company despite failing to have prior experience in the industry. Indeed, one could seek control of an entertainment company precisely to diversify extant investments. For example, of the Big Six studios, Fox, Paramount, and Warner Brothers are subsidiaries of journalism/media conglomerates (News Corp, Viacom, and Time-Warner, respectively), Sony is a subsidiary of an electronics manufacturer, and Universal is a subsidiary of General Electric, which deals in energy, consumer and industrial manufacturing, and capital finance. (Disney, meanwhile, has become a parent conglomerate that owns various media, theme park, and other diverse subsidiaries.) Moreover, Carl Icahn, whose self-stated expertise is in shrewd investing and increasing management accountability,[FN17] has in the last two years twice launched hostile takeover bids for Lionsgate[FN18] and has recently offered to buy MGM’s debt before its imminent Chapter 11 bankruptcy.[FN19] Given this state of affairs, the viability of satisfying Unocal’s first prong by citing a threat to corporate culture is indeed relevant to studios wishing to maintain their corporate independence. IV. “Carpe diem. Seize the day, boys. Make your lives extraordinary”: Amylin Because movie studios rely so heavily on the taste of current employees, stakeholders who believe in extant operations have an interest in ensuring that the studio retains key employees. A change of control, however, usually ends top executives’ employment.[FN20] Ordinary takeover defenses may satisfy such stakeholders’ concerns, but they are not the only means of doing so. Debt investors, for example, are equally satisfied by “change of control provisions,” covenants that accelerate the repayment of principal in the event of a change of control. Indeed, change of control provisions are relatively common in the film industry. For example, when Carl Icahn attempted to takeover Lionsgate in the spring of 2009 and again in the spring of 2010, Lionsgate cited change of control provisions in its revolving credit facility with JP Morgan Chase as a principal reason why Icahn’s takeover would harm the company.[FN21] Moreover, with a higher degree of certainty as to the future operations of an otherwise unstable studio, creditors are willing in turn to offer the studio more favorable financial terms in the debt agreement, thus introducing an element of bilateral exchange into the equation. Accordingly, Change of control provisions are not obviously takeover defenses, because the process occurs as part of a seemingly ordinary business transaction. Of course, the effect on takeovers is the same: the studio derives a financial benefit precisely because of the impediment to changes of control the provisions by definition engender. In this sense, a change of control provision is an example of what may be called generally an “embedded defense.”[FN22] The Delaware courts have never ruled directly on the legality of embedded defenses, however the Court of Chancery did suggest last year how it might address an embedded defense challenge in San Antonio Fire & Police Pension Fund v. Amylin Pharm., Inc.[FN23] In Amylin, the company had issued bonds under an indenture that included a change of control provision prohibiting a turnover of the majority of the board, unless the outgoing board “approved” newly elected directors.[FN24] When two dissident shareholders launched proxy contests, the incumbent board “approved” the dissident slates for purposes of the indenture while running its own opposing slate in the same election.[FN25] The noteholders’ trustee brought suit, claiming that the plain meaning of “approve” should have precluded Amylin from “approving” directors of whom it necessarily disapproved via the voting franchise.[FN26] Vice Chancellor Lamb upheld the board’s actions and disagreed with the trustee’s interpretation because such a reading would render the change of control provision an “entrenchment mechanism . . . prohibit[ing] any change in the majority of the board as a result of any number of contested elections, for the entire life of the notes.”[FN27] Other facts surrounding the negotiation of the indenture undermined such a reading.[FN28] The Vice Chancellor then added in dicta that
“[a] provision in an indenture with such an eviscerating effect on the stockholder franchise would raise grave concerns… The court would want, at a minimum, to see evidence that the board believed in good faith that, in accepting such a provision, it was obtaining in return extraordinarily valuable economic benefits for the corporation that would not otherwise be available to it. Additionally, the court would have to closely consider the degree to which such a provision might be unenforceable as against public policy.”[FN29]Perhaps complicating the court’s reasoning, it is important to keep in mind that Vice Chancellor Lamb did not invalidate the change of control provision itself, only the trustee’s interpretation of it. Moreover, the Court upheld a second change of control provision in another debt agreement in that same case.[FN30] It appears that neither the Delaware courts nor corporate law scholars have come to a consensus on the meaning of Amylin. So far it has been cited in subsequent case law only for certain contract law authority and a cursory search on Westlaw and SSRN produced no commentary. Amylin’s implication seems daunting, however: a change of control provision triggered by a change in the composition of the board would be considered invalid under Delaware corporate law except, perhaps, if the company received “extraordinarily valuable economic benefits” in exchange. Inherently unstable operations like movie studios might be best able to exploit the exception since, as discussed above, they receive more favorable financial terms in exchange for the covenant. Nevertheless, the studio would have to show “extraordinarily valuable economic benefits,” not simply some economic benefit, in order to satisfy Amylin’s standard. I can only speculate as to the meaning of “extraordinary” in this context, however I doubt Vice Chancellor Lamb would have gone to such extremes if a mere reduction of the applicable interest rate would suffice. Despite the seemingly high standard Vice Chancellor Lamb would require, the case is susceptible to a more nuanced interpretation than it would seem at first glance. In California Public Employees’ Retirement System v. Coulter,[FN31] for example, Vice Chancellor Noble noted that parties employing a continuing director provision, like the one involved here, bargain for the right, “as a matter of contract, to allow the incumbent directors…to determine [that] there had not been a change of control.” In Amylin, Vice Chancellor Lamb similarly observed in a footnote that the directors possessed only a contractual right and were “under absolutely no obligation to consider the interests of the noteholders in [exercising that right.]”[FN32] Synthesizing this language, a reasonable interpretation of Amylin is that the trustee’s contractual reading would have violated Delaware public policy not because all change of control provisions are impermissible per se, but because the trustee’s interpretation would transform a contractual term generally interpreted as conferring a discretionary right to be exercised in accordance with directors’ fiduciary duties into a committed obligation notwithstanding any adverse effects on shareholders. That is, a change of control provision intended to allay creditors’ concerns may be enforceable where it confers a benefit on shareholders (e.g., by reducing the company’s cost of capital), but not where it is contrary to shareholders’ best interests (e.g., by impeding the voting franchise). Concededly, this interpretation derives from a close, subtle reading of the Vice Chancellor’s language, however it would permit studios – and all businesses – both (1) to agree to change of control provisions that reduce the studio’s cost of capital at the inception of the agreement and (2) to refuse to exercise that contractual right (i.e., to permit acceleration to occur) as a way to discourage a hostile takeover when the board believes in good faith that the change of control would not be in shareholders’ best interests (i.e., consistent with its fiduciary duties under Unocal). V. “Good Night, and Good Luck”: Conclusion eBay and Amylin are troubling cases for movie studios because both undermine extant Hollywood practices: after eBay, it is increasingly difficult for movie studios to rely on threats to corporate culture as reasonable grounds for implementing a takeover defense; after Amylin, it may be harder to allay creditors’ fears of volatility by offering common change of control provisions as an escape mechanism from the investment in the event of volatility. But these practices make business sense for movie studios in a way that might not for other industries: corporate culture is salient where revenue depends on taste; change of control provisions are beneficial where the risks of key executive turnover would otherwise make capital prohibitively expensive. “What we’ve got here is a failure to communicate.”
* J.D. candidate, NYU School of Law, 2011; B.A., The Johns Hopkins University, 2005. [FN1] Nearly one million business entities and more than half of the corporations making up the Fortune 500 list were incorporated in Delaware as of 2007. Lewis B. Black, Jr., Why Corporations Choose Delaware 1 (2007), available at Delaware Department of State, Division of Corporations, http://corp.delaware.gov/default.shtml. For each of these Delaware-chartered entities, Delaware corporate law applies. See 18 William Meade Fletcher et al., Fletcher Cyclopedia of the Law of Corporations §43.72 (perm. ed., rev. vol. 2007) (Defining “Internal Affairs” doctrine). Accordingly, referring to Delaware common law – as opposed to a 50-state survey – is convenient shorthand applicable to most businesses. [FN2] Civ. No. 3705-CC, 2010 WL 3516473 (Del. Ch. Sept. 9, 2010). [FN3] 983 A.2d 304 (Del. Ch. 2009), aff’d 981 A.2d 1173 (Del. 2009). [FN4] Harold L. Vogel, Entertainment Industry Economics: A Guide for Financial Analysis 57 (6th ed. 2004). [FN5] I realize it is naïve to assume a studio’s financial health derives solely from production, acquisition, and direct distribution of film and television projects. Studios derive considerable financial benefit as well by, inter alia, exploiting libraries of past film properties, entering into favorable co-financing agreements that reduce costs of capital, and acting as sales agents or performing other services within the industry. Nevertheless, I ignore these aspects of a studio’s business for the sake of simplicity. [FN6] eBay Domestic Holdings, Inc. v. Newmark, 2010 WL 3516473, at *2 (Del. Ch. Sept. 9, 2010). [FN7] Id. (“Though a for-profit concern, craigslist largely operates its business as a community service. Nearly all classified advertisements are placed on craigslist free of charge. Moreover, craigslist does not sell advertising space on its website to third parties. Nor does craigslist advertise or otherwise market its services. craigslist’s revenue stream consists solely of fees for online job postings in certain cities and apartment listings in New York City.”) [FN8] Id. at *7. [FN9] Id. at *3. [FN10] Id. at *9-15. [FN11] Id. at *21; Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946, 954-55 (Del. 1985) [FN12] 571 A.2d 1140 (Del. 1990) [hereinafter “Time-Warner”]. [FN13] eBay, 2010 WL 3516473, at *21. [FN14] Id. at *22. [FN15] Chancellor Chandler’s ruling further turned on the legal ability to assert a corporate culture of eschewing shareholder wealth maximization altogether: “Time[-Warner] did not hold that corporate culture, standing alone, is worthy of protection as an end in itself,” rather a protectable corporate culture “must lead at some point to value for stockholders.” Id. at *21. Whatever beliefs Newmark and Buckmaster might have had about community service, they “opted to form craigslist, Inc. as a for-profit Delaware corporation and voluntarily accepted millions of dollars from eBay as part of a transaction whereby eBay became a stockholder. Having chosen a for-profit corporate form, the craigslist directors are bound…to promote the value of the corporation for the benefit of its stockholders. … Thus, I cannot accept as valid for the purposes of implementing the Rights Plan a corporate policy that specifically, clearly, and admittedly seeks not to maximize the economic value of a for-profit Delaware corporation for the benefit of its stockholders…” Id. at *23 (emphasis in original). This line of reasoning, however, is not relevant to this article, because most movie studios are interested in profit maximization and are thus easily distinguishable from craigslist. [FN16] Time-Warner, 571 A.2d at 1144 n.4. [FN17] See Barbara Kiviat, 10 Questions for Carl Icahn, Time, Feb. 15, 2007, available at http://www.time.com/time/magazine/article/0,9171,1590446-1,00.html. [FN18] See, e.g., Andrew Ross Sorkin, Lions Gate Rejects Latest Icahn Offer, N.Y. Times, Mar. 23, 2010, available at http://dealbook.blogs.nytimes.com/2010/03/23/lions-gate-rejects-latest-icahn-offer/ (regarding Icahn’s March 2010 takeover attempt); Lions Gate Entertainment Corp., General Statement of Acquisition of Beneficial Ownership (Schedule 13D/A) (Mar. 12, 2009) (disclosing Icahn’s March 2009 takeover attempt). [FN19] See, e.g., Michael Speier, Icahn Makes Offer to Buy More MGM Debt to Expedite Merger, Deadline Hollywood, Oct. 21, 2010, available at http://www.deadline.com/2010/10/icahn-makes-offer-to-buy-more-mgm-debt-to-expedite-merger/. [FN20] See William J. Carney, Mergers & Acquisitions: Cases and Materials 307 (2d ed. 2007) (citing empirical evidence that 50% of top executives leave their employment within three years of a change of control); cf., e.g., James F. Cotter & Marc Zenner, How Managerial Wealth Affects the Tender Offer Process, 35 J. Fin. Econ. 63, 88-94 (1994) (offering empirical support that managerial resistance to tender offers appears driven by self-interest); Kenneth J. Martin & John J. McConnell, Corporate Performance, Corporate Takeovers, and Management Turnover, 46 J. Fin. 671, 677 (1991) (“The dramatic increase in the turnover rate of top managers following takeovers…indicates that takeovers are an important device for altering the top management of target firms.”). [FN21] See, e.g., Press Release, Lions Gate Entertainment Corp., Lionsgate Board of Directors Expresses No Opinion and Remains Neutral Toward Icahn’s Unsolicited Debt Tender Offer, Strongly Urges Noteholders to Consider All Aspects of Icahn’s Offer Carefully (Mar. 26, 2009), available at http://investors.lionsgate.com/ (follow hyperlink to Press Releases, News Releases; then follow hyperlink to New Release of 3/26/2009). [FN22] Professors Arlen and Talley coined the term “embedded defenses” in Jennifer Arlen & Eric Talley, Unregulable Defenses and the Perils of Shareholder Choice, 152 U. Pa. L. Rev. 577, 583 (2003). [FN23] 983 A.2d 304 (Del. Ch. 2009), aff’d 981 A.2d 1173 (Del. 2009). [FN24] Id. at 307-308. [FN25] Id. at 312-13. [FN26] Id. at 314. [FN27] Id. at 315 (emphasis in original). [FN28] In particular, the court focused on a second credit agreement with a bank, conceded by all parties to be more restrictive than the indenture, but not susceptible to a similar interpretation as the trustee’s interpretation of the indenture. Id. [FN29] Id. (internal citations omitted). [FN30] Id. [FN31] No. Civ.A. 19191, 2005 WL 1074354, at *4 (Del. Ch. 2005). [FN32] Amylin, 983 A.2d at 316 n.37 (emphasis in original).