Breaking: North Carolina Supreme Court Confirms that Dissenting Shareholders Are Entitled to No More than Deal Price in First Impression Merger Appraisal Rights Case
In Reynolds American Inc. v. Third Motion Equities Master Fund Ltd., et al., 2021-NCSC-162 (Dec. 17, 2021), the Supreme Court of North Carolina unanimously affirmed the North Carolina Business Court’s 189-page decision holding that shareholders of Reynolds American Inc. ("RAI") dissenting from the merger with British American Tobacco plc ("BAT") were not entitled to recover more than $59.64 per share, which was the value of the merger consideration at the time the deal was announced.[1] This is the first appellate decision involving North Carolina’s appraisal rights statute, N.C. Gen. Stat. § 55-13, et seq., in the context of a large, publicly listed corporation.
As described in a prior client alert, the case involved an appraisal challenge to a $49 billion transaction in which BAT, a minority shareholder owning 42% of RAI, acquired the remaining 58% of RAI to become the largest publicly listed tobacco company in the world. A group of RAI shareholders, mostly hedge funds employing an investment strategy known as "appraisal arbitrage," dissented from the transaction and asserted appraisal rights, challenging whether the merger consideration or "deal price" of $59.64 per share reflected "fair value" under North Carolina’s appraisal statute. The dissenting shareholders sought a valuation of $92.17 per share—which implied that BAT undervalued RAI by nearly $50 billion.
After a two-week bench trial and lengthy post-trial briefing, the Business Court issued a comprehensive judgment in favor of RAI, determining that the fair value of RAI’s shares was no more than the $59.64 deal price. On appeal, the Supreme Court reviewed the Business Court’s application of "customary and current valuation concepts and techniques"[2] to determine the fair value of RAI’s shares.
The Supreme Court rejected each of the dissenting shareholders’ arguments attacking the Business Court’s judgment in favor of RAI. Most notably:
- The dissenting shareholders’ most fundamental challenge concerned the Business Court’s reliance on the deal price as evidence of fair value. The dissenting shareholders argued that BAT’s status as a 42% shareholder of RAI, as well as the absence of an auction or pre-signing market check of the deal price, required the Business Court to disregard the deal price when determining fair value. The Supreme Court disagreed, concluding that "the Business Court appropriately considered the deal price as one indicator of the fair value of the [dissenting shareholders’] shares after finding that . . . the deal price reliably reflected fair value," given the circumstances of this particular transaction. Of note, the Supreme Court stated that a market check or auction was not required for the deal price to be considered as evidence of fair value, stating that "other indicia of reliability exist which give the court reason to trust that the deal price reflects fair value."
- The Supreme Court rejected the dissenting shareholders’ argument that North Carolina’s appraisal statute requires using a discounted cash flow ("DCF") analysis to determine the fair value of a corporation’s shares. The Court stated that DCFs generally, and the DCF offered by the dissenting shareholders in particular, were extremely sensitive to minor variations in the value of a single input. Ultimately, the Court concluded that "while a court may choose to rely upon a DCF analysis to determine fair value, nothing in North Carolina’s appraisal statutes demands that the Business Court do so in every case."
- The Supreme Court indicated that market-based evidence of fair value may be considered without requiring expert testimony addressing whether the market for a corporation’s securities was semi-strong efficient, noting that the relative efficiency of the market for a corporation’s stock affects the probative value of market-based evidence, not its admissibility.
- The Supreme Court rejected the dissenting shareholders’ argument that the Business Court erred by choosing not to account for a supposed "implicit minority discount" in RAI’s publicly traded shares and awarding the dissenting shareholders a pro rata portion of the control premium paid by BAT. The Court noted that the dissenting shareholders had failed to present any evidence that RAI’s market price reflected a minority discount, and also noted that, even if a dissenting shareholder were to establish that a company’s share price reflected an implicit minority discount, a dissenting shareholder would not necessarily be entitled to some or all of the control premium paid.
- The Court rejected as "absurd" the dissenting shareholders’ argument that they were owed nearly $100 million in interest under the North Carolina appraisal statute even if the Court affirmed the trial court’s conclusion that they had been paid fair value for their shares. In so doing, the Court stated that the purpose of North Carolina’s appraisal statute is "to ensure that shareholders are made whole, not to give sophisticated entities another incentive to pursue ‘appraisal arbitrage.’"
Much like the Business Court’s decision, the Supreme Court’s opinion analyzes with great clarity and detail several key legal issues arising in appraisal proceedings. The Court’s comprehensive opinion should provide strong comfort to corporations that resist appraisal demands above the deal price following an arm’s length merger transaction negotiated by an independent and well-informed transaction committee of the acquired company. The opinion similarly provides helpful guidance to shareholders regarding the risks they face when evaluating whether to reject the deal price and demand appraisal in such transactions.
[1] Smith Anderson served as North Carolina counsel to BAT in the merger transaction and served as North Carolina counsel for RAI in the appraisal action before the Business Court and on appeal.
[2] See N.C. Gen. Stat. § 55-13-01(5).
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