When a company agrees to be acquired, some shareholders dissent from the transaction, arguing that the company did not negotiate a fair price for the sale. To address this, most states provide a mechanism for dissenting shareholders to obtain a third-party appraisal of their shares. If the appraisal process results in a higher acquisition price, the dissenting shareholders receive that higher price for their security holdings in the sold company. Buyers recognize this risk, and typically demand that the selling securityholders indemnify the buyer against the cost of the appraisal process (including the impact of the higher price).
In Delaware (the legal home of many acquired companies), Section 262 of the Delaware General Corporation Law provides for such an appraisal right. As written, it also provides an incentive for shareholders to exercise appraisal rights: once the appraisal process concludes, the shareholders usually are entitled to the appraised price plus interest from the time the merger closed at a rate equal to 5% over the Federal Reserve discount rate. In our current low interest rate environment, many investors consider receiving an almost risk-free 5% on funds a strong return. Thus, securityholders can take advantage of the appraisal process (that can take two or more years to resolve), with the worst case being a 5% annual return on the merger proceeds.
The Delaware State Bar Association has recognized this issue, and has proposed an amendment to Section 262. The amendment would allow the buyer to limit the accrual of interest by paying early the merger proceeds to the dissenting shareholders. Then, the dissenting shareholders would be entitled to interest only on the difference (if any) between the final appraised amount and the original merger proceeds amount.
If adopted by the Delaware General Assembly, we will follow the data to see if it impacts the frequency of shareholders exercising their appraisal rights.