United States: Dissatisfied Trade Sale Underbidders and Adviser Conflicts of Interest: A Heady Mix?

One of Australia’s larger listed companies, Brambles Industries Ltd ("Brambles"), recently completed the sale of its Cleanaway waste management and logistics assets and business. The Cleanaway business was sold through a trade sale process. Brambles engaged the full-service investment bank UBS in an advisory capacity to manage the sale.

The Cleanaway business was eventually sold, through the trade sale process, to the US buyout group Kohlberg Kravis Roberts & Co. ("KKR") for A$1.83 billion. Shortly after KKR was announced as the successful acquirer, Transpacific Industries, one of the underbidders in the trade sale process, announced that it was dissatisfied with the way in which the sale process had been carried out by UBS and said it was considering its options.¹ Transpacific had offered to acquire the Cleanaway business for A$1.85 billion, a headline price A$20 million higher than that offered by KKR.

Transpacific’s dissatisfaction with the sale process appears to be based on two concerns.

The sale process is reported to have been structured in two stages. The first stage involved prospective bidders’ submitting non-binding bids. The second stage, conducted over a period of six weeks, culminated in the bidders’ lodging final, binding bids. A "black box" of confidential financial information about the Cleanaway business was withheld from all bidders participating in the initial stages of the sale process. Transpacific claims that UBS represented to it throughout the sale process that two or three bidders would be permitted access to the black box before final bids were submitted. The suggestion from Transpacific is that this did not occur before KKR was announced as the successful bidder, and as a result, Transpacific was not given the opportunity to improve its offer. Transpacific says that it had board approval to improve its offer and remove any conditions attached to the bid.²

Transpacific’s second concern appears to be based around UBS’s own role in the transaction. While UBS had been appointed as Brambles’ adviser and managed the trade sale, it is also reported to have offered a senior debt financing package of A$1 billion to a number of bidders during the sale process to help finance their bids. Accordingly, UBS helped finance KKR’s winning bid. It has also been reported that UBS would have helped raise capital for Transpacific if the company had succeeded in acquiring the Cleanaway business.

Recent media reports suggest that the Australian Securities and Investments Commission ("ASIC") is now conducting a preliminary investigation into the sale process, including an examination of UBS’s role in KKR’s debt financing.³

The Transpacific claims about the Cleanaway business sale have a familiar ring to them.

In 2003, Australian Agricultural Co Ltd ("AACo"), the underbidder in the sale process for Stanbroke Pastoral Company Ltd ("Stanbroke"), challenged the outcome of a tender sale process conducted by the seller AMP Life ("AMP") and its adviser, Rabobank. Stanbroke was, at the time, the world’s largest cattle producer and owned extensive land holdings in Australia. The sale was a two-stage process: in the first stage, interested bidders were required to lodge expressions of interest and indicative non-binding offers, and in the second stage, a short-list of bidders were permitted to complete due diligence and lodge final bids. The short-list consisted of five bidders, including a consortium called Nebo Holdings ("Nebo") and AACo. Nebo successfully offered to acquire Stanbroke for A$417 million. AACo was the unsuccessful underbidder, even though it offered to acquire Stanbroke for A$420 million, or A$3 million more than Nebo.

Based on a media release AMP issued upon the sale’s announcement, one of the key factors behind Nebo’s successful bid was an assurance that it intended to operate Stanbroke as a going concern. In contrast, AACo proposed to operate Stanbroke as a merged operation.

AACo took legal action against AMP and sought an interlocutory injunction restraining AMP from selling Stanbroke to Nebo or to any other third party unless it was done pursuant to a court order requiring AMP to repeat the tender process under independent supervision. AACo also sought damages for loss it claimed to have suffered as a result of the loss of opportunity to profit by acquiring Stanbroke.⁴

AACo claimed that in selecting Nebo as the successful tenderer, AMP had:

• Acted on criteria that was not disclosed to AACo during the tender process.
• Contrary to implied terms in the contract between AACo and AMP that came about as a result of AACo’s participation in the tender process ("Tender Contract"), not acted fairly and in good faith in conducting the tender process.
• Contrary to implied terms in the Tender Contract and the statutory obligations of AMP to give priority to the interests of policyowners, failed to accept the bid with the highest financial return.
• Treated as determinative Nebo’s assurances that Nebo would operate Stanbroke as an independent entity, contrary to other representations that it would be acceptable for a bidder to operate Stanbroke as a merged operation.
• Contrary to oral and written representations in the information memorandum prepared for the sale that the sale’s objective would be price maximisation for AMP policyholders, engaged in misleading and deceptive conduct in breach of section 52 of Australia’s Trade Practices Act.

Evidence admitted at the hearing showed that during the tender process, Rabobank had circulated to intending bidders a share sale agreement that contained a "material adverse change" provision triggered by prescribed events. AACo changed the "material adverse change" definition in the version of the share sale agreement that it submitted with its bid to make it broader and to incorporate a general "out" provision if there were material declines on local and world equity markets.

AACo’s claim for an interlocutory injunction failed on a number of grounds.⁵ Importantly, the court found that AACo failed to establish that there was a serious question to be tried as to whether AMP engaged in misleading and deceptive conduct. The evidence did not show that AMP considered maintaining Stanbroke as a separate entity was a factor that could be taken into account in circumstances, other than where competing bids were substantially equivalent in price, or that there was a serious issue to be tried as to whether AMP failed to give priority to achieving the best price. The court also found that there was no serious question to be tried in relation to the implied terms of fairness and good faith that AACo alleged had arisen out of the "Tender Contract" that came into existence as a result of its participation in the sale process. To the contrary, based on a disclaimer that had been included in the information memorandum issued for the sale that stressed AMP reserved the right to deal with interested parties as it saw fit (including not progressing negotiations with any party), the court doubted whether the Tender Contract could include any of these implied terms.

Although AACo failed in its attempt to injunct the sale of Stanbroke to Nebo, it continued its action for damages against AMP. Following the injunction, there were also suggestions made—similar to those made by Transpacific in respect of the Cleanaway sale—that the sale outcome may have been influenced by Rabobank, which not only advised AMP on the sale, but also helped finance Nebo’s winning bid. Rabobank claimed that it had maintained a Chinese wall between the advice it had given AMP in its M&A division and the financing activities of its rural lending division.⁶

The difficulties that AACo had in obtaining an injunction against the Stanbroke sale suggest that Transpacific may confront similar issues if it brings legal proceedings against Brambles in respect of the Cleanaway sale. Having said this, the Stanbroke case—given that it involved interlocutory proceedings and was subject to its own particular facts—is not the final word on the circumstances in which dissatisfied trade sale underbidders might challenge the fairness of a sale process.

There is no general requirement under Australian law for a private-sector seller to act fairly in dealing with a prospective buyer of one of its assets (this contrasts with dealings with a public-sector seller, where there is such an obligation). Moreover, it is standard practice in Australia for trade sale rules and processes that bind participating bidders to ensure that a seller has maximum flexibility in dealing with prospective buyers, including ceasing negotiations with them, exclusively dealing with one bidder over another,⁷ and entering into an agreement with a bidder although it had not offered the "highest" or best price. As shown in the Stanbroke case, the inclusion of these kinds of rules or disclaimers has the potential to oust any implied contractual terms that a dissatisfied bidder may claim operate to the contrary.

Despite the absence of any requirement under general law to act fairly, depending upon the facts and circumstances, Australian legislation gives dissatisfied bidders two potential areas of recourse. Section 52 of the Trade Practices Act prohibits a corporation from engaging in conduct that is misleading or deceptive or likely to mislead or deceive. Given that intent is irrelevant to establishing a claim under s.52, it is unlikely there is any requirement for a claimant to show that the conduct in question contains an element of unfairness. Misrepresentations made by a seller or bidder as to the way in which a trade sale process was to be conducted would form a basis for a claim under s.52 by a dissatisfied bidder.

However, the risk of legal action from dissatisfied bidders in trade sales is not restricted to sellers: it also extends to financial advisers. Section 12CA of the Australian Securities and Investments Commission Act prohibits corporations from engaging in unconscionable conduct in relation to financial services, and s.12DA prohibits corporations from engaging in conduct in relation to financial services that is misleading or deceptive or likely to mislead or deceive.

Even though, as noted above, there is no general duty at law to act fairly in a private sale process, financial services licensees do have an overriding statutory duty to do "all things necessary to ensure that financial services covered by the licence are provided efficiently, honestly and fairly"⁸ (our emphasis). The boundaries of this obligation are yet to be fully tested, but because the obligation applies to all necessary things that a licensee does, there appears to be no reason why an underbidder could not claim, for example, that a licensed adviser breached its statutory duty by acting unfairly in managing a trade sale in which the bidder participated.

The Stanbroke and Cleanaway sales point the way to some lessons that are useful to advisers and the boards of directors of vendors involved in conducting trade sales.

Disclosure. It is standard for information memoranda issued in Australia for trade sales to contain disclosures and waivers in respect of the content of the memoranda. These are typically aimed at ensuring that participants in the trade sale that receive the IM rely on their own inquiries and that there is no liability for the accuracy or completeness of the IM. Participants in a trade sale will also commonly agree, through their participation, to abide by rules regarding the sale process that are set down by the seller and its advisers. As noted above, these rules typically reserve maximum discretion to a seller and its advisers in selecting and dealing with a buyer. It is less common for these kinds of waivers or rules to clearly spell out multiple roles that financial advisers may take on, not only in advising the seller, but also in financing or raising capital for a prospective buyer’s bids (these were common features of both the Stanbroke and Cleanaway sales). Clear, upfront disclosure of these multiple roles is an important first step in ensuring that conflict-of-interest issues do not overwhelm the sale process or give further strength to a dissatisfied underbidder’s claims that the process was unfair or lacking in transparency.⁹

Selling to the Lower-Price Bidder. There are, of course, many legitimate reasons why sellers may choose to sell a company or business to a bidder that does not offer the highest price. For instance, the ability to execute quickly on an unconditional acquisition may be an important factor where competing bidders offer a similar price.¹⁰ Despite the legitimacy and freedom sellers have to take this approach, the Stanbroke and Cleanaway sales demonstrate that the need for careful management of a sale process is enhanced where there is a prospect that the successful bidder is not the highest-price bidder. Given that most boards of directors of a seller will have determined their driving commercial, financial and legal criteria for selecting a buyer early in the trade sale process, giving higher-than-normal weight to criteria other than price should flag to advisers and boards that additional care will need to be taken in managing the outcome of the sale process.

Staged "Auction" Sale Processes and the Black Box. While Australian market sentiment currently favours "auction"-type trade sale processes as a means of maintaining competitive tension amongst bidders and maximising price, one of the realities of drawn-out sale processes that constantly whittle down lists of prospective bidders is that those that make it to the final stage may have unrealistic expectations of succeeding with the acquisition. When combined with an overcompetitive market for assets, the advent of private equity competing against trade buyers, and the increased costs and frustrations that can arise for bidders that are not given access to the "black box" of the seller’s commercial-in-confidence information until the end of the sale process, this can sometimes create a volatile environment for successful bidder selection. In the admittedly few cases where price is not the primary driver for selection of a successful bidder, it may be appropriate for vendor boards to consider implementing alternative trade sale processes that place less emphasis on "auction"-type structures whose primary objective is to maintain price tension amongst competing bidders.

Oral Representations. Another common thread between the Stanbroke and Cleanaway sales appears to be confusion amongst the dissatisfied underbidders about the sale process, and particularly the circumstances surrounding the timing of a final bid. Given that a dissatisfied underbidder’s primary legal recourse is still likely to be focussed on misleading and deceptive conduct, and that the basis for these types of claims is so often oral representations, care needs to be taken by financial advisers about oral statements made to bidders that are at odds with the trade sale rules that have been laid down in writing. Where the trade sale process is drawn out and involves a seller or its advisers engaging in concurrent negotiations with competing bidders, the risk of such statements being made may increase.

As has been previously noted by us,¹¹ ASIC has given new enforcement priority to assessing whether Australian financial services licensees are satisfying their statutory duty to have in place adequate arrangements to manage conflicts of interest. This has been most publicly reflected by ASIC’s decision to file civil penalty proceedings against Citigroup in Australia. ASIC’s claim alleges—amongst other things—that due to Citigroup’s acting as an adviser to its client Toll on a takeover, and at the same time engaging in proprietary trading in Toll’s stock, it failed to have adequate arrangements in place to manage conflicts between its own interests and the interests of Toll, as was required under the Corporations Act and the conditions of its financial services licence.¹² Any investigation by ASIC into UBS’s role in the Cleanaway sale is likely to take into account the way in which UBS managed the potential for conflict of interest between its role as adviser to Brambles on the sale and its role as a financier to both prospective bidders and KKR as the final bidder.

The web around conflicts of interest for full-service investment banks engaged in an advisory capacity in Australian trade sales is complex and can raise some significant legal uncertainty, particularly where there is a fiduciary relationship between the bank and third parties. Numerous layers of conflict are likely to come into play when a full-service investment bank decides to both advise the seller in a trade sale process and offer financing or capital-raising assistance to prospective bidders participating in the trade sale. These layers include the bank’s duties to its client, the seller; the bank’s obligation to ensure that the trade sale process is not influenced by its self-interest, such that undue preference is given to selecting a buyer that is prepared to take the bank’s financing; the requirement of the bank to operate the trade sale according to the rules it has laid down for participants; and any duty that the bank may have, not only to the final bidder, but also to prospective bidders to which it is offering its financing package and services throughout the duration of the sale process. Not only do these issues present a dilemma for advisers, but they are also things that vendor boards of directors should take into account in deciding to mandate full-service investment banks as advisers that wish to take on other, possibly conflicting roles, in a trade sale context.

Although financial services licensees have a statutory duty to have in place adequate arrangements to manage conflicts of interest,¹³ ASIC has made it clear that in some circumstances, it believes conflicts of interest are so serious that they cannot be managed by internal controls and disclosure (such as Chinese walls) and must be avoided.¹⁴ There is no reason why this policy approach will not be applied by ASIC to financial advisers that choose—even with the fully informed consent of a vendor client—to play an advisory and trade sale manager role, while also financing or raising capital to help fund the successful bidder’s acquisition. ASIC has also made it clear that it believes a licensee that has in place inadequate conflict-management procedures is unlikely to discharge its other key statutory obligation to act efficiently, honestly and fairly.¹⁵ It may yet be the case that quite apart from enforcement risk, these conflicts prove to be a fertile hunting ground for dissatisfied bidders that feel they have been treated unfairly and are looking to shape a legal claim around commercial discontent at failing to acquire a prized asset.

Footnotes