Inconsistent Valuation Analysis Fails to Stop Merger of Lear Corp.
Business Valuation Advisor, Winter 2008
In Re Lear Corp., 2007 Del. Ch. LEXIS 88 (June 15, 2007)
Less than two years ago, the Lear Corporation—one of the world’s largest automotive suppliers—suffered a string of losses caused by rising steel prices, falling demand, and costly restructuring. After trading at $60 per share in 2004, Lear’s stock tumbled to $16 in early 2006. Along came billionaire Carl Icahn, who by the end of 2006 held 24% of the troubled multinational.
Given Icahn’s “value-maximizing” reputation, Lear’s common stock rose to just over $30 per share. Confirming market perceptions that a sale was imminent, Icahn approached CEO Robert Rossiter in early 2007 about a going-private transaction. Like many top-level executives, much of Rossiter’s personal wealth was tied up in the company; at his behest, the Board investigated options to allow him to convert some retirement assets to cash while continuing to run the company. The Board also formed a Special Committee to oversee the transaction. But the Committee was “less than ideal,” formed to facilitate swift responses rather than substitute for conflicted management. Rossiter was tapped to lead the talks with Icahn while the Special Committee “stood back from the front lines of due diligence.”
A series of ‘infelicitous decisions’
The Lear case documents at length the negotiations between Icahn, Rossiter, the Special Committee, and the Board. The high-profile deal culminated in February 2007 with Icahn’s offer of $36 per share. The offer permitted a broad “go-shop” provision and allowed bids from second-arriving buyers; should a superior offer come in, Icahn agreed to vote his equity position behind it or top the bid.
The Board approved the deal and aggressively shopped the company to potential buyers, but none came through. Nevertheless, some of Lear’s major stakeholders moved to enjoin the merger, arguing that the Board had breached its disclosure duties and failed to secure the highest available price. (Interestingly, toward the end 2006, two of the plaintiffs turned down the opportunity to buy into the company at $23 per share–the same terms given Icahn at the time–saying the price was too high.) On review of the entire record, however, the Delaware Chancery (V.C. Strine) rejected most of the plaintiffs’ contentions.
Although the Lear Special Committee made an "infelicitous decision" to permit the CEO to negotiate the merger terms outside the presence of the Special Committee supervision, there was no evidence that the decision adversely affected the overall reasonableness of the Board’s efforts to secure the highest possible value.
The "go-shop" period provided adequate assurance that no willing buyer would top the $36 offer. There was one problem: the Board’s failure to disclose their negotiations with Rossiter regarding his compensation. "Lear stockholders [were] entitled to know that the CEO harbored material economic motivations that … could have influenced his negotiating posture with Icahn." That Rossiter held sole authority to conduct the talks, outside of the Special Committee, magnified the concern, and the Court postponed the sale until the Board made appropriate disclosures.
In their final attempts to persuade the Court, plaintiffs offered an expert appraisal opining that Lear’s per-share value, at the time of the merger negotiations, ranged from the high mid-$30s to the mid-$40s. Although this was not an appraisal proceeding, Vice Chancellor Strine carefully reviewed the report and found several flaws in the expert’s discounted cash flow (DCF) analysis, including miscalculation of the all-important discount rate and failure to consider current industry circumstances. After correcting for these errors, the analyst’s DCF value for Lear ranged from $27.13 per share to $35.75 per share. The $36 merger price thus appeared reasonable, especially in the context of a traditional—and correct—DCF valuation.
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