San Diego Mergers & Acquisitions: Are No-Shop Clauses Valid in California?
In a merger and/or acquisition agreement, often the parties agree to what is called a “no shop” clause. A typical “no shop” clause prohibits a seller from soliciting or considering new or alternative bids for the business for a set amount of time. A “no shop” clause can also be used in an asset sale/purchase where the seller agrees not the consider other offers for the assets. Note that the seller is forbidden from doing two things — actively seeking a new bid/offer and considering a new bid/offer if one arrives unsolicited. This leads to these two variations on the no shop clause:
- Window shop clause: Here the seller is only forbidden from seeking out new offers/bids, but if an unsolicited offer is made, the seller is allowed to consider the offer
- Go shop clause: This is the obverse of a no shop where the seller is allowed to seek and discuss other offers/bids but only for a predetermined time period (such as 60 days)
No shop clauses often include a confidentiality component preventing the seller from giving out information to third parties and also a provision requiring the seller to notify a buyer if an unsolicited bid is received.
No shop clauses and their variations are common in merges and acquisitions and have benefits for both seller and buyer. An experienced San Diego corporate attorney with extensive experience with buying and selling businesses can provide advice and counsel with respect to no shop provisions if you are considering a merger or acquisition. For a buyer, a no shop clause protects a buyer from having the deal “stolen” by a competitor during the due diligence phase. Due diligence can be costly in terms of time and money spent on appraisals and other reports. From the seller’s standpoint, a reasonable no shop time period helps to limit post-closing litigation based on failed or inadequate due diligence. If there is a bidding war and competing buyers are trying to “cross the finish line first,” due diligence might be short-changed. After the deal is done, new information might come to light and buyer’s remorse might set in. These can lead to expensive and unwanted litigation. On the other hand, a long-range no shop is not preferred by sellers since competing buyers will generally cause an increase in the selling price and there is always a danger that a merger or acquisition will fall through for various reasons during due diligence.
In general, no shop clauses are valid. When dealing with California corporations, the legal concern is whether the board of directors, who agreed to a no shop clause, acted in the best interest of the shareholders. Since a no shop clause prevents a company from soliciting and/or considering a high offer/bid, an unhappy shareholder might argue that the no shop clause prevented the shareholder from receiving the maximum value for his or her shares. While that is true, courts in California have upheld and validated reasonable no shop clauses. Courts apply the legal doctrine called the “business judgment rule” to determine whether a no-shop clause in a particular transaction is fair and reasonable to the corporation and its shareholders. The business judgment rule flows from the fact that members of a corporate board of directors owe fiduciary duties to shareholders. Among those duties are to ensure that shareholders obtain a fair and reasonable price for their shares. Thus, when applying the business judgment rule in the context of a no shop agreement, courts will consider the following types of facts:
- Time period for the no shop agreement – a short period is reasonable;
- Existence and seriousness of other bidders/potential buyers – a no shop clause is more reasonable where there are no or few other bidders, or interest from others is vague and not serious;
- Difference between the sale price and any potential competing offers/bids – a small price different will rarely justify overturning a board’s decision to agree to a no shop provision;
- How much influence was exercised by “interested” board members (board members owning stock);
- Evidence of some sort of insider collusion or bad faith;
- And more
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For more information, call corporate attorney Michael Leonard, Esq., of San Diego Corporate Law. Mr. Leonard’s law practice is focused on business, transactional, and corporate matters and we proudly provide legal services to business owners in San Diego and the surrounding communities. Call Mr. Leonard at (858) 483-9200 or contact him via email. Like us on Facebook.