Delaware Chancery Court Declines to Apply Offer-of-Judgment Rule in Appraisal Proceedings
In Huff Fund Investment Partnership v. CKx, Inc., Civil Action No. 6844-VCG, 2014 WL 545958 (Del. Ch. Feb. 12, 2014) (Glasscock, V.C.), the Delaware Court of Chancery denied a request by respondent CKx, Inc. (“CKx”) to compel the petitioning stockholder to accept the tender of an undisputed portion of the fair value of the petitioner’s shares in order to stop further accrual of prejudgment interest on that undisputed amount. The court’s ruling gives petitioners in appraisal actions little incentive to prosecute appraisal actions expeditiously, as the prejudgment interest rate far exceeds prevailing fixed investment interest rates.
Petitioner Huff Fund Investment Partnership (“Huff Fund”), a holder of approximately 13,717,009 shares of CKx common stock, brought a statutory appraisal action under Section 262 of the Delaware General Corporation Law (“DGCL”), 8 Del. C. § 262, following of the sale of CKx to an acquirer at $5.50 per share. After trial and following the parties’ expert valuations of the company, the Court issued a post-trial memorandum opinion holding that the best indicator of fair value of Huff Fund’s shares was the merger price “generated by an arm’s length sales process.” The court permitted the parties to supplement the record with additional argument regarding certain circumstances which would have affected the merger price.
Subsequently, CKx filed a “Motion to Stop the Accrual of Interest.” In this motion, CKx offered to pay the unconditional tender of $3.63 per share, which was CKx’s expert’s base case scenario for valuing the company’s shares (plus accrued interest), in order to stop the further accrual of prejudgment interest on the undisputed portion of the value of Huff Fund’s shares. Given that the statutory prejudgment interest rate was “five percent above the Federal Discount rate,” CKx argued that where market rates of return are low, the opportunity for a “near risk-free return of five percent above the Federal Discount rate may penalize a respondent corporation, and may create perverse litigation and investment incentives, including encouragement of litigation of cases without significant potential for an award above the merger consideration, and even arbitrage of appraisal claims.” Huff Fund argued that actual market returns on equity are significantly higher than the legal interest rate, and because it is an unsecured creditor of the now highly leveraged acquired company, “[t]he notion that Petitioners are somehow benefiting from the accrual of prejudgment interest is — in a word — preposterous.”
The court denied CKx’s motion. The court focused upon the Delaware General Assembly’s views on the accrual interest, revised in 2007 and codified in Section 262(h) of the DGCL. The Section provides, in part:
Unless the Court in its discretion determines otherwise for good cause shown, interest from the effective date of the merger through the date of payment of the judgment shall be compounded quarterly and shall accrue at 5% over the Federal Reserve discount rate (including any surcharge) as established from time to time during the period between the effective date of the merger and the date of payment of the judgment.
Noting that Section 262(h) does not “expressly” prevent the Court from entering a partial judgment in favor of petitioner, thereby stopping the accrual of prejudgment interest on that amount, the court nevertheless held that such an order would be “incompatible with the General Assembly’s intent in revising Section 262(h).” Specifically, the court observed that the legislature’s intent in revising the statute in 2007 was clear: the limited discretion afforded to the court, upon a finding of good cause, permits the court to deviate from the statutory formula where a consideration of circumstances at the end of the process indicates that an award at the statutory rate would be unjust. Thus, the court declined to hold that CKx may avoid the running of interest by prepayment as a matter of right.
Ultimately, the court seemed to agree with CKx that compared with fault-based litigation, the opportunities for “rent-seeking” in appraisal actions are “comparatively high” and factors that tend to create “perverse litigation incentives in these actions deserve close consideration by policy makers.” Nevertheless, the court declined to address those concerns, instead relying upon the General Assembly’s specific standard governing interest awards, which the court reasoned must “trump” any such concerns. Ultimately, while sympathetic to CKx’s concerns, the court held the relief sought incompatible with the statute. It will likely be up to the legislature, and not courts, to deter such strategic behavior by petitioners in appraisal actions.