IN RE RURAL METRO CORPORATION STOCKHOLDERS LITIGATION
Submitted December 17, 2013
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Joel Friedlander, Jeffrey M. Gorris, Jaclyn Levy, BOUCHARD, MARGULES & FRIEDLANDER, P.A., Wilmington, Delaware; Randall J. Baron, David Knotts, ROBBINS GELLER RUDMAN & DOWD LLP, San Diego, California; Attorneys for Plaintiffs.
Patricia R. Uhlenbrock, Seton C. Mangine, PINCKNEY, WEIDINGER, URBAN & JOYCE LLC, Wilmington, Delaware; Alan J. Stone, Daniel M. Perry, MILBANK, TWEED, HADLEY & McCLOY LLP; Attorneys for Defendant RBC Capital Markets, LLC.
LASTER, Vice Chancellor
On June 30, 2011, Rural/Metro Corporation (" Rural" or the " Company" ) merged with an affiliate of Warburg Pincus LLC (" Warburg" or " WP" ). Each publicly held share of Rural common stock was converted into the right to receive $17.25 in cash. The plaintiffs contend that the members of the Rural board of directors (the " Board" ) breached their fiduciary duties by approving the merger and by failing to disclose material information in the Company's definitive proxy statement (the " Proxy Statement" ). The plaintiffs further contend that defendant RBC Capital Markets, LLC (" RBC" ) aided and abetted the directors' breaches of fiduciary duty. The directors settled before trial. So did Moelis & Company LLC (" Moelis" ), a financial advisor that played a secondary role in advising the Board. The case proceeded to trial against RBC.
This post-trial decision holds RBC liable for aiding and abetting breaches of fiduciary duty by the Board. It does not specify a damages award against RBC or address the plaintiffs' application for fee shifting. The parties will submit further briefing on those issues in accordance with this opinion.
I. FACTUAL BACKGROUND
Trial took place over four days. The plaintiffs proved the following facts by a preponderance of the evidence. In resolving factual disputes and drawing inferences, this decision has placed the greatest weight on the contemporaneous documents. This decision has placed the least weight on the testimony of the two RBC managing directors who appeared at trial.
Their accounts at times strained credulity, and the plaintiffs successfully impeached their testimony on multiple occasions.
A. Rural And Its Board
Rural is a Delaware corporation headquartered in Scottsdale, Arizona. Founded in 1948, the Company is a leading national provider of ambulance and fire protection services in more than 400 communities across 22 states. Rural's shares traded on NASDAQ from July 1993 until the merger closed.
Before the merger, the Board had seven members. Robert Wilson, Eugene Davis, Earl Holland, Conrad Conrad, Henry Walker, and Christopher Shackelton were facially independent, disinterested, outside directors. Michael DiMino was Rural's President and CEO. Wilson did not vote on the merger.
Among the outside directors, Shackelton played the most significant role in the events leading up to the merger. Davis and Walker did more than the other outside directors but generally deferred to Shackelton. These individuals stood out because they were the members of a special committee (the " Special Committee" ) that took the lead on three M& A alternatives between August 2010 and March 2011. Shackelton served as Chair of the Special Committee on each occasion.
The Board first formed the Special Committee in August 2010. Some weeks earlier, RBC had pitched Shackelton and DiMino on the possibility of Rural acquiring American Medical Response (" AMR" ), Rural's lone national competitor in the ambulance business. AMR was a subsidiary of Emergency Medical Services Corporation (" EMS" ), a publicly traded entity that seemed more interested in its higher margin medical services subsidiary. The Board created the Special Committee to oversee an approach to AMR. Shackelton contacted EMS, but EMS was not interested in selling AMR at Rural's price.
In October, the Board reformed the Special Committee to respond to an approach by Macquarie Capital and Irving Place Capital (jointly, the " Consortium" ). In late September, the Consortium expressed interest in acquiring Rural for $10.50 to $11.50 per share. The Board regarded that price as too low to justify engagement, but after talking with Shackelton, the Consortium suggested it could raise the high end of its range to $15.00 per share. The Board reaffirmed its position that " the Company was not for sale," but authorized the Special Committee to engage with the Consortium. Rural entered into a confidentiality agreement with them and provided them with due diligence. Discussions ended when Irving Place withdrew and Macquarie declined to proceed alone.
The plaintiffs do not contend that any director breached his duty of loyalty, but Shackelton, Davis, and DiMino each had personal circumstances that inclined them towards a near-term sale. Shackelton was a managing director of Coliseum Capital Partners, L.P. (" Coliseum" ), a hedge fund he co-founded in 2006. Coliseum generates returns by taking concentrated positions in small-cap companies, obtaining influence, and then facilitating an exit within approximately three to five years. In 2007 and 2008, Coliseum accumulated approximately 12.43% of Rural's stock at an average cost of around $4 per share. Shackelton became a director in April 2008. By 2010, Rural had grown to 22% of Coliseum's portfolio--twice the target size for a core position--and the unrealized capital gain represented Coliseum's most successful investment. Shackelton saw an M& A event as the next logical step for Coliseum's involvement with Rural.
Shackelton's interest in an M& A event was also a reaction to DiMino's business plan. The Board hired DiMino with a mandate to grow the Company. When he arrived, DiMino discovered that Rural did not have a growth plan or a culture of growth. Predecessor management focused exclusively--and successfully--on operational improvements. To DiMino's amazement, the Company did not have a single sales person. To carry out his mandate, DiMino created a three part strategy: (i) acquire local and regional providers in the highly fragmented ambulance transport industry, (ii) enter new markets by securing contracts with hospitals for non-emergency, general transportation services, and (iii) secure new government contracts through the request-for-proposal process. DiMino developed and the Board approved a detailed growth plan that contemplated spending $50 million per year on acquisitions over the next five years. The evidence at trial proved that the growth plan was reasonable and achievable.
DiMino's growth plan conflicted with Coliseum's investment strategy, which favored companies with predictable cash flows. The fund told its investors that it avoided companies whose valuations relied on exceptional growth, was reluctant to buy into sizable growth initiatives, preferred a margin for safety based on modest organic growth assumptions, and often penalized companies for acquisitions.
In late 2010, Coliseum had yet another reason to favor an M& A event involving Rural. The fund was seeking to raise $150-$200 million of new capital, more than ever before. A Rural transaction would be a coup for the young, activist hedge fund and could be used to market the fund to new investors.
Davis had different reasons for favoring a sale. In fall 2010, Davis served on a dozen public company boards, which brought him into conflict with an ISS policy against " over-boarded" directors. Davis Dep. at 318. Davis was particularly concerned about avoiding a recommendation against his re-election as the Chairman of the Board of Atlas Air Worldwide Holdings, Inc. Id. at 319. Atlas Air facilitated a meeting between Davis and ISS, and Davis agreed to reduce his number of directorships to six by April 2011. Id. at 319-21. As President and CEO of PIRINATE Consulting Group LLC, Davis often joined boards as a hedge fund nominee or as an outside director acceptable to stockholder activists. A sale of Rural would reduce his number of board seats, while letting him exit on a professional high note. It also would let Davis keep over $200,000 of Rural equity that would vest on a change of control, but which he would lose if he resigned voluntarily. Davis set a personal deadline of April 1 for Rural to announce a sale; otherwise, he would resign from the Board.
DiMino was a late convert to the idea of a sale. During most of 2010, he favored keeping Rural independent. In September 2010, while Shackelton talked up the Company with private equity firms, DiMino politely resisted, arguing that the company was " on a clear growth plan" to increase revenue and EBITDA. JX 96. In the midst of the Special Committee's discussions with the Consortium, DiMino emailed Walker and Conrad, the Chairman of the Board at the time, and explained he " would wait to sell this business until after we are actually serving Santa Clara and after Stingray is purchased. Sometime after June of next year." JX 135. DiMino testified that waiting would allow the Company to demonstrate success executing its growth strategies:
I believed that the company would be much more valuable . . . -- [The Santa
Clara contract and the Stingray acquisition] are two of our growth planks, part of our strategic plan that we already had implemented . . . . [E]ach one of those represented a success or a point of success . . . on that plan that would, I think, have delivered more value to the shareholders once they saw that we actually accomplished that, and more valuable to outsiders as they looked at the business.
DiMino Dep. at 36-37 (June 10, 2011). DiMino contrasted his assessment with what Shackelton and RBC thought, namely that " now is the time to sell." JX 135.
DiMino changed his mind after his six month performance review. Shackelton and Davis believed that during his presentations to the Consortium, DiMino's body language conveyed his preference that the Company remain independent. They were incensed that DiMino had " undermined the process" to protect his job and " intentionally introduced enough concerns regarding the risks of buying the business to scare off buyers." JX 171. Shackelton also felt DiMino had engaged in " completely unacceptable behavior" by reaching out to a second private equity firm to validate the Consortium's bid and potentially generate price competition. JX 176 at COL0140372. Conrad and another outside director gave DiMino his review, but they gathered information from their fellow directors before doing so. The input from Shackelton and Davis was scathing. After his review, DiMino called Shackelton and received similar feedback directly. From that point on, DiMino supported a sale and deferred to Shackelton. According to Davis, self-interest also drove DiMino's change of heart:
[T]he light bulb finally went over his head that [a private equity buyer would] probably ask him to run it, and given the way that his relationship with the Board -- our Board had deteriorated, I think at some point, he came to the conclusion he would be better off with a different Board, and a new owner would bring a different Board, on top of which he was going to prematurely cash out on the equity that he had received less than a year earlier. And probably if he was given the job back, would get more equity. It was a very good deal for him. He finally figured it out.
Davis Dep. at 144-45.
To reiterate, the plaintiffs do not contend that any director breached his duty of loyalty. The personal circumstances that confronted Shackelton, Davis, and DiMino nevertheless helped shape the boardroom environment in which RBC operated.
B. Rumors About EMS
In early December 2010, the Wall Street rumor mill began buzzing that EMS was in play. Tony Munoz of RBC gave Shackelton and DiMino an overview of the EMS process, told them that multiple private equity shops were looking at EMS, and reported that some of the private equity firms believed AMR should be separated from EMS. Munoz claimed that several of the firms were looking for a partner and had mentioned Rural as an " angle." Shackelton told Munoz that " [a]t the right price, we can be part of the 'angle.'" JX 177.
Internally, Munoz and his RBC colleagues realized that a private equity firm that acquired EMS might decide to buy Rural rather than sell AMR. Munoz and his colleagues recognized that if Rural engaged in a sale process led by RBC, then RBC could use its position as sell-side advisor to secure buy-side roles with the private equity firms bidding for EMS. RBC correctly perceived that the firms would think they would have the inside track on Rural if they included RBC among the banks financing their bids for
EMS, referred to in M& A argot as the " financing trees." RBC believed that with the Rural angle, it could get on all of the EMS bidders' financing trees.
On December 8, 2010, the Board held a regular meeting. Shackelton took the opportunity to discuss the rumors about EMS and segued into a full presentation about strategic alternatives. After explaining why he felt market conditions were conducive to M& A activity, Shackelton outlined what he saw as Rural's three strategic alternatives:
(1) continue to pursue the Company's current standalone business plan (including taking advantage of opportunities to purchase smaller competitors); (2) pursue a sale of the Company; or (3) pursue a transaction that would seek to take advantage of the synergies available via some form of business combination transaction involving [AMR].
JX 180 at 3. Shackelton told the Board that he " had not formulated a preference among the three basic alternatives," but he " did recommend that the Company should move expeditiously to retain appropriate advisers and obtain advice regarding an appropriate course of action." Id.
Based on Shackelton's presentation, the Board re-activated the Special Committee. The Board charged the Committee with retaining advisors and generating a recommendation on the best course of action. It did not authorize the Special Committee to pursue a sale. At the same meeting, Shackelton took over as Chairman of the Board.
C. Shackelton Takes Control.
After the Board meeting, Shackelton told RBC that he was open to reaching out to private equity firms about partnering on an acquisition of EMS. Shackelton gave a similar message to Moelis, a firm that had a relationship with Rural's CFO. Both firms began making calls to their sponsor clients. On December 9, 2010, DiMino reached out to the CEO of EMS to explore what Rural " [could] do to help" with their process. JX 183. The EMS CEO agreed that the companies should be put together at some point but otherwise demurred. He suggested they speak again in January.
On December 13, 2010, Shackelton advised his fellow directors that he was setting up a board meeting to interview potential financial advisors. On December 14, EMS publicly announced that it was exploring strategic alternatives. Its stock price spiked 19%. Rural's stock also traded up.
On December 20, 2010, Shackelton reported to his fellow directors that the Special Committee, not the full Board, would meet on December 23 to interview and select an advisor. He justified the date as follows: " The EMS process is moving more quickly than we'd anticipated. Over the past 5 days, we have been contacted by nine private equity firms that are either interested in partnering to buy EMS or turning the tables and acquiring us." JX 215. He argued that having the Special Committee hire the Company's advisors, rather than the full Board, was simply a matter of convenience: " Since the purpose of this call will not be to evaluate and select a strategic direction, I do not believe we need the entire board to block off four hours for the banker presentations." Id.
In advance of the Special Committee meeting, Munoz and his RBC colleagues continued speaking with private equity firms about EMS and Rural. Munoz told Shackelton that several private equity firms were interested in acquiring Rural and that " [t]he EMS process is helping us position Rural as a great target." JX 217.
On December 23, 2010, the Special Committee interviewed Houlihan Lokey, Moelis, and RBC. Houlihan Lokey stressed its
M& A experience in the healthcare sector with companies valued under $1 billion. The firm commented on the wide range of alternatives available to Rural. Its preliminary comments on a potential sale incorporated both private equity buyers and strategic acquirers.
Moelis stressed its growing M& A franchise. The bulk of its presentation examined a potential combination with AMR. Moelis placed less emphasis on a sale of Rural. The firm advised the Special Committee that it " would not seek to provide financing for any transaction that may be pursued (thereby reducing the potential for a conflict of interest in its activities on behalf of the company)." JX 224 at 1.
Munoz made the pitch for RBC. Unlike the other firms, RBC devoted the bulk of its presentation to a sale and recommended coordinating the effort with the EMS process. JX 225 at 4. RBC claimed that " selling the Company today is opportunistic" and that the time to sell " is now." Id. at 5. In addition to stressing the EMS process, RBC argued that the M& A healthcare environment was strong, that buyers were paying premiums for quality assets, and that other M& A opportunities were scarce. RBC advised that the debt markets were open and supportive of acquisition financing. Id. at 10. When laying out the structure of a potential sale process, RBC only discussed private equity firms. Id. at 33-35. RBC cited its close relationships with the private equity firms it rated as " Tier 1 Sponsors." Id. at 41. Despite having stated that the credit markets were open for acquisition financing, RBC noted that it hoped to offer staple financing to the potential buyers in any transaction. RBC did not disclose that it planned to use its engagement as Rural's advisor to capture financing work from the bidders for EMS.
According to the minutes of the meeting, after the banker presentations, counsel advised the Special Committee about RBC's proposal to provide staple financing. The minutes contain the following paragraph:
Mr. Brooks explained further the " pros and cons" of retaining an investment banker as a financial advisor if that advisor would also seek to provide so-called " staple financing." A major concern in this case is that RBC's potential offer of staple financing would present for it potential conflicts of interest, and potential appearances of conflicts. However, in this case in particular, an argument could be made that RBC, with its very recent experience in working with the Company in obtaining significant debt financing, and its overall familiarity with the Company and its industry, would be expected to significantly enhance a potential sale process through staple financing because such financing could be offered quickly and could provide a floor for financing that would be available to potential purchasers of the Company. Mr. Brooks noted that, if the Committee were to select RBC, the Committee would need to be especially active and vigilant in assuring the integrity of the [process], and that it should consider appointing a second firm which would not be in a position to provide staple financing, but that would be very close to the process to assure both the fact and the appearance of an appropriate and robust auction process. Both firms should be in a position to deliver a customary " fairness opinion" in the event the Company determines to enter into a negotiated transaction . . . .
JX 224 at 2.
The Special Committee decided to hire RBC. DiMino emailed Munoz: " Well done, let's get this baby sold!" JX 229. Munoz reported to his colleagues at RBC that
they had been engaged as " Rural Metro Sellside." JX 230. He described Rural as " the deal that's going to put our Healthcare services sellside effort on the map. Big name sponsors are going to look at this asset." Id. Other contemporaneous documents confirm that RBC understood it was hired to sell Rural. See JX 251 (Munoz telling head of RBC leveraged finance that " [w]e're hired on the sellside on Rural [and] we are free to help on the overall financing of RuralჄ. Likely be a $2bn financing." ); JX 288 at 1 (internal RBC memo requesting authorization to provide staple financing; " Co has engaged RBC . . . as sell-side advisors to explore the sale of the Co." ); id. at 2 (" The current transaction presents an important Healthcare sell-side mandate for [RBC] in addition to being a large fee event." ).
At the time, the Board had not authorized the Special Committee to hire a " sellside" advisor or start a sale process. The Board only authorized the Special Committee to retain an advisor to analyze the range of strategic alternatives available and make a recommendation to the Board.
D. Without Board Approval, Shackelton And RBC Put The Company In Play.
After hiring RBC to sell Rural, Shackelton emailed DiMino about " discussing price range." JX 233. Shackelton also told DiMino that he was interested in having " a secondary m& a advisor (group that isnt [sic] providing staple financing) at the very least for [a] fairness opinion." Id. DiMino felt that RBC and Moelis " will do whatever it takes to ensure we are completing a transaction." JX 209.
On December 26, 2010, Shackelton sent an update to the Board reporting that the Special Committee had hired " RBC (as primary) and Moelis (as secondary)." JX 238. He then reported on the " Partner/sale process." Id.
We are continuing to refine a target list of PE firms (10-15). We have reached out informally to almost all of them ...