Sell-out Uncovered in a Private Equity Buy-out
By Stephen Bornstein
After thinking about it for almost a year, management of Del Monte Foods Company finally decided in late 2010 to sell the company to a private equity group led by KKR. Del Monte then hired Barclays Bank – one of its trusted investment banks — to act as its financial advisor in connection with the sale.
Unbeknownst to the board of Del Monte at the time, Barclays had for months been shopping the idea of a leveraged buy-out of Del Monte to KKR, which was another substantial client of the bank’s. Also undisclosed to the del Monte board was the fact that Barclays had extracted from KKR the right to finance a third of the transaction and thereby earn a $24 million commitment fee in addition to the roughly the same-sized advisory fee Barclays was to earn from Del Monte if the transaction went through. Playing both sides of a PE buy-out was apparently commonplace at the time (and known in the industry as “staple financing”).
Playing both sides of a PE buy-out was apparently commonplace at the time (and known in the industry as “staple financing”).
The Del Monte board was further unaware of the fact that Barclays had teamed KKR up with Vestar Capital Partners, an earlier bidder for the company, in violation of an express provision in Barclays’ confidentiality agreement with Del Monte. The no-teaming provision was designed to encourage a competitive auction for Del Monte, but the secret pairing of KKR and Vestar by Barclays effectively precluded any genuine bidding process for the company.
Barclays did not request permission from the Del Monte board to participate in the acquisition financing until the company had already decided to pursue a deal with KKR. After learning of Barclay’s conflict of interest, however, and at Barclays’ behest, the Del Monte board hired a second financial advisor – Perella Weinberg – to provide a fairness opinion, which it did for a $3 million fee. The Del Monte board then agreed to let Barclays co-lead the buy-side financing, but the board’s consent was given before Del Monte and KKR had arrived at a final price for the company.
Del Monte ultimately negotiated $19 a share from KKR ($5.3 billion in total), which represented a 40% premium over its then-current market price and which was higher than the stock had ever traded before. The deal also called for a 45-day “go-shop” period, which was conducted by Barclays and which unsurprisingly ended without a topping bid. The Board then approved the KKR offer, but certain shareholders were able to obtain a preliminary injunction postponing the general vote and extending the ‘go-shop” period for 20 days based on the claim that the board had failed to pursue the best transaction available. No new bid was elicited during the extension and Del Monte shareholders approved the KKR transaction in March 2011.
Still dissatisfied with the deal, certain Del Monte shareholders then filed a derivative class action against the company in Delaware Chancery Court. The plaintiffs claimed that the auction process for the company was rigged by Barclays and that they were therefore shortchanged in the transaction. They argued that the Del Monte board breached its fiduciary duty by not having extracted a financial concession from Barclays or KKR once it became aware of Barclays’ conflict of interest. They also alleged that Barclays should not have been permitted to conduct the “go-shop” after the deal with KKR was struck and should have been replaced either as the company’s financial advisor or as a buy-side lender since other banks were available to provide the acquisition financing.
As it turns out, the case ultimately settled at the end of last year for $89.4 million, three-quarters of which was assessed against Del Monte and the balance against Barclays. Barclays had earned over $45 million in fees from its dual roles in the transaction, but had to give back its advisory fee to Del Monte and disgorge the balance of its earnings in the court-approved settlement.
No one will ever know whether Del Monte could have been sold or taken private at a price higher than $19 a share. By industry standards, it was an attractive deal, and Barclays, despite having deceived the Del Monte board in several respects, obviously played a key role in achieving that favorable result. Moreover, the Del Monte board seemingly acted in good faith in selecting the KKR group and negotiating the terms of the sale given what it knew at each stage of the transaction. Nevertheless, after this case, it should be clear to all the players in PE buy-outs that even a reasonable business transaction can be successfully second-guessed by shareholders if there’s evidence of a conflict of interest that the company’s board could and should have uncovered and mitigated.