Smith v. Van Gorkom

Facts:

  • Trans Union had large investment tax credits that couldn’t offset their existing liabilities. Company managers felt this caused a significant undervaluation of the company itself. Eventually their CFO suggested that Transunion undergo a leveraged buyout by a company that had tax liability to offset.
  • The suggestion was made to the board, but with their CFO (Romans) suggesting a $50-60 share price (on stock currently valued at a high of $39 ½) would be acceptable. Van Gorkom (their CEO) pursued the idea with a takeover specialist, Jay Pritzker.
  • Van Gorkom set up an agreement with Pritzker to sell Trans Union shares at $55 per share, based only on Romans’ unresearched numbers.
  1. Van Gorkom also agreed to sell Pritzker one million shares of Trans Union at $39 per share if Pritzker was outbid. This had the effect of eventually ensuring shareholders voting on the takeover would take a $50-$60 offer, since the alternative was a $39 share sell to Van Gorkom.
  2. Van Gorkom also agreed not to solicit other bids from outsiders.
  • The buyout decision was presented to the board with a 1-day deadline for decision making.
  • Van Gorkom did not distribute any information at the voting, thus the board had to rely on the word of the few individuals involved in the negotiations. Van Gorkem didn’t at all display the valuation or financial assumption of how he arrived at the final $55/share price.
  • On this advice, the Board approved the merger, and it was also later approved by shareholders. It took the Board 2 hours to make their decision.

Issue:

  • Whether the business judgment rule protects the Board in their eventual vote for the acquisition.

Holding:

  • An “unadvised” business judgment will not shield a board of director. However, this standard presumes the decision made is an informed one and the decision made must meet the standard of “gross negligence.”
  1. This is more closely aligned with the Board’s duty of care, rather than duty of loyalty.
  • Directors are protected when they rely “in good faith” on reports submitted by the company’s officers.
  1. In this case, there was no report submitted to the board. They didn’t even question the financial assumptions behind the share price.
  2. The board is required to disclose relevant facts in reaching their decision, like the financial valuation behind share price offers/acceptances. Here, they didn’t’ do that at all.

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