IN RE APPRAISAL OF AOL INC.
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Opinion
IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
IN RE APPRAISAL OF AOL INC. ) C.A. No. 11204-VCG
MEMORANDUM OPINION
Date Submitted: January 17, 2018 Date Decided: February 23, 2018
Stuart M. Grant, Mary S. Thomas, and Laina M. Herbert, of GRANT & EISENHOFER P.A., Wilmington, Delaware, Attorneys for Petitioners.
Kevin R. Shannon, Berton W. Ashman, Jr., and Christopher N. Kelly, of POTTER ANDERSON & CORROON LLP, Wilmington, Delaware; OF COUNSEL: William Savitt, Ryan A. McLeod, Andrew J.H. Cheung, Nicholas Walter, and Courtney L. Shike, of WACHTELL, LIPTON, ROSEN & KATZ, New York, New York, Attorneys for Respondent.
GLASSCOCK, Vice Chancellor Each block of marble, Michelangelo believed (or purported to believe)
contained a sculpture; the sculptor’s job was merely to pitch the overburden to reveal
the beauty within. Early jurists believed (or purported to believe) something similar
about common law; that it existed in perfect form, awaiting “finding” by the judge.1
By contrast, even Blackstone would expect that statutory law would be an explicit,
if blunt, tool of justice; manufactured, rather than revealed. Our appraisal statute,
Section 262 of the DGCL, 2 is an exception. Broth of many cooks and opaque of
intent, it provides every opportunity for judicial sculpting.3
The latest pitching of stone from the underlying statutory body occurred in
our Supreme Court’s recent decisions in DFC and Dell.4 Those cases, in distilled
form, provide that the statute requires that, where a petitioner is entitled to a
determination of the fair value of her stock, the trial judge must consider “all relevant
factors,” 5 and that no presumption in favor of transaction price obtains. Where,
however, transaction price represents an unhindered, informed, and competitive
market valuation, the trial judge must give particular and serious consideration to
1 E.g., 1 William Blackstone, Commentaries, *38–62. 2 8 Del. C. § 262. 3 See Dell, Inc. v. Magnetar Global Event Driven Master Fund Ltd., 2017 WL 6375829, at *13 (Del. Dec. 14, 2017) (noting that although the appraisal remedy is “entirely a creature of statute,” statutory fair value has become a “jurisprudential, rather than purely economic, construct.”). 4 DFC Global Corp. v. Muirfield Value Partners, L.P., 172 A.3d 346 (Del. 2017); Dell, 2017 WL 6375829. 5 8 Del. C. § 262(h).
1 transaction price as evidence of fair value. Where information necessary for
participants in the market to make a bid is widely disseminated, and where the terms
of the transaction are not structurally prohibitive or unduly limiting to such market
participation, the trial court in its determination of fair value must take into
consideration the transaction price as set by the market. I will refer to transactions
compliant with such conditions by the shorthand “Dell Compliant.” In sum, while
no presumption in favor of transaction price obtains, a transaction that demonstrates
an unhindered, informed, and competitive market value is at least first among equals
of valuation methodologies in deciding fair value. Where a transaction price is used
to determine fair value, synergies transferred to the sellers must be deducted, to the
extent they represent “element[s] of value arising from the . . . merger” itself.6
This matter is before me seeking a post-trial finding of the fair value of AOL
Inc. (“Respondent,” the “Company,” or “AOL”) under the appraisal statute.
Because the seminal cases referenced above issued during the pendency of this
matter, I asked the parties to supplement the briefing to reference the instruction that
DFC and Dell supply. I note that, throughout that helpful briefing, both the
Respondent and Petitioners continue to advocate for my reliance on financial metrics
rather than transaction price.7 Applying the Dell criteria of information distribution
6 8 Del. C. § 262(h). 7 The Respondent, however, argues strenuously that the transaction was Dell Compliant, and that I should accept their expert’s DCF valuation as consistent with the “ceiling” of deal price, from
2 and barriers to entry with respect to market participation in evaluating whether the
transaction here is Dell Compliant, I find the matter a close question. AOL was
widely known to be in play, the Company talked to numerous potential purchasers
in relation to the sale of part (or all) of AOL, the no-shop period running post-
agreement was not protected by a prohibitive break-up fee, and the actions of the
AOL unaffiliated directors appear compliant with their fiduciary duties. No topping
offer emerged. Nonetheless, the merger agreement was protected by a no-shop and
matching right provisions. Moreover, the statements made by AOL’s CEO, who
negotiated the deal, in my view signaled to potential market participants that the deal
was “done,” and that they need not bother making an offer.
Market participants at this level are not shrinking violets, nor are they
barnacles that are happy players during a favorable tide, but shut tight at its ebb.
Nonetheless, I find the unusually preclusive statements by the CEO, in light of the
other attributes of this transaction, such that I cannot be assured that a less restrictive
environment was unlikely to have resulted in a higher price for AOL. Accordingly,
I am unable to ascribe fair value solely to market price.
Having rejected transaction price as the sole determinant of value, I find
myself further unable, in a principled way, to assign it any weight as a portion of my
which the DCF excludes synergy value. Resp’t’s Br. Addressing the Supreme Court’s Decision in Dell. 1, 6.
3 fair value determination. It is difficult, in other words, to ascribe to a non-Dell-
Compliant sales price (on non-arbitrary grounds) 25%, or 75%, or any particular
weight in a fair value determination. Therefore, I take the parties’ suggestion to
ascribe full weight to a discounted cash flow analysis. I relegate transaction price to
a role as a check on that DCF valuation: any such valuation significantly departing
from even the problematic deal price here should cause me to closely revisit my
assumptions.
After consideration of the experts’ reports provided by the parties, and after
addressing the differences between the parties in the proper construction of a DCF
valuation, in light of the evidence at trial, I find that the fair value of AOL stock at
the time of the merger was $48.70 per share. This is my post-trial decision on fair
value; my reasoning follows.
I. BACKGROUND
A. The Company
AOL was a well-known 8 global media technology company with a range of
digital brands, services, and products that it provided to advertisers, consumers,
subscribers, and publishers.9 AOL underwent significant changes in both perception
and fortune after its apex in 2002, when it had more than twenty-six million
8 Famous among users of a certain age as a provider of email access, as announced by the grammatically questionable “You’ve Got Mail.” 9 Stipulated Joint Pre-Trial Order ¶ 96.
4 subscribers in the United States and $9 billion in revenues. 10 AOL spun off as a
public company from parent Time Warner in 2009, with Tim Armstrong named as
Chairman and CEO. 11 After the spin-off, AOL shrank, ultimately to five million
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IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
IN RE APPRAISAL OF AOL INC. ) C.A. No. 11204-VCG
MEMORANDUM OPINION
Date Submitted: January 17, 2018 Date Decided: February 23, 2018
Stuart M. Grant, Mary S. Thomas, and Laina M. Herbert, of GRANT & EISENHOFER P.A., Wilmington, Delaware, Attorneys for Petitioners.
Kevin R. Shannon, Berton W. Ashman, Jr., and Christopher N. Kelly, of POTTER ANDERSON & CORROON LLP, Wilmington, Delaware; OF COUNSEL: William Savitt, Ryan A. McLeod, Andrew J.H. Cheung, Nicholas Walter, and Courtney L. Shike, of WACHTELL, LIPTON, ROSEN & KATZ, New York, New York, Attorneys for Respondent.
GLASSCOCK, Vice Chancellor Each block of marble, Michelangelo believed (or purported to believe)
contained a sculpture; the sculptor’s job was merely to pitch the overburden to reveal
the beauty within. Early jurists believed (or purported to believe) something similar
about common law; that it existed in perfect form, awaiting “finding” by the judge.1
By contrast, even Blackstone would expect that statutory law would be an explicit,
if blunt, tool of justice; manufactured, rather than revealed. Our appraisal statute,
Section 262 of the DGCL, 2 is an exception. Broth of many cooks and opaque of
intent, it provides every opportunity for judicial sculpting.3
The latest pitching of stone from the underlying statutory body occurred in
our Supreme Court’s recent decisions in DFC and Dell.4 Those cases, in distilled
form, provide that the statute requires that, where a petitioner is entitled to a
determination of the fair value of her stock, the trial judge must consider “all relevant
factors,” 5 and that no presumption in favor of transaction price obtains. Where,
however, transaction price represents an unhindered, informed, and competitive
market valuation, the trial judge must give particular and serious consideration to
1 E.g., 1 William Blackstone, Commentaries, *38–62. 2 8 Del. C. § 262. 3 See Dell, Inc. v. Magnetar Global Event Driven Master Fund Ltd., 2017 WL 6375829, at *13 (Del. Dec. 14, 2017) (noting that although the appraisal remedy is “entirely a creature of statute,” statutory fair value has become a “jurisprudential, rather than purely economic, construct.”). 4 DFC Global Corp. v. Muirfield Value Partners, L.P., 172 A.3d 346 (Del. 2017); Dell, 2017 WL 6375829. 5 8 Del. C. § 262(h).
1 transaction price as evidence of fair value. Where information necessary for
participants in the market to make a bid is widely disseminated, and where the terms
of the transaction are not structurally prohibitive or unduly limiting to such market
participation, the trial court in its determination of fair value must take into
consideration the transaction price as set by the market. I will refer to transactions
compliant with such conditions by the shorthand “Dell Compliant.” In sum, while
no presumption in favor of transaction price obtains, a transaction that demonstrates
an unhindered, informed, and competitive market value is at least first among equals
of valuation methodologies in deciding fair value. Where a transaction price is used
to determine fair value, synergies transferred to the sellers must be deducted, to the
extent they represent “element[s] of value arising from the . . . merger” itself.6
This matter is before me seeking a post-trial finding of the fair value of AOL
Inc. (“Respondent,” the “Company,” or “AOL”) under the appraisal statute.
Because the seminal cases referenced above issued during the pendency of this
matter, I asked the parties to supplement the briefing to reference the instruction that
DFC and Dell supply. I note that, throughout that helpful briefing, both the
Respondent and Petitioners continue to advocate for my reliance on financial metrics
rather than transaction price.7 Applying the Dell criteria of information distribution
6 8 Del. C. § 262(h). 7 The Respondent, however, argues strenuously that the transaction was Dell Compliant, and that I should accept their expert’s DCF valuation as consistent with the “ceiling” of deal price, from
2 and barriers to entry with respect to market participation in evaluating whether the
transaction here is Dell Compliant, I find the matter a close question. AOL was
widely known to be in play, the Company talked to numerous potential purchasers
in relation to the sale of part (or all) of AOL, the no-shop period running post-
agreement was not protected by a prohibitive break-up fee, and the actions of the
AOL unaffiliated directors appear compliant with their fiduciary duties. No topping
offer emerged. Nonetheless, the merger agreement was protected by a no-shop and
matching right provisions. Moreover, the statements made by AOL’s CEO, who
negotiated the deal, in my view signaled to potential market participants that the deal
was “done,” and that they need not bother making an offer.
Market participants at this level are not shrinking violets, nor are they
barnacles that are happy players during a favorable tide, but shut tight at its ebb.
Nonetheless, I find the unusually preclusive statements by the CEO, in light of the
other attributes of this transaction, such that I cannot be assured that a less restrictive
environment was unlikely to have resulted in a higher price for AOL. Accordingly,
I am unable to ascribe fair value solely to market price.
Having rejected transaction price as the sole determinant of value, I find
myself further unable, in a principled way, to assign it any weight as a portion of my
which the DCF excludes synergy value. Resp’t’s Br. Addressing the Supreme Court’s Decision in Dell. 1, 6.
3 fair value determination. It is difficult, in other words, to ascribe to a non-Dell-
Compliant sales price (on non-arbitrary grounds) 25%, or 75%, or any particular
weight in a fair value determination. Therefore, I take the parties’ suggestion to
ascribe full weight to a discounted cash flow analysis. I relegate transaction price to
a role as a check on that DCF valuation: any such valuation significantly departing
from even the problematic deal price here should cause me to closely revisit my
assumptions.
After consideration of the experts’ reports provided by the parties, and after
addressing the differences between the parties in the proper construction of a DCF
valuation, in light of the evidence at trial, I find that the fair value of AOL stock at
the time of the merger was $48.70 per share. This is my post-trial decision on fair
value; my reasoning follows.
I. BACKGROUND
A. The Company
AOL was a well-known 8 global media technology company with a range of
digital brands, services, and products that it provided to advertisers, consumers,
subscribers, and publishers.9 AOL underwent significant changes in both perception
and fortune after its apex in 2002, when it had more than twenty-six million
8 Famous among users of a certain age as a provider of email access, as announced by the grammatically questionable “You’ve Got Mail.” 9 Stipulated Joint Pre-Trial Order ¶ 96.
4 subscribers in the United States and $9 billion in revenues. 10 AOL spun off as a
public company from parent Time Warner in 2009, with Tim Armstrong named as
Chairman and CEO. 11 After the spin-off, AOL shrank, ultimately to five million
subscribers.12 AOL faced substantial competition by 2014 and found itself in need
of extensive consumer data to shift its desired focus to the online advertising
industry. 13 In order to compete, AOL purchased a number of “content” and “ad-
tech” companies, such as the Huffington Post, TechCrunch, Thing Labs, Inc.,
Adapt.tv, and Vidible. 14 These and other purchases allowed AOL to reposition itself
as an ad tech company. 15
10 JX26 (AOL 10-K ending December 31, 2002) at F-13, F-16. 11 JX66 (AOL 10-K ending December 31, 2010) at 2, 15. 12 Id. at 46. 13 JX750 at 4 (quoting Armstrong message in January 29, 2015 board agenda that “[w]hile I believe our overall strategic value as a company will continue to increase, the Wall Street view of the company will be neutral to negative unless one of our products becomes a catalyst for increased growth in 2015.”); JX 1817 (quoting Armstrong in a March 26, 2015 email expressing concern about AOL’s ability to obtain the required data and content to compete); JX 1079 (referring to a March 15, 2015 Armstrong email to the AOL Board about the lack of data and potential ways to address it, including a possible auction of the company); but see JX972 (quoting Armstrong email of February 28, 2015 to the AOL Board where Armstrong states that “[o]ur strategy and direction is dead on with the market and we have built a company that is strong and capable”). 14 JX2901 (describing AOL’s acquisition of the Huffington Post on AOL’s Form 8-K filed February 6, 2011); JX0066 at 85–86 (containing AOL’s Form 10-K filed on December 31, 2010); JX0199 at 80–82 (containing AOL’s Form 10-K filed on December 31, 2013); JX0968 at 2, 85– 87, 90 (containing AOL’s Form 10-K filed on December 31, 2014). 15 JX2196 (Verizon CEO McAdam) at 105:22–24 (“Q. Was AOL discussed as one of the few players that had scale and advertising technology? A. Yes.”), 106:11–15 (“One of those markets was mobile advertising. And to deliver—to participate in that market and to build capability, AOL was one of the opportunities we saw to enter the market quickly and to have a reasonable starting point.”); Trial Tr. 333:13–19 (Marni Walden, head of Verizon’s Product Innovation and New Businesses division, spoke with Armstrong about Verizon’s interest in AOL’s “ad tech capabilities”).
5 AOL organized itself into three segments: Membership, Brands, and
Platforms. 16 The Membership Group included the legacy dial-up internet and search
services.17 The Brands Group included the Huffington Post, TechCrunch,
MapQuest, and other content providers. 18 The Platforms Group provided automated
online advertising services for advertisers and publishers across multiple device and
media formats. 19 As with other companies of similar size, AOL was closely
followed by numerous analysts. 20
B. Initial Discussions and Negotiation
Similar to other boards of directors, the AOL board of directions (the “AOL
Board” or the “Board”) “regularly review[ed] and assess[ed] the Company’s
business strategies and objectives,” in order to “enhanc[e] stockholder value.” 21 The
AOL Board frequently considered many types of transactions and partnerships with
other companies.22 “In addition, the Company and its representatives [were]
routinely approached by other companies and their representatives regarding
possible transactions.” 23 Several of those included inquiries from Silver Lake,24
16 JX1180 at 3. 17 JX0968 (AOL 10K filed on December 31, 2014) at 8. 18 Id. at 8. 19 JX1180 at 4. 20 See, e.g., JX1803 (examining JMP Securities, Our Thoughts on Verizon’s $50 per share Offer for AOL: Maintain Market Perform Rating, May 12, 2015). 21 JX1851 (the “Solicitation” or “AOL Schedule 14D-9”) at 16. 22 Id. 23 Id. 24 JX1180 at 4.
6 Tomorrow Focus,25 Axel Springer,26 Providence Equity, 27 and Hellman &
Friedman. 28
In June 2014, at the request of Verizon Communications Inc. (“Verizon”),
AOL CEO Armstrong and Verizon CEO Lowell McAdam “discussed ongoing and
emerging trends in their respective industries” at a media finance conference.29 In
October 2014, Verizon management contacted AOL to propose an initial meeting
regarding “potential partnership opportunities” and the two CEOs met again that
November. 30 A Verizon subsidiary and AOL entered into a confidentiality
agreement in late November. 31
In early December, representatives of AOL and Verizon met over three days
to discuss “several potential collaborative opportunities,” although McAdam
informed Armstrong that “Verizon had no interest in the acquisition of the entire
Company or of a majority interest in the Company.” 32 In addition, AOL held a
preliminary discussion with Comcast, a global telecommunications conglomerate,
“regarding a potential transaction involving all or part of AOL’s businesses” on
25 JX140. 26 JX0155. 27 JX293. 28 JX0155. 29 Id. 30 Id. 31 Id. 32 Id. at 16–17.
7 December 9, 2014.33 McAdam and Armstrong spoke again by phone in mid-
December 2014 and met in mid-January 2015 to “explore a joint venture.” 34
AOL management discussed a potential Verizon transaction with the AOL
Board during their January 2015 meeting. 35 In January 2015, rumors about a
potential transaction involving AOL leaked and caused AOL’s stock price to rise. 36
In February 2015, Verizon presented AOL with a high-level term sheet for a
potential joint venture and the parties met several times to discuss it that February
and March and continue with due diligence. 37 Verizon was not the only suitor for a
deal with AOL. An AOL executive emailed Armstrong on February 20, 2015 that:
Given the [Verizon] news in the press, the [AT&T] President of Advertising has express [sic] a very strong interest in having broader strategic conversation with us. They want a bite at the apple and don't want to be boxed out by [Verizon]. If we are going to move forward here we should engage at the CEO level is my view. 38
Armstrong responded:
I know . . . the [AT&T] CEO well - but we should discuss this . . . . We need to be ethical (not suggesting you were suggesting that – and know this is natural with press and BD - but me calling CEO of AT&T feels like a bridge too far).39
33 AOL Schedule 14D-9 at 17. 34 Id. at 17. 35 Id. 36 Stipulated Joint Pre-Trial Order, Ex. A; JX1974 (quoting AOL CEO Armstrong about rumors surrounding AOL). 37 Id. at 18. 38 JX0902 at 1. 39 Id.
8 Armstrong described his rationale for this answer during trial:
Q. And why did you say that calling the CEO of AT&T in these circumstances was a bridge too far?
A. Well, I think that from where we were at the time period and knowing what we knew about AT&T and knowing what we knew about Verizon, the risk of having Verizon walk away at this point was much higher than the upside of trying to get AT&T involved when they were clearly outsourcing their core business in our core area to us, overall. So it just did not seem like a smart move.
Q. Why were you concerned that a contact with AT&T might cause Verizon to walk away?
A. I think one is Verizon was upset about the leak. And I think in the situation in a deal negotiation where, you know, we're in negotiations with Verizon, AT&T is not a real candidate, and we go to them, [Verizon CEO and Chairman McAdam], I think, is a very ethical person and somebody that, you know, he would take this the wrong way and we would risk losing the deal.40
Armstrong explained during his deposition that the AT&T overture was not
“somebody senior at AT&T speaking for AT&T. This [was] somebody at the
division that [AT&T was] looking to outsource to us, talking to one of our lower-
level [business development] people.”41 In a later explanation to Verizon executive
Marni Walden about these discussions with AT&T, Armstrong described these as
“advanced discussions to launch a new strategic partnership. At the core of the
40 Trial Tr. 490:1–20 (Armstrong). 41 Id. at 543:16–19.
9 discussions was AT&T's content and service portal, which has been powered for
Yahoo for many years.” 42
Fox, a multinational mass media corporation, also contacted AOL to express
interest in AOL’s platforms and brands businesses on February 26, 2015.43 Private
equity firm General Atlantic contacted AOL in March 2015 “to discuss an
acquisition of certain of the Company's assets” and entered into a confidentiality
agreement on March 7, 2015.44 General Atlantic conducted limited preliminary
diligence on these assets.45 Fox entered into a confidentiality agreement with AOL
and listened to a presentation by AOL on March 9, 2015.46
C. Sales Process
On March 25, 2015, Verizon proposed obtaining majority ownership of AOL
for the first time. 47 The AOL Board began to meet weekly to “review the deal
landscape, including the potential transaction with Verizon.”48
AOL declined to conduct an auction. Fredric Reynolds, AOL’s lead director,
explained why AOL did not pursue an auction during his deposition:
Q: Could you please explain why, in your view or in the view of the board as a whole, you thought it was not desirable for AOL to run an auction?
42 JX1958 at 1 (June 22, 2015 email from Armstrong to Walden). 43 AOL Schedule 14D-9 at 18. 44 Id. 45 Id. 46 Id. 47 Id. 48 Id. at 19.
10 A: Again, I think, if I wasn't clear, I think in a business that has to do with technology and content, that it's a very fragile business, and letting the world know that you're for sale impacts your relationship with your -- with your competitors for sure, but also with your partners, be they publishers, being the search companies, being the talent that you want to attract.
Those are all very difficult relationships that I think are almost impossible to be managed if a media company or a technology company is for sale.
I -- I don't recall any large technology or large media company ever putting itself up for sale. I think, as evidenced last week, AT&T buys Time Warner. There was not an auction of that. It's just a very, very -- it's unusual, but technology and media companies don't have hard assets, they don't have long-term contracts that make airplanes or iPhones or anything like that. It's all ephemeral. 49
Reynolds stated that “the company was not for sale and it was purposeful that it not
be for sale” 50 and that the Board did “not auction[] the company. We had had no
intention of auctioning the company.” 51
Discussions between AOL and Verizon continued in early April, and
McAdam “raised the possibility of a 100% acquisition of the Company with Mr.
Armstrong” on April 8, 2015.52 Comcast entered into a confidentiality agreement
with AOL that day, but declined to proceed any further with a transaction.53
49 JX2210 (Reynolds Dep.) at 119:8–120:4. 50 Id. at 84:17–18. 51 Id. at 85:5–8. 52 Id. 53 AOL Schedule 14D-9 at 19.
11 On April 12, 2015, AOL management discussed the Verizon transaction with
the Board, including “the emphasis that [Verizon] . . . put on their ability to retain
the Company’s management.” 54 The Board “requested that Mr. Armstrong keep the
Board apprised of these discussions as they progressed” but authorized further
discussions with Verizon regarding both the transaction and management
retention.55 AOL opened a data room to Verizon on April 13, 2015. 56
Verizon’s counsel engaged AOL’s counsel in a discussion on April 14, 2015
about “the importance to Verizon of retaining the Company’s CEO and others on its
management team and Verizon’s desire to engage in a discussion with Mr.
Armstrong regarding such future employment arrangements.” 57 AOL’s counsel
informed Verizon that “Verizon’s views had been discussed with the Board and that
the Board had authorized Mr. Armstrong to engage in such discussions.”58 McAdam
and Armstrong met again on April 17, 2015 to “discuss the potential integration of
AOL and its personnel into Verizon’s business.” 59 During this period, Fox made
several diligence calls to AOL, but did not contact AOL for further information.60
54 JX1293 at 3. 55 Id. 56 AOL Schedule 14D-9 at 19. 57 Id. 58 Id. 59 Id. 60 Id.
12 Verizon sent a draft merger agreement to AOL on April 22, 2015. 61 The
AOL Board met on April 26, 2015 to discuss the draft agreement, the deal landscape,
“the possibility of seeking alternative offers,” Verizon’s “emphasi[s] . . . [on] the
retention of the Company’s management team,” and AOL’s continued retention of
Allen & Company (“Allen & Co.”) as its financial advisor.62 AOL returned a revised
draft merger agreement to Verizon on April 27, 2015 that proposed changes to a
number of terms, including termination rights, the non-solicitation provision,
antitrust approval, and others.63 Verizon management spoke with Armstrong on
April 30, 2015 about “the importance to Verizon that AOL's talent continue at the
Company following the Merger and indicated that employment arrangements would
be structured by Verizon to include compensation opportunities tied to the
performance of the Company and in aggregate amounts at least comparable to
current compensation opportunities.”64 However, “[n]o specific details of such
compensation arrangements were discussed.” 65
AOL and Verizon exchanged draft agreements on May 1 and May 3, 2015.66
The AOL Board discussed these drafts and “the importance that Verizon was placing
61 Id. at 20. 62 Id. 63 Id. 64 Id. 65 Id. 66 Id. at 20–21.
13 on the retention of the Company's management team and Verizon's desire for
employment and retention arrangements” on May 3, 2015.67
On May 4, 2015, a consortium including, among others, General Atlantic,
Axel Spring SE, and Huffington Post CEO and founder Arianna Huffington,
submitted a letter to AOL indicating its willingness to purchase a 51% stake in
AOL’s Huffington Post asset for approximately $500 million. 68
On a May 7, 2015 phone call, Verizon informed AOL that Verizon “was
planning to submit a formal offer to acquire the entire Company.” 69 The AOL
representative indicated that AOL expected a price per share “in the 50s” but the
Verizon representative indicated that it would be “in the high 40s.” 70 Verizon also
indicated that it would present Armstrong with a specific employment proposal.71
AOL reported financial results that beat analysts’ expectations on May 8, 2015.72
On May 8, 2015, a Verizon representative made an oral offer of $47.00 per
share for AOL. 73 An AOL representative countered and Verizon agreed to pay
$50.00 per share in cash. 74 Verizon stated that “there was no further room for
negotiation with respect to the offer price and that if this price was not of interest,
67 Id. at 21. 68 JX1582 at 6. 69 Id. 70 Id. 71 Id. 72 Id. 73 Id. 74 Id.
14 Verizon was prepared to withdraw its offer.” 75 Verizon submitted a written offer at
$50 later that day. The AOL Board discussed the offer, and counsel from the two
companies negotiated certain terms. 76
Armstrong phoned a Verizon representative on May 9, 2015 to request a
higher price but was told “that there was no further room for negotiation with respect
to the offer price,” although Verizon agreed to lower the termination fee from 4.5%
to 3.5%.77 The AOL Board discussed the developments that same day. 78
The parties exchanged additional draft agreements and Verizon delivered a
draft employment letter offer to Armstrong on May 10, 2015. 79 “Mr. Armstrong had
no conversations with Verizon regarding the draft letter prior to the conclusion of
the Company's next Board meeting.”80
On May 11, 2015, the AOL Board discussed the Verizon merger agreement
with management and its legal and financial advisors.81 The Board then
“unanimously voted to approve the Merger Agreement.” 82 Later that day, “Verizon
75 Id. 76 Id. at 21–22. 77 Id. at 22; JX1755 at 3 (May 11, 2015 Verizon internal slideshow about the sales process stated that “Verizon did not communicate any flexibility on price, but signaled flexibility on break fee.” Verizon submitted an offer of $47 per share but later submitted an offer for $50 per share “after significant verbal negotiations.”). 78 Id. 79 Id. 80 Id. 81 Id. 82 Id.
15 informed Mr. Armstrong that they were unwilling to proceed with a transaction
without his agreement to terms” of employment and Armstrong and Verizon came
to an agreement.83
The Verizon board of directors also approved the merger agreement, which
was executed on May 11, 2015 (the “Merger Agreement” or “Agreement”).84 The
deal was announced on May 12, 2015.85 According to Armstrong, “a couple of days
after [the] Verizon acquisition was announced, AT&T terminated contract
negotiations and asked us to stop all development on product and content based on
general sensitivities to competitor concerns, data separation, etc.” 86
In a CNBC television interview on the day the merger was announced,
Armstrong gave this account of how the Verizon deal came together:
Interviewer: Hey, Tim, couple of quick things. Help us with this first. Was there an auction? Give us back story here. Meaning, who went to whom? How did this happen?
Armstrong: You know, basically, this happened in a very natural way and no auction. Basically over the course of time I sat down last summer at the Sun Valley conference and we talked about where the world was going and we have been big partners and we were kind of reviewing what the companies were doing together. That sort of kicked off sort of a natural progression to where we are today and I think facilitated by Nancy of Allen and Company and David Shapiro we were able to basically bring this deal together in a way that I think was
83 Id. 84 Id. at 23. 85 Id. 86 JX1958 at 1 (June 22, 2015 email from Armstrong to Walden).
16 incredibly natural. If you look at the two visions on the companies and the platforms and both companies were doing the same thing.
Interviewer: It's trading slightly above the premium right now. you didn't shop this to anybody else?
Armstrong: No, I'm committed to doing the deal with Verizon and I think that as we chose each other because that's the path we're on. I gave the team at Verizon my word that, you know, [w]e're in a place where this deal is going to happen and we're excited about it.
...
Interviewer: Not to push you on it, but why not pursue an auction?
Armstrong: You know, Andrew, I think the process of where we are as a company right now and the process we went through and knew you guys covered, lots of rumors about AOL in general. So, if somebody, we have always been a public company and been available. If somebody wanted to come do a deal with us, they would have done it. The Verizon deal was built around the strategy of where we're going. 87
D. Merger and Subsequent Events
The Merger Agreement contained a no-shop provision, a 3.5% termination fee
of $150 million, and unlimited three-day matching rights.88 Stockholders were
informed that the Merger Agreement allowed for the “ability to accept a superior
proposal.”89 Verizon was “[p]repared for market action but expect[ed] limited
interest from media/technology strategics and financial sponsors” due to its
87 JX1794 at 6. 88 AOL Schedule 14D-9 at 222, 24–25; Trial Tr. 796:13–20 (Reynolds) (“We were encouraged that there – the deal was drafted in a way that would allow an unfettered bid from a third party and it would enhance our shareholders' value.”). 89 AOL Schedule 14D-9 at 21.
17 assessment of a “limited interloper risk given [the] current sale status with [a] lack
of full company buyers.”90 No topping bidder emerged.91 More than 60% of AOL’s
outstanding common shares were tendered and the merger closed on June 23, 2015
(the “Valuation Date”). 92
The Petitioners filed for appraisal rights under Section 262 of the DGCL.93
Six appraisal petitions were filed, which are consolidated in this action.94 The parties
and experts agree that a DCF analysis is the most appropriate valuation method in
this matter.95 My analysis follows.
II. WAS THE SALES PROCESS DELL COMPLIANT?
The appraisal remedy was created by statute to allow dissenting stockholders
an “independent judicial determination of the fair value of their shares.” 96 Because
neither party bears the burden of proof, “in reality, the ‘burden’ falls on the judge to
determine fair value, using ‘all relevant factors.’” 97 The fair value of those shares is
“exclusive of any element of value arising from the accomplishment or expectation
of the merger or consolidation,”98 and calculated based on the “operative reality of
90 JX1755 at 14 (including a Verizon internal presentation from May 11, 2015). 91 Trial Tr. 796:21–22 (Reynolds). 92 Stipulated Joint Pre-Trial Order ¶¶ 8–9. 93 8 Del. C. § 262. 94 Stipulated Joint Pre-Trial Order ¶ 2–3. 95 Sept. 19, 2017 Oral Arg. Tr. 25:4–8. 96 Dell, Inc., 2017 WL 6375829, at *12 (citing Ala. By-Products Corp. v. Cede & Co. ex rel. Shearson Lehman Bros., Inc., 657 A.2d 254, 258 (Del. 1995)). 97 In re Appraisal of Ancestry.com, Inc., 2015 WL 399726, at *1 (Del. Ch. Jan. 30, 2015) (citations omitted). 98 8 Del. C. § 262.
18 the company” 99 as of “the date of the merger.”100 The court should view the
company as a standalone “going concern”101 or an “on-going enterprise, occupying
a particular market position in the light of future prospects.” 102 Because the court
values the “corporation itself,” a minority discount 103 and “any synergies or other
value expected from the merger giving rise to the appraisal proceeding itself must
be disregarded.”104 Accordingly, petitioning stockholders are given their
“proportionate interest” of the value of the corporation on the date of the merger,
plus interest. 105
Because each transaction is unique, “[a]ppraisal is, by design, a flexible
process.”106 However, “the clash of contrary, and often antagonistic, expert
opinions” with “widely divergent views” is a common feature of the genre.107 As
further described below, there is “no perfect methodology for arriving at fair value
for a given set of facts.” 108
99 M.G. Bancorporation, Inc. v. Le Beau, 737 A.2d 513, 525 (Del. 1999). 100 Cavalier Oil Corp. v. Harnett, 564 A.2d 1137, 1142 (Del. 1989). 101 Id. at 1145. 102 In re Appraisal of Shell Oil Co., 607 A.2d 1213, 1218 (Del. 1992). 103 Cavalier Oil Corp., 564 A.2d at 1144. 104 Global GT LP v. Golden Telecom, Inc., 993 A.2d 497, 507 (Del. Ch. 2010), aff'd, 11 A.3d 214 (Del. 2010). 105 Cavalier Oil Corp., 564 A.2d at 1144. 106 Golden Telecom, Inc., 11 A.3d at 218. 107 In re Appraisal of Shell Oil Co., 607 A.2d at 1222. 108 Dell, Inc., 2017 WL 6375829, at *15 (citing DFC Global Corp., 172 A.3d at 348–49, 351).
19 The Supreme Court has “reject[ed] requests for the adoption of a presumption
that the deal price reflects fair value if certain preconditions are met, such as when
the merger is the product of arm's-length negotiation and a robust, non-conflicted
market check, and where bidders had full information and few, if any, barriers to bid
for the deal.”109 Indeed, the Supreme Court doubts its ability “to craft, on a general
basis, the precise pre-conditions that would be necessary to invoke a presumption of
that kind.110 That said, the Supreme Court in DFC stated:
Although there is no presumption in favor of the deal price, under the conditions found [in DFC] by the Court of Chancery, economic principles suggest that the best evidence of fair value was the deal price, as it resulted from an open process, informed by robust public information, and easy access to deeper, non-public information, in which many parties with an incentive to make a profit had a chance to bid. 111
A. The Sales Process Was Not “Dell Compliant”
The question before me is whether the sales process here is Dell Compliant.
A transaction is Dell Compliant where (i) information was sufficiently disseminated
to potential bidders, so that (ii) an informed sale could take place, (iii) without undue
impediments imposed by the deal structure itself. In other words, before I may
consider the deal price as persuasive evidence of statutory fair value, I must find that
the deal process developed fair market value. I conclude that, under the unique
109 Dell, Inc., 2017 WL 6375829, at *14 (citing DFC Global Corp., 172 A.3d at 348). 110 DFC Global Corp., 172 A.3d at 366. 111 Id. at 349.
20 circumstances of this case, the sales process was insufficient to this task, and the
deal price is not the best evidence of fair value.
The AOL Board made a deliberate decision that stockholder value would not
be maximized through an auction, and instead decided to pursue potential bidders
individually by direct contact through bankers and other sources. Given the
dynamics of AOL’s particular industry, this decision appears reasonable. However,
if front-end information sharing is truncated or limited, the post-agreement period
should be correspondingly robust, so to ensure that information is sufficiently
disseminated that an informed sale can take place and bids can be received without
disabling impediments.
Despite statements by AOL’s leadership that AOL was not for sale, the
persistent market rumors seem to indicate that the market understood that the
Company was likely in play. AOL was well-covered by analysts, traded frequently,
and generally known in the market. AOL approached, and was approached by, a
number of potential buyers of some (or all) of the Company, several of whom entered
into confidentiality agreements and conducted due diligence.
21 AOL appears to have engaged with anyone that indicated a serious interest in
doing a deal. 112 On the front end, the market canvas appears sufficient so long as
interested parties could submit bids on the back end without disabling impediments.
However, here my concern arises. Immediately after announcement of the
transaction, Armstrong gave a public interview and stated:
I'm committed to doing the deal with Verizon and I think that as we chose each other because that's the path we're on. I gave the team at Verizon my word that, you know, [w]e're in a place where this deal is going to happen and we're excited about it. 113
Armstrong’s post-Agreement statements to the press about giving his “word”
to Verizon could reasonably cause potential bidders to pause when combined with
the deal protections here. In Dell, by comparison, the merger agreement included
one-time matching rights until the stockholder vote; a forty-five day go-shop period;
and termination fees of approximately 1% of the equity value during the go-shop or
approximately 2% afterward.114 Here, a termination fee of 3.5% and a forty-two day
window between agreement and closing would probably not deter bids by
themselves. But that period was constrained by a no-shop provision, combined with:
(i) the declared intent of the acting CEO to consummate a deal with Verizon, (ii) the
112 The Petitioners point to the fact that AT&T’s potential approach was rebuffed. However, given the circumstances here, including the record evidence that there was a fear that engaging with AT&T would discourage or endanger the developing deal with Verizon, lack of engagement with AT&T, pre-Agreement, appears reasonable. 113 JX1794 at 6. 114 Dell, Inc., 2017 WL 6375829, at *6–7.
22 CEO’s prospect of post-merger employment with Verizon, (iii) unlimited three-day
matching rights, and (iv) the fact that Verizon already had ninety days between
expressing interest in acquiring the entire company and signing the Merger
Agreement, including seventy-one days of data room access. Cumulatively, these
factors make for a considerable risk of informational and structural disadvantages
dissuading any prospective bidder.
In Dell, after the “bankers canvassed the interest of sixty-seven parties,
including twenty possible strategic acquirers during the go-shop,” the “more likely
explanation for the lack of a higher bid [was] that the deal market was already robust
and that a topping bid involved a serious risk of overpayment,” which “suggest[ed]
the price [was] already at a level that [was] fair.”115 Here, given Armstrong’s
statements and situation, together with significantly less canvassing and stronger
post-agreement protections than in Dell, I am less confident that is true. I cannot say
that, under these conditions, deal price is the “best evidence of fair value . . . as it
resulted from an open process, informed by robust public information, and easy
access to deeper, non-public information, in which many parties with an incentive
to make a profit had a chance to bid.”116
115 Dell, Inc., 2017 WL 6375829, at *21, 24. 116 DFC Global Corp., 172 A.3d at 349.
23 B. Deal Price as a Check
“The dependability of a transaction price is only as strong as the process by
which it was negotiated.”117 I find the deal price is not sufficient evidence of fair
value to warrant deference, but it is still useful to an extent. I will use it as a “check”
in my determination of fair value, although I decline to give the deal price explicit
weight in that determination. Given the process here, a determination of fair value
via financial metrics that results in a valuation grossly deviant from deal price, under
these circumstances, should give me reason to revisit my assumptions. In this way,
the deal price operates as a check in my determination of fair value.118
The parties have not suggested a principled way to use deal price under the
circumstances here, in a blended valuation of deal price and other valuation metrics,
and none occurs to me. Instead, the parties agree, and I concur, that a discounted
cash flow analysis is the best way to value the Company. 119 I turn to that now.
117 Merlin Partners LP v. AutoInfo, Inc., 2015 WL 2069417, at *11 (Del. Ch. Apr. 30, 2015). 118 AOL stock publicly traded on the New York Stock Exchange. The unaffected stock price was $42.59, and the merger price was thus at a premium to the unaffected trading price. As with deal price, an efficiently derived stock trading price can serve as a check on a fair value analysis. Recently, this Court in Verition Partners Master Fund Ltd. v. Aruba Networks, Inc., 2018 WL 922139 (Del. Ch. Feb. 15, 2018), found an efficiently derived trading price to be fair value. I note that no party has advocated such here, and that no evidence concerning the efficiency of the market for AOL stock is before me. Moreover, the use of trading price to determine fair value requires a number of assumptions that, to my mind, are best made or rejected after being subject to a forensic and adversarial presentation by interested parties. Thus, I do not consider stock trading price further. 119 See supra note 7. Because I do not explicitly give weight to the deal price, I need not address certain related issues, such as the calculation of synergies.
24 III. FAIR VALUE AND DISCOUNTED CASH FLOW ANALYSIS
A. Use of Discounted Cash Flow Analysis
Under 8 Del. C. § 262, to determine “fair value,” a court must value a
corporation as a “going concern” according to the corporation’s “operative reality”
as of the date of the merger.120 Further, a court “must take into consideration all
factors and elements which reasonably might enter into the fixing of value,” and
consider “facts which were known or which could be ascertained as of the date of
merger.” 121 The court retains discretion to use “different valuation methodologies”
so long as the court justifies that exercise of discretion “in a manner supported by
the record before it.”122 The court must derive the fair value of the shares “exclusive
of any element arising from the accomplishment or expectation of the merger.”123
When using a DCF analysis, “this Court has recognized that management is, as a
general proposition, in the best position to know the business and, therefore, prepare
projections” in the “ordinary course of business.” 124 With these general principles
in mind, I turn to my valuation of AOL.
I rely primarily upon a DCF analysis, as “[b]oth experts agree that the DCF is
the best and most reliable way to value AOL as a going concern as of the merger
120 M.G. Bancorporation, Inc., 737 A.2d at 525. 121 Weinberger v. UOP, Inc., 457 A.2d 701, 713 (Del. 1983) (quoting Tri-Continental Corp. v. Battye, 74 A.2d 71, 72 (Del. 1950)). 122 DFC Global Corp., 172 A.3d at 35 1. 123 8 Del. C. § 262(h). 124 In re Appraisal of Ancestry.com, Inc., 2015 WL 399726, at *18.
25 date.” 125 A DCF analysis, “although complex in practice, is rooted around a simple
principle: the value of the company at the time of the merger is simply the sum of
its future cash flows discounted back to present value.”126 Further, a DCF analysis
“is only as reliable as the inputs relied upon and the assumptions underlying those
inputs.”127 However, “the use of math should not obscure the necessarily more
subjective exercise in judgment that a valuation exercise requires.”128 I also
acknowledge the Dell court’s recent delineation of the weaknesses of the method:
Although widely considered the best tool for valuing companies when there is no credible market information and no market check, DCF valuations involve many inputs—all subject to disagreement by well- compensated and highly credentialed experts—and even slight differences in these inputs can produce large valuation gaps.129
The Petitioners hired a well-qualified academic, Dr. Bradford Cornell, a
visiting professor at the California Institute of Technology, as their expert witness.
Cornell performed a financial analysis, and concluded that the fair value of AOL
stock was $68.98 per share.130 For reasons not necessary to detail, however, the
Respondent questioned Dr. Cornell’s impartiality in this matter, and the Petitioners
seem content to use the DCF model presented by the Respondent’s expert as a
starting point for my analysis. Accordingly, I start with the DCF valuation provided
125 Sept. 19, 2017 Oral Arg. Tr. 25:5–8. 126 In re of SWS Grp., Inc., 2017 WL 2334852, at *11 (Del. Ch. May 30, 2017). 127 Id. 128 Agranoff v. Miller, 791 A.2d 880, 896 (Del. Ch. 2001). 129 Dell, Inc., 2017 WL 6375829, at *28. 130 Trial Tr. 108:17–21 (Cornell).
26 by that expert, Professor Daniel Fischel, and consider the Petitioners’ limited
arguments that certain assumption or inputs in that valuation must be changed.
Fischel opined that the fair value of AOL stock was $44.85 per share.131 The
Petitioners’ disagreements with the Fischel analysis are limited, although the effects
of that disagreement on the calculation of fair value are vast. The parties dispute
only four items: (1) the proper cash flow projections for the DCF; (2) the operative
reality assumed in the DCF with regard to two deals with Microsoft and one deal
with Millennial Media Inc.; (3) the proper projection period and terminal growth
rate; and (4) how much of AOL’s cash balance must be added back after the DCF.
I discuss each in turn.
B. Disputed Addition and Inputs
1. Cash Flow Projections
“The most important input necessary for performing a proper DCF is a
projection of the subject company's cash flows. Without a reliable estimate of cash
flows, a DCF analysis is simply a guess.”132 The parties point to three potential sets
of cash flow projections. The projections relied on by Fischel in his analysis, which
I use as a starting point, are management’s long-term plan for 2015 (the
“Management Projections” or the “LTP”). 133 Fischel selected these projections
131 Trial Tr. 1065:6–9 (Fischel). 132 Del. Open MRI Radiology Assocs., P.A. v. Kessler, 898 A.2d 290, 332 (Del. Ch. 2006). 133 JX0917; JX0921 at 46.
27 because they were “described as the ‘best currently available estimates and
judgements of [AOL]'s management as to the future operating and financial
performance of [AOL],’ and were used by AOL's financial advisor Allen in its May
11, 2015 fairness opinion.” 134 The Petitioners encourage me to use either of two
other projections relied on by Cornell. The first is based on ten-year projections that
AOL submitted to Deloitte for a tax impairment analysis (the “Deloitte
Projections”).135 The second, (the “Disputed Projections”), contained substantial
differences, compared to the Management Projections, in working capital
requirements and was sent by AOL to Verizon’s advisors in April 2015. I find that
the best estimate of cash flow projections is the Management Projections, made in
the regular course of business, for the reasons that follow.
The Management Projections were completed in mid-February 2015 and
presented to the AOL Board.136 The AOL Board created four-year long-term plans
as a part of its annual internal budgeting process.137 AOL executives testified that
the LTP did not include costs or risks from specific acquisitions or transactions;138
however, the LTP assumed that AOL would fill strategic gaps in areas such as
134 JX2255 (Fischel Report) ¶ 41; AOL Schedule 14D-9 at 24. 135 Trial Tr. 649:19–650:3 (Dykstra). 136 JX0917; JX0921 at 46. 137 Trial Tr. 355:17–22 (AOL CFO of Platforms Bellomo), 641:17–642:10 (AOL CFO Dykstra). 138 Id. at 363:10–13 (quoting AOL CFO of Platforms Bellomo’s response that the LTP did not “account for the cost of acquiring Millennial Media or integrating it”); JX1248 (quoting an email from AOL CFO of Platforms Bellomo to another AOL employee: “[I]s our LTP a tough case to achieve on an organic basis?” “[T]he current LTP does not assume any acquisitions . . . .”).
28 mobile supply, shifting demographics, and consumer data. 139 AOL financial advisor
Allen & Co. sent the Management Projections to Verizon, albeit without AOL
management’s sign off. 140
The Deloitte Projections were created after AOL hired Deloitte to perform a
goodwill impairment valuation of the Company using a set of ten-year projections
developed by AOL for this purpose.141 AOL CFO Dykstra testified that she did not
create the Deloitte Projections for non-tax purposes. 142 These projections were
created through inputs provided by AOL Senior Vice President of Financial
Planning and Analysis Michael Nolan,143 after which “[Deloitte] . . . r[a]n it through
their standard model.” 144 According to Cornell, a DCF analysis based on the
Deloitte Projections―instead of the Management Projections―values AOL stock at
$55.36 per share. 145
The Disputed Projections were created when Allen & Co. expressed concern,
in April 2015, that AOL’s projected working capital “appear[ed] to be materially
139 Trial Tr. 361:19–364:16 (Bellomo); JX1712 at 3 (“Major Product/Solution Improvement Assumptions”). 140 Trial Tr. 889:13–22 (Roszkowski); JX1332; JX1457; JX2991; JX1286. 141 Trial Tr. 649:19–650:3 (Dykstra). 142 Id. at 653:22–654:10 (Dykstra) (“I wouldn't use them for formal valuation purposes for a different purpose. I mean, this goodwill impairment testing is a different purpose, to just judge whether you have a non-cash impairment charge for that period . . . It was a different process, different people involved.”). 143 Trial Tr. 650:12–13 (Dykstra). 144 Id. at 650:21–23 (Dykstra). 145 Pet’rs’ Opening Br. Ex. A.
29 different from research estimates”146 AOL prepared and sent another version of the
working capital projections—the Disputed Projections—with different assumptions
to Verizon’s advisors. 147 AOL CFO of Platforms Nick Bellomo stated that he
“reviewed the numbers that were shared [with Verizon] to “mak[e] them more
optimistic” in order to “decrease[] the change in working capital, which would have
had an increase in cash flow for the business, which would ultimately increase the
valuation of the business under certain valuation methodologies.” 148 Bellomo stated
that it was his “understanding that the valuation that was initially floated to AOL for
the purchase of AOL may [have] be[en] taken down unless these numbers were
improved.”149 Allen & Co. director Isani explained to AOL Senior Vice President
Mark Roszkowski on February 8, 2015 that:
I think we should be presenting a robust opportunity case to [Verizon]―and as is typical for these processes, it will vary from budget. For internal purposes and record keeping, we should have the bridge btw that case and the board budget as well as document the rationale for the gap.
146 JX1266 (quoting email from Allen & Co. that “[w]e have included [net working capital] from the LRP as well, which appears to be materially different from research estimates, are we sure the numbers we have for NWC are correct?”); see also JX2473 (quoting an internal AOL email from May 8, 2015 that the “increase in working capital seems crazy high”). 147 Trial Tr. 371:5–15 (Bellomo); Id. at 832:16–833:7, 835:22–836:2 (Allen & Co. director Isani) (“Q. And what do you understand the purpose of these [Disputed] cash flow projections to be? A. To make a case to Verizon on how the cash flow could be improved over time, should the company successfully deploy certain efforts.”); but see id. at 827:7–828:2 (Isani) (agreeing that “it was typical in these processes to present a robust opportunity case to a potential buyer”). 148 Id. at 370:14–18 (Bellomo). 149 Id. at 371:1–4.
30 However, for the dialogue with [Verizon], we present only the robust case and completely own it as "the" plan. Typically we would not show board minutes as this is not a corporate deal (this case is tricky as the asset represents a large portion of total value). They will ask is this budget and we will have to rehearse the answer. But for a process like this it is not typical for the financials to be revised upward from the conservative board/budget ones
(Should probably also connect w/ legal to get their input into the caveats for documenting the gap). 150
AOL management sometimes referred to the Disputed Projections as “aspirational”
in their internal correspondence. 151 There is also contemporaneous correspondence
and trial testimony that the Disputed Projections were created with the assumption
that AOL would become part of Verizon. 152
150 JX0819 at 1–2 (citing emails between AOL and Allen & Co. executives); accord Trial Tr. 311:7–312:3 (Doherty). 151 Trial Tr. 656:19–21 (Dykstra) (“So we did that exercise and came up with a more aspirational set of working capital projections.”); JX1691 (quoting a May 10, 2015 email from Dykstra to Roszkowski that “[w]e are going to note to the board at the meeting tomorrow that we provided a more aspirational cash flow to the [Verizon] team as part of the process and we'll need to note the differences at a very high level to the cash flow we provide to the board”); JX1748 (quoting an email from AOL Senior Vice President of Financial Planning & Analysis Michael Nolan to Dykstra on May 10, 2015 that “[b]elow [financial projections] compare[] base case vs aspiration as well as revised tax comment” and refer[] to an assumption that “improved work capital driven by DSO [days sales outstanding] and DPO [days payable outstanding] improvement initiatives planned in LRP,” which allegedly could only be achieved by a Verizon acquisition of AOL). 152 Trial Tr. 656:5–21, 658:23–659:8 (Dykstra) (“I believe they were talking about the exercise of taking a . . . stretch or aspirational approach to looking to see what numbers we could tweak in the model, and things that would be impacted by Verizon if they were there with us . . . . )”, 662:4– 663:12 (“[W]e went back and said what if we could stretch and Verizon could help us improve some of the dynamics in our cash flow, and collections in particular.”); Id. at 896:20–897:20 (Roszkowski); JX1690 (quoting same email as JX1691); Trial Tr. 371:16–373:15 (Bellomo); Id. at 656:5–657:20, 662:4–663:16 (“Q. And when you wrote about the "more aspirational cash flow given to Verizon," to what are you referring? A. I'm referring to that exercise that we talked about, where we went back and said what if we could stretch and Verizon could help us improve some of the dynamics in our cash flow, and collections in particular.”), 695:3–9 (Dykstra) (“Again, I've said that the additional assumptions were assuming we would get better leverage with Verizon.”);
31 I note that other evidence challenges this narrative. The Disputed Projections
were created after a rigorous internal process that involved input from a variety of
departments within AOL. 153 Certain of AOL’s employees signed off on the
projections while they were unaware of a potential or likely sale to Verizon. 154 The
Disputed Projections were submitted to Verizon and explained to AOL’s Board,
apparently as though they were current projections. 155 There are emails between
AOL employees that refer to the LRP as being “incorrect” and outdated. 156 The
Trial Tr. 835:4–836:2 (Isani); Id. at 892:2–10, 893:11–23 (Roszkowski); JX1286 (working capital would improve if AOL had “more leverage on both payment terms and ability to collect . . . .”); JX1452 at 1 (quoting internal LionTree emails in April 2015 that “AOL is assuming . . . more scale” would lead to “a faster collection time”); JX1306 (April 14, 2015 email from Allen & Co. to AOL executives that an assumed change in working capital would be due to “[m]ore leverage over advertisers and publishers”); JX1419 (April 18, 2015 email from Allen & Co. to Verizon financial advisors including a “Net Working Capital Overview” with a “[c]hange in net working capital projections by segment”). 153 JX1280 (noting the Disputed Projections were prepared after “an internal review of the LRP”); JX1423 (quoting an internal AOL email chain discussing the change in projection assumptions in advance of a call); JX1414 (detailing the extensive internal input into the Disputed Projections from Corporate Development, Financial Planning & Analysis, and Allen & Co.); JX1398 at 1 (quoting an AOL finance team email of April 17, 2015 that the updated working capital projections resulted in “no change in AOIBDA [free cash flow] or end cash”). 154 JX1437 (quoting Allen & Co. director Isani in an April 20, 2015 email that: “FYI – [AOL] will also have their controller Lara sweet [sic] join the call at noon. PLEASE NOTE: Lara is not aware of the change in the structure to a 100% deal. As such, please continue to provide the context that the discussion is re: a deal with the last 80/20 public minority structure”); JX1434 at 1 (citing email to show that Lara Sweet, AOL’s Controller was unaware of the potential Verizon transaction when she endorsed the Updated Projection); JX1411 at 1 (Armstrong e-mail to the Board, outside counsel, Allen & Co., and Dykstra, and Roszkowski, stating “[i]t is really important you know that the main people represented on this email are the limited set of people that have information on our deals”). 155 Trial Tr. 715:20–716:24 (Dykstra) (agreeing that Dykstra “t[old] the board the difference in cash flows at a very high level” after the Disputed Projections had been sent to Verizon). 156 JX2451 at 2 (quoting an internal AOL email that “AJ can send you the LRP – caveat being that it is incorrect and does not reflect the updated numbers per all discussions since that time”); JX1406 (quoting internal email from Allen & Co. on April 18, 2015 that “[w]e have already told
32 Petitioners contend that AOL’s goal for more leverage to decrease day sales
outstanding (thus decreasing the required working capital and thereby improving
cash flow) could have occurred outside of an anticipated deal with Verizon, although
an exact method is left unspecified. 157
I find that the Management Projections are in fact management’s best estimate
as of the Valuation Date. While a close call, the record indicates that the Disputed
Projections were most likely created as a marketing tool in AOL’s attempted sale of
itself to Verizon. My purpose here is to determine the fair value of AOL, and not
AOL’s value as-advertised. I am not persuaded that the Disputed Projections
represent the most recent and valid projections used by AOL management prior to
the Valuation Date.
Finally, I find that the goodwill impairment projections are not pertinent to
my DCF analysis here. The purpose behind any set of projections matters because
it determines the appropriateness of various assumptions that must be made. The
Deloitte Projections were made for the goodwill impairment analysis―a tax-driven
assessment with a host of required assumptions that should not, in these
circumstances, be used for a DCF analysis. While certain assumptions may be
[Verizon] all old numbers should be disregarded as they are not correct, however they would still like to have a call”). 157 Pet’rs Answering Post-Trial Br. 17 (“The documents cited by Respondent generally assert that working capital would improve if AOL had more scale or leverage (which AOL could obtain in ways other than an acquisition by Verizon) among several other strategies AOL had employed to improve working capital.”).
33 appropriate for a tax analysis, those same assumptions may be nonsensical for
valuation purposes. Consequently, I use the Management Projections in my DCF
analysis.
2. Pending Transactions as of the Merger
I start with the following assumptions. “The determination of fair value must
be based on all relevant factors, including . . . elements of future value, where
appropriate.”158 “[A]ny . . . facts which were known or which could be ascertained
as of the date of the merger and which throw any light on [the] future prospects of
the merged corporation” must be considered in fixing fair value. 159 A corporation
“must be valued as a going concern based upon the ‘operative reality’ of the
company as of the time of the merger.” 160 I must exclude speculative costs or
revenues, however.161 Mere “actions in furtherance” of a potential transaction,
without a manifest ability to proceed, should not be valued as part of a company’s
operative reality. 162
158 Glassman v. Unocal Exploration Corp., 777 A.2d 242, 248 (Del. 2001). 159 Montgomery Cellular Holding Co., 880 A.2d 206 at 222 (Del. 2005). 160 Ala. By-Prods. Corp. v. Neal, 588 A.2d 255, 256–67 (Del. 1991); M.G. Bancorporation, Inc, 737 A.2d at 525; LongPath Capital, LLC v. Ramtron Int'l Corp., 2015 WL 4540443, at *9 (Del. Ch. June 30, 2015). 161 Ramtron, 2015 WL 4540443, at *13 & n.113; see also M.G. Bancorporation, Inc., 737 A.2d at 525; Ala. By-Prods. Corp., 588 A.2d at 256–67. 162 Gearreald v. Just Care, Inc., 2012 WL 1569818, at *6 (Del. Ch. Apr. 30, 2012).
34 The Petitioners argue that three potential deals were part of AOL’s operative
reality, and that any fair value analysis of AOL must include these transactions.163
These include: (i) AOL’s acquisition of Millennial, a programmatic mobile
advertising platform; 164 (ii) a deal for Microsoft’s Bing search engine to replace
Google in powering search results on AOL properties (the “Search Deal”),165 and
(iii) a ten-year commercial partnership for AOL to run the sales of display, mobile,
and video ads on Microsoft properties in the United States and eight international
markets (the “Display Deal”) (the Display Deal and Search Deal are together
referred to as the “Microsoft Deals”).166 Fischel did not ascribe value to these
transactions in his DCF analysis.167 For each of these transactions I ask: (i) if the
transaction was part of the “operative reality” of the Company as of the Valuation
Date, and (ii) if so, was the transaction appropriately valued in the LTP. I will adjust
my Fischel-based DCF analysis to include the financial impact of those transactions
that were part of the Company’s operative reality on the Valuation Date but which
were not included in the LTP.
163 Pet’rs’ Answering Br. 47. 164 JX2076 at 2–3 (citing August 25, 2015 internal Verizon proposal for merger agreement with Millennial); Trial Tr. 48:6–7 (“Millennial Media . . . is basically a programmatic mobile platform . . . .”). 165 JX2008 (including an “Advertising Sales and Services Agreement” executed on June 30, 2015). 166 JX2441 (including a “Sales Partnership Agreement for AOL’s Operation of [Microsoft’s] Display and Video Advertising Monetization” executed on June 23, 2015). 167 See JX2346 (LTP) at Tab I. A.2 Key assumptions (displaying unawareness of Search Deal in statement that “[n]ew search deal terms set in for 2016. This will negatively impact revenue and bottom line for Core”).
35 a. Operative Reality
i. Description of the Deals
As mentioned, the Display Deal allowed AOL to run the sale of display,
mobile, and video ads on Microsoft properties such as Xbox, Skype, Outlook, MSN,
and others in the United States and eight other markets.168 After months of
negotiation,169 Microsoft and AOL traded draft term sheets at least through May
2015. 170 Armstrong testified that the Display Deal “could have blown up at any
time” because of, among other things, uncertainty surrounding the customers and
the Microsoft employees AOL would need to onboard. 171 Armstrong confirmed in
a May 14, 2015 email that AOL expected to close the Display Deal on May 27,
2015. 172 Nevertheless, AOL pushed back the Microsoft announcement until after
the Verizon announcement. 173 AOL signed an agreement for the Display Deal with
Microsoft on June 28, 2015 and announced the transaction on June 30, 2015. 174 The
168 JX2441. 169 JX2009 at 1 (quoting AOL executive that the MSFT deal “was 9 months of long drawn out internal and external negotiation”). 170 JX2412 (citing May 7, 2015 email from Bain to AOL: “Deal terms are still in flux; we anticipate having final terms on Friday 5/8, with some work still to be done on PMP terms.”); JX2413 (quoting May 8, 2015 internal AOL email with “the latest term sheet” with updates about “[AOL’s] latest reconciliation on terms with [Microsoft]”). 171 Trial Tr. 510:4–8, 12–13 (Armstrong). 172 JX1816 at 1 (email from Armstrong to AOL executives on May 14, 2015). 173 JX2425 (quoting email from AOL executive Roszkowski to another AOL employee on June 2, 2015 to hold off on announcing the Display Deal until after the Verizon announcement). 174 JX2008 at 38–39 (Display); JX1997.
36 Petitioners imply that the Display Deal contributes $2.57 per share if included under
Fischel’s DCF Model. 175
The Search Deal replaced a soon-to-expire contract with Google to allow
Microsoft’s Bing search engine to power advertising and results on AOL’s
properties.176 Similar to the Display Deal, AOL planned to close the Search Deal on
May 27, 2015 but delayed until after the Verizon announcement. 177 An AOL
presentation from June 10, 2015 included the key terms, financial projections, and
other business implications of the Search Deal. 178 The Search Deal closed on June
26, 2015.179 Microsoft and AOL announced the Microsoft Deals on June 30,
2015. 180 The Petitioners do not quantify the impact of the Search Deal but instead
urge me to “select a DCF value slightly above the median to account for the value
added by the Microsoft Search Deal, which was accretive to free cash flow beginning
in 2016.”181
175 Pet’rs’ Answering Br. 46–47 (stating that the Millennial and Display Deals contribute $6.71 per share and that the Millennial Deal accounts for $4.14 per share of that contribution). I note that Cornell examines the Millennial and Display Deals as combined. Pet’rs’ Post-Trial Answering Br., Ex. A. 176 JX2008; Trial Tr. 512:12–20 (Armstrong); JX2146. 177 JX1816 at 1 (email from Armstrong to AOL executives on May 14, 2015); JX2425 (quoting email from AOL executive Roszkowski to another AOL employee on June 2, 2015 to hold off on announcing the Display Deal until after the Verizon announcement). 178 JX2433. 179 JX2146 at 1–2 (including a copy of the Search Deal agreement); JX1997 (including an internal AOL email circulating the signature pages). The parties dispute whether the Search Deal closed on June 26 or 28, 2015; the distinction is not material to my decision here. 180 JX2008; JX2146. 181 Pet’rs’ Answering Br. 47.
37 The path of Millennial Media, Inc. (“Millennial”) to an acquisition by AOL
(the “Millennial Deal”) was more circuitous than the Microsoft Deals. After
conducting initial diligence, AOL passed on buying Millennial in late 2014 but
resumed preliminary diligence in February 2015. 182 AOL paused its diligence in
April 2015 until Millennial announced its quarterly earnings. 183 In May 2015,
Armstrong told the AOL Board that Millennial might “secure another offer in the
near term, but we are willing to take that risk.”184 Armstrong made a non-binding
offer to Millennial for $2.10 per share on June 5, 2015, “conditioned on exclusivity,”
and stated that “AOL was prepared to move expeditiously to negotiate and sign a
definitive agreement to effect the transaction.” 185 AOL sent a “written, non-binding
proposal . . . reflecting the terms of the June 5 Proposal, and which also included an
exclusivity period to negotiate a transaction between the parties until July 17,
2015.” 186 On June 10, 2015, Millennial opened a data room to AOL and its
advisors.187 On June 15, 2015, Millennial and AOL signed an agreement to negotiate
exclusively until July 17, 2015, and “which contained a standstill provision that
would terminate if the Company entered into a definitive agreement with a third
182 JX0663 at 1; JX2112 at 14. 183 JX1476 at 1. 184 JX1595 at 2. 185 JX2112 (Millennial Schedule 14D-9) at 17. 186 Id. at 18. 187 Id.
38 party to effect a business combination.”188 Representatives of AOL and Millennial
met on June 17–19, 2015 to discuss Millennial’s “financials, business operations,
product and technology, real estate and security infrastructure.” 189 On June 23,
2015, Verizon closed the merger with AOL. 190
On June 30, 2015, AOL’s counsel “circulated a first draft of the Merger
Agreement,” followed by two weeks of meetings, discussions, and negotiations.191
The parties discussed:
[T]he scope of the representations and warranties, the benefits to be offered to the Company's employees following the transaction, the conduct of the Company's business between signing and closing of the transaction, the parties' respective conditions to closing, AOL's obligation to indemnify and maintain insurance for the Company's directors and officers, the rights of the parties to terminate the transaction, and the amount and conditions of payment by the Company of the termination fee and expense reimbursement described above. 192
The SEC sent Millennial a letter “notifying [Millennial] that the SEC was conducting
an information investigation” for fraud starting in July 2015.193 After the expiration
of the exclusivity agreement, Millennial attempted to auction itself to six other
buyers, but AOL was the only party to submit a proposal. 194 AOL, by then under
Verizon, agreed to pay $1.75 per share to acquire Millennial on September 2,
188 Id. at 19. 189 Id. 190 Stipulated Joint Pre-Trial Order ¶ 9. 191 Id. 192 Id. ¶ 20. 193 JX2112 (Millennial Schedule 14D-9) at 19–20. 194 Id. at 20–24, 26 (“AOL was the only party to submit a proposal to acquire Millennial”);
39 2015. 195 AOL signed the Millennial Deal on September 3, 2015.196 The Millennial
Deal closed on October 23, 2015.197 The Petitioners argue that the Millennial Deal
contributes $4.14 per share if included under Fischel’s DCF model.198
ii. Conclusions
I find that the Display Deal was part of the operative reality of AOL as of the
Valuation Date. I am persuaded by the level of certainty in that transaction, given
AOL’s internal correspondence and the concrete plans for an announcement date. I
also find that the Search Deal was part of the operative reality of AOL as of the
Valuation Date. I am persuaded by the apparent certainty of the transaction, based
on internal correspondence and presentations, that this transaction was one that both
sides fully expected to occur. However, I find that the Millennial Deal was not part
of AOL’s operative reality as of the Valuation Date. AOL had taken a number of
steps toward a transaction, such as sending a non-binding offer subject to an
exclusivity period, beginning the due diligence process, and meeting with
executives. However, no merger agreement drafts had been exchanged and weeks
of negotiations, a robust due diligence process, and an entire auction yet remained.
The actions taken by AOL before the Valuation Date showed substantial interest in
195 Id. at 23; JX2988. 196 JX2112 at 25. 197 JX2130 at 2. 198 Pet’rs’ Answering Br. 47.
40 a transaction but are not, to my mind, sufficiently certain as to be part of the operative
reality of AOL on the Valuation Date.
b. LTP Assumptions
The second question is whether the operative reality of AOL as of the
Valuation Date, including the relevant transactions mentioned above, was properly
included in the LTP. Because I find that the Millennial Deal was not part of the
operative reality of AOL on the Valuation Date, I need not answer the second
question for that particular transaction. In essence, the question before me is this:
what is the scope of the assumptions made in the LTP? The Petitioners urge me to
view them narrowly―these specific deals were not assumed―making the Microsoft
Deals additive to the Management Projections. The Respondent, by contrast, urges
me to view them broadly―the LTP assumes that strategic gaps will be filled and
these transactions merely fill that role―so that the LTP remains as management’s
best prediction of future cash flows and the Microsoft Deals should not be additive.
My attempt to differentiate the new ingredients from those already baked in is below.
i. The Display Deal
The Display Deal and its relation to the LTP were specifically discussed
internally after the AOL-Verizon merger. AOL executive Roszkowski explained to
Verizon executive Walden in a September 3, 2015 email that the Microsoft and
Millennial Deals were “accretive to [the LTP], but should not be a straight addition
41 to revenue and margin” and that “the [] LTP assumed deals like MSFT and that
[AOL] would close [its] mobile technology/talent gap.” 199 Roszkowski later
testified that AOL’s LTP was “optimistic . . . and . . . included assumptions that
[AOL] [would] solve[] for key strategic capability gaps” so that the Microsoft Deals
“actually made the long-term plan more certain” and could not be a “straight . . .
addition” to the LTP.200 The Display Deal included a number of risks, including
adding approximately 1,270 Microsoft employees in nine countries. 201 The parties
also dispute smaller, non-dispositive issues. 202
The parties give me two choices with regard to the Display Deal: add the full
value of the Display Deal as urged by the Petitioners, implicitly worth $2.57, or
decline to add it to the LTP, as the Respondent recommends. I find that the Display
199 JX2100 at 1 (emphases added); see also Trial Tr. 578:15–579:17, 582:7–18 (Doherty) (“Q. And in your view, Mr. Doherty, could you simply add the projections relating to the new Microsoft deal on top of the prior management projections? A. No. Not at all. I mean, two reasons. Number one, I felt it was already pretty much baked into their plan; and, number two, we didn't have a set of projections.”). 200 Id. at 901:3–14 (AOL head of corporate development Roszkowski); see also id. at 343:1–7 (Verizon EVP Walden); Id. at 314:1–19 (Verizon SVP Doherty). 201 Tr. 374:15–375:12 (Bellomo); Tr. 512:2–513:8 (Armstrong); JX1993 at 6, 13–15 (quoting a June 25, 2015 internal Verizon slide deck explaining the deal and its risks and benefits to AOL and Verizon, including employee integration schedules); JX2008 at 9–16, 22–23 (“Advertising Sales and Services Agreement” between AOL and Microsoft dated June 30, 2015). 202 The parties dispute the meaning of “delivered value” in an exhibit (JX2436) as either “revenue that is delivered to AOL and Microsoft on account of the deal” (Resp’t’s Answering Br. 57) or “by definition . . . additive” (Pet’rs’ Opening Br. 59). The parties also dispute a slide (JX2441 at 8) that was either “apparently put together by a Bain consultant and never shared outside a small group of AOL’s management, showing how AOL might be able to perform as part of Verizon, with illustrative numbers added on to AOL’s long-term plan” (Resp’t’s Answering Br. 57) or as evidence that AOL viewed the Display and Millennial Deals as directly additive to the LTP (Pet’rs’ Opening Br. 59–60).
42 Deal was, at least, partially accretive. I am convinced that AOL internally viewed it
as at least partially additive to its LTP as evidenced by its internal presentations and
communications, but I also suspect that it should not be entirely additive. Because
I lack the information necessary to cut a finer slice in this instance, I add the full
$2.57 per share to my DCF analysis. In other words, the record gives me no basis
that another value for the display deal is less arbitrary than $2.57 per share.
ii. The Search Deal
Neither Fischel nor Cornell included the Search Deal in their DCF analyses,203
purportedly because “AOL did not produce detailed forecasts for the Search
Deal.”204 The LTP initially assumed that a new search deal with Google would be
less favorable to AOL than the previous deal.205 Armstrong testified that the Search
Deal, together with the Display Deal, was “meant as a mitigation to the search money
that we would lose when we switched from Google at the end of that year to
Microsoft. But it was unlikely that the Microsoft deal would make up for the search
loss that we were going to experience overall.”206 However, a June 10, 2015 AOL
presentation included financial projections that explicitly portrayed the Search Deal
203 Trial Tr. 232:18–19 (Cornell); JX2255 ¶ 41 n.90 (Fischel Report). 204 Pet’rs’ Opening Br. 56. 205 JX2346 at Tab I. A.2 Key assumptions [for AOL’s LTP] (“New search deal terms set in for 2016. This will negatively impact revenue and bottom line for Core.”). 206 Trial Tr. 512:12–20 (Armstrong).
43 as additive to AOL’s OIBDA in comparison with the LTP. 207
I find that the preponderance of the evidence shows that the Search Deal is, at
least minimally, additive to the LTP. The record is lacking in a principled way to
account for the Search Deal, however. The Petitioners do no more than urge me to
“select a number slightly higher than the mid-point share price to account for the
Search Deal’s benefits.” 208 I find fair value, therefore, is best expressed by omitting
any speculation as to the value to AOL of the pending Search Deal. In other words,
the record gives me no basis to find that another value for the Search Deal is less
arbitrary than $0. I also note that I have included the full value of the Display Deal
as accretive to value, potentially overstating fair value, and I find it prudent not to
exaggerate that effect by adding speculative value here.
3. Projection Period
Any DCF analysis must include a post-projection period of valuation into
perpetuity at a steady state. This case is a now-classic appraisal story of “the tale of
two companies.” AOL was divided into three segments: two parts small and rapidly
growing; one senescent. The question before me is, in the context of four-year
projections, ending with two segments enjoying high growth rates and a quiescent
third segment, what is the best way to view the terminal period?
207 JX1906_VZ-0056420 at 5–6 (comparing difference in Search Deal projections to “AOL May 2015 Outlook + 2016–18 Long Term Plan”). 208 Pet’rs’ Opening Br. 56.
44 Fischel selected 3.25% as the perpetuity growth rate for AOL. 209 Fischel
noted that the “perpetuity growth rates reported by analysts and advisors ranged from
1.0% to 6.6%, with a median of 2.5% and an average of 2.9%.” 210 Fischel then
averaged the 2.9% perpetuity growth rate given by analysts and advisors with the
4.6% long-term GDP growth estimate and 2.3% long-term inflation rate, resulting
in an average rate of 3.28%. 211 Fischel reduced the perpetuity growth rate to 3.25%
due to his concern that “AOL's Membership segment was the largest contributor to
AOIBDA and was declining, so this may overstate the expected growth rate for the
firm.” 212 However, Fischel noted that because “AOL Projections do not provide
estimates beyond 2018 . . . there is some possibility that AOL could experience
growth in the short term at a rate higher than inflation due to higher growth in the
Platforms and Brands segments or even potential acquisitions.” 213 Lastly, Fischel
tested the “sensitivity of the implied value of AOL's common shares to the perpetuity
growth rate by using a range of 3.0% to 3.5%.” 214
Unsurprisingly, the Petitioners characterize Fischel’s perpetuity growth rate
of 3.25% as “flawed” because, they say, combined with his use of a two-stage model,
Fischel insufficiently accounts for AOL’s high growth rate prior to reaching steady
209 JX2255 ¶ 54 (Fischel Report). 210 Id. ¶ 52. 211 Id. ¶ 54. 212 Id. ¶ 54 n.104. 213 Id. ¶ 53. 214 Id. ¶ 54 n.104.
45 state.215 The Petitioners argue that a three-stage DCF is more appropriate here
because “academic literature [such as that by Professor Damodaran] counsels that if
the growth in the final forecast year is well above the terminal growth rate, then a
three-stage model is preferred.”216 The Petitioners point to Fischel’s agreement, that
two of the AOL businesses were experiencing “hypergrowth”217 at the end of the
two-stage projection period used by Fischel, as evidence that a two-stage model is
inappropriate here.218 The Petitioners illustrate this lost value using a chart: 219
215 Pet’rs’ Post-Trial Opening Br. 64. 216 Id. at 65. 217 Trial Tr. 1105:20–1106:2 (Fischel) (“Q. Okay. Now, two of the AOL business segments experienced hypergrowth at the end of the projection period that you used. Correct? A. That's right. Q. And AOL did not reach a steady state at the end of the projection period. Correct? A. I think that's fair.”). 218 Pet’rs’ Post-Trial Answering Br. 50. 219 Pet’rs’ Post-Trial Opening Br. 66.
46 As an alternative, the Petitioners advocate using the ten-year Deloitte
projections used for the tax impairment analysis to account for the post-Management
Projections growth gap described above.220 I have already rejected this approach,
for reasons set out above; I also note that AOL management did not believe it could
reliably forecast beyond four years. 221
In a fast-paced industry with significant fluctuations, where management is
hesitant to project beyond four years, using a three-stage DCF model or a ten-year
projection period seems particularly brazen. I find that a two-stage model is
appropriate under these circumstances. However, I agree with the Petitioners that
Fischel’s two-stage model and perpetuity growth rate of 3.25% do not accurately
capture the trajectories of the two divisions of AOL that were in hypergrowth at the
end of the Management Projection period, despite the presence of the
aforementioned senescent “You’ve Got Mail” laggard. I find a perpetuity growth
rate of 3.5% more accurately captures AOL’s prospects after the Management
220 Id. at 66–67; JX2277 (Cornell Report) ¶¶ 89–92. 221 Resp’t’s Opening Post-Trial Br. 74; Trial Tr. 642:11–23 (Dykstra) (“Q. Why did you only project out four years as part of the long-term planning process? A. It was very difficult to go beyond four years. You know, we were in businesses and markets where the world was changing pretty quickly. I mean, digital marketing really was just coming into play, so it was moving fast. We -- it's difficult to predict advertising trends to begin with.”); JX2233 at 112:22–113:5 (Eoin Ryan Dep., former AOL head of investor relations and now AOL head of financial planning); Trial Tr. 642:11–23 (Dykstra); JX2233 at 112:22–113:5 (Ryan Dep.).
47 Projection period ends. When a 3.5% perpetuity growth rate is applied to Fischel’s
DCF model, the fair value of AOL stock increases by $1.28 per share. 222
4. Cash Balance
The value of working capital that is required “to fund [a company’s] ongoing
operations . . . is already reflected in one sense in the discounted present value of
those operations.”; any balance of cash not so required is “‘excess’ and may be added
to the discounted cash flow.” 223 Fischel and Cornell agree that any such balance
should be added back to the valuation for AOL after the DCF analysis. Fischel cites
to Professor Aswath Damodaran for the financial valuation rule that “only cash in
excess of the minimum cash balance needed for operations should be included in a
DCF.” 224
The cash on hand of the Company on the Valuation Date was $554 million.225
Fischel adds $404 million at the end of the DCF but reserves $150 million as working
222 I use the Fischel model the parties provided to calculate my DCF. I note that Fischel’s model includes a broken reference (#REF!) in Ex. N on the “AOL Dilutive Results (lexicon)” tab at cell BJ4. The reference impacts calculations made in the “DCF” tab regarding the shares outstanding at cell B16. I input “85.1” into cell B16 in accordance with Fischel’s Report at JX2255 ¶ 57, which states that “AOL had approximately 85.1 million fully diluted shares outstanding as of the Valuation Date.” The result was a $1.28 per share difference when applying a 3.5% perpetuity growth rate, or $46.13 per share. The parties may address any concerns with this approach before the Final Order. 223 Neal v. Ala. By-Products Corp., 1990 WL 109243, at *16 (Del. Ch. Aug. 1, 1990), aff'd, 588 A.2d 255 (Del. 1991). 224 JX2255 at 36 (citing Aswath Damodaran, Dealing with Cash, Cross Holdings and Other Non- Operating Assets: Approaches and Implications, working paper, Sept. 2005, at 12) (“Damodaran”). 225 JX2255 (Fischel Report) ¶ 55 (including “cash and equivalents of $530 million plus assets held for sale of $24 million”).
48 capital, an asset necessary to develop the return on investment that is represented in
the DCF.226 Cornell adds back AOL’s entire cash balance of $554 million. 227 The
Petitioners contend that the $150 million “minimum balance” is “litigation
driven”228 by pointing to (i) Verizon’s and AOL’s advisors purportedly opposite
position in their valuations 229 and (ii) AOL’s historic dips below $150 million cash
on hand in 2014.230 They contend that none of this cash should be excluded and that
no working cash exclusion is appropriate.
I am not persuaded that, in evaluating the fair value of AOL under these
circumstances, I should add back all of the cash of AOL, implicitly assuming that
zero working capital would be required to achieve the returns that the DCF analysis
projects. While I recognize that AOL dropped below $150 million in cash in the
recent past, which the Petitioners point to as evidence that the minimum cash balance
is a litigation façade, I also acknowledge that historical dips in cash reserves pertain
to a different time period with different capital requirements. The preponderance of
226 Id. 227 JX2277 (Cornell Report) at 134. 228 Pet’rs Post-Trial Opening Br. 69. 229 See JX1546 at 12 (Guggenheim) (showing $477 million cash in an enterprise value analysis); JX2319 (Allen) at Tabs “WholeCo Multiple Val,” “SOTP-Mult” (showing each as incorporating $493 million cash under a multiple-based valuation analysis), “WholeCo DCF (Old CF),” (including $493 million cash in calculating the weighted average cost of capital). I note that the Petitioners do not clearly point to an example of where Allen & Co. added back all of AOL’s cash balance after a DCF analysis. 230 See, e.g., JX2267 (excerpt of AOL June 30, 2014 10-Q showing cash and equivalents of $136.2 million); JX2268 (excerpt of AOL March 31, 2014 10-Q showing cash and equivalents of $123.5 million); Trial Tr. (Dykstra) 764:1–2 (“I don’t remember when we first came up with the [$150 million] minimum cash [goal].”).
49 the evidence indicates that this not a litigation-driven argument. 231 I instead find
that the withholding of $150 million as working capital is reasonable and decline to
add it back into the DCF.
IV. CONCLUSION
In arriving at fair value, for the reasons discussed above, I give full weight to
my DCF valuation. I begin with Fischel’s DCF valuation of $44.85 and add $1.28
per share 232 for the adjustment to a 3.5% perpetuity growth rate and $2.57 per share
to include the Display Deal as part of AOL’s operative reality. My DCF analysis
therefore results in a fair value of $48.70 per share. While the deal process was not
Dell Compliant and thus not entitled to deference as a reliable indicator of fair value,
it was sufficiently robust that I use the deal price as a “check” on my analysis, while
granting it zero explicit weight. I note that value derived from my DCF does not
deviate grossly from the deal price of $50.
I am cognizant, however, that I am saying two seemingly incongruent things;
namely, that AOL’s deal process was insufficient to warrant deal price deference at
$50 per share―because, due to deal deficiencies, the sales price may not capture the
full fair value of the Company―while also holding, based on my DCF analysis, that
231 Trial Tr. 765:4–7 (AOL CFO Karen Dykstra) (“I said we had a goal of maintaining $150 million. We felt that that should be our minimum cash balance. We felt that that was prudent.”); JX00921 at 31 (Feb. 27, 2015 AOL Board Agenda: “To balance our growth strategy with cash management objectives, our goals are to maintain . . . at least $150m of cash on hand, using the credit facility for strategic transactions (share repurchases and M&A transactions).”). 232 See supra note 222.
50 the value of AOL stock is even lower, at $48.70 per share. One explanation for this
incongruity is that a deal price may contain synergies that have been shared with the
seller in the deal but that are not properly included in fair value.
For the reasons described above, I hold that the fair value of AOL stock was
$48.70 per share on the Valuation Date. The Petitioners are entitled to the fair value
of their shares together with interest at the statutory rate. The parties should confer
and provide a form of order consistent with this Memorandum Opinion.
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