By Cliff Ennico
“A friend of mine and I bought a metal fabrication business 15 years ago. We’ve been very successful and have increased sales and profits dramatically since we took over the business.
“For many years, my friend and I were the sole directors and shareholders of our corporation. A few years ago, on the advice of our accountant, we brought a retired local banker on board as an outside director in exchange for warrants, which he has since exercised. He now owns 10 percent of our company.
“A couple of months ago, we were approached by a competitor who offered to buy our company for a substantial sum of money. My friend and I are, frankly, ready to retire and were inclined to accept this offer. But when we called a board meeting to discuss it, our outside director totally freaked out and said our company was worth multiple times more than what the competitor was offering.
“He said we had a ‘fiduciary duty’ to the company to get the highest possible price we can for the business and strongly recommended we hire an investment banking firm to value our company and seek a better offer in the marketplace. He even threatened to sue us if we accepted the competitor’s offer, which threw us for a loop.
“So now we’re not sure what to do. Hiring an investment banker is going to be expensive and will delay a sale for months, maybe longer. Part of me says we should just call another board meeting and outvote the outside director two-to-one. But another part of me says he is serious about suing us if we accept what he considers a ‘lowball’ offer for the company.
“What should we do?”
Simple: You should call your outside director immediately and offer to treat him and his entire family to dinner at the best restaurant in town. Because as unpleasant as I’m sure that board meeting was, this person just did you a HUGE favor.
To explain, think about why any company hires an outside director in the first place. Generally, there are three possible reasons:
1. To get access to knowledge and expertise the company founders cannot otherwise get (for example, a professor at a major university with expertise in cutting-edge technology affecting the company’s business).
2. To “second guess” the company founders’ decisions and provide an independent, outside opinion on sensitive matters such as senior executive compensation or perhaps a neutral opinion if the company founders frequently disagree (for example, a management consultant or lawyer the founders trust).
3. To establish connections to venture capital or other sources of finance to help the company grow and eventually realize its exit strategy (for example, someone with financial expertise and connections to Wall Street).
From your email, this outside director sounds like the third type. While you and friend have built a successful manufacturing business, your focus has probably been on the management and engineering/technical side. It doesn’t sound like either of you are financial types with experience in doing complex deals such as a company acquisition.
If that’s correct, then it’s time for a little humility. Admit that neither of you has the experience to evaluate an offer like the one you received from your competitor. Your outside director probably does (or at least thinks he does), and you should give him a chance to prove himself by hiring that investment banking firm to “beat the bushes” and look for the best possible deal.
This is what investment bankers do, and they’ve got lots better connections than you do. Also, this is exactly what you brought your outside director on board to do, whether you knew it at the time or not.
Your outside director is 100 percent correct that you have a fiduciary duty to the company to maximize its value to shareholders (the three of you) upon a sale. While the law in Delaware and other states isn’t perfectly clear on how much diligence company directors must do to determine whether an offer is the best available, rolling over and accepting the first offer that comes along without at least some negotiation clearly is not enough to discharge a director’s fiduciary duty.
As they say on Wall Street, “One bidder makes for a very short auction.”
Threatening you with litigation was a bit over the top, but he probably felt it was the only way to get your attention and prevent you from accepting a fire sale price for the business you’ve spent decades building. A friendlier strategy would have been for him to point out that any prospective buyer will want to buy not less than 100 percent of your company’s stock, meaning he can block a lowball sale by simply refusing to sell his 10 percent stake.
Lastly, keep in mind that if the investment bankers are successful and produce a significantly higher offer, all three of you will benefit as shareholders. A successful sale for the best possible price will be a win-win for everybody. The investment bankers will have justified their fees, you will have discharged your fiduciary duty and your outside director will have earned that dinner.
Cliff Ennico (crennico@gmail.com) is a syndicated columnist, author and former host of the PBS television series “Money Hunt.”
COPYRIGHT 2021 CLIFFORD R. ENNICO
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