Alberta Securities Commission Declines To Cease-Trade Poison Pill Following Timely Shareholder Approval

Article by Mark Adkins © 2007, Blake, Cassels & Graydon LLP

Originally published in Blakes Bulletin on Mergers & Acquisitions, December 2007

Highlights:

• Rights plan upheld in absence of potential competing offers
• Key factor was fully-informed shareholders meeting approving plan in the face of an unsolicited bid
• Target boards now have additional regulator-approved defense available to ward off bids

On November 30, 2007, the Alberta Securities Commission (the ASC) released its decision in Re Pulse Data Inc., potentially extending the time frame in which a shareholder rights plan (commonly referred to as a "poison pill") may be used as a defensive tactic in response to an unsolicited take-over bid. Specifically, the ASC refused to cease-trade (i.e., effectively terminate) a rights plan in the face of an unsolicited bid, even in the absence of any higher offers or viable auction process for the target, after the target's shareholders overwhelmingly approved the rights plan shortly before the cease-trade application was made. The decision is arguably an evolution of the position long held by Canadian securities regulators that a rights plan may only stay in place to afford the target company a period of time to seek out alternative bidders with a view to maximizing shareholder value.

TIMELINE

The timing of certain key events in the case is as follows:

Background

Pulse Data Inc. (Pulse) is a TSX-listed Canadian company based in Alberta that markets seismic data to energy companies.

A number of potential acquirors, including U.S. competitor Seitel, Inc. (Seitel), approached Pulse with acquisition offers between 2005 and 2007, each of which was rejected by the Pulse board of directors (the Board). In connection with one of these offers, the Board established an independent committee (the Special Committee) and retained outside legal counsel, an independent financial advisor and an independent valuator to assist with any potential sale of Pulse.

On August 13, 2007, after failing to reach agreement with the Board on a friendly transaction, Seitel launched an unsolicited take-over bid (the Offer) for all of the outstanding common shares (the Shares) of Pulse. That same day, the Board adopted a tactical shareholder rights plan (the Rights Plan) as a defensive measure. Seitel subsequently extended and varied the Offer a number of times, including increasing the price. Repeatedly, the Board unanimously recommended that the shareholders of Pulse (the Shareholders) reject the Offer, arguing that Pulse's business plan would offer Shareholders superior value to that of the Offer.

As is common, in response to the initial Offer, the Special Committee initiated a review of strategic alternatives, including seeking superior acquisition proposals, and entered into a number of confidentiality agreements with potential suitors that had indicated an interest in offering a higher price than the Offer. However, the Special Committee concluded that no viable acquisition alternative was imminent.

Creeping Take-Over Strategy And Coercive Tactics Alleged By Pulse

Seitel's amended Offer included a number of customary conditions, including that a minimum of 66-2/3% of Shares be tendered to the bid and that the Rights Plan be cease-traded or otherwise terminated. However, Seitel maintained its ability to waive the minimum 66-2/3% tender condition and take up and pay for any number of deposited Shares, even where such number would not represent a majority of the outstanding Shares, and refused to make such condition unwaivable. The Board feared that a large minority ownership position would allow Seitel to effectively control the Board and be in a position to dictate Pulse's business plan. In its communications with Shareholders, the Board alleged that Seitel intended to effect a creeping take-over in which it would acquire effective control of Pulse through multiple minority purchases without paying an appropriate control premium. As evidence of this strategy, the Board pointed to Seitel's refusal to commit not to waive its 66-2/3% minimum tender condition and its threat to eliminate the payment of quarterly dividends following the completion of its bid.

The Board also alleged that Seitel was attempting to coerce Shareholders into accepting an inadequate offer by claiming that the Board and management were not properly advising Shareholders, communicating that the Offer was its "best and final offer" and notifying Shareholders that its affiliates intended to sell all of their Shares (a 13% block) on the open market if the Offer was not accepted.

The Rights Plan

As is common, the Rights Plan provided that for the Offer to qualify as a "permitted bid" and not trigger a dilutive issuance of rights to the existing Shareholders, the Offer must provide that (i) at least 50% of the Shares held by disinterested Shareholders must be tendered before the Offeror can take up tendered Shares and (ii) Shareholders who do not initially accept the Offer will be given an opportunity to change their minds and subsequently accept if the 50% threshold is met. The Rights Plan was designed to block what the Board saw as a potentially coercive and creeping bid.

In an unusual strategy, immediately following the adoption of the Rights Plan, the Board called a special meeting of Shareholders on an expedited basis to approve the Rights Plan in the face of the Offer. On September 21, 2007, the Rights Plan was ratified and approved by Shareholders. Over 56% of all outstanding Shares were voted at the meeting, 77% of which were voted in favour of the Rights Plan (98% excluding Shares owned by affiliates of Seitel). Seitel then brought an application to the ASC for an order that the Rights Plan be cease-traded.

ASC Decision

In a surprising move, the ASC dismissed Seitel's application, finding that, in the circumstances, permitting the Rights Plan to continue was in the best interests of Shareholders.

The position advanced by Seitel, and supported by ASC Staff, was that the Rights Plan had been implemented to maximize shareholder choice and value. However, since ample time had passed with no evidence to suggest that continuing the Rights Plan would result in alternative offers for Pulse, permitting the Rights Plan to continue would deprive Shareholders of their right to choose whether to accept the Offer, which would not be in the best interests of Shareholders. This position was supported by numerous precedents.

Pulse responded that the issue was not whether the time had come for the Rights Plan to be discontinued, but rather whether shareholders have the right to implement a rights plan that would prevent creeping or coercive take-over bids. Pulse emphasized that the very recent approval of the Rights Plan by an overwhelming majority of Shareholders was a manifestation of the will of the Shareholders to prevent creeping take-over bids by acquirors generally, including Seitel, and demonstrated that the continuation of the Rights Plan was in the best interests of Shareholders.

In reaching its decision, the ASC noted that the primary objective of Canadian take-over bid rules, as set forth in National Policy 62-202 – Take-over Bids – Defensive Tactics, is to protect the interests of the target's shareholders, and acknowledged that the concern usually raised by rights plans is that they may deny shareholders the ability to accept an offer, frustrating an open auction process.

The ASC affirmed the historical approach of the Canadian securities regulators in allowing rights plans to survive in the face of unsolicited take-over bids when doing so affords target companies time to seek out alternative bidders with a view to maximizing shareholder value. The ASC also acknowledged that, in such circumstances, there will almost invariably come a time at which the rights plan will be cease-traded, based on the following factors:

• whether shareholder approval of the rights plan was obtained;
• when the plan was adopted;
• whether there is broad shareholder support for the continued operation of the plan;
• the size and complexity of the target company;
• the other defensive tactics, if any, implemented by the target company;
• the number of potential, viable offerors;
• the steps taken by the target company to find an alternative bid or transaction that would be better for the shareholders;
• the likelihood that, if given further time, the target company will be able to find a better bid or transaction;
• the nature of the bid, including whether it is coercive or unfair to the shareholders of the target company;
• the length of time since the bid was announced and made; and
• the likelihood that the bid will not be extended if the rights plan is not terminated.

While the ASC confirmed it had been guided by a consideration of these factors, it nevertheless concluded that cease-trading the Rights Plan at the time of Seitel's application was not in the public interest, despite the Board's conclusion there was little chance a higher offer would be made. The ASC noted that the facts were unique, and in particular that (i) the Shareholders had made a very recent, informed decision to have the Rights Plan remain in effect, (ii) the vast majority of disinterested Shareholders who voted at the meeting approving the Rights Plan were in favour of it, and (iii) the Shareholders had the benefit of Seitel's offering documents and the Board's circular, including multiple valuation analyses of Pulse. In sum, "the Rights Plan was approved by a majority of Pulse Shares voted in person or by proxy by Shareholders armed with an extraordinary amount of information with which to evaluate the Rights Plan in the face of the Offer".

The ASC made clear that its decision would not preclude Seitel or any other party from making a further application if circumstances changed.

Subsequent Events

On October 3, 2007, Pulse notified its Shareholders that it would hold a second special Shareholders meeting on November 9, 2007 to reconfirm the Rights Plan in response to amendments made to Seitel's Offer, including an increase in the Offer price. The Board expected that a reconfirmation by the Shareholders would be an important factor in any future application brought by Seitel before the ASC requesting that the Rights Plan be cease-traded. However, on October 22, Seitel allowed its Offer to expire and did not take up any of the Shares which had been tendered (approximately 11% of the total outstanding Shares). Later that day, the Board sent a letter to Shareholders thanking them for their confidence in management and cancelling the second meeting.

Conclusions

The ASC's decision in Pulse supports the use of a shareholder rights plan as a legitimate defensive tactic for target boards. By adopting a shareholder rights plan and having the target shareholders approve the plan at the time of, and in direct response to, an unwelcome bid, there is now precedent for Canadian securities authorities to permit the plan to remain in place for an extended period of time, even in the absence of viable alternative transactions.

If more target boards elect to defend against an unsolicited bid by having shareholders approve a rights plan in reliance on the decision in Pulse (and the defense proves successful), bidders may determine to initially structure their unsolicited take-over bids as "permitted bids" under the rights plan to avoid the need for a cease-trade application.

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