In VBC LLC v. Campbell Soup Co., 482 F.3d 624, (C.A.3., Jan, 18, 2007), the United States Court of Appeals for the Third Circuit held that a company’s market capitalization several months after the spin-off from its parent provided stronger evidence of the company’s value at the time of incorporation than the estimates of the parties’ experts. In 1998, the Campbell Soup Company incorporated a wholly-owned subsidiary, Vlasic Foods International (VFI), and simultaneously sold VFI several food divisions in exchange for borrowed cash. Within three years of this transaction, VFI filed for bankruptcy and sold the food divisions for less than it had paid for them. VFI (through its bankruptcy creditors) brought a claim against Campbell Soup for fraudulent transfer and for aiding the breach of duty of loyalty by the directors who signed off on the transaction.
The Third Circuit Court found that for two years before the spin, Campbell Soup cooked the division’s operating results, ostensibly misleading the public about its operating record and prospects. Accordingly, the SEC disclosures in the years leading up to the spin-off were unreliable. The filings not only misled the public securities markets, but also the banks providing the leverage for the transaction, which "relied heavily on ‘pro forma’ financial statements and projections supplied by Campbell Soup."
The chief factual dispute concerning the fraudulent transfer allegation was the value of the Specialty Foods Division at the time of incorporation (March 30, 1998). More specifically, whether it was worth the $500 million VFI paid to Campbell Soup. The Third Circuit stated that VFI needed to demonstrate the $500 million it provided to Campbell Soup was not the "reasonably equivalent value" for the division. Despite argument from VFI, the Court stated that reasonably equivalent value is not an esoteric concept: "a party receives reasonably equivalent value for what it gives up if it gets roughly the value it gave."
Despite varied presentations by economic experts on the value of VFI, the District Court relied primarily on the price of VFI's stock in concluding that the division was worth well in excess of the $500 million VFI paid for it. The Third Circuit agreed with this rationale, stating that market capitalization is a classic example of an anchored value projection, "as it reflects all the information that is publicly available about a company at the relevant time of valuation." As private traders seek to pay no more for an asset (and sell an asset for no less) than it is worth, the market price was a rational valuation of VFI in light of all the information available to market participants. A company's actual subsequent performance is something to consider when determining ex post the reasonableness of a valuation, but it is not, by definition, the basis of a substitute benchmark. The Third Circuit believed that although the value of VFI was infected by Campbell Soup's manipulation of the division's earnings at the time of the spin-off, VFI's stock price remained high even after the truth about VFI's prospects had been fully revealed to the public. The post-exposure market capitalization was based on an accurate picture of VFI's position as of March 30, 1998 and sometime thereafter, which indicating a value of well over $500 million at that time.
Of additional note, the Third Circuit denied the remainder of VFI’s claim as to the Campbell Soup directors who orchestrated the deal. When the directors of a whollyowned who also serve as officers of parent corporation, they owe no duty of loyalty to the subsidiary as against the parent corporation. Therefore, the Campbell Soup directors did not breach fiduciary duty to subsidiary in connection with sale of underperforming businesses to a subsidiary. Normally, directors simultaneously serving two companies in a transaction will trigger heightened scrutiny requiring the directors to show utmost good faith; however, scrutiny is unnecessary when the two companies are a parent and its wholly-owned, solvent subsidiary. Directors must act in the best interests of a corporation's shareholders. A wholly-owned subsidiary has only one shareholder, i.e., the parent corporation. There is only one substantive interest to be protected, hence no divided loyalty of the subsidiary's directors and no need for special scrutiny of their actions.
Sean Bellew, a member in Cozen O’Connor’s Wilmington office whose practice focuses on corporate and bankruptcy law, believes that this decision sets a clear guideline company valuation in transactional disputes. Rather than getting bogged down in a battle of experts when estimating the market value of a company, the court took the very economical approach of leveraging the market itself. Everyday numerous independent experts voiced their estimates on a company’s current and projected performance in the amount they were willing to pay for a security. For his numerous corporate clients, Bellew also was pleased at the court’s willingness to shield directors and officers from unwarranted liability under such circumstances. Bellew continues to caution his clients to performed proper due diligence when purchasing a company, but found comfort in the Third Circuit’s failure to broadly extend a director’s duty of loyalty.
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