Fairness & Solvency Opinions
Boards of directors and management teams are under more scrutiny than ever. With activists’ and plaintiffs’ attorneys taking a more prominent role in the corporate world, challenges to transactions are becoming the norm. Boards, special committees, Limited Partner Advisory Committees (LPACs) and management teams often turn to transaction opinions to evidence their seriousness in satisfying their fiduciary duties. Boards need an advisor that is well-positioned to provide true independent advice with specific energy expertise and a dedicated transaction opinions practice. An advisor helps guide the process to watch for pitfalls that have led courts to challenge transactions.
When to think about Fairness Opinions
Fairness opinions should be considered for any transaction with a potential (or perceived) conflict of interest or any transaction where scrutiny or legal challenge is possible. Fairness opinions can help evidence a Board’s willingness to take its fiduciaries seriously. For many marquee transactions, fairness opinions have become best practice.
Typically sought by companies (or private equity firms) on behalf of their boards of directors (or LPACs) to address the financial fairness of a transaction.
- Corporate best practice
- Good corporate governance
- Addresses conflicts of interest in related-party transactions
- Mitigates lack of a robust sale process or other market-clearing mechanism to determine price
- Defends against possible shareholder lawsuits or other legal challenge
- Supports fiduciary duties
- Material M&A transactions
- Transactions among related parties
- Minority transactions (i.e., buyouts, squeeze-outs, etc.)
Private Equity Context
- Cross-fund investments (e.g., Fund II invests in Fund I portfolio company)
- Cross-fund sale
- Down-round investment
- Simplification transactions
Solvency opinions provide a Board with comfort that a particular transaction (dividend, sale, spin-off) will not leave an entity insolvent and open up the transaction parties to claims of fraudulent conveyance.
- A solvency opinion is a collection of determinations on the valuation, capitalization and cash flow-generating ability of an entity immediately following a transfer, distribution, dividend or leveraged transaction.
- Language is carefully drafted to conform to federal bankruptcy law and Delaware (or other state) statutes.
Typically sought in the context of a transfer of cash or assets out of a company via distribution or sale. If such a transfer results in a company’s insolvency, the transaction could be deemed a “Fraudulent Transfer”.
- Boards and management may be held personally liable
- Courts could mandate an unwind of the transaction
Boards must represent that a distribution or dividend is made from a company’s surplus. For certain transactions, Boards (LPACs) seek a solvency opinion to execute the following:
- Corporate spin-offs and split-offs
- Leveraged dividend recapitalizations or other recapitalization transactions
- Leveraged buyouts
- Special dividends, accelerated stock buybacks and buybacks via self-tender
- Debt refinancings
- Asset sales by financially distressed companies (sometimes required by buyers to protect against unwind)
REASONABLY EQUIVALENT DEBT OPINIONS
Close cousins of solvency opinions, Reasonably Equivalent Value (REV) opinions, also protect against claims of Fraudulent Transfer. Sometimes, a solvency opinion isn’t feasible in the context of an asset sale by a distressed company, even if the sale is in the best interest of stakeholders. However, if “Reasonably Equivalent Value” is received for the assets, the transaction is protected against claims of Fraudulent Transfer. Unlike a solvency opinion, which focuses on what is left in a company after a distribution, REV opinions focus on the value of the assets being sold.
COMMERCIALLY REASONABLE DEBT OPINIONS
Typically requested by tax attorneys or tax departments in connection with cross-border related party debt financing transaction.
RELATED-PARTY CONTRACT OPINIONS
Fairness of the terms of operating or management agreements.
To guard against claims of conflicts in transactions with large contingent M&A fees, boards may seek a second opinion to one given by the primary M&A advisor.
Even if an opinion is not needed, boards and special committees often seek their own independent advisor.