Notice about a Securities and Exchange Commission investigation into possible violations at a company usually sends shudders through management. But that may not be the case in a nasty fight between the activist investor Carl C. Icahn and Wachtell, Lipton, Rosen & Katz, the New York law firm, which has established a reputation for resisting hostile takeovers and proxy solicitations.
A filing last week in Federal District Court in Manhattan made as part of a legal malpractice lawsuit by CVR Energy, which Mr. Icahn acquired in 2012, against Wachtell Lipton states that the S.E.C. has expanded an investigation into the company’s disclosures about the fees it paid to investment banks during his tender offer. Disclosing the investigation raises the stakes in the litigation by letting Mr. Icahn point the finger at Wachtell Lipton, an old nemesis from other takeover battles.
CVR Energy, which has oil refining and fertilizer manufacturing operations, contends the law firm gave faulty advice that led to inadequate disclosures. The company has asked the district court to allow it to file an amended complaint to add the information about the S.E.C.’s inquiry, which will involve depositions of current and former directors and officers. What makes the investigation potentially helpful is that it can buttress CVR’s accusation that Wachtell Lipton did not adequately protect its client’s interests when it helped retain Goldman Sachs and Deutsche Bank as the financial advisers on the deal.
The roots of the lawsuit date to Mr. Icahn’s acquisition of CVR. After buying a large stake in the company and agitating for a sale, he made a tender offer for $30 a share. The company hired Wachtell Lipton to fight that offer, and its initial response was to reject Mr. Icahn’s bid as “inadequate and not in the best interests of its stockholders.” On the law firm’s recommendation, CVR hired Goldman and Deutsche Bank to aid in defending against Mr. Icahn.
Just two months later, the company changed its position once it became clear that a majority of the shareholders would accept Mr. Icahn’s offer. Unlike many such fights, no competing offers were made for CVR, nor even a small bump in the price that is often seen after resisting an offer.
At that point, one would expect everyone to walk away happy, with the advisers enjoying their fees and Mr. Icahn adding to his stable of companies. But life in the deal world is never quite so simple, especially given the long history of acrimony between Mr. Icahn and Wachtell Lipton, which includes more recent battles over Clorox and Dell.
CVR’s agreements with Goldman and Deutsche Bank called for each firm to receive $9 million if the defense against Mr. Icahn’s hostile offer succeeded. But each would receive a percentage of the company’s value, about $18 million, if it were sold. That included receiving the higher fee even if Mr. Icahn’s offer were accepted without any increase in the price.
When Mr. Icahn completed the deal and learned that Goldman and Deutsche Bank received more money for helping sell the company than fighting his offer, he refused to allow CVR to make the payments. The two investment banks sued in New York State court to recover their fees and won in September 2014. CVR has appealed that decision.
Meanwhile, another front in the battle was opened in October 2013 when CVR sued Wachtell Lipton in Federal District Court, accusing it of malpractice for not fully explaining the fee arrangements that would require it to pay more for accepting a bid that was already on the table. The law firm responded by filing its own action in New York State court, accusing CVR of the misuse of confidential documents and of abuse of process. Wachtell Lipton’s complaint used especially pointed language in assailing Mr. Icahn, accusing him of engaging in “a scare tactic” that “takes his bullying campaign to a new level, seeking to intimidate lawyers who help clients resist his demands by making wild allegations and threatening liability.”
The litigation is all the more unusual because legal malpractice claims can be filed only by a client, and it is hard to imagine Mr. Icahn would ever retain Wachtell Lipton to represent him. But in this case, the client is CVR, and his control of the company — Mr. Icahn now has 82 percent of its shares — lets him pursue claims against its former lawyers even though he was once on the opposite side.
Proving malpractice requires showing that the legal advice was faulty and harmed the client. That might have been difficult because CVR’s board eventually favored Mr. Icahn’s bid, which provided a premium to shareholders, so the fee arrangement with the investment banks might not have hurt the company. The complaint focused instead on recovering $6 million in legal fees paid to Wachtell Lipton for recommending agreements that contained what CVR called a “perverse incentive” for the investment banks.
This is where the S.E.C.’s investigation may help the company demonstrate that it was harmed. In its filings in 2012 related to the tender offer, CVR disclosed that it “has agreed to pay customary compensation” to Goldman and Deutsche Bank. Among the issues the S.E.C. may be looking at are whether a fee agreement that provided a higher payment for selling the company, including a sale to the original bidder, was indeed “customary,” and whether that term might be so vague as to mislead investors.
In any tender offer, it is important for shareholders to determine whether the target company intends to fight or only wants to buy time to negotiate a sale at a higher price. Defensive tactics like the poison pill, which was pioneered by Wachtell Lipton, can effectively thwart almost any hostile bid. Knowing that a higher fee will be paid for a sale could influence whether shareholders keep their shares to see whether the company will agree to an acquisition or sell them immediately to avoid a drop in price if defensive measures thwart an offer.
That seems to fit within the usual definition of “material” information, which was described by the Supreme Court in TSC Industries v. Northway as something that “would have been viewed by the reasonable investor as having significantly altered the total mix of information made available.”
Whether the S.E.C. will determine that CVR’s filings were misleading remains to be seen. The agency has shown an interest in whether investors are receiving enough information about fee arrangements, particularly when that money comes out of their pockets. It could use this investigation as a vehicle to send a message to companies to give out more information about how their advisers are compensated, especially in hostile offers, that goes beyond boilerplate statements that any arrangements are “customary” without explaining what that means.
For CVR, the investigation will not be pleasant as the S.E.C. digs through the company to determine whether it complied with the securities disclosure requirements. But that may also help it show Wachtell Lipton failed to protect CVR, opening up a new line of attack for Mr. Icahn in his highly contentious battle with an old nemesis.