Conflicts of Interest in the News: A transaction “tainted by disloyalty”?

An earlier post described a lawsuit brought by shareholders of El Paso Corp. seeking to block an acquisition of that company by Kinder Morgan due to claimed COIs on the part of Goldman Sachs, which advised  El Paso on the transaction, and that company’s CEO.  Last week, the judge – Leo Strine of the Delaware Chancery Court  – refused to issue the requested injunction (a ruling that was expected – given the absence of a competing offer for El Paso), but also had harsh words for Goldman and the CEO, and left open the possibility of a claim for damages against them.

As described in these articles in the NY Times, Bloomberg, and the Wall Street Journal,  (which I draw from since the opinion itself hasn’t, as of this writing, been posted on the Court’s web site):

– The Court found that Goldman was clearly conflicted because at the time it advised El Paso in the negotiations with Kinder Morgan its private equity arm also owned  more than 19 percent of the latter company (and had two appointees on its board).  As noted in the Times piece, the court found that Goldman was not “capable of ignoring its $4 billion investment” in connection with providing this advice: “Goldman was fighting for every dollar, securing a $20 million fee for advising El Paso on the sale…if Goldman was so greedy for $20 million, it surely would be for $4 billion.”

– “While Morgan Stanley was hired as a second adviser to El Paso because of this conflict, [the judge noted that] Goldman also arranged the ‘remarkable feat’ of limiting the scope of Morgan Stanley’s engagement so that it got paid only if El Paso was sold but not if El Paso decided to engage in an alternative”  transaction.  In other words, the attempt to mitigate the COI was structurally defective (and, in my view, could be seen more as a proof of the COI than meaningful mitigation).  Moreover, as noted in the Bloomberg story, “Goldman Sachs was able to ‘exert influence’ on the sale to Kinder Morgan because the investment bank continued to advise on the [alternative transaction]. Goldman Sachs’s conflict was ‘real and potent, not merely potential,’ the judge wrote.”

– El Paso’s CEO – who had told Kinder Morgan, but not his own board, that he hoped to buy El Paso’s pipeline business from Kinder Morgan once the transaction was consummated – “inexplicably caved in to Kinder Morgan” in agreeing to the price of the transaction.  As described in the Times, the CEO “was supposed to be getting the maximum price for El Paso out of Kinder Morgan. Instead, [the judge] observed that [he] appeared more interested in currying Kinder Morgan’s favor in order to make this subsequent purchase.”

Although, as noted above, the judge denied the request for an injunction, the shareholders can still seek monetary damages if they can prove the transaction was “tainted by disloyalty,” which parts of the judge’s opinion certainly seem to suggest occurred.  And, the Times piece concludes that in light of two other recent cases involving claimed COIs by Goldman: “[I]t is hard to see why Goldman Sachs was willing to risk its reputation again for a $20 million fee.  While it will continue to dispute these facts and its liability exposure is limited [due to an indemnity], Goldman is most likely the biggest loser because of its continuing self-inflicted … reputational wounds. This is another black eye.”  Finally, the bank’s COI-related troubles are still not completely behind it: in addition to the continuation of the El Paso case, Goldman Sachs faces a lawsuit filed two weeks ago based on claimed COIs in another (completely unrelated) transaction.