On April 21, 2010, the Delaware Supreme Court issued an opinion approving the practice of third-party vote buying where economic and voting rights are transferred together, even if bare legal title remains with the seller. See Crown EMAK Partners, LLC v. Kurz
, -- A.2d --, 2010 WL 1610487 (Del. Supr. Apr. 21, 2010). Although the court found that the specific transaction at issue violated the terms of a Restricted Stock Grant Agreement, and the court thus disallowed voting of the purchased shares, the court’s approval of the vote buying transaction, and its emphasis on the importance of maintaining the link between economic and voting rights, may have important implications for hedge funds pursuing activist or merger arbitrage strategies. In particular, the case may further erode the utility of total return equity swaps as a tool for activists and arbitrageurs; as we have reported in previous issues of the Hedge Fund Law Report, the range of circumstances in which total return equity swaps may be used as an effective and tax efficient tool has been narrowed by court cases, IRS action, congressional action and rulemaking by the U.K. FSA. See “District Court Holds that Long Party to Total Return Equity Swap May be Deemed to have Beneficial Ownership of Hedge Shares Held by Swap Counterparty
,” Hedge Fund Law Report, Vol. 1, No. 14 (Jun. 19, 2008); “SEC’s Order in the Perry Case Effectively Creates a Presumption that Beneficial Ownership Acquired as Part of an Activist or Merger Arbitrage Strategy Is Not ‘In the Ordinary Course,’ and thus May Require the Filing of a Schedule 13D
,” Hedge Fund Law Report, Vol. 2, No. 30 (Jul. 29, 2009); “IRS Directive and HIRE Act Undermine Tax Benefits of Total Return Equity Swaps for Offshore Hedge Funds
,” Hedge Fund Law Report, Vol. 3, No. 12 (Mar. 25, 2010); “FSA Publishes Revised Disclosure Rules for Contracts for Difference
,” Hedge Fund Law Report, Vol. 2, No. 12 (Mar. 25, 2009). To illustrate the implications of the EMAK case for hedge funds, this article discusses: the relevant factual background of the case; the Delaware Court of Chancery decision; the Delaware Supreme Court decision and opinion; and the way the case may affect hedge funds in four specific circumstances: (1) third-party vote buying; (2) the purchase of voting rights without economic interests, for example, in connection with a merger arbitrage strategy; (3) the purchase of economic interests without voting rights, for example, in connection with an activist strategy; and (4) international coordination of activist campaigns. In connection with the discussion of merger arbitrage, this article reviews the June 2009 settlement between Perry Corp. and the SEC relating to trading by a Perry fund in shares of Mylan Laboratories Inc. and swaps referencing the shares. And in connection with the discussion of activism, this article refers back to the June 2008 decision of the U.S. District Court for the Southern District of New York in the case in which railroad operator CSX Corporation sued hedge fund managers The Children’s Investment Fund Management (UK) LLP and 3G Capital Partners Ltd. alleging violations of Section 13(d) of the Securities Exchange Act of 1934.