Introduction

The landmark case Unocal Corporation v. Mesa Petroleum Company, decided by the Supreme Court of Delaware on June 10, 1985, addresses pivotal issues in corporate governance, particularly concerning a corporation's right to defend itself against hostile takeover attempts. This case marks a significant precedent in the realm of corporate law by elucidating the boundaries within which a company's board of directors can act to protect the corporate enterprise from perceived threats. The parties involved include Unocal Corporation as the appellant and Mesa Petroleum Company along with its affiliates as the appellees.

At the heart of the controversy was Mesa Petroleum's aggressive two-tier tender offer for Unocal's shares. In response, Unocal's board proposed a selective self-tender offer, excluding Mesa, to counteract the hostile bid. The Court of Chancery granted a preliminary injunction against Unocal's exchange offer, compelling the board to include Mesa in the proposal. Unocal appealed this decision, bringing to the forefront questions about directors' fiduciary duties, the applicability of the business judgment rule, and the legality of selective exchange offers.

Summary of the Judgment

The Supreme Court of Delaware reversed the Court of Chancery's decision, vacating the preliminary injunction against Unocal's selective exchange offer. The Court held that Unocal's board, consisting predominantly of independent directors, acted within its authority and in good faith when it determined that Mesa Petroleum's tender offer was both inadequate and coercive. The Court affirmed that the directors fulfilled their duty to protect the corporate enterprise and that their actions were reasonable in relation to the threat posed by Mesa's proposal.

Key findings include:

• The Unocal board's decision was informed, made in good faith, and aligned with the best interests of the corporation and its shareholders.
• The selective exchange offer, which excluded Mesa, was deemed a reasonable and proportional response to the coercive nature of Mesa's bid.
• The business judgment rule protected the directors' decision, preventing the court from substituting its judgment for that of the board.
• The Court of Chancery erred in applying a blanket rule that prohibited selective exchange offers, as this case presented unique factual circumstances warranting a distinct legal approach.

Analysis

Precedents Cited

The Court extensively referenced prior Delaware cases to frame its decision, including:

• Cheff v. Mathes - Affirmed the board's authority to engage in defensive measures during takeovers.
• Martin v. American Potash Chemical Corp. - Highlighted the importance of directors acting in good faith during corporate defense strategies.
• Sinclair Oil Corp. v. Levien - Emphasized the business judgment rule's protection over directors' decisions based on rational business purposes.
• POGOSTIN v. RICE - Established the applicability of the business judgment rule in takeover contexts.
• Bennett v. Propp - Addressed directors' duty of care in perceiving threats to the corporation.

These precedents collectively reinforced the board's expansive authority under Delaware law to manage the corporation's affairs, including defensive tactics against hostile takeovers, provided such actions are undertaken in good faith and with due care.

Legal Reasoning

The Court's legal reasoning centered on affirming the board's fiduciary duties and the protection afforded by the business judgment rule. The directors were found to have:

• Acted within the scope of their authority under Delaware General Corporation Law (DGCL), specifically sections 8 Del. C. § 141(a) and 8 Del. C. § 160(a).
• Performed a reasonable investigation into the adequacy and coerciveness of Mesa's tender offer.
• Concluded that Mesa's two-tier offer was both inadequate in price and designed to induce shareholders to sell under duress, thereby leveraging a coercive strategy.
• Devised a defensive exchange offer that excluded Mesa, thereby preventing Unocal from being coerced into favoring Mesa at the expense of other shareholders.
• Ensured that the exchange offer provided fair value ($72 per share in subordinated debt securities) to the remaining shareholders, aligning with the principle that minority shareholders should receive equitable treatment.

The Court rejected Mesa's argument that excluding it from the exchange offer constituted discriminatory treatment, noting that the exclusion served a legitimate corporate purpose by preventing the subsidy of Mesa's hostile and coercive bid. Furthermore, the Court held that the business judgment rule applied, shielding the directors' decisions from judicial interference, so long as they were made in good faith, with reasonable investigation, and in the best interests of the corporation.

Impact

This judgment has profound implications for corporate defense strategies against hostile takeovers:

• Affirmation of Defensive Tactics: The decision validates the use of selective self-tender offers as legitimate defensive measures, provided they meet the standards of good faith, reasonableness, and fairness.
• Strengthening the Business Judgment Rule: Reinforces the principle that courts should defer to the informed and candid decisions of corporate boards, especially in complex takeover scenarios.
• Guidance on Selective Repurchases: Clarifies that selective treatment of shareholders is permissible when aimed at protecting the corporate enterprise from coercive threats.
• Fiduciary Duty Emphasis: Highlights the fiduciary duties of directors to act in the best interests of the corporation and its shareholders, extending protection against various forms of takeover threats.
• Influence on Future Cases: Serves as a benchmark for evaluating the legality and appropriateness of various takeover defense mechanisms, influencing how courts assess similar disputes.

Overall, the judgment empowers corporate boards to proactively defend against hostile takeovers using sophisticated financial strategies, while simultaneously ensuring that such actions are consistent with fiduciary responsibilities and equitable treatment of shareholders.

Complex Concepts Simplified

Business Judgment Rule

The business judgment rule is a legal principle that shields corporate directors from liability for decisions that result in harm to the corporation, as long as those decisions are made in good faith, with due care, and in the best interest of the company. Essentially, it prevents courts from second-guessing the business decisions of directors.

Selective Exchange Offer

A selective exchange offer is a strategy used by a corporation to buy back its own shares from shareholders under specific conditions. In this case, Unocal offered to purchase its own stock at a premium price range ($70-$75 per share) but excluded Mesa Petroleum from participating in this exchange. This exclusion aimed to prevent Mesa from benefiting from the company's defensive measures.

Fiduciary Duties

Fiduciary duties are the obligations that corporate directors have to act in the best interests of the corporation and its shareholders. These include the duty of care (making informed decisions) and the duty of loyalty (putting the corporation's interests above personal gains). Breaching these duties can lead to legal consequences for directors.

Hostile Takeover

A hostile takeover occurs when an acquiring company attempts to take control of a target company against the wishes of the target's management and board of directors. This is often attempted through purchasing a significant portion of the target's shares directly from shareholders or via a tender offer.

Greenmail

Greenmail refers to the practice where a corporation purchases its own stock from a hostile bidder at a premium above market value to prevent the takeover. This is often seen as a way for the target company to profit from the threat without making substantial changes to its operations.

Conclusion

The Supreme Court of Delaware's decision in Unocal v. Mesa Petroleum serves as a cornerstone in corporate defense jurisprudence. By upholding Unocal's right to implement a selective exchange offer to counteract Mesa's hostile and coercive tender offer, the Court affirmed the expansive authority of corporate boards under the business judgment rule. This ruling underscores the judiciary's recognition of the nuanced and strategic measures boards may employ to safeguard the corporate enterprise and the interests of its shareholders.

The case delineates the boundaries within which directors can operate, ensuring that their defensive actions are aligned with fiduciary duties and are executed in good faith. Moreover, it provides a framework for evaluating future defensive strategies, balancing corporate autonomy with shareholder protection. The affirmation of Unocal's strategies encourages boards to engage in informed, reasonable, and equitable measures when facing takeover threats, thereby fostering a stable and strategic corporate governance environment.