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July 05, 2017 12:00 AM

The rising price of dealmaking

Brigid Sweeney
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    deals

    As healthcare companies rush to bulk up via mergers and acquisitions, they're almost always hit with shareholder lawsuits. Now that Walgreens has given up on its efforts to buy rival drugstore chain Rite Aid, it should ready itself for membership in the growing club of defendants.

    What it can also expect: little material impact in damages, though only after spending money on litigation lawyers.

    Because Walgreens' deal was stymied by antitrust regulators rather than by management's cold feet, it's less vulnerable to angry investors, says Kevin LaCroix, an attorney and executive vice president at R-T ProExec in Beachwood, Ohio, which focuses on management liability. Nonetheless, "never underestimate the creativity of the claims warriors," he says. "There are always investors who are disappointed the deal didn't go through, and there are always lawyers willing to work with them."

    These shareholder lawsuits are based on a U.S. Securities & Exchange Commission rule that prohibits any act or omission that results in fraud or deceit related to the sale or purchase of a security—in other words duping investors into thinking their stock was worth more than it turned out to be. In order to move forward, such cases "must establish, among other things, a material misrepresentation or omission and a wrongful state of mind, meaning conscious misconduct or severe recklessness," says Michael Lohnes, a partner in the Chicago office of Katten Muchin Rosenman.

    Walgreens Boots Alliance CEO Stefano Pessina repeatedly voiced confidence behind his plan, originally worth $9.4 billion, to acquire Rite Aid and surpass CVS as the nation's biggest drugstore company. Even as the regulatory process dragged on and the Federal Trade Commission pressured Walgreens to agree to sell off more Rite Aid locations to reduce its marketplace clout, Pessina said he was "still optimistic" as recently as April.

    Still, successful investor lawsuits show that "a deal fails for reasons that, in retrospect, people argue should have been clear from the beginning," says Mickey Raup, a Washington, D.C.-based attorney at Polsinelli. "Occasionally, you hear of a deal that's so obviously anti-competitive it never should have gotten out of the boardroom. I don't expect to hear those arguments about Walgreens." The company declines to comment.

    The question of whether the government would permit the Walgreens-Rite Aid deal was hotly contested from the day it was announced in October 2015, making it harder for a plaintiff to argue that Walgreens behaved recklessly or deceptively in pursuing it.

    Shareholders also sue over the breakup fee that spurned buyers customarily pay their targets when an acquisition fails. Deerfield-based Walgreens will shell out $325 million to Rite Aid, which is based in Camp Hill, Pa. Salvaging what it could, Walgreens said on June 29 that it also is buying 2,186 Rite Aid stores—roughly half its locations—for $5.18 billion in cash.

    Regardless of whether shareholders have a good argument, lawsuits seem inevitable, based on litigation trends. Last year, filings in federal securities class-action lawsuits rose to the highest level in two decades, according to consulting firm Cornerstone Research. Shareholders made 270 filings in 2016—a 43 percent year-over-year increase—largely related to mergers and acquisitions. What's more, the number of filings against biotechnology, pharmaceutical and health care firms increased 86 percent last year, to 80, according to Cornerstone.

    Dealmakers get sued at both ends. Investors in target companies typically sue at the beginning, alleging the proposed takeover is bad for them. Then, if the tie-up unravels, the acquiring companies get hit for not delivering the goods.

    That's what's happening to the parties in two recently thwarted health insurance megamergers. Before their $54 billion deal fell apart in February, Cigna in 2015 settled six class-action lawsuits alleging that it had shortchanged investors by agreeing to be acquired by Anthem. Meanwhile, Humana also agreed to settle similar lawsuits related to its proposed $37 billion merger with Aetna before the deal was rejected by federal regulators in January. Now Aetna faces a class-action suit by shareholders upset by the company's falling stock price.

    North Chicago-based AbbVie has been dogged by lawsuits since it called off its $55 billion union with Irish drugmaker Shire back in 2014. Most recently, ODS Capital, a Shire shareholder in Jupiter, Fla., sued AbbVie in June in Cook County Circuit Court for walking away from the deal after the Obama administration quashed some of the benefits of so-called tax inversions that allow U.S. companies to legally change their headquarters to a lower-tax nation.

    As part of the deal, AbbVie wanted to reincorporate in Jersey, one of the Channel Islands off the French coast of Normandy, where Shire is registered (though it operates from Dublin).

    The complaint alleges that AbbVie CEO Richard Gonzalez repeatedly denied that tax benefits were the main motivation behind the merger but then dropped the deal immediately after the federal government moved to crack down on corporate inversions.

    An Illinois judge dismissed a separate proposed class action by Shire shareholders last year, saying that the plaintiffs did not show that AbbVie had misled Shire investors. But in March, the same judge let another suit continue, finding that a letter from Gonzalez to shareholders could be construed as reckless. In May, AbbVie's own shareholders sued the company in Delaware, where it's incorporated.

    "Generally speaking, these shareholder suits tend not to be a material event," says Damien Conover, an analyst at Morningstar who follows AbbVie. The litigation "is not something we're factoring in."

    Walgreens undoubtedly is hoping for a similar assessment.

    "The​ rising​ price​ of​ dealmaking"​ originally​ appeared​ in​ Crain's​ Chicago​ Business.

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