Canadian Court of Appeal halts ExxonMobil acquisition of InterOil
The founder and former chairman and chief executive of InterOil Corp. (InterOil), Phil Mulacek, said today that a three judge panel of the Court of Appeal for Yukon, Canada, has unanimously determined not to approve the proposed plan of arrangement by ExxonMobil Corp. (ExxonMobil) to acquire all of the shares of InterOil (Exxon Proposal). In its decision handed down on Friday, November 4, 2016, the appeal Court overturned a ruling by the Yukon Supreme Court last month that had approved the Exxon Proposal. Unless the Supreme Court of Canada agrees to hear any appeal, the Exxon Proposal cannot be completed in its current form.
"In its ruling, the Court of Appeal agreed with us, and also with the earlier Supreme Court ruling, that the process undertaken by the InterOil Board in considering and recommending the Exxon Proposal demonstrated flawed corporate governance and inadequate disclosure," Mr. Mulacek said. Despite this finding, the Supreme Court concluded that the Exxon Proposal was fair and reasonable, largely based on an uninformed shareholder vote of approval at a recent shareholder meeting. "We argued to the Court of Appeal that these flaws seriously undermined both the shareholder approval and overall fairness of the Exxon Proposal, and the appeal Court agreed," Mr. Mulacek said.
"In view of InterOil's flawed process and lack of disclosure contained in a fairness opinion issued by investment banker and financial adviser Morgan Stanley and relied on by the InterOil Board in recommending the Exxon Proposal to shareholders, the Court of Appeal viewed the shareholder vote as uninformed and so could not be relied on by the Supreme Court as a basis to approve the Exxon Proposal," Mr. Mulacek said. The Court of Appeal found that InterOil did not establish that the Exxon Proposal was fair and reasonable to shareholders.
"In its earlier ruling, the Supreme Court stated that InterOil board may have breached its fiduciary duties in approving the Exxon Proposal," Mr. Mulacek said. The judge in the Supreme Court noted the very limited information contained in the Morgan Stanley fairness opinion (the "MS Fairness Opinion"), which stated that the Exxon Proposal was "fair, from a financial point of view," to InterOil shareholders. The Supreme Court judge found that the MS Fairness Opinion was relied on by the board and "no doubt, the shareholders," but was "deficient and indicative of a failure to discharge its fiduciary obligations" in a number of ways, including:
- it failed to address the value of the Elk-Antelope asset and the impact of the cap on the "contingent resource payment" (CRP) so that shareholders could consider whether the Exxon Proposal reflected that value; and
- it failed to disclose the details of Morgan Stanley's success compensation so that shareholders could evaluate whether the MS Fairness Opinion was influenced by the terms of the compensation; and
- it failed to provide the shareholders with an independent financial fairness opinion on a flat fee basis, particularly where the CEO had a financial incentive for the Exxon Proposal to proceed. The Supreme Court went on to note that the MS Fairness Opinion was also "remarkably deficient" in the following ways:
- it contained no reference to the specific documents reviewed;
- it contained no facts or information to indicate what the opinion was based on; and
- it contained no analysis of the facts or sufficient information so that a shareholder could fairly consider the merits of the Exxon Proposal.
"As the Supreme Court itself noted, 'a fairness opinion that simply follows the direction of the board and is based on a success fee does not meet the standard of good corporate governance,'" Mr. Mulacek said. Both Courts were also concerned that InterOil failed to provide the shareholders with an independent financial fairness opinion prepared on a flat fee basis and which also included full and transparent details of their analysis of value. This was particularly important, in the Courts' view, since the CEO of InterOil (Mr. Michael Hession) has a personal financial incentive of more than $32 M for the Exxon Proposal to proceed.
Both courts relied on the expert evidence filed by Mr. Mulacek including the opinion of Paradigm Capital, one of Canada's leading investment banks in the resource industry, that the consideration offered to shareholders of InterOil pursuant to the Exxon Proposal is inadequate, from a financial point of view and the expert opinion of Peter Dey, one of Canada's leading experts on corporate governance, that the corporate process followed by InterOil was flawed and deficient. Paradigm applied value multiples from similar recent transactions to estimates of InterOil's net asset value and total 2C resources, and concluded that the Exxon Proposal significantly undervalued InterOil.
Commenting on the valuation issue, Mr. Mulacek noted that ExxonMobil recently announced that it would write down reserves by about 4.6 billion barrels of oil equivalent ("boe"), leaving the company with about 20 billion boe of reserves and a current market capitalization of about US$350 billion. "By comparison, the Elk and Antelope fields could hold up to 2 billion boe, or about 10% of the total current ExxonMobil reserves. All we requested was that the Exxon Proposal should fairly reflect the value of this resource, and we would have fully supported the IOC proposed sale," Mr. Mulacek said.
In his expert opinion, Mr. Dey stated that, among other things, the Board "should have satisfied the highest standards of corporate governance given the transformational nature" of the Exxon Proposal. In his view, however, the Board did not meet its obligations. "What started as a proactive process to sell certain assets of the company evolved into a reactive sale of the company. It is as though the Board lost control of the process," Mr. Dey wrote. He went on to criticize the InterOil Board subcommittee that reviewed the Exxon Proposal for not having a sufficiently vigorous or independent process. Finally, given the significant personal financial incentives for management and the board to approve a sale, Mr. Dey said the Board should have obtained independent advice in the form of a second financial fairness opinion. "A board engaged in a proper and robust review and consideration of a proposed transformative transaction should have obtained independent advice on the value of the CRP, the Elk-Antelope asset, and the impact of the cap on the CRP" to provide "necessary reassurance to shareholders of the financial fairness (or unfairness) of the Transaction," according to Mr. Dey.
"The Court of Appeal decision is a condemnation of the culture of poor governance by the board of directors and management of InterOil at the expense of shareholders," Mr. Mulacek said. "Current corporate governance at InterOil is among the worst in the industry, in my view, and must be greatly improved going forward to preserve shareholder value. As we pointed out in our press release and public presentation on the Exxon Proposal on July 25, 2016, the current InterOil board and management:
- are deeply conflicted and have taken tens of millions of dollars in abusive compensation and stock benefits that are far above market for comparable companies;
- have wasted hundreds of millions of dollars of cash in failed drilling efforts due to lack of technical competence and experience; and
- have lost billions of dollars in long-term value for InterOil shareholders by failing to drive value-accretive transactions for shareholders that should be available at the bottom of the oil price cycle."
"There is no alignment at all between shareholders and the negligent and deeply flawed management of InterOil, which lost control of its own process and was apparently willing to do almost any deal, even if its deprived InterOil shareholders of the long-term benefits of the Elk-Antelope development," Mr. Mulacek said.
Mr. Mulacek said he remains disappointed that the InterOil board and management chose not to cooperate with him in the past and that InterOil continues to be dismissive of his concerns regarding the Exxon Proposal. He also has serious concerns regarding the failure of InterOil to disclose to shareholders the findings of both courts regarding the deficiencies in corporate governance and shareholder disclosures relating to the Exxon Proposal.
Concluding his remarks, Mr. Mulacek said that he is not opposed to a sale of InterOil to ExxonMobil on fair terms. "InterOil has a vast long-term upside. ExxonMobil is an excellent company with a proven LNG track record in Papua New Guinea, and would be a good partner in development of the Elk and Antelope fields and in working with InterOil's other license assets. Now that the Court of Appeal has spoken, we are open to any productive dialogue with ExxonMobil to create a fair transaction that reflects the long term value of InterOil and provides a solid return for ExxonMobil."
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