For more than 30 years, Activision Blizzard (“Activision”) and Microsoft Corporation (“Microsoft”) have worked together as strategic partners to further the goals of their businesses, and through this partnership, they’ve created and released some of the most influential videogames in the industry. On January 18th of this year, however, Microsoft and Activision executed an agreement that would transform their partnership into something more—through a $68.7 billion all-cash acquisition agreement, Microsoft has offered to buy Activision. This deal, if successful, represents several novelties in corporate negotiations. It would be: (1) the biggest gaming industry deal in history; (2) Microsoft’s biggest-ever deal, and (3) the largest all-cash acquisition on record, topping Bayer’s $63.9 billion offer for Monsanto in 2016 and InBev’s $60.4 billion bid for Anheuser-Busch in 2008.
Naturally, a deal of this financial magnitude was bound to attract attention. However, this acquisition has been exceptionally controversial because it not only comes following a year of sexual misconduct allegations at Activision, but it will also drastically bolster Microsoft’s influence over the booming gaming industry and the future of the metaverse. As a result, what looked like the deal of a lifetime for executives of both companies has spouted litigation from several different angles. In particular, stockholders of Activision seem to have had enough of Activision’s leadership. On March 3rd, Activision shareholder Kyle Watson became the first of many to file suit against Activision regarding the acquisition. Watson contends that the sale of Activision to Microsoft is “unfair for a number of reasons,” but most importantly, because (1) throughout the sales process, there were several conflicts of interest present that enabled the board to “procure for themselves and senior management . . . significant and immediate benefits,” even if the acquisition was not in the best interest of the company or its shareholders, and (2) the proxy statement given to shareholders to vote on the proposed acquisition was materially misleading, in violation of § 14 of the Securities and Exchange Act, in order to induce shareholders to make an uninformed and biased decision.
[T]his acquisition has been exceptionally controversial because it not only comes following a year of sexual misconduct allegations at Activision, but it will also drastically bolster Microsoft’s influence over the booming gaming industry and the future of the metaverse.
Conflicts of Interest
The suit identified an overarching conflict of interest among high-ranking executives—that as company insiders, the board and senior management would be privileged to compensation opportunities that are not available to public stockholders like Watson. Firstly, these executives have access to a sizeable portion of stock, as well as “company options, restricted stock, and other equity awards” that will all be paid out by Microsoft as part of the merger consideration, although the Proxy Statement does not provide an accounting of how much they will receive. Secondly, some executives have been offered sizeable “golden parachute” severance packages as part of the acquisition deal. These compensation plans provide that if one of these executives is terminated without cause, they will be entitled to significant compensation packages (the highest one totaling nearly $30 million).
However, most disturbing to shareholders appear to be the conflicts of interest involving CEO Bobby Kotick, who still hasn’t escaped the heat from previous Activision sexual assault lawsuits. Even prior to their deal with Microsoft, the board at Activision set up an executive compensation plan that would allow Kotick to receive a $22 million stock bonus if Activision makes “appropriate progress” toward fixing the toxic and dangerous workplace culture at Activision—a problem that Kotick himself is deemed to have fostered. Now, amid stockholders already calling for his resignation, the deal with Microsoft would further grant Kotick a 12-month contract extension beyond its current expiration, as well as a $15 million “golden parachute” should he be fired without cause before those 12 months end.
Materially Misleading Proxy Statement
Moreover, shareholders like Watson are alleging that the proxy statement issued by Activision is “materially misleading and incomplete” in violation of the Securities and Exchange Act of 1934. Specifically, Watson claims that the proxy statement failed to fully and accurately relay information to stockholders regarding the “ad hoc” committee that ran the sales process, the post-transaction employment plans of board members and senior management, and the actual value of Activision’s stock based on expected future revenue streams.
Watson believes that Activision’s board had a duty to (1) create an independent committee of disinterested directors to run the sales process and (2) subsequently convey the acquisition proposal to its shareholders fully and with complete transparency. Watson is seeking a court order for Activision to release a new proxy statement that includes more facts and candor. Should the acquisition go through anyways, shareholders like Watson are looking for rescissory damages (the fair value of their stock at the time of the judgement, which they believe is higher than not only market value, but the premium value Microsoft is paying).
Now, there are certainly some things Activision could have done proactively to avoid this situation and afford them the protection of what is called the “business judgment rule.” The business judgment rule insulates board decisions from judicial review by creating a presumption that they acted in good faith and in the best interest of the company, so long as they were adequately informed. The rule is intended to promote the full and free exercise of managerial power granted to directors, so it is extremely deferential to decisions of the board. When shielded by the business judgment rule, a board may only be found to have breached their duty of care when the plaintiff can show that the board was grossly negligent. However, the business judgment rule is only applicable in situations in which there are no conflicts of interest, or the shareholders receive complete and accurate disclosures of the presence of these conflicts. Here, if Activision had sought to create an independent committee of disinterested directors to oversee the sales process and approve the acquisition, this would have cleansed them of their conflict of interest and opened the door to protection by this rule, but this doesn’t appear to be the case. Nonetheless, if Activision had fully and accurately disclosed its conflicts to its shareholders in the proxy statement, it still might have been cleansed and have been afforded protection via the business judgment rule. Again, according to the shareholders’ allegations, this does not appear to be the case.
So, without the benefit of the business judgment rule, Activision will have to prove that the acquisition was fair. For this, Activision’s best support will likely stem from the fact that Microsoft was paying a large premium for the Activision shares (which the board actually increased via negotiations), and that the shareholder cannot reasonably rely on forward looking financial statements as proof that the shares were worth more than that price. Activision shares at the time were valued at $82.10 per share, and although Microsoft originally offered just $80 per share, Activision’s board insisted that they would not agree to a deal with Microsoft unless the price was at least $95 per share—the price the parties ultimately settled on.
Shareholders like Watson believe, however, that the financial projections of Activision were materially misstated by the board in their proxy statement, and that because of the upcoming release of a few prominent games, Activision shares were actually going to be worth even more than what Microsoft paid for them. If Activision proves that this deal was fair, it will be up to shareholders to rebut this by bringing in expert appraisers who say otherwise.
Moreover, the question remains as to whether the forward-looking statements by the board—correct or not—might be protected by a safe harbor rule. Page 23 of Activision’s proxy statement (hyperlinked above) explains to shareholders that, under the U.S. Private Securities Litigation Reform Act of 1995, a board cannot be liable for forward-looking projections, including future budgets or financial forecasts, so long as they are made in good faith and have a reasonable basis, because there are many factors that could cause actual future events to differ materially from the statements made. Thus, it appears that Activision and its shareholders will be in a fight over fairness. And this is only one of Activision’s battles caused by this acquisition. Many other shareholders have already filed similar suits, and even if the board defeats shareholder claims, several organizations are still calling for the FTC to review this acquisition for antitrust issues. Activision and Microsoft will have a long way to go to make this dream acquisition a concrete reality, but if they are successful, it will certainly have an incredible impact on the future of the technology industry.
Alessandra L. Deiorio
Alessandra is a second-year, first-generation law student from central Florida. She graduated from the University of South Florida in 2019 with degrees in Accounting and Health Sciences. During law school, she has garnered interests in health, intellectual property, and corporate/entertainment law. Along with writing as a staff member for UNC’s Journal of Law and Technology, she is an active member of the Carolina Health Law Organization, Women in Law, Carolina Intellectual Property Law Association, Sports and Entertainment Law Association, and UNC Pro Bono. See the author’s previous blog post here. The author would like to thank Professor Thomas Lee Hazen for his time and advice on this subject.