Proof of Fiduciary Duty Neglect Is Key in the Campbell Lawsuit

A lawsuit challenging the 1998 spin-off of Vlasic Foods International Inc. by Campbell Soup Co. is giving the m&a legal community a chance to examine how much liability a parent should bear when its offspring goes belly up. Vlasic was spun off by Campbell in March 1998. It filed for bankruptcy 34 months later in January 2002. The North American assets of Vlasic were bought out of Chapter 11 by Hicks, Muse, Tate & Furst in May 2001. A creditors group, represented by the Houston-based law firm of Andrews & Kurth, filed suit in the U.S. District Court in Delaware in February. The action challenges the legitimacy of the spin-off. It charges that Campbell’s motivation in the spin-off was to unload problem businesses. The soup company is accused of transferring excessive amounts of debt into the new company and manipulating the financial results and projections of Vlasic’s companies. “Campbell knew well before the spin-off closed that Vlasic was careening toward a default and would likely end up in liquidation, but refused to put the brakes on its $600 million payday,” said Andrews & Kurth’s lead attorney on the case, John Lee. The complainant also alleges that Campbell concocted an excessive tax basis in the spun-off companies by assigning them fair market values that were hundreds of millions of dollars more than what Campbell had previously valued the businesses at. It further argued that each of the businesses to be discarded had nothing to do with the others. It said that the brands represented in the dispersal, such as Swift, Vlasic Farms, and Kattus, represented failed attempts by Campbell to achieve earnings growth through vertical integration. The complaint stated that the absence of any fairness opinion and the fact that the company to be spun off had no independent financial adviser or other professionals representing it doomed its prospects. It also alleges that Vlasic had only directors and officers selected by Campbell under the parent’s control. Campbell has said that at the time of the spin-off “Vlasic was a sound business both operationally and financially.” Ruairi O’Neil, a food industry analyst at PNC Advisors, notes that although the spin-off was approved by regulators at the time, it did consist of a diverse collection of brands, which made it tougher to survive. Corporate finance expert Eric Simonson, a partner at the law firm of Kaye Scholer in New York, says that in order for a spin-off to be characterized as a fraudulent conveyance – and, hence, illegal – a high burden of proof must be met by plaintiffs. He says that they must prove that on a balance-sheet basis, the new company was undercapitalized. He points to examples in the technology sector where companies were spun off without sufficient capital to meet their “cash-burn” rates for more than a few months. “If you have a situation where a company burns cash faster than it can balance that with earnings, it might be a fraudulent conveyance, and the creditors could have an argument,” he asserts. To prevail in this kind of suit, Simonson says that the plaintiffs would have to prove that the parent’s board of directors had violated their fiduciary duties to shareholders. They would have to show that in making the decision to spin off the business, the board was not acting in the best interests of the former unit. Simonson notes that another test that might be applied in judging the fairness of a spin-off is how long it took for the company to fail. The court will undoubtedly evaluate the nearly three years that Vlasic was in existence as part of its determination about whether the spin-off was properly constructed.