Wachovia and the Issue of Adequate Enforcement of Listing Standards by the Stock Exchange (Part 1)

The WSJ contained a somewhat confusing article indicating that Wachovia would not submit its "deal to be acquired" by Wells Fargo to shareholders "because delaying the transaction to get shareholder approval would seriously jeopardize the financial viability of the bank." The article also noted that the NYSE has approved the decision to cancel the shareholder vote.

The problem with the article is that the "deal to be acquired" is a merger. The merger agreement is here. Neither Wachovia nor the NYSE has the authority to waive shareholder approval of a merger. So what's going on?

It turns out that what Wachovia wanted was to avoid shareholder approval of a lock up option issued to Wells Fargo. Under theShare Exchange Agreement filed on Thursday, Wachovia agreed to issue Class M preferred stock to Wells Fargo representing approximately 40% of the target company's voting power. Under the rules of the NYSE, shareholders must approve the transaction. Rule 312.03(c) provides that shareholders must approve the issuance of 20% or more of the voting power of a company. The rules contain exceptions. Rule 312.05 provides that approval is not necessary where, upon application to the Exchange, the "delay in securing stockholder approval would seriously jeopardize the financial viability of the enterprise" and the decision to invoke the exception has been "expressly approved by the Audit Committee of the Board."

It is this exception that Wachovia is invoking. The Bank filed a current report on Form 8-K on Friday announcing that it would invoke the exception. As the Company explained in a letter to shareholders:

• Simultaneously and in connection with the entry into the Merger Agreement, Wachovia and Wells Fargo also entered into a Share Exchange Agreement (the “Share Exchange Agreement”), pursuant to which Wachovia will issue and sell 10 shares of Series M, Class A Preferred Stock, no par value, of Wachovia, which shares will represent in the aggregate approximately 39.9% of the voting power of Wachovia’s outstanding voting securities after giving effect to the issuance, in exchange for 1,000 shares of Wells Fargo common stock and the entry by Wells Fargo into the Merger Agreement.
  

What was the purpose of the transaction? To lock up the deal for Wells Fargo. As the letter to shareholders explained, "The share issuance and exchange contemplated by the Share Exchange Agreement was a necessary condition to Wachovia’s ability to obtain the benefits of the Merger Agreement, which in turn were essential to maintaining Wachovia’s financial stability."

The letter also explained that there would be no shareholder approval despite the apparent requirements of the NYSE. This was because "the Audit Committee of Wachovia’s Board of Directors unanimously determined that the delay necessary in securing shareholder approval prior to the issuance of the preferred stock to Wells Fargo would seriously jeopardize the financial viability of Wachovia and has expressly approved the reliance by Wachovia on the exception under Para. 312.05 of the NYSE Listed Company Manual." The letter listed various factors that were considered in reaching the decision, "including factors specific to Wachovia, the extraordinary and highly uncertain economic, financial and political environment and the experience of other financial institutions."

Finally, the letter noted that "The Exchange has accepted Wachovia’s application of the exception." It is this last item that requires more consideration. We will discuss this in the next post.