Click here for answers to the following questions:

1. What duties can experts assist Directors to fulfill?

2. What must a Director do to allow the Director to rely on an expert?

3. What types of experts can Directors rely on?

4. Can Directors delegate their decisions to experts?

5. How should Directors choose a financial advisor?

6. What type of advice should Directors obtain from financial advisors?

7. Is the cost of a Fairness Opinion justified?

8. What does a financial advisor say in a Fairness Opinion?

9. What questions should Directors ask financial advisors and management?

10. How should a financial advisor's advice and Director questions and discussions be documented?

11. Are discussions with financial advisors confidential?

The Directors of a corporation are fiduciaries of the corporation and have a duty of loyalty and a duty of care to the corporation. The duty of loyalty requires Directors to refrain from acting in a way that places their personal interests above those of the corporation or its shareholders. The duty of care requires Directors to:

• act in good faith;
  
• act in the manner the Director reasonably believes to be in the best interest of the corporation;
  
• become sufficiently informed to carry out decision-making and oversight functions; and
  
• exercise the same care that a person in the same position would reasonably believe was to be in the best interests of the corporation under the circumstances.

When the company is being sold, Directors have a duty to obtain a sales price that is fair to the shareholders. Most fairness opinions are delivered by investment bankers in connection with company sales and fairness opinions are often used to document the Board has addressed the fairness issue with shareholders. Fairness opinions, however, only address the financial aspects of the duty of fairness.
Boards of Directors often rely on advice from expert advisors as a tool in fulfilling their duties to shareholders, since some decisions are so complex reasonable people normally seek expert advice.

People often "rely" on many factors in making decisions. In saying Directors are entitled to "rely" on the opinions of experts, however, reliance has a technical meaning. This type of "reliance" means that if the expert's opinion was wrong, someone who sues the Directors cannot use the expert's error against the Directors to prove the Directors failed to fulfill their duties. If Directors are entitled to rely on an expert, the Directors are entitled to assume the expert's opinion is correct.

To achieve this positive result, all the following must be true:

• The Directors used reasonable care in selecting the advisor to determine (i) the advisor's competence and (ii) conflicts do not prevent independent analysis by the advisor.
• The Directors are relying on the advisor only for advice within the scope of the advisor's recognized expertise.
• The Board or management have not placed conditions on the advisor's work, or allowed the advisor to make assumptions, that would so undermine its value it is no longer reasonable to rely on the advice.
• The Directors have taken reasonable care to ensure the advice is based on accurate and complete information.
• The Directors do not know of facts known or unknown to the advisor which might cause the advisor's opinion to change, or to cause a reasonable person not to rely on the advisor's opinion.

Boards of Directors most often rely on the expert advice of investment bankers, accountants and attorneys, but Boards also sometimes rely on the advice of architects, engineers and other experts. In making decisions, Directors are permitted to rely on the advice of experts only in the fields for which the advisor is a recognized expert. The subjects for which members of each profession would traditionally be viewed as experts include the following:

Investment bankers, accountants, and attorneys often provide advice on a broader range of issues than those described above. Members of each profession often develop insights into a wide range of problems as they practice their professions, which they often share with their clients.

Such advice may be useful and valuable, but Board members are not entitled to rely on advice outside the advisor's area of expertise in the same way they are entitled to rely on advice within the advisor's area of expertise. For example, investment bankers sometimes know as much about the legal issues relating to mergers as lawyers do and many lawyers know a lot about valuations, but Directors are not entitled to rely (in the sense described above) on an investment banker for legal advice or a lawyer for valuations, because these are outside their areas of expertise.

Expert advice from experts is usually delivered in the form of an opinion. Investment bankers give fairness opinions in situations where they have determined a transaction or value is fair to the shareholders of the company. Accountants generally give an opinion saying that a company's financial statements "present fairly, in all material respects, the financial position of the company." Accountants also advise companies generally how proposed activities should be treated under Generally Accepted Accounting Principles ("GAAP"). Accountants also provide audit committees with letters suggesting ways to improve company systems and procedures and provide "comfort" letters about the accuracy of disclosures made by companies. Attorney opinions can cover a wide variety of things, from compliance with the terms of company contracts to compliance with federal or state laws or regulations.

Although Directors may rely upon the advice of experts, they cannot delegate their decision-making authority to the expert. Directors cannot defend themselves in a legal action merely by saying the expert told them to do something.

The advice of an expert is rarely the only relevant factor in making a decision. For example, a transaction may be legal, but all legal transactions are not necessarily in the best interest of a company. The Director's job is to determine whether a transaction is in the company's best interest. Ascertaining from a lawyer that the transaction does not violate the law is only one step in the process of the Board determining whether the transaction is in the best interest of the company. Likewise, a transaction may be "fair" from a financial point of view to a company's shareholders, but it may also be in their best interest that the transaction not occur. Expert advisors usually make Directors aware of the distinction between their opinion and the Board's decision.

Consequently, Directors should weigh any expert advice as a factor in making their decision, but should not use the conclusion to dictate their decisions. Accordingly, although requesting an opinion may be useful and advisable in certain transactions, opinions are not a magic shield that insulates directors from claims by shareholders.

Directors should review the opinion, as well as the materials supporting the opinion, and use both as part of each director's decision making process, and not as a replacement for it. In addition to the opinion and backup information, prior to voting directors should obtain and read all reasonably available material information relevant to the decision. A director can only rely on information, opinions, reports and other information prepared or presented by advisors he reasonably believes to be reliable and competent. Obtaining the legal opinion about a merger from a trust and estate lawyer is not likely to produce advice on which the Board can rely. Therefore, the Board should investigate the advisor's experience and ability before retaining the advisor.

The process of choosing and utilizing an expert financial advisor includes the following steps:

• Deciding whether an advisor is needed.
• Choosing the right advisor.
• Deciding what type of advice to purchase.
• Deciding how to use the advice.
• Deciding whether to purchase a fairness or other opinion.
• The following is an example of the questions a Board should consider before relying on the financial advisor as an expert. For purposes of this example, assume the transaction in question is a sale of the corporation.

As a threshold matter, the Board should determine whether it needs a financial advisor. If all of the shareholders are on the Board and the valuation of the company is clear, the services of a financial advisor may not be as helpful to the Board. However, if there is a broader shareholder constituency and the valuation is uncertain, a Board should consider the use of a financial advisor.

Boards should consider whether any shareholders are or will be opposed to the transaction. To the extent the decision to sell the company is likely to be contested later, the Directors should take steps to ensure that they have complied with their duty to sell at a fair price.

After the decision has been made to retain the financial advisor, the Board should select the appropriate advisor among different alternatives to evaluate the proposed transaction. Boards should consider the following questions when deciding which financial advisor to retain:

• Is the transaction within the financial advisor's area of expertise?
  
• What is the reputation of the financial advisor in his industry?
  
• How much experience does the financial advisor have with transactions of this type?
  
• Are the companies for whom the financial advisor previously provided services similar to the company in size, industry, complexity, shareholder base and other important factors ?
  
• Is the price the financial advisor will charge reasonable given the size and complexity of the proposed transaction?

The role of any financial advisor in advising the Board is to assist the Board obtain the best price, to decide among alternatives and to evaluate the fairness of a proposed transaction. This is best achieved by consulting the financial advisor throughout the process of deciding whether to sell the company, identifying potential purchasers, approaching purchasers, negotiating the transaction and getting a summary of the financial advisor's analysis in the form of a book of comparable transactions and valuations, which details the methodology used by the financial advisor to shape the deal and to evaluate alternatives and price.

Although people often focus on the fairness opinion, which comes at the end of a long process, the financial advisor's value to the Board is usually delivered in many installments throughout the process. It is important that Directors obtain expert advice in time to shape their decisions about a transaction. Bringing in a financial advisor after the Board has decided to do the transaction merely to provide a fairness opinion, may leave the Board open to liability.

The advice and materials of the advisor should review and analyze all items germane to the value of the company, including the company's assets, market value, earnings, future prospects and any other elements that affect the intrinsic or inherent value of a company's stock in comparison with other transactions the advisor deems comparable.

If the consideration received in the sale includes securities of the purchaser, the advisor should also value the securities to be received and the risks and potential associated with each potential purchaser's securities. If potential synergies with one purchaser make the securities of that purchaser a better long-term investment, this should also be included in the advisor's analysis. If the advice provided omits any of these elements, the Board should ask why.

If the scope of advice and analysis is not reasonable, the Board should request additional information from the advisor.

Deciding to retain a financial advisor does not necessarily mean the advisor will provide a fairness opinion. In most cases, there is a separate charge for the fairness opinion. Whether a Board should get a fairness opinion depends on many factors, including whether the Board anticipates being challenged about the fairness of the transaction terms to the shareholders, the size and complexity of the transaction and the price of the fairness opinion.

Fairness opinions can be obtained for a wide range of prices. An opinion from a bulge-bracket investment bank that has few carve outs and limitations, may cost $250,000. Alternatively, a quick search on the internet found a valuation service willing to provide a fairness opinion for a flat fee of $3,500.

Since fairness opinions are not required by law, Directors should consider to what extent paying a large fee for a fairness opinion constitutes a waste of corporate assets. To some extent, the Directors face a conflict between paying a large amount to obtain a "bullet proof" fairness opinion that helps to protect the Directors from liability, versus saving money for the shareholders.

Of course, fairness opinions serve purposes other than protecting the Board from liability. For example, they can also be useful in persuading investors to vote to approve a transaction. In certain large transactions the absence of a fairness opinion from a top tier investment bank may cause shareholders to raise questions about the deal.

Many shareholders are fiduciaries. If fairness opinions are normally obtained for this type and size transaction, fiduciaries may worry about their decision being challenged if the Board does not obtain a fairness opinion. Therefore, Directors can invest corporate funds in expensive fairness opinions and still be promoting a corporate purpose.

A fairness opinion is a statement provided to the Board of Directors of a corporation by an independent financial advisor stating that, based upon the analysis of the advisor, the financial terms of a proposed corporate transaction are fair and adequate to the corporation's shareholders from a financial point of view. The general components of a fairness opinion and the purpose each component serves are summarized below.

The purpose of a fairness opinion is fairly clear, but the structure and language of the typical fairness opinion is technical in nature. Fairness opinions generally consist of the following sections:

• Describe the transaction covered.
• Disclose other roles the advisor has played that might conflict with the role of an independent advisor.
• Describe the work performed by the advisor to do the opinion.
• Describe any work not done that may be relevant to the opinion, because of any limitations placed on the scope of the advisor's work or assumptions made for other reasons.
• Substance of the opinion.

Transaction Description

The first paragraph of a fairness opinion typically describes the underlying transaction in detail, identifying material agreements and the amounts to be paid (or exchange ratio for stock transactions). The level of specificity in this paragraph permits the financial advisor issuing the opinion to detail the terms of the transaction about which they are issuing the fairness opinion to ensure that later facts that may surface will not be included in any later review of the adequacy of the opinion.

Explanation of Conflicts

The opinion usually describes the financial advisor's expertise and the existence of any potential conflicts between the advisor and either party to the transaction. The advisor will usually disclose that it is being paid to issue this opinion and the existence of any of the following:

• the receipt by the advisor of a fee for additional services performed in connection with the transaction;
  
• the rendering by the advisor of any services to any party to the transaction in the past, including prior representation of the acquiror;
  
• the fact that the advisor is a market maker in the stock of any party to the contemplated transaction; or
  
• the fact that the advisor may hold long or short positions in the stock of any party to the contemplated transaction.

Scope of Work and Analysis

The fairness opinion usually describes the work the advisor has performed to render its opinion. These may include:

• reviewing public filings of the parties to the transaction;
  
• discussing issues with the management teams of the parties to the transaction;
  
• conducting other due diligence;
  
• reviewing the merger agreement and any other relevant agreements;
  
• participating in negotiations between the parties;
  
• reviewing comparable transactions;
  
• considering alternative transactions; and
  
• generally any other items the advisor deems relevant.

Limitations and Assumptions

The fairness opinion reviews the limitations the advisor places on the opinion. The limitations listed by advisors in fairness opinions usually include:

• that the advisor assumes the accuracy and completeness of all information reviewed;
  
• that they have not independently verified any information reviewed or received;
  
• that the advisor has not appraised or inspected any assets;
  
• that the advisor relied upon the forecasts and projections of the company in preparing its opinion; and
  
• any limitations placed by the company on the advisor's work that may be relevant to understanding the opinion's scope.

These limitations are included to protect the advisor from the company relying on the opinion for matters not reviewed by the advisor.

Opinion Substance

Finally, the actual statement of the advisor's opinion, which is almost universally worded the same way, states that the proposed transaction is "fair, from a financial point of view, on the date of the opinion." The opinion generally will not give any details what the term "fair from a financial point of view" means in the context of the transaction. Rather than placing these financial descriptions in the opinion, an advisor will generally keep the support for their determination in the supporting materials. This unsupported statement of fairness in the opinion meets the needs of directors, because the point of the fairness opinion is to assist directors in meeting their duty, which requires that directors sell the company for a "fair" price.

The advisor will almost always limit the opinion to the date it was issued, and state that only the directors may rely upon it. This protects the advisor if facts change and also restricts the persons who may look to the advisor if the opinion proves incorrect.

The Board should carefully weigh all the information and advice provided by the financial advisor and ask specific questions relating to any assumptions the advisor makes, the information provided by the company to the advisor and whether this information is correct, how the advisor reached valuations, why the advisor thinks these valuation methods are appropriate in this case, what alternatives the advisor considered, and why the advisor ruled out these alternatives, whether the advisor believes additional shopping of the deal or waiting for changed economic conditions would produce a better result and any other factors that would help the Board to evaluate the advice of the advisor.

After the advisor departs from the Board meeting, the Board should discuss the advice given by the advisor. It is useful for the Board to delay approving the transaction so that Directors have sufficient time to analyze all the advice received from the advisor.

A fairness opinion will usually be a more formal statement of the oral advice the bankers gave when they presented the Board with the book of comparable transactions. Many of the questions the Board asked at that time also apply to the fairness opinion. Directors should ask the following questions to determine whether they should rely on the fairness opinion in making their decision about the transaction:

• Did management furnish all facts requested by the advisor or were certain facts not disclosed either to prevent their publication in a public filing or for another reason?
  
• If any facts were missing, were they important enough that the advisor's opinion would have differed had they been provided?
  
• Did the Board or management place any unreasonable restrictions or other limitations on the advisor in preparing the opinion?
  
• In reaching its conclusions what factors did the advisor consider to be most important and does the director agree with the level of importance that factor received in the advisor rendering the opinion?
  
• What assumptions and projections did the advisor make in reaching the conclusion and were they reasonable and in agreement with management's or Board's assumptions and projections?
  

Taking the following actions will assist directors in proving they met their duty of care both in reviewing the opinion and in assisting the advisor in the review of the proposed company action:

• Directors should question management and the expert advisors regarding their advice, rather than relying solely on conclusory statements or reports.
  
• Directors should authenticate the credentials and other statements of advisors, to the extent practicable, to ensure that the proper advisors have been selected.
  
• The Board should circulate agendas, any materials underlying the opinion and other materials for board meetings a sufficient amount of time prior to the Board meeting to give directors an opportunity to become adequately informed.
  
• Directors should carefully read and review documents relating to the proposed company action.
  
• Directors should have active, in-depth discussion at Board meetings.
  
• Where a potential conflict of interest exists, Directors should seek the advice of outside or disinterested Directors who have no interest in the particular matter.
  
• Directors should consult with financial advisors and legal counsel retained by the Board of Directors or Special Committee.

The Board's treatment of the questions and actions above, as well as any additional actions by the Board, should be recorded in the minutes of the company and in other documents. The following actions, taken throughout the process of reviewing the fairness opinion and other aspects of a proposed transaction, will help provide the records necessary to show that a Director, and the Board as a whole, have fulfilled their duties:

• The minutes of the Board should reflect the efforts of the Board and its Directors in evaluating the proposed company action, including detailed reports and resolutions demonstrating that directors reviewed all relevant materials and deliberated before reaching a decision. Individual questions or statements by Directors need not, however, be specified in detail.
  
• Minutes should reflect Board discussions about the transaction early in the decision-making process and throughout the process, not just at the Board meeting at which final approval occurs.
  
• Actual Board meetings are preferable to written consents, because exchanging ideas and opinions with other Board members and management is a major part of fulfilling the Director's duty of care.
  
• The company's legal counsel, and separate outside counsel in certain situations, should review the minutes and written consents of the Board to ensure the deliberations of the Board are recorded accurately.
  
• If the transaction must be approved by the shareholders of a public company, the factors the Directors considered and the relative importance of each factor will be described in the proxy statement for the shareholder meeting. Such factors will also probably be discussed in press releases and analyst conference calls. Documenting the Board's decision-making process should, therefore, be done with a view toward establishing a factual basis for these later statements about the transaction.

No, not in the same sense that discussions with attorneys are protected by a legal privilege. Statements made by financial advisors to the Board and statements made by Directors to financial advisors or in the presence of financial advisors are not protected by the attorney-client privilege, even if the company's attorney or a Director's personal attorney is present in the room when the statements are made.

Directors should, therefore, be very careful about statements made to or in the presence of financial advisors. The most effective form of communication with financial advisors by Directors is to ask questions rather than to made off-the-cuff statements about the transaction.

In some cases, Directors may give a list of questions to one person, often an attorney, to ask the financial advisor. This ensures the questions are asked and limits the chance Directors will make off-the-cuff statements not protected by attorney-client privilege that do not reflect their final decision about the transaction.

After all Directors have completed their questioning, the financial advisor and all people other than Board members and legal counsel, should leave the room while the Directors discuss the transaction. If private discussions among the Board members raise additional questions, the financial advisors should be brought back to answer the questions. The Board should then deliberate again privately before making its decision.