Judge orders trial in HP-Compaq merger lawsuit

In a potentially huge blow to HP's plans to merge with Compaq, a Delaware state judge ruled that HP board member Walter Hewlett should be able to challenge the legality of HP's expected narrow victory in the March 19 shareholder vote on the merger.

The ruling by Delaware Chancery Court Judge William Chandler III, means that HP and Compaq will have to put the merger on hold until a trial has been held on April 23 and a verdict announced shortly thereafter. Under US laws, the two companies will have to continue to operate as competitors until their merger has cleared this latest legal hurdle. A verdict in favor of Hewlett could torpedo the entire merger.

Hewlett, eldest son of the late company founder William Hewlett, had filed the lawsuit claiming HP had strong-armed Deutsche Bank, a key shareholder with 25 million HP shares, into switching its vote by threatening to stop doing any further business with the bank. Hewlett also charges that HP had withheld key negative financial information from investors that may have caused some to switch their vote to opposing the merger.

In a 28-page decision, Chandler said that Hewlett's allegations were sufficient reasons to merit a trial. "Hewlett stated a cognizable vote-buying claim that HP management tipped the balance in its favor by using corporate assets. Hewlett and his allies are entitled to a judicial determination of the validity of certain votes cast at HP's March 19 stockholder meeting," Chandler wrote.

In an indication that HP may face the possibility of the shareholder vote being canceled by the court, Chandler wrote that, "Hewlett's assumption that HP's management essentially bought votes in favor of the merger, in my opinion, that is an improper use of corporate assets by a board to interfere with the shareholder franchise."

Chandler also made it clear that there appeared to be strong evidence of vote tempering. "Initially, I believe the facts as alleged in the complaint support a reasonable inference that the switch of Deutsche Bank's vote of 17 million shares to favor the merger was the result of the enticement or coercion of Deutsche Bank by HP management."

Regarding the second claim, Chandler said that, "Under Delaware law, a participant in a proxy contest may not lie and then obtain protection by describing that lie as a forward-looking statement."

The Judge, however, cautioned that Hewlett faces a significant burden to present his evidence that Deutsche Bank was coerced by HP management into voting for the merger. The official vote count from the shareholder election are expected to be announced in about two weeks. But HP has claimed a victory by less than one percent of the vote. The Deutsche Bank vote would have swung the outcome the other way. The bank's proxy committee had voted against the merger. But one day before the vote, HP executives allegedly told the bank that if they did not change their vote, HP would stop doing further business with the bank.

Hewlett said he was pleased with the initial legal victory. "We are pleased with the court's decision to deny the motion to dismiss and are grateful that the court took up this issue on such short notice," said Hewlett's 

While disappointed, HP officials said they are confident the merger will be allowed to move forward once the facts have been presented in trial. "We respect the chancellor's decision to hear the evidence on the issues that have been raised. We remain confident, particularly based on the arguments presented, that once the facts are heard, we will prevail," the HP statement read.