Delaware Quarterly
July 2012
Recent Developments in Delaware Business and Securities Law The Delaware Supreme Court and Delaware Court of Chancery are generally regarded as the country’s premier business courts, and their decisions carry significant influence over matters of corporate law throughout the country, both because of the courts’ reputation for unsurpassed expertise in the field and because the vast majority of public companies in the United States are incorporated in Delaware and governed by its substantive law. Accordingly, Delaware’s corporate jurisprudence provides critical guidance to corporations, alternative entities and practitioners in evaluating corporate governance issues and related matters.
Volume 1, Number 1
DQ Highlights Delaware Quarterly: April–June 2012������������� 2 Derivative Standing In The Wake Of Rule 23.1 Dismissal: LAMPERS v. Pyott ���������������������������� 3 Scope Of Confidentiality Agreements In The Hostile Takeover Context: Martin Marietta v. Vulcan���������������������������������������������������������������������� 7 Additional Developments In Delaware Business And Securities Law����������������������������11 Advance Notice Bylaws...................................11
Each calendar quarter, the Delaware Quarterly analyzes and summarizes
Alternative Entities..........................................11
key decisions of the Delaware courts on corporate and commercial issues,
Appraisal Proceedings...................................13
along with other significant developments in Delaware corporate law.
Attorneys’ Fees................................................13
The Delaware Quarterly is a source of general information for clients and friends of Winston & Strawn LLP, which is also contemporaneously published in the Bank and Corporate Governance Law Reporter. It should
Books And Records Actions.........................14 Contract Interpretation ................................15 Controlling Stockholder Transactions.......16
not be construed as legal advice or the opinion of the Firm. For further
Director Removal Under Delaware Law ���17
information about this edition of the Delaware Quarterly, readers may
Discovery Disputes.........................................17
contact the Editors, the Authors, or any member of the Advisory Board
Duty Of Loyalty Claims..................................17
listed at the end of this publication, as well as their regular Winston &
Non-Disclosure Agreements........................17
Strawn contact.
Practice & Procedure ....................................18 Remedies ........................................................ 20 Reviewability Of Arbitral Decision.............21 Revlon Duties....................................................21 EDITORS
Jonathan W. Miller
[email protected] +1 (212) 294-4626
James P. Smith III
[email protected] +1 (212) 294-4633
Selection Of Class Counsel......................... 22 Matthew L. DiRisio
[email protected] +1 (212) 294-4686
Settlements...................................................... 22 Contacts���������������������������������������������������������������23
Delaware Quarterly
Delaware Quarterly: April–June 2012 By Jonathan W. Miller, Matthew L. DiRisio, Jill K. Freedman, Ali R. Rabbani, Ian C. Eisner, Anthony J. Ford and George W. Mustes In a typically prolific quarter for the Delaware courts, two opinions from the Court of Chancery stand out as potential game-changers on the corporate governance landscape. In Louisiana Municipal Police Employees’ Retirement System v. Pyott,(1) Vice Chancellor Laster declined to dismiss derivative claims against the directors of Allergan, Inc. for breaching their fiduciary duty of oversight – itself a notable development given the stringent pleading burdens historically applied to so-called “Caremark claims”(2) – by allegedly approving business plans that contemplated (and countenanced) illegal marketing activities relating to Botox, the Company’s key product. In so doing, the Court held – notwithstanding a substantial body of contrary authority – that the dismissal of a derivative action for failure to plead demand futility under Fed. R. Civ. P. 23.1 does not preclude a subsequent derivative action based on the same conduct if the later-filed suit is brought by a different shareholder, because the two plaintiffs are not in “privity” under Delaware law. Moreover, consistent with its repeated exhortations that representative plaintiffs exercise their right to inspect relevant corporate documents under 8 Del. C. § 220 – and thereby allow their counsel to more thoroughly assess potential director wrongdoing and/or liability – rather than filing knee-jerk derivative claims based solely on the public disclosure of some corporate “trauma,” the Court implemented a so-called “fast-filing presumption” that stockholder plaintiffs who file such suits before conducting a meaningful investigation into the underlying events – i.e., making a Section 220 demand – do not provide “adequate representation” to the company for purposes of Rule 23.1. In another much-publicized decision this quarter, Chancellor Strine’s post-trial opinion in Martin Marietta Materials, Inc. v. Vulcan Materials Co.(3) enjoined Martin Marietta Materials, Inc. from pursuing an unsolicited exchange offer to acquire Vulcan Materials Co. (and a related proxy contest seeking to nominate a competing slate of sympathetic directors to 1. 2. 3.
C.A. No. 5795-VCL, 2012 WL 2087205 (Del. Ch. June 11, 2012). In re Caremark Int’l Deriv. Litig, 698 A.2d 959 (Del. Ch. 1996). C.A. No. 7102-CS, 2012 WL 1605146 (Del. Ch. May 4, 2012).
Winston & Strawn LLP | 2 Vulcan’s board) for a period of four months after finding that Martin Marietta had wrongfully used Vulcan’s confidential information in launching the attempted takeover, in breach of confidentiality agreements previously entered into by the parties in connection with a possible friendly merger. While neither of the agreements at issue contained a standstill provision prohibiting the parties from acquiring or seeking to acquire stock in the other, each contained so-called “use” provisions governing the use and disclosure of the parties’ respective confidential information. Finding ambiguity in most of the relevant provisions, the Court relied in large part on extrinsic evidence showing that each side consciously sought to insulate itself from a hostile overture by the other at the time of contracting. Accordingly, the Chancellor concluded that, notwithstanding the absence of a formal standstill, the parties intended to exclude an uninvited tender offer from the permissible uses of confidential information set forth in the agreements. Thus, held the Court, Martin Marietta “thoroughly breached”(4) the non-disclosure agreements by (i) using confidential information to launch its hostile bid and (ii) disclosing confidential information in related public filings and other communications with the press and investors. In granting the four-month injunction, the Court emphasized the parties’ stipulation in the nondisclosure agreements that a breach would cause irreparable harm not remediable by money damages, and found that a balance of the equities favored enforcement of those provisions. These decisions are discussed in greater detail below, followed by synopses of other recent decisions issued by the Delaware courts across a broad range of corporate governance topics, including: advance notice bylaws; various issues involving alternative entities; appraisal proceedings; awards of attorneys’ fees; books and records actions; contract interpretation; controlling stockholder transactions; director removal; fiduciary duties under the Revlon standard; issues of Delaware practice and procedure; remedies available under Delaware law; selection of class counsel; and the enforcement of settlement agreements and arbitral decisions.
4.
Id. at *59. Return to top
Delaware Quarterly
Derivative Standing In The Wake Of Rule 23.1 Dismissal: LAMPERS v. Pyott In LAMPERS v. Pyott, defendants – the directors of Allergan, Inc. (“Allergan” or the “Company”) – moved to dismiss derivative claims asserted against them for breach of their fiduciary duties of oversight in connection with Allergan’s marketing practices for Botox. Among other things, defendants argued collateral estoppel based on a California federal court’s earlier dismissal of a substantially similar derivative suit for failure to plead demand futility under Fed. R. Civ. P. 23.1. The Court denied the motion on the grounds that, inter alia: (i) the dismissal of one shareholder derivative action under Rule 23.1 does not have a preclusive effect on a later-filed derivative action involving the same conduct where the latter is brought by a different shareholder plaintiff; and (ii) by failing to exercise its right to inspect corporate documents under Section 220 or otherwise conduct a meaningful investigation prior to filing suit, plaintiff in the earlier California action had not “adequately represented” Allergan for purposes of Rule 23.1. By contrast, the Court found that the comparatively more deliberate Delaware plaintiffs – one of whom had filed a Section 220 request prior to initiating suit – had pled particularized allegations (supported by internal corporate documents from the Section 220 production) demonstrating a substantial threat of liability to the director defendants sufficient to establish demand futility and, thus, survive a motion to dismiss under Rule 23.1 (and, by extension, the more lenient Fed. R. Civ. P. 12(b)(6)).
Background Allergan is a Delaware corporation that manufactures Botox,(5) which in the 1990s and early 2000s had been approved for the treatment of certain muscle disorders by the United States Food and Drug Administration (the “FDA”), but not for the treatment of upper-limb spasticity or migraine headaches.(6) While treating physicians were not limited to prescribing Botox for FDA-approved or “onlabel” uses and could prescribe Botox for “off-label” uses,(7) and manufacturers like Allergan were allowed to sell drugs 5.
6. 7.
This case addresses only Botox Therapeutic, not its better-known sibling, Botox Cosmetic, which has its own FDA-approved label and drug code. 2012 WL 2087205, at *2. Id. Id.
Winston & Strawn LLP | 3 for non-FDA-approved uses, it was nonetheless illegal under applicable regulations for manufacturers to market a drug for an off-label use.(8) Cognizant of the proscription on marketing FDAapproved pharmaceuticals for off-label uses, Allergan nevertheless “strongly advocated” for expanded uses of Botox and “supported off-label Botox sales with a phalanx of initiatives,” including: (1) Company-sponsored Botox seminars and presentations about off-label uses; (2) Company-financed reimbursement account managers to counsel physicians about off-label Botox prescriptions and to assist in maximizing reimbursements for off-label uses; (3) financial incentives for physicians to write more off-label prescriptions; and (4) Company-financed organizations that advocated off-label uses.(9) The Allergan board of directors (the “Board”) “played an active role in planning and monitoring the growth of Botox” and, from at least 1997, discussed and approved a series of annual strategic plans that sought to expand off-label Botox sales.(10) Allergan drew government scrutiny for its Botox initiatives, receiving FDA warning letters urging the Company to correct certain violations and misleading advertisements.(11) Allergan’s General Counsel advised the Board about an FDA inquiry into an Allergan-sponsored speaker who had promoted off-label uses in a series of presentations and cautioned the Board that this was a “serious matter” and the “chance of receiving Agency action . . . [was] very high.”(12) During this time, Botox sales skyrocketed, increasing 25% and 42% annually and, by 2007, 70-80% of Botox’s nearly $600 million in annual sales were generated by off-label uses.(13) Around that time, the United States Department of Justice (“DOJ”) commenced a three-year investigation into Allergan’s off-label marketing practices, culminating in a settlement entered into between Allergan and the DOJ on September 1, 2010 (the “Settlement”).(14) Pursuant to the Settlement, Allergan (i) pled guilty to criminal misdemeanor 8. 9. 10. 11. 12. 13. 14.
Id. Id. at *3. Id. at *4. Id. at *4-5. Id. at *5. Id. at *4-5. Id. at *6. Return to top
Delaware Quarterly misbranding and paid criminal fines of $375 million and (ii) agreed to pay an additional civil fine of $225 million to resolve False Claims Act lawsuits.(15) These fines equaled 96% of the Company’s reported net income in 2009 (and exceeded its net income for both 2007 and 2008).(16)
The Derivative Actions Within two days of the announcement of the Settlement, Louisiana Municipal Police Employees’ Retirement System (“LAMPERS”) filed suit in Delaware, relying solely on publicly available information. In the following weeks, three other derivative suits were filed in federal district court in California and ultimately consolidated on October 25, 2010 (the “California Action”).(17) On November 3, 2010, U.F.C.W. Local 1776 & Participating Employers Pension Fund (“UFCW”) sent Allergan a Section 220 demand for books and records, and, on November 30, UFCW moved to intervene in the Delaware action.(18) The Chancery Court denied the motion to intervene as premature but postponed any hearing on the pending motions to dismiss until the Section 220 process was complete. LAMPERS and UFCW thereafter reached an agreement to serve as co-plaintiffs, moved forward with the Section 220 demand and filed a joint complaint (the “Complaint”) after obtaining and reviewing the Company’s internal documents.(19) The defendants again moved to dismiss. Meanwhile, the California federal court dismissed the plaintiffs’ first complaint without prejudice on April 12, 2011. After requesting and receiving a copy of the Company’s Section 220 production from the Delaware plaintiffs, the California plaintiffs filed an amended complaint incorporating allegations drawn from the Company’s internal records. On January 17, 2012, the California court, without the benefit of oral argument, issued a five-page order dismissing the California Action with prejudice pursuant to Rule 23.1 for failure to plead demand futility (the “California Judgment”).(20) Two weeks later, the defendants in the Delaware action supplemented their motions to dismiss to add collateral estoppel to their other bases for dismissal (i.e., 15. Id. 16. Id. 17. Id. 18. Id. at *7. 19. Id. 20. Id.
Winston & Strawn LLP | 4 failure to plead demand futility under Rule 23.1 and failure to state a claim under Rule 12(b)(6)).
The Court’s Collateral Estoppel Analysis Vice Chancellor Laster first noted the five elements that must be shown for a party to be collaterally estopped from relitigating an issue: (1) the issue sought to be precluded must be identical to an issue adjudicated in a former proceeding; (2) the issue must have been litigated in the former proceeding; (3) the issue must have been decided in the former proceeding; (4) the decision in the former proceeding must have been final and on the merits; and (5) the party against whom preclusion is sought must be the same as, or in privity with, the party to the former proceeding.(21) The Court acknowledged the “growing body of precedent” that holds that a Rule 23.1 dismissal has preclusive effect on other derivative complaints, but disagreed with the analytical foundation of these decisions: namely, that because a shareholder plaintiff in a derivative action sues in the name of the corporation, all other shareholder plaintiffs doing likewise are in privity with the plaintiff in the dismissed case for collateral estoppel purposes.(22) Analyzing the issue under Delaware law – which he found controlling under the internal affairs doctrine – the Vice Chancellor concluded that no such privity exists.(23) The Court addressed the two-fold nature of the derivative action, which is, first, a suit by a shareholder to compel the corporation to sue and, second, a suit by the corporation that is asserted by the shareholder on its behalf against those liable to it.(24) Thus, until a Rule 23.1 motion has been denied, a derivative plaintiff whose litigation efforts are opposed by the corporation “does not have authority to sue in the name of the corporation.”(25) At the Rule 23.1 motion to dismiss phase of the case, competing stockholders are asserting only their individual claims to obtain equitable authority to sue. Consequently, when the first derivative action is dismissed under Rule 23.1, other stockholders are not in privity with 21. 22. 23.
24. 25.
Id. at *9. Id. at *7. The Court reasoned that the question of whether privity exists between the respective shareholder plaintiffs involves the legal relationship between a stockholder and a corporation and thus implicates the internal affairs doctrine. Id. at *9-10. Id. at *12 (citing Aronson v. Lewis, 473 A.2d 805, 811 (Del. 1984)). Id. at *8 (emphasis in original). Return to top
Delaware Quarterly that stockholder plaintiff. As such, while a decision granting a Rule 23.1 dismissal serves as persuasive authority, it cannot have preclusive effect.(26) Moreover, the Court reached an independent basis for declining to give collateral estoppel effect to the California Judgment, finding that the California plaintiffs did not “adequately represent” the Company as required under Rule 23.1.(27) The Vice Chancellor adopted and applied the “fastfiler presumption,” which had been suggested by Chancellor Strine in King v. VeriFone Holdings(28) and presumes that “a fast-filing stockholder with a nominal stake, who sues derivatively after the public announcement of a corporate trauma in an effort to shift the still-developing losses to the corporation’s fiduciaries, but without first conducting a meaningful investigation, has not provided adequate representation.”(29) The Court spent the bulk of its 82page opinion exploring the “fast-filing problem” arising from the application of traditional “first-to-file” rules in determining lead plaintiff/lead counsel status, which can result in significant monetary awards for plaintiffs’ counsel. Specifically, first-to-file principles incentivize plaintiffs’ firms to eschew meaningful investigations and books and records demands in order to file first and gain control of the litigation, thereby “freez[ing]-out the diligent lawyer”(30) through the hasty filing of an action that will likely be dismissed. The Court noted the dangers of these fast-filed actions in the derivative context – which he likened to “lottery ticket[s]” – including the considerable risks and burdens for defendants forced to respond to multiple complaints in multiple jurisdictions.(31) Ultimately, the Court found that the California plaintiffs leapt to litigate without first conducting a meaningful investigation, sought to benefit themselves over Allergan by rushing to gain case control in an attempt to harvest legal fees and, as a result, failed either to fulfill the fiduciary duties they voluntarily assumed as derivative action plaintiffs or to provide adequate representation.(32) 26. 27. 28. 29. 30. 31. 32.
Id. Id. at *17. See King v. VeriFone Hldgs., Inc., 994 A.2d 354, 364 n.34 (Del. Ch. 2010). Pyott, 2012 WL 2087205, at *18 (citing King, 994 A.2d at 364 n.34). Id. at *18-20. Id. at *25. Id. at *28.
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The Court’s Rule 23.1 Analysis Having found that collateral estoppel did not require dismissal of the action, the Court then turned to the question of whether dismissal was warranted under Rule 23.1, which requires that a derivative plaintiff “must allege with particularity that the board was presented with a demand and refused it wrongfully or that the board could not properly consider a demand, thereby excusing the effort to make demand as futile.”(33) Demand is futile when “the particularized factual allegations of a derivative stockholder complaint create a reasonable doubt that, as of the time the complaint is filed, the board of directors could have properly exercised its independent and disinterested business judgment in responding to a demand.”(34) Plaintiffs rarely survive motions to dismiss a breach of the duty of oversight claim against Delaware directors given the “high” burden plaintiffs face in raising such claims.(35) While acknowledging the substantial prior case law that Caremark claims are “possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment,”(36) the Court observed that “‘difficult’ does not mean ‘impossible,’ and ‘win a judgment’ does not mean ‘survive a motion to dismiss.’”(37) Nevertheless, the Court reiterated that establishing demand futility for such a claim remains a high bar, pursuant to which a plaintiff must sufficiently “plead a connection to the board,” which, in turn, almost always requires reference to internal corporate documents.(38) In this case, the Court found that plaintiffs met that burden by alleging a direct connection between the Board and the Company’s business plans premised on illegal activity through reference to internal Allergan books and records that UFCW obtained through its Section 220 demand, including presentations made to the Board and Allergan’s underlying strategic plans and reports to the Board from counsel. Through these materials, plaintiffs were able to demonstrate, inter alia, that: (i) the Board regularly monitored Botox sales and was aware of the rapidly increasing sales of 33. 34. 35. 36. 37. 38.
Id. at *21. Id. (quoting Rales v. Blasband, 634 A.2d 927, 934 (Del. 1993)). Id. at *23 (quoting Caremark, 698 A.2d at 971). Id. at *37 (quoting Caremark, 698 A.2d at 967). Id. Id. at *24. Return to top
Delaware Quarterly Botox for off-label uses; and (ii) the Company’s expansion plans, discussed and approved by the Board, necessarily contemplated the marketing and promoting of off-label Botox uses within the United States. Therefore, the Court found that the Complaint’s “particularized allegations support[ed] a reasonable inference that the Board knew Allergan personnel were engaging in or turning a blind-eye toward illegal off-label marketing and promotion and that the Board nevertheless decided to continue Allergan’s existing business practices in pursuit of greater sales.”(39) While there was no “smoking gun” in the corporate records, these “allegations support[ed] a reasonable inference that the Board consciously approved a business plan predicated on violating the federal statutory prohibition against off-label marketing.”(40) Drawing all reasonable inferences in favor of the plaintiffs, as required at this procedural stage, the Court found that the Company – under the direction of the Board – “failed . . . to walk the fine line between off-label sales and off-label marketing.”(41) On these bases, the Court concluded that plaintiffs had sufficiently pled a non-exculpated breach of the duty of loyalty against the defendants, which exposed them to a substantial threat of liability and raised a reasonable doubt that they could properly consider a demand.(42) Accordingly, the Court found that plaintiffs had successfully alleged that demand would be futile under Rule 23.1.(43)
Takeaways While the Court of Chancery in recent years has repeatedly encouraged representative plaintiffs to exercise their inspection rights under Section 220 before commencing a derivative action, this admonition has often gone unheeded because of plaintiffs’ counsel’s financial incentive to file quickly (and some might say hastily) under the conventional “first-to-file” regime that has given early filers a leg up in gaining control of a case and achieving “lead plaintiff” 39. 40. 41. 42. 43.
Id. at *34. Id. at *8. Id. at *2-3. Id. The standard for pleading demand futility under Rule 23.1 is more stringent than the standard under Rule 12(b)(6). Id. at *36 (citing In re Citigroup Inc. S’holder Deriv. Litig., 964 A.2d 106, 139 (Del. Ch. 2009)). Accordingly, a complaint that pleads a substantial threat of liability for the purposes of Rule 23.1 necessarily survives a motion to dismiss under Rule 12(b)(6). Id. (citing McPadden v. Sidhu, 964 A.2d 1262, 1270 (Del. Ch. 2008)).
Winston & Strawn LLP | 6 and “lead counsel” status – key metrics in determining the eventual allocation of any attorneys’ fee award for plaintiffs’ counsel. Conversely, plaintiffs’ counsel who were late to the party risked being left out in the cold: “No role, no result, no fee.” By simultaneously insulating newly-filed derivative suits from collateral estoppel challenges based on prior Rule 23.1 dismissals and penalizing “fast-filing” derivative plaintiffs through a presumption of inadequacy under Rule 23.1, the Pyott decision goes a long way toward removing the perceived disadvantages of delaying derivative filings. In that regard, corporations could see a decline in derivative suits following corporate trauma, but a corresponding increase in Section 220 demands. At the same time, Pyott’s impact going forward must be balanced against several competing considerations: First, whether the Pyott decision will withstand appeal is not free from doubt. The Delaware Supreme Court has not hesitated to rebuff previous efforts to effectively make a Section 220 demand a mandatory prerequisite to a derivative action, and, as the Vice Chancellor acknowledges in the opinion, the decision conflicts with a “growing body of precedent” – including at least one Delaware Court of Chancery case – in holding that a Rule 23.1 dismissal has no preclusive effect on subsequent derivative actions.(44) In particular, the dispositive issue of whether shareholders who assert derivative claims are “in privity” with one another at the motion to dismiss phase is hotly debated and presumably a prime candidate for Supreme Court clarification, especially in view of the far-reaching policy implications for the future of derivative litigation in Delaware and beyond. Another issue likely to resurface is whether a shareholder plaintiff who, based on this ruling, has no authority to sue on the corporation’s behalf until the denial of a Rule 23.1 motion, can nonetheless be deemed upon the filing of the (as yet unauthorized) action to have assumed fiduciary duties of the company, i.e., the Court’s rationale for applying the fast-filer presumption to plaintiffs who forego a Section 220 demand prior to filing. Second, it is ambitious to think that Pyott will resolve the fast-filing problem in its entirety. As an initial matter, given the uncertainty regarding the going-forward methodology for determining “lead plaintiff” and “lead counsel,” it is reasonable to assume that plaintiffs’ counsel will still see 44. Id. at *7. Return to top
Delaware Quarterly an advantage to jumping out ahead of the competition and that fast-filed derivative complaints will simply be replaced by fast-filed Section 220 demands and/or actions. While the latter may be less costly and time-consuming to deal with from the defense perspective, because there is no longer any meaningful downside to seeking inspection from the would-be plaintiff’s standpoint, a significant and potentially burdensome increase in volume of 220 demands may be in the offing. Moreover, the decision may actually encourage hasty derivative filings in jurisdictions outside of Delaware. Given the thorny choice of law issues implicated by derivative standing and demand futility principles, plaintiffs’ counsel looking for a shortcut to settlement may be incentivized to take their chances in non-Delaware jurisdictions espousing traditional “first-filed” principles. Relatedly, plaintiffs who miss the opportunity to be first in line might actually be encouraged by Pyott’s collateral estoppel holding to file duplicative lawsuits, secure in the knowledge that their action may be permitted to proceed even if the earlier action is dismissed pursuant to Rule 23.1. Third, the Pyott decision may not, as a practical matter, dramatically alter the success rate of Caremark claims at the motion to dismiss stage. While the Pyott plaintiffs were found to have engaged in investigative diligence (at least in comparison to their California counterparts) that resulted in particularized allegations tied to the Company’s books and records that were sufficient to survive a motion to dismiss here, the Court nonetheless made it quite clear that these cases will continue to be dismissed at the pleading stage unless a plaintiff can directly connect directors to the misconduct or illegal activity at issue through well investigated, particularized allegations prepared with the benefit of the corporation’s internal books and records.
Scope Of Confidentiality Agreements In The Hostile Takeover Context: Martin Marietta v. Vulcan In a highly-anticipated opinion, Chancellor Strine enjoined Martin Marietta from pursuing an unsolicited exchange offer to acquire Vulcan and a related proxy contest for four months. In granting the injunction, the Chancellor found that Martin Marietta had “thoroughly breached”(45) two 45.
2012 WL 1605146, at *59.
Winston & Strawn LLP | 7 confidentiality agreements it entered into with Vulcan by using confidential information to launch its hostile bid and disclosing confidential information in public filings and other communications with the press and investors. Shortly thereafter, the Delaware Supreme Court granted an expedited appeal and affirmed Chancellor Strine’s decision.(46)
Background In the spring of 2010, Martin Marietta and Vulcan, the two largest aggregates companies in the United States, began discussing a potential merger.(47) Due to Martin Marietta’s concerns of an unsolicited bid, the companies entered into two confidentiality agreements to shroud their merger discussions and any information exchanged in connection with those discussions.(48) On May 3, 2010, Martin Marietta and Vulcan entered into a non-disclosure agreement (the “NDA”) governing the exchange and treatment of non-public information (defined as “Evaluation Material”).(49) According to the NDA, Evaluation Material was to be used “solely for the purpose of evaluating a Transaction,” which the NDA defined as “a possible business combination transaction” between Martin Marietta and Vulcan.(50) Additionally, the NDA provided several common restrictions on the disclosure of Evaluation Material and other confidential information. In particular:
• Paragraph
2 prohibited disclosure of Evaluation Material “for purposes other than the evaluation of a Transaction”;
• Paragraph
3 restricted the companies, subject to paragraph 4, from disclosing information regarding the companies’ discussions and negotiations (“Transaction Information”), unless “legally required” to disclose such information; and
• Paragraph 4 established the notice and vetting process
for disclosing Evaluation Material and Transaction Information when “required” to do so pursuant to an external demand.(51)
46. 47. 48. 49. 50. 51.
No. 254, 2012, 2012 WL 1965340 (Del. May 31, 2012). 2012 WL 1605146, at *4–5. Id. at *5–9. Id. at *7. Id. Id. at *8. Return to top
Delaware Quarterly Shortly thereafter, the companies entered into a joint defense and confidentiality agreement (the “JDA”) to facilitate a joint assessment of potential antitrust implications. Under the JDA, non-public information (defined as “Confidential Materials”(52)) was to be used “solely for purposes of pursuing and completing the Transaction,” which the JDA defined – somewhat differently than the NDA – as “a potential transaction being discussed by Vulcan and Martin Marietta.”(53) Notably, neither Martin Marietta nor Vulcan suggested that either of the confidentiality agreements include a standstill provision that would have explicitly prevented the companies from pursuing an unsolicited tender or exchange offer.(54) According to the Court, the failure to discuss a standstill provision likely stemmed from “the shared premise that [both companies] were seeking to explore whether a friendly, consensual merger agreement could be reached.”(55) Following the execution of the confidentiality agreements, Martin Marietta and Vulcan engaged in merger discussions and exchanged non-public information for approximately one year.(56) By the spring of 2011, however, Vulcan’s management had cooled to the idea of a potential merger – in part because the company had suffered decreased profits and a depressed stock price compared to when the merger discussions began – and Vulcan expressed that it was no longer interested in a merger.(57) Martin Marietta’s stock price, on the other hand, had risen in comparison to Vulcan’s, causing Martin Marietta to contemplate purchasing Vulcan at a premium.(58) On December 12, 2011, Martin Marietta launched a hostile exchange offer to purchase all of Vulcan’s outstanding shares, as well as a proxy contest to elect four new members to Vulcan’s classified board at Vulcan’s upcoming annual meeting.(59) That same day, Martin Marietta filed a Form S-4 with the Securities and Exchange Commission (the “SEC”), which included a discussion of the history of its merger negotiations with Vulcan and “a host of details that 52. 53. 54. 55. 56. 57. 58. 59.
For the purposes of this article, we refer to “Evaluation Material” and “Confidential Materials” both as “Evaluation Material.” Id. at *9. Id. Id. at *6. Id. at *9–15. Id. at *16, 18. Id. Id. at *22.
Winston & Strawn LLP | 8 constitute[d] Evaluation Material.”(60) Martin Marietta also disclosed the same information in a number of investor calls and presentations.(61) Martin Marietta filed its complaint on the same day that it launched its hostile bid, seeking a declaratory judgment that its exchange offer and proxy contest were not prohibited by the confidentiality agreements.(62) Vulcan filed counterclaims alleging, in principal part, that Martin Marietta breached the confidentiality agreements by (i) using Evaluation Material to formulate its exchange offer and proxy contest and (ii) publicly disclosing Transaction Information and Evaluation Material in its SEC filings and in other communications with the press and investors.(63) Vulcan sought injunctive relief.
The Court’s Analysis As an initial matter, the Chancellor addressed the central factual issue presented at trial – whether Martin Marietta used Vulcan’s Evaluation Material to formulate and commence its exchange offer and proxy contest. Based on its analysis of the record, the Court concluded that Martin Marietta did, in fact, use confidential Vulcan information in formulating its bid, particularly with respect to its antitrust analysis and annual synergy estimates.(64) Having resolved this threshold factual question, the Court went on to address Vulcan’s legal arguments that Martin Marietta’s use and disclosure of Evaluation Material and Transaction Information breached the confidentiality agreements.(65)
The Use Of Evaluation Material In Formulating And Commencing The Hostile Bid The Court first determined that Martin Marietta breached the confidentiality agreements by using Vulcan’s Evaluation Material for the purpose of launching its hostile bid. The Court began with a textual analysis of the confidentiality agreements in an effort “to enforce the plain and unambiguous terms . . . as the binding expression of the parties’ intent.”(66) Where the text was ambiguous, however, the Court turned to extrinsic evidence to determine the parties’ intent.(67) 60. 61. 62. 63. 64. 65. 66. 67.
Id. at *22–23. Id. at *23. Id. at *2. Id. at *2, 24. Id. at *23. Id. at *24. Id. at *26. Id. Return to top
Delaware Quarterly As Martin Marietta was obligated to “use” Evaluation Material under the NDA “solely for the purpose of evaluating a Transaction” and Confidential Materials under the JDA “solely for purposes of pursuing and completing the Transaction,”(68) the Court first explored whether Martin Marietta’s exchange offer and proxy contest fell within the meaning of “Transaction” as it was defined in each agreement. Turning to the NDA, the Court determined that the definition of “a Transaction” – a “possible business combination transaction between” Martin Marietta and Vulcan – did not have a single, clear meaning.(69) Extrinsic evidence, however, led the Court to conclude that neither the exchange offer nor the proxy contest could be considered a “Transaction” under the NDA.(70) In particular, the Court noted that: (i) at the time the confidentiality agreements were entered into, Martin Marietta’s CEO emphasized the need for a confidentiality agreement to, in part, avoid unsolicited bids;(71) (ii) all of Martin Marietta’s changes to the drafts of the NDA had the effect of strengthening the protections afforded by it;(72) (iii) Martin Marietta’s conduct in the months leading up to the launch of its hostile bid evinced an understanding that, under the confidentiality agreements, it was restricted from using Vulcan’s Evaluation Material for purposes of formulating its hostile bid;(73) and (iv) the definition of “the Transaction” in the JDA, when read together with the NDA, demonstrates that there was only one transaction under discussion at the time the parties entered into the confidentiality agreements.(74) With respect to the JDA, the Court concluded – without considering extrinsic evidence – that neither the exchange offer nor the proxy contest was “the” transaction “being discussed” at the time the JDA was negotiated and entered into.(75)
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Public Disclosures Of Transaction Information And Evaluation Material The Court next determined that Martin Marietta breached the confidentiality agreements by publicly disclosing Transaction Information and Evaluation Material in its SEC filings.(76) In so deciding, the Court rejected Martin Marietta’s argument that these disclosures were permitted because once it had decided to launch its exchange offer, it was “legally required” by the SEC Rules to disclose certain confidential information.(77) Beginning with a textual analysis of paragraphs 2, 3, and 4 of the NDA, the Court concluded that these provisions could plausibly be read to support the positions of both parties.(78) Turning next to extrinsic evidence – most notably, the changes Martin Marietta’s general counsel made to strengthen the protection of paragraph 3 of the NDA – the Court found that the safe harbor for “legally required” disclosures could not be triggered by a unilateral decision to pursue a hostile bid.(79) Rather, in light of the circumstantial evidence, the parties were only permitted to make “legally required” disclosures under the narrow circumstances enumerated in paragraph 4 of the NDA.(80) In essence, these provisions created a “backdoor standstill restriction” by limiting the scope of legally required disclosures to preclude disclosure of Transaction Information that would normally be disclosed in connection with a hostile bid.(81) The Court likewise found that Martin Marietta breached the confidentiality agreements by publicly disclosing Transaction Information and Evaluation Material without first complying with the notice and vetting requirements set forth in both the NDA and JDA.(82)
The Scope Of The Public Disclosures The Court determined that Martin Marietta failed to carry its burden of demonstrating that each disclosure of Transaction Information and Evaluation Material was legally required.(83) According to the Court, the SEC Rules required only that
68. 69. 70. 71. 72. 73. 74. 75.
Id. at *25. Id. at *27–36. Id. at *36–39. Id. at *36. Id. at *37. Id. Id. at *38. Id. at *39–40.
76. Id. at *40–51. 77. Id. at *40. 78. Id. at *41–45. 79. Id. at *45–48. 80. Id. at *48. 81. Id. at *50. 82. Id. at *51–52. 83. Id. at *52–55. Return to top
Delaware Quarterly Martin Marietta disclose “that the parties discussed a merger, that they entered into the Confidentiality Agreements, and that they ultimately could not come to terms on the utility of doing a deal.”(84) Rather than take a minimal approach to disclosing information shielded by the confidentiality agreements, “Martin Marietta did the opposite.”(85) Notably, the Court found that Martin Marietta’s disclosure decisions were “heavily guided and influenced by public relations advisors,” who advised the company to portray Vulcan in a negative light to help it prevail in its hostile bid.(86) The Court also noted that Martin Marietta took a onesided approach to the disclosure requirements by avoiding disclosure of any Transaction Information or Evaluation Material that would cast doubt on its own management’s motives.(87)
Non-SEC Communications Of Transaction Information And Evaluation Material Finally, the Court concluded that Martin Marietta further breached the confidentiality agreements by disclosing Transaction Information and Evaluation Material in its non-SEC communications – e.g., press releases, investor presentations and investor communications.(88) As the Court noted, even if the SEC disclosures were legally required under the confidentiality agreements, nothing in those agreements permitted that “once Martin Marietta disclosed one thing, the floodgates could open and all of Vulcan’s confidential information could come pouring out.”(89)
Injunctive Relief The Court granted an injunction against Martin Marietta’s hostile bid for a period of four months, which the Court measured based on the length of time between the commencement of Martin Marietta’s hostile offer in December 2011 and the expiration of one of the confidentiality agreements on May 3, 2012.(90) While the Court recognized that the injunction would effectively block Martin Marietta’s bid until after Vulcan’s June 1, 2012 annual meeting, it noted 84. 85. 86. 87. 88. 89. 90.
Id. at *54. Id. Id. Id. at *55. Id. at *56. Id. Id. at *59.
Winston & Strawn LLP | 10 that such delay was the result of Martin Marietta’s own actions and reasoned that “[r]ewarding a breaching party like Martin Marietta would encourage other parties to endrun contractual pre-disclosure procedures . . . and underscore the unreliability of confidentiality agreements as a riskreducing device that enables parties to more readily consider voluntary, value-maximizing M&A transactions.”(91) On May 31, 2012, the Delaware Supreme Court affirmed the Court of Chancery’s decision to enjoin Martin Marietta’s hostile exchange offer and proxy contest.(92)
Takeaways While Martin Marietta breaks no new legal ground, it does provide expanded insight into the importance and effect of confidentiality agreements in the M&A context. First, the decision serves as a reminder to practitioners that confidentiality agreements negotiated in the early stages of a transaction can have significant consequences down the road and are not (as informally assumed by many in the M&A world) mere formalities that will simply defer to later transaction documents for the greater good of deal consummation. To that end, the Court was unmoved by Martin Marietta’s policy argument that enjoining the bid based on ambiguous “use” provisions would chill M&A activity by effectively reading a standstill provision into every confidentiality agreement: while the Court acknowledged that such agreements should not be read to “lightly imply” restrictions on takeover efforts, neither should they be enforced less arduously than other types of contracts based solely on theoretical adverse implications for shareholders. Accordingly, care must be taken in preparing and negotiating confidentiality agreements, especially for companies that wish to retain the flexibility to pursue an unsolicited exchange or tender offer. Second, corporate practitioners should be precise in crafting “use” provisions in M&A-related confidentiality agreements which, particularly in the absence of a standstill provision, will serve as the critical guidepost in evaluating the treatment of the parties’ confidential information. In the context of friendly merger discussions, parties should be explicit in limiting the use of confidential information to a consensually negotiated transaction where applicable. 91. 92.
Id. at *60. No. 254, 2012, 2012 WL 1965340 (Del. May 31, 2012). Return to top
Delaware Quarterly Third, the decision serves as a reminder of the Chancery Court’s distaste for defendants’ efforts to use privilege as both a sword and a shield. Specifically, the Court took umbrage with Martin Marietta arguing, on the one hand, that it disclosed only that information its counsel “opined was the bare legal minimum that needed to be disclosed,” while, on the other hand, “cloaked its disclosure decisions in privilege,” thereby providing no basis for the Court to assess the viability of the argument.(93) Parties should consider that defenses suggesting (if not actually asserting) reliance on the advice of counsel can draw the Court’s ire if coupled with a refusal to make at least some limited waiver. Finally, while the decision engenders a new level of respect for confidentiality agreements in the deal context, it must also be kept in its proper perspective: standstill provisions will not automatically be implied in otherwise silent confidentiality agreements. This was an extremely fact-intensive trial in which the Chancellor relied heavily on a voluminous record – and fairly unequivocal extrinsic evidence – in determining that the parties intended to exclude a hostile takeover from permissible uses.
Additional Developments In Delaware Business And Securities Law Beyond those topics addressed above, the Delaware courts also issued noteworthy decisions in the following areas of law during the past quarter.
Advance Notice Bylaws
• In
Icahn Partners LP v. Amylin Pharmaceuticals, Inc.,(94) Vice Chancellor Noble granted a motion to expedite a suit seeking to enjoin enforcement of an advance notice bylaw. This bylaw required shareholders to notify Amylin Pharmaceuticals, Inc. of candidates for election to the board nearly four months before Amylin’s annual meeting. After this cut-off date passed, Amylin’s board purportedly rejected, without consideration, a third-party’s proposal to purchase the company for a substantial premium over its then trading price. Amylin shareholders brought suit against the company alleging that this rejection was such a radical departure from
93. 94.
2012 WL 1605146, at *51. C.A. No. 7404-VCN, 2012 WL 1526814 (Del. Ch. Apr. 20, 2012).
Winston & Strawn LLP | 11 Amylin’s past strategic focus on a sale transaction that it warranted reopening the nomination process. Plaintiffs requested expedited proceedings in order to resolve the case before Amylin’s annual meeting. The Court agreed to expedite the proceedings because: (i) a decision on the merits would not be advisory since plaintiffs represented that they will nominate director candidates should their suit succeed; (ii) plaintiffs proffered a colorable claim that, after the nomination deadline passed, Amylin’s board materially departed from its strategic focus on a sale transaction; (iii) plaintiffs would be irreparably harmed if they were forced to wait over a year to nominate directors; and (iv) any delay in plaintiffs filing suit appeared to stem from attempts to resolve the dispute directly with Amylin without the necessity of legal action. The case was ultimately dismissed by plaintiffs pursuant to undisclosed discussions with the company.
Alternative Entities Accountings
• In Whittington v. Dragon Group, LLC,
Vice Chancellor Parsons addressed two challenges to an independent accounting following entry of a judgment in favor of the plaintiff. The plaintiff originally initiated the suit seeking recognition as a member of the defendant, Dragon Group, LLC. The Court previously ruled that plaintiff was a member and that he was entitled to a monetary judgment as well as an independent final accounting. The final accounting determined that plaintiff was entitled to an additional distribution of $396,165, which the plaintiff challenged, arguing that he was also entitled to: (i) payment of his attorneys’ fees, because Dragon Group paid for the fees of its other members in defending against the action; and (ii) his pro rata share of a $478,000 expenditure, which Dragon Group could not properly document and therefore should be treated as a distribution. The Court rejected plaintiff’s claim for attorneys’ fees, holding that the decision by members of Dragon Group to pay the attorneys’ fees of some, but not all, members was permissible. But the Court agreed with plaintiff’s argument regarding the expenditure, finding that the documentation presented to the Court in connection with the expenditure was inadequate to
95.
(95)
C.A. No. 2291-VCP, 2012 WL 2052792 (Del. Ch. May 25, 2012). Return to top
Delaware Quarterly prove Dragon Group’s use of the funds. Accordingly, the Court found that the expenditure constituted a distribution. The Court also ruled, consistent with its prior decision, that the other members of Dragon Group were jointly and severally liable for the amounts due to plaintiff, as Dragon Group would be unlikely to be able to pay the full judgment.
Drag-Along Provisions
• In
Dawson v. Pittco Capital Partners, L.P.,(96) Vice Chancellor Noble declared, post-trial, that the plaintiffs’ interests in certain secured debt instruments (the “Notes”) were unaffected by a merger. LaneScan, LLC (“LaneScan”) merged with Vehicle Safety and Compliance, LLC (“VSAC”) and, pursuant to the terms of the merger, LaneScan’s equity holders relinquished the Notes, which had been issued in connection with their initial equity investment in LaneScan. Plaintiffs, equity holders in LaneScan, opposed the merger and brought suit, alleging that the defendants, including LaneScan’s directors and certain equity holders, did not have the power to compel contribution of the Notes. The Court agreed holding that (i) absent clear and unambiguous consent, equity holders’ rights in a debt instrument cannot be cancelled in connection with a merger and (ii) plaintiffs did not clearly and unambiguously consent to the Notes’ cancellation. In particular, the Court held that a Drag-Along Provision, requiring LaneScan’s equity holders to “take all [requested] necessary and reasonable actions” in connection with a company sale approved by a majority of the equity holders, was too general to constitute a binding consent. Finally, the Court rejected the plaintiffs’ fiduciary duty allegations against LaneScan’s directors and certain equity holders, finding that: (i) LaneScan’s LLC Agreement eliminated all fiduciary duties except for the duty of care and the duty to refrain from intentional misconduct; (ii) plaintiffs failed to preserve a gross negligence claim for trial; and (iii) LaneScan’s directors approved the VSAC merger in order to maximize the value received by LaneScan’s equity holders, thereby defeating the intentional misconduct claim.
96.
C.A. No. 7404-VCN, 2012 WL 1564805 (Del. Ch. Apr. 30, 2012).
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Reformation And Rescission As Remedies For Breach Of Fiduciary Duties
• In Brinckerhoff v. Enbridge Energy Co.,
upon remand from the Delaware Supreme Court, Vice Chancellor Noble addressed whether reformation and rescission were available to a holder of limited partner units as remedies for a breach of fiduciary duty with respect to a joint venture agreement for a pipeline project. The plaintiff requested these remedies as alternatives to money damages, which the Court previously held were not available due to an exculpatory provision in the limited partnership agreement. Although the Court ruled at the outset that plaintiff waived his request for reformation and rescission by not briefing them, it proceeded to address the merits of whether rescission or reformation would be a viable alternative remedy to money damages. The Court ruled that rescission was not available, because it would not be feasible to rescind an agreement for a pipeline project that was already completed. The Court found that reformation, rarely granted following the consummation of a transaction, was a potential remedy, even though it would achieve essentially the same purpose as money damages by reapportioning ownership interests in the joint venture and therefore cash flows. Thus, the Court concluded that if reformation was not waived, it was conceivably available such that the complaint could survive a motion to dismiss on this point. (97)
Fiduciary Duties In The Context Of Partnership Acquisition
• In In re K-Sea Transportation Partners L.P. Unitholders
Litigation,(98) Vice Chancellor Parsons dismissed class action claims brought on behalf of common unitholders of K-Sea Transportation Partners L.P. (“K-Sea”), a publicly-traded Delaware limited partnership, challenging the acquisition of K-Sea by Kirby Corporation (“Kirby”). In early 2011, Kirby made an offer to acquire all outstanding equity interests in K-Sea and its general partner (the “GP”), which included an $18 million payment to the GP for certain partnership interests. At the request of the GP’s board, a purportedly independent conflicts committee reviewed and
97. 98.
C.A. No. 5526-VCN, 2012 WL 1931242 (Del. Ch. May 25, 2012). C.A. No. 6301-VCP, 2012 WL 1142351 (Del. Ch. Apr. 4, 2012). Return to top
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unanimously endorsed the proposal before the board approved it. Plaintiffs sued K-Sea, the GP, and the GP’s directors for money damages, claiming that the board breached K-Sea’s limited partnership agreement (the “LPA”) and its fiduciary duties by failing to evaluate the fairness of the $18 million payment and by relying on an interested and improperly constituted conflicts committee. The Court found that the express terms of the LPA provided that (i) only the GP had any duty regarding the approval of mergers, (ii) with respect to claims for money damages, that duty required only that the GP’s approval be made in good faith, and (iii) the GP’s approval was conclusively presumed to be in good faith if the GP relied on an expert opinion. As the board did rely on the opinion of a financial advisor, the GP was conclusively presumed to have fulfilled its duty with respect to approving the merger, and plaintiffs could not prevail. The Court also concluded that the implied covenant of good faith and faith dealing, which cannot be waived in a limited partnership agreement, was satisfied by the LPA’s conclusive presumption.
Action By Written Consent
• In Paul v. Delaware Coastal Anesthesia, LLC,
Vice Chancellor Glasscock held that a LLC’s Operating Agreement did not preempt the default provision in the Delaware Limited Liability Company Act (“DLLCA”) that permits members of an LLC to act by written consent. After plaintiff’s membership in Delaware Coastal Anesthesia, LLC was terminated by written consent, she brought suit arguing that the LLC’s Operating Agreement requires all votes to occur at member meetings. The Court dismissed her action because the Operating Agreement was silent as to how votes terminating a member’s interest should be taken, so Delaware’s gap-filling provision controls. That provision, DLLCA § 18-302, permits actions by written consent. (99)
Vice Chancellor Parsons determined that the difference between the opposing experts’ discounted cash flow valuations was due largely to two disputed issues: (i) whether the cash flow projections for two potential projects should be included in calculating the value; and (ii) the appropriate small company size premium to use. First, the Court found that one of the potential projects was too speculative to be included in the calculation and that the other should be probability weighted by 66.7% given its uncertainty. Second, the Court rejected the petitioners’ argument that a smaller Ibbotson size premium should be applied to the company’s cost of equity, as there was no reliable basis for doing so. The Court found that the fair value of Just Care was $34,244,570, approximately $6 million less than the acquisition price.
Attorneys’ Fees
• In EMAK Worldwide, Inc. v. Kurz,
the Delaware Supreme Court affirmed the Chancery Court’s $2.5 million fee award to plaintiff’s attorneys following a decision in a control dispute among the shareholders of EMAK Worldwide, Inc. Plaintiff, the largest common shareholder of EMAK, had successfully challenged a preferred shareholder’s attempt to gain control of the company by reducing the size of EMAK’s board. The Court held that the Vice Chancellor did not abuse his discretion in awarding the fee because: (i) plaintiff’s suit preserved shareholder voting rights and thus produced a fundamental corporate benefit; (ii) the Vice Chancellor properly applied the Sugarland(102) factors to the facts in the record; and (iii) while the preferred shareholder did ultimately gain control, despite plaintiff’s suit, such control was not inevitable. The Court also noted that the ability of a corporation to pay fees does not impact the proper award of fees. (101)
Appraisal Proceedings
• Gearreald v. Just Care, Inc.
concerned a petition for appraisal brought by shareholders of Just Care, Inc. following its acquisition for $40 million in cash. (100)
99. C.A. No. 7084-VCG, 2012 WL 1934469 (Del. Ch. May 29, 2012). 100. C.A. No. 5233-VCP, 2012 WL 1569818 (Del. Ch. Apr. 30, 2012).
101. No. 512, 2011, 2012 WL 1319771 (Del. Apr. 17, 2012). 102. Sugarland Indus. v. Thomas, 420 A.2d 142, 149-53 (Del. 1980) (holding that the trial court should consider: (1) the results achieved; (2) the time and effort of counsel; (3) the complexity of the issues; (4) whether counsel were working on a contingent fee basis; and (5) counsel’s standing and flexibility). Return to top
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• In Freedman v. Adams,
Vice Chancellor Noble denied plaintiff’s motion for attorneys’ fees and expenses following the stipulated dismissal of her derivative suit on the basis that the complaint failed to allege sufficient facts to excuse demand and thus would not have survived a motion to dismiss. In November 2008, plaintiff, then a shareholder of XTO Energy Inc., filed a derivative action against XTO and its board of directors, alleging that the directors had breached their fiduciary duties and committed waste by failing to structure cash bonuses for the five top officers, totaling approximately $120 million over four years, as tax-deductible compensation under § 162(m) of the Internal Revenue Code. Shortly after the complaint was filed, the board adopted a tax-deductible cash bonus plan, mooting most of plaintiff’s claims. The parties stipulated to dismissal of the action, and plaintiff moved for attorneys’ fees and expenses based on the corporate benefit doctrine, which entitles a derivative plaintiff to an award if: (i) the suit was meritorious when filed; (ii) the action that provided a benefit to the corporation was taken by the defendant before a judicial resolution was achieved; and (iii) the resulting corporate benefit was causally related to the lawsuit. The Court addressed only the first prong of the corporate benefit doctrine, finding that the complaint was not meritorious when filed because it failed to plead sufficient facts excusing demand and therefore would not have survived a motion to dismiss. The Court found that plaintiff’s claim that the directors were not disinterested and independent with respect to the cash bonuses was not supported by sufficient particularized facts. The Court also found that plaintiff could not satisfy the “heavy burden” of rebutting the presumption that the business judgment rule applied, given that directors have broad discretion over the size and structure of executive compensation and are not under a general fiduciary duty to minimize taxes. As the Court explained, “an arguably poor business judgment, without more, does not excuse demand on the board of directors in a derivative action.” (103)
• In Paron Capital Management, LLC v. Crombie,
Vice Chancellor Parsons permitted the recovery of attorneys’ (104)
103. C.A. No. 4199-VCN, 2012 WL 1099893 (Del. Ch. Mar. 30, 2012). 104. C.A. No. 6380-VCP, 2012 WL 2045857 (Del. Ch. May 22, 2012).
fees on account of defendant’s perpetuation of a highly damaging fraud. Defendant James Crombie formed Paron Capital Management, LLC (“Paron”) along with plaintiffs Peter McConnon and Timothy Lyons in order to manage invested money using an electronic futures trading program that he had developed. The Court held that Crombie was guilty of fraud and breach of fiduciary duty for, inter alia: (i) misrepresenting his track record, employment history, and finances to McConnon and Lyons prior to Paron’s formation; (ii) preparing fraudulent marketing materials for Paron; and (iii) forging customer account statements. McConnon and Lyons were awarded damages – including future lost earnings resulting from their inability to secure employment as a result of their association with fraudulent activity – and injunctive relief. The Court found that the lawsuit directly followed from Crombie’s fraudulent scheme, thereby warranting an award of attorneys’ fees.
Books And Records Actions
• In
Central Laborers Pension Fund v. News Corporation,(105) the Delaware Supreme Court affirmed the Court of Chancery’s dismissal of a books and records action because plaintiff failed to provide documentary evidence establishing that it beneficially owned News Corporation (“News Corp.”) stock at the time the demand was made. Plaintiff had contemporaneously filed both a books and records action and a derivative suit related to News Corp.’s acquisition of the Shine Group, an international television production company. The Chancery Court dismissed the books and records action, holding that plaintiff failed to proffer a proper purpose for making the Section 220 demand because plaintiff had represented that the allegations of the derivative complaint were supported by sufficient facts, thereby mooting plaintiff’s need to inspect News Corp.’s books and records. The Supreme Court did not address this holding and, instead, affirmed the Chancery Court’s dismissal on a different ground – plaintiff’s failure to strictly comply with the requirements of Section 220 when making demand on News Corp. Section 220 requires a party requesting books and records to provide, under oath, evidence of beneficial ownership
105. No. 682, 2011, 2012 WL 1925724 (Del. May 29, 2012). Return to top
Delaware Quarterly at the time demand is made. Plaintiff provided no such evidence when making demand and only submitted evidence of beneficial ownership in response to News Corp.’s motion to dismiss. The Supreme Court refused to excuse this error, stressing that stockholders seeking to inspect books and records must strictly comply with the “form and manner” requirements of Section 220.
Contract Interpretation Implied Covenant Of Good Faith And Fair Dealing
• In
JPMorgan Chase & Co. v. American Century Cos.,(106) Vice Chancellor Noble held that plaintiff JPMorgan Chase & Co. adequately pled a claim for breach of the implied covenant of good faith and fair dealing but dismissed its claim for breach of contract. Prior to the dispute, J.P. Morgan held a 45% interest in the defendant, American Century Companies, Inc. (“American Century”), a privately held corporation. By agreement between the parties, American Century had the option to purchase any number of its shares owned by J.P. Morgan at the “fair market value” as determined by monthly valuation reports of American Century’s independent financial advisor. Shortly before American Century exercised its right to repurchase its shares from J.P. Morgan, American Century won a $373 million award in a separate arbitration against J.P. Morgan. J.P. Morgan determined that the independent financial advisor failed to incorporate the award into the valuation of American Century’s shares and brought suit for breach of contract and breach of the implied covenant of good faith and fair dealing. The Court dismissed the breach of contract claim, as the financial advisor’s valuation was binding under the contract and the contract’s terms did not require American Century to inform the advisor of the arbitration. But the Court held that J.P. Morgan adequately pled a claim for breach of the implied covenant, as the agreement carried an implied contractual obligation for American Century to provide its financial advisor with sufficient information to value the shares accurately.
106. C.A. No. 6875-VCN, 2012 WL 1524981 (Del. Ch. Apr. 26, 2012).
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Definition Of “Security”
• In
Fletcher International, Ltd. v. Ion Geophysical Corp.,(107) Chancellor Strine analyzed whether any of three promissory notes qualified as a “security” in ruling on cross motions for partial summary judgment. ION Geophysical Corporation (“ION”) had issued a number of promissory notes to finance an acquisition. A preferred stockholder brought suit, as the certificates governing the terms of the preferred stock required the preferred stockholder’s consent before ION issued any “security.” The Court first noted that the question of whether any of the notes were a “security” was governed by the test in Reves v. Ernst & Young.(108) The Reves test presumes that all notes are securities, but that presumption can be rebutted if the note either fits within or bears a strong resemblance to one of the specifically excluded types of notes listed in Reves. The Court emphasized that the essence of the test is to determine whether the note is an investment or whether it represents a commercial or consumer loan transaction. The Court then found that two of the notes were not securities, as they were short-term lending transactions that would be difficult to price or sell. The Court determined that the third note, however, was a security, as it was a long-term source of funds that could be feasibly traded at a price dependent on ION’s success.
Scope Of Release
• In Travelers Casualty and Surety Co. v. Sequa Corp.,
(109)
Vice Chancellor Glasscock interpreted the scope of a release executed by parties to an insurance policy. Plaintiff Travelers Casualty and Surety Company sought a declaration that it was released from certain insurance coverage claims by a settlement agreement it entered into with the defendants. The Court dismissed Travelers’ action, finding that the plain language of the release was unambiguous and did not cover the disputed claims. The Court noted, in dicta, that Travelers could have pursued a reformation claim, but chose not to.
107. C.A. No. 5109-CS, 2012 WL 1883040 (Del. Ch. May 23, 2012). 108. 494 U.S. 56, 66-67 (1990). 109. C.A. No. 7055-VCG, 2012 WL 1931322 (Del. Ch. May 29, 2012). Return to top
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Stock Repurchase Obligations
• In Blaustein v. Lord Baltimore Capital Corp.,
Vice Chancellor Noble dismissed a variety of claims brought by a minority shareholder seeking a repurchase of her shares. The plaintiff, an initial investor in the closely held Lord Baltimore Capital Corporation (“Lord Baltimore”), sought to liquidate her position. The governing shareholders’ agreement, however, merely provided that the company could repurchase shares with approval from the board or a supermajority of shareholders. Lord Baltimore’s CEO refused to offer the plaintiff anything more than half of her pro rata share of the value of Lord Baltimore’s assets and also refused to present any of her proposals to the board of directors. The plaintiff sued Lord Baltimore and its CEO, claiming: (i) promissory estoppel, as the defendants allegedly induced her to invest in the corporation by promising that she could withdraw in the future and receive her pro rata share of the value of Lord Baltimore; (ii) breach of the implied covenant of good faith and fair dealing; and (iii) breach of co-venturer fiduciary duties. The Court held that any alleged obligation to repurchase plaintiff’s shares would be inconsistent with the repurchase procedure in the shareholders’ agreement. The Court did, however, find that there might be an implied covenant in the shareholders’ agreement requiring that repurchase proposals be presented to the board, which defendants possibly breached. Thus, plaintiff’s implied covenant claim survived and all other claims were dismissed. (110)
Governing Law
• In
Hamilton Partners, L.P. v. Highland Capital Management, L.P.,(111) Vice Chancellor Noble deferred decision on defendants’ motions to dismiss until the Court determined the meaning of a disputed contractual provision. Highland Capital Management, L.P. (“Highland”) completed a merger with American HomePatient, Inc. (“AHP”) by means of a self-tender offer. Plaintiff, an AHP shareholder, filed an action alleging that Highland and AHP’s President and CEO breached their fiduciary duties in connection with the merger. Defendants moved to dismiss, and the Court was forced to examine the Restructuring Agreement
110. C.A. No. 6685-VCN, 2012 WL 2126111 (Del. Ch. May 31, 2012). 111. C.A. No. 6547-VCN, 2012 WL 2053329 (Del. Ch. May 25, 2012).
that Highland and AHP entered into prior to the selftender offer. As part of the Restructuring Agreement, AHP re-incorporated in Nevada before the merger was completed. The parties disputed whether the Restructuring Agreement bound Highland and AHP to consummate the merger or whether AHP’s board could still walk away from the deal. Because of the timing of AHP’s re-incorporation, this issue was determinative of whether the Court would apply Delaware or Nevada law to plaintiff’s claims. The Court ordered discovery and briefing on whether the Restructuring Agreement had binding effect and deferred its ruling on defendants’ motions to dismiss.
Controlling Stockholder Transactions
• In Frank v. Elgamal,
Vice Chancellor Noble refused to dismiss a shareholder class action arising from the acquisition of American Surgical Holdings, Inc. (the “Company”) by a wholly owned subsidiary of a private equity fund. The plaintiff, a minority shareholder that was cashed out, alleged that the Company’s board of directors and a group acting as a controlling shareholder breached their fiduciary duties by agreeing to a merger that allegedly disproportionately benefitted the defendants. The Court declined the defendants’ invitation to apply the business judgment rule to the challenged conduct, noting that the Company was dominated by a group of controlling shareholders holding 71% of the Company’s common stock. In such cases, the entire fairness standard applies unless the acquisition is conditioned on “robust procedural protections,” such as a majority of the minority vote, which was not present in this case. The Court likewise resisted the defendants’ request to shift the burden of the entire fairness review to plaintiff, based on the acquisition’s approval by an independent special committee and an independent majority of the board, because this issue could not be resolved upon a motion to dismiss. The Court also refused to dismiss a largely duplicative unjust enrichment claim, holding that overlapping equitable claims could be asserted at the pleading stage. (112)
112. C.A. No. 6120-VCN, 2012 WL 1096090 (Del. Ch. Mar. 30, 2012). Return to top
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Director Removal Under Delaware Law
• In
Shocking Technologies, Inc. v. Michael,(113) Vice Chancellor Noble dismissed a claim seeking to remove the director defendant from plaintiff’s board of directors based on the defendant’s alleged breach of fiduciary duty. The parties agreed that 8 Del. C. § 225(c), which governs the removal of a director for breach of fiduciary duty, was inapplicable. Instead, plaintiff urged the Court to remove the director using its “inherent equitable powers.” The director defendant maintained that the Court had no power outside of Section 225(c) to remove a director. Without deciding that issue, the Court ruled that the circumstances were not so “unusual” or “pressing” to merit the exercise of any inherent equitable powers that the Court might have to remove a director.
Discovery Disputes
• In
Reid v. Siniscalchi,(114) Vice Chancellor Noble granted plaintiff’s motion for entry of an order compelling defendants to produce certain witnesses for depositions. The plaintiff sought the depositions as part of jurisdictional discovery in order to oppose the defendants’ motion to dismiss for lack of personal jurisdiction. Defendants argued that the Court should reject the motion under Court of Chancery Rule 26(b)(1), as the depositions would be cumulative or duplicative, plaintiff already had ample time to obtain the information sought, and the depositions would be unduly burdensome or expensive, because most of the depositions would need to be taken abroad. Based on the facts, the Court rejected these arguments and granted plaintiff’s motion.
Duty Of Loyalty Claims
• In
In re Answers Corporation Shareholders Litigation,(115) Vice Chancellor Noble denied a motion to dismiss a purported class action against the directors of Answers Corporation (“Answers”), which owns and operates Answers.com, alleging breach of fiduciary duty. The action arose out of a merger between Answers
113. C.A. No. 7164-VCN, 2012 WL 1352431 (Del. Ch. Apr. 10, 2012). 114. C.A. No. 2874-VCN, 2012 WL 2053323 (Del. Ch. May 25, 2012). 115. C.A. No. 6170-VCN, 2012 WL 1253072 (Del. Ch. Apr. 11, 2012).
Winston & Strawn LLP | 17 and a wholly-owned subsidiary of AFCV Holdings, LLC (“AFCV”). In early 2011, the venture capital firm Redpoint Ventures (“Redpoint”), which owned 30% of Answers’ common stock and controlled two board seats, sought to liquidate its interest. Because the stock was thinly traded, Redpoint could only do so if the entire company were sold. After initial merger discussions between Answers and AFCV, Redpoint informed the board that Answers’ entire management team would be replaced unless the company were sold in the near future. Following a very brief market check, the board approved the merger. The Court declined to dismiss the breach of the duty of loyalty claims, as the plaintiff adequately pled that: (i) the two Redpoint partners on the board were interested as a result of Redpoint’s desire to liquidate its interest; (ii) the Chairman of the board, also the President and CEO of Answers, was interested because he knew he would lose his job unless the company were sold; and (iii) the rest of the directors acted in bad faith, because they agreed to truncate the sale process at the urging of the three interested directors rather than seeking the highest value reasonably attainable for shareholders. The Court also declined to dismiss claims alleging that the board “locked up” the merger and used it to extract benefits for the directors, because, despite questions about the viability of these claims, they could increase plaintiff’s potential recovery.
Non-Disclosure Agreements
• In RAA Management, LLC v. Savage Sports Holdings,
Inc.,(116) the Delaware Supreme affirmed the Superior Court’s dismissal of a fraud claim, finding that the nonreliance clauses in a non-disclosure agreement barred fraud claims alleging misrepresentations during the due diligence process. In 2010, RAA Management, LLC (“RAA”) entered into discussions with Savage Sports Holdings, Inc. (“Savage”) about acquiring Savage. The parties executed a non-disclosure agreement in connection with RAA’s due diligence review of Savage’s confidential materials. After the discussions ended without an agreement, RAA sued Savage to recover its due diligence costs, claiming that Savage misled RAA by indicating at the outset of the discussions
116. No. 577, 2011, 2012 WL 1813442 (Del. May 18, 2012). Return to top
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that there were no significant unrecorded liabilities or claims against Savage, which the materials proved to be untrue. The Court affirmed the ruling of the Superior Court that the non-disclosure agreement barred RAA’s fraud claim under two provisions explicitly disclaiming any representations or warranties as to the accuracy or completeness of the materials and any liability to RAA resulting from its reliance on the materials. RAA argued that since the operative provisions did not expressly disclaim liability for intentional misrepresentations, they should not be interpreted to bar fraud claims. The Court disagreed on the basis that the provisions themselves made no distinction between intentional and unintentional misrepresentations for purposes of limiting Savage’s liability.
Practice & Procedure Burden Of Proof On Motions For Summary Judgment
• In Wagamon v. Dolan,
Vice Chancellor Glasscock denied defendant’s motion for summary judgment, because the complaint stated a claim for aiding and abetting a breach of fiduciary duty and because defendant failed to file an affidavit demonstrating that there were no disputed issues of material fact. Plaintiff, the coowner of a joint venture, alleged that William Krieg, an outside accountant retained by the joint venture, acted in concert with the joint venture’s other co-owner to block plaintiff from participating in the business and receiving his fair share of distributions. Krieg based his summary judgment motion solely on the alleged inadequacy of the complaint and made no effort to demonstrate the absence of any material factual disputes. Therefore, the Court’s finding that the complaint was legally sufficient was fatal to Krieg’s motion for summary judgment. (117)
Derivative Standing
• In
Microsoft Corporation v. Vadem, Ltd.,(118) Vice Chancellor Parsons dismissed plaintiff’s derivative claims brought on behalf of a company formed under the laws of the British Virgin Islands (“BVI”) for failure to comply with the BVI’s requirements for bringing a derivative suit. Specifically, the BVI Business
117. C.A. No. 5594-VCG, 2012 WL 1388847 (Del. Ch. Apr. 20, 2012). 118. C.A. No. 6940-VCP, 2012 WL 1564155 (Del. Ch. Apr. 27, 2012).
Companies Act of 2004 (the “2004 Act”) requires a party to seek and obtain leave from the High Court of the BVI before bringing a derivative suit. Plaintiff chose not to seek leave before filing suit, arguing that the 2004 Act only applies when the facts underlying the derivative suit occurred after the 2004 Act’s enactment. The Court rejected this argument because all BVI corporations were required to reincorporate under the 2004 Act in 2007, so the 2004 Act’s requirements were controlling. The dismissal was without prejudice, though, as the issue was one of first impression in both Delaware and the BVI, and the Court found plaintiff’s argument to be reasonable, although ultimately not persuasive. Finally, the Court also dismissed plaintiff’s direct claims on the basis that these claims were time-barred. The Court held that the complaint failed to establish that the statute of limitations should have been tolled under either the theory of equitable tolling or fraudulent concealment since plaintiff was on inquiry notice of the alleged wrongdoing in 2000.
• In Protas v. Cavanagh,
Vice Chancellor Glasscock dismissed derivative overpayment claims that plaintiff attempted to disguise as direct claims. The plaintiff asserted a derivative claim for waste and a direct claim for breach of fiduciary duty against the trustees managing BlackRock Credit Allocation Income Trust IV (the “Fund”) based on the Fund’s repurchase of its preferred stock at an allegedly inflated price. The Court began its analysis by finding that plaintiff’s breach of fiduciary duty claim was actually derivative, not direct, because: (i) overpayment harms stockholders only to the extent that their stock loses value, an injury shared by all stockholders equally; (ii) while plaintiff was denied the opportunity to have his common stock repurchased, this does not constitute the sort of unique harm required to permit a party to bring a direct claim; and (iii) assuming that the repurchases were indeed wasteful, plaintiff was not harmed by being denied an opportunity to extract a wasteful payment from the Fund – rather, the Fund was harmed by receiving inadequate consideration for the shares that it did repurchase. Because all of plaintiff’s claims were derivative and because plaintiff failed to make a pre-suit demand on the Fund’s trustees, plaintiff was required to plead demand futility. Plaintiff (119)
119. C.A. No. 6555-VCG, 2012 WL 1580969 (Del. Ch. May 4, 2012). Return to top
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attempted to do by arguing that the repurchases were not taken honestly or in good faith. The Court rejected this argument, dismissing all of the claims against the trustees, because the evidence showed that the Trust received substantial consideration for the repurchased stock and that the trustees acted in good faith. Since plaintiff’s claims against the trustees were dismissed, the Court also dismissed the aiding and abetting breach of fiduciary duty claims against various parties who were involved in the repurchases.
• In Zucker v. Andreessen,
Vice Chancellor Parsons dismissed a shareholder derivative suit for failure to allege a basis to excuse pre-suit demand. This action arose from Hewlett-Packard Company’s (“HP”) 2010 termination of its CEO, Mark Hurd, following an investigation into his alleged misconduct. Though Hurd was not contractually entitled to any severance, HP entered into a severance agreement with Hurd that was allegedly worth approximately $40 million. A stockholder brought a derivative suit, claiming that HP’s board (i) committed waste by granting Hurd the severance package and (ii) breached its duty of care by failing to have a long term CEO succession plan in place. The Court rejected both claims for failure to plead demand futility. With respect to the waste claim, the Court found that the directors were disinterested and independent and plaintiff could not raise a reasonable doubt that the severance agreement was anything other than the product of a valid exercise of the board’s business judgment. The Court noted that HP had received consideration for the severance in the form of Hurd’s agreement to confidentiality, non-disparagement, cooperation, and a release of all claims against HP, and that the amount of the package was a matter best left to the business judgment of the directors. As to the duty of care claim, the Court found that the directors did not face a substantial likelihood of personal liability because HP’s charter exculpated them, pursuant to 8 Del. C. § 102(b)(7), from monetary liability arising from breaches of the fiduciary duty of care unless such a breach constitutes bad faith, i.e., a “a conscious disregard of a known duty to act.”(121) Because there is no established rule in Delaware that a failure to (120)
120. C.A. No. 6014-VCP, 2012 WL 2366448 (Del. Ch. June 21, 2012). 121. Id. at *10.
adopt a long-term CEO succession plan amounts to a breach of any duty, there was by definition nothing for the directors to “consciously disregard.”
Stay Or Dismissal In Favor Of Parallel Proceedings
• In ODN Holding Corporation v. Hsu,
Vice Chancellor Noble stayed proceedings in favor of an earlier-filed California action. Plaintiffs in the Chancery Court action (the “Delaware plaintiffs”) were defendants in two earlier suits – one filed in Delaware Chancery Court and later voluntarily dismissed and one subsequently filed in California state court. Both suits challenged the sale of a majority interest in ODN Holding Corp. (“ODN”), but the California action included additional parties and causes of action. The Delaware plaintiffs sought an injunction prohibiting prosecution of the California action and a declaration that, in approving the sale, the officers and directors of ODN did not violate fiduciary or contractual duties. Ultimately, the Chancery Court action was stayed in favor of the California action, pursuant to the McWane doctrine,(123) because: (i) the California action was filed first; (ii) the California court was able to provide “prompt and complete” justice; and (iii) the two actions were substantially related. The Court rejected the Delaware plaintiffs’ argument that the Chancery Court action should be treated as a continuation of the initial Delaware action (and was therefore filed first) because: (i) plaintiff in the first Delaware action abandoned Delaware as his chosen forum; (ii) the California action was substantially broader than the first Delaware action, in terms of parties and claims; and (iii) the first Delaware action was not ongoing. While Vice Chancellor Noble stayed the Chancery Court action, he refused to dismiss the case, opining that the Court may enjoin a party from pursuing a previously filed case in another jurisdiction, even though such an injunction has rarely, if ever, been issued. (122)
• In RWI Acquisition LLC v. Ronny Dee Todd,
Vice Chancellor Parsons stayed a Delaware action, sua sponte, because Delaware was not a proper venue for determining one aspect of the parties’ dispute, and the (124)
122. C.A. No. 6790-VCN, 2012 WL 1096095 (Del. Ch. Mar. 30, 2012). 123. See McWane Cast Iron Pipe Corp. v. McDowell-Wellman Eng’g Co., 263 A.2d 281 (Del. 1970). 124. C.A. No. 6902-VCP, 2012 WL 1955279 (Del. Ch. May 30, 2012). Return to top
Delaware Quarterly judge presiding over a related, later-filed action could resolve the entire controversy. RWI Acquisition LLC (“RWI”) sought a declaration that defendant Todd no longer had any interest in RWI and was not owed any money by RWI. Prior to the events leading up to this suit, Todd possessed two distinct sets of equity interests in RWI (Subscription Units and Restricted Units), and the parties’ dispute over Todd’s ownership of the Restricted Units implicated an employment agreement between Todd and an entity affiliated with RWI. That employment agreement contained an exclusive forum selection clause requiring all disputes, related in any way to the employment agreement, to be litigated in New Mexico state or federal court. Therefore, the Court determined that it was not a proper forum for determining Todd’s rights, if any, vis-à-vis the Restricted Units. While the Court found that it could determine Todd’s rights to the Subscription Units, it chose instead to sua sponte stay the entire action in favor of a later-filed suit brought by Todd in New Mexico federal court because: (i) the New Mexico court could resolve the entire dispute, not just a portion of it; (ii) judicial economy would be harmed by the parties litigating overlapping issues in multiple courts; and (iii) the Court’s interest in regulating the internal affairs of RWI, a Delaware entity, was outweighed by the clear inefficiencies that would result from letting the action proceed.
• In
Huawei Technologies Co. Ltd., v. Interdigital Technology Corp.,(125) Chancellor Strine, in a transcript ruling, granted a motion to dismiss without prejudice under the McWane doctrine, because there was a prior action pending in federal court that was filed first. The defendant had previously filed suit against plaintiff with the U.S. International Trade Commission (the “ITC”) and in the United States District Court for the District of Delaware, alleging patent infringement. After requesting that the District of Delaware apply the mandatory stay that operates upon filing with the ITC, which it did, plaintiff brought suit in the Court of Chancery, raising a FRAND licensing claim. Chancellor Strine first denied plaintiff’s motion to expedite, as there was no irreparable harm – reasoning that both the ITC and the District of Delaware would consider the FRAND defense in the course of adjudicating the patent claims.
125. C.A. No. 6974-CS (Del. Ch. June 11, 2012).
Winston & Strawn LLP | 20 The Court then granted defendant’s motion to dismiss under McWane, as the federal action had been filed first, the District of Delaware had sole jurisdiction over the patent infringement claims and was capable of doing prompt and complete justice, and the case involved neither Delaware law nor a plaintiff with a connection to Delaware.
• In
McElroy v. Schornstein,(126) Chancellor Strine dismissed a Section 273 dissolution action under the McWane doctrine. The Court acknowledged Delaware’s strong interest in hearing this summary proceeding but still dismissed the action in favor of an earlier filed action in New Jersey state court, because the New Jersey and Delaware actions shared overlapping facts and parties (the two co-owners of the Delaware corporation sought to be dissolved by the Section 273 action) and because the New Jersey action involved claims relevant to the distribution of assets pursuant to a dissolution. Moreover, the New Jersey court had already entered an order limiting the parties’ authority over the corporation and appointing a “Fiscal Agent” to monitor and review the parties’ conduct, thereby limiting the need for a Delaware receiver. Finally, the Court noted, with displeasure, that, after filing the dissolution action, the Delaware plaintiff then filed a related California action, creating a “three-ring circus” and causing unnecessary inefficiency and complication.
Remedies Contract Reformation
• In
ASB Allegiance Real Estate Fund v. Scion Breckenridge Managing Member, LLC,(127) Vice Chancellor Laster reformed a contract, post-trial, to express the parties’ actual agreement. Plaintiffs, entities affiliated with ASB Capital Management, LLC (collectively, “ASB”) participated in joint ventures that invested in real estate operated by defendants, entities affiliated with The Scion Group, LLC (collectively, “Scion”). The parties’ joint venture agreements provided for a “promoted interest” or “promote” – a common type of incentive compensation that allowed Scion’s share of the profits from the joint venture to
126. C.A. No. 7233-CS (Del. Ch. June 20, 2012). 127. C.A. No. 5843-VCL, 2012 WL 1869416 (Del. Ch. May 16, 2012). Return to top
Delaware Quarterly exceed its ownership interest if certain performance thresholds were met. In one of the parties’ joint venture agreements, the terms of the “promote” were changed, such that Scion would receive the “promote” even if the joint-venture was unprofitable, and this change was preserved in the parties’ subsequent joint-venture agreements. ASB asked the Court to reform the latter joint-venture agreements’ language on the “promote” to match the language of the earlier agreements. The Court agreed to reform the contracts because: (i) the parties’ earlier joint-venture agreements provide a clear contractual understanding that the “promote” would not be triggered until the parties’ capital was returned; (ii) ASB mistakenly believed that this contractual understanding was reflected in each joint venture agreement, as the change was accidentally made by a junior attorney representing ASB; and (iii) Scion knew about the scrivener’s error but failed to notify ASB. In rejecting Scion’s affirmative defenses, the Court noted that failure to read the agreements at issue does not bar equitable reformation, and ASB’s eight-month delay in paying undisputed monies to Scion was not so offensive as to warrant denial of the reformation request.
Quasi-Estoppel
• In Bank of New York Mellon v. Commerzbank Capital
Funding Trust II,(128) Vice Chancellor Noble rejected plaintiff’s argument that the doctrine of quasi-estoppel barred the defendant from taking a particular position in its motion for summary judgment. Under the doctrine of quasi-estoppel, a person who has gained some advantage or produced some disadvantage to another by maintaining a position is prevented from changing his position. The Court held that the doctrine did not apply here as plaintiff could not point to any facts in the record showing that the defendant’s initial position produced a benefit for itself or a disadvantage to anyone else.
Reviewability Of Arbitral Decision
• In
Pryor v. IAC/InterActiveCorp,(129) Chancellor Strine dismissed claims challenging the results of an arbitration. The plaintiff was a founding stockholder of a company that the defendant corporation acquired.
128. C.A. No. 5580-VCN, 2012 WL 2053299 (Del. Ch. May 31, 2012). 129. C.A. No. 6884-CS, 2012 WL 2046827 (Del. Ch. June 7, 2012).
Winston & Strawn LLP | 21 The four founding stockholders and the defendant entered into a stockholders’ agreement under which the stockholder with the most number of shares had the right to require the defendant to purchase all of their shares under certain circumstances. The contract provided that any disputes in selecting a firm to value the shares would be submitted to arbitration, which is what in fact occurred. The arbitrator selected the defendant’s proposed firm to value the shares, and that firm ultimately adopted the defendant’s proposed valuation. Plaintiff sued, claiming: (i) that the arbitrator and the firm exceeded their authority by relying upon market evidence in violation of the stockholders’ agreement, warranting vacatur of the arbitration awards; and (ii) breach of contract and breach of fiduciary duty by the defendant for introducing this impermissible market evidence. The Court denied the motion to vacate because it was not served by the three-month deadline prescribed in the Federal Arbitration Act. The Court dismissed the breach of contract and breach of fiduciary duty claims, because the stockholders’ agreement expressly provided that the arbitrator would determine any issues of substantive arbitrability. The Court also found that the breach of contract claim failed, because it constituted an impermissible collateral attack on the arbitration awards.
Revlon Duties
• In
In re Comverge Inc. Shareholders Litigation,(130) Vice Chancellor Parsons, in an oral ruling, declined to preliminarily enjoin the acquisition of Comverge, Inc. (“Comverge”) by HIG Capital LLC and related entities (collectively, “HIG”). Plaintiffs alleged that Comverge’s directors breached their fiduciary duties under the Revlon standard(131) by approving the merger agreement without making good faith efforts to maximize the sale price. In particular, plaintiffs faulted the board for: (i) rejecting an earlier bid from HIG that was more generous than the accepted offer; and (ii) failing to challenge HIG’s acquisition, during negotiations, of a considerable debt interest in Comverge, which allegedly empowered HIG to strong-arm Comverge’s board into accepting
130. C.A. No. 7368-VCP (Del. Ch. May 8, 2012). 131. Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc., 506 A.2d 173 (Del. 1986). Return to top
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the lower bid. While the Court acknowledged that the wisdom of these business decisions was debatable, it concluded that they were made in good faith and were objectively reasonable when made, given the board’s contemporaneous concerns regarding expressions of interest from rival bidders and the risk that a failed lawsuit against HIG could land Comverge in bankruptcy court. Finally, the Court found that the merger agreement’s deal-protection devices were reasonable since Comverge secured reciprocal concessions from HIG, including an agreement to waive certain contractual rights under the notes that it had acquired.
Selection Of Class Counsel
• In Coyne v. Catalyst Health Solutions, Inc.,
Vice Chancellor Noble consolidated four actions contesting an acquisition and designated a lead plaintiff, lead counsel, and liaison counsel. After considering the factors set forth in Hirt v. U.S. Timberlands Service Company, LLC,(133) the Court determined that one proposed organization structure was marginally superior to the other based on the quality of the amended pleadings and the size of the plaintiffs’ financial interests. (132)
claims; and (v) although the remaining claims carried substantial risk of liability, they also raised complicated damages issues. On the other hand, if plaintiffs were to succeed in resurrecting their dismissed claims, then the Court noted that the settlement would be clearly inadequate. To protect the settlement consideration and to economically incentivize the objecting plaintiffs to act in the Fund’s best interests, the Court decided to wait sixty days before entering an order approving the settlement. Should the objectors or their counsel post a security, payable to the Fund, for the full value of the settlement consideration during this sixty day window, then the Court would permit them to continue the litigation. If the objectors then recover more than the settlement consideration, the Fund (and its limited partners) would benefit, and, if the objectors recover less, then the Fund would collect on the security. The shortfall would be borne by the objecting plaintiffs or their counsel.
Settlements
• In
Forsythe v. ESC Fund Management Company (U.S.),(134) Vice Chancellor Laster provided a group of plaintiffs who objected to a settlement an option to “buy” the litigation. Plaintiffs, limited partners in the CIBC Employee Private Equity Fund (U.S.) I, L.P. (the “Fund”), asserted breach of fiduciary duty claims on behalf of the Fund. On the eve of trial, the parties reached a settlement that was quickly challenged by a group of objectors. The Court determined that the settlement consideration was within the range of fairness, albeit toward the low end, because: (i) the parties negotiated at arm’s length with the benefit of an experienced mediator; (ii) the settlement included cash consideration; (iii) the defendants already won summary judgment on plaintiffs’ most valuable claims; (iv) while the Court’s summary judgment opinion was still interlocutory, it would be difficult for the plaintiffs to resurrect their
132. C.A. No. 7506-VCN, 2012 WL 2052731 (Del. Ch. May 24, 2012). 133. C.A. No. 19575, 2012 WL 1558342, at *2 (Del. Ch. July 3, 2002). 134. C.A. No. 1091-VCL, 2012 WL 1655538 (Del. Ch. May 9, 2012). Return to top
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Contacts This Quarter’s Authors Jonathan W. Miller is a partner, and Matthew L. DiRisio, Jill K. Freedman, Ali R. Rabbani, Ian C. Eisner, Anthony J. Ford and George W. Mustes are associates in the Litigation Department of Winston & Strawn LLP.
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