The Delaware Quarterly January - March 2014
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. Each calendar quarter, the Delaware Quarterly analyzes and summarizes key decisions of the Delaware courts on corporate and commercial issues, along with other significant developments in Delaware corporate law. The Delaware Quarterly is a source of general information for clients and friends of Winston & Strawn LLP and is also contemporaneously published in the Bank and Corporate Governance Law Reporter. It should not be construed as legal advice or the opinion of the Firm. For further information about this edition of the Delaware Quarterly, readers may contact the Editors, the Authors, or any member of the Advisory Board listed at the end of this publication, as well as their regular Winston & Strawn contact.
Volume 3, Number 1
DQ Highlights Introduction.............................................................. 2 The Evolving Legal Review Standards For Controller-Led, Going-Private Transactions..... 2 In re Orchard Enterprises, Inc. Stockholder Litigation.........................................4 Kahn v. M&F Worldwide Corp.......................... 8 In re Rural Metro Corporation Stockholders Litigation.........................................12 Additional Developments In Delaware Business And Securities Law........... 14 Acquiescence .................................................... 14 Advancement..................................................... 14 Appeals................................................................15 Appraisal Proceedings.....................................15 Attorney’s Fees..................................................15 Books and Records Actions............................16 Contempt.............................................................16 Contract Interpretation.....................................16 Fiduciary Duties................................................. 17 Forum Selection.................................................18 Implied Covenant of Good Faith and Fair Dealing.......................................18 Injunctions...........................................................19 Laches..................................................................19 Practice and Procedure...................................19
Editors
Settlement Proceedings.................................20
Jonathan W. Miller
[email protected] +1 (212) 294-4626
James P. Smith III
[email protected] +1 (212) 294-4633
John E. Schreiber
[email protected] +1 (212) 294-6850
Matthew L. DiRisio
[email protected] +1 (212) 294-4686
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Written Consents...............................................21 This Quarter’s Authors ........................................22 The Delaware Quarterly Advisory Board .....................................................22
The Delaware Quarterly Introduction The Delaware courts grabbed the attention of dealmakers this quarter with a handful of decisions that recast how those courts will review and handle certain M&A transactions in the future. Both the Court of Chancery and the Delaware Supreme Court weighed in on the legal standards governing controller-led take-private transactions. In In re Orchard Enterprises, Inc. Stockholder Litigation,1 Vice Chancellor Laster held that the exception to entire fairness scrutiny of freeze-out mergers recognized by then-Chancellor Strine in last year’s landmark decision in In re MFW Shareholders Litigation2 was only available where the dual procedural protections of (i) a special committee and (ii) a non-waivable majorityof-the-minority provision were established at the outset, prior to the commencement of negotiations. The court thus granted plaintiffs’ summary judgment on the basis that the appropriate standard of review was entire fairness, rather than the business judgment rule, because the controlling stockholder did not initially agree that the merger was conditioned on both procedural protections. Two weeks later, in the widely anticipated decision in Kahn v. M&F Worldwide Corp., 3 the Supreme Court upheld the MFW decision, expressly affirming that controller-led take-private transactions are subject to review under the deferential business judgment standard when they are conditioned upon, at the outset, the approval of both a fully-empowered, disinterested and independent special committee and a fully-informed and uncoerced majorityof-the-minority vote. In doing so, the Court formulated a six-part test on which business judgment review would depend: (i) the transaction is conditioned on the approval of both a special committee and a majority-of-the-minority vote – procedural protections that must be established at the outset, prior to any negotiations taking place; (ii) the special committee is independent; (iii) the special committee has the power to select its own advisors and to say no definitively; (iv) the special committee fulfills its duty of care in negotiating a fair price; (v) the vote of the minority is informed; and (vi) there is no coercion of the minority. Also warranting attention is Vice Chancellor Laster’s posttrial decision in In re Rural Metro Corporation Stockholders Litigation4 – a much-anticipated and highly-publicized opinion that highlights the court’s focus on financial advisor conflicts and the need for directors to take an active role 1 2 3 4
C.A. 7840, 2014 WL 1007589 (Del. Ch. Feb. 28, 2014). 67 A.3d 496 (Del. Ch. May 29, 2013). C.A. No. 334, 2014 WL 996270 (Del. Mar. 14, 2014). C.A. No. 6350, 2014 WL 971718 (Del. Ch. Mar. 7, 2014).
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in providing oversight during the entire sales process. Putting investment banker deal-making squarely in the spotlight, the Vice Chancellor found a financial advisor liable for aiding and abetting breaches of fiduciary duty by the board of directors based on the financial advisor’s: (i) failure to disclose material conflicts of interest relating to its efforts to leverage its role as sell-side advisor in order to obtain buy-side financing work; and (ii) materially misleading valuation analysis that it provided to the board in an effort to ensure board approval of the merger. This decision reemphasizes the importance of identifying and addressing conflicts of interest on the part of financial advisors (actual and potential) at the outset and throughout the entirety of the sales process. All of these developments 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: acquiescence; advancement of fees; appeals; appraisal proceedings; attorney’s fees; books and records actions; contract disputes; fiduciary duties; forum selection; the implied covenant of good faith and fair dealing; injunctions; laches; settlements; written consents; and various issues of Delaware practice and procedure.
The Evolving Legal Review Standards For Controller-Led, Going-Private Transactions In the span of two weeks, the Delaware courts issued perhaps the two most important decisions to date in the ever-evolving paradigm of legal standards governing going-private transactions involving controlling stockholders. On February 28, 2014, Vice Chancellor Laster issued a 90-page opinion in In re Orchard Enterprises, Inc. Stockholder Litigation, 5 offering one of the first substantive applications of then-Chancellor Strine’s landmark May 2013 ruling in In re MFW Shareholders Litigation, 6 which held for the first time that a controllerled freeze-out merger could avoid the often outcomedeterminative entire fairness standard of judicial scrutiny where the controller conditioned the transaction, on the front end, on the approval of both an independent special committee and the informed vote of the holders of a majority of shares not owned or controlled by the controller. In Orchard, Vice Chancellor Laster held that the MFW “exception” to automatic entire fairness review of freeze-out mergers was only available where the dual procedural protections – a special committee and a
5 Orchard, 2014 WL 1007589. 6 67 A.3d 496 (Del. Ch. 2013), aff’d, 2014 WL 996270 (Del. Mar. 14, 2014).
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The Delaware Quarterly non-waivable majority-of-the-minority provision – were established up front, i.e., prior to the commencement of negotiations. On that basis, among others, the Vice Chancellor granted plaintiffs summary judgment on their argument that the entire fairness standard of review would apply at trial to evaluate the breach of fiduciary duty claims challenging the merger, and that defendants would bear the burden of proof. Beyond its interpretation of MFW, the court’s decision offered several noteworthy rulings in the course of addressing competing motions for summary judgment, including: ΅΅ rejecting defendants’ argument that, under the court’s decision in In re Transkaryotic Therapies, Inc.,7 fiduciary duty claims based on the failure to disclose material information to stockholders in connection with a merger vote, i.e., “disclosure claims,” are extinguished at closing and cannot give rise to money damages; instead, the court clarified that disclosure claims can survive closing and give rise to quasi-appraisal and other monetary damages if they implicate duty of loyalty issues; ΅΅ rejecting the director defendants’ argument that Orchard’s exculpatory charter provision required summary judgment in their favor under 8 Del. C. § 102(b) (7), reasoning that in cases (i) involving a controlling stockholder and governed by the entire fairness standard where (ii) “there is evidence of procedural and substantive unfairness,” the court will not summarily apply 8 Del. C. § 102(b)(7) to exculpate directors from monetary liability resulting from alleged breaches of fiduciary duties solely on the ground that the directors are facially or nominally independent and disinterested;
Two weeks after Orchard, the Delaware Supreme Court issued its highly-anticipated decision in the MFW appeal, styled Kahn v. M&F Worldwide Corp.8 Sitting en banc, the Court unanimously affirmed then-Chancellor Strine’s earlier decision that controller-led take-private transactions are subject to review under the deferential business judgment standard when they are conditioned, at the outset, on the approval of both a fully-empowered, disinterested and independent special committee and a fully-informed and uncoerced majority-of-the-minority vote. Summarizing the “new standard” as a six-part test, the Court held that business judgment review would apply “if and only if: (i) the controller conditions the procession of the transaction on the approval of both a Special Committee and a majority of the minority stockholders; (ii) the Special Committee is independent; (iii) the Special Committee is empowered to freely select its own advisors and to say no definitively; (iv) the Special Committee meets its duty of care in negotiating a fair price; (v) the vote of the minority is informed; and (vi) there is no coercion of the minority.”9 The Court also made clear (consistent with Vice Chancellor Laster’s decision in Orchard) that the dual procedural protections must be established ab initio – i.e., prior to the commencement of any negotiations – in order to qualify for business judgment protection.
΅΅ rejecting plaintiffs’ argument that the court’s ruling in a prior appraisal proceeding that the fair value of Orchard common stock was more than twice as much as the transaction price warranted summary judgment that the merger was unfair.
Critically, while the Supreme Court affirmed the MFW ruling below, it made a number of statements (arguably in dicta) modifying the procedural regime delineated by then-Chancellor Strine in some potentially far-reaching respects. Most notably, the Court suggests that employing the double-barreled approach at the pleadings stage – as expressly envisioned by the Chancery Court – might prove difficult in practice. In a footnote that, in legal discourse, has seemingly eclipsed the holding itself as the key takeaway from the case, the high court went out of its way to note that the plaintiffs’ complaint would have survived a motion to dismiss under the Court’s proposed framework, notwithstanding that the procedural protections were implemented at the outset and faithfully honored by the parties to the merger. More importantly, the allegations on which the Court based that conclusion are prototypically the sort of canned, generic allegations about merger consideration levied in nearly every merger suit, e.g., that the merger price was $2 lower than the company’s trading price two months prior and that analysts viewed the merger price as lower than expected. Yet the Court found that these allegations raised doubts about the efficacy of negotiations by the special committee and,
7 954 A.2d 346 (Del. Ch. 2008).
8 M&F Worldwide, 2014 WL 996270. 9 Id. at *7 (emphasis in original).
΅΅ granting plaintiffs summary judgment on their claim that Orchard’s proxy statement contained materially misleading disclosures on the ground that, in the disclosure claim context, inaccurate statements in disclosures required by statute are material per se; ΅΅ rejecting defendants’ argument that plaintiffs could not, as a matter of law, obtain an award of rescissory damages even if they prevailed on their fairness claims at trial; and
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The Delaware Quarterly thus, would have warranted discovery on all six elements articulated by the Court as prerequisites to business judgment application. In sum, while the Court blessed the advent of a mechanism by which controllers and target boards can secure business judgment protection in the freeze-out context, it also erected potential hurdles that could mitigate the benefits – or, at a minimum, shift the cost/benefit analysis for controlling stockholders – of constructing the procedural devices in the first instance.
In re Orchard Enterprises, Inc. Stockholder Litigation 10
Background The Company Dimensional Associates, LLC (“Dimensional”) was the controlling stockholder of The Orchard Enterprises, Inc. (“Orchard” or the “Company”), holding 42 percent of Orchard’s outstanding common stock and 99 percent of its outstanding Series A convertible preferred stock (“Series A Preferred”), which gave it control of 53.3 percent of Orchard’s outstanding voting power.11 In addition, through a 2007 agreement creating Orchard, Dimensional received the right to designate four of the seven directors to serve on Orchard’s board. Orchard’s Series A Preferred was not, as the Vice Chancellor noted, customarily “strong”: it had no preferred cash flow rights and participated on an as-converted basis with the common stock in any dividend or distribution (with a conversion calculation of 1:3.33). It did carry an aggregate liquidation preference of $24.99 million, but that preference was triggered only by an actual liquidation, dissolution or winding up of the Company. Finally, the Series A Preferred did not have critical consent rights often associated with preferred stock and was not “participating preferred,” so after the liquidation preference was paid, common stockholders would receive the remaining assets or funds of the Company. In addition, the certificate of designations governing the Series A Preferred prohibited a “Change of Control” event in certain circumstances, including a squeeze-out transaction by Dimensional. As for third-party transactions, the certificate provided that the Series A Preferred would receive the liquidation preference on the condition that the remainder of deal proceeds would be distributed to common stock.
10 Orchard, 2014 WL 1007589. 11 Id. at *2.
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The Squeeze-Out Merger On October 9, 2009, Dimensional proposed to squeezeout Orchard’s minority stockholders for $1.68 per share. In response, Orchard’s board of directors (the “Board”) formed a special committee (the “Special Committee”), whose members were all facially independent, including the chairman of the Special Committee (the “Chair”), who was one of the directors designated by Dimensional. The Special Committee ultimately hired Fesnak & Associates, LLP (“Fesnak”) as its financial advisor. In the early stages of the process, Fesnak valued Orchard’s common stock at $4.84 per share, which assumed that the Series A Preferred were valued on an as-converted basis rather than on the basis of the $25 million liquidation preference. This was consistent with Orchard’s view, based on other contemporaneous evidence including a memorandum by the Company’s CFO, that a squeeze-out merger by Dimensional (as opposed to a third-party transaction) would not trigger the liquidation preference. 12 During the course of negotiations with Dimensional, a third-party (“Third-Party Bidder”) proposed to acquire all of Orchard’s outstanding common stock for between $2.36 and $2.84 per share, and all of Series A Preferred for a combination of cash and equity in the post-transaction entity. When the Special Committee informed Dimensional of the Third-Party Bidder, Dimensional represented that it would be willing to sell to a third-party if it received the full liquidation preference for the Series A Preferred. Based on that representation, the Special Committee told the Third-Party Bidder to negotiate with Dimensional directly. Dimensional and the Third-Party Bidder ultimately reached an impasse, and the Third-Party Bidder withdrew the proposal. On December 11, 2009, the Special Committee determined that it would recommend a transaction with Dimensional only if: (i) the merger consideration was between $2.05 and $2.15 per share of Orchard common stock; (ii) the deal was subject to the approval of a majority of the minority stockholders; and (iii) the merger agreement provided for a go-shop period. After initially raising its offer price to $2.10 per share but refusing to include a majority-of-the-minority provision, Dimensional eventually agreed to include both a go-shop provision and a majority-of-the-minority vote in exchange for a lower price of $2.00 per share of common stock. The parties ultimately agreed to meet in the middle, finalizing a deal at $2.05 per share subject to both a go-shop and a majority-of-the-minority provision. The 12 In a November 17, 2009 e-mail, the CFO similarly concluded that the Series A Preferred was worth approximately $7 million, stating “I cannot see how the special committee can recommend Dimensional’s offer to the minority share holders [sic].” Id. at *6.
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The Delaware Quarterly Special Committee based its approval, in part, on Fesnak’s indication that it would be able to opine that $2.05 per share was fair to the minority stockholders. Notably, Fesnak’s ability to do so hinged on revised valuation models implying a valuation range between $2.00 and $2.10 per share, in which Fesnak had shifted course from its earlier methodology and valued the Series A Preferred based on the $25 million liquidation preference rather than on an as-converted basis. The parties spent the next several weeks negotiating the transaction documents. 13 On March 15, 2009, Fesnak issued an opinion that the merger was fair, from a financial point of view, to the minority stockholders, and the Special Committee approved the merger. After the completion of a 37-day go-shop that yielded no additional formal proposals, the Third-Party Bidder reemerged with a revised proposal, but the Special Committee – citing the proposal’s financing condition – determined that it was unlikely to lead to a superior proposal under the merger agreement’s no-shop provision. On that basis, it denied the Third-Party Bidder’s request for diligence and declined to pursue discussions further. On June 18, 2010, Orchard disseminated its proxy statement, recommending that stockholders approve both (i) the merger and (ii) an amendment to the Series A Preferred certificate which would permit a waiver of the certificate’s prohibition on the squeeze-out merger (and other specific change-in-control transactions) upon an affirmative vote of the majority of Series A Preferred holders. Both were approved, and the merger closed on July 29, 2010. The Appraisal Action Following the closing, a number of Orchard stockholders declined the consideration in the merger and instead instituted an appraisal proceeding under 8 Del. C. § 262 to determine the fair value of their Orchard common stock.14 The key issue in the appraisal was the manner in which the Series A Preferred was valued: on an as-converted basis or pursuant to the $25,000 liquidation preference. On July 18, 2012, the Court of Chancery determined that the Series A Preferred should be valued on an as-converted basis because, in pertinent part, it was unlikely that the 13 Interestingly, the Special Committee successfully negotiated limited “flip in” rights for the minority stockholders, providing that, in the event Dimensional turned around and sold 80 percent or more of the Company’s equity or assets to another party within six months of the merger, minority stockholders would receive 15 percent of any upside. Id. at *7. 14 In re Appraisal of The Orchard Enters., Inc., C.A. No. 5713, 2012 WL 2923305 (Del. Ch. July 18, 2012), aff’d, 2013 WL 1282001 (Del. Mar. 28, 2013).
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liquidation preference (which required an actual dissolution or winding up) would ever be triggered. Treating the Series A Preferred on an as-converted basis, the court found that the fair value of Orchard common stock was $4.67 per share – $2.62 higher than the merger price. The Litigation Nearly two months after the appraisal decision – and more than two years after the closing of the squeeze-out merger – plaintiffs filed this case alleging that Dimensional, the Orchard directors who approved the merger, and Orchard’s interim CEO breached their fiduciary duties by approving the merger at an unfair price and pursuant to an unfair process that placed Dimensional’s interests before those of the minority stockholders. 15 Plaintiffs also alleged a host of disclosure violations in the proxy statement issued in connection with the merger vote. The parties filed cross-motions for summary judgment, seeking rulings on: (i) whether certain statements in the proxy statement were materially misleading; (ii) the appropriate standard of review (business judgment or entire fairness) applicable to evaluating the merger; (iii) whether the merger was unfair as a matter of law in light of the court’s earlier appraisal decision valuing Orchard common stock at more than double the merger price; and (iv) whether specific remedies sought by plaintiffs were improper as a matter of law.
The Court’s Analysis Disclosure Claims The court separated plaintiffs’ disclosure claims into four categories: (i) the effect of the merger on the Series A liquidation preference; (ii) the description and valuation of the Series A liquidation preference; (iii) the Chair’s relationship with Dimensional; and (iv) the nature of Dimensional’s negotiations with the Third-Party Bidder (and Dimensional’s willingness to deal with third-party bidders, generally). The court ultimately rejected plaintiffs’ summary judgment motion as to all but one. Effect Of The Squeeze-Out On The Liquidation Preference Plaintiffs alleged that the proxy statement inaccurately stated, in two places, that the merger with Dimensional would trigger the $25 million liquidation preference absent
15 The plaintiffs also sued Orchard itself on the theory that it was directly responsible for the breaches by its directors. The court granted summary judgment dismissing those claims on the ground that corporations themselves owe no duties to stockholders and cannot aid and abet violations by its fiduciaries. Orchard, 2014 WL 1007589, at *43.
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The Delaware Quarterly approval of an amendment to the Series A certificate being proposed contemporaneously with the merger. Defendants pointed out that two other parts of the proxy correctly explained that, in fact, the Dimensional merger would not trigger the liquidation preference, and argued that two accurate descriptions were sufficient to provide stockholders with a total mix of information necessary to cast an informed vote. The court rejected that argument, finding that one of the erroneous statements was material as a matter of law because it appeared in the proxy’s description of the prospective amendment to the Series A certificate, and, accordingly, implicated an express statutory requirement under 8 Del. C. § 242(b) (1), which requires that notice of a proposed amendment to a certificate of incorporation include a “full or brief summary of the changes to be effected thereby.”16 Since the misstatement was material per se, it was not subject to the “total mix of information” test that generally governs a materiality analysis. Characterization And Valuation Of The Liquidation Preference Plaintiffs argued that the proxy was misleading insofar as it (i) described the liquidation preference as an “ongoing obligation” of the Company and (ii) stated that Fesnak had determined independently, as a matter of prudent business judgment, to value the Series A Preferred using the full face value of the liquidation preference. The court rejected the first argument on the basis that the statement was accurate. As to the second, the court noted that, in contrast to the proxy’s assertion that it was Fesnak’s choice to use the full value of the liquidation preference, a Fesnak representative testified at the earlier appraisal trial that he changed methodologies – from one valuing the Series A Preferred on an as-converted basis to the final one using the liquidation preference – because the Special Committee told him to. 17 The court also pointed to a letter from the Chair providing Fesnak with the precise value of the liquidation preference and language of the fairness opinion itself disclaiming any effort to independently value the Series A Preferred. That ambivalence created an issue of fact as to the accuracy of the proxy that could not be resolved on summary judgment.18
16 Id. at *13 (quoting 8 Del. C. § 242(b)(1)). 17 Id. at *15. 18 Id. at *13-18.
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The Independence Of The Special Committee Chair The court likewise declined to grant plaintiffs summary judgment on their claim that the proxy inaccurately stated that the Chair “had no financial or other relationship with Dimensional” because, in fact, the Chair (i) had longstanding personal and professional ties to the founder of JS Capital Management, Dimensional’s ultimate parent and (ii) had approached Dimensional about a post-merger consulting position before the vote and began working in that capacity within three months of the closing. The Controller’s Negotiations With The Third-Party Bidder Finally, the court found that it could not resolve on summary judgment plaintiffs’ claim that the proxy misrepresented Dimensional’s willingness to sell its stake to a third-party. Plaintiffs challenged the proxy’s description of Dimensional’s negotiations with the ThirdParty Bidder, which indicated that Dimensional had demanded full satisfaction of the liquidation preference. According to plaintiffs, that statement misleadingly suggested that Dimensional would be willing to sell its stake to a third-party subject to satisfaction of the liquidation preference when, in fact, Dimensional was only willing to sell to a third-party if it received a premium on the liquidation preference. Standard Of Review The court granted plaintiffs summary judgment on their argument that entire fairness, rather than the business judgment rule, would be the appropriate standard of review at trial. In so holding, the court found that the transaction did not qualify for the exception to fairness review recognized by then-Chancellor Strine in the MFW decision,19 because Dimensional did not expressly condition the squeeze-out on the approval of both a majority of the minority stockholders and a fully-empowered special committee of independent and disinterested directors ab initio, i.e., before the commencement of any negotiations. 20 Furthermore, the court agreed with plaintiffs that defendants should bear the burden throughout trial of establishing entire fairness. Specifically, while the presence of a special committee or a majority-of-theminority provision can justify a burden shift under Delaware law, the court declined to do so here because defendants did not establish as a matter of law – as 19 67 A. 3d at 502-03. 20 Orchard, 2014 WL 1007589, at *18.
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The Delaware Quarterly required at the summary judgment stage – that the majority-of-the-minority vote was fully-informed (given the inclusion of at least one material misstatement (and maybe more) in the proxy) or that the Special Committee was disinterested and independent. As to the latter, the court pointed to disputed issues of material fact regarding: (i) the Chair’s ties to, and consulting work for, Dimensional and his later consulting work for Orchard; (ii) whether the Special Committee (contrary to the proxy) directed Fesnak to value the Series A Preferred based on the liquidation preference rather than on an as-converted basis; and (iii) whether Dimensional was entirely candid with Special Committee about its willingness to sell to a third party (information the court deemed “highly material” because it persuaded the Special Committee to route third-party bidders directly to Dimensional and impacted the efficacy of the go-shop). 21 Fairness Analysis The court declined to grant summary judgment on whether the merger was entirely fair, notwithstanding the earlier appraisal decision calculating the “fair value” of Orchard common stock at the time of the merger as $4.67 per share. While it acknowledged that a fair value assessment of more than double the merger price is “certainly evidence of financial unfairness,” it is not dispositive because, unlike the fair value determination in the appraisal context, which requires a specific point calculation, fair price is not so specific. In other words, a merger price can fall below the precise fair value calculation demanded by the appraisal statute and still fall within a range of fair values. 22 As the court stated, “the fair process aspect of the unitary entire fairness test is flexible enough to accommodate the reality that . . . value . . . [is] a range of reasonable values.”23 Available Remedies Section 102(b)(7) The court rejected defendants’ argument that the Special Committee members were exculpated from liability based on an exculpatory provision in Orchard’s charter under 8 Del. C. § 102(b)(7), which exculpates directors from liability stemming from breaches of the fiduciary duty of care. Here, the court noted that the record could support a finding of procedural and substantive unfairness, and thus plaintiffs’ claims were “inextricably intertwined with
21 Id. at *20-21. 22 Id. at *23. 23 Id. at *21-22 (quoting Cede & Co. v. Technicolor, Inc., 2003 WL 23700218, at *2 (Del.Ch. Dec. 31, 2003), aff’d in part, rev’d in part on other grounds, 884 A.2d 26 (Del. 2005)) (internal quotation marks omitted).
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issues of loyalty.”24 Accordingly, it “[wa]s not possible to hold as a matter of law that the factual bases for the claims solely implicate a violation of the duty of care.”25 While the court recognized that Section 102(b)(7) is routinely used to defeat fiduciary duty claims at the pleading stage in cases governed by the business judgment rule, it found that it would be inappropriate to do so in this setting, given the heightened opportunity for bias in controller deals and the record of unfairness in evidence. As summarized by the court: [W]hen a case involves a controlling stockholder with entire fairness as the standard of review, and when there is evidence of procedural and substantive unfairness, a court cannot summarily apply Section 102(b)(7) on a motion for summary judgment to dismiss facially independent and disinterested directors. 26 Instead, the court would determine at trial if the deal was unfair, and, at that point: (i) identify the types of breaches upon which liability will be predicated proportionately; and (ii) conduct a director-by-director analysis of exculpation. The court did point out the continued strength of a Section 102(b)(7) defense, even in this context, where independent directors on the Special Committee could be exculpated from monetary liability post-trial even though they negotiated a transaction with a controller that fails the fairness test. Rescissory And Quasi-Appraisal Damages The court rejected defendants’ motion for summary judgment that plaintiffs could in no event obtain rescissory damages because of the passage of time between the merger and the lawsuit. While the passage of time could potentially militate against such an award, the court referred to cases granting rescissory damages five to seven years post-closing and held that, where a “merger is found not to be entirely fair and if one or more of the defendants are found to have violated their fiduciary duty of loyalty,” rescissory damages, which allow the stockholder to seek more than out-of-pocket damages, are one form of potential relief. 27
24 Id. at *28 (quoting Emerald Partners v. Berlin, 787 A.2d 85, 98-99 (Del. 2001)) (internal quotation marks omitted). 25 Id. (quoting Emerald Partners v. Berlin, 726 A.2d 1215, 1222 (Del. 1999)) (internal quotation marks omitted). See also Id. at *25 (“The degree to which a court can classify claims as falling only within the duty of care and enter judgment on the basis of § 102(b)(7) depends on the stage of the case, the standard of review and the allegations or evidence to be considered.”). 26 Id. at *28. 27 Id. at *32.
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The Delaware Quarterly The court similarly rejected defendants’ argument that quasi-appraisal damages – which consist of the fair value of the stock less the deal price – are limited to short-form mergers and unavailable as a remedy for disclosure claims. The court explained that the “premise for the award is that without the disclosure of false or misleading information, or the failure to disclose material information, stockholders could have voted down the transaction and retained their proportionate share of the equity in the corporation as a going concern.”28 Money Damages For Post-Closing Disclosure Claims, Generally Perhaps most notably, the court rejected defendants’ contention that damages are unavailable post-closing as a remedy for disclosure violations under the court’s decision in In re Transkaryotic Therapies, Inc.29 Distinguishing Transkaryotic as a third-party merger case that did not implicate the duty of loyalty, the court pointed to language in other authorities stating that damages could be available for disclosure violations that caused a deprivation of stockholders’ economic interests or an impairment of their voting rights. The court emphasized that whether the damages sought were in fact appropriate and available would be determined at trial, and would be dependent on, among other things, plaintiffs’ ability to establish causation and damages.
Kahn v. M&F Worldwide Corp
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Background In June 2011, MacAndrews & Forbes, the 43.4 percent owner of M & F Worldwide (“MFW” or the “Company”), sent a proposal to the MFW board to acquire the remaining shares of MFW stock at $24 per share in a squeeze-out merger. The proposal was expressly conditioned on the approval of both: (i) a special committee of independent directors; and (ii) the affirmative vote of the holders of a majority of MFW stock not owned by MacAndrews & Forbes. Notably, in conjunction with these conditions, MacAndrews & Forbes also indicated in the proposal that it had no interest in selling any of its shares of MFW and would not vote in favor of any alternative sale, merger or similar transaction involving MFW. In addition, MacAndrews & Forbes committed to remaining a longterm stockholder if the prospective special committee did not recommend the transaction or the transaction failed to obtain minority approval. 28 Id. at *33, 40. 29 954 A.2d 346 (Del. Ch. 2008). 30 M&F Worldwide, 2014 WL 996270.
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The announcement of the merger – which ultimately closed in December 2011 after approval by 65.4 percent of MFW’s minority stockholders – triggered a host of lawsuits against MacAndrews & Forbes, its sole equity owner Ron Perelman and the MFW board, alleging that the merger was unfair and seeking post-closing damages for breaches of fiduciary duty. Defendants moved for summary judgment on the basis that the key procedural conditions embedded in the transaction replicated an arm’s-length merger under 8 Del. C. § 251 and, like the statutory mergers governed by that provision, should thus be scrutinized under the business judgment rule. Defendants argued that under that standard, which honors the directors’ approval unless the treatment of the parties to the deal was so disparate that no rational person acting in good faith could have found the merger to be fair to the minority, the record before the court required dismissal. In the ensuing landmark ruling, then-Chancellor Strine held that going-private, freeze-out mergers subject to the panoply of protective devices here – including the conditions unilaterally imposed by the controller itself – should be scrutinized under the business judgment standard. Acknowledging “broad language in [several Delaware Supreme Court] decisions” that has been interpreted as requiring entire fairness review in any freeze-out merger with a controlling stockholder – regardless of any built-in procedural protections – the court nonetheless characterized those statements as dicta, and found that none of the cases answered the precise question at issue: namely, the standard of review applicable to a controller-led freeze-out merger that was conditioned upfront on both approval by an adequately empowered independent committee acting with due care, and on the informed, uncoerced approval of a majority of the minority stockholders. In those circumstances, the controller, in agreeing to both procedural protections ab initio, voluntarily relinquished its control in the transaction in a manner that essentially replicated the arms’-length negotiating posture in a third-party merger. On a procedural level, the court indicated that the dual protection approach would permit defendants to dispose of controller transactions prior to discovery if plaintiffs could not plead facts providing a basis to infer a defect in either the constitution or functioning of the special committee or the voluntariness of the majority-of-theminority provision. To that end, the court expressly emphasized the perverse real-world impact that can be effected by the automatic application of entire fairness in every freeze-out merger litigation: it makes it virtually impossible for defendants to dispose of any such case
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The Delaware Quarterly on a motion to dismiss, generating considerable litigation leverage and settlement value regardless of merit, and, in turn, often resulting in plaintiffs’ attorney’s fee awards in cases where the minority stockholders receive no additional consideration beyond that obtained by the special committee – costs invariably borne by investors through higher D&O insurance fees and other costs of capital. Plaintiffs appealed, arguing that: (i) the Court of Chancery erred in holding that no material disputed facts existed regarding the conditions precedent to business judgment review; and (ii) as a matter of law, even if the procedural protections of a disinterested special committee and majority-of-the-minority vote were satisfied, entire fairness should remain the applicable standard of review.
The Court’s Holding Characterizing the issue on appeal as a matter of first impression, the Court affirmed then-Chancellor Strine’s ruling below, holding that: [B]usiness judgment is the standard of review that should govern mergers between a controlling stockholder and its corporate subsidiary, where the merger is conditioned ab initio upon both the approval of an independent, adequately-empowered Special Committee that fulfills its duty of care; and the uncoerced, informed vote of a majority of the minority stockholders. 31
Endorsing then-Chancellor Strine’s reasoning below, the Court explained that the entire fairness standard itself is used as a substitute for the statutory protections of a disinterested board and stockholder approval, both of which are potentially undermined by the influence of the controller and inherent opportunity for bias in squeezeout transactions. But when both procedural protections are effectively deployed at the outset of negotiations, they offset any influence of the controlling stockholder and recreate the structural characteristics of a third-party arm’s-length merger, thus providing optimal security to minority stockholders. In short, minority stockholders receive both independent and disinterested negotiating agents and the ultimate authority to reject the decision of those agents if they so choose. The Court likewise invoked the opinion below to dispose of appellants’ arguments for a contrary holding, i.e., that entire fairness should remain the automatic standard in freeze-outs because neither procedural protection would adequately protect minority stockholders from 31 Id. at *6.
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(i) timid or inept directors or (ii) the undue influence on majority-of-the-minority votes by “arbitrageurs that have an institutional bias to approve virtually any transaction that offers a market premium, however insubstantial it may be.”32 As to the former, the Court – like the Chancery Court below – expressed its general faith that the incidence of directors being unable or unwilling to properly discharge their duties would be uncommon and should not be presumed ineffectual. The Court was equally unmoved by appellants’ warning of undue influence by arbitrageurs, finding the argument based not on the potential for improper external influence, i.e., “fear of retribution,” but rather on the market reality that “most investors like a premium and will tend to vote for a deal that delivers one ….”33 But that dynamic, the Court noted, does not compromise the voluntary nature of the vote or change the fact “that a majority-of-the-minority provision gives minority investors a free and voluntary opportunity to decide what is fair for themselves.”34 In summary, the Court held that “[i]nw controller buyouts, the business judgment standard of review will be applied if and only if: (i) the controller conditions the procession of the transaction on the approval of both a Special Committee and a majority of the minority stockholders; (ii) the Special Committee is independent; (iii) the Special Committee is empowered to freely select its own advisors and to say no definitively; (iv) the Special Committee meets its duty of care in negotiating a fair price; (v) the vote of the minority is informed; and (vi) there is no coercion of the minority.”35 Applying those factors, the Court agreed with the Chancery Court’s finding that no genuine issue of material fact existed as to either (i) the independence and efficacy of the special committee appointed by the MFW board or (ii) the informed and uncoerced nature of the majority-of-the-minority vote, thus qualifying the transaction for business judgment review and warranting summary judgment in defendants’ favor.
The Procedural Paradigm Set Forth By The Court The Supreme Court went on to lay out the procedural regime it envisioned with respect to the new standard’s operation. Most notably, the Court strongly suggested that pleadings-stage dismissals in controller freezeouts would remain the exception. Specifically, the Court explained that “[i]f a plaintiff can plead a reasonably conceivable set of facts showing that any or all of [the six conditions] did not exist, that complaint would state a claim 32 33 34 35
Id. at *5. Id. at *6 (quoting In re MFW, 67 A.3d at 533). Id. (quoting In re MFW, 67, A.3d at 534). Id. at *7 (emphasis in original).
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The Delaware Quarterly for relief that would entitle the plaintiff to proceed and conduct discovery.”36 Moreover, while the Court affirmed summary judgment for defendants, it went out of its way to announce, in a footnote, that the operative complaint would have survived a motion to dismiss – notwithstanding the new standard. In particular, the Court highlighted allegations that: ΅΅ the value of MFW implied by the offer was only “four times’ MFW’s profits per share and five times’ 2012 pre-tax cash flow” – ratios below those in precedent transaction; ΅΅ the merger price was $2 less than MFW’s trading price two months prior; ΅΅ the share price of MFW stock was depressed at relevant times due to external factors, i.e., a credit downgrade and recent acquisitions; and ΅΅ analysts and commentators viewed that the original offer price and final deal price were “surprisingly low.” In the Court’s view, such “allegations about the sufficiency of the price call into question the adequacy of the Special Committee’s negotiations, thereby necessitating discovery on all of the new prerequisites to the application of the business judgment rule.”37 Furthermore, the Court emphasized that, in order to avoid entire fairness under the new standard, defendants must establish that the controller buyout at issue qualifies for business judgment – i.e., satisfies each of the six delineated elements – prior to trial: “If, after discovery, triable issues of fact remain about whether either or both of the dual procedural protections were established, or if established were effective, the case will proceed to a trial in which the court will conduct an entire fairness review.”38
Collective Takeaways From M&F Worldwide and Orchard The Orchard and M&F Worldwide decisions are certain to feature prominently in controller squeeze-out litigation going forward, and they provide a wealth of guidance for both deal practitioners and litigators. On one level, the M&F Worldwide opinion substantively affirms the Court of Chancery’s notable retreat from the automatic (and inescapable) application of the entire fairness standard to all controlling stockholder squeeze-out mergers.
36 Id. (citations omitted). 37 Id. at *7 n.14. 38 Id. at *7 (citing Ams. Mining Corp. v. Theriault, 51 A.3d 1213, 1240-41 (Del. 2012)).
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In that respect, the decision provides a roadmap for parties to follow in structuring a deal in a manner most likely to achieve business judgment protection, and, in conjunction with the Orchard decision, leaves no doubt that the dual procedural protections comprising the “exception” to fairness review must be in place prior to the commencement of any negotiations in order to be effective. On the other hand, the Supreme Court’s modification of the procedural regime envisioned by the Chancery Court in MFW raises significant questions about the practical utility of the exception and the risk/reward analysis for controllers and boards of directors seeking to invoke it. As an initial matter, while each was decided on summary judgment, both the MFW decision below and the Orchard opinion viewed the exception as a potential avenue for controllers and directors to dispose of squeeze-out litigation at the pleading stage (i.e., prior to discovery), if plaintiffs could not plead facts indicating that either the special committee or the majority-of-the-minority provision was ineffective or otherwise flawed. Indeed, the Chancery Court lamented plaintiffs’ ability to extract settlement value and attorney’s fees in meritless suits solely on the basis of leverage generated by the unavoidable application of entire fairness. The Supreme Court signaled a very different vision in its affirmance, explaining in dicta that the complaint disposed of on summary judgment in MFW would in fact have survived a Rule 12(b)(6) motion under the new standard. More troubling, the allegations it highlighted to support that conclusion – broad castigations of the merger price based on a general stock price history data, media reports and analyst views – are common to every merger strike suit and do not, on their face, provide a basis to infer a breach of the duty of care (much less to rebut the presumption of business judgment review). Yet the Court suggested that the allegations about price called into question the efficacy of the special committee, which, in turn, would have warranted opening the door to discovery on each and every element of the dual protection standard. At a minimum, the Court’s discussion implies that controller squeeze-outs – even if structured in accordance with MFW – will continue to invite careful scrutiny, and that the pleadings-stage dismissals posited by the Court of Chancery will prove difficult to obtain in practice. In another departure from the opinion below, the Supreme Court repeatedly stated that in order to avoid entire fairness under MFW, defendants are required to establish entitlement to business judgment protection, i.e., satisfy each of the six prerequisites – prior to trial, or be stuck
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The Delaware Quarterly with the entire fairness burden for the duration. In other words, if after discovery and summary judgment, “triable issues of fact remain about whether either or both of the dual procedural protections were established, or if established were effective, the case will proceed to a trial in which the court will conduct an entire fairness review.”39 That recitation mimics the general rule on burden-shifting proffered by the Court in Ams. Mining Corp. v. Theriault (requiring a pre-trial determination assigning the burden of proof on entire fairness), 40 but marks new ground in the context of the overarching standard of review. If followed to the letter, the holding would preclude business judgment protection in situations where it has been historically available. The high court’s dicta on pleading sufficiency and repeated emphasis on pre-trial assessment under the MFW exception will likely open the door to extensive litigation over the six prerequisites, a prospect that might well shift a controller’s appetite for embarking on the dual protection path in the first instance. Nevertheless, the benefits of avoiding fairness review are significant, and the consequences of facing it can be severe. Through several key findings, the Orchard opinion pointedly illustrates a number of those consequences and offers a number of lessons that parties facing fairness review should heed. First, the court rejected the argument that money damages are never available post-closing for disclosure violations. Faced with rather strong dicta in In re Transkaryotic to the contrary – implying that since disclosure violations constitute irreparable harm once the vote occurs, they are necessarily not redressable in money damages post-closing – the court interpreted such references as simply acknowledging that post-closing claims are a “less perfect substitute.” Thus, while pre-closing remedies for disclosure violations remain preferable, the Vice Chancellor rejected the notion of a post-closing “remedial impasse.” Supporting that holding, the court cited precedent indicating that “nominal” damages could be an appropriate remedy for disclosure violations that caused a deprivation to stockholders’ economic interests or an impairment of their voting rights: “In my view, in an appropriate case Delaware continues to recognize the possibility of a post-closing award of damages as a remedy for a breach of the fiduciary duty of disclosure.”41 While the court’s openness to money damages as a viable remedy could lead to an uptick in post-closing disclosure claims, several other hurdles to recovery will likely mitigate 39 Id. at *7. 40 51 A.3d 1213 (Del. 2012). 41 In re Orchard, 2014 WL 1007589, at *43.
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that phenomenon, including that: (i) Orchard extends only to disclosure claims that implicate duty of loyalty issues, and is unlikely to impact run-of-the-mill disclosure claims in third-party mergers; (ii) stockholders seeking damages for disclosure claims post-closing will face significant obstacles, including establishing causation and damages and exculpatory charter provisions; and (iii) the settlement leverage plaintiffs enjoy pre-closing because of expedited proceedings and deal timelines will in all likelihood continue to make pre-vote litigation the preferred course. Second, and relatedly, the court left open the possibility of significant damages at trial, including rescissory damages and/or quasi-appraisal damages should the deal be found unfair. In addition, the court declined to dismiss any of the breach of fiduciary duty claims against Special Committee members at the summary judgment stage based on Orchard’s Section 102(b)(7) exculpatory provision, even though the directors were nominally independent: “In a controller case governed by the entire fairness standard, where there is evidence of procedural and substantive unfairness, a court cannot summarily apply Section 102(b) (7) on a motion for summary judgment to dismiss facially independent and disinterested directors.”42 Since it could not determine, as a matter of law, that the claims asserted sounded only in the fiduciary duty of care, the court would determine at trial if the deal was unfair, at which point it would identify the nature of the underlying breaches and conduct a director-by-director analysis of exculpation. Third, parties should carefully scrutinize the DGCL for statutorily-required disclosures, since any misstatement touching on statutory obligations will be deemed material per se. Fourth, parties should note the heightened duty to disclose potential conflicts in the controller context, where special committee independence and disinterestedness are especially critical. Where “omitted information goes to the independence or disinterest of directors who are identified as the company’s ‘independent’ or ‘not interested’ directors, the ‘relevant inquiry is not whether an actual conflict of interest exists, but rather whether full disclosure of potential conflicts has been made.’”43 Fifth, the Orchard case illustrates both the difficulty in effecting a burden shift and, relatedly, the scrutiny with which the court will assess special committee independence and disinterestedness in the controller squeeze-out arena. In its burden-shifting analysis, the
42 Id. at *28. 43 Id. at *15.
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The Delaware Quarterly court distinguished the independence showing that defendants must make to secure a pre-trial determination on the standard of review through a summary judgment motion from that which plaintiffs are required to plead in order to rebut the business judgment rule. In the former, defendants had the burden of showing the absence of any genuine issue of material fact as to the directors’ independence (which, with respect to the Chair, they could not do). While the court acknowledged that allegations about past business and social relationships with the controller typically would fall short in challenging independence or disinterestedness, when coupled with post-merger employment opportunities, the “picture takes on a grayer hue.”44 That will be particularly true when the Special Committee member in question plays a prominent role as Chair, principal negotiator and/or central conduit of information to the Special Committee.
In re Rural Metro Corporation Stockholders Litigation 45
In a highly publicized, post-trial opinion issued on March 7, 2014, Vice Chancellor Laster found a financial advisor liable for aiding and abetting breaches of fiduciary duty by the board of directors of Rural/Metro Corporation (“Rural” or the “Company”) in connection with the Company’s 2011 acquisition by an affiliate of Warburg Pincus LLC (“Warburg”). 46 In its 91-page opinion, the Court of Chancery found that Rural’s financial advisor failed to disclose actual and potential conflicts of interest relating to its efforts to obtain buy-side financing work from private equity firms that were simultaneously bidding to acquire the parent company of Rural’s main competitor, Emergency Medical Services Corporation (“EMS”), and that the financial advisor provided Rural’s board with a flawed valuation analysis designed to ensure board approval of the Warburg transaction. 47 The opinion is the latest in a series of decisions by Delaware courts focusing on financial advisor conflicts and further underscores the need for directors to provide “active and direct oversight” of the entire sales process, including by proactively identifying and addressing actual or potential conflicts of interest on the part of the company’s financial advisors. 48
44 45 46 47 48
Id. at *20. C.A. No. 6350, 2014 WL 971718, at *1 (Del. Ch. Mar. 7, 2014). Id. at *1. Id. at *29. Id. at *25.
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Background Rural is a Delaware corporation that provides nationwide ambulance and fire protection services. 49 In late 2010, Rural’s board formed a special committee (the “Special Committee”) to evaluate a range of strategic alternatives, including the sale of the Company and a transaction involving a business combination with a subsidiary of EMS. 50 The Special Committee engaged RBC Capital Markets, LLC (“RBC”) as its primary sell-side advisor and engaged another bank as a secondary advisor. 51 While RBC noted in its pitch to Rural that it “hoped to offer staple financing to the potential buyers,” RBC failed to disclose, as Vice Chancellor Laster put it, that it “planned to use its engagement as Rural’s advisor to capture financing work from the bidders for EMS.”52 The Special Committee contacted 28 private equity firms, including Warburg, regarding a potential acquisition of Rural. 53 Warburg was the only firm to submit a final bid, with the Special Committee declining to extend the bid deadline for another firm. 54 According to the court, RBC favored Warburg because RBC hoped to play a role in the buy-side financing, though ultimately it did not. 55 “Mere hours” in advance of the board meeting approving the merger, RBC presented the Rural board with its valuation analysis. 56 This constituted the first valuation analysis provided to the board in connection with transaction. 57 The board approved the merger with Warburg at a price of $17.25 per share. 58 On April 6, 2011, two Rural stockholders filed suit. 59 The actions were consolidated and the parties reached a settlement requiring certain supplemental disclosures and defendants’ agreement not to oppose a fee application. 60 On January 17, 2012, the court conducted a fairness hearing, during which it held that the settlement was inadequate because, among other reasons, evidence obtained during expedited discovery revealed certain conflicts of interest with respect to RBC. 61 Plaintiffs filed an amended complaint, adding claims against RBC and
49 50 51 52 53 54 55 56 57 58 59 60 61
Id. at *1. Id. at *28. Id. at *6. Id. at *5. Id. at *8. Id. at *10. Id. at *16. Id. at *12. Id. at *28. Id. at *15, 28. Id. at *16. Id. Id.
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The Delaware Quarterly Rural’s secondary financial advisor. 62 Shortly before trial, Rural’s board and the secondary advisor settled with the plaintiffs. Trial proceeded against RBC, after which the court issued this opinion, finding RBC liable for aiding and abetting breaches of fiduciary duty by Rural’s board.
The Court’s Analysis As an initial matter, the court held that Rural’s exculpatory charter provision 8 Del. C. § 102(b)(7), which bars recovery of monetary damages against Rural directors for breach of fiduciary duty, does not extend to a non-director aider and abettor. 63 The court noted that the “the threat of liability helps incentivize” financial advisors, which the court characterized as “gatekeepers,” to provide “sound advice, monitor clients, and deter client wrongs.”64 According to the court: [T]he prospect of aiding and abetting liability for investment banks who induce boards of directors to breach their duty of care creates a powerful financial reason for the banks to provide meaningful fairness opinions and to advise boards in a manner that helps ensure that the directors carry out their fiduciary duties when exploring strategic alternatives and conducting a sales process, rather than in a manner that falls short of established fiduciary norms. 65
The court next analyzed the fiduciary relationship between the board and Rural’s stockholders, noting that Rural’s directors were required to “act prudently, loyally, and in good faith to maximize Rural’s value over the long term for the benefit of its stock holders.”66 According to the court, Rural’s board breached its fiduciary duty of care in connection with the sales process. 67 Specifically, the court held that the Special Committee’s decision to run a sales process in parallel with the EMS sales process was unreasonable because: (i) it was not authorized by the board (the Special Committee was authorized only to consider a range of strategic alternatives); and (ii) it was improperly influenced by RBC’s attempt to provide buyside financing to the firms bidding for EMS. 68 The court noted that absent these flaws, the propriety of the Special Committee’s decision to run the parallel sales process
62 63 64 65 66 67 68
Id. Id. at *22. Id. at *25. Id. at *23. Id. at *17. Id. at *26. Id.
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would have been a “close call.”69 Based on the totality of the circumstances, however, the court determined that the Special Committee’s conduct was unreasonable.70 The court also found that the board’s decision to approve Warburg’s $17.25 bid was unreasonable in light of the “informational vacuum” created by RBC.71 The court, emphasizing the board’s lack of access to valuation information throughout most of the sale process, concluded that the “Rural directors did not have a reasonably adequate understanding of the alternatives available to Rural, including the value of not engaging in the transaction at all.”72 Further, when RBC finally provided valuation analysis to the board, the court found that such information “conflicted with RBC’s earlier advice, contravened the premises underlying the Board’s business plan for Rural, and contained outright falsehoods.”73 Accordingly, the court concluded that the information on which the board based its decision to approve the merger fell outside the range of reasonableness.74 The court further held that the board breached its fiduciary duties by failing to fully disclose RBC’s continued interest in providing buy-side financing. The court noted that while RBC’s engagement letter contained a “generalized acknowledgment” that RBC “might extend acquisition financing to other firms,” this did “not amount to a nonreliance disclaimer that would waive or preclude a claim against RBC for failing to inform the Board about specific conflicts of interest.”75 According to the court, RBC “knowingly participated” in the board’s breaches of fiduciary duty.76 The court reasoned that RBC “created the unreasonable process and information gaps that led to the Board’s breach of duty” because: (i) RBC “knew that it was not disclosing its interest in obtaining a role in financing the acquisition of EMS”; (ii) RBC knew that the board and the Special Committee were “uninformed about Rural’s value when making critical decisions”; and (iii) “[m]ost egregiously, RBC never disclosed to the Board its continued interest in buy-side financing and plans to engage in last minute lobbying of Warburg.”77 The court further held that the fact that RBC did
69 70 71 72 73 74 75 76 77
Id. at *27. Id. Id. at *29. Id. at *30. Id. Id. Id. at *33. Id. Id. at *32.
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The Delaware Quarterly not ultimately provide staple financing and receive buyside fees was irrelevant, noting that this did “not mean that RBC did not act consciously” to obtain such fees.78
Additional Developments In Delaware Business And Securities Law
By engaging in the conduct described above, the court concluded that RBC caused the board to breach its fiduciary duties. According to the court, RBC’s “faulty design prevented the emergence of the type of competitive dynamic among multiple bidders that is necessary for reliable price discovery,” ultimately resulting in the Company being sold at a price below its fair value.79
Acquiescence
Takeaways First, Rural Metro underscores the importance of a board’s active participation throughout the entire sales process. As the court stressed, “directors cannot be passive instrumentalities during merger proceedings.”80 Rather, directors must provide “active and direct oversight” and be “reasonably informed about the alternatives available to the company,” including the “value of not engaging in a transaction at all.”81 Second, this decision, along with the Court of Chancery’s recent decisions in Del Monte and El Paso, reflects the Delaware courts’ heightened sensitivity with respect to advisor conflicts of interest in connection with M&A transactions. Directors and their advisors must proactively identify and address potential conflicts of interest early in the sales process. 82 Third, while the court did not, as a general rule, disapprove of a financial advisor’s involvement in staple financing, its decision highlights the risks that these arrangements pose and the conflicts that may arise therefrom. Evidently, neither an engagement letter disclosing the possibility of such financing nor the involvement of a secondary financial advisor are considered sufficient to preclude a finding of a conflict of interest that could derail a transaction. Finally, the decision makes clear the exculpatory provisions found in 8 Del C. § 102(b)(7), which shield directors from personal liability, do not extend to the directors’ financial advisors. 83
Id. at *33. Id. at *35. Id. at *24 (citing Cede & Co. v. Technicolor, Inc, 634 A.2d 345, 368 (Del. 1993). Id. at *25. In re Del Monte Foods Co. S’holders Litig., 25 A.3d 813 (Del. Ch. 2011); In re El Paso Corp. S’holder Litig., 41 A.3d 432 (Del. Ch. 2012). 83 2014 WL 971718 at *22.
Beyond those topics addressed above, the Delaware courts also issued noteworthy decisions in the following areas of law during the past quarter.
In Klaassen v. Allegro Development Corp., et al., 84 the Delaware Supreme Court affirmed the Court of Chancery’s dismissal of a declaratory relief action under 8 Del. C. § 220, finding that plaintiff Klaassen’s challenge to his ouster as CEO was barred by the equitable doctrine of acquiescence. Klaassen had sought a declaration that he remained the CEO of Allegro Development Corp. and that the board’s vote to replace him was invalid. According to the Supreme Court, the acquiescence doctrine barred Klaassen’s claim because, by assisting the new CEO with his transition and negotiating a consulting agreement pursuant to which Klaassen would report to the new CEO, Klaassen had consented to the installation of the new CEO. The Supreme Court also rejected Klaassen’s argument that he was not given adequate notice in advance of his removal as CEO, noting that there were no notice provisions in the company’s bylaws.
Advancement In Fillip v. Centerstone Linen Services, LLC, 85 Vice Chancellor Glasscock, in a letter opinion, upheld the report of the Master in Chancery granting plaintiff’s request for advancement of litigation fees under an LLC agreement even though the word “advancement” was not expressly used in the agreement. Plaintiff, the former CEO of the company, had sued the company for its failure to pay certain bonuses and severance pay following plaintiff’s resignation and, after the company counterclaimed for relief, plaintiff brought suit for indemnification and advancement pursuant to a clause in the LLC agreement. The court examined the language of the LLC agreement and found that, although the indemnification clause did not include the word “advancement,” its language unambiguously contemplated the advancement of fees. The court noted that a company cannot offer broad advancement rights to procure an employee and then refuse to perform under its contract when it alleges wrongdoing against the employee.
78 79 80 81 82
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84 No. 583, 2014 WL 996375 (Del. Mar. 14, 2014). 85 C.A. No. 8712, 2014 WL 793123 (Del. Ch. Feb. 27, 2014).
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The Delaware Quarterly In Grace v. Ashbridge LLC, 86 Vice Chancellor Noble, in a memorandum opinion, denied a request for advancement for predecessor liability by granting defendant’s motion to dismiss plaintiff’s claims for advancement and indemnification based on the plain language of the LLC’s operating agreement. Plaintiff, a co-trustee of a family trust that held shares of the defendant LLC and its predecessor corporation, filed suit for advancement and indemnification under the LLC operating agreement in connection with expenses incurred in a related Pennsylvania action involving claims for breach of fiduciary duty stemming from his actions as a director of the predecessor corporation. The court found that the plain language of the operating agreement required a party seeking advancement or indemnification to demonstrate some relationship to the LLC and did not expressly cover actions taken for a predecessor entity.
Appeals In Strine, et. al. v. Delaware Coalition for Open Government, 87 the U.S. Supreme Court denied the Chancery Court’s petition for writ of certiorari in connection with last year’s affirmance of the ruling preventing sitting judges of the Chancery Court from presiding over confidential arbitration proceedings. The U.S. Court of Appeals for the Third Circuit had previously reaffirmed the Delaware district court’s ruling that 10 Del. C. § 349, which permitted sitting Chancery Court judges to serve as arbitrators in confidential arbitration proceedings, violated the public’s First Amendment right to access judicial proceedings.
Appraisal Proceedings In Huff Fund Investment Partnership v. CKx Inc., 88 Vice Chancellor Glasscock, in a letter opinion, denied respondent’s request to order the petitioner to accept an unconditional tender of $3.63 per share and to stop the accrual of interest at the statutory rate under DGCL § 262(h) in this appraisal action. The court found that such an order would be incompatible with the General Assembly’s intent in connection with its 2007 revisions to DGCL § 262(h), which provides appraisal petitioners interest in the amount of five percent over the Federal Reserve discount rate through the payment of a final judgment. The statute limits judicial discretion to instances where there is a
86 C.A. No. 8348, 2013 WL 6869936 (Del. Ch. Dec. 31, 2013). 87 Docket No. 13-869 (Mar. 24, 2014). 88 C.A. No. 6844 (Del. Ch. Feb. 12, 2014).
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showing of good cause to deviate from the interest rate, such as where the statutory rate would be unjust, which was not the case here.
Attorney’s Fees In Feinstein v. Outdoor Channel Holdings, Inc. et al., 89 Vice Chancellor Parsons, in a bench ruling, approved a class settlement of a stockholder action challenging Kroenke Sports & Entertainment LLC’s acquisition of Outdoor Channel Holdings, Inc. (“Outdoor”). The court, however, declined to award plaintiffs the full $315,000 in attorney’s fees sought in connection with the settlement. According to the court, the fifteen supplemental disclosures obtained by plaintiffs pursuant to the settlement agreement “fit into the category of those of marginal or questionable quality to an Outdoor shareholder.” The court noted that several of these supplemental disclosures were “implicit” and “would be assumed by any reasonable investor,” including disclosures that: (i) Outdoor’s growth and discount rates were based on the “professional judgment” of Outdoor’s financial advisor; and (ii) Outdoor’s financial advisor “did not have a conflict of interest with respect to the parties to the acquisition.” The court did, however, find that certain of the disclosures “could be meaningful,” and thus awarded plaintiffs $225,000 in attorney’s fees and costs. In a subsequent bench ruling, 90 the court held that its order approving the settlement would not preclude two former Outdoor stockholders from seeking attorney’s fees in a related action filed in California because, among other reasons: (i) plaintiffs’ petition for attorney’s fees in the California action had been filed before the Delaware court preliminarily approved the settlement; (ii) the California court had already devoted significant judicial resources in connection with its consideration of the California plaintiffs’ petition for attorney’s fees; and (iii) defendants in the Delaware action were aware that the California plaintiffs were seeking attorney’s fees and yet unreasonably delayed in alerting the Delaware court. In James v. National Financial LLC, et al., 91 Vice Chancellor Laster, in a bench ruling, granted plaintiff’s request for Rule 11 sanctions against defendants on the ground that defendants’ motion to compel arbitration was not filed in good faith. According to the court, defendants were aware, prior to filing the motion to compel, that plaintiff had opted out of the arbitration provision and thus was not bound by it. The court, noting that defendants’ 89 C.A. No. 8412 (Del. Ch. Jan. 6, 2014). 90 C.A. No. 8412 (Del. Ch. Jan. 8, 2014). 91 C.A. No. 8931 (Del. Ch. Jan. 28, 2014).
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The Delaware Quarterly motion to compel unnecessarily increased the costs of the litigation, ordered defendants to pay plaintiff’s attorney’s fees incurred in opposing the motion to compel. In In re McMoRan Exploration Co. Stockholder Litig., 92 Vice Chancellor Noble, in a letter opinion, awarded $2.4 million in attorney’s fees and expenses for a series of non-monetary benefits (additional disclosures and contractual commitments) that plaintiffs’ counsel claims to have obtained in connection with the settlement of a stockholders’ challenge to the company’s acquisition. The court found that plaintiffs’ attorneys were entitled to $400,000 to $600,000 for securing a contractual commitment from defendants regarding the listing of trust units on a national market and to $400,000 to $750,000 for securing revisions to the trust agreement. Plaintiffs’ attorneys were also entitled to a fee of $400,000 to $850,000 for securing additional disclosures and to $250,000 to $400,000 for preserving defendants’ supermajority provision in the merger agreement.
Books and Records Actions In Caspian Select Credit Master Fund Ltd. v. Key Plastics Corp., 93 Vice Chancellor Noble, in a letter opinion, granted plaintiff stockholder’s books and records inspection request pursuant to 8 Del. C. § 220. The court held that plaintiff’s purpose for making the request – to investigate waste, mismanagement, self-dealing or other improper transactions and to secure information regarding defendant’s financial condition in order to value its stock – constituted a “proper purpose” under the statute. According to the court, plaintiff demonstrated a credible basis for its concerns regarding the defendant’s operations, including by presenting evidence that the company entered into a wasteful loan. The court rejected defendant’s argument that the loan at issue was fair, reasoning that this “merits defense” was disfavored in the context of a books and records inspection action under 8 Del. C. § 220.
requested all documents produced by or sought from HP in these investigations for the purpose of determining whether HP’s board members acted in accordance with their fiduciary duties in connection with the acquisition. HP produced documents to plaintiff but refused to produce documents relating to the ongoing investigations. Although plaintiff had a proper purpose of investigating the potential wrongdoing, the court denied plaintiff’s request, because plaintiff had already received relevant documents and the additional request amounted to a “fishing expedition.”
Contempt In In re Yinlips Technology, Inc., 95 Vice Chancellor Parsons, in a bench ruling, granted plaintiffs’ motion for contempt against defendant Yinlips Technology, Inc. (“Yinlips”), a Chinese company, based on Yinlips’ failure to obey a default judgment order issued after Yinlips failed to respond to plaintiffs’ complaint. Finding Yinlips’ conduct to be “sufficiently egregious,” the court granted plaintiffs’ request for attorney’s fees as well as a put option forcing Yinlips to buy back plaintiffs’ shares at fair market value.
Contract Interpretation
In Cook v. Hewlett-Packard Company, 94 Vice Chancellor Glasscock, in a letter opinion, denied plaintiff’s request for books and records from Hewlett-Packard Company (“HP”) under 8 Del. C. § 220 on the ground that plaintiff’s request was overbroad. Plaintiff’s inspection demand arose from HP’s disclosure of accounting improprieties in connection with its acquisition of Autonomy Corporation plc, which had led to various government investigations. Plaintiff
In CNO Financial Group, Inc. v. Libertyship Capital LLC, et al., 96 Vice Chancellor Glasscock, in a bench ruling, denied defendant’s motion to dismiss, which challenged: (i) the court’s subject matter jurisdiction over suits involving convertible debentures; and (ii) the sufficiency of plaintiff’s notice of termination of debenture conversion rights. Plaintiff, which had issued convertible debentures, sought a declaration that its notice terminating the right to convert the debentures to common stock complied with the notice provisions of the governing indenture. First, the court found that it had subject matter jurisdiction over the claims, because 8 Del. C. § 111(a)(2) gives the Court of Chancery jurisdiction to interpret any instrument or agreement by which a corporation creates any rights or options respecting its stock. Here, the indenture governing the debentures was not merely a debt instrument, as defendant argued, but an agreement that conferred the right to convert the debentures into common stock. Second, addressing the merits, the court found that it was “reasonably conceivable” that plaintiff was entitled to declaratory relief and thus any decision on the pleadings was premature, as there were disputed issues pertaining to plaintiff’s notice obligations and whether defendant had
92 C.A. No. 8132 (Del. Ch. Feb. 5, 2014). 93 C.A. No. 8625, 2014 WL 686308 (Del. Ch. Feb. 24, 2014). 94 C.A. No. 8667, 2014 WL 311111 (Del. Ch. Jan. 30, 2014).
95 C.A. No. 8865 (Del. Ch. Jan. 3, 2014). 96 C.A. No. 8859 (Del. Ch. Jan. 28, 2014). Winston & Strawn LLP represented CNO Financial Group in this matter.
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The Delaware Quarterly standing to challenge the notice, as it was not the intended recipient. The court also denied defendant’s motion to stay, noting that defendant could renew its application upon resolution of the pending motion to dismiss or stay a parallel action in Nevada.
competing company after he had withdrawn from the limited liability company, he did not breach his fiduciary duties to plaintiffs.
In Millien v. Popescu, 97 Vice Chancellor Noble, in a memorandum opinion, found that, in a dispute between the two directors of a corporation, George Popescu (“Popescu”) and Kevin Millien (“Millien”), Millien breached the parties’ agreement and was not entitled to the appointment of a custodian to resolve the parties’ alleged deadlock pursuant to 8 Del. C. § 226. The court determined that an email detailing the terms of Millien’s employment with the corporation, which included language establishing Popescu as the majority stockholder of the corporation, constituted the essential and sufficiently definite terms of the parties’ agreement. The court found that Millien breached the agreement by refusing to provide voting control of the corporation to Popescu. Furthermore, the court held that Popescu was entitled to specific performance, which required Millien to authorize the issuance of one additional share of voting stock to Popescu in order to make Popescu the holder of the majority of voting stock. Therefore, Millien’s claim for the appointment of a custodian necessarily failed, because the court could only appoint a custodian when there is deadlock between equal and sole holders of a corporation’s voting stock, and here, Popescu held the majority of the voting stock.
In In re Answers Corp. Shareholders Litig., 99 Vice Chancellor Noble, in a memorandum opinion, granted summary judgment in favor of defendants, former directors of Answers Corporation (“Answers”), in a shareholder class action arising from the acquisition of Answers by AFCV Holdings, LLC. The court previously denied defendants’ motion to dismiss plaintiffs’ claims for breach of fiduciary duty, finding that the complaint adequately alleged that three of the directors were financially interested in the merger and that the remaining directors disregarded their duty to seek the best price for the company.100 In the instant decision, the court noted that because the merger had been approved by a disinterested board, plaintiffs were required to demonstrate that the board acted in bad faith or was controlled by an interested party. After weighing the evidence, the court found that plaintiffs failed to demonstrate bad faith, because the board had attempted to obtain the best price for the company. Specifically, the board considered a variety of transaction options, rejected several requests for exclusivity from the acquiring company and was kept informed of the merits and plausibility of pursing alternative options. In addition, plaintiffs failed to establish that the interested directors “dominated and controlled” the board, and, consequently, the court granted defendants’ summary judgment motion in its entirety.
In Touch of Italy Salumeria & Pasticceria, LLC v. Bascio, et al., 98 Vice Chancellor Glasscock, in a memorandum opinion, granted defendants’ motion to dismiss plaintiffs’ complaint for failure to state a claim. Plaintiffs, members of a limited liability company that operates a grocery store, alleged that defendant Louis Bascio, a former member of the limited liability company, breached the limited liability company agreement and his fiduciary duties by joining with another defendant to form a competing grocery store. The court, in dismissing plaintiff’s complaint, held that because the limited liability company agreement lacked a non-compete covenant, it did not preclude Bascio from withdrawing from the company to form a competing company. According to the court, even if Bascio had deceived plaintiffs with respect to the reason he was withdrawing from the company, plaintiffs “would have been contractually powerless to change the course of events.” The court further held that because Bascio formed the
97 C.A. No. 8670, 2014 WL 463739 (Del. Ch. Jan. 31, 2014). 98 C.A. No. 8602, 2014 WL 108895 (Del. Ch. Jan. 13, 2014).
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Fiduciary Duties
In Blaustein v. Lord Baltimore Capital Corp.,101 the Delaware Supreme Court affirmed the Chancery Court’s denial of plaintiff minority stockholder’s leave to amend her complaint to add a breach of fiduciary duty claim against directors of a closely held corporation in connection with their failure to repurchase plaintiff’s shares of the corporation. The Court held that directors of a closely held corporation have no general fiduciary duty to repurchase stock from minority stockholders under common law. Moreover, under the shareholder agreement, the repurchase of shares was discretionary, not mandatory. The Court also affirmed the lower court’s rejection of plaintiff’s breach of the implied covenant of good faith and fair dealing claim, because the shareholder
99 C.A. No. 6170, 2014 WL 463163 (Del. Ch. Feb. 3, 2014). 100 In re Answers Corporation Shareholders Litig., 2012 WL 1253072. (Del. Ch. Apr. 11, 2012). 101 84 A.3d 954 (Del. Jan. 21, 2014).
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The Delaware Quarterly agreement addressed the repurchase of shares and the implied covenant does not provide a right to renegotiate the agreement. In Frank v. Elgamal, et al.,102 Vice Chancellor Noble, in a memorandum opinion, granted summary judgment in part and denied it in part in connection with claims asserted by a minority stockholder that members of the company’s board breached their fiduciary duties in approving a merger involving a rollover of equity by a group of stockholders holding a majority of the company’s shares. The court held that it could not determine whether the merger was subject to entire fairness review because there were issues of material fact as to whether the “rollover group” was a control group, the existence of which, held the court, could change throughout the course of the transaction. Although there was no evidence of a control group prior to the sale of the company, the court found that there may have been a control group at the time the board approved the merger. Assuming that entire fairness review applied, there were also material issues of fact remaining with respect to whether the special committee shifted the burden of proof to plaintiff, because it was unclear if the special committee was well functioning and fully informed. In OTK Associates, LLC v. Friedman, et al.,103 Vice Chancellor Laster, in a memorandum opinion, in large part denied defendants’ motion to dismiss various claims for declaratory relief and damages in connection with an abandoned restructuring transaction between Morgans Hotel Group Co. (“Morgans”) and its largest investor, Yucaipa Companies, LLC. Plaintiff claimed that Morgans’ board of directors breached their fiduciary duties in connection with the transaction and sought declarations that the transaction was invalid, unenforceable and a product of those breaches. First, the court rejected defendant’s argument that plaintiff’s claims were moot because the transaction never took place, finding that plaintiff may still recover damages for these claims. The court then considered plaintiff’s derivative claims and whether a demand on the board would have been futile in connection with these claims. The court noted that the existence of a newly elected board was relevant for making this determination and dismissed plaintiff’s claims arising from events that occurred after the new board was elected. The court denied defendants’ motion to dismiss on forum selection grounds, finding that plaintiff’s claims were based on breaches of fiduciary duty – claims
102 C.A. No. 6120, 2014 WL 957550 (Del. Ch. Mar. 10, 2014). 103 C.A. No. 8447, 2014 WL 684174 (Del. Ch. Feb. 5, 2014).
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governed by Delaware law. Finally, the court considered plaintiff’s individual claims against certain of the directors under entire fairness review and found that plaintiff sufficiently plead allegations of breach of fiduciary duty for which Section 102(b)(7) exculpation was not available. In White v. Kern, et al.,104 Vice Chancellor Glasscock, in a bench ruling, granted petitioners’ motion to compel the repayment of advanced legal fees to respondent directors and controlling stockholders, finding that respondent directors’ attempt to retroactively adopt a by-law for the advancement of funds under Section 145 of the DGCL after petitioners had brought suit against respondents for breach of fiduciary duty and self-dealing did not pass entire fairness review. Prior to the initiation of the lawsuit, the company’s by-laws did not permit the advancement of legal fees, and although by-laws may be amended under Section 145, that decision is subject to legal review. Here, the directors’ and controlling stockholders’ advancement of legal fees to themselves constituted a clear breach of fiduciary duties. The court ordered that the advanced funds be disgorged within 30 days and that no additional funds should be advanced without a court order.
Forum Selection In Treppel v. United Technologies Corp.,105 Vice Chancellor Glasscock, in a bench ruling, held that defendant improperly conditioned its production of documents in response to a demand under 8 Del. C. § 220 on the plaintiff stockholder’s execution of a confidentiality agreement providing that any litigation based on information obtained in the documents must be filed in Delaware. While the court recognized that Delaware is the best forum in which to adjudicate an action involving the internal affairs of a Delaware corporation, it nonetheless held that the confidentiality agreement imposed an undue burden on the rights of stockholders because there are less burdensome means by which a Delaware company may limit a stockholder’s ability to bring an action outside of Delaware, including through a forum selection bylaw.
Implied Covenant of Good Faith and Fair Dealing In American Capital Acquisition Partners, LLC, et al. v. LPL Holdings, Inc., et al.,106 Vice Chancellor Glasscock, in a memorandum opinion, partially granted defendant’s motion to dismiss plaintiffs’ breach of the implied covenant of good faith and fair dealing claims. Plaintiffs, the former
104 C.A. No. 7872 (Del. Ch. Feb. 7, 2014). 105 C.A. No. 8624 (Del. Ch. Jan. 13, 2014). 106 C.A. No. 8490, 2014 WL 354496 (Del. Ch. Feb. 3, 2014).
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The Delaware Quarterly owner, directors and officers of an acquired company, claimed that the defendant acquiring company denied them of certain contractual benefits under the sales agreement. Specifically, plaintiffs alleged that defendant misrepresented its technological capabilities, thus resulting in the company’s failure to meet performance benchmarks required for plaintiffs to receive certain contingent payment under the agreement. The court noted that the implied covenant of good faith and fair dealing serves a gap-filling function and does not apply where the parties failed to bargain for particular contract terms. Because plaintiffs anticipated but failed to bargain for contractual provisions regarding defendant’s technological responsibilities, the court dismissed this claim. The court denied defendant’s motion to dismiss with respect to the claim that defendant diverted resources from the company, because the parties had contracted to prevent this conduct.
Injunctions In BE&K Engineering Company, LLC v. RockTenn CP, LLC, et al.107 Vice Chancellor Laster, in a memorandum opinion, issued a permanent anti-suit injunction barring defendants from litigating in a Georgia court a dispute concerning engineering work performed by plaintiff. The court found that defendants had made several binding judicial admissions that the work at issue was governed by an agreement containing a Delaware forum selection provision and, as such, the action could only be litigated in Delaware. According to the court, defendants’ conduct in disregarding a “clear forum selection provision” by filing the action in Georgia was “disrespectful to the courts of both states.”
Laches In Lehman Brothers Holdings, Inc. v. Spanish Broadcasting Systems, Inc.,108 Vice Chancellor Glasscock, in a memorandum opinion, granted summary judgment in favor of defendant company under the doctrine of acquiescence in connection with a breach of contract action involving a Certificate of Designation. Plaintiffs, preferred stockholders in the company, brought suit claiming that defendant breached the certificate by incurring debt after failing to pay dividends for an extended period of time. Under the certificate, if dividends were not paid for four consecutive quarters, a Voting Rights Triggering Event (“VRTE”) occurred, providing stockholders with certain rights, including the right to 107 C.A. No. 8837, 2014 WL 186835 (Del. Ch. Jan. 15, 2014). 108 C.A. No. 3821, 2014 WL 718430 (Del. Ch. Feb. 25, 2014).
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prevent the company from incurring additional debt. The company failed to make dividend payments in 2009 and between 2011 and 2012 publicly announced that it was assuming more than $280 million in debt. Plaintiffs, however, did not file suit contending that a VRTE had occurred until 2013. Under the doctrine of acquiescence, plaintiff is estopped from pursuing certain rights where: (i) plaintiff has knowledge of its rights but remains silent; and (ii) defendant relies on that silence to its detriment. The court found that, assuming there was a VRTE, plaintiffs had knowledge of the VRTE and imputed knowledge that the company intended to incur additional debt but failed to object. As such, the court found that plaintiffs acquiesced to the company’s actions and were not entitled to relief.
Practice and Procedure Expedited Discovery In In re Tufco Technologies, Inc. Stockholders Litig.,109 Vice Chancellor Parsons, in a bench ruling, denied plaintiffs’ motion to expedite discovery in an action challenging a contemplated tender offer. Plaintiffs, minority stockholders, challenged the proposed sale of the company, which they claimed was plagued by conflicts of interest and inadequate process, price and disclosures. The court first explained that plaintiffs must articulate a sufficiently colorable claim and show irreparable injury that would justify the extra cost associated with expedited discovery, which they could not. As to plaintiffs’ challenge to the termination fee, the court found that the fee was the ordinary amount that would be due under a preexisting consulting contract, and as such did not constitute a colorable claim. Plaintiffs’ remaining claims regarding the adequacy of the sales price and alleged disclosure deficiencies were also not colorable and did not justify the additional costs that would be associated with expedited discovery. Moreover, plaintiffs had an adequate legal remedy if the transaction was ultimately found to be inappropriate.
Discovery Disputes In Sustainable Biofuels Solutions, LLC v. Tekgar, LLC, et al.,110 Vice Chancellor Parsons, in a bench ruling, ordered defendants to pay a sanction of attorney’s fees up to $10,000 in connection with their failure to comply with a scheduling order. Plaintiff filed a motion to compel after defendants failed to produce documents by the courtordered discovery deadline and then marked all of the production documents “Attorneys Eyes Only” without 109 C.A. No. 9245 (Del. Ch. Feb. 24, 2014). 110 C.A. No. 8741 (Del. Ch. Feb. 21, 2014).
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The Delaware Quarterly having reviewed the documents. Defendants explained that they had technological issues recovering emails from one of their custodians. The court relied upon the Supreme Court’s opinion in Christian v. Counseling Resources Associates, Inc., 111 which held that parties who fail to comply with court-ordered discovery deadlines or who extend deadlines without promptly notifying the court, do so at their own risk and may be precluded from seeking relief from the court. The court ordered defendants to pay a sanction and to explain the production process, because plaintiff claimed that defendants unilaterally refined the agreed upon discovery search terms.
Motions to Strike
argument that plaintiff lacked standing to challenge SHA’s representation, reasoning that the conflict of interest would also prejudice plaintiff’s rights as a Vadem stockholder. In In the Matter of the Rehabilitation of Indemnity Insurance Corp., 114 Vice Chancellor Laster, in a letter opinion, denied non-party movants’ motion to disqualify respondent’s attorney under Rule 1.9 of the Delaware Lawyers’ Rules of Professional Conduct. Movants argued that respondent’s counsel should be disqualified based on its past relationship with an entity controlled by the former CEO of respondent, who was now adverse to respondent in a related action. In denying the motion, the court held that movants failed to establish that counsel’s alleged violation of Rule 1.9 would “prejudice the fairness of the proceeding.” According to the court, absent a showing of such prejudice, it lacked “jurisdiction to address whether the Rules have been violated.”
In In re Gardner Denver, Inc. Shareholders Litig.,112 Vice Chancellor Noble, in a memorandum opinion, granted in part plaintiff’s motion to strike, from defendants’ motion to dismiss, references to the expedited discovery record, which was developed in connection with a motion seeking to preliminarily enjoin a merger between Gardner Denver, Inc. (“Gardner Denver”) and an affiliate of Kohlberg Kravis Roberts & Co. L.P. The court, applying a “contextspecific” analysis, found that defendants’ references to certain portions of the expedited discovery record, including the deposition transcripts of Gardner Denver directors, officers, and advisors, were proper because such documents were “substantial sources” of, and thus “integral” to, plaintiff’s breach of fiduciary duty allegations in the operative complaint. The court, however, granted plaintiff’s motion to strike defendants’ references to certain SEC filings and an email, finding that plaintiff’s claims did not “rest” on the content of these documents.
In Numoda Corporation v. Numoda Technologies, Inc.,115 Vice Chancellor Noble, in a letter opinion, entered a novel status quo order, limiting the activities of Numoda Technologies, Inc. (“NT”) in order to protect plaintiff Numoda Corporation (“Numoda”) from improvident actions of NT’s board of directors, in a suit brought by Numoda seeking the issuance of NT stock to it with the ultimate goal of reconstituting NT’s board. Finding that the case was ultimately brought to determine who controls NT, the court determined that the use of a status quo order was appropriate to limit activities by NT outside the ordinary course of business.
Selection of Counsel
Settlement Proceedings
In Microsoft Corporation v. Amphus, Inc.,113 Vice Chancellor Parsons, in a bench ruling, granted plaintiff’s motion to disqualify the law firm Sullivan Hazeltine Allinson LLC (“SHA”), finding that its representation of defendant Vadem, Ltd. and a related entity ( jointly, “Vadem”) and a defendant director of Vadem created a conflict of interest. The court reasoned that because plaintiff’s complaint alleged that the defendant director had defrauded Vadem, there was a significant risk that SHA could not zealously advocate on behalf of both Vadem and the defendant director. According to the court, it was in Vadem’s interest to recover from the defendant director to the extent his conduct harmed Vadem. In granting the motion to disqualify, the court also rejected defendants’
In Arbiter Partners QP, LP v. Hurwitz, et al., 116 thenChancellor Strine, in a bench ruling, approved the settlement of a derivative action brought by a minority stockholder of MAXXAM, Inc. challenging a compensation award to the corporation’s controlling stockholder, which had been accomplished through a series of exchange transactions. The settlement of the direct claims, which was not subject to court approval, involved the minority stockholder selling all of its shares except for one to the controlling stockholder at a considerable premium and receiving $100,000 in attorney’s fees. The derivative settlement involved the reversal of two of the exchanges of stock and options in connection with the compensation award and provided $1 million towards the third exchange
111 Christian v. Counseling Resources Assocs., Inc., 60 A.3d 1083 (2013). 112 C.A. No. 8505, 2014 WL 715705 (Del. Ch. Feb. 21, 2014). 113 C.A. No. 8092 (Del. Ch. Jan. 7, 2014).
114 C.A. No. 8601, 2014 WL 637872 (Del. Ch. Feb. 19, 2014). 115 C.A. No. 9163 (Del. Ch. Mar. 27, 2014). 116 C.A. No. 8394 (Del. Ch. Feb. 12, 2014).
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Status Quo Order
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The Delaware Quarterly at issue. It also involved certain corporate governance reforms requiring future exchange compensation to be based upon a fairness opinion from a nationally recognized firm. Finally, the derivative settlement did not require the company to pay plaintiff’s legal fees or expenses, and the court approved the settlement as fair and reasonable.
Written Consents In Flaa, et al. v. Montano, et al.,117 Vice Chancellor Glasscock, in a letter opinion, denied defendants’ motion to dismiss plaintiffs’ action seeking to confirm the validity of written consents purporting to remove defendant directors from the board of CardioVascular BioTherapeutics, Inc. (“Cardio”) under 8 Del. C. § 225. Defendants argued that the action was not ripe because the court had, in connection with a prior action under 8 Del. C. § 225, established an “interim board” for Cardio that did not include the defendant directors. The court disagreed, reasoning that 8 Del. C. § 225 contains “no explicit requirement” that a director be “holding office” in order for a court to determine that director’s right to serve on the board. The court further held that the action was ripe under a quo warranto analysis because the defendant directors remained on Cardio’s de jure board. The court, however, declined to address the “procedural efficacy” of a written consent purporting to remove a director who is “not a member of an interim board,” and instead reserved this issue for argument at a future evidentiary hearing. 117 C.A. No. 9146 (Del. Ch. Feb. 24, 2014).
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The Delaware Quarterly This Quarter’s Authors Jonathan W. Miller, John E. Schreiber and Matthew L. DiRisio are partners, and Jill K. Freedman, Ian C. Eisner, Allison G. Castillo, Shawn R. Obi, Stephanie M. Leonard and Alexandra J. Kushner are associates, in the Litigation Department of Winston & Strawn LLP, resident in the Firm’s New York, Chicago and Los Angeles offices.
The Delaware Quarterly Advisory Board Chicago Ronald S. Betman Oscar A. David William C. O’Neil Robert Y. Sperling
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