Dispute on Advancement of Fees to Corporate Directors; Court Requires Discussion During a Meal

Advancement of fees to corporate directors has been the focus of many decisions of Delaware’s Supreme Court and Court of Chancery that have been highlighted on these pages over the last ten years. Both the statute and the cases that interpret them are often counterintuitive and one of the more vexing aspects of corporate litigation.

The point of this post is to feature a recent Order from the Court of Chancery that presented a novel approach to advancement disputes which one member of the Court referred to as the bane of his existence. Courtesy of The Chancery Daily, which covers every aspect of activity in the Delaware Court of Chancery in an unparalleled manner, we have an Order in the matter of Colaco v. Cavotec Inet US, Inc., C.A. No. 10925-VCL, Order (June 1, 2015), which required counsel to meet and confer over “lunch or dinner” in order to try to resolve any disputes regarding the fees to be advanced. Brilliant idea in my view. That Order also provides for a procedure that the lawyers and parties need to follow to “tee up” and otherwise refine and clarify issues that arise in connection with the amount of fees that are payable.

A major issue that often arises, even when advancement has been ordered, is what fee amounts are payable when work performed may not be easily allocated, for example when some parts of litigation are covered by advancement and some are not.

The Chancery Daily reported today that the Court entered another Order in this case on June 29, 2015, requiring the parties, if they could not agree on the amount of fees to be paid, to follow the procedure outlined in the June 1 Order (including meetings over a meal), and failing that, to submit the dispute over the amount of fees to a Special Master to be suggested by the parties.

In addition to the court rulings that I have outlined on this blog, and the chapter I recently wrote on the topic for a book published by the ABA, last year I presented a PowerPoint on the topic at the American Bar Association’s Business Law Section meeting in Los Angeles, as the Chair of the Indemnification and Advancement Committee.

Supplement: In reply to this post, Kevin LaCroix, author of the highly-regarded and widely-read blog called The D & O Diary, sent me the following anecdote about the value of a “meet and confer over a meal” that a federal judge he clerked for often “ordered” in business disputes before him, which often resulted in a negotiated resolution:

… a lot of things could be worked out if people just talked to each other. I clerked for a federal district court judge after law school, Richard L. Williams in the Eastern District of Virginia, based in Alexandria, Virginia. Whenever he had a business case in his court, he would ask the parties whether the principals had spoken to each other about the case without their lawyers present. Everyone would look stunned and say no. He would then order the principals to go around the corner to Portner’s, a local restaurant, to tell the hostess that they had been sent there by Judge Williams to meet there, and that they required a private room. (The people at Portner’s were very accustomed to this.). The judge would then adjourn the court until after lunch. Nine times out of ten the principals would come back after lunch with big smiles on their faces and with the news that they had managed to settle the case. The lawyers hated it but everyone else, including the principals (and the folks at Portner’s) loved it.

 

Judicial Comportment

For my regular ethics column for The Bencher, the national publication of the American Seal of the United States District Court for the Eastern District of PennsylvaniaInns of Court, I wrote about the recent investiture ceremony for The Honorable Mark Kearney‘s elevation to the bench of the U.S. District Court for the Eastern District of Pennsylvania. The article describes highlights of his exemplary background and how that should serve as a sound basis to suggest an exemplary judicial tenure.

The article does not focus on formal standards of judicial conduct, but is more akin to an anecdotal observation. His Honor was a former law clerk for the Delaware Court of Chancery and practiced corporate litigation in both Delaware and Pennsylvania during his years in private practice.

Supreme Court Addresses Direct v. Derivative Claim in Contractual Context

NAF Holdings, LLC v. Li & Fung (Trading) Limited, Del. Supr., No. 641, 2014 (Del. June 24, 2015). This Delaware Supreme Court decision held that a party has a direct claim to pursue a breach of contract action for a contract to which it is a party in order to enforce its own contractual rights.  The claim does not become a derivative claim simply because there may be a related injury to a corporation as well.

Highlights:

This en banc decision was presented as a question of law certified by the U.S. Court of Appeals for the Second Circuit arising out of an appeal from a decision by the U.S. District Court for the Southern District of New York.  The very lengthy articulation of the issue presented by the Second Circuit was summarized by the Supreme Court as a question of Delaware law answered in the following formulation:  “A promisee-plaintiff may bring a direct suit against a promisor for damages suffered by the plaintiff resulting from the promisor’s breach, notwithstanding that: (i) the third-party beneficiary of the contract is a corporation in which the promisee-plaintiff owns stock; and (ii) the promisee-plaintiff’s loss derives indirectly from the loss suffered by the third-party beneficiary corporation.”

The Supreme Court determined to be inapplicable the decision in Tooley v. Donaldson, Lufkin & Jenrette, 845 A.2d 1031, 1039 (Del. 2004), which the District Court for the Southern District of New York misapplied, according to the Supreme Court.  Some of the nuggets from the decision of the Delaware Supreme Court include the following:

●          “A party to a commercial contract may sue to enforce its contractual rights directly, without proceeding by way of a derivative action.  Tooley and progeny do not, and were never intended to, subject commercial contract actions to a derivative suit requirement.”

●          An important initial question for these issues is:  “Does the plaintiff seek to bring a claim belonging to her personally or one belonging to the corporation itself?”

●          The District Court for the Southern District of New York misconstrued Delaware law and applied Tooley in a “decontextualized manner.”

●          The opinion is replete with citations to cases that support the important principle in Delaware law of freedom of contract, and the fundamental principle of contract law that parties to a contract bound by its terms have a corresponding right to enforce them.  The court also added that Delaware law “seeks to promote reliable and efficient corporate laws in order to facilitate commerce.”  See generally State v. Tabasso Homes, Inc., 28 A.2d 248, 252 (Del. Gen. Sess. 1942) (“. . . the right to contract is one of the great, inalienable rights accorded to every free citizen . . ..”)

●          The Supreme Court concluded its opinion by clarifying its holding as follows:  “. . . a suit by a party to a commercial contract to enforce its own contractual rights is not a derivative action under Delaware law.”

Delaware Insiders Give Insights on Delaware’s New Fee-Shifting Legislation

An insider’s view of the recent Delaware legislation banning fee-shifting bylaws is provided by Professor Lawrence Hamermesh and Norman Monhait as published in this post from the Institute of Delaware Corporate and Business Law. This is must reading for anyone who seeks to understand the nuances of this new legislation. In sum, the good professor co-authors the article with one of deans of the corporate litigation bar in Delaware, both of whom played a lead role in drafting the fee-shifting legislation that was just signed by the governor. They explain why this new law does not address the issue of fee-shifting bylaws in the context of claims based on the federal securities laws.

About the authors: Mr. Monhait is the immediate past chair, and Professor Hamermesh a prior chair and a member, of the Council of the Delaware State Bar Association’s Corporation Law Section. The Council each year proposes legislation to update the Delaware corporate and related statutes, including the recently passed fee-shifting and forum selection bills. The views expressed here, however, are solely those of the authors, and do not necessarily represent the views of the Association, the Section, or its Council.

Supplement: Professor Stephen Bainbridge has written an article which takes the position that Delaware made a mistake in passing the legislation described above.

New Law Signed to Limit Fee-Shifting and Enforce Delaware Forum Selection

The Delaware Governor today signed legislation discussed on these pages previously, that: (i) limits the ability to provide, in bylaws or a corporate charter, for the imposition of fee-shifting on plaintiffs who sue corporations or their directors/officers; and (ii) validates the selection of Delaware as a forum for litigation involving internal affairs, and prevents the selection of any other forum exclusively. That is, Delaware must also be allowed as a forum even if another forum is also selected. The synopsis of the Senate Bill provided by the Delaware General Assembly has a thorough summary of the legislation.

Chancery Addresses Conflicting Representation of Director by Counsel for Adverse Party


Partners Healthcare Solutions Holdings, L.P. v. Universal American Corp., C.A. No. 9593-VCG (Del. Ch. June 17, 2015). This Delaware Chancery decision provides useful guidance on a situation involving a director who was designated by a major stockholder pursuant to an agreement giving that stockholder the right, but not the obligation, to appoint an independent director.

An issue arose because the major stockholder became adverse to the company in litigation and the company did not want to seat the director designated by that major stockholder unless the director would first agree not to be represented by the same law firm that was adverse to the company in pending litigation, and sign a confidentiality agreeement.  After this suit was filed, the parties settled the specific performance claim which attempted to enforce the terms of the designation agreement.  That partial settlement required the law firms to create an ethical wall to prevent the attorneys representing the stockholder in the litigation against the company from being the same attorneys who represented or provided advice to the director.  (Referring to a George Orwell book, the court suggested that this was an obvious solution to this corporate litigation that started as a Section 225 action.)

The court granted summary judgment to the company on the separate related claim for damages and attorneys’ fees related to the attempt to specifically enforce the director designation agreement–prior to the partial settlement.

See generally J. Travis Laster and John Mark Zeberkiewicz, The Rights and Duties of Blockholder Directors, 70 Bus. Law. 33 (Winter 2014/2015) (addressing issues regarding directors appointed by particular class or series of stock, referred to as “blockholder directors.”)

Bonus: Although this was not a Section 220 case, a useful discussion was included based on an old Chancery decision that prohibited a designated agent for purposes of a Section 220 inspection to review documents when that agent already was adverse to the corporation in pending litigation.  See Henshaw v. American Cement Corp., 252 A.2d 125 (Del. Ch. 1969).

Supreme Court Rejects Malicious Prosecution/Fee-Shifting Claim

Blue Hen Mechanical, Inc. v. Christian Brothers Risk Pooling Trust, Del. Supr., No. 589, 2014 (Del. June 15, 2015). This Delaware Supreme Court opinion has practical application for corporate litigators and civil litigators generally, due to the manner in which it addresses: (i) how to deal with suits filed allegedly in bad faith; and (ii) how to deal with a suit that may have been filed in good faith, but is conducted or continued in bad faith. Some highlights:Little Sisters of the Poor

  • Delaware’s high court rejected an effort to expand Delaware law to allow for malicious prosecution claims to extend beyond the current law that (apparently unlike PA and the Restatement (Second) of Torts) bars such a claim if a good faith basis existed when suit was filed.
  • The court relied on existing law that allows for fee-shifting if litigation is conducted in bad faith (even if there was a good faith basis for the suit being filed initially). For example, at footnote 42, the court refers to Super. Ct. Civ. R. 37(b) as providing a default so that a prevailing party who seeks a motion to compel “is entitled to its fees and costs in securing that order….” But one reading of that rule would suggest a different result: that fees only become mandatory when a prior order granting a motion to compel is violated–although at least one other recent decision has read the rule the same way as Delaware’s high court in this case. But cf. prior Chancery ruling declining to grant fees after second motion to compel.
  • This case involved a separate suit for malicious prosecution instead of the self-described aggrieved party seeking fees when the prior suit complained of was finalized, as part of that same concluded suit. The court’s reasoning is eminently quotable: “Put simply, we see no empty compartment in the tool box that trial judges have to address bad faith litigation conduct that would be filled by usefully extending the malicious prosecution tort.”
  • The court provides public policy commentary about fee-shifting in general and comparisons of the American Rule and the English Rule on fee-shifting, as well as the impact of those two different rules on “the poor”, and access to the courts for redressing grievances. See, e.g., footnote 46.
  • This case was based originally on a breach of contract claim relating to a large air conditioning unit at a nonprofit nursing home called the Jeanne Jugan Residence located in Newark, Delaware, run by a group of Catholic nuns called the Little Sisters of Poor. FULL DISCLOSURE: my youngest brother is a Catholic priest for the Diocese of Wilmington and he is the Chaplain for the Little Sisters of the Poor. I have no involvement in this case. (The photo above shows one of the nuns in one of the nursing homes around the world that they run.)

Dissolution of Profitable LLC Granted Despite Agreement Barring Voluntary Dissolution

Meyer Natural Foods LLC v. Duff, C.A. No. 9703-VCN (Del. Ch., June 4, 2015). This Court of Chancery letter ruling is noteworthy to the extent that the Court granted dissolution of an LLC despite: (i) no deadlock (one member owned 51%); (ii) an ongoing profitable company; (iii) language in the LLC agreement barring voluntary dissolution; (iv) the ability of the LLC to continue to operate within the scope of its purpose clause, at least in theory; and (v) the court went beyond the four-corners of the agreement to explore the core purpose of the LLC. Specifically, notwithstanding an integration clause, the court considered other agreements that were contemporaneously entered into by the parties in connection with the formation of the LLC, only one of which had a Delaware choice of law clause. That factual consideration was key to addressing the “practicability” requirement for dissolution in 16 Del. C. Section 18-802

Key facts as noted by the Court:

The operative facts here are that PNB’s business depended on the integrated supply and distribution of natural beef, the Output and Supply Agreement is no longer effective, Respondents no longer believe that non-compete obligations apply, and no one wants to remain in the business as originally structured.

This decision should be juxtaposed with other rulings denying requests for dissolution even in the face of a deadlock, for example, as highlighted on these pages. But see recent decision highlighting broad equitable basis for court to consider dissolution of an LLC.

Supreme Court Rules on Appeal of Liquor License Dispute

OLYMPUS DIGITAL CAMERAThis is a guest article from Ciro Poppiti, III, Esquire, the Register of Wills for New Castle County, Delaware, and a frequent commentator on food-and-beverage law.

Office of the Commissioner, Delaware Alcoholic Beverage Control v. Appeals Commissioner, Delaware Alcoholic Beverage Control, and Lex-Pac, Inc. d/b/a Hak’s Sport’s Bar & Restaurant (Del. June 2, 2015).

Takeaway
Even when salacious facts present themselves, this Delaware Supreme Court decision demonstrates that the main tenets of administrative law hold fast, namely 1) the enabling act controls and 2) a lower-tier reviewer does not have the authority to appeal a higher-tier reviewer.

Summary
Hak’s is a gentlemen’s club on the outskirts of Wilmington. Hak’s wanted to change the classification of its alcohol license from a taproom to a restaurant. The reason? Hak’s wanted to have strippers under 21. Under a taproom license (namely, a bar-only license), everyone in the joint must be over 21. Under a restaurant license, age is moot.

The Delaware alcohol commissioner denied Hak’s application, underscoring the point that the purpose of a restaurant is to serve complete meals, not to accommodate 19-year-old lap dancers. Hak’s appealed to the alcohol appeals commission, which is essentially an administrative appeals board. The appeals commission overruled the commissioner and granted the application on a provisional basis. The alcohol commissioner himself then appealed to Superior Court, which ruled that the alcohol commissioner did not have standing to appeal.

The Supreme Court affirmed the Superior Court’s decision. Title 4 of our Delaware Code is the Liquor Control Act. The Act establishes the office of the alcohol commissioner, enabling the commissioner to grant licenses, make the rules under which the licensees must act, and then adjudicate wrongdoing. In other words, Title 4 grants the Commissioner immense power over the industry. The Supreme Court found, however, that Title 4 does not enable the commissioner to appeal a decision of the alcohol appeals commission. Such authority would in fact go against the basic scheme of jurisprudence, namely that a lower-tier reviewer cannot appeal the decision of a higher-tier reviewer.

Chancery Awards Fees Based on “Gross Value of Settlement”

MoneythIn re Jefferies Group, Inc. Shareholders Litigation, Cons. C.A. No. 8059-CB (Del. Ch. June 5, 2015). This Delaware Court of Chancery letter ruling describes the standards that apply to a request for attorneys’ fees in connection with the settlement of a class action.  This action arose out of a stock-for-stock merger of Jefferies Group, Inc. and the Leucadia National Corporation in 2013.  The core of the suit was an alleged conflict of interest affecting four of the eight members of the board of Jefferies that, if proven, could result in the application of the entire fairness standard.

Highlights of Case

Delaware counsel sought attorneys’ fees in the amount of $27.5 million plus expenses in an amount exceeding $1 million.  The requested fee equates to approximately 27.5% of the “gross value of settlement” (approximately $100 million) after taking into account the requested fees and expenses incurred by Delaware counsel, and an assumed amount of administrative expenses to be paid by defendants.  The “gross value amount” was calculated approximately as follows:  $70 million distributed to the class, $27.5 million fee award, $1 million in out-of-pocket expenses for which reimbursement was sought, and an estimated $1.5 million in administrative expenses.

The court notes in footnote 5 that where a settlement is structured upon a net payment to stockholders without an agreement on the amount of the maximum fee award that the defendants will not oppose, as in this case, the defendants have an incentive to oppose fee requests viewed as unreasonable in order to manage their total payments.  By contrast, the court observed that:  “Defendants are usually indifferent as to what percentage of a gross settlement is awarded to plaintiffs’ counsel because their exposure is capped at the gross amount.”  The court expressed its preference for fee applications subject to adversarial inquiry in order to provide the court with a better record regarding the quality of the benefit achieved in the proposed settlement and the related Sugarland factors.

The court also observed at footnote 6 that the case relied on upon by the defendant “did not conduct any analysis and reached no conclusion concerning whether fee awards should be based on the net or gross value of a settlement.” Referring to five recent settlements cited by the defendants, the defendants argued that the Court of Chancery traditionally has awarded attorneys’ fees between 20% and 25% of the value of settlements exceeding $65 million.  Defendants suggested that the midpoint of that range supports an award of $15.75 million in fees in this case, which is equal to 22.5% of the $70 million net settlement fund, not including reasonable expenses.

Issues Presented:(1) Whether the fee award should be calculated on a net or a gross basis; and (2) the appropriate amount of the fee.

Analysis

The decision announced that: “This court traditionally has granted fee awards in common fund settlements based on the percentage of the gross settlement value” (though no cases were cited in support of that statement.)  For example, the fee awards in each of the five settlements relied on by the defendants exceeded $65 million and defendants describe them as based on the gross value of the settlement.  Indeed, the court observed that the “defendants were unable to identify a single case in which this court made a considered judgment to award a fee based on a percentage of the net recovery that stockholders would receive in a common fund case.”

One observation that can easily be made based on the court’s statement that a fee award is based on the “gross settlement value” in a common fund settlement, is that it is counterintuitive. For example, if the gross value of settlement is calculated by adding the net payment to the class to the attorneys’ fees payable, the plaintiff is obtaining an award based at least in part on a percentage of the attorneys’ fees that are paid to him, which seems as if the plaintiff is receiving a double advantage.

The court reviewed the familiar Sugarland factors, namely:  (1) the results achieved; (2) the time and effort of counsel; (3) the relative complexities of the litigation; (4) any contingency factors; and (5) the standing and ability of counsel involved.  Of course, the benefit achieved is the most significant factor. The court explained that the quality of the benefit depends on several factors, including whether the business judgment rule applied in which case the plaintiffs presumably would have received no recovery had they gone to trial.  On the other hand if the entire fairness standard had applied, “the benefit takes on a different complexion.”  Of course, the settlement was reached without either side knowing what standard of review ultimately would apply and which financial experts would be more persuasive at trial.

The court cited to the recent decision in the matter of In re Activision Blizzard, Inc. S’holder Litig., highlighted on these pages here, which awarded between 22.7% to 24.5% of cash and non-monetary benefits achieved in a case involving “complicated legal issues and the need for extensive discovery,” including over 800,000 pages of discovery documents and 23 fact depositions taken in a compressed schedule.”  The court also noted other cases at footnote 11 in which it was observed that:  “Delaware case law supports a wide range of reasonable percentages for attorneys’ fees, but 33% is the very top of the range of percentages.” The court concluded that 23.5% of the gross value (approximately $91.5 million) of the settlement, inclusive of expenses, would be the appropriate award in this case.  The court also spent several pages at the end of this letter opinion on a separate discussion explaining why it rejected the request for a share of the fee award by New York counsel who engaged in related litigation involving the challenged transaction.