Court of Chancery Jurist Co-Authors Article on Drafting

Vice Chancellor J. Travis Laster of the Delaware Court of Chancery co-authored with Ken Adams, an article about agreements that attempt to preempt judicial discretion.  Copious footnotes to court decisions and treatises support the helpful analysis and drafting tips provided. The article should be required reading for anyone litigating the meaning of an agreement in the Delaware Court of Chancery–or drafting any document that might be the subject of corporate or commercial litigation in the Delaware Court of Chancery.

Court Enforces Post-Mediation Settlement Terms

A recent letter ruling is useful for commercial litigators for two contract interpretation principles that the Court of Chancery addresses in a business-like manner. In Frank Robino III v. Paul Robino; Charles Robino, et al. (Del. Ch. Aug. 16, 2017), the Court addressed:

(1)        What standard is applied when a person claims that an agreement is not binding due to duress and/or allegations of diminished capacity as a result of substance abuse, including intoxication;

(2)        When a settlement agreement reached during mediation that might not have all the complete formality and comprehensiveness of a typical agreement, can still be enforceable.

Overview

The procedural context of this case was a motion to enforce a settlement agreement that was reached after mediation. Both parties were represented by competent counsel during the mediation, and the court describes the mediator as one of the most experienced mediators in Delaware.  The court granted the motion to enforce a settlement agreement and rejected the two defenses presented.

Rejected Defenses

The first rejected defense was based on the asserted argument of duress as well as substance abuse that apparently included intoxication or inebriation. The court cited to Delaware case law explaining the burden of proof and the challenges in prevailing on such a defense, which was not successful in this case.

Key Holding

Regarding the mediation that resulted in a settlement agreement, the court found that the essential terms of the agreement were agreed to, in a signed document at the mediation. It was not clear whether a more formal and comprehensive agreement was contemplated, although the parties did attempt unsuccessfully to negotiate a more formal and comprehensive agreement after the mediation.  Nonetheless, the court found that the terms that were agreed to and signed at the mediation were sufficient to enforce it as a binding contract.

Court Rejects Post-Closing Adjustment Claims

The Delaware Court of Chancery recently addressed a common type of claim in commercial litigation: Post-closing adjustments to the purchase price. Sparton Corporation v. O’Neil, C.A. No. 12403-VCMR (Del. Ch. Aug. 9, 2017).

Basic Facts: The claims in this case involved an assertion that the defendant directors changed the selling company’s accounts receivable after an amount was determined for an escrow account for post-closing adjustments–but the change was made prior to the closing, unbeknownst to the buyers. In essence, the court found that the allegations of fraud did not satisfy the prerequisites for specificity, and, in addition, a robust anti-reliance clause prevented claims based on representations outside the contract.

Key Takeaways

Anti-Reliance Provision and Fraud Claims

The most noteworthy statement of law from this decision, that has the most widespread application, is based on the strong anti-reliance provision in the agreement, and settled Delaware law that prevented claims based on misrepresentations outside the four corners of the agreement. The anti-reliance clause was quoted at length in the opinion and was very specific to the extent that the parties agreed that the sole and exclusive representations were those contained in the  agreement and that no representations outside the agreement were relied upon in connection with the purchase. (See footnote 44 which cited to the well-known Abry case on which the court’s reasoning was based.)

In addition, the court relied on the basic pleading prerequisites for fraud which require much more specificity than non-fraud claims require. In addition, the court distinguished the Osram case which noted that “a mere allegation that a defendant knew or should have known about a false statement is not sufficient to plead the requisite state of mind” for fraud.The court reasoned that in this case, none of the defendants personally represented the accuracy of the financial statements, and that they were not a position to know the veracity of the statements. Also, the plaintiff did not plead any particularized facts about the roles of the defendant in the company or the relationships of the defendants with management. Nor did the plaintiffs allege any facts to show that the defendants would be a position to know that the documents were falsely prepared.

Commercially Reasonable Efforts

Also noteworthy is the court’s treatment of a claim that “commercially reasonable efforts,” as required by the agreement, were not employed. The case law on the “commercially reasonable efforts standard” has been written about on these pages in connection with recent decisions, but because case law about that contractual standard is not fully evolved, I mention it here in passing even though the court’s discussion is not comprehensive. See Slip op. at page 15.The allegation was that it should have been self-evident that because certain actions did not take place by a certain deadline in the agreement, that the reason must have been the lack of an exercise of commercially reasonable efforts. The court rejected this conclusory allegation because it was not self-sufficient and did not satisfy the “reasonably conceivable test” under Rule 12(b)(6).

Court Rejects Claims for Post-Closing Milestone Payments

A recent decision of the Delaware Court of Chancery deals with a recurring source of litigation: Claims for post-closing contingent payments based on allegations that the requisite milestone was triggered.  The merger in Fortis Advisors LLC v. Shire US Holdings, Inc., C.A. No. 12147-VCS (Del. Ch. Aug. 9, 2017), involved novel pharmaceutical products that were designed to treat dry-eye conditions.

Key Facts: At the time of the merger, some of the products involved had not received complete, final FDA approval, and therefore post-closing payments were based in part on whether or not the necessary final approvals would be obtained, as defined in the agreement.

In essence, the court determined that the defendant’s reading of the contract was the only reasonable one, and therefore the motion to dismiss was granted.

Key Takeaways

  • The court observed that when the dispositive issue is one involving contract interpretation and the contract has only one reasonable construction as a matter of law, a motion to dismiss is an appropriate procedural approach.
  • Several fundamental contract interpretation principles were applied, including: (1) the canon of construction that to express or include one thing implies the exclusion of the other. In Latin the expression is expresio unius est exclusio alterius. (Note that there is also an important exception to this canon of construction–that was not applicable in in this case.) See footnote 30.
  • The second key principle was that the court will not interpret an agreement in a manner that renders some of the terms superfluous. See footnote 32.
  • The next principle that the court applied was of a procedural nature but of major importance. Namely, an argument raised for the first time in oral argument and not included in the brief will not be considered. The court cited settled law at footnote 32 that a party waives an argument by not including it in its brief.
  • The court relied on the rule that when schedules are attached to and incorporated into an agreement, they form part of the entire agreement equal to the terms in the body of the agreement. See footnote 40. The court also relied on the settled rule of contract interpretation which requires that the court prefer specific provisions over more general ones. See footnote 60.

Claims Allowed to Proceed Based on Entire Fairness Standard

The recent Chancery decision in Buttonwood Tree Value Partners, L.P. v. R.L. Polk & Co., Inc., C.A. No. 9250-VCG (Del. Ch. July 24, 2017), is noteworthy for its application of the entire fairness standard to a controlling stockholder transaction, and the observation that exculpatory provisions barring director liability for violations of the duty of care do not apply to a defendant in his capacity as a controlling stockholder. See footnotes 91 and 92.

Key Facts: The Polk family collectively owned more than 90% of the common stock of the company; the directors connected with the Polk family exercised a control block; they engineered a self-tender that allowed them to maintain their control; they set the price through the use of a financial advisor that also did work for the Polk family; within around two years of the self-tender the remaining stockholders received extraordinary dividends amounting to 1/3rd of the self-tender price, together with merger consideration of 300% of the self-tender price. Based on those facts, the court explained that the controlling defendants had the burden to demonstrate that the transaction was entirely fair at the time it was made. They were not able to satisfy that burden.

Key Takeaways 

  • When a transaction involves self-dealing by a controlling stockholder the applicable standard of judicial review is entire fairness. That standard imposes on the defendants the burden to prove that the challenged transaction with the controlling stockholder was entirely fair to the minority stockholders.
  • In this context, an exculpatory provision does not apply to the defense of such a challenged transaction by a controlling stockholder because it alleges breach of a duty of loyalty. But the exculpatory provision under Section 102(b)(7) applies to alleged violations of the duty of care.
  • Notably, common familial relationships among holders of a majority of corporate voting power are not per se sufficient to establish a controlling group of stockholders.
  • Likewise, directors and stockholders who are also family members are not necessarily presumed to vote together “as one undifferentiated mass with a single hypothetical brain.” See footnote 93.
  • Even in the context of an entire fairness review, and in the presence of an exculpatory provision, each defendant must be the subject of well-pleaded non-exculpated claims – – that is, a breach of the duty of loyalty. Specifically, the liability of directors must be determined on an individual basis because the nature of their breach of duty, if any, and whether they are exculpated from liability, can vary for each director. See footnotes 100 and 101.
  • Bad faith allegations in this matter did not survive a motion to dismiss. In order to sufficiently plead bad faith, it must be demonstrated that “disinterested directors were intentionally disregarding their duties or that the decision was so far beyond the bounds of reasonable judgment that it seems essentially inexplicable on any ground other than bad faith.” See footnote 102.
  • Another noteworthy discussion in this opinion was the dismissal of a claim against a law firm for the company alleging the aiding and abetting of a breach of fiduciary duty of the board. The court explained that such a claim requires a knowing participating in the breach and damages proximately caused by that breach. The standard for such a claim is intentionally stringent and it turns on the proof of scienter of the alleged abettor.
  • In addition, a claim for aiding and abetting must include factual allegations of knowing participation in a breach which requires that the third party act with the knowledge that the conduct advocated or assisted constituted a breach. Moreover, the element of knowing participation “ requires that the secondary actor have provided substantial assistance to the primary violator.” See footnotes 108 through 112.
  • The court found that the law firm was not alleged to have knowingly participated in the alleged breaches by the board of their fiduciary duties. The court observed the obvious: “Almost all corporate boards retain law firms to advise them on significant transactions         . . . [I]f pleading a plausible breach of the duty on the part of the director or controller is also sufficient to implicate her lawyer as an aider and abettor, a significant and perverse chilling effect on the ability of fiduciaries to obtain legal counsel would result.”
  • Also noteworthy in connection with the dismissal of similar claims against the financial adviser were the following two points: (1) There is no general duty on third parties to ensure that all material facts are disclosed by fiduciaries; (2) “Passive failure on the part of third parties to ensure adequate disclosures to stockholders, without more, cannot support an inference of scienter for knowing participation in a breach.”

Chancery Awards Advancement Fees for Defense of Similar Claims Pending Against Non-Covered Parties

This post was prepared by Brian E. O’Neill, Esq. of Eckert Seamans.

The Court of Chancery recently awarded an applicant, Eric Pulier, all of his requested fees and expenses for advancement even though some of the expenses incurred related to the defense of claims asserted against SRS, a defendant not seeking advancement. In Pulier v. Computer Sciences Corp., No. 12005-CB (Transcript)(Del. Ch. Aug. 7, 2017), a former officer and director of ServiceMesh before its merger with CSC, Pulier, faced a civil suit alleging that he engaged in misconduct prior to the merger.  The background facts of this action were discussed more fully in a prior summary on these pages.

CSC defended against the advancement application on two grounds. First, CSC contended that the allegations against Pulier related to his individual conduct independent and separate from his status as an officer and director of ServiceMesh.  The Court quickly dispensed with this argument.

CSC next argued that two of Pulier’s four claims for advancement related to expenses incurred in defense of claims pending against SRS, and not against Pulier. CSC contended that these legal fees should not be advanced because they were not incurred for Pulier’s benefit.

Chancellor Bouchard granted all of Pulier’s requests for advancement, finding that the expenses incurred by Pulier against the CSC-versus-SRS claims “contain virtually identical allegations” to those claims raised against Pulier. Relying upon Fitracks, the Court found that CSC must indemnify Pulier for all of his legal expenses, which benefitted multiple defendants including Pulier and would have been necessarily incurred even if Pulier were the sole defendant.

Takeaway: The Court of Chancery continues to grant advancement claims to applicants even when only one of many parties is entitled to advancement when the legal bills incurred were necessary in the event the applicant were the sole defendant.  The Court of Chancery also continues to demonstrate reluctance to parse through the piecemeal minutiae of law firm bills for advancement defenses for allocation purposes.

Fiduciary Duty Claims of Start-up Co-Founder Denied

A recent Delaware Court of Chancery opinion analyzed claims that are not uncommon: one of two founders of a start-up, that failed to launch, claimed that the other co-founder breached fiduciary duties by launching another start-up venture with a third-party who then pursued the business plan of the original start-up, but without the original co-founder.  In McKenna v. Singer, C.A. No. 11371-VCMR (Del. Ch. July 31, 2017), the court disagreed that the original co-founder of the original start-up entity had any right to an interest in the separate start-up venture later launched with a different third-party.

Background

The first 40 pages of this 69-page opinion offers detailed facts which are necessary to understand the court’s reasoning. The comprehensive background details explain why one co-joint venture partner decided not to do business with the other.  As an aside, one of the co-joint venture partners who was not a part of the eventual launching of the start-up formed with another third-party, exhibited a chronic failure to promptly reply to emails, as well as consistently dilatory behavior and failure to follow-up on tasks that were assigned to him as part of the due diligence for the start-up that was eventually launched with another third party.  That type of languid behavior did not endear him to the other entrepreneurs.

Key Takeaways

This opinion features iconic articulations of the basic elements of a fiduciary duty claim and eminently quotable descriptions of the fiduciary duties owed by directors or others serving in a fiduciary role to constituencies in a business venture. See Slip op. at 47.

Also useful for the toolbox of any corporate or commercial litigator is the application by the court of a fiduciary duty analysis to a former co-joint venture partner who decided to consummate the joint venture start-up deal with a third-party.

Of practical and widespread application is the court’s analysis of the unclean hands doctrine that barred relief based on the improper conduct by the party requesting relief. Slip op. at 41-42.  That is, but for the material misrepresentations of the plaintiff, the original joint venture partner never would have agreed to form a start-up entity.

Similarly helpful for commercial litigators is the court’s discussion of the duty of disclosure, if any, in an arm’s length negotiation, Id. at 43, as well as the standard for usurpation or misappropriation of a corporate opportunity. Id. at 48.

In sum, the court reasoned that the fiduciary relationship on which the request for relief rested was conceived in an unholy manner, due to the several material misrepresentations by the plaintiff that was requesting damages for the breach of an alleged fiduciary duty – – one that was never properly consummated due to the unclean circumstances created by the misdeeds of the plaintiff.

Delaware Supreme Court Declines to Adopt Deal-Price Presumption in Appraisal Action

This post was prepared by Brian E. O’Neill, Esq. of Eckert Seamans.

The Delaware Supreme Court recently declined to adopt a presumption in appraisal actions of deal price as fair value in a robust, market-driven sales process. In DFC Global Corporation v. Muirfield Value Partners, L.P., (Del. Aug. 1, 2017), the Delaware Supreme Court reversed and remanded the Court of Chancery’s ruling, finding that the trial court abused its discretion in allocating a diminished weight to the deal price.

Background: Petitioners, stockholders of DFC, an international, publicly-traded payday lender, sought appraisal rights in the Court of Chancery based on a “going private” sale of DFC at $9.50 per share.   DFC sought to sell itself in 2012 as a result of regulatory pressure in the U.S. and abroad with respect to the practices of the payday lending industry.  DFC, through its broker, contacted nearly forty potential buyers, drawing serious interest from three.

The three bidders made various offers for DFC common stock, ranging from $13.50 down to $9.50 per share. The decreasing bids were largely a result of worsening financial projections and performance of DFC during 2013 and 2014.  After a robust, open market sales process, DFC was ultimately acquired by Lonestar, a private equity firm, for $9.50 per share in April 2014.

The Court of Chancery found, after trial, that the sale process was free from conflicts of interest and reflected a robust, multiple bidder transaction. The trial court employed three formulae to arrive at fair value of DFC’s common stock: discounted cash flow, comparable sales, and the deal price.  The Court of Chancery accorded weightings of one-third to each method’s results, after finding flaws with the discounted cash flow and deal price methodologies, which required diminution of the weight of each method.

Chancellor Bouchard concluded that the fair value of DFC’s shares was $10.40, a nearly 10% premium over the deal price. DFC moved for reargument, claiming that the Court of Chancery had failed to apply the working capital figures previously adopted by the court in its discounted cash flow analysis.  The Court corrected its arithmetic oversight, and then changed the perpetual growth rate from 3.1% to 4%.

Both parties filed appeals of the Chancellor’s ruling. On appeal, DFC argued for application of a deal-price presumption of fair value based on the robust, market driven sale process and the absence of any conflicts of interest.  The petitioners, on appeal, argued for exclusive application of the discounted cash flow method, which resulted in the highest per share valuation.

Analysis:  The Supreme Court reversed and remanded the Chancellor’s findings and ordered the Court of Chancery to explain its valuation approach based on the record evidence.  The Supreme Court specifically rejected DFC’s argument for the creation of a deal-price presumption in appraisal actions.  Although finding that the issue had not been properly presented to the trial court, the Supreme Court addressed the request at length, and held that such a presumption runs afoul of the broad language in the appraisal statute, which requires the trial court to consider “all factors’ relevant to valuing a company’s stock.

The Supreme Court found that the trial court had committed reversible error by only according a one-third weighting of the deal price to the valuation of DFC’s common stock. The Supreme Court noted that the sale process was a robust, open market process free from conflicts; thus, the deal price should have been accorded greater emphasis.  The Supreme Court addressed at length the ability of the market, and prospective bidders, to digest and reflect regulatory impact on the stock price and explicitly rejected the trial court’s conclusions that regulatory upheaval justified a downward weighting of the deal price.

The Supreme Court also found error in the trial court’s revision of the perpetual growth rate, in its DCF analysis, from 3.1% to 4%. The Supreme Court noted that the payday lending industry, and DFC’s market presence, were mature, and the industry faced growing regulatory pressures.  Accordingly, the trial court lacked sufficient evidence to conclude a growth rate 27% higher than the risk free rate of 3.14%, and significantly higher than the projected rate of inflation.  In other words, it was error for the trial court to conclude that DFC’s value would continue to grow at such an aggressive pace.

The Supreme Court ordered the Court of Chancery to more fully explain its weighting methodology on remand. Specifically, the Supreme Court ordered the trial court to link DFC’s working capital figures to the outsized perpetual growth rate, and explain, if possible, how such capital could support a 4% growth rate.  The Supreme Court did not retain jurisdiction of the matter and left to the discretion of the trial court whether to reopen the record to receive additional evidence and/or legal argument.

Takeaway: The Supreme Court declined to adopt a deal price presumption, finding that the appraisal statute does not permit such a presumption and noting that it would be difficult at best to define the parameters for when such a presumption would apply.  Notwithstanding its rejection of a deal price presumption, the Supreme Court reversed the trial court for applying a relatively low weight to the deal price when the facts suggested a robust, market-driven sale process free from conflicts of interest.

It would appear that deal price remains a strong factor of valuation in such cases, and may on occasion serve as the actual valuation in an appraisal action. The deal price, however, may not serve as a conclusive presumption per se in appraisal cases.

Chancery Finds Demand Futility Adequately Pled

This post was prepared by Brian E. O’Neill, Esq. of Eckert Seamans

The Court of Chancery recently denied a motion to dismiss, finding that plaintiff had met the heightened pleading standard for demand utility under Aronson.   In H&N Management Group v. Couch, C.A. No. 12487-VCMR (Del. Ch. Aug. 1, 2017), Vice Chancellor Montgomery-Reeves denied the defendant corporate directors’ motion to dismiss the plaintiff’s claims for breach of fiduciary duties.  The Court found, for motion to dismiss purposes, that the plaintiff adequately pled that the corporate directors breached their fiduciary duties, and were grossly negligent by failing to inform themselves of all material facts before acting and by permitting an interested insider to dominate the acquisition process.

Background:   Plaintiff corporation, H&N, was a stockholder in AGNC Investment Corporation (the “Company”), a Delaware REIT.  American Capital Mortgage Management, LLC (the “Manager”), managed the Company, and also managed MTGE, a separate REIT.  The Manager was a wholly-owned subsidiary of American Capital, Ltd. (“American Capital”).

From 2013 to 2016, the Company and MTGE had the same board members. In 2016, Kain, an individual defendant, became an executive officer and director of the Company and MTGE.  Kain also served as an executive officer of the Manager, and previously served as an officer of American Capital.

Plaintiff alleged that the Manager enjoyed an overly generous annual service contract with the Company, which was subject to annual renewals. Plaintiff also alleged that MTGE paid little or no fees to Manager, and effectively was subsidized at the expense of the Company.

On July 1, 2016, the Company acquired Manager in an all cash deal. The Manager continued to manage MTGE, through its subsidiary, after the acquisition.  Kain was instrumental in orchestrating the acquisition throughout the entire process.

Plaintiff alleged in the Complaint that Company’s directors breached their fiduciary duties by allowing the service contract with Manager to automatically renew for several years without conducting due diligence. Specifically, plaintiff alleged that the directors failed to consider all material information before renewing the service contract and, in some instances, withheld material information from other board members.  Plaintiff also alleged that the defendants committed waste by acting in favor of MTGE, and to the detriment of the Company.

Analysis: Vice Chancellor Montgomery-Reeves noted that in order to survive a Rule 23.1 motion to dismiss, the complaint must adequately allege demand futility.

The Court applied the familiar Aronson test: “plaintiff must plead particularized facts sufficient to raise (1) a reason to doubt that the action was taken honestly and in good faith or (2) a reason to doubt that the board was adequately informed in making the decision.” In considering whether the board was adequately informed during its decision-making process, the Court employs a “gross negligence” standard.

The Court found that plaintiff met its burden in pleading demand futility based on the Company board’s failure to adequately inform itself of all material facts before renewing the Manager’s contract. Moreover, the board of the Company faced a “dual fiduciary” problem as in Weinberger because its members also served on the manager’s board.  The Complaint alleged that the Company’s board committee tasked with examining the contract renewals spent less than fifteen minutes addressing the topic.  The Complaint also alleged that the board failed to study the issue prior to voting on the renewal.

The Court also found that demand futility was adequately pled with respect to the breach of fiduciary duty claim for the board’s approval of the merger with Manager. Relying on Court of Chancery precedent of McPadden v. Sidhu, the facts of which were discussed in a prior summary on these pages, Vice Chancellor Montgomery-Reeves found that the pleadings adequately alleged that the Company board improperly allowed Kain, a conflicted fiduciary of the Company, to dominate the acquisition process, dictate the transaction structure, and direct the ultimate terms of the deal.  As in McPadden, the facts pled “are sufficient to raise a reason to doubt that the board was adequately informed when it approved [the acquisition].”

The Court next denied the motion to dismiss the breach of fiduciary duty claims, finding that the adequate allegations under the higher standard of demand futility met the “lesser pleading standard required by Rule 12(b)(6).”

Takeaway: The Delaware Court of Chancery will find the high standard of demand futility to be adequately alleged on a ‘failure to inform” basis if the Complaint contains particularized facts leading to a “gross negligence” inference.  The factual allegations in McPadden and in this case were egregious, and are likely to remain more the exception than the rule in demand futility decisions regarding this familiar procedural hurdle in corporate litigation.

Chancery Refuses to Apply Garner Exception to Attorney/Client Privilege

A recent Delaware Court of Chancery decision is essential reading for anyone who seeks to apply the exception to the attorney/client privilege known as the Garner exception. Salberg v. Genworth Financial, Inc., C.A. No. 2017-0018-JRS (Del. Ch. July 27, 2017). Garner is known to corporate litigation practitioners as an exception to the general prohibition on the production of privileged communications between attorney and client.

Key Principles

The Garner exception applies in certain circumstances where corporate fiduciaries who are defending claims brought against them by those to whom the fiduciary duty is owed, based on the application of a multitude of factors in which it is determined by the court that the documents otherwise withheld, should produce otherwise privileged documents.

The court in this opinion makes it clear that the application of the Garner exception is factually determinative, and even if all of the various factors apply, whether or not a fiduciary exception to the privilege will be recognized is within the discretion of the court.

The context of this case was a Section 220 demand made more complicated because it was preceded by a derivative action which was still pending at the time of this Section 220 case. During the pendency of the previously filed derivative action, a merger of Genworth was announced.  The Section 220 case sought records regarding the valuation of the pending derivative action as part of the decision to merge.

One of the factors that made it more challenging in this case for the application of the Garner exception, was the acknowledgement by the parties that they were seeking, at least arguably, in the Section 220 action, documents that they would not otherwise be entitled to obtain in the pending derivative action against the same company.

This opinion is must reading for anyone seeking to have a complete and nuanced understanding of the Garner fiduciary exception to the attorney/client privilege.  The court also discusses Delaware Rule of Evidence 502(b) in the context of the analysis, as well as the Delaware Supreme Court’s Section 220 decision in Wal-Mart Stores, Inc., in 2014, highlighted on these pages here, which endorsed the application of Garner, which had been applied for many years previously by the Court of Chancery.

In addition to the nine factors that the Garner case requires to be considered as informing the court about whether “good cause” exists, the Delaware courts have identified three of those as having particular significance. See footnotes 18 and 19.  Even though the Garner factors, including the three that the Delaware courts focus on, were arguably met, the biggest problem that the claimants faced in this case, and a key reason for the court’s decision, was that they were seeking to obtain in a Section 220 action what they otherwise would not be able to obtain through the previously filed and still pending derivative action.

The court emphasized that even if all of the Garner factors apply, they are not “talismanic” and that the court must use its discretion based on the unique circumstances of every case.  The court in this case was troubled that the documents sought would contain the mental impressions and assessments of the defendants and their counsel in the derivative action regarding the strengths and weaknesses of the derivative claims.  The company’s board would be understandably concerned that the production of those sensitive documents would give the plaintiffs an unfair advantage in the derivative action.  The general articulation of the Garner fiduciary exception recognizes that:

“Where the corporation is in suit against its stockholders on charges on acting inimically to stockholder interests, protection of those interests as well as those of the corporation and of the public requires that the availability of the privilege be subject to the right of the stockholders to show “good cause” why the privilege should not apply.” See footnotes 10 and 11.

The exception is intended to be difficult to satisfy and generally does not entitle the party to the mental impressions about trial strategy of the lawyers regarding the lawsuit at issue. In sum, the court refused to apply the Garner exception in this case.

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