M&A Litigation: Standards of Review

A member of the Delaware Court of Chancery has penned a chapter for an upcoming book on stockholder litigation. An overview of the chapter was recently published on the Harvard Law School Corporate Governance Blog. This scholarly writing by Vice Chancellor J. Travis Laster is entitled: Changing Attitudes: The Stark Results of Thirty Years of Evolution in Delaware M&A Litigation. As the title suggests, the work provides an overview of the past and present standards the Delaware courts apply to various types of mergers and acquisition.

When a member of the Delaware court speaks publicly about, or publishes an articulation of, Delaware law on M&A standards, those who toil in the vineyards of corporate and commercial litigation would be well advised to pay close attention.

Challenge to State Bid Dispute Denied

Justin M. Forcier, an associate in the Delaware office of Eckert Seamans, prepared this overview.

A recent Chancery decision provides guidance for attorneys seeking injunctive relief in connection with a bid dispute for a state contract pursuant to 9 Del. C. § 4725.  Charlie’s Waste Services, LLC v. Kent County Levy Court, C.A. No. 2017-0283-JRS (Del. Ch. June 1, 2017).

Background:  After Kent County began soliciting bids for trash collection, Plaintiff Charlie’s Waste Services, LLC (“Charlie’s”) filed an action against the Kent County Levy Court (“County”), Waste Industries of Delaware LLC (“Waste Industries”), and BFI Industries, LLC d/b/a Republic Services of Delmarva (“Republic”) in which Charlie’s sought to enjoin the County from awarding those contracts to Waste Industries or to Republic.  (The Kent County Levy Court is not a real “court,” and is akin to the New Castle County Counsel as a governing body)  Charlie’s contended that it was the lowest bidder and the County was statutorily obligated to award the contract to it pursuant to 9 Del. C. § 4725.

In an attempt to improve trash collection, the County required those companies interested in bidding on contract to show: (1) a history of providing similar equipment and services; (2) a method for addressing customer service issues; (3) bid price and structure; and (4) a bid bond, references, and an insurance policy of $5 million.  After three evaluators who were designated by the County scored the bids and made their recommendations, the Levy Court made the final determination.  The Levy Court overwhelmingly agreed with the evaluators’ recommendations, and the contract was awarded to both Waste Industries and Republic.

Charlie’s filed this action for injunctive relief alleging that the County violated Section 4725 because its bid was lower than Republic’s and Waste Industries’ bids, and the statute requires contracts to be awarded to the “lowest responsible bidder.”

Analysis:  The court began its analysis by observing that “lowest responsible bidder” is not defined in Section 4725.  Therefore, the court stated that the term “lowest responsible bidder” means “lowest bidder unless that bidder is found not responsible, i.e., not qualified to perform the particular work.”  The court also reiterated the broad discretion that is afforded to agency decisions and that any decision made by that agency complies with the law unless it was made arbitrarily, capriciously, or in bad faith.

The court held that the County acted within the confines of Section 4725 because the bid that Charlie’s submitted contained incorrect insurance information; none of the required financial information except a listing of M&T Bank as a reference; and no letters of recommendation or bid bonds as was required.  The court noted in its analysis of the County’s actions that despite these deficiencies, the County decided to consider Charlie’s bid.

The court also observed that each of the County evaluators had concerns regarding the age of Charlie’s equipment as well as its ability to maintain that equipment with its current staff.  Furthermore, the size of this contract was greater than any previous contract that Charlie’s had undertaken and there was concern about its ability to handle such a large undertaking.

Court’s Holding:  The court found that Charlie’s failed to meet its burden of showing that the County acted arbitrarily, capriciously, or in bad faith; and therefore, Charlie’s request for a permanent injunction was denied and judgment was entered in favor of the defendants.

Call for Scholarship on New Legal Ethics Rule

Some readers may be aware that for the last 20 years, I have written an ethics column for The Bencher, a publication of the American Inns of Court. One of my recent columns, on the newly adopted Model Rule of Professional Conduct 8.4(g), generated an unusual “letter to the editor” from the current president of the American Bar Association. A much more scholarly follow-up, so to speak, was recently published as a law review article entitled: New Model Rule of Professional Conduct 8.4(g): Legislative History, Enforceability Questions, and a Call for Scholarship, by Andrew F. Halaby and Brianna L. Long, which can be found at 41 J. Leg. Prof. 201 (2017). The authors of the law review article agree more with the views articulated in my article than those expressed in the letter to the editor from the current head of the left-leaning national lawyers’ group. A few highlights from the law review article:

  • New Model Rule of Professional Rule 8.4(g) “suffers from substantive infirmities”
  • There is “considerable doubt whether the new model rule could be enforced in a real world setting against a real world lawyer”
  • The “model rule’s afflictions derive in part from the indifference on the part of the rule change opponents, and in part form the hasty manner in which the rule change proposal was pushed through to passage.”
  • “Absent rigorous resolution of the many questions, the new model rule cannot be considered a serious suggestion of a workable rule of professional conduct to which real world lawyers may be fairly subjected.”

The authors of the law review article explain the need for further scholarship on the issues raised by this new model rule, which in some circles appears to be motivated more by progressive politics than by the typical motivation for new or updated rules of legal ethics.

Chancery Allocates Merger Consideration Among Common and Preferred Stockholders

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

The Court of Chancery recently allocated merger consideration among common and preferred stockholders in an appraisal action involving no disputed facts. In In Re Appraisal of Goodcents Holdings, Inc., C.A. No. 11723-VCMR (Del. Ch. June 7, 2017), Vice Chancellor Montgomery-Reeves interpreted the certificate of incorporation of Goodcents Holdings, Inc. as granting preferred shareholders voting rights to veto a merger but not preferential liquidation rights.

Facts: The common stockholders of Goodcents consisted of two individuals with collective voting power of 18.21%.  The preferred stockholders of Goodcents possessed the remaining 81.79% voting rights.  With the affirmative vote of all of the preferred stockholders, Goodcents merged into another corporation in 2015 and received $57 million in cash consideration.  The preferred stockholders possessed a $73 million liquidation preference.  Goodcents interpreted its certificate of incorporation as triggering the preferred stockholders’ liquidation rights upon a merger and allocated all of the merger consideration to them.  The common stockholders argued that the certificate of incorporation only granted voting rights to the preferred holders in the event of a merger.

The petitioners, common stockholders, filed an appraisal action challenging the company’s allocation of the merger consideration. The parties agreed to all of the material facts, and argued that the certificate of incorporation was unambiguous.  The parties disagreed, however, about the interpretation of the certificate of incorporation.

The certificate of incorporation of Goodcents stated, in relevant part, that “upon any voluntary or involuntary liquidation, dissolution or winding up of the corporation” the preferred stockholders shall be entitled to payment out of the corporate assets “before any payment shall be made” to the common stockholders. The certificate of incorporation further provided that if in such event the corporate assets were insufficient to satisfy the claims of the preferred holders, then they would receive payment “ratably.”

The certificate of incorporation also stated in a separate subsection that “[w]ithout the affirmative vote of the [preferred] holders” the company “shall not . . . effect any merger or consolidation . . . unless the agreement or plan of merger . . . shall provide” that the consideration shall be distributed to the stockholders of the corporation in accordance with the sections applicable to liquidation.

Result:  The Court ruled based upon the plain language of the certificate of incorporation that the preferred stockholders held a voting right in the merger context, but did not hold a liquidation right.  The Court interpreted the COI as granting the preferred holders a veto right over any merger unless the merger plan included a liquidation preference for the preferred holders.  The veto right was deemed inapplicable once the preferred holders affirmatively voted in favor of the merger.

The Court relied on In re Appraisal of Ford Holdings, Inc. Preferred Stock, 698 A.2d 973 (Del. Ch. 1997), which interpreted nearly identical language as conferring a voting right, but not a liquidation right, upon the preferred stockholders in that action.  The Court accordingly entered summary judgment in favor of the common stockholders and awarded them the proportionate share of the merger consideration “considering the Preferred Stock on an as-converted basis.”

Takeaway:  This appraisal action boiled down to straightforward contract interpretation based on stipulated facts, unlike the usual battle of experts fighting over highly nuanced and complicated facts related to deal process and competing DCF methodologies in most appraisal actions.

Chancery Clarifies Distinction Between Defective Corporate Acts and Unauthorized Corporate Acts

A recent Delaware Court of Chancery decision addressed an issue of first impression in connection with the types of “defective” corporate actions that initially were not approved properly, for example, due to lack of stockholder approval, but in some instances can still be ratified. Nguyen v. View, Inc., C.A. No. 11138-VCS (Del. Ch. June 6, 2017).  In this recent decision, the court denied relief because the “unratified” corporate acts were not simply defective, they also were unauthorized and rejected by the majority stockholder at the relevant time. The parties relied on Section 205, which allows a party to seek ratification from the Court of Chancery, but in this opinion the Court focuses on Section 204 which applies to those situations for which self-help and a safe harbor may be available.

Key Issue Presented:  Whether an act that the majority stockholder entitled to vote at the relevant time deliberately declined to authorize, but the corporation nevertheless determined to pursue, may be deemed “a defective corporate act” under Section 204 that is subject to later validation by ratification of the stockholders.  The short answer is no.

Key Legal Principles: A few years ago, Sections 204 and 205 of the Delaware General Corporation Law  (DGCL) were passed to address situations somewhat similar to those presented by this case. Section 204 is essentially a self-help provision that allows a company in some situations to “go back and fix”, for example, a stock issuance that could have received proper authorization–but the requisite consents were not properly obtained. DGCL Section 204 reversed the decisions in STAAR Surgical and Blades that “interfered” with the ability to retroactively make such corrections, and now provide a clear procedure for correction of defective corporate acts that were not properly approved initially. Section 205 provides corporations with an option to petition the Court of Chancery to validate corporate acts that would otherwise be void or voidable.  See footnote 22, 28 and 32 (regarding legislative history).

At the time the defective corporate acts at issue in this case were taken, however, the company did not have the power to take the actions because its majority stockholder had declined to approve them.  Thus, the court describes the difference between “failure of authorization” and “rejection by stockholders.” Nothing in the text of the statutes or their legislative history suggest that the General Assembly intended to facilitate the ratification of a corporate act that had been expressly rejected by the stockholders.  See footnote 46.

Notwithstanding the capacious remedial powers of a court of equity, “rewriting history” is not one of the available remedies that is available in Chancery. Section 204 is not a license to cure any defect.  Based on the facts of this case, neither Section 204 nor Section 205 were available to backdate a corporate act that was expressly rejected by a majority stockholder.  Nor could the remedial statutes be used to retroactively approve a transaction that converted preferred stock into common stock, which would have diluted the majority stockholder who opposed the transaction at issue, especially in light of the many intervening years during which preferred stockholders had enjoyed the benefits that attached to their stock.

Chancery Clarifies Nuances of Indemnification for Corporate Officers

In a recent Delaware Chancery opinion, the court clarified that a corporate officer who was “successful on the merits or otherwise in the defense of an action” need not show good faith in order to be entitled to mandatory indemnification.  Meyers v. Quiz-Dia LLC, C.A. No. 9870-VCL (Del. Ch. June 6, 2017). See also DGCL Section 145(c).

Key Aspects of the Decision:  Many cases highlighted on this blog have addressed the various permutations of indemnification and advancement for officers and directors, so this decision will be limited to the nuances that make this ruling noteworthy (and “blog-worthy”).

The court explained that when mandatory indemnification is provided to the fullest extent permitted by applicable law, that includes the fees incurred to investigate claims  prior to a lawsuit.  In particular, in this matter, former officers had reason to believe that they would be sued, and thus began an investigation of those potential claims in order to prepare their defense.  Fees for that investigation are included in the indemnification rights to which they were entitled.
Although the indemnification provisions in this case were in the LLC context, because the language used in the LLC documents mirrored DGCL Section 145(c), the case law and statutory interpretation approach that construed that language was applicable.

The phrase in Section 145(c) that provides mandatory indemnification when a former director or officer has been “successful on the merits or otherwise in defense of any action . . ..”, has been interpreted very broadly to include almost anything short of a complete loss.  It permits an indemnitee to be indemnified as a matter of right even if the success includes, for example, dismissal without prejudice of a federal action – – and the same claims are later asserted again in a state court action.

Notably, the good faith requirement does not apply under Section 145(c) to a director or an officer who is “successful” in defending a claim.  See footnotes 39 and 40 and accompanying text.

Section 220 Decision Imposed Conditions on Production of Corporate Documents

A multitude of decisions and commentary about DGCL Section 220 have filled these pages over the last 12 years.  This recent Court of Chancery decision is an example of a condition that the Court of Chancery has somewhat recently imposed as part of its grant of some requests for books and records under Section 220.  Elow v. Express Scripts Holding Company, C.A. No. 12721-VCMR (Del. Ch. May 31, 2017). I have often suggested in connection with Section 220 cases that they are often expensive and unsatisfying, but this decision might not be the best example to support that argument.

Procedural Overview:  The trial in this case took place on March 3, 2017 after a complaint was filed on August 12, 2016.  The two consolidated cases were the subject of a one-day trial based on stipulations and 74 exhibits.  A thoughtful and detailed decision issued approximately ten months after the complaint was filed is still fast by most litigation reference points.  Notwithstanding the grant of a right to obtain some documents, the fees incurred, one can surmise, must not have been inconsiderable.

Key Takeaway:  As a condition of the court granting some documents, after an extensive recitation of the nuances and prerequisites for a Section 220 demand, and how they applied to the facts of this case, the court conditioned the grant of documents pursuant to Section 220 based on the “incorporation by reference doctrine.”  As explained in the Yahoo opinion, (a veritable magnum opus on Section 220) highlighted on these pages, the doctrine “permits a court to review the actual document” referenced in a complaint that is later filed after a Section 220 demand is vindicated.

Specifically, as applied in a 220 case, if the plaintiff files a plenary complaint based on the documents obtained in the 220 case, it must incorporate documents received into any subsequent derivative complaint.  The “Incorporation Condition” ensures:  “That the plaintiff cannot seize on a document, take it out of context, and insist on an unreasonable inference that the court could not draw if it considered related documents.”

The court also imposed a routine condition that a confidentiality agreement also be entered into as part of the production.

 

 

Chancery Explores Limits of Forward-Looking Injunctive Relief

A recent decision from the Delaware Court of Chancery addresses an issue that may be rarely encountered but nonetheless will be a useful decision to be aware of when needed. Organovo Holdings, Inc. v. Dimitrov, C.A. No. 10536-VCL (Del. Ch. June 5, 2017).  The opinion features a “deep dive” into the doctrinal and historical basis of equitable jurisdiction, with extensive footnotes to decisions of several centuries ago in England, as well as decisions from various states and the U.S. Supreme Court.  In addition, multiple treatises and law review articles are cited to support the conclusion that “a court of equity cannot issue an injunction in a defamation case.” This opinion also explored the limits of forward-looking injunctive relief.

Basic Overview: This opinion granted a motion to vacate a default judgment based on Court of Chancery Rule 60(b).  This ruling in particular found that there was no equitable jurisdiction for the default judgment that was entered.  This decision also features a very thorough analysis to explain why the Court of Chancery does not have the authority to grant a preliminary injunction to enjoin defamatory statements.  Part of that reasoning is based on constitutional principles. See pages 17 to 21 and footnotes 52 and 53.

Of potentially more widespread application is the court’s discussion of the limits on the scope of “forward-looking” injunctive relief. The court noted two exceptions to the lack of equitable jurisdiction over defamation claims.  Neither of those exceptions was applicable based on the facts.  One exception relates to business disputes and is now mostly codified in statutes that allow a court to enjoin deceptive trade practices.  Similarly, federal law such as the Lanham Act allows for injunctive relief in connection with trademark infringement.

Notably, this limitation should be distinguished from equitable relief that may be available to enjoin tortious interference with prospective economic advantage. See pages 33 to 37.

Chancery Denies Motion for Expedited Proceeding on Preliminary Injunction Due to Absence of Irreparable Harm

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

The Court of Chancery recently denied a plaintiff’s motion to expedite her preliminary injunction motion, which sought to delay a June 8, 2017 stockholders’ vote on Yahoo’s decision to sell its operating business to Verizon for $4.8 billion.  In Buch v. Filo, C.A. No. 10933-VCL (transcript)(Del. Ch. May 26, 2017), after conducting a telephonic hearing, Vice Chancellor Laster denied the motion for expedited relief, and effectively denied the preliminary injunction motion by finding that Plaintiff had failed to establish a colorable claim and irreparable harm.

Factual Background:  Plaintiff, a Yahoo shareholder, asserts both direct and derivative claims in her underlying suit based upon the Yahoo Board of Directors’ alleged breach of duty for failure to adequately disclose the severance terms of a terminated executive employee, Henrique de Castro.  De Castro’s termination resulted in a severance package of $58 million after fifteen months of service as Yahoo’s Chief Operating Officer.  A prior Chancery decision involving that severance package was highlighted on these pages.  Plaintiff’s suit had survived an earlier motion to dismiss about which Vice Chancellor Laster commented that a potential remedy for the inaccurate severance disclosure in 2014 could be the subsequent compelled disclosure in a proxy statement of the prior misrepresentation.

Plaintiff’s motion to delay the June 2017 shareholder vote rested upon an alleged deficiency in Yahoo’s 2017 proxy statement, which failed to disclose the prior 2014 “misdisclosure” with respect to de Castro’s severance. Specifically, plaintiff asserted that the June 8, 2017 shareholder vote would be the last opportunity for Yahoo CEO, Marissa Mayer, and Board Chairman Emeritus, Maynard Webb, to remedy their 2014 misdisclosure, as well as the shareholders’ last opportunity to vote on Mayer’s compensation.  Plaintiff asserted that her claim for expedited relief was colorable because the Court did not dismiss the Complaint upon Defendants’ earlier motion.  Plaintiff also argued that her claim was colorable because Yahoo’s Board Chairman Emeritus had stated by email that it’s “[h]ard to believe we got a hall pass on this one” with respect to Institutional Shareholder Services’ comments regarding the 2014 de Castro severance proxy disclosure.

Plaintiff further contended that she demonstrated irreparable harm because the June 8, 2017 shareholder vote would be the last chance for Mayer and Webb to remedy their inadequate disclosure from 2014. In response to Defendants’ claims of undue delay by Plaintiff in seeking injunctive relief eight months after the announcement of the “say on pay” vote, Plaintiff noted that the parties had been engaged in settlement talks.

Defendants countered Plaintiff’s assertion of colorable claim by arguing that there was no allegation of an inadequate disclosure in the proxy statement with respect to the matters to be voted upon on June 8, 2017.  Defendants next countered the immediate irreparable harm prong by noting that the only alleged harm had occurred years ago in connection with the severance paid to de Castro and the alleged misdisclosure of same.

Analysis:  The Court of Chancery found both the Plaintiff’s colorable claim and irreparable harm arguments to be lacking.  After noting that the decision whether to grant expedited relief is discretionary, the Court ruled that the likelihood that it would ultimately grant injunctive relief was “remote” at best.  Specifically, Vice Chancellor Laster noted that he contemplated the relief in the underlying action “as some type of post-adjudication remedy.”  The Court dispensed with the irreparable harm prong by finding that the connection between the 2014 de Castro severance “misdisclosure” and the June 8, 2017 acquisition and “say on pay” vote was not sufficiently strong to warrant equitable relief.  Moreover, the Court commented that the plaintiff’s desired disclosure would be of “relatively minimal importance” in light of the extensive news coverage of the “boiling soup of issues surrounding Ms. Mayer and Yahoo!”

The Court of Chancery also effectively denied Plaintiff’s underlying motion for preliminary injunction by taking it “out of the queue because it’s just not going to happen in light of my ruling on the motion to expedite.”

Take Away:  Litigants are cautioned against filing motions to expedite requests for injunctive relief to halt a stockholder vote with respect to alleged “misdisclosures” which occurred years earlier and especially when such “misdisclosure” is only “remotely” linked to the pending vote.

Chancery Imposes Detailed Remedy For Litigants’ “Untimely and Unreliable” Discovery Representations

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

This Order is a must read for all counsel who practice before the Court of Chancery. The Court has once again expressed its intolerance for abusive and less than candid discovery practices.  In In Re Oxbow Carbon LLC Unitholder Litigation, C.A. No. 12447-VCL (consol.) (Del. Ch. June 2, 2017) (Order), Vice Chancellor Laster imposed a strict and detailed discovery protocol to both rectify prior abuses by one of the litigants and to effectuate the prompt correction of any future discovery deficiencies.

This case was the subject of a prior, extensive written discovery Order previously detailed on these pages. In the more recent discovery dispute, after reviewing the parties’ written submissions and oral arguments, the Court entered a seven-page Order addressing discovery minutiae, such as de-duplication of documents, TIFF productions and the document custodian interview process.

Facts: Two of the individual defendants filed a motion against their corporate adversaries for discovery misconduct.  The alleged misconduct included, among other things: (a) the production of numerous nearly or completely duplicative documents with inconsistent redactions; (b) the production of documents without identifying the source of those documents; and (c) misleading representations to the Court about the production efforts.

The Court found that the offending corporate parties made a “plainly wrong” statement with regard to their ability to review documents and other “untimely and unreliable” representations about their discovery efforts.

Result: The Court entered a detailed Order, which imposed upon the offending litigants a number of notable obligations, including:

(a) the requirement to designate a partner-level Delaware attorney to receive and address any noted discovery deficiencies within 96 hours;

(b) the preparation of a table (to be overseen and certified by a senior Delaware lawyer) listing the details of all interviews with the corporate custodians including scripts used to interview custodians, dates of the interviews, specific questions posed to the custodians about personal email accounts and text messages used for business purposes, and the collection efforts of text messages and personal emails;

(c) the consistent production of all TIFF documents in their least redacted format;

(d) the de-duplication of joint trial exhibits; and

(e) the obligation to produce previously deposed witnesses within three days upon request of the individual litigants who filed the motion to compel.

Takeaways:  The Court continues its hands-on approach to discovery disputes and displays its willingness to impose strict requirements on, and close monitoring over ongoing discovery compliance once a pattern of non-compliance has been demonstrated.

The Court has continued a prior practice of requiring a partner-level Delaware attorney to be principally responsible for discovery issues as a means of more closely supervising the discovery process.

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