Shocking Technologies, Inc. v. Michael, C.A. No. 7164-VCN (Del. Ch. Oct. 1, 2012).

Issues addressed: (1) Whether a dissident director may leak confidential data as part of his battle with the majority of directors, without breaching the duty of loyalty? (2) When a director breaches his duty of loyalty by leaking confidential data, but no damages are proven, what is the remedy?

Answer: (1) No. (2) No money damages (other than nominal filing costs), no shifting of attorneys fees  and no injunctive relief, based on the facts of this case.

UPDATE: On May 29, 2015, by letter ruling, the Court of Chancery took the unusual step of vacating this decision based on Rule 60.

Background

Simon Michael (“Michael”) was accused by Shocking Technologies, Inc. (“Shocking”) of breaching his duty of loyalty by leaking confidential data as part of his disagreement with the rest of the board over the direction of the company and as part of his strategy to gain additional board seats for other like-minded investors. In particular, he disclosed confidential data to a potential investor for two purposes (i) to encourage the investor to withhold funds, thereby making the company desperate for funding, or (ii) if the investor decided to invest, to help him get a “better deal”. The court held an expedited trial on this issue alone, with other claims remaining. However, his plan to discourage the sole likely investor from investing in the company failed, and the company received both the initial $3 million investment that Michael tried to thwart as well as an additional $10 million investment a few months later.

A prior Chancery decision that provides more background details is available here.

Analysis

A director’s fiduciary duty of loyalty is one of those sacrosanct obligations that is enshrined in Delaware corporate law. Directors are presumed to act with care and loyalty. The person claiming a breach of that duty has the burden of proof. As the court explained:

The fiduciary duty of loyalty imposes on a director “an affirmative obligation to protect and advance the interests of the corporation” and requires a director “absolutely [to] refrain from any conduct that would harm the corporation”. Encompassed within the duty of loyalty is a good faith aspect as well. “To act in good faith, a director must act at all times with an honesty of purpose and in the best interest and welfare of the corporation. A director acting in subjective good faith may, nevertheless, breach his duty of loyalty. The “essence of the duty of loyalty” stands for the fundamental proposition that a director, even if he is a shareholder, may not engage in conduct that is “adverse to the interests of [his] corporation.” 54
50 Ivanhoe P’rs v. Newmont Mining Corp., 535 A.2d 1334, 1341 (Del. 1987).
51 In re Walt Disney Co. Deriv. Litig., 2004 WL 2050138, at *5 n.49 (Del. Ch. Sept. 10, 2004) (quoting BelCom, Inc. v. Robb, 1998 WL 229527, at *3 (Del. Ch. Apr. 28, 1998) (quotation marks omitted). This is not a new concept. See Guth v. Loft, 5 A.2d 503, 510 (Del. 1939).
52  In re Walt Disney Co. Deriv. Litig., 907 A.2d 693, 755 (Del. Ch. 2005), aff’d, 906 A.2d 27 (Del. 2006).
53 Guttman v. Huang, 823 A.2d 492, 506 n.34 (Del. Ch. 2003); see also Johnston v. Pederson, 28 A.3d 1079, 1092 (Del. Ch. 2011) (directors believed their conduct was in the best interest of the corporation and, thus, they acted in good faith, but they nevertheless failed to satisfy their duty of loyalty.)
54 Venoco, Inc. v. Eson, 2002 WL 1288703, at *7 (Del. Ch. June 6, 2002).

The court explained in a careful and nuanced manner why Michael’s actions were not designed to be in the best interests of the corporation, despite his protestations to the contrary. The court observed that there may be many motives for one’s actions but relying on prior Delaware decisions the court noted at footnotes 55 and 56 two well-settled principles that are also keen insights into human nature: (i) a person is “presumed to have intended the natural consequences of his  or her acts…”; and (ii) “human nature may incline even one acting in subjective good faith to rationalize as right that which is merely personally beneficial”. (emphasis in original).

Delaware law does not require precision in measuring damages from a breach of the duty of loyalty, and does not impose on the victim the full burden of dealing with the uncertainity that can follow such a breach. In this way the court attempts to avoid a benefit to the faithless fiduciary based on the lack of ability to measure exactly the harm for which they are responsible. See footnotes 59 and 60. The court at footnote 66 compared this to the tort of interference with business opportunity, which requires a degree of speculation and assumption. Nonetheless, unlike other torts “a breach of fiduciary duty may be shown without proof of proximate damages.” Id.

One method that has been used in Delaware to make victims of faithless fiduciaries whole, is to shift attorneys’s fees so that they losing party pays the fees incurred to bring the action.  See note 69 . However, in this case, the court was not persuaded that there were any material damages suffered, and Michael did not manifest “subjective bad faith”, so no fees were shifted.

Also important to the court’s reasoning that supported its conclusion, as noted in footnote 71, was a concern that shifting fees may be too much of a penalty for a dissident director, and may make it too easy for the majority to use as a “hammer” to silence those members of the board who dissent.  As the court explained: “The line separating fair and aggressive debate from disloyal conduct may be less than precise.”