Insider Trading Claim against Kohlberg Kravis Roberts & Co. Allowed to Proceed
In re: Primedia, Inc., Shareholders Litigation, Cons., C.A. No. 6511-VCL (Del. Ch. May 10, 2013).
Issue Addressed: Whether insider trading claim based on state law should be allowed to proceed despite motion to dismiss by special litigation committee.
Short Answer: Motion to dismiss denied.
Details of this case were previously highlighted on these pages in connection with a decision by the Delaware Supreme Court to reverse a prior ruling by the Court of Chancery in this matter, as referenced at this link. That Delaware Supreme Court decision, captioned Kahn v. Kohlberg Kravis Roberts & Co., L.P., 23 A.3d 831, 842 (Del. 2011), clarified Delaware law regarding insider trading based on the Delaware Court of Chancery’s opinion in Brophy v. Cities Service Co., 70 A.2d 5 (Del. Ch. 1949). This latest decision can be compared with the recent Chancery decision highlighted in Wayport, highlighted on these pages, and that discussed the fiduciary duty of disclosure and candor owed by directors to shareholders, which involved some factual situations akin to insider trading although those exact words were not directly used in the opinion as allegations as they were in this case in the Brophy context.
Highlights of Case
● The court describes the extensive procedural history which includes the motion to dismiss filed by the special litigation committee in connection with claims challenging the redemption, as well as an alleged usurping of corporate opportunities and the insider trading claim based on Brophy case. After that motion to dismiss was filed, the plaintiffs engaged in discovery for approximately 18 months to consider the basis for that decision and the composition of the committee, which they then used to oppose the motion to dismiss.
● The court discussed at pages 17 and 18 the hearing that it conducted prior to the appeal to the Delaware Supreme Court, and the factors that it considered pursuant to Zapata Corp. v. Maldonado, 438 A.2d 779, 788 (Del. 1981). During that hearing, the court inquired into the independence and good faith of the committee and the bases supporting its conclusions. The second step that the court engaged in during the Zapata hearing, which is a step that the court takes in its discretion, was to apply its own independent business judgment regarding whether the motion to dismiss should be granted. Even though the SLC has the burden of proving its independence and good faith and that it conducted a reasonable investigation, performing the second step of the analysis means that the committee could establish its independence and sound bases for its good faith decisions, but still have the motion to dismiss denied.
● The court recited the elements of an insider trading claim based on the Court of Chancery’s Brophy decision. See page 21.
● The court listed the different cases by the Court of Chancery which over the years took a different approach on, and had different interpretations of, an insider trading claim based on the Brophy case. See page 26.
● The Court of Chancery in this opinion explained that if it were aware that the Delaware Supreme Court decision would have allowed damages for full disgorgement under Brophy, then it would not have dismissed the Brophy claim in response to the motion to dismiss by the SLC. See page 27. Likewise, the court explained the impact of the Supreme Court decision on its application of the second prong of the Zapata analysis. See page 32.
Standing of Derivative Plaintiff Post-Merger
● The court recited the three-part test under the Delaware Supreme Court decision in Parnes to determine the standing of a derivative plaintiff to sue post-merger to challenge the fairness of the merger. See pages 36 and 37. On page 35, the court explained the basis for the claim in this case for alleging that the merger was not fair to the minority.
● The court applied the three-part test to the facts of this case in a thorough analysis to determine the standing of derivative plaintiffs post-merger. See pages 37 through 52.
● Next, however, after determining standing, the court still had to address whether or not the complaint stated a claim. That analysis was conducted from pages 52 to 60.
● The court concluded that the claims for breach of fiduciary duty against KKR based on the grounds that the merger was not entirely fair to the minority in light of the fact that no value was assigned or given to the Brophy claim, would survive a motion to dismiss, and therefore the motion to dismiss as to that claim was denied.
● The court also rejected a defense based on DGCL Section 102(b)(7) because such a defense is not available at this stage of the proceedings due to the loyalty aspect of the entire fairness claim, regardless of what the court described as “relatively insubstantial allegations of bad faith . . ..”