Delaware Corporate and Commercial Litigation Blog : Delaware Litigation Lawyer & Attorney : Francis G. X. Pileggi : Corporate, Business, Commercial, Delaware Chancery Court

American International Group, Inc., Consolidated Derivative Litigation; AIG, Inc. v. Greenberg, et al., 2009 Del. Ch. LEXIS 15 (Feb. 10, 2009)("AIG I") 965 A.2d 763 (Del. Ch. 2009), read opinion here.

This Chancery Court decision denied a Motion to Dismiss breach of fiduciary duty claims against former AIG Chairman Maurice "Hank" Greenberg and other AIG directors in connection with the long list of claims relating to AIG's need to restate years of  financial statements, and related losses of billions of dollars in stockholder value. The opinion is 104-pages long in the original slip op.  format  and could easily be the subject of a law review article, but pressing client matters allow me only to identify the decision at this time and add a few highlights.

Notably, the  defendant officers were dismissed on jurisdictional grounds in large part because the claims originated before the Delaware statute was changed to allow jurisdiction in Delaware to be more easily imposed against officers. Also, the auditor, PricewaterhouseCoopers, was dismissed based on the application of New York law (in light of the substantial relationship test for choice of law), and New York law apparently required dismissal of the claims against them.

The best way to highlight a few aspects of a voluminous opinion like this on a blog is via bullet-points.

• The court found that the complaint stated breach of loyalty claims against directors for "knowingly tolerating inadequate internal controls and knowingly failing to monitor their subordinates' compliance with legal duties." [Caremark claim] See footnotes 123 and 124.
   
• The court emphasized that the Caremark claim was not based on one instance of fraud, but rather on such a pervasive scheme that the court actually uses the term "criminal organization" to describe the extraordinary wrongdoing alleged in the complaint.  See LEXIS format at *78.
• Acknowledging the difficulty of pleading a breach of loyalty claim under Caremark based on a duty to monitor, even under Rule 12(b)(6),  the court found that the complaint did  so.  FN 125
• Key quotes from the opinion about Caremark claims include:

• "Our Supreme Court has recognized that directors can be liable where they 'consciously failed to monitor or oversee [the company's internal controls] thus disabling themselves from being informed of risks or problems requiring their attention.'" FN 126.  And although satisfaction of this standard requires scienter, the pled facts support an inference that Matthews and Tizzio were 'conscious of the fact that they were not doing their jobs.'" FN 127

• Caremark claims against Greenberg were upheld because the complaint adequately pled that the AIG internal controls were broken and Greenberg knew they were broken (and could get around them), but failed to do anything to fix the internal controls.

• Breach of fiduciary duty claims were also upheld against directors alleged to have used insider information to profit at the expense of innocent buyers of stock (i.e., they allegedly sold their stock based on material non-public information about the pervasive fraud.) See FNs 128 to 131

• arguments were rejected that involved attempts to dismiss contribution and indemnity claims based on ripeness and related theories. See FNs 143 to 145 and Section 6302(c) of Title 10 of the Delaware Code (regarding joint tortfeasor partial settlements).

• When a "Special Litigation Committee" decides to "take no position" on a derivative suit, that is tantamount to "allowing it to proceed", and also supports demand futility.

• Equitable tolling may, in some situations, extend the three-year statute of limitations for fiduciary duty claims (FNs 181 to183) such as when a fiduciary uses his fraud to conceal his wrongdoing to prevent others from discovering the liability.

• Quote: "Many of the worst acts of fiduciary misconduct have involved frauds that personally benefited insiders as an indirect effect of directly inflating the corporation's stock price by the artificial means of cooking the books." See  LEXIS format of opinion at *122.

UPDATE: Professor Larry Ribstein comments here on this case and the recent Citigroup decision also highlighted on these pages here, which should be read together with this case. Here is another analysis by Professor Ribstein about this case and the Citigroup case on the Harvard  Law School Corporate Governance Forum. Prof. Lawrence Cunningham provides insightful commentary here.

UPDATE II:  In a June 17, 2009 decision in this case,  American International Group, Inc. v. Greenberg, No. 729-VCS (June 17, 2009),  read opinion here, the Chancery Court summarized the above decision from February thusly:

 In an earlier opinion in this action, this court addressed the motions to dismiss brought by PricewaterhouseCoopers and several former-AIG officers and employers.5

In that previous decision, this court held that the Complaint survived dismissal as against challenge by insider defendants Hank Greenberg, Edward Matthews, and Thomas Tizzio and that the Complaint stated well-pled claims of breach of fiduciary duty against those defendants.6  The Complaint also adequately alleged fraud and conspiracy claims against Tizzio. 7

By contrast, this court held that New York law governed the claims against AIG’s auditor, PricewaterhouseCoopers, and that New York law’s approach to the doctrine of in pari delicto barred AIG from recovering against PricewaterhouseCoopers. That holding was driven by the court’s choice of law analysis and did not reflect whether AIG could have maintained such a suit under Delaware law.

Finally, in that decision, this court held that it did not have personal jurisdiction over certain AIG officers and employees who had allegedly engaged in improper behavior before 10 Del. C. § 3114 was broadened to cover certain corporate officers.
Because none of the acts relevant to the illegal conduct pled in the Complaint occurred in Delaware and none of those defendants was a Delaware resident, this court could not exercise jurisdiction over them.

I now address the motions to dismiss brought by the third parties who allegedly conspired with AIG to commit illegal acts. The relevant allegations in the Complaint center on two separate courses of illegal conduct: the Fake Reinsurance Conspiracy and the Bid-Rigging Conspiracy.

5 See generally AIG I, 965 A.2d 763.
6 Id. at 799.
7 Id. at 807
 

• Email This
• Print
• Comments
• Trackbacks (5)
• Share Link

 Pfeffer v. Redstone, (Del. Supr., Jan. 23, 2009), read opinion here. We are fortunate to have a review of this recent Supreme Court decision by nationally-prominent Delaware lawyer Kevin Brady.

The Delaware Supreme Court in this decision affirmed the Chancery Court's dismissal of claims pursuant to Rule 12(b)(6) against Sumner Redstone and others, in connection with a transaction involving Viacom and Blockbuster, based on duties of disclosure, loyalty and care. The trial court's  opinion was summarized here.

 Plaintiff Beverly Pfeffer had filed a class action against the directors of Viacom (including Sumner Redstone, Chairman and CEO of Viacom), Blockbuster, National Amusements, Inc. (“NAI”) (the controlling stockholder of Viacom) and CBS Corporation in alleging that, in connection with two transactions (a special dividend and an exchange offer), the Viacom Board had breached their fiduciary duties of disclosure, loyalty, and care and that NAI had breached its duty of loyalty by making false statements or material omissions in documents distributed before an October 2004 exchange offer. Chief Justice Steele, writing for the Court, affirmed Vice Chancellor Lamb’s February 1, 2008 decision that the plaintiff had failed to show that the alleged disclosure violations were material.

By way of background, Sumner Redstone owned a controlling interest in NAI, which owned a controlling interest in Viacom, which in turn owned a controlling interest in Blockbuster. In February 2004, Viacom announced that it intended to spin off 81.5% of its interest in Blockbuster and as part of its divestiture plans it proposed two transactions: (i) a special $5 dividend paid to Blockbuster (the Special Dividend); and (ii) a offer to Viacom stockholders to exchange their Viacom stock for Blockbuster stock (the Exchange Offer).

In September 2004, Viacom issued a press release disclosing the terms of the voluntary Exchange Offer. A Prospectus later released disclosed that: (i) NAI would not participate in the Exchange Offer; (ii) there were several potential risks associated with the acquiring Blockbuster stock, including Blockbuster’s potential ability to operate with increased debt imposed by the Special Dividend; (iii) a special committee comprised of three independent directors had recommended that the entire Blockbuster Board approve the Special Dividend and the Exchange Offer; (iv) the special committee had approved the final terms of the divestiture; and (v) neither Viacom nor Blockbuster made a recommendation to stockholders about the Exchange Offer. After the Exchange Offer, Blockbuster struggled to remain profitable and eventually it had to restate its reported cash flows for years 2003 through 2005. Thereafter, plaintiff brought a class action on behalf of all former Viacom shareholders who tendered their shares in the exchange offer.

Plaintiff alleged that the Special Dividend and the Exchange Offer should be subject to entire fairness scrutiny because NAI, as the controlling stockholder of Viacom, put its interests over those of the minority shareholders and it stood on both sides of the transaction. The Supreme Court agreed with the Chancery Court in finding that the Viacom Directors had structured the deal noncoercively and had disclosed all material facts. While the Exchange Offer was made to the minority shareholders, the Board did not recommend in the Prospectus that those stockholders exchange their shares. Moreover, the Exchange Offer was voluntary and the Prospectus disclosed that NAI was not going to participate.

Plaintiff also claimed that the Viacom Directors breached their duty of disclosure in a several instances regarding: (i) Blockbuster’s operational cash flow problems: (ii) that the Viacom Board “knew or should have known” of the Blockbuster operational cash flow problems and that the divestiture would leave Blockbuster unable to meet its financial obligations: and (iii) the exchange ratio methodology and the composition of the special committee. The Supreme Court agreed with the Chancery Court that the plaintiff had failed to meet her burden.

The Supreme Court found that the Plaintiff failed to allege: (i) any basis by which the alleged reclassification of Blockbuster’s cash flow affected Blockbuster’s “earnings, total cash flow, net income or any other accounting measure;” (ii) that anyone relied on the cash flow analysis that led to the reclassification or that the announced restatement caused a market price decline for Blockbuster’s stock; (iii) that the cash flow analysis performed by a midlevel treasury manager of a subsidiary corporation would be routinely available to the Viacom directors.

With respect to the issue about disclosure of the exchange ratio, the Supreme Court agreed with Vice Chancellor Lamb’s analysis that Viacom’s method for deriving the ratio was not material because the Viacom directors did not represent that the price was fair nor recommended that the minority shareholders participate. Finally with respect to the issue of the disclosure of the composition of the special committee, the Supreme Court determined that a single reference to the special committee in the Prospectus was not material because the Prospectus did not suggest that the committee had decided anything more significant than what the full board could have decided. As the result, the dismissal of the disclosure claims was affirmed.  

Lastly, notable for its likelihood to be of broad interest, is concluding footnote 52 that refers to the duties of majority shareholders, depending on whether they use their majority ownership to direct the actions of the corporation.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

In Re Lear Corp. Shareholder Litigation, 2008 WL 4053221 (Del. Ch., Sept. 2, 2008), read opinion here.

This is the third Chancery Court decision in about as many (business) days that addresses the issue of whether: claims against a board of directors will be dismissed based on the exculpation clause in a corporate charter as authorized by DGCL Section 102(b)(7). The results (if we were to use an analogy from sports) are: 2 to 1. That is, 2 cases involving such claims have been dismissed under Rule 12(b)(6) and 1 decision denied a motion for summary judgment filed by the board.

Two of the 3 cases I am referring to include: (i) the instant Lear case;  and (ii) the McPadden case of Aug. 29 summarized here. The other case I refer to  is the Ryan II decision also of Aug. 29 and summarized here.

A prior decision in this case, partially granting a motion for preliminary injunction, is summarized here. See In Re Lear Corp S'hlder Litig., 926 A.2d 92 (Del. Ch. 2007).

In some ways, this opinion is akin to a scholarly law review article with practical application that also includes a court decision (after a full recitation of the particlular facts of this case.)

There is so much that can be written about this case, but let's start with a few basics. The primary complaint was that the board agreed to a termination fee of $25 million (less than 1% of the transaction price) in exchange for an increase in the purchase price by the winning bidder for the sale of the company. The plaintiffs claimed that the board knew that the shareholders would most likely not approve the merger and, therefore, by agreeing to pay a termination fee simply upon a "no vote" by the shareholders,  they breached their fiduciary duties.

The court summarized its reasoning thusly:

"Directors are entitled to make  good faith business decisions even if the stockholders might disagree wth them. Where, as here, the complaint itself indicates that an independent board majority used an adequate process, employed reputable financial, legal and proxy solicitation experts, and had a substantial basis to conclude a merger was financially fair, the directors cannot be faulted for being disloyal simply because the stockholders ultimately did not agree with the recommendation. In particular, where, as here, the directors are protected by an exculpatory charter provision, it is critical that the complaint plead facts suggesting a fair inference that the directors breached their duty of loyalty by making a bad faith decision to approve the merger for reasons inimical to the interests of the corporation and its stockholders. Where a complaint, as here, does not even create an inference of mere negligence or gross negligence, it certainly does not satisfy the far more difficult task of stating a non-exculpated duty of loyalty claim."

Although this case started out asserting Revlon claims and proxy disclosure frailties, after the merger was voted down, those claims were dismissed as moot. (Curiously, with Lear's stock now trading at about $13, the shareholders now wish they would have had voted for the offer at $37.25 per share.)

Aronson and Section 102(b)(7)

The plaintiffs skipped any attempt to satisfy the first prong of the Aronson test, and instead attempted to satisfy the second prong of Aronson by attempting to state particularized facts to establish a non-exculpated breach of fidcuicary duty by the Lear board.

Because the Lear charter contains an exculpatory provision under DGCL Section 102(b)(7), the plaintiffs cannot sustain their complaint even by pleading facts supporting an inference of gross negligence.     (continued below)

• Email This
• Print
• Comments
• Trackbacks
• Share Link

Ryan v. Lyondell  is a major Chancery Court decision issued about a month ago that has generated a substantial amount of commentary by experts and practitioners alike. A summary of the case and commentary by Professors Ribstein and Bainbridge are compiled here.

The newest development in this case came by means of a letter decision of the Chancery Court on August 29, 2008, here, in which the Court denied the interlocutory appeal by the defendants, but did, however, dismiss Lyondell as a nominal defendant.

Ryan II

There is so much to write about this important decision which clarifies and confirms the prior opinion, compared with the limited time I have today, that for now I will just highlight a few key "bullet points".

• The Chancery Court emphasized that: "the reports of the death of Section 102(b)(7) (and the consequent possibility for the "resuscitation" of a Van Gorkom-esque liability crisis) in Delaware law are greatly exaggerated both with regard to the application of Lyondell's exculpatory charter provision in this case, and certainly with regard to the application of a Section 102(b)(7) provision defense in any other case." (my italics)                                          
• The Court went out of its way to repeatedly emphasize the restricted procedural posture of its decision and the circumscribed nature of the meager--and by definition incomplete--record in the context of the summary judgment motion that was presented. (see, e.g., footnotes 13 and 14.)
• The Court emphasized the following five facts that were key to its conclusion:

1. The directors knew that the company was "in play" (although noting that the filing of a Schedule 13D will not always trigger Revlon duties.)
2. According to the Court, the directors did little or nothing to develop a strategy pursuant to Revlon to maximize shareholder value in connection with the possible sale of the company.
3. The Court held that the directors did little or nothing pre-signing to confirm that a better deal could be obtained.
4. The directors, the Court held, did little or nothing to negotiate the offer they did receive.
5. The directors, in the Court's view, did little or nothing post-signing to verify that a better deal could have been obtained.

•   The Court went to great lengths to explain why it did not conflate the duty of care with the duty of good faith component of the duty of loyalty. One might write an entire law review article based on the court's explication of the finer points of these concepts but for now I can only refer you, for example, to footnotes 26 to 33 and related text. Footnote 26 provides in part as follows:

  "the Court decided that there were material fact questions that raised an issue of whether the directors’ failure to act in the face of a known duty to act amounted to something more than a simple violation of the duty of care (i.e., gross negligence). In other words, this is an instance where issues of care and loyalty (good faith, in this context) bleed together under the facts presented in the summary judgment record, and, therefore, the Court was unable to ascertain, at least at this point, the ultimate effect of Lyondell’s exculpatory charter provision in this context. The Court was careful to explain, however that, ultimately, a determination that the directors’ failed to act in “good faith” could result in liability only because in that instance the directors will have violated their duty of loyalty. Opinion at 54-56. Thus, the Court did not conflate good faith into a theory that would result in legal liability for a breach of only the directors’ duty of care, notwithstanding a Section 102(b)(7) charter provision. Unfortunately, at this preliminary stage of this case, it is difficult to frame the issue in a manner that does not, to some extent, track closely with those facts suggesting only an apparent failure to act with appropriate care; it remains to be seen whether the directors’ acts (or failure to act) reach into the realm of non-exculpable bad faith. See, e.g., Desimone v. Barrows, 924 A.2d 908, 935 (Del. Ch. 2007)."

• At pages 12 to 14 of the letter decision, the court described the "three points in the spectrum of fiduciary conduct deserving of the "bad faith" pejorative label". The Court's description could be the topic of an entire separate article.

• Another key point: the Court  explained that: "when one views the totality of the directors' conduct on this record, that leads the Court to question whether they [the directors] may have disregarded a known duty to act and may not have faithfully engaged themselves in the sale process in a manner consistent with the teachings of Revlon and its progeny." ( Slip op. at page 19).

 There is so much more in this decision that is "red meat for the cage" of any (non-vegetarian) lawyer that wants to, or needs to, know about this area of the law, I regret that I don't have time to add more today, but I will leave one last quote.

• The Court made clear that the defendants' : "interpretation of the Opinion—that they have been “deprived” of the protection of the Company’s exculpatory charter provision—is not only inaccurate, but, in fact, the Court stated repeatedly throughout the Opinion that on a more developed factual record the directors may very well either prevail on the merits of Ryan’s Revlon claims or, alternatively, on their Section 102(b)(7) defense. (my bold)

Also, importantly, the Chancery Court did agree to a stay of its decision pending a decision by the Delaware Supreme Court about whether to accept the appeal.

SUPPLEMENT: As they used to say in some Western movies, "the reinforcements are arriving". We are fortunate to have the expert insights of several law professors who have already provided their learned commentary about this case. Professor Larry Ribstein weighs in here, and Professor Gordon Smith adds to his previous commentary on the case here. Professor Eric Chiappinelli (also Dean of the Creighton University Law School) analyzes the case here. 

SUPPLEMENT II: Broc Romanek on his DealLawyers.com Blog highlights the case here.

POSTSCRIPT: The Wall Street Journal's online edition here listed my post among the "top legal stories around the web".

• Email This
• Print
• Comments
• Trackbacks (4)
• Share Link