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

In two actions involving challenges to a consummated acquisition, the Court of Chancery in In re Nymex Shareholder Litigation, Nos. 3621-VCN, 3835-VCN and Greene v. New York Mercantile Exchange, Inc., et al., No. 3835-VCN (Del. Ch. Sept. 30, 2009), read opinion here, dismissed a multitude of conclusory allegations regarding breaches of fiduciary duties of loyalty, due care and candor in the sale of NYMEX to CME. In doing so, the Court reaffirmed the considerable deference Delaware law provides to an independent Board facing a change of control situation post-Lyondell.

Kevin Brady, a highly respected Delaware litigator, prepared this synopsis.

The Merger

NYMEX “was the largest commodity futures exchange in the world.” The defendants were all members of the Board of Directors of NYMEX including Richard Schaeffer (chairman of NYMEX) and James Newsome (President and Chief Executive Officer). The Plaintiffs consisted of common stock owners (the “NYMEX Plaintiffs”) and Shelby Greene who brought an action on behalf of the Class A Members of the NYMEX Exchange.

In the middle of 2007, the NYMEX Board established a Strategic Initiatives Committee (“SIC”) in order to “consider, negotiate and recommend any significant transaction involving NYMEX.” At about the same time, New York Stock Exchange (“NYSE”) Chairman John Thain spoke with Schaeffer about NYSE purchasing NYMEX for $142 per share, which represented a large premium above NYMEX’s then trading price. However, NYSE never made a formal offer allegedly because “Schaeffer personally demanded a senior executive position for himself as a pre-condition of the deal.”

Prior to Thain’s expression of interest, Schaeffer and Newsome had initiated negotiations between NYMEX and CME and at the beginning of 2008, a confidentiality agreement was entered into between the two companies. After the confidentiality agreement was announced, the NYMEX Board approved a change of control severance plan “which provided more than $97 million in change of control payments to senior management.”

Three weeks later, NYMEX announced that “CME had offered to buy NYMEX for approximately $119 per share, which represented a 2.1% premium over the closing price of NYMEX shares on that day and an 11% premium above the closing price of NYMEX shares on the last trading day prior to the announcement. . . . [and that a] substantial portion of the merger consideration was payable in CME stock.” NYMEX also announced that it had entered into a 30-day exclusive negotiating period with CME which was later extended to March 15, 2008.

No Collar Negotiated; No Protection Against Drop in Share Price

Prior to the announcement, CME stock was trading at $635.14 per share, but within a week of the announcement it fell to $485.25 per share. Notably, the CME offer did not contain a collar, which would have provided protection against fluctuations in stock price. As a result of the lack of a collar and because much of the merger consideration was in CME stock, the decline in stock price resulted in a substantial decline in the merger consideration. According to the Complaint, CME offered to “collar” the stock portion of the merger consideration but that offer was rejected by Schaeffer and Newsome (although they supposedly never mentioned the offer of a collar to the rest of the Board).

On March 17, 2008, CME and NYMEX announced the merger agreement, consistent with the original offer in January 2008, by which CME agreed “to acquire all of NYMEX’s common stock in exchange for $36 per share in cash and 0.1323 shares of CME common stock per NYMEX share.” By this date, the merger consideration had fallen to $100.30 per share. Nonetheless, J.P. Morgan and Merrill Lynch provided fairness opinions in favor of the deal. The Board unanimously approved the merger and more than 95% of the shares were voted in favor of the deal. The merger closed on August 22, 2008.

Plaintiffs’ Allegations

Plaintiffs in the NYMEX action brought numerous allegations of breaches fiduciary duties of loyalty, due care and candor arising out of the sale of NYMEX to CME. Plaintiffs also alleged that the Board was controlled by Schaeffer, and that the Board agreed to sell NYMEX through an unfair process at an inadequate price in order for Schaeffer and Newsome to obtain nearly $60 million in severance payments. Further, the shareholder class alleged that the directors breached their fiduciary duties by, among other things:

• omitting or misstating necessary information in NYMEX’s proxy materials with respect to the CME deal;

• agreeing to CME’s first and only offer;

• failing to inquire into other potential transactions;

• agreeing to a 30-day exclusive negotiating period with CME;

• causing investment bankers to allegedly understate the value of NYMEX shares in fairness opinions supporting the transaction;

• agreeing to a $50 million breakup fee; and

• agreeing to the $97 million change in control plan with an acquisition agreement imminent.

Plaintiffs also asserted that the CME Defendants aided and abetted the NYMEX Defendants in the breach of the above duties.

Does Revlon “Change of Control” Scrutiny Apply to Mixed Cash/Stock Deals?

The parties disputed whether this case should be evaluated under Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc., as involving a fundamental change of corporate control or whether it should be evaluated under the business judgment rule. While “Revlon scrutiny applies only to transactions ‘in which a fundamental change of corporate control occurs or is contemplated,’ such ‘change of control’ does not occur for purposes of Revlon where control of the corporation remains, post-merger, in a large, fluid market.”

“In transactions . . . that involve merger consideration that is a mix of cash and stock,” the Court noted that “[t]he [Delaware] Supreme Court has not set out a black line rule explaining what percentage of the consideration can be cash without triggering Revlon.” Indeed, the Court contrasted In re Santa Fe Pacific Corp. Shareholder Litigation (merger transaction involving consideration of 33% cash and 67% stock did not trigger Revlon) with In re Lukens Inc. Shareholders Litigation, (merger transaction involving consideration of 60% cash and 40% stock likely triggered Revlon).

The mixed cash/stock deal (44% cash and 56% CME stock) before the Court in NYMEX provided an opportunity for the Court to further narrow the 33%-60% range noted above and give guidance as to when Revlon would be triggered.

However, the Court decided that it did not need to address the threshold Revlon applicability issue because NYMEX’s Certificate of Incorporation contained an exculpatory clause authorized by 8 Del. C. § 102(b)(7) that protects the NYMEX directors from personal monetary liability for breaches of the duty of care. If the Plaintiffs failed to show that the either a majority of the directors were interested, lacked independence or failed to act in good faith, then their only remaining claim would be a breach of a duty of care which is addressed by §102(b)(7). Thus, even if Revlon applied, application of the §102(b)(7) exculpatory clause would lead to dismissal “unless the Plaintiffs have successfully pleaded a failure to act loyally (or in good faith), which would preclude reliance on the Section 102(b)(7) provision.”

Post-Lyondell Duty of Loyalty Discussed

As to the breach of the fiduciary duty of loyalty, the Plaintiffs alleged that the disinterested members of the Board were dominated and controlled by Schaeffer, and acted in bad faith. However, the Court held:

[t]hat directors acquiesce in, or endorse actions by, a chairman of the board—actions that from an outsider’s perspective might seem questionable—does not, without more, support an inference of domination by the chairman or the absence of directorial will. The NYMEX directors were otherwise unquestionably independent—this is not an instance where certain relationships raised some concern but not sufficient doubt to sustain a challenge to director independence. In short, the Complaint alleges nothing more than a board which relied upon, and sometimes deferred to, its chairman. It does not allege dominance such that the independence or good faith of the board may fairly be questioned.

Consequently, the claim for breach of the duty of loyalty failed as a matter of law and was dismissed.

“Because the Plaintiffs’ allegations were too conclusory to support an inference of domination,” the Court noted that for the Plaintiffs to succeed, they had to “convert into a loyalty claim their aversion to the process the Board employed in negotiating the merger” and the most the Plaintiffs could show was that “the Board’s process was not perfect.” Relying on the Delaware Supreme Court’s 2009 decision in Lyondell Chemical Co. v. Ryan, 970 A. 2d 2235 (Del. 2009) and the Court of Chancery’s decision in Wayne County Employees’ Retirement Systems. v. Corti, 2009 WL 2219260 (Del Ch. June 24, 2009), the Court explained :

The Delaware Courts have repeatedly held that “there is no single blueprint that a board must follow to fulfill its duties.” In any event, claims of flawed process are properly brought as duty of care, not loyalty, claims and, as discussed, those claims are barred by the exculpatory clause of NYMEX’s Certificate of Incorporation. Moreover, to the extent the Complaint alleges that the Board acted in bad faith, such allegations must fail because, based on the facts in the Complaint, it cannot be said that the Board intentionally failed to act in the face of a known duty to act, demonstrating a conscious disregard for its duties. More precisely, the Complaint has not alleged that the Board “utterly failed to obtain the best sale price.”

As a result, the Court granted the motion to dismiss the Complaint as to the breach of fiduciary duty claims.

Court Rejects Breach of Fiduciary Duty Claims Against Schaeffer
and Newsome as Sole Negotiators

Plaintiffs alleged that Schaeffer and Newsom breached fiduciary duties by “active participation in wrongdoing” in serving as the principal negotiators, specifically by:

[r]ejecting and keeping secret CME’s secret collar offer, ignoring the SIC, and withholding information regarding strategic opportunities and bids from fellow directors, as well as in ‘committing’ to CME that NYMEX would not attempt to renegotiate any of the economic terms of the proposed sale and failing to advise the Board of such a commitment, and in entering into an agreement with CME to vote their shares in favor of the proposed acquisition.

Moreover, Schaeffer was alleged to have breached his fiduciary duties by “rejecting NYSE’s interest in the Company due to NYSE’s failure to abide by his personal demands.” The Court dismissed these claims by holding that “[i]t is well within the business judgment of the Board to determine how merger negotiations will be conducted, and to delegate the task of negotiating to the Chairman and the Chief Executive Officer.” In addition, because the Board was “clearly independent,” there was no need for the utilization of the SIC.

Court Rejects Breach of Fiduciary Duty Claim Against Schaeffer and Newsome For Failure to Obtain a Collar

Characterizing Plaintiffs’ claim that Schaeffer and Newsome violated fiduciary duties by rejecting CME’s offer of a collar as speculative and conclusory, the Court held that

[t]he mere failure to secure deal protections that, in hindsight, would have been beneficial to shareholders does not amount to a breach of the duty of care. The presumption of deference to the judgment of management is only superseded by a showing of gross negligence, bad faith or conflicting personal interest. Plaintiffs have failed to plead the facts necessary to overcome this presumption.

The decision to omit a collar while negotiating merger terms was within the Board’s judgment. A post-facto analysis of the merits of a collar “is of no legal moment.” Accordingly, this claim was dismissed.

Direct v. Derivative Claims and the Parnes Exception

Returning to the NYSE offer, Plaintiffs alleged that Schaeffer stymied the potential bid (which Plaintiffs assert would have been greater than the ultimate deal with CME) by seeking a post-merger position for himself in the combined entity. The Court reasoned that these claims are not protected by the § 102(b)(7) clause because they pertain to breaches of a duty of loyalty. However, because claims pertain to a proposed NYSE acquisition and an entrenchment claim against Schaeffer, the claim was derivative. Following the merger, Plaintiffs’ standing to bring derivative claims was lost.

The general rule for determining “direct v. derivative” claims is set out in Tooley v. Donaldson, Lufkin & Jenrette, Inc., 845 A.2d 1031 (Del. 2004) as a two-part test: “(1) who suffered the alleged harm (the corporation or the suing stockholders, individually); and (2) who would receive the benefit of any recovery or other remedy (the corporation or the stockholders, individually).” The Court noted a very narrow exception to the general rule in Parnes v. Bally Entertainment Corp., 722 A.2d 1243 (Del. 1999). There, the Court held that “in order to state a direct claim with respect to a merger, a stockholder must challenge the validity of the merger itself, usually by charging the directors with breaches of fiduciary duty resulting in unfair dealing and/or unfair price.” A direct claim in such circumstances can be found only “[i]f the side transactions are alleged to have reduced the consideration offered to the target stockholders to a level that is unfair, then an attack is labeled as individual because it goes directly to the fairness of the merger.”

Here, the Court found that the “Plaintiffs’ allegations regarding the NYSE negotiations fell well outside the Parnes exception because the alleged breaches of fiduciary duty were far too attenuated from the ultimate CME transaction and the price that CME paid to establish a causal link.” As a result, the claim against Schaeffer was derivative and thus subject to dismissal. Moreover, because the confidentiality agreement with CME did not begin until months after NYSE’s interest waned, the Court noted that “it cannot be said that the failed negotiations with NYSE are in any way causally linked with the consideration ultimately offered in the CME transaction. . . . [and] there is no suggestion that the alleged breach occurred in order to benefit CME.”

Disclosure Claims

Plaintiffs claimed that the Board breached disclosure duties by failing to disclose:

• “more details concerning the NYSE’s then-potential offer of $142 per share;”

• “Schaeffer’s alleged self-interest in connection with an NYSE/NYMEX business combination;”

• “the fact that Schaeffer had been negotiating the terms of the transaction with CME;” and

• “additional information regarding the underlying assumptions of the fairness opinions, including an explanation for why J.P. Morgan and Merrill Lynch both used two transactions in their precedent transaction analysis that were never consummated.”

Plaintiffs also alleged that the bankers’ fairness opinions should have been updated in light of the reduced merger consideration relative to the time the opinions were initially made.

The Court started its analysis by noting that “the fiduciary duty of disclosure is a specific application of the duties of care and loyalty; it ‘requires that a board of directors ‘disclose fully and fairly all material information within the board’s control when it seeks shareholder action.’’” The Court then dismissed Plaintiffs’ disclosure claims for two reasons. First, to the extent the allegations were tied to the directors’ duty of care, they were barred because of the § 102(b)(7) charter provision. Second, to the extent they were tied to the duty of loyalty, they were dismissed because “[a] mere conclusory allegation that the alleged disclosure violations also constitute a violation of the duty of loyalty is not sufficient to survive a motion to dismiss, particularly in light of the holding that the Complaint fails to otherwise state a non-exculpated claim against the Director Defendants for breach of fiduciary duty.”

Dismissal of Aiding and Abetting Claims Against CME

Plaintiffs alleged that the CME Defendants aided and abetted the alleged breaches of fiduciary duty by the NYMEX Defendants. Because Plaintiffs were only able to muster conclusory allegations of the CME Defendants’ “knowing participation” in the alleged breach as non-fiduciaries, the Court found that their claims failed as a matter of law. The Court also noted that the complaint did not contain any allegation that the CME Defendants induced Schaeffer and Newsome to commit the alleged breaches.

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The Washington Legal Foundation published an article here last week that is an overview I did of the recent Delaware Chancery Court decision in Wayne County Employees’  Retirement System v. Corti, 2009 Del. Ch. LEXIS 126 (Del. Ch. 2009). The Court's opinion describes the duties of directors in the context of a contested transaction and also recites the Revlon duties of directors.

UPDATE: Professor Stephen Bainbridge, whose corporate law scholarship is often cited in Chancery Court opinions, refers to this decision here.

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This is my fifth update from this corporate law seminar in New Orleans. On this second day, the third panel presentation this morning is titled: "Delaware Developments". The panel members include a member of the Delaware Chancery Court and a few leading Delaware corporate practitioners.

Vice Chancellor Lamb discussed the very recent Delaware Supreme Court decision in Lyondell Chemical Co. v. Ryan,  which was recently summarized on this blog.

Among the comments His Honor made about the case,  he referred to page 18 of of Supreme Court opinion in Lyondell which describes what must be show in order to establish a violation the duty of care as compared with the duty of loyalty. 

He also referred to the part of the Supreme Court's opinion that explained that  simply putting a company "in play", does not trigger Revlon duties. Rather, Revlon duties are only triggered when the board decides to sell the company.  Revlon applies heightened scrutiny and uses a "range of reasonableness". The Supreme Court also cited approvingly the Chancery Court decision in the Lear case (which was handed down shortly prior to the Chancery Court's decision in Lyondell v. Ryan.  The Lear case includes the distinction between a review of the board's activities in connection with a sale, both before as opposed to after the transaction closes.

Contractual Limitations on a Board's Fiduciary Duties

The panel cited to the Chancery Court decision in Grimes v. Donald (1995) that stands for the view that a board should not restrict its duties to manage the corporation. (Compare with the option that the board might want to change its mind on whether to recommend a merger). See also Carmody v. Toll Bros. (1998)  prohibiting the "dead hand pill"; and Abercrombie v. Davies (1956) preventing a voting agreement that required board designees to vote as a block.

By contrast, DGCL Section 141 allows certain restrictions to be in the certificate of incorporation--as opposed to having such restrictions in the bylaws which do not allow for as much leeway. See CA, Inc. (recent Delaware Supreme Court case) See also Grimes (upheld an agreement that allowed the CEO to unilaterally decide that his employment was terminated if his powers were restricted); and Cullman (agreement  upheld that was in director's role as shareholder and also had fiduciary out). Another case discussed was:

Hokanson v. Petty, 2008 WL 5169633 (Del Ch. 2008). Claim that board breached duty of care and loyalty rejected because court said the agreement involved allowed the board to seek a higher price. Though the claims were time-barred, even so, the board had fulfilled its fiduciary duties by getting the best deal possible in a very distressed situtation.

BUSTED DEALS

The Delaware cases discussed included: IBP  v. Tyson (2001) (applying NY law to grant specific performance and finding no trigger of MAE clause); Frontier v. Holly (2005)(staterment of CEO was not a repudiation, so the party that claimed a repudiation of the other was found to be in breach and no MAE established); United Rentals v. Ram Holdings (2007)(summarized on this blog, finding that contract limited remedy to termination fee); Hexion v. Huntsman (2008)(no MAE found, when one party orchestrated an insolvency opinion for merged entity, and specific performance ordered.)

PROPOSED REVISIONS TO THE DELAWARE GENERAL CORPORATION (DGCL)

Dave McBride discussed the changes expected to be made in the next few months to the DGCL by the Delaware Legislature and presumably to be signed by the Governor by this summer.

• Section 112.  In light of the recent decision by the Delaware Supreme Court in the CA, Inc. case, this change would allow the bylaws to include provisions that would allow individuals to the board to be nominated by stockholders.
• Section 113. Also in light of the recent CA, Inc. case, this allows bylaws to provide for reimbursement for expenses incurred by stockholders in soliciting proxies. But there is a mandatory provision that relates to the setting of the record date and effectiveness of bylaw change.
• It is still an open question (in some circles) in Delaware as to what power a board has to amend a "shareholder-adopted" bylaw.
• Section 145. Changes the default rule on advancement due to recent decision in Schoon v. Troy so that an existing right to advancement cannot be withdrawn or eliminated once an act occurs that may provide for advancement, unless a bylaw or contract provision expressly provides otherwise.
• Section 225(c). Allows a corporation to seek, in the discretion of the Chancery Court, to remove a director if he is convicted of a felony in connection with his duties, and under certain other circumstances.
• Section 213(a).  This addresses "dual record dates".

Gantler v. Stephens, (Del. Supr., Jan. 27, 2009)(previously summarized on this blog). A member of the panel also discussed this recent Delaware Supreme Court case that addressed issues of shareholder ratification and refused to apply the Unocal  test, and instead applied the "entire fairness standard" to a board decision to retain control over their bank.

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Lyondell Chemical Co. v. Ryan, Del. Supr. (March 25, 2009), read opinion here.  See revised opinion of  April 16, 2009 here. The Delaware Supreme Court rendered this unanimous en banc decision last evening. It was much anticipated in the corporate law world and in the few hours since its release it has already generated substantial commentary among corporate law professors and similar commentators.

Kevin Brady, a highly respected Delaware litigator, has provided us with the following review of the opinion:

In its decision on an interlocutory appeal, Delaware's High Court reversed the Court of Chancery’s July 29, 2008 decision denying summary judgment for the directors of Lyondell Chemical Company (“Lyondell”) as to the “Revlon” and “deal protection” claims and whether the directors of Lyondell acted in good faith in conducting the $13 billion sale of Lyondell.

The class action complaint alleged that the Lyondell directors breached their fiduciary duties of care, loyalty and candor and put their personal interests ahead of the interests of the Lyondell shareholders. In particular, the complaint alleged that: (i) the merger price was grossly insufficient; (ii) the directors were motivated by self-interest; (iii) the process by which the merger was negotiated was flawed; (iv) the directors agreed to unreasonable deal protection provisions and (v) the preliminary proxy statement omitted numerous material facts. By way of background, the merger price represented a substantial premium over the market price and the merger was approved not only by a disinterested board but also by more than 99% of the voted shares.

Lyondell’s charter contained an exculpatory provision pursuant to 8 Del. C. § 102(b)(7), protecting the directors from personal liability for breaches of the duty of care, so the case turned on whether there were any shortcomings on the part of the directors to implicate their duty of loyalty, a breach of which is not exculpated. Because the Court of Chancery had found that the board was independent and was not motivated by self-interest or ill will, the focus became whether the directors were entitled to summary judgment on the claim that they breached their duty of loyalty by failing to act in good faith.

Court of Chancery Focuses on Process and Deal Protection Provisions

The Court of Chancery rejected all of the plaintiffs’ claims except those directed at the process by which the directors sold the company and the deal protection provisions in the merger agreement. In particular, whether under Revlon v. MacAndrews & Forbes Holdings, Inc. (506 A. 2d 173, 182 (Del. 1986)), the directors failed to obtain the best available price in selling the company. The Court of Chancery decided that “unexplained inaction” by the Lyondell directors for two months permitted a reasonable inference that the directors may have consciously disregarded their fiduciary duties. The Supreme Court disagreed finding that there was no evidence from which to infer that the directors knowingly ignored their responsibilities, thereby breaching their duty of loyalty.

Justice Carolyn Berger writing for the Court examined the concepts of “bad faith” and “failure to act in good faith” as well as the range of conduct that might be classified as such in light of existing Delaware case law. See, In re Walt Disney Co. Deriv. Litig. (906 A. 2d 27 (Del. 2006)), Stone v. Ritter, (911 A. 2d 362 (Del. 2006) and In re Caremark Int’l Deriv. Litig. (698 A. 2d 959 (Del. Ch. 1996). While the Court of Chancery had denied summary judgment in order to obtain a more complete record before deciding whether the directors had acted in bad faith, the Supreme Court determined that the trial court “reviewed the existing record under a mistaken view of the applicable law.” The Supreme Court went on to note that there were three factors that contributed to that mistake: (i) the Court of Chancery imposed Revlon duties on the directors before they either decided to sell, or before the sale had become inevitable; (ii) the Court of Chancery read Revlon and its progeny as creating a set of requirements that must be satisfied during the sale process; and (iii) the Court of Chancery “equated an arguably imperfect attempt to carry out Revlon duties with a knowing disregard of one’s duties that constitutes bad faith.”

When Exactly Do Revlon Duties Arise?

In analyzing Revlon and its progeny, the Court of Chancery determined that the directors must actively engage in the sale process, and confirm that they have obtained the best available price either by conducting an auction, a market check or demonstrating “an impeccable knowledge of the market.” The Court of Chancery concluded that because the Revlon sale process must follow one of the these courses of conduct identified above and that the Lyondell directors had not followed any of the standards that the Court of Chancery extracted from Revlon and its progeny, the directors were unable to meet their burden under Revlon.

The Supreme Court disagreed noting that the problem with the Court of Chancery’s analysis was that Revlon duties arise not because a company is “in play” (such as in this case where there was a Schedule 13D filing) but rather when the company “embarks on a transaction – on its own initiative or in response to an unsolicited offer – that will result in a change of control.” In this case, that was when the Lyondell directors began negotiating the sale of Lyondell. The Supreme Court further noted that “there is no legally prescribed steps that directors must follow to satisfy their Revlon duties” and that the Lyondell directors failure to take any specific steps during the sale process could not have demonstrated a “conscious disregard of their duties.”

The Supreme Court concluded that the Court of Chancery “approached the record from the wrong perspective. Instead of questioning whether disinterested, independent directors did everything that they (arguably) should have done to obtain the best sale price, the inquiry should have been whether those directors utterly failed to attempt to obtain the best sale price.” Finding that the record clearly established that the Lyondell directors did not breach their duty of loyalty by failing to act in good faith, the Supreme Court reversed the decision of the Court of Chancery and remanded the matter for entry of judgment in favor of the Lyondell directors.

SUPPLEMENT: Professor Stephen Bainbridge provides a scholarly analysis here. Dean and Professor Eric Chiappinelli provides his learned overview of the case here. Professor Gordon Smith gives us the benefit of his professorial insights here. Attorney  Bernard Sharfman of the Cohen Milstein firm has written a thoughtful article that includes a discussion of this case here.

Some of the extensive commentary on the trial court's opinion is collected here.

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Last year,  I replied to Professor J. Robert Brown's list of the top 5 Delaware cases that, in his view, supported his negative perspective of Delaware law that remains the constant refrain on his blog called: The Race to the Bottom.

My introductory explanation from my rebuttal of last year was as follows:

... I realize that there are many more qualified experts who can rebut the professor's arguments far more persuasively than I, and I am well aware that the Delaware bench certainly does not need my help to defend it. Nor have I been anointed by anyone to take on this role. Nonetheless, having just completed a review of key 2007 Delaware corporate decisions, I offer my own humble rebuttal and a "counter-list" of 5 cases in 2007 that demonstrate that the Delaware courts take shareholder rights and the duties of directors very seriously. If any readers can think of a better "top 5" list, than the one I compiled below, I welcome comments. Here is my top 5 "rebuttal list":

Well, I just finished my 4th annual overview of selected Delaware corporate and commercial cases for  2008, which will be published soon in The Delaware Law Weekly, at which time I will also post it on these pages. I also just saw Professor's Brown list of 5 cases from 2008 that he uses to support his unabashedly unflattering views of Delaware law. Here is his list and here is his introductory post.

My cursory review of the cases I selected below (from the approximately 200 or so that I have summarized on this blog during 2008), is not as scholarly as the good professor's treatment, and I do not have the time (thankfully, due to my busy practice) to engage in extended debate (at least for the next week or so), but until someone else picks up the baton, I offer the following cases to counterbalance the list offered by Professor Brown. I invite others to suggest other cases that they would rather see in my "top 5 list".

•  In Cargill, Inc. v. JWH Special Circumstance, LLC, (Del. Ch., Nov. 7, 2008), read opinion here, the Delaware Chancery Court issued a 68-page decision involving a Delaware statutory trust (formerly referred to as a business trust), and found that common law fiduciary duties would apply to a trustee as a "default rule" in light of the agreement among the parties being silent on the issue. Here is a more complete summary.
• In Julian v. Eastern States Construction Service, Inc.,  2008 WL 2673300 (Del. Ch., July 8, 2008), read opinion here, the Chancery Court required directors to disgorge a $1.3 million bonus they had given themselves in a self-interested manner, without any independent protections, and based on their failure to satisfy their burden to demonstrate the entire fairness of their decision. Here is a more complete summary.
•  In Ryan v. Lyondell Chemical Company, (Del. Ch., July 29, 2008), read opinion here, the Delaware Chancery Court  found that at the procedural stage of a summary judgment motion, it would allow to proceed to trial the issue of whether the independent directors should be exposed to personal liability  for their role in the sale of the company--despite selling the company to the only known buyer for a substantial premium. A whole article could be written on this case alone, and substantial commentary has already been penned about it. An equally weighty later decision denying a motion for reargument was summarized here. The case is now on appeal with the Delaware Supreme Court.

• In Steel Partners II, L.P. v. Point Blank Solutions, Inc., 2008 WL 3522431 (Aug. 12, 2008),  the initial complaint was filed to force the holding of a shareholders meeting (which had not taken place since 2005), pursuant to DGCL Section 211. After a stipulation was entered into for a date to hold the meeting, the defendant moved for leave of court to postpone the date of the meeting by 90 days. The Chancery Court denied the request. The request was based on allegations that the plaintiff and its CEO together own about 40% of the stock and would attempt to install their own directors and then seek to buy the company at the lowest possible price for its own investors. In addition, the postponement was requested due to an alleged conflict that the plaintiff's CEO had with the majority. The court reasoned that the best way to deal with the issues presented was to communicate them to the shareholders and let them decide, based on those facts, who they wanted as directors--instead of further delaying the exercise of the shareholder franchise, which under Delaware law is sacrosanct. The summary of the case on my blog is here.

• London v. Tyrrell, 2008 WL 2505435 (Del. Ch., June 24, 2008), read opinion here. This Chancery Court decision explained in detail the reasons why it denied a motion to dismiss a derivative claim based on Chancery Court Rules 9(b), 12(b)(6) and 23.1. The derivative complaint alleged that the defendants caused the company to issue stock options in contravention of an equity incentive plan by setting the exercise price of the issued options at an unfairly low value.After a thorough factual background description, the court emphasized that: “the burden remains on the movant to demonstrate that the plaintiff has not met the requirements of Rules 9(b), 12(b)(6) and 23.1." (see footnote 12). Moreover, the court described in detail the demand futility analysis under  the seminal case of Aronson v. Lewis, 473 A.2d 805 (Del. 1984) as well as Rales v. Blasband, 634 A.2d 927 (Del. 1993). The court explained the reasons why it concluded, as succinctly as I have seen it done, that both prongs of the Aronson case were satisfied. Specifically, the plaintiff demonstrated a reasonable doubt that: (1) the directors were interested and independent; or (2) the challenged transaction was otherwise the product of a valid exercise of business judgment.
  The first prong was satisfied because the directors had a financial interest in the challenged stock option plan and also because they stood on both sides of the transaction that was challenged. Moreover, the second prong was satisfied because the allegations rebutted the business judgment rule to the extent that the allegations supported an inference that the directors intended to violate the terms of a stockholder approved option plan. The court also dismissed the arguments under Rule 9(b) that there was insufficient particularity regarding fraud allegations which apparently relied on Sections 152 and 157(b) of the DGCL.

UPDATE: The Wall Street Journal online highlighted this post here. 

UPDATE II:   The Harvard Law School Corporate Governance Blog  published this post here.

UPDATE III:  Forbes. com  highlighted this post  here.

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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)

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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".

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