A recent Delaware Court of Chancery opinion provides insights into nuances of DGCL Section 220 as it relates to the rights of stockholders to inspect corporate books and records, and deserves to be in included in the pantheon of Delaware decisions on this topic. It must be read by anyone seeking a complete understanding of Delaware law on Section 220. In Woods v. Sahara Enterprises, Inc., C.A. No. 2020-0153-JTL (Del. Ch. July 22, 2020), the court provided warmly welcomed clarity about important nuances of DGCL Section 220 with eminently quotable passages for practitioners who need to brief these issues. See generally  overview of takeaways from 15 years of highlighting Section 220 cases on these pages, and compare a recent Delaware Supreme Court decision featured on these pages about contract-based rights to inspect corporate books and records.

This short blog post will only provide several of those worthy passages in the format of bullet points, but this decision deserves a more comprehensive treatment which is the focus of a separate blog post on these pages.

Among the more noteworthy aspects of this notable decision are the following.

  • A consequential aspect of this jewel of a decision is the instruction by the court that there is no basis in Delaware law to require a stockholder demanding corporate records under Section 220 to explain why the stockholder wants to value her interest in the company–in order to satisfy the recognized proper purpose of valuation. See Slip op. at 11; and 14-15.
  • The court provided an extremely helpful list of many recognized “proper purposes” needed to be shown to satisfy Section 220. See Slip op. at 8-9.
  • The court also recited several examples of what showing is recognized as sufficient to satisfy the “credible basis requirement” to investigate mismanagement pursuant to Section 220. See Slip op. 18-19.
  • An always useful recitation of the basic elements of the fiduciary duty of directors of a Delaware corporation and the subsidiary components of the duty of loyalty and care, are also featured. See Slip op. at 20.
  • The court categorized the specific requests for documents in this case as follows: (i) formal board materials; (ii) informal board materials; and (iii) officer-level materials. Then the court expounds on the different focus applicable to each category.
  • Notably, after quoting the actual document requests, the court found that some of them were overly broad–but the court edited and narrowed some of the requests before concluding that the company was required to produce the court-narrowed scope of documents.

Bonus supplement: Prof. Bainbridge, a nationally prominent corporate law scholar, kindly links to the above post and provides learned commentary on this case and Section 220 jurisprudence generally. Readers should recognize the good professor, a friend of the blog, as the prolific author who scholarship is cited in Delaware Court opinions.

This post was prepared by Frank Reynolds, who has been following Delaware corporate law, and writing about it for various legal publications, for over 30 years.

The Delaware Court of Chancery recently granted a Sahara Enterprises Inc.  investor’s books-and-records demand to know how the allegedly underperforming investment company was being run after finding that the directors’ and officers’ duty to manage includes keeping accessible records of what they did, in Woods v. Sahara Enterprises, Inc., C.A. No. 2020-0153-JTL (Del. Ch. July 22, 2020). A more concise list of takeaways about this case also appears on these pages.

Vice Chancellor J. Travis Laster’s July 22 memorandum opinion said Section 220 of the Delaware General Corporation Law does not require the trustee of The Avery L. Woods Trust to specify why she needs to value her Sahara shares in order for valuation to serve as a proper purpose for inspection.

Background

He said after a 2001 reorganization, Sahara, a privately held Delaware corporation with its headquarters in Chicago, functions as a holding company that owns 99 percent of the stock of investment company Sahara Enterprises LLC and the LLC’s managing member SMCO, holds the other 1%.  That left SEI owning none of its investments directly, the court said.

SEI reported its revenue and costs bundled with the sister firms, allegedly making it difficult for trustee Avery L. Woods to determine why SEI consistently underperformed the market and whether the cost of managing the investments was inflated by “paying compensation to directors, officers, and employees to manage the managers who manage its investment portfolio.”  She also suspected lack of oversight and mismanagement.

After receiving a fraction of the information she demanded as a stockholder, Woods filed a books and records action in Chancery in March which Sahara said should be dismissed because it was only a holding company and SMCO made the investment decisions and kept the relevant records.

Court’s Analysis

The Vice Chancellor said one of Wood’s purposes is to value her shares and, “valuation of a stockholder’s investment in a corporation, particularly where the corporation is privately held, has long been recognized as a proper purpose under 8 Del. C. § 220.”

He rejected Sahara’s argument that Woods failed to show she actually had a proper purpose and “the mere incantation of an accepted ‘valuation’ purpose in a private corporation is [not] sufficient.”  That position is “contrary to Delaware law,” because it “would require that a stockholder establish both a proper purpose (valuing shares) and an end use for the resulting valuation,” the court said.

Woods also established a reason to investigate wrongdoing, and “inspecting the company’s books and records can help the stockholder to ferret out whether that wrongdoing is real and then possibly file a lawsuit if appropriate,” Vice Chancellor Laster ruled.

Although the company’s poor performance, without more, has not been sufficiently protracted or extreme to draw an inference of wrongdoing, the tactical position that Sahara took during the litigation points to conflicts that might bolster Wood’s case, he said.

Sahara argued that it had none of the operating records Woods demanded because those functions were the province of SMCO and that it had no control over SMCO — or even access to its records.

First, the court said, that position conflicts with Sahara’s statements to shareholders that the reorganization would have no effect on the management of their assets or their access to records of the company’s operation.

Second, the court said, by representing that Sahara did not have any responsive books and records, it created a credible basis to suspect that Sahara’s “directors have abdicated their statutory responsibilities.”  If Sahara’s board of directors relied on SMCO, then the Sahara board “should have, at a minimum, books and records documenting the board’s good faith reliance on and active oversight of SMCO.”

At a minimum, the board owes duties of care and loyalty, so even if it delegates some of its authority, it retains the duty of oversight, which would include record-keeping to show that it fulfilled that function, the Vice Chancellor ruled.

Regarding which documents must be produced for each category’s stated purpose, he said they must be “essential and sufficient to [its] stated purpose.”

How directors and senior officers are compensated and whether they are the beneficiaries of any related-party transactions are basic facts that stockholders are entitled to know and investors are entitled to know how their fiduciaries are taking money out of the corporation, the Court said. “A stockholder should not have to point to a valuation purpose or assert suspicions about corporate wrongdoing to be able to learn how much money the directors and senior officers are receiving.”

In addition, the vice chancellor said Sahara’s annual reports did not make clear who the various officers and directors listed worked for and investors are entitled to know (i) who the Sahara senior officers are, (ii) how much compensation they receive, and (iii) whether Sahara has entered into related party transactions with any officers or directors.

“The Trust’s desire to know this information is itself a proper purpose,” and the Trust is entitled to a court order for the production of any documents from the allied companies that their controllers could “access in the normal course of business,” he said.

A recent Delaware Supreme Court decision should be required reading for anyone interested in the latest iteration of Delaware law on the contract-based right to demand “books and records” in the alternative entity context. Delaware’s High Court ruled in Murfey v. WHC Ventures, LLC, Del. Supr., No 294, 2019 (July 13, 2020), that the Court of Chancery erred by interjecting into a limited partnership agreement a statutory requirement from Section 17-805 that did not appear in the parties’ agreement.

The great importance of this ruling can best be appreciated by emphasizing that the court did not opine in any manner on the statutory requirements for demanding books and records of a business entity–about which so much has been written on these pages over the last 15 years and about which I recently provided an overview of key decisions with the title for the blog post of: Demands for Corporate Documents Not for the Fainthearted.

I will add to that characterization of Delaware decisions interpreting statutory provisions for demanding corporate documents, a general observation based on the instant decision: Contract-based demands for books and records of business entities are not for the fainthearted either. A few reasons that support my observation include the following:

  • This Supreme Court decision features the en banc Justices split 3-2, along with a less-than-common reversal of a Chancery decision. So, that procedural note underscores that 6 of the best legal minds in Delaware (5 jurists on the high court and 1 in Chancery rendering opinions in this case) cannot find unanimity on this issue.
  • The original demand in this case was made on January 10, 2018. The Chancery complaint was filed in September 2018.  Through no fault of the court system, this final decision on appeal came down on July 13, 2020. About 2 years is still lightening-fast for the period from filing a complaint to a final decision by a state’s highest court, but that still implies substantial legal fees and the need for financial and other types of stamina for someone who is serious about seeking corporate records.
  • Although this decision provides authoritative guidance on this nuance of Delaware business litigation, a careful parsing of the opinion still reveals a fertile field for indeterminacy–which makes it a challenge for the lawyers toiling in this vineyard who are trying to predict the outcome of this type of contract interpretation dispute–even if one need not be concerned with applying the multitude of court decisions applying the statutory provisions for inspection rights in this context.
  • I’ll end my introductory observations on a positive note: despite the plethora of case law interpreting the various statutory provisions for demanding books and records, such as Section 220 and Section 18-305, this decision is a welcome addition to the relatively few published Delaware opinions that address the purely contract-based right to books and records of an alternative entity.

Basic Factual Background

Based on the assumption that readers of this post are familiar with the basics of Delaware law in this area, I’m only highlighting the irreducible minimum amount of facts to provide context for the key legal principles announced.

This case followed a typical pattern. The company provided some documents initially, and at the time of trial the only issue was the very limited documents the company refused to produce. Somewhat unusual was that only one specific type of document was the subject of the trial court decision and the appeal: the K-1 of the other limited partners in the limited partnership. Although the company allowed counsel for the plaintiff and the plaintiff’s valuation expert to review those K-1s, they refused to let the plaintiffs themselves review the K-1s of other limited partners–even subject to the common confidentiality agreement.

The limited partnership agreements involved allowed for a rather broad scope of documents to be demanded, including tax returns which were specifically listed as being subject to production. The company took the curious position that a K-1  (of other limited partners) was not part of the tax returns of the company–or at least not within the scope of documents they need to produce.

Primary Issue Addressed on Appeal

Whether the Court of Chancery erred by injecting into the terms of the agreement that provided for a right to books and records–additional statutory prerequisites. Short answer: yes.

High Court’s Reasoning–Key Takeaways

The majority opinion made quick work of dispensing with the defense that valuation was not a valid basis for requesting the disputed documents or that tax returns were not needed to complete a valuation. See, e.g., footnotes 65 and 66 as well as related text. More notably, the court found that the statutory notion of a “proper purpose” was not applicable to contract-based demands. See, e.g., footnote 53 and accompanying text (quoting with approval prior decisions so holding.)

Also noteworthy is the Court’s reference to dictionary definitions of words, including prepositions, at issue in this case. See footnotes 32 and 33.

The Court reviewed many prior Delaware decisions that addressed when, if ever, it would be appropriate to infer words or conditions that do not appear in the terms of an agreement, such as statutory prerequisites. Slip op. at 18-25.

A key part of the Court’s reasoning was that: because the partnership agreements involved

… do not expressly condition the limited partner’s inspection rights on satisfying a “necessary and essential” condition [a statutory concept], and given the obvious importance of tax return and partnership capital contribution information to the Partnerships’ investors, as evidenced by the agreements, we are not persuaded that such a condition should be implied.

Slip op. at 25

The majority opinion’s “rebuttal” of the dissenting opinion deserves to be read in its entirety. Slip op. 32 to 37. Two especially notable excerpts:

  • ” The words ‘necessary and essential’ do not appear in the written agreements”. Slip op. at 35.
  • “… we also do not agree that the parties to a limited partnership agreement have to expressly disclaim any conditions applied in the Section 220 context (or the Section 17-305 context….)” Footnote 85.

This post was prepared by Frank Reynolds, who has been following Delaware corporate law, and writing about it for various legal publications, for over 30 years.

The Chancellor of the Delaware Court of Chancery recently presented a challenge to controller Jeffries Financial Group Inc.’s going-private acquisition of HomeFed Corporation because Jeffries negotiated the support of a key HomeFed investor before implementing the shareholder protections of the seminal MFW decision in In Re HomeFed Corporation Stockholder Litigation, No. 2010-0592-AGB memorandum opinion issued (Del. Ch. July 13, 2020).

Chancellor Andre Bouchard’s July 13 opinion denied dismissal motions by defendant Jeffries directors, finding plaintiff HomeFed shareholders may prove the 2019 squeeze-out merger does not qualify for the deference of the business judgment rule and must be examined under the exacting entire fairness standard. That could shift the burden of proof – and the risk of losing – to the defendants.

Under the Delaware Supreme Court’s framework in Kahn v. M & F Worldwide Corp., proponents of a deal involving a controlling shareholder must prove both the negotiation and price was entirely fair unless they employed the dual protections of a fully empowered director negotiating committee and majority-of-the-minority shareholder approval. Kahn v. M & F Worldwide Corp., 88 A.3d 635 (Del. 2014).

History

The directors of Jeffries, a holding company that owned 70 percent of Delaware-charted HomeFed, a multi-state real estate developer, claimed they did just that when they sought to acquire the remaining 30 percent beginning in 2017. They argued, in support of dismissing the breach of duty charges, that the merger effectively started over again when talks with HomeFed’s special director committee resumed.

But the Chancellor pointed out that although merger talks were suspended for nearly a year in 2018, Jeffries directors continued to talk to Beck, Mack and Oliver, LLC, the largest HomeFed investor next to Jeffries and key to winning shareholder approval.

He found that whether there were two rounds of merger negotiations or just one with a pause, at the pleading stage, the plaintiffs make a reasonable case that Jeffries directors negotiated a proposed 2-for-1 stock swap proposal with BMO before they officially committed to the dual MFW protections for the deal.

MFW if-and-only-if list

Chancellor Bouchard said under MFW, the business judgment standard of review will be applied if and only if:

(i) the controller conditions the procession of the transaction on the approval of both a special committee and a majority of the minority stockholders;

(ii) the special committee is independent;

(iii) the special committee is empowered to freely select its own advisors and to say no definitively;

(iv) the special committee meets its duty of care in negotiating a fair price;

(v) the vote of the minority is informed; and

(vi) there is no coercion of the minority.

“The complaint’s factual allegations support more than a reasonable inference that three of the six conditions required under MFW were not satisfied,” the Chancellor wrote.

He said that in a very recent decision in In re Dell Technologies Inc. Class V Stockholders Litigation, the court noted that the MFW decision requires the dual protections to be established at the very outset of talks. In re Dell Technologies Inc. Class V Stockholders Litigation 2020 WL 3096748, at *17 (Del. Ch. June 11, 2020).

“[T]he purpose of the words ‘ab initio,’ and other formulations like it in the MFW decisions, require the controller to self-disable before the start of substantive economic negotiations, and to have both the controller and special committee bargain under the pressures exerted on both of them by these protections,” he said, quoting the Dell decision.

Therefore, the Chancellor said, the transaction does not qualify for business judgment review and the motion to dismiss on that basis is denied.

Cornerstone doesn’t work

Finally, the court also denied a separate motion to dismiss filed by two HomeFed directors who claimed they were protected from liability by an exculpatory provision in the company’s charter. He said under the Cornerstone decision, evidence that those two board members voted against the interests of the HomeFed shareholders is enough for those claims to survive a motion to dismiss. In re Cornerstone, 115 A.3d at 1179-80.

“Plaintiffs have plead facts supporting a rational inference that, by voting to approve the transaction, Patrick Bienvenue and Paul Borden acted to advance the self-interest of an interested party (Jefferies) that stood on both sides of the transaction from which they could not be presumed to act independently,” the Chancellor said.

In addition, the complaint says Bienvenue served in a variety of executive roles for Jefferies from January 1996 until April 2011, and has served on the HomeFed Board since 1998, and Borden was a Jefferies Vice President from August 1988 to October 2000 and served as HomeFed’s President for 20 years, he noted.

 

The following article appeared in the July 8, 2020 issue of the Delaware Business Court Insider.

Designating Documents as Confidential and Requesting They Remain Confidential Insufficient to Avoid Waiver of Attorney-Client Privilege

The Delaware Court of Chancery recently held that a party waived attorney-client privilege by producing documents to a federal commission during the course of an investigation without requiring the commission to sign a confidentiality agreement first.

By Francis G.X. Pileggi and Chauna A. Abner

The Delaware Court of Chancery recently held that a party waived attorney-client privilege by producing documents to a federal commission during the course of an investigation without requiring the commission to sign a confidentiality agreement first.

In In re Straight Path Communications Consolidated Stockholder Litigation, C.A. No. 2017-0486-SG (Del. Ch. June 15, 2020), the plaintiffs sought to compel the disclosure of 31 documents the defendant corporation previously produced to the Federal Communications Commission (FCC) in connection with an investigation. The defendant withheld the documents from the plaintiffs on the basis that such documents were privileged. The plaintiffs did not dispute that the documents were privileged when created, but instead argued that the defendant waived that privilege by producing the documents to the FCC. The defendant argued that it did not waive privilege because when it produced the documents to the FCC, it designated the documents as confidential and requested that the documents remain confidential.

The court explained that the defendant bore the burden of proving that the documents at issue were privileged, and while the defendant failed to satisfy that burden, the plaintiffs met their burden of proving that the defendant waived privilege regarding the documents. After exploring the purpose of the attorney-client privilege doctrine, the court explained the facts and prior holdings in Saito v. McKesson HBOC, 2002 Del. Ch. LEXIS 125 (Del. Ch. Nov. 13, 2002).

In that case, the plaintiff sought to compel the production of documents that the defendant previously produced to the Securities and Exchange Commission (SEC) in connection with an investigation. The defendants argued that all documents, but one, were protected from disclosure by the work product doctrine and the one document was protected by the attorney-client privilege. The defendant in that case required the SEC to sign a confidentiality agreement in connection with the disclosure of documents. The court held that the defendant did not waive privilege over the documents it disclosed to the SEC after the confidentiality agreement was entered into because the defendant “retained a reasonable expectation of privacy as to such documents because it reasonably believed that its disclosures would remain confidential.” However, the court held that the defendant waived privilege with respect to the documents that were disclosed before the confidentiality agreement was entered into, including the document the defendant argued was protected by the attorney-client privilege.

Applying the rationale in Saito, the court explained that the defendant “did not have an analogous expectation of privacy because the documents were not produced to the FCC under a confidentiality agreement.” Therefore, the court held that the defendant waived the attorney-client privilege with respect to the documents that the plaintiffs sought to compel and ordered the defendants to produce all thirty-one documents.

This case provides a vital lesson for attorneys who represent entities in connection with external investigations: the lack of a confidentiality agreement before disclosure of documents to the investigating body could result in the waiver of attorney-client privilege in future litigation. Designating documents as confidential while merely requesting that documents remain confidential is not sufficient to avoid waiver of the attorney-client privilege.

———————————————-

Francis G.X. Pileggi is the managing partner of the Delaware office of Lewis Brisbois Bisgaard & Smith. His email address is Francis.Pileggi@LewisBrisbois.com. He comments on key corporate and commercial decisions, and legal ethics topics at www.delawarelitigation.com.

Chauna A. Abner is an associate with the firm.

For the last 15 years, I have published a list of key corporate and commercial decisions by the Delaware Supreme Court and Court of Chancery on these pages. On a few occasions, I have published a Mid-Year Review of those cases. This year, veteran reporter and court watcher Jeff Montgomery of Law360 published such a review this month, and quoted your truly about the import of a few of those decisions. The link is here and the article is copied below.

Top Delaware Cases Of 2020: A Midyear Report
By Jeff Montgomery

Law360 is providing free access to its coronavirus coverage to make sure all members of the legal community have accurate information in this time of uncertainty and change.

Law360 (July 2, 2020, 4:11 PM EDT) — Despite the pandemic, the first half of 2020 saw epic judicial gear-shifting but no real slowdown in Delaware’s key business courts, with new Chancery Court complaints actually picking up and important corporate and commercial law decisions regularly emerging from remotely conducted proceedings.

Movement was a little slower in the state Supreme Court and U.S. District Court, where new complaints slowed or held steady and arguments were generally handled differently, but both venues released rulings that were felt far beyond the 2,000 square miles of the First State.

COVID-19 Plan: Keep Socially Distant and Carry On

Delaware Chief Justice Collins J. Seitz declared a COVID-19 judicial emergency on March 13, closing courthouses to the public days later and limiting court activities to essential matters. Workarounds soon followed that limited physical public interaction at all levels of the state’s court system by turning to teleconference, videoconference and internet conference technologies that were already in use or being explored.

By May 29, a four-phase court reopening plan developed by a systemwide court committee emerged, with  limited public access to courthouses resuming on June 15 during Phase 2. Although the use of courtrooms was permitted to resume, initial Phase 2 rules included tight restrictions on the number of individuals allowed inside, with remote proceedings still the norm and jury trials remaining on hold until the start of the next phase, which has yet to be announced.

“The Court of Chancery and the Supreme Court seem to have adjusted pretty well to the constraints,” said Lawrence A. Hamermesh, professor emeritus at Widener University Delaware Law School. “Of course, being able to process cases without a jury is a big advantage under the circumstances.”

As the eventful first half of 2020 came to a close, many looked back on:

Matthew B. Salzburg et al. v. Matthew Sciabacucchi

In March, Justice Karen L. Valihura and a unanimous state Supreme Court broadened the scope of Delaware chartered company affairs that can be handled in federal court, reversing Vice Chancellor J. Travis Laster’s ruling that state corporation law prohibits companies from adopting federal forum selection provisions for Securities Act litigation.

Instead, the justices found a category of “intra-corporate” matters, including those involving Section 11 of the Securities Act of 1933, that also can be kept out of state courts if companies choose.

It was a case noteworthy in part for the characterization of opposing positions as “nonsense on stilts” by former Chancellor William B. Chandler III, now of Wilson Sonsini Goodrich & Rosati PC, during winning arguments before the justices. Chandler’s firm represented Blue Apron, Roku and StitchFix, the companies challenging the forum ruling.

Francis G.X. Pileggi of Lewis Brisbois LLP, author of Delaware Corporate & Commercial Litigation Blog, said it was the first Supreme Court finding that a Delaware company’s bylaws can require some claims to be filed in federal court.

“The ramifications of that have not yet been fully felt, because there are certain variations on that decision that are not quite predictable in terms of how the court will rule,” Pileggi said. “Whether that same reasoning would apply to arbitration provisions is an open question in some circles.”

Hamermesh tagged the Blue Apron decision as a major ruling, noting that its reach could extend beyond venue choices to arbitration and limits on class actions, shifting of fees or rights under federal law. Interpretation of the decision in federal districts across the country remains unsettled, however.

“I’ve now seen a couple federal cases elsewhere that have tossed shareholder complaints asserting federal securities claims (even ones that can’t be brought in state court) based on Blue Apron and a forum selection bylaw,” Hamermesh said in an email. “The interesting question to me is how aggressive companies will be in adopting this sort of bylaw, and in regard to what range of federal claims.”

The case is Matthew B. Salzburg et al. v. Matthew Sciabacucchi, case number 346,2019, in the Supreme Court of the State of Delaware.

Dell Technologies Inc. Class V Stockholders Litigation

A court finding of “several recognized forms of coercion” tripped up Dell Technologies’ hopes of escaping a stockholder suit in June, with Vice Chancellor Laster refusing to dismiss a class complaint that stockholders came up at least $6 billion short when the tech company lined up a $24 billion stock swap deal. Any of the coercive acts, the court noted, were enough to deny business judgment deference in the suit. The remaining defendants are Dell, controlling shareholder Silver Lake Group LLC and four Dell directors.

In his 94-page opinion, the vice chancellor laid out a sort of Field Guide to Corporate Breaches, detailing a range of coercive conduct and ways in which it could circumvent or undermine requirements for independent special committee approvals and and majority of the minority shareholder votes.

Afterward, the vice chancellor’s opinion zeroed in on the company’s conduct, pointing to a brute-force species of coercion in the tech company’s plan to eliminate a costly class of stock that was supposed to track the value of cloud computing company VMWare, but in practice consistently came up short.

According to the stockholders, Dell and the directors threatened to pursue a forced conversion of their VMWare stock to Dell “Class C” common stock by a straight board vote, without negotiation or purportedly independent evaluation and with Dell founder Michael Dell having the independent power to trigger the move. The forced conversion, however, would have shrugged off customary corporate attempts to “cleanse” a troubled deal by relying on an independent committee of company directors to assess conflicts under precedents set in the Delaware Supreme Court’s 2014 Kahn v. M & F Worldwide Corp. decision, often referred to as MFW, and cases that followed.

While Dell did go with a special board committee, the vice chancellor found in his June decision that both directors on the panel were themselves “hopelessly conflicted” to begin with. They recommended approval of the deal in an hour after the company advised that it had bypassed the committee and lined up backing from a sizable block of stockholders in advance of a required approval by a majority of unconflicted “minority” investors.

Ex-Chancellor Chandler, who did not have a role in the Dell case, said that the vice chancellor’s decision affirmed that an “MFW special committee cannot be passive but has to be engaged throughout the process” while “stockholders play a separate and distinct role” in strategies to cleanse potentially conflicted deals.

Chandler said the Dell opinion also may figure prominently in a case now before Chancellor Andre G. Bouchard over the breakup of WeWork’s $3 billion acquisition by Japan’s SoftBank Group Corp.

The case is In re: Dell Technologies Inc. Class V Stockholders Litigation, case number 2018-0816, in the Court of Chancery of the State of Delaware.

Consumer Financial Protection Bureau v. The National Collegiate Master Student Trust

On May 31, a long-stalled, 2017 settlement of claims against a $15 billion student loan management and investment enterprise got tipped into a ditch, with Delaware federal Judge Maryellen Noreika finding that attorneys for the National Collegiate Master Student Trust lacked authority to sign a $22 million consent decree with the Consumer Financial Protection Bureau.

Among other determinations, Judge Noreika concluded that National Collegiate counsel McCarter & English LLP had no clearance to sign the deal with the CFPB. Only Wilmington Trust, the “owner trustee” for the National Collegiate funds, had the authority, with the deal also needing the support of note insurer Ambac Assurance Corp.

The decision threw the case into a round of briefings on motions to dismiss filed by investors in notes collateralized by the student loans acquired by National Collegiate. Businesses that service the loans also opposed the consent agreement.

Representatives of the administrators, insurers, trustees and servicers for the 15 National Collegiate Student Loan trusts involved have argued that the owners, controlled by affiliates of Donald Uderitz’s Vantage Capital Group, accepted the consent decree in an effort to regain control of assets, litigation rights and retention agreements. Opponents say those rights and powers belong to the noteholders, indenture trustee and affiliates until the notes are paid back.

In limbo, meanwhile, are student borrowers, some of whom have argued and sued for years over claims of improper and inadequately documented efforts to collect on unsupported default claims.

Separate litigation is pending in Chancery Court on related disputes.

The case is Consumer Financial Protection Bureau v. the National Collegiate Master Student Loan Trust et al., case number 1:17-cv-01323, in the U.S. District Court for the District of Delaware.

AmerisourceBergen v. Lebanon County Employees’ Retirement Fund et al.

In April, Delaware’s Supreme Court upheld a finding that drug wholesaler AmerisourceBergen Corp. had to turn over to stockholders books and records that it had previously released to investors in a federal stockholder action despite holding back against the state parties.

The decision came in an appeal of a Chancery Court conclusion that withholding of the same documents in the state case smacked of “plaintiff shopping” — giving an advantage to a potentially weaker plaintiff while holding back the stronger or more experienced ones.

The investors’ demand for books and records in Chancery Court and the derivative suit in Delaware federal court both focused on AmerisourceBergen’s allegedly costly and deadly failures in the distribution, control and oversight of opioids.

Pileggi, who has written extensively on disputes and decisions involving the Delaware General Corporation Law’s “Section 220” provisions for investor access to books and records, said the AmerisourceBergen action was among the most important on the topic in recent years.

The decision, Pileggi said, appeared to politely signal that “there are a lot of Section 220 decisions that have strayed” from the language of the law.

The case is AmerisourceBergen v. Lebanon County Employees’ Retirement Fund et al., case number 60 of 2020, in the Supreme Court of the State of Delaware.

In re: Tesla Motors Inc. Stockholder Litigation

In February, Vice Chancellor Joseph R. Slights III released a decision that put a stockholder challenge to Elon Musk’s $2.6 billion merger of Tesla Inc. and SolarCity Corp. on track for one of the first major in-court Chancery Court trials since the COVID-19 crisis barred in-person arguments.

The vice chancellor rejected a partial summary judgment motion filed by investors and a dismissal motion sought by Musk for all but a valuation claim. Musk, who founded Tesla and co-founded SolarCity, was accused of orchestrating a deeply conflicted deal to bail out the rooftop solar company.

The suit, slimmed down since six Tesla directors agreed to an insurer-paid $60 million settlement, is now scheduled to be argued starting July 27, with one week in court and a second week of arguments via videoconference.

The case is In re: Tesla Motors Inc. Stockholder Litigation, case number 12711, in the Court of Chancery of the State of Delaware.

Forescout Technologies Inc. v. Ferrari Group Holdings LP

One week before the Tesla trial begins, Vice Chancellor Sam Glasscock III is scheduled to convene an expedited trial, to be streamed live via YouTube, in a pandemic-related merger breach case filed by cybersecurity firm Forescout Technologies Inc. on May 19.

In the suit, Forescout accused Ferrari Group Holdings LP, a deal affiliate of private equity firm Advent International, of attempting to walk away from its agreed-to $1.9 million acquisition of Forescout.

Although Forescout argued that Advent’s refusal to close was one of the latest examples of COVID-19 cold feet, and an unsupportable reason for breaching the deal, Advent said in counterclaims that Forescout’s business had fallen “off a cliff” since the merger pact was signed, creating a material adverse effect allowing Advent’s exit.

The case is Forescout Technologies Inc. v. Ferrari Group Holdings LP and Ferrari Merger Sub Inc., case number 2020-0385, in the Court of Chancery for the state of Delaware.

–Editing by Jill Coffey.

This post was prepared by Frank Reynolds, who has been following Delaware corporate law, and writing about it for various legal publications, for over 30 years.

A Delaware Supreme Court majority recently revived a shareholder suit that claimed Towers Watson & Co.’s CEO put his interests ahead of the investors in a merger with Willis Group Holdings Public Limited Co. and didn’t tell his board about a Willis director’s hefty pay proposal to head the combined company in City of Fort Meyers General Employees Pension Fund et  al. v. Haley, et al., No. 368, 2019, opinion issued (Sup. Ct. June 30, 2020).

The majority’s June 30 opinion reversed the Court of Chancery’s dismissal of derivative charges that Towers CEO and director John Haley breached a fiduciary duty and that Willis major shareholder ValueAct Capital Management, L.P., and its director delegate to Willis aided that breach with the proposal. In re Towers Watson & Co. S’holders Litig., 2019 WL 3334521 (Del. Ch. July 25, 2019)

The majority of the en banc court said at the motion-to-dismiss stage, the undisclosed prospect of a post-merger CEO job with a five-fold pay increase for Towers’ lead negotiator would have been a conflict-of-interest concern if revealed to his board – especially since Haley subsequently supported a minimum price increase ,

Justice Karen Valihura, writing for the majority, said the high court’s standard for a duty of candor charge, stated in Weinberger v. UOP, Inc., 457 A.2d 701, draws a conflict of interest line where there are well pled charges that directors conceal information the board needs to make an informed decision.

History

Towers, a prominent Delaware-chartered professional services firm began merger talks in 2015 with Willis, a global advisory, brokering, and solutions business chartered in Ireland. The primary driver of those talks was Jeffrey Ubben, founder of ValueAct, a limited partnership that was a large activist investor in Willis.

According to the opinion, Ubben had been pressing Willis management for a transaction that would boost the stock price, which had allegedly been languishing since the 2008 recession and had threatened to force a breakup sale of Willis if the Towers merger did not happen. The opinion said Ubben met with Haley and promised he could influence the Willis board to offer Haley the CEO position at the five times his then current $14 million pay scale.

Allegedly, Haley informally agreed but did not inform the Towers board, and subsequently backed a merger-of-equals in which Willis shareholders got a 50.1 percent majority control of the combined company and Towers investors got 49.9 percent even though Towers had been the stronger performer.

Moreover, the proposed deal gave Towers investors a price that was significantly less than their stock had been selling for before the merger was announced – even when their $4.87 per share dividend was included. Towers investors threatened to scuttle the deal by withholding their required approval.

Haley backed an increase of the dividend to $10 a share – just enough to win a majority backing from investors, but low enough to spark disgruntled shareholder suits in several courts, including five breach of duty complaints naming Haley, Ubben and ValueAct that were combined in the Chancery Court.

The Court of Chancery dismissal

Chancery dismissed all charges, finding that the deferential business judgment rule gave the defendants the benefit of the doubt because there was insufficient proof that the merger decision was ill-informed or tainted by self-interest.

Vice Chancellor Kathaleen McCormick ruled that the news of Hartley’s proposed position and pay would not likely alter the board’s thinking because it was expected that Hartley would get the job at a significant compensation increase to run the combined company and there was no proof he sold out the Towers investors to get it.

The appeal

The high court reversed, finding that, as required under the milestone Cinerama decision (Cinerama, Inc. v. Technicolor, Inc., 663 A.2d 1134, (Del. Ch. 1994), there is more than mere proof of a conflicted director here, because the plaintiffs showed that:

(i) the director was “materially self-interested” in the transaction,

(ii) the director failed to disclose his “interest in the transaction to the board,” and

(iii) “a reasonable board member would have regarded the existence of [the director’s] material interest as a significant fact in the evaluation of the proposed transaction.”

“Plaintiffs are entitled to an inference that the prospect of the undisclosed enhanced compensation proposal was a motivating factor in Haley’s conduct in the renegotiations to the detriment of Towers stockholders,” the majority said in reversing and remanding the case to proceed in the Court of Chancery.

In a lone dissent, Justice James Vaughn said while he agreed with the criteria the majority set for overcoming the business judgment rule in this case, he determined that the board knew Hartley was in line to be the CEO at a substantial pay increase and was materially self-interested in the deal, so knowledge of the formal offer would not have changed the directors’ votes.

 

A recent Delaware Supreme Court decision should be required reading for those interested in the nuances of Delaware law on the fiduciary duties of disclosure and loyalty of a manager or a director in connection with communications with stockholders or others to whom a fiduciary duty is owed.  In Dohmen v. Goodman, Del. Supr., No. 403, 2019 (June 23, 2020), Delaware’s High Court answered a question certified from the U.S. Court of Appeals for the Ninth Circuit.

Key Takeaways:

There is a “per se damages rule” in Delaware that covers only those breaches of the fiduciary duty of disclosure involving requests for stockholder action that impair the economic or voting rights of investors.  Importantly, this per se damages rule only covers nominal damages.  Again, for emphasis:  the per se damages rule does not apply to damages other than nominal damages.  Therefore, in order to recover compensatory damages, one who proves a breach of the fiduciary duty of disclosure must also prove reliance, causation and damages.  See Slip op. at 24.

The court in its en banc opinion provides a useful overview of fiduciary duties in general, and addresses the many nuances–that change depending on the situation presented–of the duty of disclosure in particular as it relates to requests for action by stockholders or others to whom a fiduciary duty is owed.  See Slip op. at 9-10.

Brief Overview of the Case:

The procedural background of the case involved an issue of Delaware law that the U.S. Court of Appeals for the Ninth Circuit certified to the Delaware Supreme Court.  In other words, the Ninth Circuit asked the Delaware Supreme Court to decide an issue of Delaware law that was originally presented to the Ninth Circuit.

This gem of a 24-page opinion, which is relatively short for many Delaware opinions, was decided based on stipulated facts, which in a very simplified way, decided a claim by a limited partner in a hedge fund, who as limited partner in a limited partnership was owed a duty by the fund manager, which was structured as an LLC.  Among the claims by the limited partner was that the general partner of the limited partnership, the LLC manager, breached fiduciary duties by failing to disclose that the general partner was the only investor in the fund other than the suing limited partner, and related omissions or misrepresentations.

Delaware Fiduciary Duty Law:

In connection with its decision, the Delaware Supreme Court recited several useful truisms of Delaware law.  For example, the agreements at issue did not disclaim the fiduciary duty of loyalty, and therefore, the general partner owed fiduciary duties to the limited partners, similar to those owed by directors of Delaware corporations.  See footnotes 15 through 16.

The court recited the very nuanced and multifaceted aspects of the fiduciary duties of care and loyalty that applied to communications with stockholders or limited partners.  Those duties depend on the context of the communication, and whether the communication is to an individual stockholder or to a group of stockholders.  See footnotes 18 through 32 and accompanying text.

The court described several different types of factual situations which impact the application of the duty owed in connection with communications that involve a request for stockholder action, as compared to those that might involve merely periodic financial disclosures.  The per se damages rule does not apply to the latter.

The court discussed the most important Delaware decisions involving the duty of disclosure and how it is applied in various factual circumstances.

Bottom Line:

The court explained that the per se damages rule only applyies when a director seeks stockholder action and breaches their fiduciary duty of disclosure, in which case a stockholder may seek equitable relief or damages.  That is, when directors seek stockholder action, and the directors fail to disclosure material facts bearing on that decision, a beneficiary need not demonstrate other elements of proof, such as reliance, causation or damages.  This rule only applies to nominal damages and does not extend to compensatory damages. See Slip op. at 10 through 11.

This post was prepared by Frank Reynolds, who has been following Delaware corporate law, and writing about it for various legal publications, for over 30 years.

The Delaware Court of Chancery recently rejected a creative theory of liability in a shareholder suit that claimed top NetSuite Inc. officers aided a breach of fiduciary duty by agreeing to a conspiracy of silence that caused Oracle Corp. investors to significantly overpay for the smaller technology company in 2016. In re Oracle Corp. Derivative Litig., No. 2017-0337-SG memorandum opinion (Del. Ch. June 22, 2020.)

In his consequential June 22 opinion, Vice Chancellor Sam Glasscock granted NetSuite CEO Zachary Nelson and Chairman of the Board Evan Goldberg’s motion to dismiss because the Oracle plaintiffs could not convince him that those officers knowingly damaged Oracle shareholders by secretly supporting an overvalued price collar.

The Vice Chancellor acknowledged that a fiduciary for an acquired entity could conceivably aid and abet breaches of duty by a fiduciary for the buyer, but although “in the infinite garden of theoretical inequity, such a flower may bloom,” it is unlikely to produce liability when, as here, the sole charge is overpayment, he said.

History

Oracle shareholder plaintiffs charged in a 2017 Chancery Court derivative suit that when Oracle founder Larry Ellison and CEO Safra Catz proposed to acquire NetSuite — which Ellison also founded and controlled — he first verbally agreed with NetSuite executives to a per-share price in the $100-to-$125 range even though that was not in the Oracle investors’ best interests.

Charges that Ellison and Catz breached duties of loyalty and candor in the merger negotiations and disclosures withstood their motion to dismiss and, in an unusual turn for a derivative suit, Oracle’s directors waived their right as the corporation’s managers, to press the claims. In re Oracle Corp. Derivative Litig., 2018 WL 1381331 (Del. Ch. Mar. 19, 2018).

Lawyers for shareholders, lead by the Firemen’s Retirement System of St. Louis pension fund, filed a third amended complaint February 18, 2020.

Meanwhile, Nelson and Goldberg’s separate motion to dismiss claimed they had no fiduciary duty to Oracle’s shareholders and did have a duty to NetSuite investors to get the highest price even though this was a friendly acquisition offer from the company’s founder, who already held 50% of NetSuite.

According to the Vice Chancellor’s June 22 opinion, Oracle agreed to pay $9.3 billion or $109 a-share at a time when NetSuite was selling for $67.36 a share. If not for NetSuite’s silence about early price collar agreements, Oracle shareholders would have realized they were being fleeced so that Ellison could consolidate his software and technology kingdom, the plaintiffs’ 2017 complaint alleged.

How to survive dismissal

Vice Chancellor Glasscock said in order to survive a motion to dismiss aiding and abetting charges against the NetSuite defendants, the plaintiffs would have to show:

(i) the existence of a fiduciary relationship,

(ii) a breach of the fiduciary’s duty,

(iii) knowing participation in that breach by the defendants, and

(iv) damages proximately caused by the breach.”

He found that under the Restatement (Second) of Torts § 876(b) (1979), the NetSuite executives did not render the required “substantive assistance” to Ellison and Catz to qualify for “knowing participation” because even if the early discussions of a price collar and Ellison’s plan to keep NetSuite an independent subsidiary post-merger were disclosed sooner it wouldn’t have doomed the merger.

Silence may be golden

Absent a fiduciary or contractual relationship, “Delaware law generally does not impose a duty to speak,” and “given the general unwillingness of our law to impose a duty to speak, how could mere silence be cognizable as substantial assistance in tortious aiding and abetting?” he asked.

Moreover, even if the NetSuite defendants did breach a duty to disclose, “it is not reasonably conceivable that by their silence they provided substantial assistance to the Oracle fiduciaries’ alleged breaches of fiduciary duty, in light of the actual disclosures of record,” the vice chancellor ruled.

Regarding the price collar agreement, he said “it is not reasonably conceivable that the difference between what was disclosed and what the Lead Plaintiff alleges should have been disclosed constituted substantial assistance to Ellison and Catz’s scheme to cause Oracle to overpay for NetSuite.”

Finally, he said all the information that the plaintiffs said would have alerted the Oracle board and shareholders that they were being fleeced by a conspiracy of silence had in fact been released in securities disclosures while the merger was still pending and could have enabled Oracle to put the kibosh on the deal.

 

Due to the relative lack of abundant, comprehensive case law analyzing the criteria the court will use to determine the amount of security deemed sufficient for purposes of satisfying DGCL Section 280 in connection with seeking court approval of a dissolution, and related distributions, the recent Court of Chancery decision in the matter of In Re Swisher Hygiene, Inc., C.A. No. 2018-0080-SG (Del. Ch. June 12, 2020), strikes this litigator as noteworthy, or at least blogworthy.

In particular, in this case the court was called upon to determine, in connection with a motion to approve an interim distribution as part of the petition for dissolution, whether the proposed amount of funds to be held in reserve for a pending lawsuit, and other claims, was sufficient security pursuant to DGCL Section 208(c)(1). Footnote 12 includes a citation to two Orders in other cases that addressed similar Section 280 issues. That the court cited two prior Orders, as opposed to citing to prior formal Opinions, is an indication of the relative paucity of robust decisional law on this topic.

By way of an aside and for context, there are two primary ways to pursue a formal dissolution under the Delaware General Corporation Law, as described in a Chancery decision highlighted on these pages a number of years ago. One method is to seek court approval as a “judicial imprimatur” for how creditors are handled, especially if there are insufficient assets to satisfy all pending claims. Another option is non-judicial, which, as the name implies, does not have the benefit of a judicial blessing. A third option, not recognized in the DGCL, and followed in some instances by those who do not have the money, or prefer not to spend the money, to pursue a formal dissolution process–often because the amount of assets at stake may not be worth the expense–may be referred to colloquially as “turning off the lights; closing the door; and walking away.” Not recommended, however.