United States Supreme Court Addresses Arbitrability

By Francis Pileggi on Posted in Other Court Decisions

A recent decision of the United States Supreme Court addressed the frequently encountered issue of arbitrability—that is, whether a court or an arbitrator should decide whether or not a particular issue is subject to arbitration based on the arbitration clause in an agreement.

This decision is noteworthy because the issue often arises about how to handle an argument that a claim is subject to arbitration when that claim is frivolous (at least in one party’s view.) In Henry Schein, Inc. v. Archer & White Sales, Inc., U.S. Supr. Ct., No. 17-1272 (Jan. 8, 2019), a unanimous decision written by Justice Brett Kavanaugh, the court rejected a judicially-imposed exception to arbitrability under the Federal Arbitration Act.  The court determined that if an agreement containing an arbitration clause provides that arbitrators have the power to resolve arbitrability questions, then an arbitrator—not the court—should decide whether the arbitration provision applies to the issue involved, regardless of whether the arbitration demand is “groundless.”

The court rejected an argument followed by some lower courts that if an arbitration claim was “wholly groundless,” a court should decide arbitrability. The nation’s high court reasoned that because the statute did not impose a “wholly groundless” exception, the gateway question of arbitrability is a matter of contract law and, for example, when an agreement refers to the rules of the American Arbitration Association, those rules provide for the arbitrator to have the power to resolve arbitrability questions.

This decision should be compared to the long line of Delaware cases on arbitrability beginning with the Delaware Supreme Court decision in Willie Gary, highlighted on these pages here, that almost 13 years ago reached a similar result regarding questions of arbitrability. (Yours truly successfully argued that Willie Gary case.)

Words Prevail Over Conflicting Numbers in Contract

By Francis Pileggi on Posted in Chancery Court Updates

A recent Delaware Court of Chancery decision determined that “words” prevailed over “numbers” when they appear next to each other as contract terms in a manner that is inconsistent and contradictory. In Fetch Interactive Television, LLC v. Touchstream Technologies, Inc., C.A. No. 2017-0637-SG (Del. Ch. Jan. 2, 2019), the court described in extensive detail the claims and counterclaims between parties who had entered into licensing agreements and a sublicense for a patent, amid deteriorating personal and business relationships.

The most noteworthy aspect of this decision is the analysis by the court about how to interpret a deadline provision in the agreement that included a written word, spelling out a number, followed by a different number in parentheses, as follows: “fifteen (30).” Although there are other important aspects of the opinion, for purposes of this short blog post I focus on a provision discussed and analyzed at pages 52 through 55 of the slip opinion which provided that notice of an opportunity to cure a default must be provided, and that the default could be cured, according to the agreement: within “fifteen (30)” days . . ..

Legal Analysis:

After observing the obvious that the terms of the agreement were in conflict to the extent that  the written and numerical terms were contradictory, the court found after trial that the record was “devoid of evidence to resolve this ambiguity.”

The court referred to the Delaware version of the Uniform Commercial Code at 6 Del. C. Section 3-114 which provides that “words prevail over numbers.” See footnote 236.  The court applied that general rule to the facts of this case to give precedence to the written number.  The court reasoned that it’s less likely that a drafting error will occur in a written expression rather than in a numeric one. See pages 52 to 55.

The court also reasoned that the actual amount of time that was given to the opposing party to cure was consistent with the written number as opposed to the numeric representation of the number of days allowed.

An author of a treatise on contract drafting, Ken Adams, provided commentary on the case, and observed that even though the correct “general rule” was applied, this may be a case where principles of interpretation “don’t always work” as they are not infallible and not on the “level of scripture.”

N.B. This post was linked in the Bloomberg Money column by Matt Levine on Jan. 23, 2019.

14th Annual Review of Key Delaware Corporate and Commercial Decisions

By Francis Pileggi on Posted in Annual Review of Cases

For the 14th year, we provide a list of key Delaware corporate and commercial decisions from the prior year. This year, our list is co-authored by Chauna Abner in addition to yours truly, and appeared in the following article published in the Delaware Business Court Insider on January 2, 2019:

For the 14th year, we have created an annual list of important corporate and commercial decisions of the Delaware Supreme Court and the Delaware Court of Chancery. This list is not by any means a complete list of important decisions of the two courts that were rendered this year. Instead, this list includes notable decisions that should be of widespread relevance to those who work in the corporate and commercial litigation field or follow the latest developments in this area of Delaware law. Prior annual reviews are available at this hyperlink. This list focuses on the unsung heroes among the many decisions that have not already been widely discussed by the mainstream press or legal trade publications.

Delaware Supreme Court Decisions

  • Aranda v. Phillip Morris USA, 183 A.3d 1245 (Del. 2018).

This Supreme Court decision should be required reading for anyone who has a forum non conveniens issue in Delaware. The opinion provides an overview of the Delaware law on forum non conveniens and clarifies that even if it is a minority view among the 50 states, Delaware only requires that the trial court “consider” whether an alternative forum is available as part of its analysis, and whether an alternative forum is available is not a deciding factor. In its analysis, the court explores three general categories of forum non conveniens cases. A synopsis of the decision and a link to the full opinion is available at this hyperlink.

  • Eagle Force Holdings v. Campbell, 187 A.3d 1209 (Del. 2018).

For the first time, the Delaware Supreme Court clarifies the test to determine whether a contract’s terms are sufficiently definite to create an enforceable contract. Before setting forth the test, this opinion discusses the intent necessary for parties to be bound. This opinion also explains the three basic requirements for a valid contract and addresses the ancillary issue of whether the Court of Chancery could impose sanctions for violation of a court order prior to establishing that it had personal jurisdiction over the person who violated the order. A synopsis of the decision and a link to the full opinion is available at this hyperlink.

  • Morrison v. Berry, 191 A.3d 268 (Del. 2018).

In this opinion, Delaware’s highest court limits the application of the Corwin doctrine and prohibits the cleansing effect of stockholder approval, in part due to inadequate disclosures. The opinion also explains the various nuances of the board’s duty of disclosure to stockholders, describes the duty of candor owed by directors to each other, and provides a definition of materiality as well as an explanation of when an omitted fact is material. A synopsis of the decision and a link to the full opinion are available at this hyperlink.

  • Flood v. Synutra International, 2018 Del. LEXIS 460 (Del. Oct. 9, 2018).

In this opinion with a vigorous dissent, the Supreme Court clarifies the MFW standard that was announced in Kahn v. M&F Worldwide, 88 A.3d 635 (Del. 2014). The court explains whether the prerequisites that must be satisfied for the MFW standard to apply must be imposed as a condition of the deal at the absolute beginning of negotiations. The opinion also discusses whether due care violations were pleaded in the complaint. A synopsis of the decision and a link to the full opinion are available at this hyperlink.

Delaware Court of Chancery Decisions

  • KT4 Partners v. Palantir Technologies, 2018 Del. Ch. LEXIS 59 (Del. Ch. Feb. 22, 2018).

The Court of Chancery determined that a stockholder satisfied the prerequisites of Section 220 in this case to obtain certain corporate records. This 50-page decision can serve as a primer for the requirements of Section 220, to which judicial opinions have added prerequisites that are not found in the text of the statute. A synopsis of the decision and a link to the full opinion are available at this hyperlink.

  • Feldman v. YIDL Trust, 2018 Del. Ch. LEXIS 75 (Del. Ch. Mar. 5, 2018).

In this opinion, the Court of Chancery adds to the relatively modest body of case law interpreting Section 273 of the DGCL. The court applies Section 273 to dissolve a joint venture with two 50/50 stockholders that was deadlocked. This is analogous to a “no fault business divorce” but the remedy is discretionary and the court will not always grant dissolution. A synopsis of the decision and a link to the full opinion are available at this hyperlink. Shortly after the court issued its decision, the respondent moved for relief from the court’s entry of judgment and the court denied the motion. See Feldman v. YIDL Trust, 2018 Del. Ch. LEXIS 148 (Del. Ch. May 4, 2018).

  • PR Acquisitions v. Midland Funding, 2018 Del. Ch. LEXIS 137 (Del. Ch. Apr. 30, 2018).

This Chancery decision is notable for enforcing the provisions in an agreement that provided a procedure and a comparatively short deadline for making claims for funds held in escrow. This decision was in the context of notice being mistakenly sent to the escrow agent when the agreement required that notice be sent to the seller. A synopsis of the decision and a link to the full opinion are available at this hyperlink.

  • CBS v. National Amusements, 2018 Del. Ch. LEXIS 157 (Del. Ch. May 17, 2018).

In this high profile case, the Court of Chancery denies the request of CBS, a minority shareholder, for a TRO that sought to prevent the efforts of the Redstone family from exercising its voting control regarding a potential deal with Viacom. A synopsis of the decision and a link to the full opinion is available at this hyperlink.

  • Basho Technologies Holdco B v. Georgetown Basho Investors, 2018 Del. Ch. LEXIS 222 (Del. Ch. July 6, 2018).

This 126-page Court of Chancery opinion is a mini-treatise on the capacious capacity of the court to fashion creative and customized remedies when a breach of fiduciary duty is found. The opinion includes many key principles of Delaware corporate law and a description of different types of available remedies. A synopsis of the decision and a link to the full opinion is available at this hyperlink.

  • In Re Oxbow Carbon Unitholder Litigation, C.A. No. 12447-VCL (Del. Ch. Aug. 1, 2018).

In this opinion, the Court of Chancery provides the most comprehensive description of the broad and flexible authority of the Court of Chancery to fashion an appropriate customized equitable remedy in several decades. This decision should be treated as an indispensable reference for those involved in corporate or commercial litigation who might need to quote authoritative sources for the voluminous scope of the Court of Chancery’s flexible and customized equitable remedial powers. A synopsis of the decision and a link to the full opinion is available at this hyperlink.

  • Applied Energetics v. Farley, 2018 Del. Ch. LEXIS 277 (Del. Ch. Aug. 14, 2018).

This Court of Chancery opinion is a must read for litigators who need to know the finer points of how the amount for a requisite bond is determined for purposes of obtaining an injunction. The court found problems with both parties’ estimates and essentially engaged in an abbreviated analysis of the appropriate measure of potential damages based on the claims in the case. A synopsis of the decision and a link to the full opinion is available at this hyperlink.

  • Godden v. Franco, 2018 Del. Ch. LEXIS 283 (Del. Ch. Aug. 21, 2018).

In this opinion, the Court of Chancery explains several important principles that Delaware courts use to analyze issues in the LLC context, and interpretive rules involving LLC agreements. In doing so, the court provides a helpful analysis of the equitable powers of the court to fashion remedies in the context of an LLC—notwithstanding the often exaggerated explanation of LLCs as creatures of contract. In this vein, the court cites several exceptions to the concept of LLCs being purely a product of contract. A synopsis of the decision and a link to the full opinion are available at this hyperlink.

  • Akorn v. Fresenius Kabi AG, 2018 Del. Ch. LEXIS 325 (Oct. 1, 2018), aff’d, 2018 Del. LEXIS 548 (Del. Dec. 7, 2018).

This epic 246-page Court of Chancery opinion serves as a mini-treatise on several topics of importance to corporate and commercial litigators, including: interpretation of material adverse change clauses or material adverse effect clauses in merger agreements; and the meaning and application of the phrase “commercially reasonable efforts” or “reasonable best efforts” often found in merger agreements. A synopsis of the decision and a link to the full opinion are available at this hyperlink. Notably, the Supreme Court affirmed the decision in a three-page order in December.

  • Lexington Services v. U.S. Patent No. 8019807 Delegate, 2018 Del. Ch. LEXIS 509 (Del. Ch. Oct. 26, 2018).

In this opinion, the Court of Chancery recognizes that a non-signatory to an agreement may enforce the provisions of a forum-selection clause under certain conditions. In doing so, the court discusses two principles of well-established Delaware law: the general enforceability of forum-selection clauses in Delaware; and the ability of officers and directors of an entity subject to a forum-selection clause to invoke its benefits when they were closely involved in the creation of the entity and were being sued as a result of acts that directly implicated the negotiation of the agreement that led to the entity’s creation. A synopsis of the decision and a link to the full opinion are available at this hyperlink.

  • Decco U.S. Post-Harvest v. MirTech, 2018 Del. Ch. LEXIS 545 (Del. Ch. Nov. 28, 2018).

This Court of Chancery opinion adds to the modest body of Delaware case law that addresses whether an LLC should be dissolved based on the statutory standard that it is “not reasonably practicable” to carry on the LLC. The court explains that in determining the purpose for which an LLC was formed, it may not only look at the purpose-clause in the LLC’s operating agreement, but also to “other evidence … as long as the court is not asked to engage in speculation.” A synopsis of the decision and a link to the full opinion are available at this hyperlink.

  • Sciabacucchi v. Salzberg, C.A. No. 2017-0931-JTL (Del. Ch. Dec. 19, 2018).

This recent seminal decision of the Court of Chancery must be included in the lexicon of every lawyer who wants to understand the boundaries of Delaware law on forum-selection clauses in corporate documents. The court determined that a forum-selection clause in a certificate of incorporation was invalid and ineffective to the extent that it purported to “require any claim under the Securities Act of 1933 to be brought in federal court” (the “Federal-Forum Provisions”). A synopsis of this decision and a link to the full opinion are available at this hyperlink.

Francis G.X. Pileggi is a litigation partner and vice-chair of the commercial litigation practice group at Eckert Seamans Cherin & Mellott. Contact him at fpileggi@eckertseamans.com. He comments on key corporate and commercial decisions and legal ethics rulings at www.delawarelitigation.com.

Chauna A. Abner is an associate in the firm’s commercial litigation practice group.

Supplement: Prof. Stephen Bainbridge, a nationally-prominent corporate law scholar, kindly linked to this post and described it as: “a must read for anybody working in corporate law.”

The above post originally was published as an article, and is reprinted with permission from the Jan. 2, 2019 edition of the Delaware Business Court Insider(c). 2019 ALM Media Properties, LLC. All rights reserved.

Chancery Addresses “Commercially Reasonable Efforts” Standard

By Francis Pileggi on Posted in Chancery Court Updates

When the phrase “commercially reasonable efforts” appears as a standard of performance in contracts, it seems predetermined to generate litigation, and the recent Court of Chancery decision in Himawan v. Cephalon, Inc., C.A. No. 2018-0075-SG (Del. Ch. Dec. 28, 2018), supports that observation. Although the agreement in this case had a contractual definition for “commercially reasonable efforts”, prior Delaware decisions highlighted on these pages that discuss this phrase should be of relevance to anyone who needs to know what the Delaware cases say about this somewhat amorphous standard, and similarly-phrased “efforts clauses”.

Why this decision is noteworthy: The most notable aspect of this decision is its collection of Delaware cases interpreting various iterations of “efforts clauses”. See footnotes 83 to 85.

[By the way, as I write this on New Year’s Eve, I extend best wishes to all my readers for a Happy New Year!]

Brief overview: This case involved an earn-out dispute and a claim by the seller that it did not receive milestone payments pursuant to an earn-out provision because the buyer did not use commercially reasonable efforts to reach the milestones. The buyer was the pharmaceutical company Cephalon, but Teva Pharmaceuticals later bought Cephalon. The product at issue was an antibody that would allow an organism’s immune system to overcome disease-causing pathogens. As with new drugs, the process to bring antibodies to market is long, difficult and risky.

The earn-out in the merger agreement in this case was payable upon the meeting of certain milestones in the process of obtaining  approval by government agencies for the antibody to treat two different conditions. The buyer agreed to use “commercially reasonable efforts” to develop the antibody and achieve those milestones. The seller claims that the buyer did not comply with that efforts clause.

Key takeaways:

  • The Court provides an excellent collection of Delaware decisions that have wrestled with various permutations of “efforts clauses”. See footnotes 83 to 85 and accompanying text. The Court categorizes the collected decisions into the following groups, some of which are overlapping: (i) motions to dismiss (at the pleadings stage); (ii) post-trial decisions; (iii) post-merger decisions (often involving a related earn-out clause); and (iv) pre-merger decisions where the efforts clause applied to the satisfaction of a condition to closing.
  • The agreement involved in this case provided a contractual definition for “commercially reasonable efforts” as follows: “the exercise of such efforts and commitment of such resources by a company with substantially the same resources and expertise as [Cepahlon], with due regard to the nature of efforts and cost required for the undertaking at stake.”
  • The Court observed that the parties agreed that the foregoing is an “objective standard”, but the Court described the contractual definition as “inartfully” drafted and ambiguous. Also, in the context of denying a Motion to Dismiss this claim, the Court found that neither side offered a reasonable interpretation of this contract provision (as compared to another basis to deny an MTD: when both sides offer reasonable, but differing, interpretations.)
  • Based on Delaware’s version of Rule 12(b)(6)–which is not as stringent as the current Federal standard–the Court found that there was a “reasonably conceivable set of circumstances susceptible of proof” in which (allowing for factual issues at this early stage of the case), it could be shown that companies with similar resources and expertise as Cephalon are currently developing treatments for a similar antibody as the one at issue in this case.

Chancery Addresses Section 225 and Section 228 Issues

By Francis Pileggi on Posted in Chancery Court Updates

A recent Delaware Court of Chancery decision provides noteworthy rulings on the limited scope of a Section 225 summary proceeding regarding the proper composition of the board of directors, as well as the notice requirements for a written consent in lieu of a stockholders’ meeting pursuant to Section 228 of the Delaware General Corporation Law (DGCL). See Brown v. Kellar, C.A. No. 2018-0687-MTZ (Del. Ch. Dec. 21, 2018). Many Section 225 cases and Section 228 cases have been highlighted on these pages over the last 14 years.

Three Important Topics Addressed:

Although the factual details of this case are necessary to understand the holding that denied in part the motion for summary judgment, for purposes of the most widespread applicability for those involved in corporate litigation, I will highlight the key takeaways that include memorable statements of Delaware law on three important topics:

(1) the circumscribed scope of Section 225 summary proceedings;

(2) the impact of not providing prompt notice of a written consent of stockholders under Section 228; and

(3) the impact, if any, on the effectiveness of a Section 228 written consent if the notice requirements under Rule 14c-2 of the Securities Exchange Act of 1934 are not complied with—assuming full compliance with Section 228.

Brief Background:

This case involved a stockholder who brought an action to determine the composition of the board of directors pursuant to Section 225 of the DGCL.

Procedurally, the opinion addressed a motion for summary judgment to determine the proper members of the board. As often happens in these matters, there is a parallel plenary action that raises issues regarding a breach of fiduciary duty and which also seeks a declaratory judgment.

At the heart of the dispute is whether certain written consents in lieu of a stockholders’ meeting to remove an incumbent director, then to replace him with another director, was valid and effective upon delivery.  The counterargument was that the court should not grant summary judgment in order to allow it to consider issues of inequitable conduct that would allegedly void the written consents.

In addition to the issue of whether prompt notice under Section 228(e) of the DGCL was a condition precedent to effectiveness of the written consent under Section 228, another issue addressed is whether or not the notice requirements under Rule 14c-2 of the Securities Exchange Act of 1934 supersede the notice requirements under Section 228.

Key Takeaways

Section 225 Principles:

  • Whether or not an issue other than the proper composition of the board should be considered by the court in a summary Section 225 proceeding turns: “upon a determination of whether it is necessary to decide in order to determine the validity of the election . . . by which the defendant claims to hold office.” See footnotes 41 through 44 and accompanying text.
  • Although the summary nature of a Section 225 proceeding limits the scope of issues that will be addressed, Delaware courts “reject the notion that rigid, inflexible rules preclude this court from hearing anything but the narrowest arguments in Section 225 cases.”
  • Rather, the court may adjudicate a claim that a director does not validly hold corporate office because that director obtained the office through fraud, deceit, or breach of contract . . . but only for the limited purpose of determining the corporation’s de jure directors and officers. See footnote 40 and accompanying text.
  • Section 225 proceedings are in rem, meaning that the defendants “are before the court, not individually, but rather, as respondents being invited to litigate their claims in the res (the disputed corporate office) or be forever barred from doing so.” See footnote 39 and accompanying text.
  • Prior decisions by the Court of Chancery exemplify the ability of the court to review appropriate claims of inequitable conduct within the boundaries of a Section 225 case. See footnotes 47 through 49 and accompanying text.
  • The court will review issues “that could infect the composition of a company’s de jure directors and officers under Section 225, notwithstanding formal compliance with the voting procedures and requirements for those offices.” See footnotes 50-51 and accompanying text.
  • The court explained that it may consider the well-known principle announced in Schnell v. Chris-Craft Industries, 285 A.2d 437, 439 (Del. 1971), that “inequitable action does not become permissible simply because it is legally possible.” Schnell, 285 A.2d at 439.
  • The court reasoned that Schnell empowers the court in a Section 225 case to look at both technicalities and equities notwithstanding the relatively narrow scope of a Section 225 proceeding.
  • The “twice tested principle” of Delaware corporate law applies in 225 cases. That is, under Delaware law: “in every case, corporate action must be twice tested: first, by the technical rules having to do with the existence and proper exercise of the power; second, by equitable rules.” See footnote 52.

Section 228 Principles:

The court quoted from subsection (e) of Section 228 which requires prompt notice of the taking of corporate action by less than unanimous written consent of stockholders in lieu of a meeting. The sub-issue involved in this case was whether the absence of that notice under Section 228(e) prevents an otherwise valid written consent from taking effect. Based on the facts of this case, the court answered that question in the negative.

  • Section 228 unambiguously permits a majority of the stockholders of a corporation to act immediately and without prior notice to the minority. See footnotes 58-59.
  • Section 228(a) provides as a condition precedent that pursuant to Section 228(c) the consents must be “properly delivered” in order to be effective. See footnote 60 and accompanying text. In contrast, Section 228(e) does not make notice to the minority a condition precedent to an effective written consent.
  • Section 228(e) is not a condition precedent or a prerequisite to a corporate action by written consent but, the court explained that it is: “rather an additional obligation resulting from that corporate action.” See Slip op. at 23.
  • Nonetheless, the court emphasized that “prompt notice to the minority stockholders is of critical importance. Failure to provide that notice has, in unique circumstances, compelled the Court to deviate from the default rule that written consents are effective upon delivery.” Id.
  • The court referenced cases where egregious failure to provide that notice to non-consenting stockholders for several months resulted in the effectiveness under the default rule being delayed until notice requirement was remedied. See footnotes 65 through 71 and accompanying text.
  • The court found based on the facts of the instant matter that the foregoing “extreme” exception to the default rule was an applicable. Slip op. at 25.

Interface of Section 228 and Rule 14c-2 of the Exchange Act:

The court referred to other Delaware decisions that addressed the interfacing between Delaware corporate law requirements and Federal securities law and regulations.

  • The failed argument in this case was that Rule 14c-2 of the Securities Exchange Act of 1934 provided an independent notice requirement that precludes effective written consents until notice is given but “at the same time prevents [the company in this case] from giving that notice.” See footnotes 72 through 79 and accompanying text.
  • The court explained that the parties did not brief the issue of the jurisdiction of the Court of Chancery to interpret Rule 14c-2, but the court assumed without deciding that it could address the impact of that Rule on the validity of the written consents at issue in this case—based on Delaware law.
  • The parties also agreed that the Exchange Act Rules did not preempt Delaware law. See footnotes 79-80.
  • The court wrote that important policies underlying the Internal Affairs Doctrine suggest that the power of the state of incorporation should not be lightly overturned, but in any event the court held that its application of Section 228 to the written consents at issue “is not affected by Rule 14c-2.” Slip op. at 29.
  • The court reasoned that “even if Rule 14c-2 imposes a notice requirement beyond that found in Section 228, the Director Consents would still be effective under Delaware law. This court has consistently found that corporations cannot avoid their obligations under Delaware law, like holding annual meetings, by pointing to additional or reportedly conflicting obligations under Rule 14 of the Exchange Act.” See footnotes 81-82 for supporting case law.
  • The court observed a fundamental problem with the argument made by the Director Defendants as it relates to the interaction between federal law and Delaware law. The federal rule was meant to reinforce management accountability to stockholders and it cannot be used as a tool to indefinitely deprive stockholders of the franchise. See footnote 88. The Director Defendants in this case offer Rule 14c-2 as a basis to avoid giving stockholders notice, and the court rejected that argument.
  • The argument that Rule 14c-2 and Section 228 operate together to prevent the company from making any disclosure to the stockholders in this situation “stands the purpose of corporate and securities law on its head.” See footnote 91 and accompanying text.
  • Ultimately, the court found that it need not make a ruling on the substance of Rule 14c-2, because Rule 14c-2 did not “inform” its rulings on Section 228.

Rethinking the Board of Directors

By Francis Pileggi on Posted in Commentary

Professor Stephen Bainbridge is a nationally-recognized corporate law scholar whose prolific scholarship is often cited in Delaware court opinions. His recently published essay entitled: Rethinking the Board of Directors: Getting Outside the Box, is an introduction to a symposium about his latest book. It includes the following abstract:

Abstract

In our new book, Outsourcing the Board: How Board Service Providers Can Improve Corporate Governance, Todd Henderson and I change the conversation about corporate governance by examining the origins, roles, and performance of boards with a simple question in mind: why does the law require governance to be delivered through natural persons? Through tracing the development of boards from quasi-political bodies to the current ‘monitoring’ role, we find the reasons for this requirement to be wanting. Instead, we propose that corporations be permitted to hire other business associations—known as ‘Board Service Providers’ or BSPs—to provide governance services. Just as corporations hire law firms, accounting firms, and consulting firms, so too should they be permitted to hire governance firms, a small change that will dramatically increase board accountability and enable governance to be delivered more efficiently.

This essay will serve as the introduction to a forthcoming symposium about our book.

 

Chancery Rules on Limits of Forum-Selection Clauses in Corporate Documents

By Francis Pileggi on Posted in Chancery Court Updates

A recent seminal decision of the Delaware Court of Chancery must be included in the lexicon of every lawyer who wants to understand the boundaries of Delaware law on forum-selection clauses in corporate documents. In the case of Sciabacucchi v. Salzberg, C.A. No. 2017-0931-JTL (Del. Ch. Dec. 19, 2018), the Court determined that a forum-selection clause in a certificate of incorporation was invalid and ineffective to the extent that it purported to “require any claim under the Securities Act of 1933 to be brought in federal court” (the “Federal Forum Provisions”).

Why this Case is Noteworthy: The court reasoned in its holding that: “The constitutive documents of a Delaware corporation cannot bind a plaintiff to a particular forum when the claim does not involve rights or relationships that were established by or under Delaware’s corporate law.  In this case, the Federal Forum Provisions attempt to accomplish that feat.  They are therefore ineffective and invalid.”

Overview of Key Points:

This opinion is destined to form part of the bedrock of foundational Delaware corporate decisions and could rightly be the subject of a lengthy law review article, but for purposes of this quick blog post, I will merely highlight a few of the more notable excerpts in bullet points.

  • A substantial basis for the court’s reasoning was a prior decision from the Court of Chancery which upheld the validity of corporate bylaws that required claims based on the internal affairs doctrine and related claims to be brought exclusively in the Court of Chancery. That decision by the current Chief Justice of Delaware, writing at the time as the Chancellor, was Boilermakers Local 154 Retirement Fund v. Chevron Corp., 73 A.3d 934 (Del. Ch. June 25, 2018).
  • Although the Boilermakers case involved bylaws, the Sciabacucchi decision explained why that same reasoning applied to a certificate of incorporation which is governed by similar provisions in the Delaware General Corporation Law (DGCL). The court in Sciabacucchi explained that the reasoning in Boilermakers focused on the ability to enforce forum-selection clauses that related to the internal corporate matters of a Delaware corporation as opposed to external matters, such as claims arising under the Securities Act of 1933.
  • The Court buttressed its reasoning by referring to the codification of the Boilermakers decision, shortly after its publication, by means of the adoption of a new Section 115 of the DGCL. In connection with that new DGCL section, the Delaware General Assembly also passed new amendments to Sections 102 and 109 of the DGCL which prohibit fee-shifting provisions in the certificate of incorporation or bylaws particularly in connection with claims related to the internal affairs of a corporation as defined by DGCL Section 115.
  •  The Court’s reasoning was also supported by reference to what the court referred to as “first principles.” Those first principles included several basic tenets of corporate law such as the following: (i) Although the document filed with the state that gives rise to an artificial entity such as a corporation, and confers powers on it, is a contract, it is not an ordinary private contract among private actors; (ii) The certificate of incorporation is a multi-party contract that includes the State of Delaware. Unlike an ordinary contract, it also includes terms by reference that are imposed by the DGCL; (iii) Unlike an ordinary contract, a charter can only be amended to the extent that it complies with the DGCL; (iv) The DGCL specifies what provisions a charter may or may not include; and (v) Although the courts enforce both types of contracts, when enforcing relationships created by the corporate contract, the courts use an overlay of fiduciary duty. See pages 38 to 42 and footnotes 111 to 125.
  • A thorough analysis of the contours and policy behind the internal affairs doctrine is an important feature of this opinion. See, e.g., pages 41-46.

In sum, the court reasoned that the “constitutive documents of a Delaware corporation cannot bind the plaintiff to a particular forum when the claim does not involve rights or relationships that were established by or under Delaware’s corporate law.” The opinion provides extensive citations to substantial scholarship, case law and statutes.

Prof. Ann Lipton provides extensive insights in her blog post about this case with links to her articles on the topic. The good professor’s scholarship on this issue was also cited by the court in the above opinion.

Many cases have been highlighted on this blog regarding forum-selection clauses in private agreements. See, e.g., here and here. In some of the posts on these pages about cases involving forum-selection clauses, a graphic of the Roman Forum adds color as well as an etymological connection.

SUPPLEMENT: Professor Stephen Bainbridge, a prolific corporate law scholar, kindly links to this post on his blog.

Chancery Addresses When Extrinsic Evidence Allowed

By Francis Pileggi on Posted in Chancery Court Updates

A recent Court of Chancery decision explains when an agreement will be deemed ambiguous such that extrinsic evidence will be allowed, and related contract interpretation principles.

Key Issue Addressed:

The court, in Zayo Group, LLC v. Latisys Holdings, LLC, C.A. No. 12874-VCS (Del. Ch. Nov. 26, 2018), described the “real controversy” in the matter as one arising from the parties’ disagreement about what the contract regarding the sale of a company provided in connection with whether a disclosure was required when a customer “failed to renew” as opposed to “terminated” its status as a customer. 

Key Legal Principles Addressed:

·     The court explained when an agreement will be considered ambiguous such that extrinsic evidence will be permitted.  The court emphasized that a contract is not rendered ambiguous simply because the parties do not agree on its proper construction.  Rather a contract is ambiguous only when the provisions in controversy are “reasonably or fairly susceptible of different interpretations or may have two or more different meanings.” See pages 34 to 35.

·     The court described the types of extrinsic evidence that will help to inform the court regarding the intent of the parties based on an objective theory of contracts, e.g., usage of trade and course of dealings, as well as the drafts of the agreement leading to a final document and the negotiation history of the parties.  See pages 36 to 37.

·     The court observed that although a basic rule of contract construction is not to render terms of a contract superfluous, that rule doesn’t apply to synonyms–in this matter the court referred to various sources to interpret the definitions in this context of “terminate” and “cancel” to be essentially synonymous. 

·     The extrinsic evidence in this matter revealed that the parties did not intend to equate the terms “terminate or cancel” with “non-renewal” of customer agreements such that it required disclosure of those customers who chose “not to renew.”  See 37 to 39.

·     Two other points supported the court’s reasoning.  Prior drafts of the agreement showed that the buyer tried to include as part of required disclosures, those customers who “refused to renew” but the seller rejected that language and it did not appear in the final agreement.  The court also referred to the hoary concept of caveat emptor.  This made it incumbent on the buyer to be explicit and precise about what risk it was–or was not–assuming.

·     Regarding damages, the court explained “benefit of the bargain damages” when the value of a sold company is impaired by misrepresentations.  See page 45 and footnote 200.

·     In addition to failing to prove breach of contract, the plaintiff also failed to establish the minimum damages or “basket” that had to be met before the indemnification duty was triggered in this matter. 

Compare: recent decision in the Great Hill Equity matter, highlighted on these pages, which interpreted an indemnification clause which had a “cap”–as opposed to the provision in this indemnification clause in this matter which had a “minimum basket” that had to be met (filled) before any indemnification obligations were triggered.

Compare also: recent article by Bryan Garner in the ABA Journal that discusses what the famous wordsmith refers to as “contractual busts” or provisions in contracts that “make no literal sense at all.”

Supplement: Regarding the meaning of words in contracts, Professor Gordon Smith, Dean at the Brigham Young University Law School and the co-author of the well-read blog called Conglomerate, discusses in a recent post a new approach to researching the meaning of words and the use of words, especially as a word is used during different periods of time, called “Corpus Linguistics.” He refers in the above-linked post to a recent United States Supreme Court decision that appears to refer to this approach, and the BYU-developed database on which it is based called the Corpus of Historical American English.

Court Determines Scope of Release

By Francis Pileggi on Posted in Chancery Court Updates

The Delaware Court of Chancery recently resolved an issue about the scope of a release that was part of a settlement agreement. In Merging Europe Growth Fund, L.P. v. Figlus, C.A. No. 7936-VCMR (Del. Ch. Dec. 10, 2018), the court considered cross-motions to enforce a settlement agreement. One way to describe this case is “a dispute about whether there was a resolution of the dispute.”

Why This Case is Noteworthy: This decision deserves a place in the “virtual toolbox” of those engaged in corporate and commercial litigation because the court examines the parameters of a release when there is a dispute about whether or not certain claims or pending matters are covered.

Brief Background:

The parties in this case agreed to three basic terms of a settlement based only on the exchange of several emails—but no one formal document was executed by all the parties.

The key issue was which of the many lawsuits among the parties was covered by the mutual release provision of their settlement.

Key Takeaways:

  • The court recited the general legal principles applicable to releases and the typical scope of a release. See pages 9 and 10.
  • The court recited the familiar contract interpretation principle that when an agreement is ambiguous, extrinsic evidence is permitted to be considered as a means of determining the intent of the parties, such as, the history of negotiations, draft agreements, course of performance of the parties, and trade customs.
  • The court reasoned that if there was an intent to include in the release a lawsuit pending in the Ukraine in addition to the itemized Delaware lawsuits, that particular foreign litigation should have been expressly itemized as were the other pending cases.

Chancery Describes Minimum Standards of Attorney Conduct

By Francis Pileggi on Posted in Chancery Court Updates

The Delaware Court of Chancery recently had occasion to describe the important norms that lawyers are expected to follow, and the minimum standards of attorney conduct imposed on both Delaware and non-Delaware counsel who enter their appearance in a matter before the Court. See Lendus, LLC v. Goede, C.A. 2018-0233-SG (Del. Ch. Dec. 10, 2018).

This case is noteworthy for a few reasons. In addition to the recitation of basic principles on which the practice of law is based, the decision provides citations to authority and quotable excerpts for use in a brief when issues of attorney conduct arise. The behavior involved in this case was egregious, and it serves as a reminder of the outer limits of conduct that will not be tolerated, for example during depositions and during other interactions among counsel and clients.

This case also serves as a reminder that in Delaware the trial courts do not view themselves–in the first instance–as enforcers of all the rules of professional conduct for lawyers–unless a violation interferes with the administration of justice in the litigation–though they may, as in this case, refer the matter to the Office of Disciplinary Counsel, which is an arm of the Delaware Supreme Court, or the analogous agency in other states when the conduct of an non-Delaware attorney is an issue.

The court begins the opinion by citing another case that exhorts attorneys to: “think twice, three times, four times, perhaps even more” before seeking sanctions against other attorneys for inappropriate conduct. Both parties in this case filed cross-motions for sanctions, but the court found only one of them to be warranted.

The court emphasizes in its introduction that it derives no pleasure in criticizing others because judges understand the “pressures and frustrations of practice.” The court also referred to members of the bench as not being above reproach, with the following phrase: “None of our own eyes being timber-free….” See page 2.

In sum, without dwelling on the embarrassing details, if an attorney’s conduct is truly egregious enough, this decision provides the authority and reasoning to address the problem, especially if that attorney is admitted pro hac vice.

Compare: Recent Chancery decision highlighted on these pages that explained why it was important for lawyers to follow the rules applicable to discovery, as well as abiding by related deadlines.

LexBlog