Pfeffer v. Redstone, (Del. Supr., Jan. 23, 2009), read opinion here. We are fortunate to have a review of this recent Supreme Court decision by nationally-prominent Delaware lawyer Kevin Brady.
The Delaware Supreme Court in this decision affirmed the Chancery Court’s dismissal of claims pursuant to Rule 12(b)(6) against Sumner Redstone and others, in connection with a transaction involving Viacom and Blockbuster, based on duties of disclosure, loyalty and care. The trial court’s opinion was summarized here.
Plaintiff Beverly Pfeffer had filed a class action against the directors of Viacom (including Sumner Redstone, Chairman and CEO of Viacom), Blockbuster, National Amusements, Inc. (“NAI”) (the controlling stockholder of Viacom) and CBS Corporation in alleging that, in connection with two transactions (a special dividend and an exchange offer), the Viacom Board had breached their fiduciary duties of disclosure, loyalty, and care and that NAI had breached its duty of loyalty by making false statements or material omissions in documents distributed before an October 2004 exchange offer. Chief Justice Steele, writing for the Court, affirmed Vice Chancellor Lamb’s February 1, 2008 decision that the plaintiff had failed to show that the alleged disclosure violations were material.
By way of background, Sumner Redstone owned a controlling interest in NAI, which owned a controlling interest in Viacom, which in turn owned a controlling interest in Blockbuster. In February 2004, Viacom announced that it intended to spin off 81.5% of its interest in Blockbuster and as part of its divestiture plans it proposed two transactions: (i) a special $5 dividend paid to Blockbuster (the Special Dividend); and (ii) a offer to Viacom stockholders to exchange their Viacom stock for Blockbuster stock (the Exchange Offer).
In September 2004, Viacom issued a press release disclosing the terms of the voluntary Exchange Offer. A Prospectus later released disclosed that: (i) NAI would not participate in the Exchange Offer; (ii) there were several potential risks associated with the acquiring Blockbuster stock, including Blockbuster’s potential ability to operate with increased debt imposed by the Special Dividend; (iii) a special committee comprised of three independent directors had recommended that the entire Blockbuster Board approve the Special Dividend and the Exchange Offer; (iv) the special committee had approved the final terms of the divestiture; and (v) neither Viacom nor Blockbuster made a recommendation to stockholders about the Exchange Offer. After the Exchange Offer, Blockbuster struggled to remain profitable and eventually it had to restate its reported cash flows for years 2003 through 2005. Thereafter, plaintiff brought a class action on behalf of all former Viacom shareholders who tendered their shares in the exchange offer.
Plaintiff alleged that the Special Dividend and the Exchange Offer should be subject to entire fairness scrutiny because NAI, as the controlling stockholder of Viacom, put its interests over those of the minority shareholders and it stood on both sides of the transaction. The Supreme Court agreed with the Chancery Court in finding that the Viacom Directors had structured the deal noncoercively and had disclosed all material facts. While the Exchange Offer was made to the minority shareholders, the Board did not recommend in the Prospectus that those stockholders exchange their shares. Moreover, the Exchange Offer was voluntary and the Prospectus disclosed that NAI was not going to participate.
Plaintiff also claimed that the Viacom Directors breached their duty of disclosure in a several instances regarding: (i) Blockbuster’s operational cash flow problems: (ii) that the Viacom Board “knew or should have known” of the Blockbuster operational cash flow problems and that the divestiture would leave Blockbuster unable to meet its financial obligations: and (iii) the exchange ratio methodology and the composition of the special committee. The Supreme Court agreed with the Chancery Court that the plaintiff had failed to meet her burden.
The Supreme Court found that the Plaintiff failed to allege: (i) any basis by which the alleged reclassification of Blockbuster’s cash flow affected Blockbuster’s “earnings, total cash flow, net income or any other accounting measure;” (ii) that anyone relied on the cash flow analysis that led to the reclassification or that the announced restatement caused a market price decline for Blockbuster’s stock; (iii) that the cash flow analysis performed by a midlevel treasury manager of a subsidiary corporation would be routinely available to the Viacom directors.
With respect to the issue about disclosure of the exchange ratio, the Supreme Court agreed with Vice Chancellor Lamb’s analysis that Viacom’s method for deriving the ratio was not material because the Viacom directors did not represent that the price was fair nor recommended that the minority shareholders participate. Finally with respect to the issue of the disclosure of the composition of the special committee, the Supreme Court determined that a single reference to the special committee in the Prospectus was not material because the Prospectus did not suggest that the committee had decided anything more significant than what the full board could have decided. As the result, the dismissal of the disclosure claims was affirmed.
Lastly, notable for its likelihood to be of broad interest, is concluding footnote 52 that refers to the duties of majority shareholders, depending on whether they use their majority ownership to direct the actions of the corporation.