An associate in the Delaware office of Eckert Seamans prepared this overview.
The Delaware Court of Chancery recently granted a motion to dismiss based on an application of the business judgment rule, and a motion to recover damages based on the earlier grant of an injunction later determined to have been improvidently granted. This case stems from a merger between C&J Energy Services, Inc. (“C&J”) and its subsidiary Nabors Industries Ltd. (“Nabors”). City of Miami General Employees’ & Sanitation Employees’ Retirement Trust v. Comstock, et al., C.A. No. 9980-CB (Del. Ch. Aug. 24, 2016)
Background: Plaintiffs originally sued to block the merger and were issued a preliminary injunction by the court, but that decision was reversed by the Delaware Supreme Court. That decision was highlighted on these pages.
Following the Delaware Supreme Court’s decision, the transaction was approved by 97.66% of the stockholders who voted, or 81.73% of the outstanding shares.
With overwhelming stockholder approval, the transaction closed and the two entities merged. Seven months following the close, Plaintiffs filed an amended complaint alleging breaches of fiduciary duties against members of the C&J board and certain C&J officers for entering into the transaction with Nabors. The amended complaint also alleged, for the first time, various disclosures that were distributed to the C&J stockholders prior to the merger were deficient. Finally, Plaintiffs alleged that Morgan Stanley & Co., who served as the financial advisor for the special committee that ran the solicitation process, aided and abetted those breaches of fiduciary duties.
Defendants filed a motion to dismiss for Plaintiffs’ failure to state a case and a motion to recover damages in the amount of approximately $542,000. The court granted both motions.
Analysis: The court began its analysis with the seven theories alleged under the disclosure allegations. The court noted that material information must be disclosed to stockholders, but ultimately held that the alleged inadequacies in the disclosure documents would not have significantly impacted the “total mix” of available information. The court noted that despite having filed a pre-merger action, Plaintiffs waited until after the closing to challenge the disclosure—thus precluding any possible remedy through additional disclosures. However, instead of dismissing this claim under the doctrine of laches, the court evaluated the claim on the merits pursuant to Corwin v. KKR Financial Holdings, LLC.
The court rejected Plaintiffs’ claim that the proxy contained false information regarding the company’s post-merger EBITDA. The court found that the amended complaint failed to plead facts that the C&J CEO’s concession to pay a higher EBITDA multiple if the EBITDA forecast declined and that this concession resulted in the CEO’s willingness to stretch the EBITDA multiple in order to achieve a higher valuation.
Next, the court rejected Plaintiffs’ argument that the disclosures should have stated that the $445 million EBITDA estimate was management’s “upside case.” The court stated that such an assertion could not be squared with the Supreme Court’s review of the preliminary injunction. The “upside case” language was used as a negotiation tactic, not a projection by C&J management.
Plaintiffs also challenged the Nabors disclosures of the post-closing company’s EBITDA forecast. The court again rejected this claim because although the amended complaint alleged that Nabors numbers were incorrect, it did not state that C&J was aware of the inaccuracies or relied on numbers other than those provided by Nabors.
Next, Plaintiffs alleged that the disclosures should have included a synergy tax from a fictitious $1 billion intra-company loan. However, this was rejected because the Plaintiffs did not allege that the loan or tax benefits were would fail to produce the expected tax synergies.
Fourth, Plaintiffs claimed that the disclosures should have included information about a statement the C&J CEO made that he would refuse to sign the merger agreement if he and his team were not guaranteed future employment. This too was rejected because the proxy stated that C&J’s management team and Nabors would finalize the terms of the of their proposed employment arrangements.
Next, Plaintiffs claimed that Citi Group Global Markets Inc. breached its own conflicts policy by providing deal financing and advice and that information should have been disclosed. The court found that this information was indeed included in the proxy in a way that gave sufficient notice to a stockholder.
Sixth, Plaintiffs argued that other potential bidders should have been made known to stockholders. However, the disclosures did state that alternative bidders were not likely to produce a superior proposal than that received by Nabors. The court found that this was enough and the details of the other bidders were superfluous
Finally, Plaintiffs asserted that information concerning Morgan Stanley & Co.’s independence as the special committee’s financial advisor should have been included. However, the court again rejected this claim because the solicitation process became null upon the Supreme Court’s reversal of the injunction.
BJR and Fiduciary Duty Claims: Next, the court addressed the claims of breaches of fiduciary duties and ultimately applied the business judgment rule to review the transaction.
First, the court rejected Plaintiffs’ claim that a majority of the C&J board was conflicted. The board consisted of seven members, four of whom stood to be nominated to the surviving company’s board. However, this was not enough to hold that the members were interested in the transaction because, as the court noted, it would require the members to give up their current positions for the prospect of getting another.
The court also found that complaint failed to properly allege that C&J’s CEO deceived the board. Although the CEO stood to receive a lucrative employment contract, there was no evidence that this contract was a material increase from his existing ones or that his position was in danger. Furthermore, the CEO’s large equity stake helped to align his interests with those of the stockholders.
The court then held that the remainder of the fiduciary duties claims should be dismissed, which were centered on the level of reasonableness and care the board took in approving the merger. The court noted that the claims could have survived under a Revlon standard; however, that is not the standard for a post-closing action for damages that was approved by a majority of independent stockholders. Also any claim for aiding and abetting a breach of fiduciary duties cannot survive when the underlying claims of breach have not survived.
Finally, the court granted damages to Defendants in the amount of $542,087.89 as a result of a wrongful injunction because Plaintiffs were unable to state a claim for breach of fiduciary duties or to support a finding of bad faith.