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 Supreme Court has affirmed the dismissal of a shareholder’s suit against Uber Technologies Inc.’s directors who approved their CEO’s “flawed” purchase of a self-driving car developer run by ex-Google employees, because the plaintiff failed to first give his board an opportunity to take up the charges, or make a “pre-suit demand”, in McElrath v. Kalanick, et al., No. 181, 2019, opinion (Del. Jan. 13, 2020).
Chief Justice Collins J. Seitz Jr.’s January 13 opinion said even if the directors knew of a “high risk” that Ottomotto LLC founder Anthony Levandowski pirated Google’s autonomous vehicle project information, the court’s only job at this stage of a derivative action was to decide whether a pre-suit demand was required, or if pre-suit demand was excused as futile. The plaintiff said it would have been futile to make a demand on the ride-hailing company’s conflicted board.
On behalf of a three-justice panel, the Chief Justice agreed with Vice Chancellor Sam Glasscock’s April Chancery Court decision that the board was sufficiently independent and objective to fairly review plaintiff Lenza H. McElrath III’s claim that the directors’ disloyally caved in to the Uber CEO’s ill-fated 2016 deal decision. McElrath III v. Kalanick, et al. No. 2017-0888-SG, 2019 WL 1430210 (Del. Ch. April 1, 2019).
Applying the Rales test
The high court applied its seminal demand futility test articulated in Rales v. Blasband, finding at least six of Uber’s eleven directors were not beholden to CEO and board chairman Travis Kalanick and faced no personal liability because no bad faith charges were strong enough to overcome Uber’s exculpatory by-law. Rales v. Blasband, 634 A.2d 927, 934 (Del. 1993).
According to the suit, because the board failed to do its due diligence homework, Uber’s stock value took a hit when it had to fire Levandowski and pay Google stock worth $245 million to settle its 2017 misappropriation charges after the discovery that Ottomotto misused Google’s proprietary information.
The plaintiff charged that Kalanick pushed the board to approve the Ottomotto transaction and failed to give the directors the details of Uber’s computer forensic investigation firm’s probe into whether Ottomotto employees took Google business secrets with them when they left.
However Chief Justice Seitz said whether or not the Uber directors were fully informed of the investigation’s progress or findings, the board “discussed the risk of Google suing, the critical nature of their diligence and the details of the indemnification provision” of the purchase.
The directors displayed enough involvement in the details and process of the transaction to combat allegations that they breached their duty by rubberstamping it, the Chief Justice said.
Merger not rubberstamped
There are no particularized pleadings that the directors acted with scienter, meaning they had “actual or constructive knowledge that their conduct was legally improper” the appellate panel said.
It said, pleading bad faith is a difficult task that requires “that a director acted inconsistent with his fiduciary duties” and “knew he was so acting,” so gross negligence without more, “is insufficient to get out from under the exculpated breach of duty of care.”
The panel said since due care violations are exculpated by Uber’s charter, “it is not enough to allege that the directors should have been better informed.”
Not like Disney
It found this case is easily distinguished from In re Walt Disney Co. Derivative Litigation, where “the defendant directors consciously and intentionally disregarded their responsibilities.” In re Walt Disney Co. Derivative Litig., 906 A. 2d 27, 64, 66 (Del. 2006).
Here, by contrast, the Uber directors considered the risks and proceeded with the transaction anyway, underscoring the “vast difference between an inadequate or flawed effort to carry out fiduciary duties and a conscious disregard for those duties,” the justices said, quoting Lyondell Chem Co. v. Ryan. Lyondell Chem Co. v. Ryan, 970 A. 2d 235, 243 (Del. 2009).
In regard to both the merger approval and the IP misappropriation probe, the panel said “we agree with the Court of Chancery that the plaintiff has not “sufficiently pleaded that the directors knew intellectual property misappropriation was not simply a risk, but was actually Kalanick’s goal” and that the directors “closed their eyes to evidence of IP misappropriation.”
The high court essentially agreed with Vice Chancellor Glasscock’s decision that the Uber directors did not face liability for failing to recognize that Kalanick’s shady past and Ottomotto entanglement made him a self-evident danger, like the scorpion that self-destructively stung the frog ferrying him across the river in the famous fable the vice chancellor’s opinion referenced.