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 recently endorsed a ruling that invalidated a fired QLess Inc. CEO’s “boardroom coup” because he violated his fiduciary duty by using affirmative deception to regain his position and corporate control–even though he did nothing technically illegal in an “ambush” directors’ meeting, in Bäcker, et al. v.Palisades Growth Cap. II, L.P., No. 156, 2020 opinion issued (Del. Supr. Jan. 15, 2021).
The high court’s en banc opinion rejected an appeal by ex-CEO Alex Bäcker and his director appointee father Riccardo of a Chancery Court decision that they had misused a temporary 2-1 board majority created by recent director resignations to unfaithfully trick their way to power.
The Supreme Court’s opinion is noteworthy for its unanimous rulings that:
- The Chancery Court’s finding of affirmative deception was not clearly erroneous.
- The Court of Chancery did not impose an equitable notice requirement for regular board meetings.
- Appellants failed to properly raise an equitable participation defense in the Chancery Court, and
- The Court of Chancery did not exercise its equitable powers to grant relief for a de facto breach of contract claim because there was a viable, separate breach of duty charge.
In 2009, Appellant Alex Bäcker co-founded QLess Inc., a privately held Delaware corporation headquartered in California that produces and licenses a virtual queue management system that reduces the time retail customers must wait in line for services. He served as CEO for ten years until forced out in 2019 amid employee charges that he created a toxic work environment.
But the court record said he remained the majority common stock shareholder with the power to name two directors to a five-member board and when two directors of that board unexpectedly resigned before a November 2019 board meeting, he seized an opportunity to hijack the appointment of new CEO/director Kevin Grauman.
At the beginning of that board meeting, before the installation of Grauman as a director, Alex and his father held a 2-1 majority and suddenly sprung a surprise agenda on the board, voting to fire Grauman and restore Alex as CEO. They were able to accomplish this coup by deceiving the third director into believing they supported Grauman.
The Chancery Court ruling
Palisades Growth Capital II, L.P., the majority holder of QLess preferred stock, filed suit asking the Chancery Court to invalidate Bäcker’s actions and after a paper trial, the court found the defendants breached their fiduciary duties as QLess directors. The court found that the Bäckers affirmatively deceived Palisades director appointee Jeff Anderson–the third director–into attending the November meeting, creating the necessary quorum. Palisades Growth Cap. II, L.P. v. Bäcker, 2020 WL 1503218 (Del. Ch. Mar. 26, 2020).
“After having affirmatively represented to [the board] that Defendants supported Grauman’s appointment to the Board, keeping mum as they planned their ambush was inequitable,” the Chancery Court said.
On appeal, the Bäckers argued that the Court of Chancery erred by relying on clearly erroneous interpretations of evidence and applying incorrect legal standards to invalidate the actions that the Bäckers took at the November 15 board meeting.
Writing for the unanimous high court, Justice Tamika Montgomery Reeves said, “‘Whether . . . an equitable remedy exists or is applied using the correct standards is an issue of law and reviewed de novo,’ but . . . ‘application of those facts to the correct legal standards . . . are reviewed for an abuse of discretion.’”
The finding that the Bäckers deceived Anderson was not clearly erroneous
At bottom, the determination of whether the Bäckers’ conduct was deceptive was a factual one, the Justice wrote. “Unlike the mixed questions of fact and law that the Bäckers identify, the court did not need to consider legal principles to determine whether the Bäckers tricked Anderson.”
The finding of affirmative deception was not clearly erroneous
This Court has long recognized that “inequitable action does not become permissible simply because it is legally possible,” the high court held. “Under Delaware law, “director action[s] [are] ‘twice-tested,’ first for legal authorization, and second [for] equity.” That’s why stockholders can entrust directors with broad legal authority precisely – “because they know that that authority must be exercised consistently with principles of fiduciary duty.”
Anderson’s attendance and actions at the meeting not preclude equitable relief
“Nothing in the case law that the Bäckers present suggests that Delaware law tolerates deception related to regular board meetings, and we can think of no good reason why deception would be allowed for regular board meetings, but forbidden for special board meetings,” the Justices said.
No extracontractual relief was provided under the voting agreement
The Bäckers argued that If the fiduciary claims relate to obligations that are expressly treated’ by contract, then the court must review those claims as breach of contract claims and any fiduciary duty claims will be dismissed. But the justices said, “This bootstrapping case law only requires dismissal where a fiduciary duty claim wholly overlaps with a concurrent breach of contract claim,” and that is not the case in this matter.