Delaware Supreme Court won’t restart Uber investor suit over self-driving car company deal

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.

15th Annual Review of Key Delaware Corporate and Commercial Decisions

The following article is reprinted with permission from the Jan. 15, 2020 edition of “The Delaware Business Court Insider”, (c) 2020 ALM Media Properties, LLC. All rights reserved.

By: Francis G.X. Pileggi and Chauna A. Abner

This is the 15th year that Francis Pileggi and various co-authors have created an annual list of important corporate and commercial decisions of the Delaware Supreme Court and the Delaware Court of Chancery. This list does not attempt to include all important decisions of those two courts that were rendered in 2019. Instead, this list highlights notable decisions that should be of widespread interest to those who work in the corporate and commercial litigation field or who follow the latest developments in this area of Delaware law. Prior annual reviews are available at this hyperlink.

This list focuses, with some exceptions, on the unsung heroes among the many decisions that have not already been widely discussed by the mainstream press or legal trade publications. Links are also provided below to the actual court decisions and longer summaries.


Company Required to Produce Emails Among Management to Stockholders

The Delaware Supreme Court recently issued an opinion that clarifies the duty of a company to produce emails among its management in a Section 220 case. In KT4 Partners LLC v. Palantir Technologies, Inc., Del. Supr., No. 281, 2018 (Jan. 29, 2019), Delaware’s high court addressed a demand under Delaware General Corporation Law (DGCL) Section 220 by a stockholder for corporate books and records, including emails and electronically-stored information (ESI) among management, to allow the stockholder to investigate possible wrongdoing, such as the reasons behind amendments to an Investors’ Rights Agreement that severely reduced the original rights granted under that agreement. This opinion quoted from a law review article co-authored by Francis Pileggi on the intersection of DGCL Section 220 and ESI.

Supreme Court Explains the Implied Covenant of Good Faith and Fair Dealing

A recent Delaware Supreme Court decision is must-reading for those who need to know the latest iteration of Delaware law on the implied covenant of good faith and fair dealing. In Oxbow Carbon & Minerals Holdings, Inc. v. Crestview-Oxbow Acquisition, LLC, Del. Supr. No. 536, 2018 (Jan. 17, 2019), Delaware’s High Court provided the latest articulation of Delaware law on the multi-faceted doctrine of the implied covenant of good faith and fairing dealing. In connection with affirming in part and reversing in part a 176-page trial court opinion, which was highlighted on these pages, the Supreme Court agreed with the analysis of the trial court’s correct reading of the plain meaning of the LLC agreement at issue, but disagreed with the application by the trial court of the implied covenant.

Delaware Supreme Court Clarifies Ab Initio Requirement for BJR Review

The Delaware Supreme Court recently clarified the “ab initio” requirement announced in Kahn v. M&F Worldwide Corp. case as part of the set of standards that would allow for the BJR standard to apply to a challenged merger. See Olenik v. Lodzinski, No. 392, 2018 (Del. Supr., rev. April 11, 2019).  The High Court determined that the requirement was not satisfied based on the facts of the instant case because the “economic bargaining took place prior to the date” when the protections announced in the Kahn v. M&F Worldwide Corp. case needed to be in place.

Much commentary has already been written about this case, so a lengthy summary is not provided here, but I refer to prior decisions that have applied the ab initio requirement, for background purposes, as noted on these pages.

Delaware Supreme Court Clarifies Appraisal Law

The Delaware Supreme Court, in a per curiam decision, recently determined that “deal price less synergies” was the appropriate determination of fair value in the appraisal action before it.  In Verition Partners Master Fund Ltd. v. Aruba Networks, Inc., C.A. No. 11448-VCL (Del. Apr. 16, 2019), the Court reversed the Court of Chancery’s holding that “unaffected market price” was the fair value on the date of the merger. This case is the third in a recent trilogy of precedent-setting Delaware appraisal cases, preceded by DFC Global Corp. v. Muirfield Value Partners, L.P., 172 A.3d 346 (Del. 2017) and Dell, Inc. v. Magnetar Global Event Driven Master Fund Ltd, 177 A.3d 1 (Del. 2017).  This case has been the subject of extensive commentary by scholars and practitioners.

Delaware Supreme Court Addresses Independence of Directors

In Marchand v. Barnhil, CA. No. 2017-0586-JRS (Del. Ch. June 18, 2019), the Delaware Supreme Court addressed the meaning of the words “independence” and “disinterestedness” in the context of adequately pleading pre-suit demand futility as a prerequisite for pursuing a derivative claim against corporate directors. The court reversed the Court of Chancery’s dismissal of the case for failure to establish demand futility. This issue is one of the most nuanced and challenging in Delaware corporate litigation as indicated by the disagreement on the outcome among the experienced jurists deciding this case.

Delaware Supreme Court Instructs on Standards of Deposition Conduct

A recent Delaware Supreme Court opinion provides a tutorial on the standards imposed on Delaware lawyers when a deponent, who is the lawyer’s client, engages in inappropriate conduct during a deposition. In Shorenstein Hays-Nederland Theaters LLC Appeals, Nos. 596, 2018 and 620-2018 (Del. June 20, 2019), Delaware’s High Court issued its first decision on this specific issue, as compared to the rather abundant guidance that has existed for many years regarding the consequences when lawyers themselves engage in errant conduct during a deposition.

Confidentiality Agreement Not Always Required for Section 220 Demands

For the first time, the Delaware Supreme Court decided that in a lawsuit in which a stockholder demands corporate books and records pursuant to Section 220 of the Delaware General Corporation Law, although it is typical to condition the production of records on entering into a confidentiality agreement, that the statute does not strictly require such a condition for production. The court also explained in Tiger v. Boast Apparel, Inc., No. 23, 2019 (Del. Aug. 7, 2019), that a party need not show exigent circumstances for a court to grant something less than indefinite confidentiality, and the inspection of records pursuant to Section 220 is not subject to a presumption of confidentiality.


Chancery Clarifies Director’s Right to Corporate Records

A recent Delaware Court of Chancery decision addressed the important issue of the right of directors to be given access to corporate records. In Schnatter v. Papa John’s International, Inc., C.A. No. 2018-0542-AGB (Del. Ch. Jan. 15, 2019), Delaware’s court of equity considered a claim under Section 220(d) of the Delaware General Corporation Law (DGCL) by the founder and largest stockholder of the Papa John’s pizza chain who was forced out as the CEO but retained his position as a director.  He sought to obtain books and records in his capacity as a director to support an investigation that the other directors breached their fiduciary duties by improperly ousting him for unjustified reasons.

Chancery Finds Usurpation of Corporate Opportunity

Delaware case law is well-established regarding the aspect of the fiduciary duty of loyalty that prohibits a corporate director from usurping a corporate opportunity. A recent decision from the Delaware Court of Chancery applies that well-settled prohibition in a flexible manner to a set of facts that have apparently not been squarely addressed in prior precedent.  In Personal Touch Holding Corp. v. Glaubach, C.A. No. 11199-CB (Del. Ch. Feb. 25, 2019), the court awarded damages for the breach of this subset of fiduciary duty, as well as for other breaches of fiduciary duty.

Chancery Applies Corporate Advancement Case Law to LLC Context

A recent Delaware Court of Chancery decision interpreted the advancement provisions of an LLC Agreement by applying case law interpreting DGCL Section 145 in the corporate context.  In Freeman Family LLC v. Park Avenue Landing LLC, C.A. No. 2018-0683-TMR (Del. Ch. Apr. 30, 2019), the court reviewed the applicability of “defined phrases” that are familiar prerequisites for advancement in the corporate context pursuant to DGCL Section 145, and analyzed that same language that was used in an LLC agreement provision granting advancement.

Chancery Instructs on DGCL Merger Requirements

A recent Delaware Court of Chancery opinion began by describing the complaint as reading like a law school exam designed to test the knowledge of a student regarding the requirements in the DGCL that must be satisfied in connection with a merger, and the court commented that the company would not have done well on the exam.

In Mehta v. Mobile Posse, Inc., C.A. No. 2018-0355-KSJM (Del. Ch. May 8, 2019), the court identified the six primary issues in this case as follows:

(1) Whether DGCL Section 262 was not complied with in connection with the failure to notify stockholders of their appraisal rights within the required timeframe;

(2) Whether DGCL Section 228 was not complied with due to the failure to send prompt notice of the written stockholder consents;

(3) Whether the merger agreement, or documents it incorporates, failed to comply with DGCL Section 251 by not including the amount of cash the preferred stockholders would receive for their shares;

(4) Whether the stockholder consents did not enjoy the ratifying effect under DGCL Section 144;

(5)  Whether the director defendants breached their fiduciary duty of disclosure; and

(6) Whether the director defendants breached the fiduciary duty of loyalty because the merger was a self-dealing transaction and not entirely fair.  With one small exception, the court found that the statutory violations were sufficiently established at the early procedural stage of a motion for judgment on the pleadings.

Chancery Grants Advancement on Counterclaims

A recent decision of the Delaware Court of Chancery clarifies those instances where a defensive counterclaim against a former officer and director may be covered by advancement rights. In a bench ruling in Dodelson v. AC Hold Co., Inc., C.A. No. 2019-009-SG (Transcript) (Del. Ch. May 21, 2019), the court interpreted the charter provision that included within the coverage for “indemnified parties” both former directors and officers. Notably, bench rulings may be cited as authority in briefs before the Delaware Court of Chancery.

Chancery Orders Mandatory Indemnification per DGCL Section 145(c)

The recent Delaware Court of Chancery decision in Brown v. Rite Aid Corporation, C.A. No. 2017-0480-MTZ (Del. Ch. May 24, 2019), clarified the perennial issue of how the word “success” is defined for purposes of mandatory indemnification under Section 145(c) of the Delaware General Corporation Law–even if all of the arguments in the underlying litigation were not successful.

Chancery Determines Valid LLC Managers; Rejects Bump-Out Theory of Board Replacements

The Delaware Court of Chancery left no doubt in a recent ruling that the “bump-out theory” of replacing LLC managers is not recognized in Delaware. In Llamas v. Titus, C.A. No. 2018-0516-JTL (Del. Ch. June 18, 2019), the court explained that incumbent managers need to be removed before their replacements can validly “take their seats.” The court interpreted the counterpart to DGCL Section 225, which is Section 18-110(a) of the Delaware LLC Act.

Advancement Granted for Post-Termination Use of Confidential Information

A recent Delaware Court of Chancery opinion in Ephrat v. medCPU, Inc., C.A. No. 2018-0052-MTZ (Del. Ch. June 26, 2019), will remain a noteworthy decision for two reasons: (1) It provides and anthology of prior Delaware decisions granting advancement to former directors or officers that defend claims regarding the use of confidential information acquired in a prior corporate capacity; and (2) It adds nuance to the existing abundant case law interpreting the threshold phrase “by reason of the fact,” which is one of the statutory prerequisites that must be satisfied for advancement claims to prevail pursuant to DGCL Section 145.

Chancery Addresses Personal Jurisdiction Over Co-Conspirator

In Clark v. Davenport, C.A. No. 2017-0839-JTL (Del. Ch. July 18, 2019), the court provided a noteworthy explanation of the important nuances that need to be understood when personal jurisdiction is contested, and this opinion provides an excellent analysis of the requirements for opposing personal jurisdiction based on the Delaware Long Arm Statute.

Fully-Executed Contract Ruled Unenforceable

In Kotler v. Shipman Associates, LLC, C.A. No. 2017-0457-JRS (Del. Ch. Aug. 21, 2019), the Delaware Court of Chancery issued an opinion that should be read by all lawyers who seek to avoid the risk of a fully-executed contract being ruled unenforceable due to a court later finding, perhaps surprisingly, that the agreement did not accurately express the understanding of the parties.

Chancery Explains Step-Transaction Doctrine and Defines “Affiliate”

An important concept known as the step-transaction doctrine, which treats the agreements in a series of formally separate but related transactions involving the transfer of property as a single transaction if all the steps are substantially linked, was explained in the recent Delaware Court of Chancery opinion in PWP Xerion Holdings III LLC v. Redleaf Resources, Inc., C.A. No. 2017-0235-JTL (Del. Ch. Oct. 23, 2019) and should be consulted by anyone who needs to understand the components of this important doctrine.

Delaware Forum Selection Clause Controls Over Foreign Exclusive Jurisdiction Statute

The recent Delaware Court of Chancery decision in AlixPartners, LP v. Mori, No. 2019-0392-KSJM (Del. Ch. Nov. 26, 2019) rejected an effort to dismiss a Delaware action notwithstanding the provision in an agreement that provided for a forum in a foreign country, and the apparent law of that foreign country that also supported exclusive jurisdiction in that country.

Investors can’t support claim they were short-changed when directors changed merger partners

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 Court of Chancery has tossed out a shareholder class action that accused Essendant Inc.’s directors and CEO of disloyally jilting merger mate Genuine Parts Co. in favor of a less lucrative union with private equity firm Sycamore Partners’ office supply subsidiary, Staples Inc., in the case styled In re Essendant Inc. Stockholder Litig., No. 2018-0789-JRS, memorandum opinion (Del. Ch. Dec. 30, 2019).

Vice Chancellor Joseph R. Slights III’s December 30 memorandum opinion following oral argument dismissed all defendants after finding insufficient proof that the directors breached a duty of loyalty by scraping a superior stock-for-stock merger pact with GPC for Sycamore’s all-cash deal to form an office supply giant.

He said Delaware-chartered Essendant’s directors were shielded from money liability for ordinary duty-of-care charges by an exculpatory provision under 8 Del. C. §102(b)(7) of the Delaware General Corporation Law, forcing plaintiffs to try to prove the directors were controlled by Sycamore or acted out of self-interest or bad faith.

The vice chancellor said plaintiffs Joseph Pietras and Michael J. Sultan, on behalf of Essendant investors, did not “come close” to meeting that formidable standard and did not show CEO Richard D. Phillips had any liability — even without the exculpatory protection.

According to the court, shortly after signing a merger agreement with automotive and industrial parts and business products distributor GPC in the spring of 2018, the Essendant directors received an all-cash offer from Sycamore, which they initially rejected as too low.

Door left open

But when Sycamore said it might increase its offer —raising the possibility of an unsolicited bid higher than GPC’s that might let the directors escape the merger pact’s no-solicitation ban and its $12 million termination fee penalty for encouraging a successful competing bid — Essendant’s board left the door open.

The vice chancellor said on April 9, 2018, three days before Essendant and GPC signed their merger pact that would give Essendant 49 percent of a combined office supply company, Sycamore representatives made the first of several offers that led to a “superior” bid on May 31.

Only then did the Essendant board reveal Sycamore’s interest to GPC, which asserted its right to match the first Sycamore offer but declined to match a September 10 $12.80 a-share cash bid, triggering Essendant’s obligation to pay GPC the termination fee, the court said.

Two-front merger fight

That decision resulted in litigation on two fronts.  In addition to this shareholder suit, GPC sued Essendant for breaching their merger agreement.  In that action, Vice Chancellor Slights, on September 9 denied Essendant’s motion to dismiss, finding that if GPC might prove Essendant breached the pact, damages might not be limited to the termination fee payment.  Genuine Parts Co. v. Essendant Inc., 2019 WL 4257160 (Del. Ch. Sept. 9, 2019).

The shareholder suit focused on the directors’ alleged failure to get the highest value for investors by choosing a Sycamore deal that amounted to corporate waste.  It initially charged that Sycamore aided and abetted the Essendant board’s breach, but later amended the complaint to claim Sycamore breached its duty as a controlling stockholder by misusing its influence over Essendant’s directors.

In order to prove that charge and survive Essendant’s motion to dismiss despite the exculpatory provision, the complaint must “invoke loyalty and bad faith claims” as required by the Delaware Supreme Court’s In re Cornerstone Therapeutics decision, Vice Chancellor Slights said.  In re Cornerstone Therapeutics Inc. S’holder Litig., 115 A.3d 1175, 1179 (Del. 2015).

Plaintiffs confuse various theories as to how the majority of Essendant’s directors were either interested in the merger deals or lacked independence, but more crucially, he said, they fail to show how Sycamore exerted “formidable voting and managerial power” over the board despite its less than 12 percent interest.

No liability for choosing cash

The board’s preference for a cash deal does not support claims of director interest or lack of independence because “Delaware law empowers directors to consider whether, under the circumstances,” stock or non-cash consideration is preferable to cash, he ruled, citing Paramount Commc’ns Inc. v. QVC Network Inc., 637 A.2 34, 44 (Del. 1994).

That means that the Essendant directors were not conflicted and did not “cave in to the will of the controller” and that Sycamore has no liability or fiduciary duty, even as an aider and abettor. Moreover, no viable claim of corporate waste can be made, because the Sycamore deal offered a 51% premium to Essendant’s unaffected stock price, the court said.

In addition, no director exhibited bad faith by “demonstrating a conscious disregard for … her duties” or making “a knowing or intentional misstatement or omission of a material fact” in the merger process or the disclosures about it, the vice chancellor ruled in dismissing the complaint with prejudice.

Chancery Applies SCOTUS Decision to Delaware Law of Arbitrability

A recent Delaware Court of Chancery opinion is noteworthy because it describes the impact of a recent decision of the United States Supreme Court on the Delaware law of arbitrability. In Gulf LNG Energy, LLC v. ENI USA Gas Marketing LLC, C.A. No. 2019-0460-AGB (Del. Ch. Dec. 30, 2019), the court also addressed two important lines of authority: (1) When a court should intervene to prevent collateral attacks on an arbitration award; and (2) What disputes will be covered by the contractual intent of the parties regarding who decides issues of arbitrability: the court or the arbitrators. Although many decisions on arbitrability have been covered on these pages over the last 15 years, this Chancery opinion provides helpful insights on relatively new nuances.

The detailed facts of this case should be reviewed for a full understanding of this decision, but this brief overview will be limited to the most important aspects of the decision with the widest applicability.

Basic Background:

Two energy companies entered into a long-term agreement involving a few hundred-million dollars. An arbitration decision initially resolved contractual disputes about the termination of that agreement. Subsequently, ENI initiated a separate, second arbitration, which prompted a lawsuit in Chancery seeking a permanent injunction to enjoin ENI from pursuing the second arbitration.

Most Notable Takeaways from Decision:

  • This decision observed that both Delaware law and New York law are essentially the same on the issue of arbitrability to the extent that when the parties specifically incorporate rules such as those of the American Arbitration Association, the net result is that it demonstrates an intent of the parties to have arbitrators decide issues of arbitrability.
  • This decision compares the differences between the issue of arbitrability and the separate collateral attack doctrine. The latter allows a court to issue an injunction to prevent a circumvention of a prior arbitration ruling.
  • The United Supreme Court recently issued an important decision on arbitrability styled Henry Schein, Inc. v. Archer and White Sales, Inc., 139 S.Ct. 524, 529 (2019). The Court of Chancery noted that: “One consequence of Schein is that it should end the additional ‘no non-frivolous argument about substantive arbitrability’ inquiry” this court has conducted under McLaughlin v. McCann, 942 A.2d 616, 626-27 (Del. Ch. 2008), to guard against the frivolous invocation of an arbitration clause even when the [Delaware Supreme Court’s] Willie Gary test has been satisfied.” UPM-Kymmene, 2017 WL 4461130, at * 4. See footnote 83.
  • But the Court of Chancery emphasized that the SCOTUS decision in Schein “does not address the collateral attack doctrine. Nor does Schein address the scenario present here where a second, related arbitration proceeding has been filed.”
  • The Court of Chancery conducts a very careful analysis to determine whether the claims in the second arbitration should be considered prohibited under the collateral attack doctrine or whether they present issues of arbitrability for the arbitration panel to determine. After synthesizing federal case law interpreting the Federal Arbitration Act, the court determined that one of the claims in the second arbitration was barred by the collateral attack doctrine and would be permanently enjoined, but that the other issue raised in the second arbitration presented an issue of arbitrability for the arbitrators to determine. That is, the arbitrators would determine whether the second issue raised in the subsequent arbitration was covered by the arbitration clause or should be decided in some other manner. See Slip op. at 30 – 33.

Moving records action to New York would not be more efficient for plaintiff, Chancery says

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.

Rallye Motors Holding, LLC cannot use Delaware’s McWanedoctrine to force its ex-CEO to move his books-and-records action to New York, where a fellow member and ex-employee of that limited liability company is litigating related claims including records inspection demands, the Chancery Court has ruled in Stanco v. Rallye Motors Holding, LLC, No. 2019-0751-SG (Del. Ch. Dec. 23, 2019).

Vice Chancellor Sam Glasscock’s Dec. 23 memorandum opinion declined to dismiss Joseph Stanco’s records inspection suit filed under Delaware LLC Act Section 18-305 – the LLC analog of Section 220 of the Delaware General Corporation Law – after rejecting two novel Rallye arguments of interest to alternate entity counsel.

  • First, the Court found that the LLC agreement did not clearly require Stanco to waive his right to file his records action in Delaware, where Rallye is chartered, because he was a managingmember as well as an officer.
  • Second, the vice chancellor said Rallye cannot use the seminal forum non conveniens decision in McWane v. McDowell-Wellman to force Stanco to combine his records action with a related suit by a third party because McWane: “should not be employed to defeat a plaintiff’s choice of forum.” McWane Cast Iron Pipe Corp. v. McDowell-Wellman Eng’g Co., 263 A.2d 2821 (Del. 1970).

Stanco says he had worked for Rallye, a holding company for five Long Island automobile dealerships, since 1980 and had acquired a 5.5 percent member ownership, a seat on Rallye’s board of members and an appointment as managing member when he was fired without cause in 2017.

Two years later, he demanded inspection of Rallye’s books and records to value his ownership interest, evaluate Rallye’s financial condition, the performance of its management, the reason for its failure to continue making distributions to shareholders and the propriety of company disclosures.

No ‘clear expression’

Two weeks after he filed his inspection complaint on Sept. 19, Rallye moved to dismiss it from Chancery Court, but the vice chancellor found that, “Generally, except as limited by contractual waiver, the members of a Delaware LLC have the right to vindicate proper books and records demands in this court” and waivers of those rights must include “the clear expression of the intent to relinquish the right.”

Vice Chancellor Glasscock ruled that Stanco “could not have intended to waive his rights to a books and records as a manager,” because in his capacity as a managing member he would have had access to the company’s books and records.

The McWane argument fails because Rallye cannot demonstrate “a high degree of hardship” should the litigation go forward in Delaware, and does not even attempt to make such a showing, he said.

Under McWane, “this court’s discretion is to be freely exercised in favor of a stay or dismissal where there is a prior action pending elsewhere, in a court capable of doing prompt and complete justice, involving the same parties and issues,” but that’s not the case here, the Court noted.

In whose interest?

The action that Rallye wants Stanco to join in the interest of efficiency is a books and records suit filed by Nicholas Toomey, a member and ex-employee of the LLC.  Toomey v. Rallye Motors Holding LLC et al., Index No. 613005/2019 (N.Y. Sup. Ct.).

According to Rallye, Toomey was Stanco’s “cohort” who was fired along with him for cause in 2017 and the two are co-plaintiffs in a related New York state court breach of contract action.  Stanco and Toomey v. Rallye Motors Holding LLC, Index No. 612155/2017 (N.Y. Sup. Ct.).

Rallye argues that the two New York suits have “a common nucleus of operative fact” and “share the same issues” for purposes of a McWane analysis, but the vice chancellor found the connection to be “insufficient to support my exercise of discretion under McWane.”

Although it might be efficient for Rallye to address both records inspection actions together, McWane“seeks to promote efficient litigation by vindicating a plaintiff’s choice of forum” and there is no overlap in the parties aside from the common defendant nor are the issues the same, he said.

McWane is not – and should not be – that flexible,” Vice Chancellor Glasscock said in denying Rallye’s motion to dismiss.

Chancery Analyzes Standard of “Commercially Reasonable Efforts”

A recent Delaware Court of Chancery decision discussed many issues of great interest to commercial and corporate litigators in connection with a finding that Boston Scientific Corporation could not justifiably terminate an acquisition agreement with the target company, including an analysis of the familiar contractual standard of “commercially reasonable efforts,” which has been held to be synonymous with the similar phrase “reasonably best efforts.” In Channel Medsystems, Inc. v. Boston Scientific Corporation, C.A. No. 2018-0673-AGB (Del. Ch. Dec. 18, 2019), a 119-page decision, Delaware’s equity court determined that Boston Scientific did not fulfill its contractual duty to use “commercially reasonable efforts” to consummate the merger.

The court noted that Delaware case law “contains little support for distinctions” between the clause “commercially reasonable efforts” and the clause “reasonably best efforts.” See footnote 410 (citing the Delaware Supreme Court decision in Akorn, 2018 WL 4719347, at * 91.)   Many prior Delaware decisions interpreting and applying that contractual standard have been highlighted on these pages. Followers of this area of the law will find the scholarly insights on this topic by Professor Bainbridge especially notable.

In the instant Chancery decision, the court relied on the Akorn case that interpreted a similar covenant to “impose obligations to take all reasonable steps to solve problems and consummate the transaction.”  (citing Williams Cos. v. Energy Transfer Equity, L.P., 159 A.3d 264, 272 (Del. 2017)).  The Williams case was highlighted on these pages.  The court further relied on the Delaware Supreme Court decision in Akorn to provide the following guidance:

“When evaluating whether a merger partner has used reasonable best efforts, this court has looked to whether the party subject to the clause: (i) Had reasonable grounds to take the action it did; and (ii) Sought to address problems with its counter party.” See footnote 410.

The instant Chancery decision provided several examples why the record supported the holding that Boston Scientific, according to the court’s findings, made no reasonable efforts to engage with Channel, or “to take other appropriate actions to attempt to keep the deal on track . . ..” See Slip op. at 102.

The court used the reasoning of another decision when it explained that:

“Utter failure to make any meaningful attempt to confer with Channel when Boston Scientific first became concerned . . ., both constitutes a failure to use reasonable best efforts to consummate the merger and shows a lack of good faith.” See footnote 418 (citing to Hexion, 965 A.2d at 755-56.)

Finally, the court observed that even though motive to avoid a deal does not demonstrate the lack of a contractual right to do so, the evidence in this case, according to the court’s findings:

“Adds credence to and corroborates other robust factors demonstrating that Boston Scientific did not fulfill its obligation to engage with Channel in a commercially reasonable manner to vet any concerns they may have had about the findings in the Greenleaf Report and to keep the transaction on track thereafter. To the contrary, Boston Scientific simply pulled the ripcord.”

Advancement Denied for Post-Employment Activity

In a rare example of the Court of Chancery denying a a former corporate officer’s advancement claim–after an initial decision granting it–the court changed its prior opinion, after a complaint in the underlying case was amended to limit the underlying claims at issue to post-employment breach of contract claims, and based on that amendment the court determined that the challenged actions, as amended, were not taken by the claimant as a former officer or former director, and therefore the duty for advancement was not triggered. See Carr v. Global Payments, Inc., C.A. No. 2018-0565-SG (Del. Ch. Dec. 11, 2019), in which the Court also noted that confidential information was not alleged to have been misused after the role as former officer ended.

The focus of the amended complaint was an alleged violation of a non-compete agreement, which this and other cases have viewed as primarily an employer/employee dispute–not an advancement matter. Also noteworthy was the court’s analysis of the provisions of the LLC agreement granting advancement–which relied on different wording than that contained in DGCL Section 145. The court expressed initial skepticism, as have other cases, when an attempt is made to amend an underlying complaint solely for purposes of evading an otherwise valid advancement obligation. This case proved different.

This case should be compared with the recent decision highlighted on these pages styled Ephrat v. medCPU, Inc., which provided a comprehensive analysis of Delaware case law involving advancement claims related to confidential data taken by a former officer and director–but primarily misused after the role of director and officer ended. See also Charney case highlighted on these pages, with a similar denial for post-employment activity.

Notably, the Carr case involved an acknowledgement that, despite this ruling, advancement was still required for underlying claims for breach of fiduciary duty.

A  more comprehensive review of this case, prepared by veteran corporate law writer Frank Reynolds, appears on these pages.


On second look, Chancery finds buyer’s revised charge avoids ex-CEO’s advancement claim

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.

A recent Court of Chancery opinion reversed an earlier advancement decision in favor of Heartland Payment System LLC ex-CEO Robert Carr after finding buyer Global Payments Inc.’s amended complaint narrowed its underlying suit against him to post-employment breach of non-compete contract claims, in Carr v. Global Payments Inc., et al., C.A. No. 2018-0565-SG, memorandum opinion (Del. Ch. Dec. 11, 2019).

Vice Chancellor Sam Glasscock III’s December 11 memorandum opinion granted Global’s motion to modify his October 31, ruling, which, he acknowledged, wrongly ordered the electronic payment processer to pay Carr’s legal bills based on his “substantial error of fact,” about the amended charges.

No longer pertains

After withdrawing that ruling on November 5 and agreeing to hear re-argument, he said in the December opinion that the amended complaint no longer “pertains” to Carr’s corporate officer status regarding the breach-of-contract charges and is now strictly an employer/employee matter.

He said the new complaint is not the result of “artful re-pleading” of the same alleged wrongs and now clearly sets out a new basis for breach-of-contract charges that steer clear of misuse of confidential information and actions taken before stepping down as CEO.

The advancement ruling is noteworthy because instead of focusing on the application of Section 145 of the Delaware General Corporation Law, it interpreted an advancement agreement patterned on Section 145 that was part of a limited liability company’s merger pact.

After Global bought Heartland in 2015 it had its new subsidiary file suit in federal court in New Jersey claiming Carr breached his fiduciary duty by giving his girlfriend inside information about the merger and used business secrets to form a competing company shortly after leaving.

Initially entitled

When Carr sued in the Delaware Chancery Court in July 2018 to force Heartland to pay for his defense of those charges, the vice chancellor initially found he was entitled to advancement under the merger pact, but the underlying New Jersey action was stayed during a criminal investigation in Connecticut.

When the stay was lifted in May 2019, Heartland and Global filed an amended complaint in New Jersey that dropped the initial misuse of confidential information charge and focused on breach of the non-compete and non-solicitation aspects of Carr’s conduct after he left Heartland.

One month later, they moved to modify the vice chancellor’s advancement order with regard to the breach-of-contract charge, arguing that that claim arose solely from Carr’s actions when he was no longer a Heartland officer and director and thus ineligible for advancement.

Vice Chancellor Glasscock initially found in favor of Carr but after agreeing to hear re-argument, he said a re-examination of the amended charges caused him to find that they “moot the advancement dispute by removing any claims that would trigger an advancement right.”

Not mere relabeling

He said he came to that conclusion despite being “wary of artful attempts at…mere relabeling of claims” and keeping in mind that “any ambiguities in advancement cases are required to be resolved in favor of enforcing the advancement right.”

He noted that the merger agreement’s drafters promised advancement rights for litigation that “arises out of or pertains to” Carr’s corporate officer status; he decided that “arises out of” and “pertains” were equally broad in scope, but “pertains” had the force of “part of” or “related to”.

Therefore, the suit’s remaining breach of duty and fraud charges warrant advancement because they pertain to his CEO duties the parties agreed, but Global argued  that claims for breach of a non-compete agreement are by nature an employer/employee dispute and thus not indemnifiable.

The vice chancellor said Delaware case law says such litigation involving post-separation use of confidential information gained while still in a corporate position “pertains” to his officer status and qualifies for advancement–but he said without that misuse, it would not, citing Brown v. LiveOps, 903 A.2d 324 (Del. Ch. 2006).

The first amended complaint clearly does not qualify for advancement because it “effectively erases all mention of confidentiality from the breach of contract claim…and focuses solely on his post-employment competition and solicitation activity,” he said, granting the motion to modify the advancement order.


Chancery says Tutor Perini owes subsidiary’s former owners $8 million under holdback pact

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 Chancery Court ordered general contractor Tutor Perini Corp. to turn over $8 million to Greenstar Services Corp.’s former owners, after finding they met the terms of a holdback agreement by collecting $60 million in change-order fees after Greenstar’s 2011 sale in Greenstar IH Rep, LLC et al. v. Tutor Perini Corp., No. 12885-VCS, memorandum opinion (Del. Ch. Dec. 4, 2019).

Vice Chancellor Joseph R. Slights III’s Dec. 4, 2019 memorandum opinion resolves a remaining dispute in Greenstar’s breach of contract suit over contingent considerations that were part of building contractor Tutor Perini’s $208.4 million payment for Greenstar’s specialty construction companies.

The opinion could prompt corporate officers and their counsel to reexamine the precision and comprehensiveness of the often-disputed terms of earn-out and hold-back agreements that frequently make up a substantial portion of the consideration in mergers and acquisitions.

After a three-day trial in Greenstar’s 2016 suit, the vice chancellor entered judgment for Greenstar and its former shareholders and officers, finding they presented the only reasonable interpretation of how the purchase pact’s collection milestone triggers would work.

In a separate ruling the same day, he also ordered Tutor Perini to pay Delaware limited liability company Greenstar’s attorney fees and expenses of $52,436 within 20 days.  Greenstar IH Rep, LLC et al. v. Tutor Perini Corp., No. 12885-VCS, letter opinion (Del. Ch. Dec. 4, 2019).

In his memorandum opinion, the vice chancellor said the 2011 merger, whereby Greenstar became a wholly-owned subsidiary of Sylmar, California-based Tutor Perini included:

  • An earnout agreement based on Greenstar and its plumbing and electrical/mechanical      specialty construction companies meeting certain profitability targets during the five-year period following the acquisition, and
  • A holdback pact requiring co-plaintiff Gary Segal and two other Greenstar principal shareholders — who stayed on post-merger to run the operating companies — to collect their estimated $60 million in change-order bills from customers in order to receive a contingent $8 million payment.

“As they are wont to do, the contingent consideration provisions prompted post-closing disagreements,” and even modifying the holdback in 2013 did not help, the vice chancellor said. “While intended to provide clarity,” that revision “did no such thing,” because Tutor Perini maintained that it owed Greenstar’s ex-owners nothing, and the parties went to trial, he said.

In a separate Oct. 31, 2017 decision, the Chancery Court ruled that Greenstar was entitled to $19 million in earn-out payments and dismissed Tutor Perini’s fraud and offset counterclaims. Greenstar IH Rep, LLC et al. v. Tutor Perini Corp., No. 12885-VCS, memorandum opinion issued (Del. Ch. Oct. 17, 2017).  The state Supreme Court affirmed that judgment, leaving only the holdback claim in the breach of contract suit. Tutor Perini Corporation v. Greenstar IH Rep. LLC, No. 507-2018 order issued (Del. May 11, 2017).

After trial on April 18 and post-trial argument on September 10 on the holdback issue, the vice chancellor said Greenstar had proved the existence of a valid contract, the breach of a contractual obligation and damages suffered because of that breach.

He found that the agreement’s “ordinary meaning leaves no room for uncertainty” and “the plain, common, and ordinary meaning of the words … lends itself to only one reasonable interpretation:” that the holdback agreement requires only collection of money that generates additional net profit.

By contrast, Tutor Perini’s interpretation of the holdback provides “no single formula for determining net profit” because its formula varies from job to job, he said.

Therefore, since the two parties agree that the contract is not ambiguous and the plaintiffs proffer “the only reasonable construction of the holdback agreement,” the plaintiffs are entitled to immediately receive the entire $8 million in the holdback escrow, the Vice Chancellor ruled.



Chancery Grants Access to Special Litigation Committee Documents

A recent Delaware Court of Chancery opinion involved a rare situation: A special litigation committee decided that the derivative plaintiff should be able to pursue a derivative suit that was filed against the company.  In the matter styled: In re Oracle Corporation Derivative Litigation, C.A. No. 2017-0337-SG (Del. Ch. Dec. 4, 2019), the court addressed the question of whether the derivative plaintiff should be given all of the documents that the special litigation committee reviewed and to which they had access. See prior Chancery decision in this case highlighted on these pages for additional background.

Compare this decision with the recent Chancery opinion in J.P. Morgan Trust Company of Delaware v. Fisher, C.A. No. 12894-VCL (Del. Ch. Dec. 5, 2019), which “confirmed as still good law” an analogous exception to attorney/client privilege between a trustee and a beneficiary, known as the Riggs exception, based on a Chancery 1976 decision by that name.

In this short highlight of the latest Oracle decision, I only want to focus on one or two points that would have the most widespread application to corporate and commercial litigators:

  • Although not exactly applicable to the somewhat rarified circumstances of this case, the court discusses the important and related exception to the attorney/client privilege that applies when a stockholder is seeking attorney/client privileged information from the directors of a company that is being sued. Often referred to as the Garner exception, based on the court decision that first announced the exception, the Garner doctrine is pertinent where legal advice has been rendered to fiduciaries–who are asserting the privilege over the advice received in the course of their fiduciary service against the stockholder-plaintiffs. See Slip op. at pages 49-43.
  • See also footnote 262 applying similar reasoning to documents withheld based on an assertion of the work-product immunity. See footnote 262. But compare Slip op. at 60 (discussing the common-interest doctrine.)