In my latest ethics column for The Bencher, the publication of the American Inns of Court, I highlighted a decision of the U.S. Court of Appeals for the Third Circuit which upheld the refusal to disqualify a law firm based on legal ethics rules 1.9 and 1.10.

In sum, those rules codify the fundamental premise of our system of litigation that the same lawyer cannot represent two parties who are adverse to each other in the same case, even if one is a former client. Specifically, Model Rule 1.9 prohibits a lawyer who has formerly represented a client in a matter from:

“representing another person in the same or substantially related matter in which the person’s interests are materially adverse to the interests of the former client.” 

The intriguing factual twist in this case involved a lawyer representing a party in a pending case who moved to the law firm representing the adverse party while the case was still pending–but once she joined the law firm representing the opposing party, that law firm followed all the necessary procedures to create an ethical wall that prevented her from having any access to that litigation.

Of course, the legal analysis and the detailed facts require a lengthier explanation, but for those interested in this topic the complete article is linked above.

Del SupremeCtPhotDovr

The Delaware Supreme Court recently reversed a decision of the Delaware Court of Chancery, highlighted on these pages, that addressed whether the general partner of a limited partnership relied in good faith on the formal legal opinion of a law firm to support a going-private transaction. (Photo at right shows the Supreme Court Building in Dover.)

In Boardwalk Pipeline Partners, LP v. Bandera Master Funds LP, Del. Supr., No. 1, 2022 (Dec. 19, 2022), the majority of Delaware’s High Court determined, without reconsidering the finding by the Court of Chancery that one of the formal legal opinion letters involved was not done in good faith, that:  (1) the proper decision maker accepted the opinion of counsel of one of the law firms involved to exercise a call right, contrary to the Chancery opinion; and (2) that party relied in good faith on the formal opinion letter of the Skadden law firm. The court found it unnecessary to address the Chancery’s holding that the formal opinion letter of another firm was not issued in good faith. (The Chancery opinion weighed in at 194-pages long, and the Supreme Court’s opinion, including the concurrence, in total was just under 100-pages long.)

Basic Background Facts

This case involved an intricate and extensive network of entities including Delaware Master Limited Partnerships (“MLPs”).  Under Delaware law, an MLP can be structured to eliminate fiduciary duties.  The Boardwalk Limited Partnership Agreement (“Partnership Agreement”) disclaimed the fiduciary duties of the general partner and included a conclusive presumption of good faith when relying on advice of counsel.  It also exculpated the general partner from damages under certain conditions.

Under the Partnership Agreement, the general partner could exercise a call right for the public units if it received an opinion of counsel acceptable to the general partner that certain regulations would have a particular impact.  The Boardwalk MLP general partner received an opinion of counsel from the Baker Botts law firm that the condition to exercising the call right had been satisfied.

In addition, the Skadden law firm advised that (i) it would be reasonable for the sole member, an entity in the boardwalk MLP structure, to determine the acceptability of the opinion of counsel for the general partner; and (ii) it would be reasonable for the sole member, on behalf of the general partner, to accept the Baker Botts opinion.  The sole member followed the advice of Skadden and caused the Boardwalk MLP general partner to exercise the call right and acquire all the public units pursuant to a formula in the Partnership Agreement.

Procedural History

The Boardwalk MLP public unitholders filed suit and claimed that the general partner improperly exercised the call right. The Court of Chancery, in a post-trial opinion, held that the opinion by the Baker Botts firm had not been issued in good faith, and also held that the wrong entity in the MLP structure determined the acceptability of the opinion, and that the general partner was not exculpated from damages.

Issues Addressed

The Supreme Court did not address all of the issues included in the Court of Chancery’s opinion, but determined that: (1) the sole member of the MLP was the correct entity to determine the acceptability of the opinion of counsel; (2) the sole member, as the ultimate decision maker who caused the general partner to exercise the call right, reasonably relied on a formal opinion letter of the Skadden law firm; and (3) the sole member and general partner, based on the applicable agreement, are conclusively presumed to have acted in good faith in exercising the call right.  The other arguments on appeal were not reconsidered in the majority opinion.

Highlights of Key Legal Analysis

The Supreme Court only focused on the proper decision maker and the exculpation arguments.

The Supreme Court disagreed with the interpretation of the Partnership Agreement by the Court of Chancery and initially focused on the need to read both the Partnership Agreement and the related LLC Agreement together because both agreements described how the general partner managed Boardwalk.  See footnote 232 (citation to Delaware Supreme Court decision about reading separate agreements together when there is evidence “that might imply an intent to treat them as a unitary transaction.”)

The Supreme Court engages in a thorough contract interpretation analysis in their review of several key provisions in the Partnership Agreement.  See generally footnote 252 (citing cases that incorporate defined terms into contractual provisions to make them a part of the contract.)

Determination of Proper Entity as Decision Maker

Unlike the Court of Chancery, the Supreme Court found both the Partnership Agreement and the LLC Agreement, when read together, to be unambiguous, reasoning that words are not surplusage if there is a reasonable construction which will give them meaning, and noting the truism that simply because the parties disagree on the meaning of a term does not render that term ambiguous.  See Slip op. at 50-60 and footnotes 263 and 264.  The Supreme Court held that the Sole Member Board and not the board of the general partner was the appropriate entity to make the acceptability determination and had the ultimate authority to cause the call right to be exercised.

Reasonable Reliance on the Skadden Opinion

Delaware’s High Court disagreed with the Court of Chancery regarding agency theory and explained that the decision in Dieckman v. Regency GP LP, 2021 WL 537325, at *36 (Del. Ch. Feb. 15, 2021), did not support extending the agency theory to an exculpation inquiry of an agreement beyond those persons who govern a partnership or limited liability company.  Slip op. at 62.  Specifically, the court observed that:  “an entity, such as [the entity involved in the Gerber case,] Enterprise Products GP, can only make decisions or take actions through the individuals who govern or manage it.”  Slip op. at 62 (quoting from Gerber v. EPE Holdings, LLP, 2013 WL 209658, at *13 (Del. Ch. Jan. 18, 2013)).  See also footnote 282 (noting that notice given to a retained lawyer-agent may be viewed as notice to the client principal, but the cases do not support imputing scienter from a lawyer to a client).

Unlike the Court of Chancery, the Supreme Court found nothing disqualifying about the Skadden firm giving “an opinion about an opinion,” but rather found it unobjectionable for Skadden to conclude that it would be reasonable for the Sole Member Board to accept the Baker Botts Opinion.  See Slip op. at 66-67.  The court held that implicit in the acceptability opinion is Skadden’s conclusion that the Baker Botts opinion  was not contrived and that it was rendered in good faith.  Slip op. at 67.

The court also discussed the provisions in the agreement that provided for a conclusive good faith presumption which the court distinguished from a rebuttable presumption.  The court opined that a conclusive presumption of good faith is “validly triggered through reliance on expert advice . . . and no longer subject to challenge.”  Slip op. at 68-69 (footnotes omitted).

Conclusion

The court concluded that: “having reasonably relied on Skadden’s advice, the General Partner through the Sole Member, is conclusively presumed to have acted in good faith and is exculpated from damages.”

Concurring Opinion

A Justice of the Supreme Court wrote a concurrence that would have reversed the decision of the Chancery Court that the formal legal opinion of the Baker Botts firm was not rendered in good faith.  The concurrence also noted that because the majority left the findings regarding the Baker Botts opinion in place, the Baker Botts opinion did not satisfy Section 15.1(b)(ii) of the Partnership Agreement which was a necessary precondition to the exercise of the call right.

The Delaware Court of Chancery recently determined that regardless of the absence of a formal title or role, one can be found to be acting as a de facto manager of an LLC, and therefore, subject to personal jurisdiction of the court, as well as being bound by common law fiduciary duties, pursuant to Section 18-109(a) of the Delaware LLC Act.  See In re P3 Health Group Holdings, LLC, consol. C.A. No. 2021-0518-JTL (Del. Ch. Oct. 26, 2022).

Highlights

The court’s analysis, with application of supporting caselaw on pages 23 and 24, includes many basic principles of widespread applicability such as the following:

  • “It is the very nature of equity to look beyond form to the substance of an arrangement.”
  • There is no requirement that an acting manager have an official title or role with an LLC to be treated as an acting manager for purposes of service of process, or as a de facto manager for purposes of the merits.

Once a de facto manager status is determined, a due process analysis also must be performed.  In that regard, the court explained that:

  • “Delaware has a strong interest in providing a forum for disputes relating to the ability of managers of an LLC formed under its law to properly discharge their respective managerial functions.”

The court further reasoned that: 

  • “Due process is satisfied as long as (i) the allegations against the defendant-manager focus centrally on the defendant’s rights, duties an obligations as a manager of a Delaware LLC, and (ii) the resolution of the matter will be inextricably bound up in Delaware law.” 

Slip op. at 25.

This post was prepared by Frank Reynolds, who has been following Delaware law and writing about it in various publications for over 30 years.

The Delaware Chancery Court recently rejected most of a motion for re-argument of a ruling in which it had found an attorney-client and work-product privilege log deficiently documented in expedited litigation over a non-compete agreement between two biopharmaceutical research companies in Thermo Fisher Scientific PSG Corporation v. Arranta Bio MA, LLC C.A. No. 2022-0608-NAC, letter opinion issued, (Del. Ch. Nov. 28, 2022.)

Vice Chancellor Nathan Cook’s Nov. 28 letter opinion rejected each of the arguments plaintiff Thermo Fisher Scientific PSG Corp. made in support of its bid under Court of Chancery Rule 59(f) to reverse his November 15 order that Thermo must quickly address 563 documents it had withheld without sufficient reason or failed to specify an attorney connection to a communication to justify privilege.

No do-over or re-argument

In declining to grant most of Thermo’s re-argument petition in a multi-front discovery battle, the vice chancellor said, “At bottom, the (Nov.15) Order found that Plaintiff failed to comply with basic logging requirements, and Plaintiff now argues for a “do-over,” which the Order already rejected.” He explained that, “This is highly expedited litigation involving sophisticated parties and counsel with substantial litigation resources. Even setting aside the concerns over gamesmanship, I would still reject the request.”

The ruling should be of interest to Chancery Court practitioners since it examines a long list of what the vice chancellor found to be defective privilege logging and the ways in which a litigant could fall far short of the “heavy burden” a petitioner for re-argument bears.

Background

When Thermo sued Arranta Bio MA, LLC over how supplies of genetic ingredients for biomedical research in which they were jointly involved should be handled, Arranta filed a motion to compel Thermo to fill what it claimed were numerous gaps in its log of nearly two thousand documents it had fully or partially withheld on grounds of attorney-client or work-product privilege.

In a November 15 ruling after oral argument on the privilege log issue, the vice chancellor had ordered that within five business days, Plaintiff must produce to Defendant in unredacted form the 563 documents from its log that Plaintiff had entirely withheld and for which Plaintiff has identified no attorney.

“With respect to Plaintiff’s 1,974 total privilege log entries, approximately 95% repeated one of three generic phrases to describe the purported topic of legal advice,” Vice Chancellor Cook wrote, adding that, “nearly 80% of Plaintiff’s 1,974 entries were entirely withheld (rather than redacted) …and Plaintiff failed to identify an attorney involved for over 33% of the documents that Plaintiff had entirely withheld.”

Laying out general rules for re-argument, he said:

“The Court will deny a motion for re-argument ‘unless the Court has overlooked a decision or principle of law that would have a controlling effect or the Court has misapprehended the law or the facts so that the outcome of the decision would be affected.”

A motion for reargument “may not be used to relitigate matters already fully litigated or to present arguments or evidence that could have been presented before the court entered the order from which re-argument is sought.”

“Where the motion merely rehashes arguments already made by the parties and considered by the Court when reaching the decision from which re-argument is sought, the motion must be denied.”

No misapprehension

The vice chancellor said Thermo argues that he misapprehended the law by holding that every entry on the privilege log must name an attorney, but “this is also incorrect. To be sure, a document does not have to be sent to or from an attorney to be properly withheld, and the Order does not hold otherwise—but an attorney needs to be involved somehow and identified.”

“The burden of proving that the privilege applies to a particular communication is on the party asserting the privilege,” he ruled. “

The court exempted a few draft versions of complaints and regulatory filings but otherwise found, “it is unclear why Plaintiff believes that presentations and draft correspondence are so obviously privileged that Plaintiff should be excused from satisfying basic logging obligations.”

Otherwise, the court denied the motion, finding that Plaintiff “has failed to meet its heavy burden to show that re-argument is warranted and instead seeks to relitigate matters that have been fully litigated.”

Forum selection clauses have been the focus of many decision highlighted on these pages over the last 18 years. But a pending appeal before the en banc U.S. Court of Appeals for the Ninth Circuit may have an outsized impact on Delaware litigation regarding this issue. In a case involving the Gap, Inc., the federal appellate court will decide whether a forum selection clause can be enforced to require claims to be filed in the Delaware Court of Chancery that would otherwise be filed in Federal Court.

A Reuters article by Alison Frankel describes the somewhat complex and nuanced issue as follows:

… to summarize ruthlessly, the key question is whether companies can avert Exchange Act derivative suits via forum selection provisions mandating litigation in Delaware Chancery Court, which does not have jurisdiction to hear Exchange Act claims – or whether the Exchange Act’s anti-waiver provision precludes enforcement of such forum selection clauses because they require shareholders to surrender a substantive right.

One indication of the importance of the issue is that several prominent former members of the Delaware Court of Chancery and Delaware Supreme Court, including three former Chancellors, have made a submission to the Ninth Circuit to support the enforceability of the forum selection clause at issue–taking a position that is contrary to a holding by the U.S. Court of Appeals for the Seventh Circuit involving Boeing.

The submission to the Ninth Circuit by the former members of the Delaware judiciary includes the following points regarding the forum selection clause at issue:

(1) the remedies available in this derivative action are duplicative of the remedies available in Delaware derivative actions; (2) the federal derivative claim at issue in this litigation is contingent on Delaware law both for its existence and for the definition of its critical metes and bounds; (3) where a stockholder claims that a false or misleading disclosure impaired the stockholder’s right to cast an informed vote, that claim is direct,  not derivative; (4) Delaware General Corporate Law Section 115 is irrelevant to the validity of the forum selection provision at issue in this litigation; and (5) the forum selection provision at issue in this litigation is enforceable under Delaware law.

This issue deserves a comprehensive analysis and commentary in the style of a law review article. Many others have published their views, and I expect that there will be no shortage of articles about this case available online. Stay tuned.

Supplement: About two hours or so after I posted the above commentary, I was regaled by an email from Prof. Mohsen Manesh, who along with Prof. Joseph Grundfest submitted an Amicus Curiae brief to the Ninth Circuit in the above-referenced case, that the former Delaware judiciary members, referenced above, agreed with in their submission to the Ninth Circuit.

The good professor informed me that he and Prof. Grundfest already authored a forthcoming article on this topic, which addresses both the federal and Delaware law issues, and it’s available at the following link: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4274616

 

A new book by the prolific corporate law scholar, Prof. Stephen Bainbridge, who is often cited in Delaware court opinions, addresses the movement referred to as ESG: the “800-pound gorilla” in current developments in corporate law. The good professor contributes his prodigious expertise and lifelong scholarship in service of informing the public about this important topic, which seems to be another aspect of a more progressive approach to almost every part of our society. Of course, it’s available on Amazon.

The Profit Motive: Defending Shareholder Value Maximization

by Stephen M. Bainbridge  

The following overview is provided by Amazon:

What responsibility, if any, does a corporation have to society? How should corporations balance environmental, social, and governance factors? The Profit Motive addresses these questions of corporate purpose using historical, legal, and economic perspectives. Stephen M. Bainbridge enters the debate around corporate social responsibility to mount an unabashed defense of shareholder capitalism and maximizing shareholder value. The book offers context for the current questions about corporate purpose, and provides a reference going forward. Direct and corrective, The Profit Motive argues that shareholder value maximization is not only required by law, but what the law ought to require.

 

The Delaware Court of Chancery recently published a comprehensive and scholarly analysis of the limited scope of the subject-matter jurisdiction of Delaware’s court of equity, and refused to accept a case that sought a permanent injunction, in a formal opinion styled: In re Covid-Related Restrictions on Religious Services, Consol. C.A. No. 2021-1036-JTL (Del. Ch. Nov. 22, 2022).

Practice Tip: Depending on the level of scrutiny given by the court, either sua sponte or in response to the arguments made by the parties, if any, the request in a complaint for injunctive relief may not be sufficient to satisfy the requirements for enjoying the capacious benefits of the jealously-protected, narrow, equitable subject-matter jurisdiction of the Court of Chancery.

This decision corrects several mistaken prior Delaware decisions, and persuasively describes the true prerequisites for obtaining a permanent injunction. See Slip op. at 46-47.

Prefatory Comments

Experienced equity practitioners should be forgiven if they discover when reading this thoughtful decision that the finer points and nuances of the circumscribed boundaries of the equitable jurisdiction of the Court of Chancery are not always absolutely clear–if only because the members of the court do not always uniformly give this somewhat esoteric issue the same level of scrutiny. In addition, there are cases where final decisions have been rendered but neither the parties nor the court sua sponte raised the issue of equitable jurisdiction.

Most veteran Delaware litigators naturally would think that if injunctive relief (a typical equitable remedy) were to be requested, that the Court of Chancery would have subject-matter jurisdiction–but that is not always true, and it was not true in the instant case.

For those experienced equity practitioners who thought they understood the equitable basis for the Court of Chancery’s limited jurisdiction, and wonder why the court in this case rejected subject-matter jurisdiction when injunctive relief was requested, perhaps their self-doubt might be assuaged by the court’s observation in the instant opinion that many prior Delaware decisions were wrong when they did not follow the majority view nationwide about what the requirements are for a permanent injunction. See Slip op. at 42-43 and n.9.

Although the Court of Chancery has, both recently and in the more distant past, awarded injunctive relief to enjoin the enforcement of unconstitutional statutes, and it remains well-settled generally that the violation of constitutional rights amounts to irreparable harm, see generally, Doe v. Coupe, C.A. No. 10983-VCP (Del. Ch. July 14, 2015)(highlighted on these pages), the instant case (and another recent letter ruling), found that the Court of Chancery lacked equitable jurisdiction notwithstanding the request for injunctive relief based on the violation of constitutional rights.

Procedural and Factual Overview of the Decision

This case sought permanent injunctive relief based on allegations that restrictions on religious worship during formal religious services imposed during the height of the Covid-19 pandemic by the Governor of Delaware were violations of fundamental constitutional rights. Those restrictions were eventually lifted more than two years ago, in part due to settlement of a federal lawsuit in Delaware making similar allegations–but the plaintiffs sought permanent relief to prevent similar future violations of their rights by the Governor. The Governor moved to dismiss for lack of subject-matter jurisdiction in Delaware’s court of equity.

The opinion begins with a overview of the almost two dozens Emergency Orders, as amended, that Delaware’s Governor issued, starting in early 2020, as the Covid-19 pandemic resulted in many public activities around the country and the world grinding to a halt.

Legal Analysis

In addition to engaging in a deep-dive into the underpinnings of equity jurisdiction, the court also provides a practical review of the basics.

The Basics

For example, the three typical triggers for equitable subject-matter jurisdiction that open the doors of Delaware’s court of equity generally include the following:

The court “can acquire subject matter jurisdiction in the first instance by three different means: (1) the invocation of an equitable right; (2) a request for an equitable remedy when there is no adequate remedy at law; or (3) a statutory delegation of subject matter jurisdiction.” Kraft v. WisdomTree Invs., Inc., 145 A.3d 969, 973 (Del. Ch. 2016) (cleaned up). “[W]here a remedy provided by a law court of the state would be sufficient, that is, complete, practical, and efficient, this Court is without jurisdiction.” Int’l Bus. Machines Corp. v. Comdisco, Inc., 602 A.2d 74, 78 (Del. Ch. 1991) (cleaned up).

Slip op. at 29.

Requirements for a Permanent Injunction–And Why Prior Delaware Cases Are Wrong on this Point

The court candidly explains why, understandably, several prior Delaware decisions that have described the requirements for obtaining a permanent injunction are simply wrong:

Sometimes a Delaware decision deviates from a settled or majority rule intentionally and for good reason.³ Other times, a little digging uncovers one of the inevitable spontaneous mutations generated by an adversarial process in which practitioners
understandably seek to depict authorities in the manner most favorable to their clients, and in which busy judges do not always have the time for reflective consideration of every legal issue in the case.

This opinion then provides detailed reasoning, with copious citations, for this conclusion:

Delaware’s customary framing of the standard for a permanent injunction errs by projecting onto the ultimate remedial determination the requirement from earlier phases of the case that a plaintiff show imminent irreparable harm. When a party seeks interim injunctive relief, such as through a TRO or preliminary injunction, the plaintiff must show why the court needs to act at an early stage, before a final adjudication. A plaintiff makes the necessary showing by pointing to a threat of something happening that cannot be addressed after a final adjudication during the remedial phase, i.e., a threat of irreparable harm. Additionally, the threat must relate to something that may transpire before the case can reach a final adjudication during the remedial phase, i.e., it must be imminent. To earn a TRO or a preliminary injunction, therefore, a plaintiff must show imminent irreparable harm. (Some citations omitted.)

But when a plaintiff seeks permanent injunctive relief after a final adjudication, a showing of irreparable harm is sufficient but not necessary. As a leading  procedural treatise explains, it should be noted that although a serious threat of irreparable injury usually must be shown on an application for a temporary-restraining order or a preliminary injunction, irreparable injury is not an independent requirement for obtaining a permanent injunction; it is only one basis for showing the inadequacy of the legal remedy.

Wright & Miller, supra, § 2944 (footnotes omitted). There is also no longer a near-term temporal requirement for the harm to take place before the court can review the matter further. Because the court is issuing its final ruling, the question is whether a permanent injunction is warranted because legal remedies are inadequate. The considerations driving that analysis need not be imminent; they need only be persuasive.

[The court divides into three parts its explanation for why imminent irreparable harm is not a requirement for a permanent injunction.]

This decision rejects the Governor’s argument that a permanent injunction requires a showing of imminent irreparable harm. The more detailed explanation unfolds in three parts. First, this decision describes the different forms of injunctive relief and the purposes they serve, which illustrates why imminent irreparable harm is a necessary element of the test for a TRO or a preliminary injunction but not for a permanent injunction. Second, this decision explains why the proper formulation of the standard for a permanent injunction should examine the inadequacy of other remedies. Finally, this decision explores how the irreparable injury prong entered Delaware’s permanent injunction test and confirms that it reflects an unintentional jurisprudential mutation rather than a conscious choice.

3 See Aranda v. Philip Morris USA Inc., 183 A.3d 1245, 1251–52 (Del. 2018)(“Although the federal courts and most state courts require an available alternative forum before dismissing for forum non conveniens, our Court never adopted this requirement. Admittedly, our cases have not directly addressed the question. But, several factors point to an implicit rejection of the requirement.” (footnotes omitted)); Abry P’rs V, L.P. v. F & W Acq. LLC, 891 A.2d 1032, 1059–64 (Del. Ch. 2006) (Strine, V.C.) (discussing the majority rule in Restatement (Second) of Contracts § 195 which prevents a contract from insulating a party from the consequences of its fraudulent conduct, then permitting a contractual anti-reliance clause to defeat a claim for extra-contractual fraud).

Slip op. at 32-34; and 42-43.

The court described the three different forms of injunctive relief that may be available–sometimes–in the Court of Chancery, and the subtle differences between them:

(i) TRO;

(ii) Preliminary Injunction; and

(iii) Permanent Injunction (which are further divided into mandatory and prohibitive injunctions.)

Slip op. at 34-38.

Inadequacy of Legal Remedy Required–But Irreparable Harm Not Needed for Permanent Injunction

Even experienced equity practitioners in Chancery who are familiar with equity practice may not be familiar with the minutiae discussed by the court in its explanation about why it must be demonstrated that a remedy at law would be inadequate–but notably: that irreparable harm is not a prerequisite for obtaining a permanent injunction. Slip op. at 38 and n.5. See also Slip op. at 44 and n.10-11.

After explaining why irreparable harm is not needed for a permanent injunction, though it remains one of several ways to show the inadequacy of a legal remedy, the court provided other examples of how the requisite inadequacy of a remedy at law may be demonstrated:

  • If the defendant is insolvent and a judgment would not be collectible, but the defendant is capable of performance to which plaintiff is entitled as an alternative to the money.
  • Defendant’s actions would require plaintiff to bring more than one suit to effectuate a legal remedy.
  • Money damages cannot be measured with any degree of accuracy, and are so speculative that any award would be inadequate.

Slip op. at 43.

The court also noted that in addition to the common formulation of money damages not being sufficient to make a party whole, the situation may exist when:

… the legal remedy is not as practicable and efficient toward the ends of justice as an injunction.

Slip op. at n.6

Proper Formulation for Requirements to Obtain Permanent Injunction–Correcting Prior Errant Chancery Decisions on this Topic

Practitioners take note: contrary to prior recitations in prior Chancery decisions, the correct list of prerequisites for a permanent injunction include the following:

  1. Actual success on the merits.
  2. Inadequacy of a remedy at law; and
  3. Balancing of the equities that favors an injunction.

Slip op. at 46.

Additionally, in order to satisfy the test for equitable subject-matter jurisdiction when seeking a permanent injunction, a threshold requirement is to allege facts that:

“create a reasonable apprehension of a future wrong.”

Slip op. at 46-47.

The Reasonable-Apprehension Test

Two competing considerations must be addressed when attempting to satisfy this requirement:

  • injunctions against future wrongdoing are generally unavailable–especially against government entities; but
  • “on the other hand”, … where there is a reason to believe that a defendant will resume his wrongful course of conduct, a court may issue a permanent injunction.

Slip op. at 47.

However, to invoke equitable jurisdiction, there must be more than “unsupported, subjective concern about a future harm….” Slip op. at 48.

Court’s Conclusion

The reasonable-apprehension requirement was not satisfied in this case to the extent that there was no likelihood that the restrictions imposed on churches during the height of the pandemic are likely to be repeated, especially in light of the Governor not imposing the initial restrictions, later lifted, when subsequent surges of Covid-19 arose two years after the initial orders were terminated–and in light of the Federal Court settlement in which the Governor agreed not to impose similar restrictions.

Caveat

In closing, the court provided a potential avenue for the plaintiff to return to the Court of Chancery if, in the future, the Governor were to fail to comply with the order of another Delaware court: in which case “… coercive relief from this court will be available.” Slip op. at 50.

Although this short post does not qualify as breaking news, it will be a useful reminder for some:

The Delaware Court of Chancery prefers “stockholder” as the term uniformly used in the Delaware General Corporation Law for those owning a corporation, though in the past, especially prior to the 2010 DGCL amendments, there were inconsistent references–and court decisions in the past have not always been scrupulous in observing the distinction. See generally In Re Adams Golf Shareholder Litigation, C.A. No. 7354-VCL, transcript (Del. Ch. Oct. 3, 2012) (yes, that’s 10 years ago.)

Shout out to The Chancery Daily for this observation.

This post was prepared by Frank Reynolds, who has been following Delaware law and writing about it in various publications for over 30 years.

The Chancery Court’s chief judge recently ruled Carvana Corp. controller Ernest Garcia ll stated only one of eight needed factors for a quick appeal of her June decision that he and his son, CEO Ernest Garcia III, must prove their stock deal was entirely fair to the on-line used car dealer’s investors in In Re Carvana Co. Stockholders Litigation, C.A. No. 2020-0415-KSJM (Del. Ch) Oct. 3, 2022.

Chancellor Kathaleen McCormick’s detailed Oct. 3 order denied Garcia II’s bid for an interlocutory appeal of her June 30 opinion that declined to dismiss derivative breach-of-duty charges that the Garcias profited by orchestrating an allegedly unfairly-priced $600 million stock offering while Carvana’s share price was depressed by the pandemic.  In that earlier ruling, she found the long, dependent business relationships two directors had with the CEO excused the plaintiffs’ pre-suit demand on the board.  In Re Carvana Co. Stockholders Litigation, C.A. No. 2020-0415-KSJM (Del. Ch) June 30, 2022.

In the Oct. 3 ruling, the Chancellor examined and rejected in turn four of the five reasons Garcia II offered in support of his Delaware Supreme Court appeal under Rule 42—which establishes a two-step test for determining whether to certify interlocutory appeal.  She said:

The court must first determine whether “the order of the trial court decides a substantial issue of material importance that merits appellate review before a final judgment.”

If the substantial-issue requirement is met, this court will then analyze eight factors concerning whether “there are substantial benefits that will outweigh the certain costs that accompany an interlocutory appeal.”

She acknowledged as to the first step that although the substantial-issue requirement is met when a decision speaks to the merits of the case, in practice, the state supreme court has accepted appeals of non-merits-based questions that implicate significant issues under Delaware law.  Recently, the Delaware high court has granted interlocutory appeals “concerning the exercise of personal jurisdiction over non-resident fiduciaries,” she wrote.

But the Chancellor said although the Opinion addresses a substantial issue, it does not follow that the issue must be resolved by Delaware’s Supreme Court at an interlocutory as opposed to final stage. The second step under Rule 42 is to consider whether eight factors provide sufficient support when conducting a balancing analysis.

Here, she said, Garcia presents only five factors and of them, “only one provides clear support. The others weigh against interlocutory appeal or are neutral.”

Factor A considers whether the Opinion involves a novel question of law in the state’s jurisprudence. Although Garcia Senior contends that personal jurisdiction has not previously been asserted on the exact facts present here, his narrow view ignores the well-settled rule of law that implicit consent can serve as a basis for personal jurisdiction. “The mere application of long-held precedent to new facts does not make an order worthy of appeal.” the court said in finding Factor A does not support Garcia Senior’s application.

Factor B asks the court to consider whether the Opinion conflicts with other trial court decisions. Garcia Senior contends that the Opinion is inconsistent with the “longstanding Delaware precedent which holds that purchasing or owning shares of stock in a Delaware corporation, standing alone, is not enough to enable a Delaware court to exercise personal jurisdiction over a non-consenting party, even in cases of sole ownership.” But the court said jurisdiction was not the result of Garcia’s majority ownership of shares but his use of that position to force the adoption of a bylaw requiring breach of duty suits to be filed in Delaware–which is consistent with most Delaware decisions.

Factor D looks to whether the Opinion sustains the controverted jurisdiction of the trial court. The Opinion held that this court’s exercise of personal jurisdiction over Garcia Senior is appropriate. This factor is accordingly satisfied. Although Factor D is satisfied, it is not dispositive, the Chancellor said.

Factor G considers whether interlocutory appeal may terminate the litigation. Without citing any case law, Garcia Senior contends that this factor has been satisfied because reversal of the Opinion would terminate the litigation in this Court “as to him.” This is true, but to the extent Factor G looks to judicial and administrative efficiency, it is irrelevant, the court said.

Factor H concerned whether interlocutory review would eliminate litigation, but the court said even if it eliminated charges against Garcia ll, the litigation would continue against the other defendants.

The Delaware Court of Chancery’s recent opinion in XRI Investment Holdings LLC v. Holifield, No. 2021-0619-JTL (Del. Ch. Sept. 19, 2022), should be included in the pantheon of consequential Delaware Chancery opinions and will remain noteworthy for many reasons that deserve to be the subject of a law review article, but for purposes of this short blog post, I only intend to highlight a few of the many gems in this 154-page magnum opus with the most widespread applicability  to those engaged in Delaware corporate and commercial litigation.

Brief Background

The background facts are described in the first 50 pages or so of the opinion, but for purposes of this high-level short overview, this case involved a disputed transfer of interests in an LLC that were alleged to be in violation of the transfer restrictions in the LLC Agreement.  The membership interests were used as security for a loan, and upon default the membership interests were foreclosed upon in an inequitable manner.

Key Points

This opinion engages in a deep and comprehensive analysis regarding the historical foundation of equitable defenses and their applicability to claims that are not the type of traditional claims pursued in a court of equity, as well as other key aspects of Delaware Law, including a discussion of:

  • The Step-Transaction Doctrine and when a series of transactions will be treated as a unitary whole.
  • Void and voidable transactions–and when an act will be treated as void ab initio, in which event it generally cannot be cured or defended against.
  • Equitable Defenses: Some, such as laches, can only be asserted as defenses to equitable claims–but other equitable defenses, such as acquiescence, are available to defend against both equitable and legal claims. This holding by the Court is contrary to a “smattering of recent decisions” in Chancery that did not fully address “nuances that permeate this area of the law”.
  • This decision attempts to bring more harmony and cohesiveness to that smattering of recent decisions.
  • The Court examines in extensive depth the somewhat ancient historical origins of the courts of equity, and the claims and defenses permitted in those courts.
  • The always useful fundamentals of contract interpretation are reviewed as well. See pages 45-47
  • The Court addresses the distinction between: (i) a “right tied to an ownership interest in an entity” and (ii) “the right to whatever cash that interest might generate once it reaches a particular person’s pocket”. See footnote 25. Also cited in the footnote is the recent Supreme Court opinion in Protech Minerals Inc. v. Dugout Team LLC, 288, 2021 (Del. Sept 2, 2022), and the important need to distinguish between the above two concepts.
  • Although the Court of Chancery faithfully (but maybe reluctantly) follows the Supreme Court’s precedent in CompoSecure LLC v. Card UX, LLC, No. 177, 2018 (Del. Nov 7, 2018), regarding void transactions, in dictum the opinion encourages the Supreme Court to reconsider its decision in CompoSecure. A polite list of reasons is offered for why Delaware’s high court should reconsider that precedent, in part because it prevented the trial court in this case from avoiding an inequitable result–and because there is a need to harmonize several areas of Delaware law at issue in this case. See page 111.
  • For example, current Supreme Court precedent allows parties to an agreement to declare certain acts as void–not voidable–and this current ability to “contract out” of equitable review and prevent a court of equity from applying its traditional equitable powers and remedies, deserves (reasoned this opinion respectfully), to be revisited.
  • Among the multi-faceted aspects of the opinion’s rationale for encouraging the  Delaware Supreme Court to reconsider its CompoSecure opinion, this opinion cites to basic contract principles under the common law that considered some contracts as void ab initio if they were violative of public policy. See footnotes 58 to 62 and related text. See also footnotes 65 to 68 regarding the aspects of corporate charters and bylaws that are subject to the limitations of the DGCL because corporations are creatures of the state.
  • This Court of Chancery decision importantly notes that the Delaware LLC Act recognizes that principles of equity apply in the LLC context. See footnote 96. (Cue: the “maxims of equity”.)
  • Even though the Court of Chancery held that its holding was “contrary to the equities of the case”, it held that the result was controlled by precedent–that should be revisited.

Postscript

  • There are also other areas of Delaware LLC law, not addressed in this opinion, that are not well-defined or could benefit from clarification by Delaware’s highest court, to harmonize a “smattering of Chancery decisions”, but most parties on the unpleasant side of a decision do not have the benefit of the author of the trial court opinion assisting with appellate arguments.
  • This case may also provide a reminder of the truism that the victor in a trial court decision should not celebrate too much, or too soon, while the decision is pending on appeal. (Non-Delaware readers should know that there is no intermediate appellate court in Delaware.)