Search results for: indemnification

At the recent ABA Business Law Section meeting in L.A., a panel presentation on current developments regarding Director and Officer Indemnification and Advancement, and D & O Insurance was presented by myself and Nancy Adams of Mintz Levin, Co-Chairs of the eponymous committee, as well as our tireless moderator, James Wing of Holland & Knight, Leslie Kurshan, head of professional lines practice at Marsh, and Kara Altenbaumer-Price, head of management and professional liability counseling for USI ~ the nation’s largest privately-held insurance broker.

The title of the presentation was: “Directors, Officers, and In-House Counsel: You Think You’re Covered, But You’re Probably Not (And What To Do About It)”. A summary of the presentation should be of interest to readers of these pages.

I/Mx Information Management Solutions, Inc. v. Multiplan, Inc. and HMA Acquisition Corp., C.A. No. 7786-VCP (Del. Ch. Mar. 27, 2014).

An associate of Eckert Seamans prepared this synopsis.

While framed in the context of an indemnification suit, the Court of Chancery’s decision in this matter came down to time-honored principles of contract interpretation.  The contract at issue, a stock purchase agreement (SPA), provided that funds being held in escrow would be released to the plaintiff on July 29, 2012, unless the defendants, at that time, had a pending claim for indemnification. When the time came to release the funds, the parties had differing views as to whether the defendants had a valid claim for indemnification.

The indemnification provision of the SPA stated: “If any Action is commenced or threatened that may give rise to a claim for indemnification by any Indemnified Party, then such Indemnified Party will promptly give notice to the Indemnifying Party,” and defines “Action” as “any claim, action, or suit, or any proceeding or investigation, by or before any Governmental Authority or any arbitration or mediation before any third party.” (Emphasis added).

As of July 29, 2012, the defendants (purchasers) had informed the plaintiffs of one potential third-party claim, but had not commenced any action against the plaintiffs for indemnification. Notwithstanding, the defendants refused to release the escrow funds—claiming that they were entitled to withhold the escrowed funds because of the third-party claims. The plaintiff filed suit to secure the release of the funds.

In response, the defendants asserted that they had a second claim for indemnification that existed as of July 29, 2012, involving the same third-party claimant. The plaintiffs, however, were never informed about the second claim until well after the July 29, 2012 cutoff. Accordingly, the plaintiffs moved the Court for partial summary judgment on the issue of whether the second claim provided a valid basis for the defendants to withhold the escrowed funds. In support, the plaintiffs argued that the second claim did not comply with the terms of the SPA, and even if it did, the defendants failed to provide the contractually mandated notice.

The Court turned to the contract language to determine whether the defendants “commenced or threatened” an action against the plaintiff with regard to the second claim. The defendants acknowledged that they had not commenced an action, but they argued that their communications with the plaintiff about the claim was sufficient to constitute “threatening” an action. Since the SPA did not define threaten, the Court looked to the term’s common definition, and framed the issue as whether the defendants “gave signs or warning” to the plaintiff that it was going to commence an action regarding the second claim or “announced to [the plaintiff] that it intended to, or that it was possible that it would, commence an Action regarding” the second claim.

In finding that the defendants did not “threaten” an action, the Court stated that for the defendants to have threatened to commence an action against the plaintiff, the defendants would have to do more than simply notify the plaintiff of a problem; the defendant “also must have expressed that it was going to do something about that problem, in such a way that a reasonable person would understand that [the defendants were] intending to press the issue through a proceeding before a third party.” The Court held that letters between the parties prior to July 29, 2012, concerning the first pending claim, which may have hinted about a potential second pending claim, were insufficient to inform the plaintiffs that the defendants were “threatening” an action related to the second pending claim.

The Court ultimately granted the plaintiff’s motion for partial summary judgment, thereby excluding the defendants’ alleged second claim for indemnification from the suit.

IMX Information Management Solutions, Inc. v. MultiPlan, Inc., et al. , C.A. No. 7786-VCP (Del. Ch. Mar. 27, 2014).

Why This Decision is Notable: This Court of Chancery decision enforced the notice deadline and related contractual prerequisites to perfecting a claim for indemnification in connection with a post-closing attempt to access escrow funds that were set aside for such purposes.

A fuller synopsis is also available on these pages.

Grace v. Ashbridge LLC, C.A. No. 8348-VCN (Del. Ch. Dec. 31, 2013).

Issue Addressed:  Whether a successor entity was liable for advancement and indemnification claims based on the operating agreement of a successor entity LLC even though the sole allegations involve a predecessor entity and a related entity. Short Answer:  No.

Brief Overview:  An understanding of this case requires a review of the some of the entities involved for background purposes.  The plaintiff is a co-trustee of a family trust.  The trust owned shares of a company that was renamed Ashbridge Corporation in 1981.  That entity later merged into Ashbridge Partners LLC which was later renamed to Ashbridge LLC, a Delaware entity.  The court refers to another entity named Ashbridge Investment Management LLC (“AIM”) which the complaint did not explain in terms of its affiliation with the other entities.  The plaintiff was a member of Ashbridge LLC (the defendant) and a shareholder of Ashbridge Corporation before its merger.  He also serves on the Board of Managers and is chairman of the defendant.  He was previously chairman and a member of the board of the predecessor Ashbridge Corporation.

Beneficiaries of the trust for which the plaintiff is a co-trustee filed objections to accountings that were filed by the trust in the Court of Common Pleas of Chester County, Pennsylvania.  The objections filed by those beneficiaries merely refer to the actions of the plaintiff in the instant case, whose last name is Grace, as well as Ashbridge Corporation and AIM.  The defendant entity in this case is not mentioned once in the objections of the beneficiaries filed in the Pennsylvania trust matter, which is the pending underlying litigation in Chester County about which Grace seeks advancement and indemnification.

However, the complaint seeks advancement and indemnification under the operating agreement of the defendant Ashbridge LLC.

The defendant seeks to dismiss the claims for advancement because Grace was made a party to the proceedings in Pennsylvania “by reason of a fact” that Grace is a co-trustee of a trust (not a party in this case), and, moreover, the operating agreement of the defendant LLC does not extend advancement or indemnification rights to predecessor entities or affiliates.  Moreover, the underlying suit in Pennsylvania does not allege actions taken by Grace in his official capacity.  Defendant also argues that certain expenses for which Grace seeks advancement have not been adequately described in the amended complaint.

Analysis:  The court describes that the Delaware LLC Act broadly authorizes the grant of indemnification rights in operating agreements.  See 6 Del. C. § 18-108.  When interpreting advancement provisions in an LLC agreement, the court will ordinarily following contract interpretation principles.  See fn. 27.

The objections by the beneficiaries in the underlying Pennsylvania action only involve Ashbridge Corporation and AIM.  Therefore, Grace must demonstrate that the advancement provisions in the LLC Agreement retroactively apply to a predecessor entity or an affiliate.  This he was not able to do.

In addition to the fact that the allegations in the underlying Pennsylvania case do not mention the defendant entity, it is well settled in Delaware that successor corporate entities are generally not liable for the actions of the corporate officers of predecessor entities or affiliates when a fundamental change in identity has occurred.  For purposes of advancement and indemnification, Delaware law considers a conversion, as here, from a limited liability company to a corporation to be a “fundamental change in identity”.  See fn. 33 (citing Bernstein v. TractManager, Inc., 953 A.2d 1003, 1009 (Del. Ch. 2007).

Costantini v. Swiss Farm Stores Acquisition LLC, C.A. No. 8613-VCG (Del. Ch. Dec. 5, 2013).

Issue Addressed

Whether the agency relationship between the company and a person seeking indemnification rights was sufficient for purposes of the standard applicable for statutory indemnification.

Short Answer:  At the preliminary stage of a motion for judgment on the pleadings, there were too many factual issues to resolve the question.

Brief Overview

The prior Chancery decision in this case was previously highlighted on these pages here.  This letter opinion was in connection with a motion for reargument of that decision about whether Kahn, the person whose request for indemnification was denied in the earlier opinion, should be entitled to indemnification because, contrary to the court’s holding in the prior opinion, there was some agency relationship alleged between the company and  Kahn.  The Court said that there was insufficient information presented on that issue on a factual level – – until the motion for reargument was submitted.  In light of the motion for reargument and the additional information on that factual issue, the court, in sum, allowed for the issue to be further developed through discovery.

The parties chose to import language into their operating agreement from Section 145(a) and Section 145(b) of the DGCL, and therefore the Court used caselaw interpreting that provision for guidance.  The courts have explained that the provision in that statute provides for indemnification when an officer, director or agent of a company is sued “by reason of the fact” of the corporate position of that person.  That test is met when “there exists a causal connection or nexus between such proceeding and the defendant’s corporate capacity.”  See Homestore, Inc. v. Tafeen, 888 A.2d 204, 214 (Del. 2005).  The Court also explained that a “nexus” exists where a person’s “corporate powers are necessary or useful for committing the alleged misconduct.”  See footnote 17.

In this case, there was an issue about whether Kahn was an agent and whether that agency relationship had a nexus to the complaint brought against him in the underlying action.  Part of the factual dispute was whether or not he was a direct agent or subagent based on an entity through which he worked.  Assuming he was a subagent, there was a dispute about whether the entity was a corporation or, believe it or not, a sole proprietorship despite a corporate name.

In conclusion, the pleadings were insufficient at this early stage in order to make a determination, but the discussion by the Court regarding what is required to establish the necessary connection with a corporation that would make one eligible for indemnification, makes this short letter opinion necessary reading for those interested in this nuance of Delaware statutory indemnification law. Although the language interpreted was in an operating agreement, because the agreement incorporated the terms of the statutory provisions in Section 145, the Court used the statutory analysis.

 

 

AM General Holdings, LLC v. The Renco Group, Inc., C.A. No. 7639-VCN (Del. Ch. Oct. 31, 2013).

This opinion is noteworthy for its treatment of contractual indemnification rights.  The Court notes that parties in this case were committed by contract to agree in an indemnity clause to avoid the general rule that indemnification claims do not typically ripen until after the merits of the action have been decided.  See footnotes 50 and 51.

Nonetheless, contractual indemnification clauses must be based on specific facts that are not currently being litigated elsewhere.  In this case, the Court determined that the right to indemnification would depend on the ultimate determination of claims currently being litigated in the Southern District of New York.  Based on the terms of the contractual provision for indemnification, the indemnification claim would need to await the resolution of that separate lawsuit.

This is the latest opinion in an ongoing conflict between these parties in connection with multiple claims involving breach of contract and related claims regarding transactions involving affiliate entities.  Prior decision involving these parties were highlighted on these pages.

Costantini v. Swiss Farm Stores Acquisition LLC, C.A. No. 8613-VCG (Del. Ch. Sept. 5, 2013). A subsequent decision in this case was highlighted on these pages here.

Issue Presented: Whether a non-manager of an LLC was entitled to indemnification based on the terms of the LLC agreement.

Short Answer:  Not based on the applicable terms.

Brief Overview:

In the underlying action, Swiss Farms sought damages against Costantini and Kahn for breach of fiduciary duties.  That case was dismissed based on a successful defense of laches.  Kahn and Costantini now seek indemnification for their fees and costs incurred in defending that fiduciary duty action.  Costantini was a member of the board of managers of Swiss Farms, but Kahn was not a manager.  The Court reiterated the public policy behind indemnification, which encourages able people to serve in managerial positions.

Permissive indemnification under Section 145(a) and (b) of Title 8 of the Delaware Code is allowable as long as the individual acted in good faith.

In addition to those permissive indemnifications, Section 145(c) provides for mandatory indemnification to the extent that any present or former director or officer has been successful “on the merits or otherwise in defense of any action,” suit or proceeding referred to in subsections (a) and (b) of Section 145.

The Court of Chancery explained that the same policy reasons supporting indemnification for corporate actors also applies to actors for other entities, including LLCs such as Swiss Farms.  However, because LLCs are creatures of contract, those terms are controlling.  In this case, the LLC chose to import verbatim both the permissive and mandatory indemnification rights for its managing members, officers, employees or agents as provided to corporate actors in Section 145.

The Court did not address whether the corporate statute was binding in light of it being imported verbatim.  Nonetheless the Court found that the indemnification provision did apply to Mr. Costantini.

Swiss Farms’ argument, which the Court described as “surprising,” was that because Costantini only prevailed on the technical defense of laches, he did not prevail “on the merits.”  However, the language imported from Section 145 allows for indemnification where one prevails on the merits “or otherwise.”  The language “or otherwise” allows indemnification where, as in this case, a managing member prevails in any manner.

The LLC provisions mirrored subsections (a) and (b) of Section 145 regarding permissive indemnification, and another provision in the LLC agreement mirrored subsection (c) of Section 145 regarding mandatory indemnification.  The permissive indemnification is conditioned on the good faith actions of the indemnitee but the mandatory indemnification provisions are not conditioned on good faith, and require indemnification where the actor has merely prevailed in defense of an action.  The latter situation is the one in which Costantini finds himself.

The Court found that it was not reasonable to construe the LLC provisions that mirrored Section 145, to require a good faith condition for the mandatory indemnification coverage.

The Court also viewed as “unfortunate” that corporations and other entities often find broad advancement and indemnification clauses useful for enticing talented people to associate themselves with the entity, only to spurn them once the time for payment arrives.  In this case, the Court also found that Constantini was entitled to reasonable fees incurred in pursuing his indemnification rights.

A separate analysis was performed for a separate defendant, Kahn, who was neither a manager of the LLC, nor was he an officer, employee or agent of Swiss Farms, or even a member.  Rather, he was a partner in a partnership that was a member.  The Court found that Kahn was not within the class of indemniteees covered by the provision.  Although the LLC agreement could have been drafted to provide coverage for a broader class of persons who are neither managers, officers, employees not agents, that was not done.

The Court understood the argument that it may appear unfair for one of the successful defendants to be covered by the indemnification provision but not to provide indemnification for another, but that is the result of the language in the LLC agreement which did not include Kahn among those for whom indemnification was provided.

The Court also distinguished the case of Imbert v. LCM Interest Holding LLC, 2013 Del. Ch. LEXIS 126, 2013 WL 1934563 (Del. Ch. May 7, 2013).  That case involved a dispute as to whether allegations against the potential indemnitee had been brought in his capacity as a manager, for whom advancement rights applied, or as a member, for whom advancement was not provided in the LLC agreement.  It was undisputed in that case that the potential indemnitee was a manager, so the issue was in what capacity the allegations against him were brought.  Therefore, the holding in Imbert was found not to be persuasive.

In sum, Costantini was a manager of Swiss Farms and within the class of indemnitiees entitled to indemnification for prevailing on the applicable claim.  Even though Kahn also prevailed, he was not entitled to indemnification because he was not within the class of indemnitees covered by the LLC agreement’s indemnification provision.

Winshall v. Viacom International, Inc., Del. Supr., No. 39, 2013 (Oct. 8, 2013). 

Issue Addressed: The Supreme Court affirmed a Chancery ruling that Viacom was not entitled to  contractual indemnification, and thus was required to release escrow funds. A prior Supreme Court decision in this case from July 2013, regarding arbitrability, was highlighted on these pages here. Three prior Chancery decisions involving these parties, which provide more background details, were highlighted on these pages here, here and here.

Brief Overview:

The Delaware Supreme Court emphatically reiterated the Delaware motion to dismiss standard under Court of Chancery Rule 12(b)(6), to be one of “reasonable conceivability”, which is akin to “possibility”–and less stringent than the federal “plausibility” standard under the federal version of Rule 12(b)(6), which has been interpreted by the U.S. Supreme Court to be found at some point in the continuum between “possibility and probability.”  See footnote 12.

The Court also clarified the standard applicable to the filing cross-appeals, and rejected the view that even if appellee prevailed, appellee must cross appeal to challenge an adverse subsidiary part of the trial court ruling.  See footnote 13.

The Supreme Court also rejected claims for breach of implied covenant of good faith and fair dealing.

The Court explained that the duty to indemnify based on a contract will not also include the duty to defend unless the word “defend” is explicitly stated.  See footnotes 28 to 30 and 36. The Court concluded that the language of the agreement did not require defense costs in the absence of a breach of an underlying representation or warranty.

Huff v.  Longview Energy Co., C.A. No. 8453-CS (Del. Ch. Aug. 12, 2013).

This short letter ruling granted a motion to dismiss a claim for indemnification pursuant to DGCL section 145(c) based on the reasoning that the claim was premature in light of the underlying judgment being subject to a pending appeal.  Even though a judgment was rendered against the claimant directors in Texas for breach of the fiduciary duty of loyalty, the directors claimed in this matter that they were still successful for the limited purposes of Section 145(c). In addition, that Texas judgment against them (for nearly $100 million) was pending appeal.

Indemnification is typically not a ripe claim until the underlying litigation on which it is based is final and all appeals completed. The Delaware Court of Chancery explained in this pithy decision why the issue of whether the claimant-directors were “successful” in the underlying litigation would not be addressed, for purposes of Section 145, until the underlying Texas litigation was completely ended and all appeals exhausted.

Winshall v. Viacom International, Inc., C.A. No. 6074-CS (Del. Ch. Dec. 12, 2012).

Key Issue Addressed: Whether an indemnification clause in the merger agreement covered $28 million in legal fees incurred to defend post-merger claims.  Short Answer:  No.

Brief Factual Background

Viacom bought Harmonix in Sept. 2006 for $175 million in cash and an earn-out payment based on 2007 and 2008 revenues.  $12 million of the $175 million purchase price was placed into escrow and would be used to indemnify Viacom if Viacom suffered losses arising out of breaches of representations and warranties made by Harmonix.  This case arose out of claims made by Viacom for the escrow funds related to lawsuits that arose concerning the use of intellectual property for a video game by the name of Rock Band.

The Court of Chancery granted the motion for summary judgment filed by the shareholders of Harmonix who will now receive the $12 million that was held in escrow.  Prior Chancery decisions in this case were highlighted on these pages here and here.

Summary of Court’s Reasoning

The Court reasoned that all the claims related to alleged infringements of intellectual property made after the deal closed.  In addition, all of the claims were either dismissed or settled and therefore there was no evidence presented that the alleged misrepresentations on which the indemnification claims were based, were ever made.  Nor was there any evidence that any of the senior officers knew of any of the infringements.  Moreover, the Court found that at least some of the claims were time-barred.

Useful principles of Delaware law restated in this opinion include the following:

●          The well-settled elements of Court of Chancery Rule 56 regarding the standard for summary judgment were reviewed.  See footnotes 32 through 37 and accompanying text.

●          Viacom failed to successfully employ the two basic tactics available to defeat a summary judgment motion:  (1) Under Rule 56(e) it is not enough to rely on “mere allegations or denials” but rather one must provide affidavits or other means to establish that there is a genuine issue of material fact for trial; or (2) One may file an affidavit under Rule 56(f) showing why one needs discovery to address the pending summary judgment motion.  Viacom failed to successfully employ either of these two defenses to a summary judgment motion.

●          The Court reiterated that indemnity provisions are construed strictly, rather than expansively, under Delaware law.  See footnote 53.

●          Other useful principles of Delaware contract interpretation were applied, including the need to review the contract as a whole.

Supplement: For an article that discusses the aspect of this opinion dealing with the standard of review for post-closing adjustment decisions made by accountants, see this link.