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Summaries and analysis of recent Delaware court decisions concerning business-related litigation.

Morris James Blogs


Court of Chancery Explains When Corporate Overpayment Claims Require Demand Futility

Chester County Employees’ Retirement Fund v. New Residential Investment Corp., C.A. 11058-VCMR (October 7, 2016)

The issuance of additional stock in exchange for less than fair value typically is a harm falling on the company, and hence gives rise to a derivative claim.  But, such a claim might be dual natured – partially direct and partially derivative – when a controlling stockholder has been benefited, or where the board is not independent.  The question for dual-natured claims is whether they remain subject to the usual Rule 23.1 test for derivative claims: is pre-suit demand on the board excused?  Here, Vice Chancellor Montgomery-Reeves adopts the view endorsed by Vice Chancellor Laster in In re El Paso Pipeline Partners, L.P. Derivative Litigation, 132 A.3d 67, 75, 105 (Del. Ch. 2015), and applies the Rule 23.1 test to dual-natured corporate overpayment claims.  Had the issue been whether the claims were extinguished by a merger, then the Court would have focused on the direct nature of the claims for standing purposes.

Court Of Chancery Explains When Prior Dismissal Does Not Preclude Another Derivative Case

In Re Duke Energy Corp. Derivative Litigation, C.A. 7705-VCG (Del. Ch. Aug. 31, 2016)

This is an important decision because it explains when a prior dismissal of a derivative complaint does not preclude a second complaint alleging a wrong close to that alleged in the dismissed case. More ›

Court Of Chancery Explains When Caremark Claim Exists Based On Illegal Conduct

Melbourne Municipal Firefighters’ Pension Trust Fund v. Jacobs, C.A. 10872-VCMR (August 1, 2016)

This decision explains when a Caremark claim exists based on illegal corporate conduct. The “substantial likelihood” of liability that justifies excusing a pre-suit demand on the board must involve a knowing violation of the duty to follow the law.  That occurred in the well-known Massey and Pyott cases. Here, however, the best the plaintiff could allege is that the board should have known its company was violating the antitrust laws and the Court held that was not good enough to excuse demand. The key is that the record showed the board was advised that the conduct involved was legal.  This highlights that the “should have known better” argument is not going to work in almost all  cases when the board has advice it has not crossed the line into illegal conduct.

Court Of Chancery Dismisses Previously Dismissed Case

Laborers’ District Counsel Construction Industry Pension Fund v. Bensoussan, C.A. 11293-CB (June 14, 2016)

What happens when a derivative claim is filed outside of Delaware and then is dismissed by that other court?  Well even if the other complaint might have stood up in Delaware, the subsequently filed Delaware case will also be dismissed when the law of the state where the case was dismissed gives preclusive affect to such a dismissal.  This result again shows that Delaware is respectful of other jurisdictions and that Delaware litigation may be threatened by bad filings elsewhere.

Court Of Chancery Lets New Board Review Complaint

Park Employees and Retirement Board Employees’ Annuity and Benefit Fund of Chicago v. Smith, C.A. 11000-VCG (May 31, 2016)

Normally it is the board in place at the time the derivative suit is filed that is evaluated to determine if demand is excused. However, when a plaintiff rushes to file knowing that the board is about to change so that its composition will not permit demand to be excused, the new board will be the board whose independence is considered. This prevents gun jumping.

Court Of Chancery Closes The Door Left Open By Pyott And Applies Preclusion To Derivative Suit

In re Wal-Mart Stores Inc. Delaware Derivative Litigation, C.A. 7455-CB (May 13, 2016)

Delaware does hold that the dismissal of a derivative suit in another jurisdiction may preclude the prosecution of a similar derivative suit in Delaware. However, the Pyott decision left open the question of whether the failure of the plaintiff in the dismissed suit to have first sought production of the company’s records to strengthen the complaint might be deemed so “grossly deficient” as to warrant denying preclusion of the second suit that did seek those records. This decision answers that question by holding that the failure to seek corporate records alone is not so bad that preclusion should be denied. An appeal is sure to follow.

Court Of Chancery Denies Second Chance To New Derivative Plaintiff

Binning v. Gursahaney, C.A. 10586-VCMR (May 6, 2016)

This decision illustrates the importance of putting your best foot forward in derivative litigation. Here, a different plaintiff had his complaint dismissed for failure to satisfy the demand excused rules. When this plaintiff tried to overcome that precedent with some additional allegations, he found the going too tough even if the Court did not apply stare decisis. The Court of Chancery is usually very consistent in its analysis even where different judges are involved in different but related matters. Hence, when multiple suits are filed over the same alleged grievance, attacking the weakest complaint may bear extra dividends.

Court Of Chancery Dismisses Derivative Complaint for Want Of Factual Support

The Joseph Penar Family Trust v. Adams, C.A. 10441-VCG (April 28, 2016)

This is an interesting decision because it illustrates what many do not understand - a complaint has to have some actual facts to support its claims, not just inferences.  Thus, when a plaintiff fails to use his rights to inspect an entity’s records to get out the facts, his general allegations of wrongdoing will not be enough to sustain a complaint.

Court Of Chancery Explains Demand Refused Rules

Friedman v. Maffei, C.A. 11105-VCMR (April 13, 2016)

This initial formal decision by the recently-appointed Vice Chancellor shows her firm commitment to the tradition of the Court of Chancery to produce well-written, scholarly opinions. Here the decision explains that after making a demand on a board to file suit and having that demand refused, a plaintiff must do more than plead the Board was wrong to deny the demand. Instead, the complaint must plead a factual basis for the Court to find the Board’s investigation was unreasonable or the Board acted in bad faith. While there are several ways to do just that, just arguing the board’s decision was bad is not one of those ways.

Court Of Chancery Applies Demand Rules To Amended Complaint

Fotta v. Morgan, C.A. 8230-VCG (February 29, 2016)

In general, an amended derivative complaint does not need to show that demand is excused if it was excused for the filing of the initial complaint. However, as this decision points out, when the amended complaint alleges an independent, new derivative claim that fails to meet the “claims already in litigation” standard (which refers broadly to the acts and transactions in the original complaint), then the right to assert that new claim must be established by showing that demand was excused.

Court Of Chancery Applies Demand Analysis To Changed Board

Sandys v. Pincus, C.A. 9512-CB (February 29, 2016)

This is an interesting decision because it applies the demand rules in a derivative case to an odd situation — when some but not all of the board members have changed between when the challenged conduct occurred and when the complaint was filed. The Court held that the demand rules need to be applied to the board in place when the complaint was filed. The changes in the board’s composition made it necessary for the analysis to consider the relationships of new to old board members, particularly as to the independence of the new members. The decision also is a good source for the facts that determine independence. Such facts as common board memberships or how the stock exchange rules apply do not show a lack of independence in themselves.

Court Of Chancery Applies Entire Fairness To Controller Contract

In Re EZCORP Inc. Consulting Agreement Derivative Litigation,  C.A. 9962-VCL (January 25, 2016)

This is an important and useful decision for at least two reasons. First, the Court carefully analyzes past Delaware precedent to conclude that the entire fairness test applies not just to squeeze-out mergers, but also to other transactions where a controller obtains non-ratable benefits, such as contracts with an entity owned by a controller of the company. This is important because prior case law was inconsistent on the test it applied to such contracts.

Second, the opinion has an exhaustive review of Delaware law on how to determine if a director is interested for purposes of the demand futility standard to bring a derivative suit.

Court Of Chancery Requires Dismissal With Prejudice Of Withdrawn Derivative Suit

In Re Ezcorp Inc. Consulting Agreement Derivative Litigation, C.A. 9962-VCL (January 15, 2016)

When, after full briefing, the plaintiff decides that he cannot meet the heightened pleading rules of the recent Cornerstone case, may he just walk away without prejudice to his right to sue again later or must the suit be dismissed with prejudice not just to him but to all stockholders? More ›

Court Of Chancery Rejects Settlement Because Of Named Plaintiff Conflict

Smollar v. Potarazu, C.A. No. 10287-VCN (January 14, 2016)

This decision points out the hazard in providing a separate benefit to the named plaintiff in connection with the settlement of a derivative suit. In short, that is a bad idea and, as in this case, may cause the Court to reject even an otherwise good settlement because of concerns over the conflict of interest when the plaintiff may have agreed to a deal for his own benefit.