Court of Chancery Dismisses Post-Closing Challenge to Merger Transaction
Stockholders who believe that a board breached its fiduciary duties in connection with information provided to stockholders asked to vote for a merger transaction can either seek to enjoin the transaction or seek damages post-closing. Of course, the court cannot enjoin a transaction if a stockholder who files a complaint fails to seek injunctive relief, even where that stockholder also alleges disclosure violations. In that circumstance the stockholder post-closing must determine whether to pursue damages, including through quasi-appraisal. In light of the Delaware courts' jurisprudence post-Corwin, such claims are unlikely to succeed where a majority of the disinterested stockholders have approved the merger unless the plaintiff can demonstrate a material disclosure violation or stockholder coercion to approve the merger for reasons unrelated to its merits. The recent Delaware Court of Chancery decision of In Re Cyan Stockholders Litigation, C. A. No. 11027-CB (May 11), dismissing post-closing plaintiffs' claims for breach of fiduciary duty demonstrates the risks stockholder plaintiffs run when they do not seek equitable relief to enjoin a merger transaction and are unable to plead a material disclosure violation sufficient to vitiate approval of the merger transaction by a majority of disinterested stockholders.
The Cyan litigation arose from a merger transaction entered into on May 3, 2015, between Cyan Inc. and Ciena Corp. in which Ciena offered the Cyan stockholders merger consideration consisting 89 percent of Ciena stock and 11 percent of cash. Plaintiffs filed a complaint on May 15, 2015. Four other stockholders filed actions as well. On June 23, 2015, the court consolidated the actions and appointed lead counsel. Plaintiffs alleged deficiencies in the proxy disclosures. Cyan did not agree to supplement its disclosures. Plaintiffs failed to pursue injunctive relief and a majority of disinterested stockholders approved the transaction on July 31, 2015. Approximately one year later plaintiffs amended their complaint alleging damages for breach of fiduciary duty based on disclosure violations in the proxy materials issued in connection with the merger vote and also seeking the remedy of quasi-appraisal. Defendants moved to dismiss on the ground that plaintiffs failed either to state a nonexculpated claim for breach of fiduciary duty or to state a basis for the remedy of quasi-appraisal. As set forth below, the Court of Chancery dismissed the complaint in its entirety.
Plaintiffs Fail to Allege Breach of Fiduciary Duty
The gravamen of the plaintiffs' complaint for breach of fiduciary duty was that a majority of the directors was motivated to seek a merger transaction because the director defendants were also defendants in securities litigation arising from Cyan's initial public offering in 2013. Plaintiffs alleged that the potential liability was over $140 MM and thus defendants were motivated to seek a deep pocket buyer better able to pay any such judgment so that the director defendants would not be required to pay personally. The court rejected this claim for several reasons including that the plaintiffs overstated the potential liability, the company had D & O liability insurance, the company's assets included over $53 MM in cash, the defendants included several other deep pocket defendants, and plaintiffs failed to allege specific facts that the directors approved the merger because of concerns about exposure from the securities litigation. The court rejected other attacks on the director defendants because even if true they applied only to three of the seven directors so that plaintiffs had failed to allege that a majority of the director defendants was not disinterested and independent.
As to plaintiffs' disclosure violations, the court reviewed its three principal claims and found each wanting. Relying on what was actually disclosed in the proxy statement, the court found that the plaintiffs' claims that the company failed to disclose its dependence on one customer or the conflicts of its investment banker lacked merit. Similarly, the court found that it was not material for the company to have not disclosed a valuation that applied to only 5 percent of the company and upon which the investment banker did not rely for its fairness opinion.
Plaintiff Failed to Allege Entitlement to the Remedy of Quasi-Appraisal
The plaintiffs argued that because the remedy of appraisal is statutory, a failure to provide information sufficient to enable stockholders to decide whether to seek appraisal should be permitted independent of their breach of fiduciary duty claim. The court rejected this argument for two reasons. First, the court found there were no material disclosure violations so the claim failed for lack of a valid factual premise. Moreover, the court noted that the plaintiffs specifically alleged that because the director defendants failed to disclose material information, the plaintiffs were entitled to the remedy of quasi-appraisal. Second,the plaintiffs could not identify any authority upholding an independent right to quasi-appraisal separate from as a remedy for breach of fiduciary duty in connection with misleading disclosures. Thus, both because the allegations of the complaint contradicted the plaintiffs' argument and the absence of authority supporting an independent claim for "frustration to the statutory right of appraisal," the court rejected the plaintiffs' entitlement to the remedy of quasi-appraisal.
A plaintiff who fails on the basis of alleged disclosure violations to seek to enjoin a merger transaction that is later approved by a majority of disinterested stockholders likely will not succeed in pursuing damages post-closing. In the absence of sufficient factual allegations that a stockholder vote was not informed, a plaintiff will not be able to pursue a remedy of quasi-appraisal. Perhaps plaintiffs are better off pursuing the disclosure claims in advance of the stockholder vote so they can obtain guidance whether their disclosure claims are viable. Where a plaintiff fails to do so, it runs the risk that all of its claims will be dismissed post-closing on the basis of the cleansing effect of approval by a majority of disinterested stockholders. The Cyan case reflects the Delaware court's policy of rejecting claims challenging a merger transaction that a majority of fully informed and disinterested stockholders approve.