Showing 11 posts from July 2011.
Court Of Chancery Explains Limits To Guaranty
Roseton OL LLC v. Dynegy Holdings Inc., C.A. 6689-VCP (July 29, 2011)
This decision explains the limits on a parent's guaranty of a subsidiary's performance in the context of what the parent can do with its assets and its ability to later honor the guaranty. It is an illustration of the need to understand the client's business and for careful drafting of such agreements.Share
Court Of Chancery Determines When Discovery Permitted To Vacate Award
Chartis Specialty Insurance Company v. LaSalle Bank, C.A. 6103-VCN (July 29, 2011)
This decision discusses when a party may obtain discovery in an action seeking to vacate an arbitration award. The short answer is "not very often." However, discovery was granted in this case alleging arbitrator bias.Share
Court Of Chancery Limits Interim Fee Applications
Frank v. Elgamol, C.A. 6120-VCN (July 28, 2011)
Recently, the Court of Chancery has permitted fee applications before a case is finally decided. This decision notes that practice should and will be limited to unusual situations. That cuts off that trend before it goes too far.Share
Court Of Chancery Modifies the Duthie Procedures
Fuhlendorf v. Isilon Systems Inc., C.A. 5772-VCN (July 22, 2011)
When a director is sued, he often is entitled to have his attorney fees advanced by his company, even when it is his former company. A fight over the fees sometimes results, however, when the fees are high and the relationship with the director is not the best. The Court of Chancery, after having to referee several of these fee fights, adopted what are known as the Duthie procedures where a percentage of the fees are paid and any disputed fees are sent to a special master to determine reasonableness. The parties then split the fees of the master. This decision modifies the Duthie procedures by having the fees of the special master paid by the company and not split with the director when his advancement agreement calls for payment not just of his fees but of any "expenses."Share
CCLD Follows Chancery Analysis
ALTA Berkely VI C.V. v. Omneon, Inc., C.A. N10C-11-102 JRS CCLD (July 21, 2011)
On one level this is not a particularly unusual decision and that is just the point. For here the Superior Court's new CCLD shows that it is going to make the same studied analysis and follow the same precedent as the Delaware Court of Chancery. This will increase confidence in the CCLD and, as this decision shows, its experienced and competent judges, for business disputes.
The Delaware Supreme Court affirmed this decision on MArch 5, 2012.Share
Why You Should Care What Law Applies to Your Contract
This article, authored by Edward M. McNally, was originally published in the Delaware Business Court Insider | July 20, 2011
It is striking how often drafters fail to consider what law applies to the contract they write. This is true of even big contracts. For example, Directors & Officers insurance policies frequently fail to choose the applicable law, leaving the choice of law to depend on where the policy is written or the insured company resides. But to ignore the choice of law is to forego many possible advantages that the right choice may provide. This article touches upon those advantages in the context of two recent decisions where the result turned on the choice of Delaware law.
Choosing the right law for your client will always be the right choice compared to ignoring the issue. First, at least the choice may avoid costly arguments later. People argue over what law applies because it may make a real difference. Those arguments cost real money. Second, if you choose wisely, you will choose in favor of predictability. Trying to decipher the law of some jurisdictions (such as Saudi Arabia) can be very difficult. If you do not know for sure what the applicable law provides, then you do not know if what you wrote in your contract actually works as you thought. Third, you can often simplify a contract by choosing the law that applies. That saves money just in the drafting process alone.
What law, then, should you choose? Better to pick the law you know than to guess at what some other jurisdiction's law might be. That just is common sense. However, two recent decisions illustrate why you might want to consider Delaware law for your next contract. Indeed, Delaware law is now the preferred law in most merger and acquisition documents, even for those not involving a Delaware corporation. In that practice area, Delaware law is considered a neutral compromise when the parties are from different jurisdictions whose laws might otherwise apply but for the contractual choice of Delaware. Delaware M&A law is also well-developed and thus more predictable than the law in some other jurisdiction. More ›
Supreme Court Explains Duties In Electronic Discovery
Genger v. TR Investors, LLC, No. 592, 2010 (July 18, 2011)
For years the federal courts have steadily increased the sanctions for not following the rules governing email production in pretrial discovery. Now the Delaware Supreme Court has affirmed that it too will impose harsh penalties when emails are destroyed. The opinion has a useful explanation of the rules governing storage of emails and what should be done to protect them.
The opinion also clarifies that a Delaware court may decide who may vote the stock in a Delaware corporation even when the individuals claiming that right are not before the court. However, the court may not determine who owns that stock unless it has personal jurisdiction over them.Share
Court of Chancery Denies Expedited Process in Merger of Limited Partnership Even Though Plaintiff Stated Colorable Claim
Authored by Lewis H. Lazarus
This article was originally published in the Delaware Business Court Insider | July 13, 2011
The Court of Chancery often hears applications for expedition of a plaintiff's motion to enjoin a merger transaction. While the court "has followed the practice of erring on the side of more hearings rather than fewer" (Giammargo v. Snapple Beverage Corp. (1994)), it will not schedule an expedited hearing unless the plaintiff can show good cause.
The June 10 opinion in In Re K-Sea Transportation Partners L.P. Unitholders Litigation illustrates that, even where a plaintiff can state a colorable claim, the court will not schedule an expedited hearing if the plaintiff fails to show "a sufficient possibility of a threatened irreparable injury, as would justify imposing on the defendants and the public the extra (and sometimes substantial) costs of an expedited preliminary injunction proceeding," (citing Giammargo).
The K-Sea case also illustrates that when parties to agreements governing limited partnerships, limited liability companies or other alternative entities modify or eliminate fiduciary duties, a Delaware court will enforce the agreements as written. Courts will not undo what one party now believes is a bad bargain through the application of fiduciary duties or the implied covenant of good faith and fair dealing.
K-Sea involved the acquisition of a Delaware partnership. The acquirer sought to acquire the limited partnership by merger for either cash or a combination of cash and the acquirer's stock. Representatives of the board of directors of target's general partner negotiated the terms of the merger agreement. A special committee approved the transaction.
The plaintiffs argued that the special committee's approval did not comply with the K-Sea Limited Partnership Agreement (LPA) for two reasons. First, the special committee failed to consider separately an $18 million payment to the general partner for its incentive distribution rights (IDRs). Second, the members of the special committee were not independent because shortly before the beginning of merger negotiations with the acquirer, the target granted them each 15,000 phantom units that would immediately vest upon a change of control.
The plaintiff-unitholders also challenged the disclosure provided the common unitholders in the registration statement.
Chancellor Explains How Representations And Warranties Work
GRT, Inc. v. Marathon GTF Technology Ltd., C.A. 5571-CS (July 11, 2011)
One of the more misunderstood aspects of merger agreements is how their representations and warranties are intended to work. Do they continue after closing? What is the limit on when litigation may be filed over any breach? This decision answers those questions and is therefore essential reading for those who deal in these agreements.
Of particular importance is the decision's holding that a 1 year limitation of litigation is binding and may cut off claims for breach of the representations and warranties.Share
Court of Chancery Applies Delaware Law To German Investment
QVT Fund LP v. Eurohypo Capital Funding LLC I, C.A. 5881-VCP (July 8, 2011)
When will Delaware law apply to a dispute is often not an easy question to resolve. That is true even when the parties had agreed to sue under Delaware law but the issue presented may involve foreign law as well. Here the Court sorted through a complicated deal involving the internal affairs of a German bank and held that some of the issues might be governed by German law but the main dispute was subject to Delaware law. This analysis is thus a useful guide in other complicated choice of law situations.Share
Unliquidated Derivative Claims Continue to Have Little Value
This article was original published in The Delaware Business Court Insider | 2011-07-06
On May 31, Vice Chancellor Leo E. Strine Jr. issued an opinion denying a motion for preliminary injunction to halt a merger between Massey Energy Company and an affiliate of Alpha Natural Resources Inc. One of the critical issues in the opinion was the value of the derivative claims Massey had against certain current and former directors and officers arising out of Massey's compliance with federal mining safety regulations.
Massey's attitude toward federal mining safety regulations arguably manifested itself in the Upper Big Branch mine disaster, which resulted in the loss of 29 lives. In his opinion, Strine found that the plaintiffs had probably stated a Caremark claim against the directors of Massey and criticized the board of Massey for failing to assess the value of the derivative claims but ultimately refused to enjoin the merger, concluding that the derivative claims did not have the value plaintiffs believed.
While this result has received some negative commentary, is it really a surprise? In fact, the court's analysis is consistent with prior analyses addressing the value of derivative claims in the context of a merger. The fact that the party here is more infamous than many others did not change the analysis under Delaware law.
The plaintiffs valued the derivative claims based on the "aggregate negative financial effect on Massey that the Upper Big Branch Disaster and its Fall-Out has caused." According to the plaintiffs' expert, these damages range from at least $900 million to $1.4 billion. The court, however, rejected this theory, in large part because the computation of the value of the derivative claims was far more complicated than the plaintiffs' theory.
First, even though the plaintiffs had stated a viable Caremark claim against the directors, because of the business judgment rule and the exculpatory provisions in Massey's certificate of incorporation, in order to obtain a monetary judgment against the directors, they would have to prove that the directors acted with scienter — a difficult standard to meet, particularly with independent directors.
Second, the court also found that even as to the autocratic former leader of Massey, Don Blankenship, who was arguably responsible for Massey's approach to mining safety, meeting this standard would be difficult. The court noted that there is a large gap between pushing the limits of federal regulations while accepting minimal loss of life and knowingly endangering the mine itself by putting its very operations at risk. Moreover, Blankenship was not directly in charge of any specific mine, and tying his policies directly to any disaster would be challenging.
Third, proving that the directors acted with scienter may entitle the corporation to a monetary judgment from the directors, but it would simultaneously expose the company to third-party civil liability and potential criminal liability, and potentially deprive the directors of the ability to rely on insurance coverage, all of which would harm the company.
Fourth, after the merger, Alpha will continue to have to address direct claims against Massey from its lost and injured miners, regulatory consequences of the company's mining safety approach, and other elements of the "Disaster Fall-Out." To the extent possible, Alpha will have every incentive to shift that liability to the former directors.
Fifth, it is impossible to determine the potential derivative liability of the directors until Massey's direct liability is determined. Indeed, it is not even in the interest of Massey's stockholders to press their claims of derivative liability now, before third-party civil and criminal adjudication, lest the plaintiffs expose the company to additional liability.
Sixth, the plaintiffs' expert put no value on the ability of the company or its stockholders to collect on a potential $1 billion judgment. The company's insurance policy, even assuming it is available to cover claims against the former directors, is only $95 million. While this is no small amount, it is, as the court put it, "not material in the context of an $8.5 billion merger."
While the vice chancellor was quick to note that the Massey board's approach to valuation of the derivative claims was less than ideal, because of the factors noted above, he found that the plaintiffs had not persuaded him that the merger was unfairly priced because of the failure to value separately the derivative claims. Was this conclusion so unprecedented, however, to justify criticism of the valuation?
Delaware courts previously have been asked to consider the value of unliquidated, contingent claims belonging to the company in the valuation context. These courts have never valued derivative claims at the full value of all potential damages, but instead have considered many of the factors Strine addressed in Massey.
For instance, in Onti Inc. v. Integra Bank Inc., petitioners in an appraisal action argued that their derivative claims should have been valued as an asset of the company in the appraisal proceeding. The stockholders' expert valued the claims at more than $19 million, while the company's expert valued the claims at negative $2.5 million. The court determined that the claims had no value. In reaching that conclusion, the court adopted the theory advanced by the company's expert, that all litigation factors should be considered, including the likelihood of success on the merits, the attorney fees necessary to obtain that result and any indemnification that the company would owe to its directors. Citing to prior precedent, the court noted that "there would be strong logic in including the net settlement value of such claims as an asset of the corporation for appraisal purposes."
Later that same year, the court took a similar approach in Bomarko Inc. v. International Telecharge Inc. The court valued the claim in that case by multiplying the probability of success by the likely amount of recovery while subtracting costs incurred to obtain that result.
More recently, in Arkansas Teacher Retirement System v. Caiafa, the Court of Chancery overruled an objection to a settlement that released claims that the board failed to ascribe any value to federal derivative claims in a merger. After noting that there is no case law supporting the proposition that the board was required to undertake a separate and discrete valuation of the derivative claims pending at the time of the challenged merger, the court reached the same result as Strine did in Massey, albeit with less analysis. That is, the court noted that the claims asserted in the federal action were difficult to win, and even those that had a higher probability of success could not have the $2 billion value the objectors claimed they did. On appeal, the Delaware Supreme Court affirmed the Court of Chancery's decision to overrule the objection for the reasons set forth in the Court of Chancery's opinion.
Given these precedents, is the result in Massey all that surprising? While some contingent claims have been given value, it is the exception, and not the rule, to assign material value to contingent derivative claims. Moreover, in the context of a merger worth billions of dollars, the likelihood is low that derivative claims have material value, particularly when reasonable defenses can be interposed.
But does this decision mean that boards can just eschew any analysis of the value of a derivative claim in the context of a merger? Probably not. The Court of Chancery certainly did not condone the practice, and had the court not been persuaded that the board otherwise acted properly, the failure to do so could have had more importance.
Further, because the exception to the derivative standing rule that entering into a merger for the purpose of extinguishing derivative claims remains viable, particularly in light of the Supreme Court's opinion in Caiafa, failure to value the claims could support the conclusion that a merger was negotiated simply to avoid liability. Finally, not all derivative claims are equal in this context. As Strine noted in Massey, if Massey had a liquidated claim against a former fiduciary reduced to a judgment but failed to get any value for this claim, he could see the substantial unfairness in failing to obtain value for that claim in a merger. Alternatively, if recovery on any derivative claim after a cash-out merger would inure solely to the benefit of the acquirer, then perhaps there would be value to the buyer in obtaining that claim.
Put simply, as with many issues of fiduciary law, the context of the situation is important. What is fairly clear, however, is that unliquidated contingent derivative claims are not ascribed much value, if any, in a merger context, unless a party can demonstrate a reasonable likelihood that the net value of the claim to the company is material.
Peter B. Ladig (firstname.lastname@example.org) is a partner at Morris James in Wilmington and a member of its corporate and fiduciary litigation group. He represents both stockholders and directors in corporate litigation. The majority of his practice is in the Delaware Court of Chancery, although he has extensive experience in the other state and federal courts in Delaware and has been involved in over 50 published decisions. The views expressed herein are his alone and do not necessarily reflect the firm or any of the firm's clients.