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Summaries and analysis of recent Delaware court decisions concerning business-related litigation.
Morris James Blogs
Showing 13 posts from September 2011.
To decide whether a derivative suit may proceed without first asking the Board of Directors to bring the suit, one test that is applied is whether the Board is "dominated or controlled" by an alleged wrongdoer. For if the Board is so dominated, then it cannot be expected to independently decide if the suit should proceed. Some cases under this rule are easy to decide, such as when there is a parent-child relationship involved. [Those of us who have had teenagers might wonder why this is so.]
There are harder cases and this is one. Here the Court decided that the threats of a dominant stockholder and board member had so affected the rest of the Board that the other directors could not be expected to independently decide if the dominating board member should be sued. Hence, it permitted the suit to proceed without a demand on the rest of the Board.
The obvious lesson here is not to be a bully.
This is a significant decision for 2 reasons. First, it confirms the widely-held belief that the Tooley test to determine if a complaint is direct or derivative applies to limited partnerships.
Second, it interprets language in the LLP agreement permitting the general partner to rely on the advice of an investment banker as constituting proof of "good faith" in deciding to do a deal with an affiliate of that general partner. This is important because while Delaware law permits LLP agreements to waive many duties owed by a GP, the duty to act in "good faith" cannot be waived. Hence, the ability to effectively define in the LLP agreement what will constitute good faith is another way to limit claims against the GP even for self-dealing.
This decision was affirmed on MAy 28, 2013.
Some believe that the board of directors of a small company does not have as strict fiduciary duties to the minority stockholders as do boards of publicly traded companies. This decision reiterates that under Delaware law those duties apply to the small and the large equally.
The opinion is also noteworthy as another example of the Court of Chancery's inclination to limit the Omnicare decision to its facts.
Authored by Lewis H. Lazarus
This article was originally published in the Delaware Business Court Insider | September 28, 2011
In 2009, Delaware's General Assembly passed and Gov. Jack Markell signed legislation enabling arbitration in the Court of Chancery. In 2010, the Court of Chancery adopted rules governing arbitration. As the statutes — 10 Del. C. §§ 349 and 351 — and rules — Court of Chancery Rules 96-98 (Arbitration Rules) — are new and arbitration requires mutual agreement, arbitration may become a more prevalent means of resolving disputes as deal lawyers increasingly require Court of Chancery arbitration for disputes arising out of merger and other agreements.
Reportedly, the current dispute between Skyworks Solutions and Advanced Analogic Technologies contains a dispute resolution clause mandating arbitration in the Court of Chancery. It is thus appropriate to review why Chancery Court arbitration is likely to become an increasingly preferred method of dispute resolution.
First, the arbitration rules permit resolution of disputes by decision-makers with the knowledge and experience of the chancellor and vice-chancellors. To be eligible for Court of Chancery arbitration, the dispute must involve at least one party that is a Delaware entity; both parties must agree to arbitration; and if the dispute is solely about monetary damages, the amount in controversy must exceed $1 million. The procedure is not available for consumer disputes. Previously, disputes solely for monetary damages were not amenable to subject matter jurisdiction in the Court of Chancery.
Second, the members of the Court of Chancery are used to resolving matters on an expedited basis. The arbitration rules contemplate that generally an arbitration hearing will be scheduled within 90 days of the filing of the petition. However, they also allow for modification of the schedule with the consent of the parties and approval of the arbitrator. The arbitration rules thus permit flexibility for the parties and arbitrator to structure the dispute resolution on a schedule that makes sense.
Third, Chancery Court arbitration proceedings are confidential. The filing of a petition for arbitration is not included on the court's docket system. The petition and all supporting documents are by rule considered confidential and not of the public record, unless there is an appeal.
Fourth, Section 351 of Title 10 expressly authorizes parties to stipulate that an arbitration award shall be final, binding and non-appealable. As the synopsis to the legislation explains, "In many matters parties desire an answer and their dispute is narrow enough that even if they cannot settle, they are willing to agree in advance to live with the outcome rendered ... ." The new statutes permit that voluntary option.
Fifth, any appeals go to the Delaware Supreme Court, a decision-making body equally acclaimed for its knowledge and experience in the prompt resolution of significant business disputes.
Sixth, for parties in disputes with foreign entities, the new statutes and arbitration rules may provide greater comfort that the arbitration award will be enforceable against a foreign entity on its home turf under the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards.
Finally, the price is right compared to private arbitration. The filing fee is $12,000, to be equally divided by the parties. For each day or partial day that the vice chancellor or master engages in arbitration after the first day of arbitration, there is a $6,000 fee, also to be equally divided by the parties.
Efficiency, confidentiality, first-rate decision-makers experienced in resolving complex business disputes — for these reasons deal lawyers should consider the benefits of Chancery Court arbitration. And as they counsel their clients to specify Chancery Court arbitration in their agreements, we can expect that it will be an increasingly utilized tool for dispute resolution.
This is a good discussion of the "enhanced scrutiny" that the Court of Chancery applies to board action that affects the right to vote. Such action must have a "compelling justification" and the simple desire to avoid being thrown out of office, even by scalawags, is not enough. Hence, here the Court invalidated the provisions of a specially issued series of preferred stock that had the right to block the removal of the board of directors.
This is an interesting decision for its very entertaining explanation of the facts and how the Court decided what was true in the face of false testimony. Using the computer records to verify when documents were generated, the Court determined which story was most believable.
There are also some key legal determinations, although nothing really new. For example, even though the LLC Agreement had provisions for dissolution, the Court, having concluded those would not work, ordered dissolution.
This is an important decision for 2 reasons. First, it clarifies the extent of a duty to negotiate in good faith. Second, it crafts a remedy for a breach of that duty. This is important because deal term sheets often provide for further "good faith" negotiations and what that means has been unclear in the past. Further, it is also common for the mediation of commercial disputes to end with the basic terms set out in a memorandum of understanding with the details to be "negotiated in good faith."
First, it is important to understand when there is a binding obligation to negotiate in good faith. In this case, 2 formal contracts between the parties required they have such further negotiations. Without a binding contract to do so, it remains doubtful that just a simple agreement to continue discussions binds anyone.
Second, when the duty to negotiate does arise, what constitutes good faith is hard to define in the abstract. This decision points out, however, that a refusal to continue to honor past agreements is "bad faith." In short, you cannot go back on terms already agreed to as a way to get other concessions.
Third, when the duty to negotiate is violated, the remedy is critical. As this decision points out, specific performance and a damage award of what one side says were its expectation damages may not be available for a variety of reasons. Here, the Court provided a remedy that gave the non-breaching party what the Court felt were the benefits that the parties had agreed on generally, even if the details were not finalized. This highlights the importance of reviewing the history of their negotiations to determine what is likely to have been the outcome had they fairly negotiated.
Frequently a contract will have a provision selecting Delaware as the forum to litigate any dispute. What happens then when a case is filed elsewhere and one party seeks to enforce the forum selection clause by an injunction in Delaware against the prosecution of the other litigation? Well, this decision tells us the result and resolves possible conflicting holdings in other courts including the Delaware Supreme Court. Briefly:
1. The Court of Chancery will grant the injunction if the forum selection clause properly confers jurisdiction in Delaware courts. Note that this means that selecting the Court of Chancery may not work if the dispute is not subject to equitable jurisdiction in that court. Better to select "any" court with jurisdiction in Delaware over the subject matter of the dispute.
2. The forum selection clause must be broad enough to include any dispute "arising out of" or "related" to the dispute. A narrower clause may not work.
A few months ago the pop culture writer Chuck Klosterman published a short article addressing a question I have pondered myself, although far less articulately than Klosterman discussed it: Is there a speed at which the human body cannot run any faster?
Put another way: Is there a point at which the record for the 100 meter dash is so low that it cannot be broken because the human body simply cannot exceed it, or could the record always be lowered? The general consensus was that there probably is a limit, but no one knows what the limit is, and a sprinter's belief in his ability to continually break the record generated better performances.
The limits of the human body are, of course, a long way from the poison pill jurisprudence of the Delaware courts, but a question with a similar genesis can be asked: Is there a lower limit for poison pill triggers? In 2010, the Delaware Supreme Court in Versata Enterprises Inc. v. Selectica Inc. affirmed the decision of the Court of Chancery upholding the adoption of a poison pill with a 5 percent holding trigger.
Indeed, the Supreme Court upheld the adoption of the poison pill, the dilution below 5 percent of the stockholder that intentionally triggered the pill, and the adoption of a second poison pill, again with a 5 percent holding trigger. In reaching this conclusion, the Supreme Court found that despite the low trigger point for the poison pill, the pill was not preclusive because it was not "realistically unattainable" for an insurgent to wage a successful proxy contest with a 5 percent trigger. The Supreme Court added that the shareholder advisory firm RiskMetrics Group supports rights plans with a trigger below 5 percent on a case by case basis if adopted for the purpose of preserving net operating losses, as was the case in Selectica. More ›
In recent years, the tension between fiduciary duty principles and contract rights, particularly with respect to fiduciary duties in unincorporated entities, has received a great deal of attention from the members of the Delaware judiciary in their written opinions and in extrajudicial commentary.
On the one hand, many decisions of the Court of Chancery have held that fiduciary duties apply in unincorporated entities unless specific language eliminates those duties. On the other, Chief Justice Myron T. Steele wrote an article in the 2009 American Business Law Journal that stated, "Delaware courts should not apply default fiduciary duties even if the parties have not specifically provided for the elimination of fiduciary duties."
Although the Delaware Supreme Court has not yet directly addressed whether fiduciary duties apply to unincorporated entities by default, it has held — in the 2010 case Nemec v. Shrader — that the exercise of contractual rights is not subject to fiduciary duties.
The tension between fiduciary duties and contract principles in unincorporated entities was visited again in the Court of Chancery's recent opinion in Paige Capital Management LLC v. Lerner Master Fund LLC. Although the court's opinion addressed many factual and legal issues, the facts of Paige as they relate to fiduciary duty issues are straightforward.
Michele and Christopher Paige, wife and husband, sought to enter the world of hedge fund management. They recruited Lerner Master Fund LLC, the investment arm of the Lerner family, founders of MBNA and current owners of the NFL's Cleveland Browns and English Premier League's Aston Villa Football Club, to provide the hedge fund with $40 million in "seed money" so that the Paiges could use the Lerners' investment to attract other qualified investors. The Lerner group became a limited partner of the hedge fund, but also signed a separate agreement with additional terms and conditions that were applicable to the Lerners' investment. Pursuant to this side agreement, the Lerners were not permitted to remove their investment from the hedge fund for three years, unless, among other things, the Paige entities breached the contract or a fiduciary duty. In exchange, the Lerners received reduced management fees, incentive payments and other benefits.
by Lewis Lazarus
Originally published in the Delaware Business Court Insider | August 31, 2011
Stockholder litigation challenging a merger transaction before it is consummated often has two phases. First, plaintiffs seek to enjoin the transaction. Second, if that fails, plaintiffs proceed with claims that the transaction was unfair because of a flawed process and an inadequate price.
When plaintiffs succeed in causing the corporation to issue corrective disclosure prior to a stockholder vote, they generally will be found to have conferred a benefit upon the corporation and its stockholders. Having done so, they are then entitled to an award of attorney fees. But can they get fees before the case is finally resolved?
Two recent decisions, Frank v. Elgamal and In re Del Monte Foods Company Shareholders Litigation, illustrate that the question is one for the discretion of the court and that that discretion may be exercised differently depending upon the chancellor or vice chancellor deciding the case and the underlying facts and circumstances.
Although the Frank court declined to entertain an application for interim fees while the Del Monte court did and awarded $2.75 million in interim fees, the court in each opinion agreed that "interim fee awards may be appropriate where a plaintiff has achieved the benefit sought by the claim that has been mooted or settled and that benefit is not subject to reversal or alteration as the remaining portion of the litigation proceeds," quoted from the 2001 decision in Louisiana State Employees Retirement System v. Citrix Systems Inc.
The court in each opinion also recognized that a trial court is never required to consider an interim fee application and that a trial court may well prefer to have applications determined at the end, when a single fee can be awarded. Vice Chancellor John W. Noble in Frank noted that "judicial economy and the orderly conduct of litigation are usually better served if interim awards of attorneys' fees are avoided."
by Edward M. McNally
Originally published in the Delaware Law Weekly l 08-31-2011
In years gone by, Delaware’s courts had much of the same flavor as a small town. The local bar was small. Few firms from outside Delaware had Delaware outposts. The lawyers were part of a community where everyone at least knew someone who knew who they were and how they practiced law. As a result, it was often true that lawyers got away with not complying with scheduling orders and continuances were freely granted. Even today, some of that atmosphere remains, with Delaware lawyers maintaining civility.
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This decision upholds the prior decision of the Court of Chancery that creditors of an insolvent LLC may not bring a derivative claim against its managers. This follows because the Delaware LLC Act limits such claims to members. This result is another example of the differences between LLCs and corporations. For in the corporate context, a creditor may file a derivative claim when the entity is insolvent.