Posts from January 2019

Court of Chancery Grants Preliminary Injunction Based on Insider’s Stock Issuances to Himself

Applied Energetics, Inc. v. Farley, C.A. No. 2018-0489-TMR (Del. Ch. Jan. 23, 2019).

This opinion addresses two bedrock issues of Delaware corporate law, specifically, proper board authorization under 8 Del. C. § 141 and directors’ fiduciary duty of loyalty.  Following other directors’ resignations, defendant George Farley was the only director as of February 2016 of plaintiff Applied Energetics (the “Company”).  Shortly after becoming the sole director, Farley executed a written consent to issue himself twenty million shares of Applied Energetics stock for $.001 per share.  No contemporaneous valuation was performed, and Farley made no attempts to ensure a fair process.  Faced with a request to enjoin Farley from selling the shares at issue, the Court of Chancery held that it was reasonably probable that Farley could not cause the Company to validly issue stock, because he was the only remaining director of a three-person board.  The Court also held it was reasonably probable that Farley will be unable to meet his burden at trial of proving the share issuances were entirely fair.  Accordingly, the Court enjoined Farley from trading the shares pending a final adjudication of their validity.  This decision also provides helpful analysis, as did prior decisions in this matter, regarding how the Court will determine the amount of bond when granting preliminary injunctive relief.

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Court Rejects Use of the Implied Covenant of Good Faith and Fair Dealing to Preserve LLC Members’ Exit Sale Rights

The implied covenant of good faith and fair dealing inheres in all contracts governed by Delaware law. In some circumstances, the implied covenant may apply to fill “gaps” in an agreement consistent with the parties’ reasonable expectations at the time of contracting. Delaware courts have held, however, that implying terms in this manner should be a cautious enterprise.

The Delaware Supreme Court’s recent decision in Oxbow Carbon & Minerals Holdings v. Crestview-Oxbow Acquisition, __ A.3d __, 2019 WL 237360 (Del. Jan. 17, 2019) emphasizes that implying terms as a “gap filler” is “a limited and extraordinary remedy” that does not protect sophisticated parties from the harsh operation of contract provisions in circumstances the parties could have anticipated. Specifically, the Supreme Court held that minority members of a limited liability company had no recourse to the implied covenant when the admission of new members reset certain capital return requirements that had to be satisfied before the minority members had the right to liquidate their investments through a sale of the company. The Supreme Court did so notwithstanding the Delaware Court of Chancery’s finding that, had the issue been identified and addressed at the time the new members were admitted, the minority members would not have agreed to that result. More ›

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Temporary Stopgaps Extend Federal Court Operations Through January 31st

The Administrative Office of the U.S. Courts estimates that federal court operations will remain funded through Jan. 31, 2019. The extension has been achieved by deferring non-critical operating costs and the usage of court filing fees and other available funds.

Court System Notices

• US Courts: Judiciary Has Funds to Operate Through Jan. 31
• DE District Court: Notice Regarding Court Operations During Lapse in Appropriations
• DE Bankruptcy Court: Notice Regarding Court Operations During Lapse in Appropriations

Litigation and filings will continue in Delaware during the federal government shutdown. If you have questions, please contact our Director of Client Relations Dawn Sheiker (302.888.6804; dsheiker@morrisjames.com).

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Chancery Addresses Books and Records Demand Under Section 220 by Papa John’s Founder

Schnatter v. Papa John’s Int’l, Inc., C.A. No. 2018-0542-AGB (Del. Ch. Jan. 15, 2019). 

As a general matter, under Section 220 of the DGCL, directors of a Delaware corporation enjoy the right to virtually unfettered access to the corporation’s books and records so they can exercise their fiduciary duties.  In this recent post-trial decision, the Court of Chancery addressed a request by Papa John’s founder and longtime spokesperson, John Schnatter, to inspect documents and communications leading up to the formation of a special committee that decided to terminate certain relationships with him following remarks construed as racial in nature.  While the parties resolved most of their disputes consensually, the remaining issues turned largely upon the Court’s factual finding that Schnatter sincerely wished to investigate potential mismanagement in connection with the committee’s decision to distance the company from him.  Particularly noteworthy, after considering recent precedents in this area, the Court ordered the production of communications relating to this issue that may be found in the other directors’ personal email accounts or on personal devices.  Also notable, in light of all the circumstances, the Court declined to find a separate action for breach of fiduciary duty filed by Schnatter in his capacity as a stockholder was a basis for denying inspection in his capacity as a director.

 

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Chancery Declines to Dismiss Claim that Acquirer Failed to Use “Commercially Reasonable Efforts” to Reach Earn-out Milestones

Himawan v. Cephalon, Inc., C.A. No. 2018-075-SG (Del. Ch. Dec. 28, 2018). 

Parties in M&A transactions commonly include efforts clauses, like the obligation to use best efforts, commercially reasonable efforts, etc., to some end.  Delaware law enforces such covenants and views them as creating affirmative duties.  Exactly what duties an efforts clause creates is contextual, however, and courts sometimes wrestle with how to apply them.  Parties on occasion try to bring clarity to their contract by defining what they intend their particular efforts clause to mean, like the parties attempted in this case. More ›

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