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Summaries and analysis of recent Delaware court decisions concerning business-related litigation.
Morris James Blogs
Showing 74 posts by Lewis H. Lazarus.
Chancery Denies Motion for Reargument, Finding No Change to Delaware Legal Principles for Existence of “Control Group” of Stockholders
Delaware courts recognize that a group of stockholders can constitute a “control group” when those stockholders “are connected in some legally significant way—such as by contract, common ownership, agreement, or other arrangement…” and work together toward a shared goal. Sheldon v. Pinto Tech. Ventures, L.P., 2019 WL 4892348, at *4 (Del. Oct. 4, 2019) (citing Dubroff v. Wren Hldgs., LLC, 2009 WL 1478697, at *3 (Del. Ch. May 22, 2009)). Under such circumstances, the control group stockholders may owe fiduciary duties to the corporation’s minority stockholders. Where a minority stockholder adequately pleads (1) the existence of a control group; and (2) a self-dealing breach of fiduciary duties by that control group, the minority stockholder’s claims may be both direct and derivative. Gentile v. Rossette, 906 A.2d 91, 99-100 (Del. 2006). In Silverberg v. Padda, Plaintiffs argued that they had alleged a direct claim by pleading that a control group of stockholders had breached fiduciary duties by approving alleged dilutive preferred stock issuances. After the Court dismissed this claim based on Plaintiffs’ failure adequately to allege a control group, as opposed to mere parallel action, Plaintiffs asserted in a motion for reargument that the Delaware Supreme Court’s recent Sheldon opinion had established a new legal principle to assess the existence of a control group. The Court disagreed, ruling that Sheldon had reaffirmed the Dubroff standard that the Court had applied in dismissing Plaintiffs’ claims. See Morris James blog post of October 14, 2019 (discussing the Court’s earlier decision). The Court re-affirmed its holding that Plaintiffs’ allegations did not suffice to allege a control group because the agreement between the allegedly controlling stockholders (1) did not relate to the challenged transaction; (2) included persons other than the purported control group members; and (3) did not bind the signatories with respect to their votes on the challenged transaction. Because the Court determined that Sheldon did not affect the Court’s holding that such allegations do not suffice to establish a control group, the Court denied Plaintiffs’ motion for reargument.
Delaware Supreme Court Finds an Insurance Policy Covering “Securities Claims” Did Not Apply to Claims for Violations of Common Law or Statutes Not Specific to the Regulation of Securities
The Delaware Supreme Court, applying principles of contract interpretation under Delaware law, held that claims of breach of fiduciary duty, unlawful dividends and fraudulent transfer were not Securities Claims reflecting a violation of any “regulation, rule or statute regulating securities” and hence the defendant’s director and officer insurance policy that covered such claims did not apply. The Supreme Court thus reversed a holding of the Delaware Superior Court that the insurance coverage applied because the claims “pertain[ed] to laws one must follow when engaging in securities transactions.” The Supreme Court held that the unambiguous plain meaning of the policy language was that the parties intended coverage only for claims arising under regulations, rules or statutes that “regulate securities.” Using that definition, the Supreme Court held that claims of breach of fiduciary duty, aiding and abetting fiduciary duty breaches, and promoter liability were not Securities Claims because they do not involve regulations, rules and statutes regulating securities. Likewise, the claim for unlawful dividends arose under statutes that regulated dividends, not securities, and the fraudulent transfer claims arose under statutes that were not “specific to transfers involving securities.” The Supreme Court rejected as overly broad Verizon’s interpretation that the phrase “regulating securities” included any “laws one must follow when engaging in securities transactions,” holding that that interpretation would encompass claims unrelated to securities and would render meaningless the limitation that coverage applied only to violations of rules or statutes “regulating securities.” The Supreme Court thus remanded the case to the Superior Court to enter judgment for the insurer-defendants.
Chancery Finds Safe Harbor Conflicts Committee Not Validly Constituted in Master Limited Partnership Dispute
The Dieckman v. Regency GP LP matter has been in the Delaware courts for several years. The Court of Chancery originally dismissed the complaint attacking a conflicted merger transaction primarily on the ground that plaintiff had failed to plead that a unitholder approval safe harbor provision contained in the limited partnership agreement was inapplicable. The Delaware Supreme Court reversed, holding that plaintiff had adequately pleaded that unitholder approval was secured by false and misleading information and, further, that approval by a Conflicts Committee was tainted by conflicts involving its members. Plaintiff amended his complaint and, following briefing on a motion to dismiss, the Court of Chancery sustained plaintiff’s claim that the General Partner had approved the transaction even though members of its board did not believe that the transaction was in the best interests of the limited partnership. More ›
Chancery Construes LLC Agreement as Imposing Only the Managerial Duty to Act in Good Faith and Dismisses Claims for Failure to Plead Bad Faith
Under Delaware law, the managers of a limited liability company owe the entity and its members the traditional common law fiduciary duties of care and loyalty. But parties may eliminate or modify those duties under the LLC’s operating agreement and impose contractual duties instead. When they do so, Delaware courts will analyze any challenged conduct of the manager against those contractual duties. Here, the Court of Chancery found the managers’ contractual duty to be a narrow one: act with a good faith belief that their conduct was in or not opposed to the LLC’s best interests. More ›
Chancery Upholds Caremark Claim Based on Alleged Failure to Adequately Monitor Biopharmaceutical Company’s Clinical Trials
The Delaware courts have observed that a Caremark claim for failure of oversight against a board is among the most difficult to sustain. Nonetheless, a set of particularized allegations showing serious oversight shortcomings regarding a mission-critical topic will succeed, as illustrated by the Delaware Supreme Court’s recent decision in Marchand v. Barnhill, 212 A. 3d 805 (Del. 2019). Clovis is the latest example. More ›
Despite the plaintiff’s request for specific performance and an arbitration provision that carved-out equitable claims, the Court of Chancery stayed the action and deferred to the arbitrator the decision on arbitrability. The limited liability company operating agreement at issue contained a mandatory arbitration provision that referred all disputes to arbitration “[e]xcept to the extent that a party is entitled to equitable relief…” and incorporated the AAA arbitration rules. In reaching his decision, the Vice Chancellor evaluated the arbitration provision under the standard set forth in James & Jackson, LLC v. Willie Gary, LLC, and clarified in McLaughlin v. McCann. Willie Gary set forth a two-part test to determine whether the parties agreed to submit the issue of arbitrability to an arbitrator: the arbitration provision must (1) resolve all disputes; and (2) incorporate rules that permit an arbitrator to determine arbitrability. McLaughlin later clarified Willie Gary by cautioning against an overly narrow reading of the first prong of Willie Gary, ruling that courts should only determine arbitrability when the carve-out is so “obviously broad and substantial” that it overcomes the presumption in favor of permitting the arbitrator to decide arbitrability. The Vice Chancellor concluded that the scope of the equitable relief carve-out in the operating agreement was not “so obviously broad and substantial as to overcome the heavy presumption” that the parties intended to submit the issue of arbitrability to an arbitrator to decide whether their dispute is subject to arbitration under the arbitration provision. The Court therefore held the equitable carve-out did not apply to enable the Court to decide arbitrability.
In Manti Holdings, LLC v. Authentix Acquisition Co., Inc., the Court of Chancery held that a contract provision limiting or waiving future appraisal rights may be enforceable as a matter of law. The Court had previously ruled that the petitioner stockholders had waived their right to an appraisal in a stockholders agreement. On re-argument, the Court was asked to determine whether the petitioners could, as a matter of law under the Delaware General Corporation Law (“DGCL”), waive their appraisal rights. Because Section 262 of the DGCL confers a statutory right to appraisal upon shareholders, the petitioners argued that the provision of the stockholders agreement purporting to waive appraisal rights was not enforceable. Relying upon its prior precedent concerning waiver of statutory rights, the Court explained that a contractual relinquishment of appraisal rights was permissible when the contract language is clear and unambiguous and the record reflects that the petitioners were sophisticated investors who were fully informed and represented by counsel when they signed the stockholders agreement.
Court of Chancery Finds Agreements Unenforceable for Lack of Assent, Dismisses Remaining Claims for Lack of Personal Jurisdiction
Parties to a contract must provide evidence of an overt manifestation of assent for a contract to be enforceable under Delaware law. Upon remand from the Delaware Supreme Court, the Court of Chancery found such assent to be lacking and dismissed the remaining claims for lack of personal jurisdiction. More ›
Delaware Supreme Court Clarifies: No Presumption of Confidentiality for Documents Produced Pursuant to a Books and Records Request
The Delaware Supreme Court held that documents produced pursuant to a request for books and records under Section 220 of the Delaware General Corporation Law are not subject to a presumption of confidentiality. More ›
Court of Chancery Dissolves Limited Partnership Upon Finding General Partner Unable To Achieve Its Business Purpose
The equitable remedy of dissolution is extraordinary. Given the extraordinary record before it, and the abundance of evidence that the general partner could not operate the business, the Court granted plaintiffs’ petition for dissolution. More ›
Lewis H. Lazarus to Participate in Panel Discussion Commemorating the Landmark Case Paramount Communications, Inc. v. Time Inc.
Morris James partner Lewis H. Lazarus will participate in a DSBA CLE titled “The Test of Time: A 30-Year Lookback at Paramount Communications, Inc. v. Time Inc. on its 30thAnniversary.” The CLE will take place live on Thursday, September 26, 2019 at the Delaware State Bar Association. Webcasts will be available in Kent County at the office of Morris James LLP in Dover and in Sussex County at the office of Tunnell & Raysor in Georgetown. More ›
Chancery Dismisses Derivative and Direct Claims Claims Upon Finding Shareholder Plaintiffs Sold Shares Without Preserving Rights to Continue to Assert Direct Claims
It is well-settled in Delaware that a stockholder seeking to pursue derivative claims must own shares at the time of the wrong and continuously through the life of any litigation. Similarly, direct claims based on injury to the shares generally pass to a buyer. These principles, in combination with the public policy against issuing advisory opinions, mean that stockholders who sell all their shares and any right, title and interest in those shares after initiation of litigation generally will lose their standing to assert claims based on injury sustained as a shareholder or to those shares. The Delaware Court of Chancery applied those principles in Urdan v. WR Capital, C. A. No. 2018-0343-JTL (Del. Ch. August 19, 2019) and dismissed claims of breach of fiduciary duty and self-dealing because the stockholder-plaintiffs sold all of their shares after initiation of the litigation and thus lost standing to pursue their claims both derivatively and directly. What makes this case particularly interesting was how the court determined that plaintiffs’ effort through a settlement agreement to preserve at least the direct claims by contract was ineffective due to the failure to incorporate by reference that preservation of rights in a companion Repurchase Agreement by which plaintiffs in fact sold their shares. More ›
Chancery Makes Post-Trial Award of $22K in Damages for $5.3 Million Fiduciary Breach Claim, and Orders an Accounting for Suspicious Expenses Totaling $235K Arising Out of Self-Dealing Transactions
A director of a Delaware corporation who stands on both sides of a challenged transaction must prove the entire fairness of the transaction. Such a defendant must show that the transaction was the product of both fair dealing and fair price. Where the dispute involves more than one transaction, the Court “may place on a fiduciary the burden to demonstrate the fairness of a series or group of expenditures, or may order an accounting of such expenditures.” However, the fiduciary will bear this burden only if the plaintiff, by substantial evidence, first makes a prima facie showing that the fiduciary stood on both sides of the transactions at issue. Applying Technicorp Int’L II Inc. v. Johnston, 2000 WL 713750 (Del. Ch. May 31, 2000) and its progeny, the Court in Avande ruled post-trial that plaintiff had failed to make a prima facie showing that the defendant, a former director and CEO, was self-interested in the challenged transactions. Plaintiff had challenged nearly $4.7 million dollars in transactions reported on the company’s ledger over five years (comprising roughly 45% of the company’s total expenses), asserting that the transactions were the result of the defendant’s self-dealing. However, the plaintiff was able specifically to identify only $30,500 of potentially problematic expenses (less than 1% of the disputed amounts), only one $3,500 transaction of which appeared to have personally benefitted the defendant-fiduciary, but sought to shift the burden to the defendant to prove the entire fairness of the remaining amounts. Among the factors that led the Court not to shift the burden was that Evans did not exercise exclusive control over Avande’s finances. The Court also found it was inconceivable that at least a substantial portion of the challenged amount was not the result of valid business expenses needed to operate the business over five years, and declined to shift the burden. However, the Court found that the plaintiff had demonstrated self-interest sufficient to shift the burden and that defendant had failed to prove the fairness of $235K in payments for services billed to Avande by the defendant’s wholly owned business. The Court ordered an accounting of these transactions to be conducted by a third-party chosen by the parties because it was unclear how much was paid for each service performed. Because the self-dealing transactions were subject to entire fairness, and because the defendant had not proved the fairness of the transactions at trial, the defendants were responsible for the costs of the accounting proceeding.
Chancery Applies California Law Despite a Delaware Choice-of-Law Provision and Dismisses a Claim for Breach of a Non-Solicitation Provision in an Employment Agreement as Unenforceable under California Law
When a contract, executed by parties in a foreign jurisdiction, designates Delaware law as controlling, Delaware courts must first determine whether the choice-of-law provision is enforceable. In such cases, Delaware follows the Restatement (Second) of Conflict of Laws for the conflict-of-laws analysis. Under that analysis, Delaware courts will defer to the laws of the foreign jurisdiction if that jurisdiction’s laws (1) would apply absent the Delaware choice of law provision, (2) enforcement of Delaware law over the contractual provisions at issue would conflict with fundamental policy of the foreign jurisdiction, and (3) the foreign jurisdiction has a materially greater interest in enforcement (or non-enforcement) of the provision at issue than Delaware. In NuVasive, the Court ruled that California law would apply but for the contractual choice of law provision. In an earlier bench ruling, the Court found that California had a materially greater interest on the issue of whether a post-employment non-compete in the employment agreement was enforceable, and it voided the non-compete as violating fundamental California public policy. In this decision, the Court determined that a one year post-employment restriction on solicitation of customers and employees also violated the fundamental public policy of California as reflected in case law interpreting its business statutes. The Court then held that California had a materially greater interest in precluding non-solicitation covenants as part of its interest in “overseeing conditions of employment relationships” than Delaware had in enforcing its “fundamental but general interest” in freedom of contract. Accordingly, the Court granted the defendant’s motion for summary judgment to the extent the plaintiff’s claims were grounded on enforcement of non-solicitation covenants in the defendant’s employment agreement.
As this summary judgment decision illustrates, even where parties to a securities purchase agreement agree on a buyer’s entitlement to indemnification for future tax liabilities, absent specific language to the contrary, the buyer generally must suffer harm before such a claim will be ripe for decision. That is because, under the ripeness doctrine, Delaware courts will decline to decide issues presenting only hypothetical harm. More ›