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Summaries and analysis of recent Delaware court decisions concerning business-related litigation.
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Showing 23 posts in Controlling Stockholder.
Delaware Supreme Court Provides Additional Guidance on Pleading Direct Claims Against Controllers and Control Groups
The Delaware Supreme Court affirmed the Court of Chancery’s dismissal of an alleged direct claim for dilution of the voting and economic interests of plaintiff stockholders because they failed to adequately plead that several venture capital firms constituted a “control group.” The Court began its analysis with a review of the standard for a controller or control group under Delaware law. In Gentile v. Rossette, 906 A.2d 91 (Del. 2006), the Court ruled that multiple stockholders can constitute a control group if they are connected in some legally significant way, such as by contract or other agreement, or working together towards a shared goal. The Court noted the guideposts that define a “control group” established by In re Hansen Medical, Inc. Stockholders Litigation, 2018 WL 3025525 (Del. Ch. June 18, 2018) and van der Fluit v. Yates, 2017 WL 5953514 (Del. Ch. Nov. 30, 2017). More ›
Chancery Finds “Constellation” of Personal and Professional Relations Between Directors and Controlling Stockholder Excuses Demand
A stockholder plaintiff seeking to bring a derivative claim on behalf of a corporation must first demand authorization from the board of directors or allege why making such a demand would be futile due to the board’s assumed partiality under the alleged facts and circumstances. One way of establishing demand futility is alleging with particularity significant personal or professional ties to an interested party, like a conflicted controlling stockholder. BGC Partners illustrates the type and degree of relationships that may excuse the pre-suit demand requirement and overcome a motion to dismiss under Court of Chancery Rule 23.1. This is a developing area of Delaware law, arguably involving a heightened sensitivity to the significance of personal relationships. As BGC Partners observes, the Delaware Supreme Court has reversed Court of Chancery findings of director independence in the demand futility context three times in the past four years. More ›
Chancery Applies Entire Fairness Review to Executive Compensation Decision Benefiting Controller Despite Stockholder Approval, Declining to Dismiss Claims Involving Tesla’s Elon Musk
Under Delaware law, executive compensation decisions by a corporation’s board of directors generally are entitled to deferential judicial review, and even more so when approved by the stockholders. On the other hand, Delaware law generally imposes heightened scrutiny in the form of entire fairness review for transactions uniquely benefiting a corporation’s controlling stockholder, relying on the inherent coercion that accompanies control. So what standard of review applies when an executive compensation decision benefits the company’s controlling stockholder and the stockholders approve it? More ›
Arising out of the highly-publicized dispute over the proposed transaction involving CBS and Viacom, each controlled by the Redstones, this decision is both front-page newsworthy and legally significant. CBS and Viacom used to be one entity but split. The Redstones retained voting control in each through a dual-class voting structure. Later, the Redstones began pushing to merge the entities once again and both entities formed special committees to consider the proposal. More ›
The Rites of Spring are upon us: budding flowers, warmer temperatures, and a Delaware court issuing an important decision just before the annual Tulane Corporate Law Institute begins. This year the honor of issuing that decision fell to Chancellor Bouchard who issued his opinion in Strougo v. Hollander, C.A. No. 9770-CB (Del. Ch.) on March 16, 2015. The opinion addressed plaintiff’s motion for partial judgment on the pleadings that a fee-shifting bylaw adopted after the challenged transaction did not apply to him. The Court found that the fee-shifting bylaw did not apply to the plaintiff in this case, and in reaching this conclusion, made some interesting comments that will undoubtedly further the debate over the proposed legislation to eliminate fee-shifting bylaws and regulate forum selection bylaws. More ›
Whether a stockholder or many stockholders acting as a group are in control of the process to sell a company has profound effects on the judicial review of what is done. As this decision points out, "control" may be exercised over just part of the process as well. Hence, this decision is a good explanation of when there is such control.
Section 228 of the DGCL sets out the requirements to act by stockholder consent. Here, the Court notes that each stockholder's signature should be separately dated. While somewhat forgiving of a failure to observe all the technical requirements when there is no real factual dispute over what the stockholders did, this is a warning that a consent may be invalid if not done right.
Lewis H. Lazarus
This article was originally published in the Delaware Business Court Insider | June 15, 2011
A plaintiff who pleads successfully that a transaction under attack is governed by the entire fairness standard of review instead of business judgment generally stands a good chance of defeating the defendant's motion to dismiss. That is because when a transaction is reviewed for entire fairness, defendants bear the burden in the first instance of proving at trial the fairness of the process and price.
In two recent cases - Ravenswood Investment Co. v. Winmill and Monroe County Employees' Retirement System v. Carlson - the Court of Chancery clarifies that a plaintiff must still make well-pleaded allegations that a transaction is unfair as to process and price if its complaint is to survive dismissal at the pleadings stage.
Ravenswood involved claims that defendant directors' adoption of a performance equity plan violated fiduciary duties by seeking to dilute the minority stockholders' percentage interest in non-voting Class A shares (only Class B shares had voting rights). The court noted that the entire fairness standard applied because "where the individuals comprising the board and the company's management are the same, the board bears the burden of proving that the salary and bonuses they pay themselves as officers are entirely fair to the company unless the board employs an independent compensation committee or submits the compensation plan to shareholders for approval."
Because the directors employed no such protective measures, the court held that the entire fairness standard of review applied. Still, citing Monroe County, the court held that the plaintiff "bears the burden of alleging facts that suggest the absence of fairness."
The court dismissed the plaintiff's complaint because it found he had failed to make well-pleaded allegations that the defendant directors' adoption of the performance equity plan was unfair. Critical to the court's reasoning was that dilution occurs upon the adoption of any options plan; the question is whether the manner in which the options were issued unfairly diluted the stockholders.
As the defendants in their motion to dismiss did not challenge the plaintiff's claim for unfair issuance of the options, the court found that the plaintiff's allegation of dilution did not suffice to state a claim for unfairness in the adoption of the performance equity plan.
This was so because the plaintiff alleged that "(1) the Performance Equity Plan only authorizes the Board to grant stock options with an exercise price not lower than the market value as of that event, (2) the Defendants already control all of the Company's voting rights through their ownership of its Class B shares, and (3) even if all options authorized under the plan were to be granted to the Defendants they would not obtain a majority interest in the Class A shares... ."
The court noted that although it was true that the Class A shares could vote to approve a merger, the plaintiff made no allegation in his complaint that the adoption of the performance equity plan impaired those voting rights. The court declined to comment on whether such an allegation may have sufficed to sustain this claim.
The Ravenswood court relied upon the court's holding in Monroe County. That case involved a challenge to an intercompany agreement that required the plaintiff's company to purchase services and equipment from its controlling shareholder on terms in conformity with (for services) or the same as (for equipment) what the controlling shareholder charged its other affiliates. The parties agreed that the arrangement the plaintiff attacked was governed by the entire fairness standard of review.
They disagreed as to whether the plaintiff's pleading sufficed to survive a motion to dismiss.
As summarized by the court: "Delaware law is clear that even where a transaction between the controlling shareholder and the company is involved such that entire fairness review is in play, plaintiff must make factual allegations about the transaction in the complaint that demonstrate the absence of fairness. (citations omitted). Simply put, a plaintiff who fails to do this has not stated a claim. Transactions between a controlling shareholder and the company are not per se invalid under Delaware law. (citation omitted). Such transactions are perfectly acceptable if they are entirely fair, and so plaintiff must allege facts that demonstrate a lack of fairness."
In reviewing the complaint, the court found no allegations that the price at which the controlling stockholder provided the services and equipment was unfair. Instead, the court found that plaintiff's allegations addressed only alleged unfair dealing.
In the absence of an allegation that the company could have obtained the services or equipment on better terms from a third party or any specific allegation of the worth of the services or equipment relative to what the company paid, the court found that the complaint did not make sufficient factual allegations that the intercompany agreement transactions were unfair. Because the plaintiff chose to stand on its complaint in response to the defendants' motions to dismiss rather than to amend, the court dismissed plaintiff's complaint with prejudice under Court of Chancery Rule 15(aaa).
Together, these two cases clarify that a plaintiff cannot survive a motion to dismiss simply by alleging that a transaction involving a controlling stockholder is unfair. A plaintiff instead must make particular factual allegations suggesting why the transaction was unfair. A plaintiff who cannot make such allegations and who stands on a conclusory complaint, as in Ravenswood, may find that its claims are dismissed with prejudice.
Lewis H. Lazarus (email@example.com) is a partner at Morris James in Wilmington and a member of its corporate and fiduciary litigation group. His practice is primarily in the Delaware Court of Chancery in disputes, often expedited, involving managers and stakeholders of Delaware business organizations. The views expressed herein are his alone and do not necessarily reflect the firm or any of the firm's clients.
District Court Applies Delaware Statute of Limitations Carve Out For Fiduciary Claims, Denies Summary Judgment
In this action the District Court evaluated the application of the statute of limitations to claims that a corporate fiduciary engaged in self-dealing at the corporation’s expense. Plaintiff was a 25% shareholder in a closely-held Delaware corporation with Pennsylvania headquarters, formed to participate in the wireless communications industry. Defendant #1 owned the remaining shares of the corporation, and also served as its President and sole director. Plaintiff alleged that Defendant #1 breached his duties to the corporation when he personally obtained newly-issued communications licenses from the FCC, then sold them along with the corporation’s pre-existing licenses to a third party, keeping the proceeds of the sale himself. Plaintiff further alleged that Defendant #1 took the action without notifying Plaintiff in his capacity as a shareholder, without holding an annual meeting, and without making any disclosure of the sale. Plaintiff sued Defendant #1, along with his wholly owned corporation and another corporate officer, in the Delaware Court of Chancery for breach of contract, unjust enrichment, declaratory relief, and breach of various fiduciary duties. Defendants removed the action to District Court based on diverse citizenship and moved for summary judgment, arguing that all claims were time-barred. More ›