Delaware Business Litigation Report

Chancery Applies Recent Zuckerberg Decision and Holds That Demand Was Not Excused

Genworth Fin., Inc. Consol. Deriv. Litig., C.A. No. 11901-VCS (Del. Ch. Sept. 29, 2021)
In a demand futility analysis, Delaware courts have traditionally applied the Rales and Aronson decisions. However, the Delaware Supreme Court recently adopted the Zuckerberg test. Under this new three-part test, Delaware courts ask: (1) whether the director received a material personal benefit from the alleged misconduct of the litigation demand; (2) whether the director would face a substantial likelihood of liability on any of the claims that are the subject of the litigation demand; and (3) whether the director lacks independence from someone who received a material benefit from the alleged misconduct that is the subject of the litigation demand or who would face a substantial likelihood of liability on any of the claims that are subject to the litigation demand.

Here, the plaintiff alleged that board members acted in bad faith and breached their duty of loyalty. In particular, the plaintiff alleged that the board had failed to prevent or correct statements to investors, consciously allowed the president and CEO to make false disclosures, consciously allowed SEC filings to be false, and allowed the company to mislead the market regarding an upcoming minority IPO. At issue was whether the plaintiffs had properly plead under the second prong of the Zuckerberg test that the directors would face a substantial likelihood of liability on any of the claims that were the subject of the litigation demand.

Plaintiff asserted that its claims against the directors were Caremark-type oversight claims, but had asserted in briefing that they were not Caremark claims oversight but instead based on actual participation by the directors in a scheme to misrepresent information to shareholders. The Court noted that exhibits incorporated by reference into the Complaint made clear that the directors had not participated in such a scheme, but instead simply relied upon the advice of advisors and officers regarding complicated insurance reserve issues. The Court held that the pleadings did not allow for a reasonable inference of bad faith misconduct. As a result, the Court held that demand was not excused because the directors did not face a substantial likelihood of liability on any of the claims that were the subject of the litigation demand. The Court accordingly dismissed the complaint pursuant to Court of Chancery Rule 23.1.

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