Court of Chancery Dismisses Stockholders' Claims Because Claims were Derivative and Demand was Not Excused
In re J.P. Morgan Chase & Co. S'holder Litig., 2005 WL 1076069 (Del. Ch. April 29, 2005)
, 2006 WL 585606 (Del. Mar. 8, 2006).
J.P. Morgan Chase & Co. ("JPMC") and Bank One agreed to a business combination that was expected to create the second largest financial institution in the country. JMPC paid a premium over the market share price for Bank One, effectively making JPMC the acquirer and the Bank One the target. After the merger was completed, the stockholders of the acquirer sued its directors, alleging breaches of fiduciary duty with regard to the acquisition. Their claims stemmed from the allegation that the directors paid too much for the acquired bank. The defendants moved to dismiss the complaint on the basis that the claims were derivative, not direct, and that demand was not excused. The court granted defendants motion to dismiss.
The plaintiffs sought damages in the amount of the merger exchange ratio premium, approximately $7 billion. They alleged that the JPMC board of directors, by approving the unfavorable merger exchange ratio and the unnecessary premium, harmed them directly by diluting their interests in JPMC. The plaintiffs alleged that eight of the eleven outside directors lacked sufficient independence with regard to the merger. If the JPMC board had approved a no-premium merger exchange ratio, the argument goes, the plaintiffs would have had a greater stake in the resulting company. Instead, the stockholders of the pre-merger JPMC now have less of a stake in the post-merger JPMC.
The court applied the two-prong Tooley
test for determining whether the claim was direct or derivative: (1) who suffered the alleged harm (the corporation or the suing stockholders, individually); and (2) who would receive the benefit of any recovery or other remedy (the corporation or the stockholders, individually)? As to the first prong, the court found the claim to be derivative because any alleged harm was suffered by JPMC. The plaintiffs, if they were harmed at all, were harmed indirectly and only because of their ownership in JPMC. Plaintiffs' claims were derivative under the second prong as well because any remedy from the alleged harm would necessarily accrue to JPMC and not to a subset of stockholders.
Finding that this claim was derivative, the court then applied the two-prong Aronson
demand futility test. The plaintiffs were unable to prove that a majority of the board of JPMC was either interested or not independent under the first prong of Aronson
. The plaintiffs also failed to meet the second prong because due to the absence of particularized factual allegations calling into question the directors' good faith, honesty, or lack of adequate information, the court found that the complaint did not give rise to a reason to doubt whether the decision of the board of directors of JPMC to approve the merger was entitled to the protection of the business judgment rule.