Court of Chancery Holds Jilted Suitor May Recover Damages Even After Target Pays Termination Fee and Expense Reimbursement
In this decision, the Court's newest Vice Chancellor, the Hon. J. Travis Laster, substantially denied a motion to dismiss a complaint filed by a jilted suitor who sought damages from the target and the winning bidder. The complaint alleged that the target violated no-shop and prompt notice provisions of a merger agreement between plaintiff and the target that the target later terminated in favor of a superior proposal from the defendant winning bidder. Plaintiff alleged that the winning bidder violated Delaware law by fraudulently misstating its intentions in filings required by the Securities Exchange Act of 1934 ("the Exchange Act). The Court of Chancery upheld plaintiff's claims for breach of contract, tortious interference with contract, fraud, and civil conspiracy for fraud. Although the Court emphasized that its decision was required under the plaintiff-friendly standard the Court applied in analyzing a motion to dismiss a complaint at the pleadings stage, the opinion has three critical lessons for practitioners concerning (i) the potential inadequacy of termination fee and expense reimbursement provisions to preclude a damages claim, (ii) the viability of state law claims arising out of misstatements in public filings required as a matter of federal law, and (iii) the relation of prior injunction proceedings to later claims for damages.
Payment of Termination Fee and Expense Reimbursement Does Not Preclude a Damages Remedy Where Jilted Suitor Can Allege Fraud Under State Law
First, the Court rejected defendants' arguments that plaintiff was not entitled to damages because the target paid a termination fee and expense reimbursement upon termination. The Court held that if plaintiff were able to show a breach of the merger agreement between the jilted suitor and the target, it should be entitled to receive expectancy or reliance-based damages. The Court recognized that any reliance-based recovery would have to overcome the jilted suitor's receipt of a bargained-for $4 million termination fee and $2 million expense reimbursement. But at the pleadings stage, it was sufficient for the Court to note that the merger agreement excluded from the limitation on liability any termination arising from a willful or material breach of a representation, warranty or covenant in the merger agreement. The Court also noted that the target's ability to terminate and pay fees without further liability required it to comply with its obligations under the no-shop and prompt notice provisions.
Exchange Act Does Not Preclude State Law Claims for Fraud
Second, the Court of Chancery explained that the mere fact that plaintiff's allegations against the winning bidder arose out of filings mandated by the Exchange Act did not deprive a state court of jurisdiction to resolve fraud claims brought solely under state law. The Court noted that a Delaware Supreme Court decision, Rossdeutscher v. Viacom, Inc., 768 A.2d 8 (Del. 2001), and federal decisions comported with this result. The Court's scholarly analysis of this issue at pages 31-42 culminates with emphasis on Delaware's interest in "preventing the entities that it charters from being used as vehicles for fraud." In short, the opinion reaffirms that the Exchange Act contemplates a balance between state and federal roles and responsibilities and does not preempt fraud claims arising under state law.
Moreover, in permitting the jilted suitor to bring a fraud claim, the Court held it was entitled to rely on the bidder's statements in public filings. Note that the Court does not require the jilted suitor to have bought securities or limit the damages to the loss it incurred as a result of its purchase of the target's stock.
Federal Decision Denying Preliminary Injunction Based on Same Claims of Alleged Falsity of Public Filings Does Not Preclude Later State Law Claim for Damages
Third, a decision rendered denying a preliminary injunction is not case dispositive. Here an Ohio Federal District Court had denied an application by the jilted suitor to enjoin the winning bidder's merger with the target based on the same alleged misstatements that formed the basis of the jilted suitor's later state law claim. The strength of that court's conclusion - "[c]ontrary to Plaintiff's position, the Court does not perceive any falsity in [the winning bidder's] filings when they are properly viewed alongside unfolding events." (NACCO Indus., Inc. v. Applica Inc., 2006 WL 3762090, at *7 (N.D. Ohio Dec. 20, 2006)) - did not preclude a different result on a different record and in a different procedural context. The lesson for bidders and practitioners: Absent a binding final judgment, the parties proceed at their own risk.
Perhaps this opinion will focus the attention of transactional lawyers on the breadth of prompt notice provisions in merger agreements and the nature of their clients' intentions when acquiring stock in a target and making the filings required by the Exchange Act. From a target's perspective, this decision reaffirms that contractual language in merger agreements concerning no-shops and prompt notice of competing proposals will be enforced when a party can plead injury from a breach. From a bidder's perspective, this decision reinforces the importance of timely and accurate disclosure regarding a client's intentions in purchasing stock of a company that is in play. The decision is also a reminder that a holding by a Federal district court denying an injunction on a preliminary record does not prevent a later assertion of a state law claim for fraud. As the Court rendered the NACCO decision on a motion to dismiss it remains to be seen whether liability will be imposed on a fuller record.