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Summaries and analysis of recent Delaware court decisions concerning business-related litigation.
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Delaware Supreme Court Revives Fiduciary Duty Claims in Derivative Lawsuit Concerning Blue Bell’s Listeria Outbreak
As this decision illustrates, while Delaware law imposes a high bar for pleading demand futility and fiduciary oversight claims under what is known as a Caremark theory, the standards are not insurmountable. After Blue Bell Creameries faced a deadly listeria outbreak, recall, and temporary shutdown a few years ago, a stockholder plaintiff sued in the Delaware Court of Chancery alleging breaches of fiduciary duties by two key executives and its board of directors. The stockholder’s derivative claims concerned management’s alleged failure to respond appropriately to food safety issues and the board’s alleged failure to implement any food safety reporting system or to inform itself about the company’s food safety compliance.
At the trial court level, the Court of Chancery granted defendants’ motion to dismiss the derivative claims. Regarding the claim against the company’s executives, specifically Blue Bell’s Chief Executive Officer and the Vice President of Operations, the court found the plaintiff had failed to sufficiently plead that a pre-suit demand on the board would be futile. According to the court, the plaintiff’s allegations established that seven of the company’s fifteen directors could not impartially consider a demand against the executives, one short of the board majority required to show demand futility. Regarding the claim against the directors themselves, the court concluded that the plaintiff’s allegations concerned the effectiveness of the company’s reporting controls, rather than their existence, and were insufficient to state a claim under Caremark.
In this appellate decision, the Delaware Supreme Court disagreed with both conclusions and reversed the Court of Chancery’s dismissal. Regarding demand futility for the claims against the two executives, the Supreme Court found there was reason to doubt whether an eighth board member could be impartial, citing allegations of long-standing personal and business relationships the director shared with the CEO’s family. Those allegations included professional opportunities and mentoring afforded to the director by the CEO’s father, as well as the charitable efforts spearheaded by the CEO’s family that resulted in a university building being named after the director. According to the Supreme Court, while the director may have voted against the CEO on another issue, that fact was not enough to cut off the reasonable inferences flowing from these allegations when the question would be whether or not the company should sue the CEO. The plaintiff therefore adequately pled a majority of board would be partial concerning bringing the claims against management, establishing demand futility.
Regarding the Caremark claim against the directors, the Supreme Court concluded the plaintiff met the high burden of alleging particularized facts supporting a reasonable inference that the board failed to implement any system to monitor the company’s food safety performance or compliance. As the Supreme Court explained, Caremark has “a bottom-line requirement that is important: the board must make a good faith effort—i.e., try—to put in place a reasonable board-level system of monitoring and reporting.” The Supreme Court therefore focused its review on the key issue of whether the plaintiff pled facts from which it could infer that the directors “made no effort to put in place a board-level compliance system.” The Supreme Court found the plaintiff sufficiently pled such facts. After a books and records demand and production, the plaintiff pled, among other things, that the board had no food safety committee, the board had no regular process or protocols requiring management to keep the board apprised of food safety compliance practices, risks, or reports, and there was no record of regular discussion of food safety issues at the board level. According to the Supreme Court, these allegations supported an inference that the directors failed to try to ensure the board had an information and reporting system in place for “one of the most central issues” at the company: “whether it is ensuring that the only product it makes—ice cream—is safe to eat.” The plaintiff therefore adequately pled a Caremark claim against the company’s directors.