Surveying the Law, Chancery Declines to Dismiss a Claim that a 35% Holder was the Controlling Stockholder of the Acquirer (as Well as the Target)
Voigt v Metcalf, C.A. No. 2018-0828-JTL (Del. Ch. Feb. 10, 2020).
This decision contains an instructive review of the factors the Court of Chancery will examine to determine whether a minority stockholder may in fact be a controlling stockholder in the circumstances of a specific transaction – an area of the law that has assumed increased importance after Corwin.
In July 2018, NCI Building Systems, Inc. (the “Company”) acquired Ply Gem Parent, LLC. At the time, a private equity firm (“CD&R”) owned 34.8% of the Company and had four designees on the Company’s twelve-member board. CD&R also owned 70% of the Ply Gem Parent. Company stockholders sued, alleging that three months before the transaction Ply Gem Parent was valued at roughly half the merger price, and accordingly that CD&R and various directors breached their fiduciary duties.
Addressing the defendants’ motion to dismiss, the Court analyzed a number of factors supporting a pleadings-stage inference that CD&R controlled the Company. Among other things, the Court examined the detailed rights CD&R obtained via a stockholders’ agreement, including consent (or veto) rights over matters that otherwise would be board-level decisions. CD&R also had other avenues of board influence, including a right to proportionate representation on committees. In addition to appointing four CD&R insiders to the board, CDR also had longstanding ties to two others, whom it had repeatedly appointed to boards paying significant directors’ fees. The Company’s public filings also indicated that, subject to their fiduciary duties, those two directors’ appointment furthered CD&R’s ability to exercise control at the board level. CD&R also had influence over two more in virtue of their employment as officers and, for one, an anticipated promotion in the post-transaction company. Although a special committee was used, it chose a financial advisor with a current relationship with CD&R without interviewing other candidates. The committee also chose not to interview or hire its own counsel, opting instead to proceed with Company counsel.
Of particular note is the Court’s discussion of how a non-majority equity stake factors into the control analysis. The Court observed that “simple mathematics” shows that “a relatively larger block size should make an inference of actual control more likely.” Even a “large stockholder with less than a majority of the voting power retains considerable flexibility to take action at a meeting” because “stockholders who oppose the blockholder’s position can only prevail by polling votes at supermajority rates.” The Court explained that a 35% blockholder like CD&R will win any vote so long as just one out of every seven other shares votes similarly, whereas opponents need to win over 90% of the unaffiliated votes. Thus, even though CD&R held less than a majority, its 35% position lent itself to a pleadings-stage inference of control.
As to the breach of fiduciary duty claim against the directors, the Court concluded that four of the directors were exculpated under a Section 102(b)(7) provision in the Company’s certificate of incorporation, because there were no properly plead allegations that they engaged in intentional wrongdoing – i.e., bad faith. Otherwise, the Court rejected a call by the CD&R-designated directors to dismiss them because they abstained from voting on the transaction. At the pleadings stage, the Court could not conclude that they did not participate in the negotiation or approval of the transaction, so the claim survived.Share