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Summaries and analysis of recent Delaware court decisions concerning business-related litigation.
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Showing 20 posts in Controlling Stockholder.
Arising out of the highly-publicized dispute over the proposed transaction involving CBS and Viacom, each controlled by the Redstones, this decision is both front-page newsworthy and legally significant. CBS and Viacom used to be one entity but split. The Redstones retained voting control in each through a dual-class voting structure. Later, the Redstones began pushing to merge the entities once again and both entities formed special committees to consider the proposal. More ›
Aside from the very large damage award, this decision should be noted for its thorough analysis of the duties of a controlling stockholder and his aides in the way they act to carry out a going private transaction. More ›
Whether a stockholder or many stockholders acting as a group are in control of the process to sell a company has profound effects on the judicial review of what is done. As this decision points out, "control" may be exercised over just part of the process as well. Hence, this decision is a good explanation of when there is such control.
Section 228 of the DGCL sets out the requirements to act by stockholder consent. Here, the Court notes that each stockholder's signature should be separately dated. While somewhat forgiving of a failure to observe all the technical requirements when there is no real factual dispute over what the stockholders did, this is a warning that a consent may be invalid if not done right.
Lewis H. Lazarus
This article was originally published in the Delaware Business Court Insider | June 15, 2011
A plaintiff who pleads successfully that a transaction under attack is governed by the entire fairness standard of review instead of business judgment generally stands a good chance of defeating the defendant's motion to dismiss. That is because when a transaction is reviewed for entire fairness, defendants bear the burden in the first instance of proving at trial the fairness of the process and price.
In two recent cases - Ravenswood Investment Co. v. Winmill and Monroe County Employees' Retirement System v. Carlson - the Court of Chancery clarifies that a plaintiff must still make well-pleaded allegations that a transaction is unfair as to process and price if its complaint is to survive dismissal at the pleadings stage.
Ravenswood involved claims that defendant directors' adoption of a performance equity plan violated fiduciary duties by seeking to dilute the minority stockholders' percentage interest in non-voting Class A shares (only Class B shares had voting rights). The court noted that the entire fairness standard applied because "where the individuals comprising the board and the company's management are the same, the board bears the burden of proving that the salary and bonuses they pay themselves as officers are entirely fair to the company unless the board employs an independent compensation committee or submits the compensation plan to shareholders for approval."
Because the directors employed no such protective measures, the court held that the entire fairness standard of review applied. Still, citing Monroe County, the court held that the plaintiff "bears the burden of alleging facts that suggest the absence of fairness."
The court dismissed the plaintiff's complaint because it found he had failed to make well-pleaded allegations that the defendant directors' adoption of the performance equity plan was unfair. Critical to the court's reasoning was that dilution occurs upon the adoption of any options plan; the question is whether the manner in which the options were issued unfairly diluted the stockholders.
As the defendants in their motion to dismiss did not challenge the plaintiff's claim for unfair issuance of the options, the court found that the plaintiff's allegation of dilution did not suffice to state a claim for unfairness in the adoption of the performance equity plan.
This was so because the plaintiff alleged that "(1) the Performance Equity Plan only authorizes the Board to grant stock options with an exercise price not lower than the market value as of that event, (2) the Defendants already control all of the Company's voting rights through their ownership of its Class B shares, and (3) even if all options authorized under the plan were to be granted to the Defendants they would not obtain a majority interest in the Class A shares... ."
The court noted that although it was true that the Class A shares could vote to approve a merger, the plaintiff made no allegation in his complaint that the adoption of the performance equity plan impaired those voting rights. The court declined to comment on whether such an allegation may have sufficed to sustain this claim.
The Ravenswood court relied upon the court's holding in Monroe County. That case involved a challenge to an intercompany agreement that required the plaintiff's company to purchase services and equipment from its controlling shareholder on terms in conformity with (for services) or the same as (for equipment) what the controlling shareholder charged its other affiliates. The parties agreed that the arrangement the plaintiff attacked was governed by the entire fairness standard of review.
They disagreed as to whether the plaintiff's pleading sufficed to survive a motion to dismiss.
As summarized by the court: "Delaware law is clear that even where a transaction between the controlling shareholder and the company is involved such that entire fairness review is in play, plaintiff must make factual allegations about the transaction in the complaint that demonstrate the absence of fairness. (citations omitted). Simply put, a plaintiff who fails to do this has not stated a claim. Transactions between a controlling shareholder and the company are not per se invalid under Delaware law. (citation omitted). Such transactions are perfectly acceptable if they are entirely fair, and so plaintiff must allege facts that demonstrate a lack of fairness."
In reviewing the complaint, the court found no allegations that the price at which the controlling stockholder provided the services and equipment was unfair. Instead, the court found that plaintiff's allegations addressed only alleged unfair dealing.
In the absence of an allegation that the company could have obtained the services or equipment on better terms from a third party or any specific allegation of the worth of the services or equipment relative to what the company paid, the court found that the complaint did not make sufficient factual allegations that the intercompany agreement transactions were unfair. Because the plaintiff chose to stand on its complaint in response to the defendants' motions to dismiss rather than to amend, the court dismissed plaintiff's complaint with prejudice under Court of Chancery Rule 15(aaa).
Together, these two cases clarify that a plaintiff cannot survive a motion to dismiss simply by alleging that a transaction involving a controlling stockholder is unfair. A plaintiff instead must make particular factual allegations suggesting why the transaction was unfair. A plaintiff who cannot make such allegations and who stands on a conclusory complaint, as in Ravenswood, may find that its claims are dismissed with prejudice.
Lewis H. Lazarus (firstname.lastname@example.org) is a partner at Morris James in Wilmington and a member of its corporate and fiduciary litigation group. His practice is primarily in the Delaware Court of Chancery in disputes, often expedited, involving managers and stakeholders of Delaware business organizations. The views expressed herein are his alone and do not necessarily reflect the firm or any of the firm's clients.
District Court Applies Delaware Statute of Limitations Carve Out For Fiduciary Claims, Denies Summary Judgment
In this action the District Court evaluated the application of the statute of limitations to claims that a corporate fiduciary engaged in self-dealing at the corporation’s expense. Plaintiff was a 25% shareholder in a closely-held Delaware corporation with Pennsylvania headquarters, formed to participate in the wireless communications industry. Defendant #1 owned the remaining shares of the corporation, and also served as its President and sole director. Plaintiff alleged that Defendant #1 breached his duties to the corporation when he personally obtained newly-issued communications licenses from the FCC, then sold them along with the corporation’s pre-existing licenses to a third party, keeping the proceeds of the sale himself. Plaintiff further alleged that Defendant #1 took the action without notifying Plaintiff in his capacity as a shareholder, without holding an annual meeting, and without making any disclosure of the sale. Plaintiff sued Defendant #1, along with his wholly owned corporation and another corporate officer, in the Delaware Court of Chancery for breach of contract, unjust enrichment, declaratory relief, and breach of various fiduciary duties. Defendants removed the action to District Court based on diverse citizenship and moved for summary judgment, arguing that all claims were time-barred. More ›
Delaware Open MRI Radiology Associates, P.A. v. Kessler, C.A. No. 275-N, 2006 WL 1215096 (Apr. 26, 2006). This case was described by Vice Chancellor Strine as "another progeny of one of our law's hybrid varietals: the combined appraisal and entire fairness action." The court was tasked with determining whether the share price in a squeeze-out merger was fair, and, if not, what the extent of the underpayment to the minority shareholders was. The court found that the merger price was unfair, and finding no difference between the award the petitioners/plaintiffs would receive in appraisal or in equity, the court awarded an amount equivalent to petitioners' pro rata share of the company's appraisal value on the date of the merger. More ›
Court of Chancery Awards $4.8 Million, Plus Interest, to Minority Shareholders for Damages Suffered from Director Defendants' Breach of the Fiduciary Duty of Loyalty
Oliver v. Boston University, C.A. No. 16570-NC, 2006 WL 1064169 (Del. Ch. Apr. 14, 2006). Defendant Boston University ("BU") was the controlling shareholder of Seragen, a financially troubled biotechnology company. Plaintiffs, a group of former minority stockholders of Seragen's common stock, challenged certain transactions before Seragen was merged and the process by which the merger proceeds were divvied up. The plaintiffs contended that the BU defendants breached their fiduciary duties to Seragen's common shareholders by approving various financial transactions, which were not fair to the common shareholder as a matter of price and process. The Court of Chancery awarded damages in excess of $4.8 million plus interest for breaches of the fiduciary duty of loyalty. More ›