Posts tagged Fiduciary Duty

Court Of Chancery Clarifies Blasius

Keyser v. Curtis, C.A. 7109-VCN  (July 31, 2012)

This decision clarifies that the rule of the Blasius decision is really just an application of the intermediate Unocal standard in reviewing director conduct. 

 

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Court Of Chancery Explains When Continuing Wrong Theory Applies

Buerger v. Appel, C.A. 6539-VCL (March 15, 2012)

After a board makes a decision that has consequences that last for years, the question arises of when the time to litigate over that decision expires.  Some decisions hold that when the decision is not reviewable later, such as when a long term contract is awarded, the time to attack that contract starts to run out the day the contract is approved.  Here, however, the Court noted that the company had the right to cancel the contract every year.  Thus, the Court held that each time the board decided not to cancel the contract, it made a new business decision that was subject to court attack from the date the contract was not cancelled.

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Court Of Chancery Awards Damages In Corporate Opportunity Decision

Dweck v. Nasser, C.A. 1353-VCL (January 18, 2012)

This is a classic example of just about everything that you should not to do in running a closely-held company.  Everybody involved seems to have ignored his or her fiduciary duties.  Hence, it is a useful precedent because the breaches cover all sorts of misconduct, any one of which might be found in your case.

Another important point about this decision is its recognition that breaches of duty may be waived if not objected to, particularly when some benefit is received by the party who later objects to what was done.

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Court Of Chancery Awards $1.263 Billion In Damages

In re Southern Peru Copper Corporation Shareholder Derivative Litigation,  C.A. 961-CS (October 14, 2011)

This is the largest monetary award in the history of the Court of Chancery, $1.263 Billion plus interest.  Indeed, except for 1 other case decided outside of Delaware, it may be the largest breach of fiduciary duty case anywhere else.  It certainly should end the claim that the Delaware courts always favor management.

The decision is particularly instructive about how a special negotiating committee should conduct or not conduct itself.  For that reason alone it is required reading for anyone who cares about such things.

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Court Of Chancery Explains What Is A Duty Of Loyalty Claim

In re Alloy Inc. Shareholder Litigation, C.A. 5626-VCP (October 13, 2011)

Delaware corporate law permits a Delaware corporation to exonerate directors from claims that they acted negligently.  Those claims are known as "duty of care" claims.  However, the same statute also states that claims for acting in bad faith [known as "duty of loyalty" claims] may not be so easily precluded.  Hence, plaintiffs often seek to cast their complaints as duty of loyalty claims. Often, this takes the form of alleging that no loyal director could have been so stupid as to do what those directors are alleged to have done and so they must have been disloyal, not just negligent.

Well as this decision shows, it is just not that easy to plead a duty of loyalty claim.  You need really strong facts, not just conclusions.  This decision is a good example of how the Court analyzes those sorts of allegations and will dismiss a complaint that lacks the facts to sustain a duty of loyalty claim.

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Court Of Chancery Upholds The Business Judgment Rule Again

In re The Goldman Sachs Group Inc. Shareholders Litigation,  C.A. 5215-VCG (October 12, 2011)

Every so often, a corporation acts so badly that a plaintiff decides to take a run at attacking the business judgment rule and sues the corporation's directors alleging their decisions have been too stupid to be protected by that rule of Delaware law.  That was true in the famous Disney case and this is another example of such a suit.  After all, who could stand up for Goldman Sachs these days?

Well, showing that the business judgment rule is alive and well, the newest member of the Court of Chancery in this decision reaffirms that hindsight alone does not support a good claim.  The decision is noteworthy because Vice Chancellor Glasscock exhibits the same care and scholarship as his predecessors in his opinion dismissing the complaint.

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Court Of Chancery Refuses Any "Pass" For Small Companies

In Re Openlane Inc. Shareholders Litigation, C.A. 6849-VCN (September 30, 2011)

Some believe that the board of directors of a small company does not have as strict fiduciary duties to the minority stockholders as do boards of publicly traded companies.  This decision reiterates that under Delaware law those duties apply to the small and the large equally.

The opinion is also noteworthy as another example of the Court of Chancery's inclination to limit the Omnicare decision to its facts.

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Intersection Between Fiduciary Duties and Contract Rights May Be Headed For a Showdown

by Peter B. Ladig
This article was originally published in the Delaware Business Court Insider l 08.17.2011

In recent years, the tension between fiduciary duty principles and contract rights, particularly with respect to fiduciary duties in unincorporated entities, has received a great deal of attention from the members of the Delaware judiciary in their written opinions and in extrajudicial commentary.

On the one hand, many decisions of the Court of Chancery have held that fiduciary duties apply in unincorporated entities unless specific language eliminates those duties. On the other, Chief Justice Myron T. Steele wrote an article in the 2009 American Business Law Journal that stated, "Delaware courts should not apply default fiduciary duties even if the parties have not specifically provided for the elimination of fiduciary duties."

Although the Delaware Supreme Court has not yet directly addressed whether fiduciary duties apply to unincorporated entities by default, it has held — in the 2010 case Nemec v. Shrader — that the exercise of contractual rights is not subject to fiduciary duties.

The tension between fiduciary duties and contract principles in unincorporated entities was visited again in the Court of Chancery's recent opinion in Paige Capital Management LLC v. Lerner Master Fund LLC. Although the court's opinion addressed many factual and legal issues, the facts of Paige as they relate to fiduciary duty issues are straightforward.

Michele and Christopher Paige, wife and husband, sought to enter the world of hedge fund management. They recruited Lerner Master Fund LLC, the investment arm of the Lerner family, founders of MBNA and current owners of the NFL's Cleveland Browns and English Premier League's Aston Villa Football Club, to provide the hedge fund with $40 million in "seed money" so that the Paiges could use the Lerners' investment to attract other qualified investors. The Lerner group became a limited partner of the hedge fund, but also signed a separate agreement with additional terms and conditions that were applicable to the Lerners' investment. Pursuant to this side agreement, the Lerners were not permitted to remove their investment from the hedge fund for three years, unless, among other things, the Paige entities breached the contract or a fiduciary duty. In exchange, the Lerners received reduced management fees, incentive payments and other benefits.

  More ›

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Lewis Lazarus Authors Article on Plaintiffs' Pleading Burden in the Court of Chancery

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 (llazarus@morrisjames.com) 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.
 

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Delaware Supreme Court Upholds Insider Trading Remedy

Kahn v Kolberg Kravis Roberts & Co. L.P., No.  436, 2010 (June 20, 2011)

One of the more important fiduciary duties in Delaware corporate law is not to trade on insider information.  A complaint alleging that you did is known as a Brophy claim for the decision that announced it over 60 years ago.  Recently, Brophy was thought to have been watered down by a requirement that the company actually suffer harm from the trading involved.  That would occur, for example, if the company is in the market to buy back its own stock in competition with the insider.

Well, the Supreme Court announced in this decision that it will not permit any chipping away at the Brophy rule.  It is not necessary to show harm to bring such a claim.  Rather, preserving the sanctity of fiduciary duties under Delaware law warrants permitting recovery of any profits made by the disloyal fiduciary, even if not at the company's expense.

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Court Of Chancery Explains Need To Plead Unfairness Of Conflicted Deal

The Ravenswood Investment Company LP v. Winmill, C.A. 3730-VCN (May 31, 2011)

Some may think that all you need to state a claim for breach of fiduciary duty is to allege the action under attack involved a conflicted board.  Not so.  At the very least, a plaintiff also needs to allege facts that show the deal was unfair to the company.  Once that is pled, then the burden does shift to the conflicted board to justify the transaction.

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Supreme Court Upholds Fee Award In No Damage Case

William Penn Partnership v. Saliba, C.A. 362, 2010 (February 9, 2011)

In this unusual decision the Supreme Court upheld an award of attorneys fees and costs to plaintiffs who proved a breach of fiduciary duties owed to them but where there were no apparent damages from the breach.  In that way the plaintiffs were compensated for the breach.  It is not clear if this means that in every breach of fiduciary duty case that attorney fees may be won by the plaintiffs as well.  I doubt it for the Court does not announce any such major change in Delaware law and the decision seems limited to its peculiar facts.  But, you can not know for sure. 

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Court Of Chancery Clarifies Majority Shareholder Coercion

In Re John Q. Hammons Hotels Inc. Shareholder Litigation, C.A. 758-CC (January 14, 2011)

When a controlling shareholder  has the power to veto any proposed transaction, it is sometimes claimed that his support for a particular deal has forced the other shareholders to accept that deal or get nothing.  This decision rejects such a claim and holds that the controlling shareholder's veto power in itself is not coercion that the other shareholders may complain about later.

This opinion is also an excellent summary of the exceptions to the entire fairness rule of the Kahn case and is worth reading for that reason  as well.

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Joint Tortfeasors and Fiduciary Duty Claims

 

It is becoming increasingly clear that Court of Chancery judges believe the Delaware Uniform Contribution Among Tortfeasors Act ("DUCATA") applies to breach of fiduciary duty claims.  E.g., Hampshire Group Ltd. v. Kuttner, 2010 WL 2739995, at *54 (Del. Ch. July 12, 2010);  J. Travis Laster & Michelle D. Morris, Breaches of Fiduciary Duty and the Delaware Uniform Contribution Act, 11 Del. L. Rev. 71 (2010).  In light of this development, attorneys representing directors alleged to have breached their fiduciary duties should make sure to address the effects of DUCATA when drafting settlement agreements.  Attorneys should include language providing that settling defendants are not liable for contribution to defendants who do not settle.

An example of language addressing Section 6304 of DUCATA might include language like the following: "In accordance with 10 Del. C. 6304(b), this settlement agreement reduces the damages that the plaintiff may recover against tortfeasors other than the settling defendants by the pro rata share of the settling defendants' liability. This language is intended to comply with 10 Del. C. 6304(b) so as to preclude any liability of the settling defendants to any other alleged tortfeasors, for contribution or otherwise."

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Court Of Chancery Explains Standard Of Review

eBay Domestic Holdings Inc. v.  Newmark, C.A. 3705-CC (September 9, 2010)

This decision is well worth reading for its careful explanation of what standard of review the Court will apply when director action adversely affects minority stockholders.  In short, it depends on the facts of each case.  For example, when the majority already controls who is elected to the board, the adoption of a staggered board does not really affect the rights of minority stockholders and the business judgment rule applies.

The decision is also noteworthy for its rejection of the idea that preservation of a unique corporate "culture" justifies defensive action under the Unocal  test.  The lesson here is that if you want to run your company as a hobby, then do not take money from investors who do not support that hobby.

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