Delaware Business Litigation Report

Chancery Finds Defendant Officer Usurped Corporate Opportunity for His Own Competing Venture

Sorrento Therapeutics, Inc. v. Mack, C.A. No. 2021-0210-PAF (Del. Ch. September 1, 2023)
Under the corporate opportunity doctrine, an officer or director may not take a corporate opportunity for himself if "(1) the corporation is financially able to exploit the opportunity; (2) the opportunity is within the corporation's line of business; (3) the corporation has an interest or expectancy in the opportunity; and (4) by taking the opportunity for his own, the corporate fiduciary will thereby be placed in a position inimical to his duties to the corporation.” Broz v. Cellular Info. Sys., Inc., 673 A.2d 148, 154-55 (Del. 1996). In this post-trial opinion, the Court of Chancery held that a co-founder and former CEO who stayed on as President following his sale of the company to a strategic acquirer breached his fiduciary duties by usurping its corporate opportunities. While the defendant argued the company lacked the resources to pursue the opportunity, the Court reasoned that there was "no structural or situational barrier" to the company obtaining the capital needed. The Court did not credit the defendant's argument that the company was not likely to pursue the opportunities. The Court also explained that the corporate opportunity "test focuses on the company's ability to pursue the opportunity, not the board's likelihood of actually deciding to do so." The Court also found that the third prong was met because the opportunities were in the same line of business in which the company operated, but the defendant had usurped them for his own venture. It accordingly found the defendant liable and ordered supplemental briefing regarding the appropriate remedies.

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Chancery Refuses to Impose Additional Conditions on Voluntary Dismissal of Claims Subject to Advancement

Sal Gilbertie, et al. v. Dale Riker, et al., C.A. No. 2020-1018-LWW (Del. Ch.)
The Delaware Court of Chancery frequently hears advancement disputes, wherein officers or directors of Delaware entities seek to enforce their right to the ongoing payment of legal fees in the defense of claims brought against them. Sometimes, as in this case, a plaintiff entity moves to voluntarily dismiss its claims rather than to pay the freight for both sides. Here, the plaintiffs sought to dismiss the pending claims subject to advancement with prejudice after the Court granted the defendants advancement in a separate action. The defendants opposed the plaintiffs’ motion and sought to impose additional conditions on any dismissal under the Court of Chancery rule governing voluntary, court-approved dismissals, including conditions related to advancement and a finding that the defendants had prevailed on the merits. The Court rejected the defendants’ requests because the advancement relief could be considered under the controlling Fitracks order, and any characterization was premature given the remaining counterclaims. Thus, the Court granted the voluntary motion to dismiss without any conditions.

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Chancery Refuses to Enforce Nationwide Noncompete

Centurion Service Group, LLC v. Wilensky, C.A. No. 2023-0422-MTZ (Del. Ch. Aug. 31, 2023)
In Frontline Techs Parent LLC v. Murphy, C.A. 2023-0546-LWW (Del. Ch. Aug. 23, 2023), the Court of Chancery recently declined a subsidiary’s attempt to enforce a non-compete provision benefitting the parent. A week later, in Centurion, the Court likewise declined to enforce a non-compete, this time based on its unreasonably broad scope. Though the Court ultimately applied a Delaware choice-of-law provision, Centurion highlights that Delaware courts do not blindly apply such clauses “when doing so would circumvent the public policy of another state that has a greater interest in the matter.” The decision also reinforces that Delaware courts scrutinize non-competes and are hesitant to “blue pencil” overly broad terms to recraft them as reasonable – instead, Delaware courts tend to decline to enforce them altogether. Here, the at-issue non-compete prevented the former employee from engaging in any business directly or indirectly engaged in Centurion’s business, any business competitive with Centurion’s business, or any business competitive with any business Centurion planned to engage in at any time during the employee’s employment, for a period of two years after his termination date, anywhere in the United States. The Court found these terms unreasonable, explaining that the geographic scope and duration taken together “casts a limitless net over [defendant] in both scope of geography and scope of conduct,” and taking particular issue with the language covering any field the company “planned to enter.” 

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Chancery Limits Section 220 Books-and-Records Production to Formal Board Materials

In re Zendesk, Inc. Section 220 Litigation, C.A. No. 2023-0454-BWD (Del. Ch. Aug. 25, 2023)
The background of this books-and-records decision involved a failed acquisition, a strategic review, a proxy contest, and a decision to sell the company at a price below an offer rejected just a few months prior. The plaintiff-shareholders' inspection purpose was to investigate alleged board wrongdoing in connection with the transaction’s approval. The company voluntarily produced formal board materials. But, contending there were information gaps, the plaintiffs also wanted informal board materials, including emails among directors, as well as documents and emails at the officer level. In its post-trial decision, the Court of Chancery found that while the plaintiffs had stated a proper purpose, they did not show entitlement to documents beyond the formal board materials already provided. Citing produced materials, including board minutes and presentations, and the Court found the formal board materials were sufficient to satisfy the shareholders' inspection purpose. As the Court explained, Section 220 inspections “are not tantamount to ‘comprehensive discovery,’" and entitle shareholders only to the “essential” responsive records. 

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Chancery Finds That Books and Records Incorporated by Reference in Complaint Demonstrate the Lack of a Valid Caremark Claim

Joel Newman v. KKR Phorm Investors, L.P., et al. C.A. No. 2022-0310-NAC (Del. Ch. Aug. 31, 2023).
At the motion to dismiss stage, Delaware courts will consider the facts alleged in the complaint as well as the documents incorporated into and integral to it. Under Court of Chancery Rule 23.1, a derivative plaintiff is entitled only to reasonable inferences drawn from the facts asserted and the documents incorporated. Here, the Court reviewed the books and records incorporated by reference in the complaint and determined that the plaintiff failed to plead demand futility. More ›

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Chancery Declines to Defer to the Deal Price in Appraisal Proceeding Involving a Controller Squeeze-Out Subject to MFW Protections

HBK Master Fund L.P. v. Pivotal Software Inc., C.A. No. 2020-0165-KSJM (Del. Ch. Aug. 14, 2023)
The Delaware Court of Chancery engages in an independent valuation process when determining the fair value of petitioners' stock in appraisal actions. In this case, Chancellor McCormick addresses an interesting question concerning the deal price primacy under Delaware law and ultimately rejects deference to it in controlling stockholder squeeze-out transactions subject to the MFW protections. More ›

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Chancery Finds Defendants Liable for Fraud Based on the Failure to Disclose Internal Billing Practices

NetApp Inc. v. Cinelli, C.A. No. 2020-1000-LWW (Del. Ch. Aug. 2, 2023)
This decision arose out of the sale of the company Cloud Jumper to NetApp, Inc. The seller’s management had been recording internal software use as revenue in its unaudited financial statements but never disclosed this practice to the buyer in the sale’s process. In this post-trial opinion, in addition to breaches of contract, the Court of Chancery held that the defendants were liable for fraud because they failed to disclose internal billing practices that created the appearance of higher company revenue. The Court reasoned that this failure constituted common law fraud because the defendants had a duty to speak regarding the billing practice, there was circumstantial evidence that they had scienter to commit fraud due to their knowledge of the internal billing practice, and the plaintiffs relied on the financial data that reflected the billing practice when considering whether to pursue the deal. The decision also reflects a detailed analysis of damages and expert testimony related to the misrepresentations. 

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Chancery Upholds Claims Against LLC Officers and Others Arising from Squeeze-Out of Minority Unitholders

Cygnus Opportunity Fund, LLC v. Washington Prime Group, LLC, C.A. No. 2022-0718-JTL (Del. Ch. Aug. 9, 2023)
An Indiana corporation reorganized via bankruptcy into a Delaware LLC, and a senior note holder negotiated for nearly 90 percent of the equity. The LLC agreement required that at least one member of the five-member board of managers be independent. It prohibited the controller from acquiring additional shares or squeezing out the minority without approval of the majority of independent managers or a majority of votes cast by minority unitholders. It also required the controller to provide notice of a proposed squeeze-out so that minority unitholders would have the option to challenge the fairness of the transaction unless it had received approval from a majority of the minority or a minority-approved independent manager. More ›

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Chancery Finds Non-Compete Unenforceable by Subsidiaries Unless Identified in Agreement

Frontline Techs. Parent, LLC v. Murphy, C.A. No. 2023-0546-LWW (Del. Ch. Aug. 23, 2023)
This non-compete decision reminds drafters to pay careful attention to scope and definitions, in particular language covering the appropriate entities within the corporate family. Here, a holding company, Frontline Technologies Parent LLC, entered into equity agreements with two employees of its operating subsidiary, Frontline Technologies Group, LLC, and these agreements included non-compete provisions covering competitors of the holding company. The employees later gained employment with a competitor of the operating subsidiary. The former employees were then sued for breaching the restrictive covenants. The Court of Chancery granted the defendants’ motion to dismiss, finding that the agreement’s language did not prohibit competition with the operating subsidiary, only the holding company. As the Court explained in applying the contract’s plain language, the parent and subsidiary must “live with the restrictive covenants they agreed to.” The Court also dismissed the claims for equitable rescission, finding that no mistake of fact had occurred, and rescission was not available to “save a party from its agreement to unambiguous contract provisions that later prove disadvantageous.”

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Chancery Adopts Heightened Standard for Supplemental Disclosure Mootness Fee Awards in M&A Litigation

Anderson v. Magellan Health, Inc., et al., C.A. No. 2021-0202-KSJM (Del. Ch. July 6, 2023)
This opinion clamps down on mootness fee awards for immaterial supplemental disclosures in connection with M&A transactions. It announces that future mootness fees for supplemental disclosure will only be awarded where such disclosures are “material” not merely “helpful,” and even when such fees are awarded, they may be much lower than those awarded historically. More ›

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Chancery Rejects Declining-Percentage Method, Awards $266.7 Million in Attorneys’ Fees for $1 Billion Class Action Settlement

In re Dell Techs. Inc. Class V S'holders Litig., C.A. No. 2018-0816-JTL (Del. Ch. July 31, 2023, revised Aug. 22, 2023)
Stockholders filed class actions in the Court of Chancery challenging the terms of a redemption of a special class of common stock. After years of litigation and the filing of pre-trial briefs, nineteen days before trial, the parties reached a cash settlement of $1 billion. The plaintiff's counsel submitted a fee application for 28.5 percent of the common fund. Stockholders holding more than 25 percent of the class objected to the fee application and asked that the Court instead apply the declining-percentage method used for calculating fees in federal securities litigation. More ›

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Chancery Orders Company to Produce Books and Records in Response to Section 220 Demand and Grants Stockholder Leave to Seek Fees and Costs

Myers v Academy Securities, Inc. C.A. No. 2023-0241-BWD (Del. Ch. July 27, 2023).
Under Section 220 of the Delaware General Corporation Law ("DGCL"), stockholders are entitled to corporate books and records if they make a valid demand on the company, have a proper purpose for conducting an inspection, and establish that each category sought is essential to that purpose. In this case, a Magistrate in Chancery found that the stockholder met his burden to receive books and records for the purpose of determining the value of his shares. The Court also recommended that the stockholder be permitted to seek his attorneys' fees and costs for the books and records action. More ›

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Chancery Finds Member Breached LLC Agreement in Unilaterally Dissolving the Company

VH5 Capital, LLC v. Jeremiah Rabe, C.A. No. 2020-0315-NAC (Del. Ch. June 30, 2023)
The at-issue LLC had two members – the defendant and the plaintiff, both of whom also constituted the company's board. The company never observed any corporate formalities, including never holding any meetings or appointing a third board member, as required by the company's LLC Agreement. After operating for mere months and never earning a profit or accumulating assets, the defendant unilaterally dissolved the company. More ›

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Chancery Approves Revised Class Action Settlement After Denying Initial Proposal Due to Overly Broad Release

In re AMC Entm't Holdings, Inc. S'holder Litig., Consol. C.A. No. 2023-0215-MTZ (Del. Ch. July 21, 2023)
In re AMC Entm't Holdings, Inc. S'holder Litig., Consol. C.A. No. 2023-0215-MTZ (Del. Ch. Aug. 11, 2023)
The board of directors of a company in financial distress sought to raise capital by issuing more common stock. Existing common stockholders did not approve the proposed measure. The board then issued new preferred stock with sufficient voting power to ensure the passage of board proposals to issue new common shares. Stockholders filed a class action, alleging that the board violated the Delaware General Corporation Law in creating the preferred stock and breached its fiduciary duties by diluting the common stock's voting power. More ›

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Chancery Refuses to Order Specific Performance Due to Inaccurate Representations and Warranties

Restanca, LLC v. House of Lithium, Ltd., C.A. No. 2022-0690-PAF (Del. Ch. Jun. 30, 2023)
The parties seeking specific performance of an agreement must establish a clear right to performance, including that all conditions to closing have been met. In this case, a buyer refused to close on the acquisition of an electric scooter company, and the seller sought specific performance in the Court of Chancery. In its post-trial decision, the Court denied that relief because the sellers inaccurately represented that the seller’s equity holders had executed a secondary sale agreement and that the seller had delivered certain financial statements to the buyer. Because neither of those things had in fact occurred, not all conditions to closing were satisfied and the buyer could walk away from the transaction. Further, because Delaware is a pro-sandbagging jurisdiction, it did not matter whether the buyer knew (as seller argued) that representations were inaccurate, and holding seller to its representations did not create an unjust result.

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