A plaintiff seeking to bring derivative claims on behalf of a Delaware corporation bears a heavy burden if she has not made demand and seeks to demonstrate that demand would be futile based on directors’ alleged substantial risk of personal liability from approving the transaction under attack. When the subject company’s certificate of incorporation includes a provision exculpating directors for liability for monetary damages to the fullest extent of Delaware law, a plaintiff’s burden is even harder, as she must plead particularized facts showing bad faith, a standard that requires a showing of intentional misconduct. As demonstrated in Equity-League Pension Trust Fund v. Great Hill Partners, L.P., C. A. No. 2020-0992-SG (Del. Ch. Nov. 23, 2021), a mere failure to ask for additional information will not suffice to show the directors’ conduct was against the corporate interest if the pleaded facts do not otherwise reflect a “we don’t care about the risks” attitude in approving the transaction.
Background to Transaction
Equity-League involved a $535 million convertible debt issuance (“the Transaction”) on April 5, 2020 by Wayfair, Inc. (“Wayfair” or “the Company”) in the midst of financial turmoil occasioned by the start of the pandemic. Online retailers like Wayfair suffered along with brick-and-mortar retailers, as shipments of non-essential items like furniture were delayed by as much as a month. Between February 24, 2020 and March 19, 2020, Wayfair’s stock price fell from $72.50 per share to $23.52 per share. Ultimately, the Company’s 9-member board chose between a bid from Bidder One and a combined bid from two entities in which two directors held limited partner interests. A Transaction Committee consisting of two directors identified as independent recommended the latter, even though one of the two directors was not independent under NYSE Rules due to his service as interim CTO. The Audit Committee consisting of three directors then approved the Transaction which featured a conversion price of $72.50 per share against Bidder One whose offer featured a conversion price of $65.00 per share subject to additional due diligence.
Plaintiff Attacks the Transaction and Alleges a Majority of the Board Could Not Independently Consider a Demand
Plaintiff conceded that two of the nine directors were disinterested and independent. To establish demand futility, it alleged that the three members of the Audit Committee faced a substantial risk of personal liability in approving the Transaction. Plaintiff alleged that the Transaction Committee had not hired its own advisors or revisited management’s judgments concerning the timing of the transaction or independently contacted any of the other firms that had submitted bids. Although the members of the Audit Committee had participated in Board discussions about the proposed transaction, plaintiff alleged that the Audit Committee met only for five minutes before approving the recommendation of the Transaction Committee. Plaintiff faulted the Audit Committee for not asking the extent of the two directors’ interests in the favored bidders, nor whether convertible debt was the best means of raising capital nor whether the amount being raised would meet the Company’s needs, among other alleged deficiencies.
Court Rejects That Alleged Failure to Ask for More Information Demonstrated Intentional Misconduct
The court rejected plaintiff’s claim that its pleading demonstrated that the Audit Committee could not determine whether the Audit Committee knew about the two directors’ interests in the bidder or whether the Transaction was comparable to what could have been obtained in an arm’s length transaction. The Court noted that Section 220 documents, which had been incorporated by reference into the Complaint, demonstrated that resolutions about the Transaction had been presented to the Committee in advance and that those resolutions “specifically summarized discussions with ten potential investors and compared the key terms of the two lead proposals, including the alternative proposal from Bidder One.” Id. at 27. The resolutions also identified the two directors who had limited partner interests in the two entities which made a combined bid and also identified a conflict involving another of the Company’s directors with the favored bidder. The court found that based on the pleaded facts, “[t]he allegations that these Directors should have done more falls short of “[k]nowing or deliberate indifference to the risks posed by the Transaction.” Id. at 29. The Court thus concluded that plaintiff had failed to allege that the three members of the Audit Committee faced a substantial likelihood of liability for bad faith and therefore that they could in fact consider the substance of a demand.
Alleging that a director is disabled from considering a demand based on a substantial risk of personal liability requires particularized pleading that directors engaged in intentional misconduct when the subject company’s charter includes a Section 102(b)(7) provision. The pleaded facts must show that directors acted with knowing or deliberate indifference. A mere failure to ask for more information or even to ask questions that the plaintiff in hindsight contends should have been asked will not suffice if the court is not convinced that the allegations reflect that the directors acted deliberately against the corporate interest.
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