The U.S. 9th Circuit Court of Appeals certified a question to the Delaware Supreme Court on the whether the fraud exception to Delaware’s continuous ownership rule allows shareholder plaintiffs to maintain a derivative suit, even after a merger divested them of their ownership interest, by alleging that the merger at issue was forced by the alleged fraud. The Court answered in the negative, explaining that its dictum in Arkansas Teacher Retirement Systems v. Caiafa (Del. 2010) dealing with the fraud exception pertained only to direct claims. The Caiafa suit involved direct claims challenging Countrywide’s merger with Bank of America. When the case settled, certain plaintiffs – the same as those in the federal Countrywide case – objected to the settlement. The Court of Chancery approved the settlement, and the Supreme Court affirmed. However, in dictum the high court discussed a claim that the objectors failed to bring: that one long continuous fraud had so depressed the value of the company that a “fire sale” was a necessity. Armed with the dictum, the plaintiffs sought reconsideration of the case they had lost in federal court in California. The matter eventually reached to 9th Circuit, which then certified its question.
In answering, the Supreme Court explained that Caiafa had reiterated that shareholders may maintain suits post-merger if the merger itself is allegedly perpetrated merely to deprive shareholders of standing to bring a derivative action. The Countrywide deal was not such a merger, the Court said in an opinion written by Justice Randy J. Holland. Finally the Court stated that the dictum Caiafa pertained to direct claims for reduced consideration in a fire sale, and “did not ‘clarify,’ ‘expand,’ or constitute ‘a new material change’ in [the] continuous ownership rule or the fraud exception.” To the contrary, the Court unequivocally held that the Countrywide–Bank of America merger extinguished the plaintiffs’ derivative standing.
