Delaware Transactional Law Updates

Ravenswood Investment Company, L.P. v. Winmill & Co. Incorporated, C.A. No. 7048-VCN (May 30, 2014)

This case revolved around a Delaware corporation’s denial of a shareholder request to provide the shareholder with the company’s updated non-public financial statements.  The plaintiff-shareholder, in accordance with 8 Del. C. § 220, demanded to inspect the company’s financial statements for the purpose of “determining the value of its investment and the economic performance” of the defendant-company.  In response, the defendant informed the plaintiff that the only way it would disclose the financial statements was if the plaintiff agreed to be bound by a restriction forbidding it to trade the company’s stock after it received the information.  The defendant, whose stock traded on the over-the-counter-market, was concerned that disclosing such “material, non-public” information would violate federal securities law.  The plaintiff, however, refused the restriction and filed suit to compel disclosure of the financial statements.

In deciding this case, the Court of Chancery was faced with a novel question of Delaware law: whether a Delaware corporation may require a shareholder to agree not to trade in its stock as a condition precedent to inspect its nonpublic financial statements.  The Court answered this question in the negative, and in doing so, emphasized the fact that Delaware has “long recognized that valuing stock is a proper purpose to support” a request for financial statements.  It further found that because that was the primary purpose of the plaintiff’s request, any secondary purpose for obtaining the financial information was irrelevant.  Based on this reasoning, the court struck down the defendant’s restriction.

Bishop Macram Max Gassis v. Corkery, C.A. 8868-VCG (May 28, 2014)

In this opinion, the Court of Chancery addressed the power of “de facto” directors to remove a properly elected director of a non-profit Delaware corporation.  After being removed as a director in accordance with the company’s bylaws, the plaintiff brought suit alleging, inter alia, that his removal was void because three of the directors who voted in favor of his removal were “not validly seated on the board” due to procedural defaults in their election.  In addressing this argument, the Court found that even if the three board members were invalidly elected, they were “de facto” directors and thus still capable of taking enforceable actions.  The Court, affirming precedent, explained that a “de facto” director is one “‘in possession of and exercising the powers of that office under claim and color of an election, although . . . not a director [d]e jure and [removable] by proper proceedings.’”  The Court stated that although “de facto” directors were potentially removable, any prior, otherwise valid actions they had taken were enforceable as a matter of law.  Accordingly, the court dismissed the plaintiff’s argument and upheld the director’s removal.

ATP Tour, Inc. v. Deutscher Tennis Bund, Del. Supr., No. 534, 2013 (May 8, 2014)

In this case, the Delaware Supreme Court provided answers to four certified questions of law from the U.S. District Court for the District of Delaware regarding the validity of an intra-corporate fee-shifting provision in the bylaws of a Delaware non-stock corporation, ATP Tour Inc. (“ATP”).  The fee-shifting provision at issue was adopted in the discretion of the Board and required any ATP member who unsuccessfully brought an action against ATP or any ATP member to pay for the prevailing party’s legal costs and fees.  The provision generally provided:

In the event any . . . member or Owner or anyone on their behalf . . . asserts any claim or counterclaim . . .or joins, offers substantial assistance to or has a direct financial interest in any Claim against the League or any member or Owner (including any Claim purportedly filed on behalf of the League or any member), and the Claiming Party . . . does not obtain a judgment on the merits that substantially achieves, in substance and amount, the full remedy sought, then they shall be obligated jointly and severally to reimburse the League and any such member or Owners for all fees, costs and expenses of every kind and description (including, but not limited to, all reasonable attorneys’ fees and other litigation expenses) . . . that the parties may incur.

Thereafter, ATP members brought suit against ATP and six of its Board members in District Court and lost on the merits of their claims.  When ATP moved to recover its legal fees and costs under the company’s fee-shifting bylaw, the District Court certified questions regarding the validity of such a bylaw to the Delaware Supreme Court.  In addressing the questions, the Court held that a bylaw provision providing for fee shifting in intra-corporate disputes is facially permissible as it is consistent with the Delaware General Corporate Law.  The Court cautioned, however, that whether the specific ATP bylaw would be enforceable depended on whether it was adopted for a proper purpose, and that the intent to deter litigation may qualify as such a purpose.

Third Point LLC v. Ruprecht, C.A. No. 9469-VCP (Del. Ch. May 02, 2014)

In Third Point LLC v. Ruprecht, the Delaware Court of Chancery refused to preliminary enjoin Sotheby’s annual meeting based on shareholder claims that Sotheby’s Board had breached its fiduciary duties by adopting a two-tiered Shareholder Rights Plan (the “Rights Plan”).  Sotheby’s adopted the Rights Plan, or poison pill, in response to “rapidly” increasing hedge fund activity in its stock.  Under the terms of the Rights Plan, passive investors who reported their ownership in the company pursuant to Schedule 13G were permitted to acquire up to a 20% interest in Sotheby’s.  All other investors, such as the Plaintiff, who filed a Schedule 13D to report their ownership interest could only acquire a 10% stake in the company before triggering the Rights Plan.  In bringing suit, the Plaintiff argued that Sotheby’s Board improperly adopted the Rights Plan for the primary purpose of inhibiting its ability to wage a successful proxy contest without any compelling justification for doing so.

Applying the Unocal standard of review, the Delaware Court of Chancery found that Sotheby’s Board, comprised of a majority of independent directors, had not breached its fiduciary duties and denied the Plaintiff’s motion for preliminary injunction.  The court reasoned that the rapid rise in stock accumulation by several hedge funds provided reasonable grounds for the Board to determine that the hedge funds posed a legally cognizable threat of acquiring a controlling interest in the company without paying a control premium.  The court further held that the Rights Plan was a proportionate response to the threat and was enacted only after proper consideration by Sotheby’s Board.

In Re Interstate General Media Holdings, LLC., C.A. No. 9221-VCP (Del. Ch. Apr. 25, 2014)

In this case, the Delaware Court of Chancery was asked to decide the best method of effectuating the dissolution and liquidation of a deadlocked LLC.  Although the parties could have crafted a specific procedure to govern the dissolution in the LLC Agreement, they failed to do so.  Thus, the choice of dissolution procedure was left to the discretion of the court.  Petitioners asked that the court require the LLC to be sold in a private auction open only to the LLC’s members and a specific labor union.  Respondents, also members of the LLC, preferred that the LLC be sold in a public auction to account for possible third party interest.  In addressing the dispute, the court first recognized that there “is no single blueprint” under Delaware law for maximizing the value of an entity through sale.  “Therefore, determining the value maximizing process by which an entity should be liquidated is both a fact-intensive and fact-specific endeavor.”

Applying this standard, the court found that no “serious” third party public bidder was likely to emerge, and thus, a private auction was proper.  The court based its conclusion on the fact that the potential sale of the LLC had been public knowledge for months, but the Respondents were unable to point to one interested third party bidder.  Although there had been previous interest from six third party bidders, each of them withdrew their interest once they saw the LLC’s financials.  The court also noted that because the parties agreed that the company would be sold “as is,” with no representations or warranties, a third party buyer was very unlikely to acquire the company on such a “decidedly seller-friendly basis.”  With no third party likely to emerge, the court found that utilizing a private auction would be the faster and less expensive option.

Houseman v. Sagerman, No. 8897-VCG (Del. Ch. Apr. 16, 2014)

This case involved a suit brought by two shareholders of Universata, Inc., a Delaware corporation.  In 2009, the Plaintiffs sold their business to Universata for approximately $9 million, to be paid over a seven-year period.  When Universata began having difficulty making the payments, it transferred 525,000 shares of its common stock to the Plaintiffs in exchange for a portion of its debt.  In 2011, Universata’s board of directors (the “Board”) approved a merger in which its shareholders were to receive a total of approximately $1.19 per share.  Although the Board hired an investment bank to assist with due diligence, it decided against obtaining a formal fairness opinion.  After the merger closed, the Plaintiffs refused to tender their shares and filed suit in the Court of Chancery alleging, inter alia, that the Board had breached its fiduciary duty of loyalty.

In dismissing the Plaintiffs’ claim, the court reiterated the standard necessary to find a breach of the duty of good faith, stating: “a breach of the duty of good faith may be implicated either by a board’s utter failure to attempt to satisfy its fiduciary duties, . . . or by its ‘intentionally act[ing] with a purpose other than that of advancing the best interests of the corporation,’ for example by acting out of greed, hatred, lust, envy, revenge, shame, pride, or some other ‘human motivation.’”  The court found that although the sales process was not perfect, the Board “did [not] utterly fail to undertake any action to obtain the best price for stockholders.”  The court reasoned that the Board consulted legal counsel, contemplated, and rejected based on cost, obtaining a fairness opinion, hired an investment bank to assist in shopping the company, and considered bids from multiple bidders.  Accordingly, the facts alleged fell short of demonstrating bad faith.

Document:  In re TPC Group Inc. Shareholders Litigation, C.A. No. 7865-VCN (Del. Ch. Apr. 10, 2014)

In this Letter Opinion, the Delaware Court of Chancery analyzed a merger agreement in which Defendant Seller agreed to sell all of its outstanding common stock for $40 per share.  Plaintiffs filed a complaint alleging breach of fiduciary duties and requested a preliminary injunction of the merger.  Soon after, the terms of the merger were revised to increase the per-share consideration to $45.  The Plaintiffs then withdrew their complaint and submitted a fee application seeking $3.15 million to compensate them for increasing the merger consideration.  The Managing Director of the acquiring company (the “MD”) submitted an affidavit stating the Plaintiffs’ lawsuit had no role in the decision to increase the merger consideration.  But, in a subsequent deposition the MD testified that he did believe raising the per share offer would make the plaintiffs litigation more difficult.  When the MD tried to correct this answer after the deposition, the Plaintiffs argued that the alteration should be stricken pursuant to the “sham affidavit” doctrine.

The court, cautioning that the Delaware Supreme Court has not yet endorsed or defined the proper application of the sham affidavit doctrine, set forth the following requisite elements to invoke the doctrine: (1) prior sworn deposition testimony; (2) given in response to unambiguous questions; (3) yielding clear answers; (4) later contradicted by sworn affidavit statements or sworn errata corrections; (5) without adequate explanation; and (6) submitted to the court in order to defeat an otherwise properly supported motion for summary judgment.  The court found that even if the doctrine applied, it would not bar the correction because the answer that the MD sought to correct was given in response to an ambiguous question.  Accordingly, the court permitted the alteration.

Document: Chen, et al. v. Robert Howard-Anderson, et al., C.A. No. 5878-VCL (Del. Ch. Apr. 08, 2014)

The dispute in this case arose from a 2011 merger between Occam Networks, Inc. (“Occam”) and Calix, Inc. (“Calix”), in which all Occam shareholders received a nearly equal split of cash and Calix stock for their common shares. After the merger closed, Plaintiffs brought suit claiming that the Occam Board of Directors and certain managers had breached their fiduciary duties by acting unreasonably during the sale process.

In addressing the Defendant’s Motion for Summary Judgment, the Court of Chancery reaffirmed that (1) enhanced scrutiny (the Revlon standard) was the applicable standard of review when a merger resulted in a change of control, and (2) such a change of control arises when the consideration being paid out in a merger is approximately 50% cash and 50% stock. The court also found that the fact that a transaction has closed does not cause the standard of review to “relax from enhanced scrutiny to the business judgment rule.”

In applying enhanced scrutiny to the Occam merger, the court stressed the significant role director motive plays in determining the merger’s validity, reiterating that the Revlon standard functions as a way for a reviewing court to “‘smoke out mere pretextual justifications for improperly motivated decisions.’” The court went on to find that, although Occam directors had acted unreasonably during the sale process, all but one of those directors acted in a good faith and with the proper motive of obtaining the highest value for Occam’s shareholders. Accordingly, those directors violated only their duty of care, and were protected by the corporation’s exculpatory provision pursuant to 8 Del. C. 102(b)(7). But, because 8 Del. C. 102(b)(7) does not provide exculpation for corporate officers, officer-defendants were not insulated and thus not awarded summary judgment.

Document:  I/MX Information Management Solutions, Inc. v. MultiPlan, Inc., et al., C.A. No. 7786-VCP (Del. Ch. Mar. 27, 2014) 

The issue in this case focused on the interpretation of an indemnification provision in a Stock Purchase Agreement (the “SPA”) between MultiPlan and I/MX. After the SPA was executed, but with a remainder of the purchase price still in escrow, the indemnified purchaser, MultiPlan, received notice from a third party (“QMC”) of a problem regarding one of the assets it purchased from I/MX. Thereafter, MultiPlan refused to pay the escrowed remainder of the purchase price to I/MX, demanding indemnification for the “threatened” third party action.

The SPA indemnification provision stated in relevant part: “[MultiPlan] shall be entitled to indemnification for any and all Damages incurred by [MultiPlan] to the extent based upon, arising out of or related to (a) any breach of any representation or warranty by [I/MX].” The SPA went on to state: “If any Action is commenced or threatened that may give rise to a claim for indemnification . . . then such Indemnified Party will promptly give notice to the Indemnifying Party.” The SPA defined “Action” as “any claim, action, or suit, or any proceeding or investigation by or before any Governmental Authority or any arbitration or mediation before any third party.” Further, the Escrow Agreement entered into by the parties provided for the release of all funds in escrow to I/MX . . . except “if any claim pursuant to . . . the [SPA] shall have been properly asserted.”

The Court of Chancery, analyzing the plain language of the SPA, decided that no “Action” had been commenced, and that the word “threatened,” which was not defined in the SPA, should be given its plain meaning. As such, the court found “that the relevant inquiry was whether QMC ‘gave signs or warnings’ to MultiPlan that it was going to [bring suit] or announced . . . that it intended to, or that it was possible that it would, commence an Action.” The court, finding in favor of I/MX, held that in order to constitute a “threat” QMC “must have expressed that it was going to do something about that problem, in such a way that a reasonable person would understand [it] was intending to press the issue through a proceeding before a third party.”

Document:  Klaassen v. Allegro Dev. Corp., No. 583, 2013 (Del. Mar. 14, 2014)

In this case, the founder and CEO (“Klaassen”) of a Delaware corporation claimed that the company’s Board of Directors improperly removed him from his position after the company fell short of its financial performance projections in consecutive years.  The Board removed Klaassen as CEO at a regularly scheduled board meeting without providing him notice of its plan to terminate him.  After his removal, Klaassen served as a consultant to the company.  It was not until seven months after his termination that Klaassen brought suit alleging his removal was improper because the Board did not give him advance notice of, and employed deception in carrying out, its plan to fire him.

In affirming the Court of Chancery’s decision below, the Delaware Supreme Court held that Klaassen’s termination was proper.  The Court reasoned that because Delaware law does not require advance notice of regularly scheduled board meetings to be given to corporate directors, there is no requirement that directors be given advance notice of the specific agenda items to be addressed at those meetings.  The Court also analyzed Klaassen’s deception-based claim, finding it to be equitable in nature.  The Court clarified that alleged inequitable conduct by a board is voidable, not void, and is thus subject to equitable defenses.  Finally, the Court, set forth the elements of an acquiescence defense, and highlighted the fact that “conscious intent to approve the act is not required.” Accordingly, the Court held that Klaassen had acquiesced in his removal as CEO, and as such, was barred from challenging the Board’s decision in court.

Document:  Kahn v. M&F Worldwide Corp., No. 334, 2013 (Del. Mar. 14, 2014)

The dispute in this case arose out of a 2011 acquisition of M&F Worldwide Corp. (“MFW”) by its controlling stockholder, MacAndrews & Forbes Holdings, Inc. (“MacAndrews”). MacAndrews offered to take MFW private contingent upon two stockholder-protective procedural conditions: (1) negotiation and approval by a special committee of independent MFW directors and (2) approval of the acquisition by a majority of the minority stockholders who were unaffiliated with MacAndrews.

In upholding the validity of the merger, the Delaware Supreme Court opted to use the deferential business judgment standard of review as opposed to the entire fairness standard of review that generally applies to controller transactions. The Court articulated a specific set of guidelines that, if satisfied, would warrant application of the business judgment standard to a controller transaction. Specifically, the Court held that the deferential business judgment standard will apply to controller transactions only where: (1) the controller conditions the procession of the transaction on the approval of both a special committee and a majority of the minority stockholders; (2) the special committee is independent; (3) the special committee is empowered to freely select its own advisors and to say no definitively; (4) the special committee meets its duty of care in negotiating a fair price; (5) the vote of the minority is informed; and (6) there is no coercion of the minority. The Court, however, was careful to caution that unless both procedural protections for the minority stockholders are established prior to trial, the entire fairness standard of review will apply.

Document: OTK Associates, LLC v. Friedman, C.A. No. 8447-VCL (Del. Ch. February 5, 2014)

A minority shareholder alleged breaches of fiduciary duty by the controlling shareholder and a group of directors in connection with a transaction. Alternatively, the complaint alleged aiding and abetting by the controlling shareholder, and also sought a declaration of the unenforceability of the transaction documents. The defendants moved to dismiss the fiduciary duty counts based on mootness, because the transaction never closed. They also moved to dismiss the declaratory judgment count for failure to make a demand on the board.
The Delaware Court of Chancery denied the motion to dismiss certain counts as moot, stating that the complaint alleged facts that allowed a possibility of success as to the fiduciary duty claims, which is all that is required at the pleading stage. These included the absence of an independent majority of board members, the failure to properly inform all the members of the special committee, and a failure to consider alternative transactions. Moreover, the Court noted that when a “challenged transaction goes away, the absence of transactional damages arising out of the abandoned deal does not necessarily render the underlying claims moot. When directors have breached their fiduciary duties pursuing the abandoned transaction, ‘[e]quity may require that the directors of a Delaware corporation reimburse the company for sums spent pursuing such faithless ends,’” citing In re INFO USA, Inc., S’holder Litig., 953 A.2d 963, 996 (Del. Ch. 2007).

The minority shareholder also sought a declaration that the transactional documents were unenforceable. The declaratory judgment count was based on two things 1) breaches of fiduciary duty, and 2) the fact that the defendants had repudiated the deal after it was enjoined by the Court. Only that portion of the count based on the first item survived. The portion based on the second item was dismissed for failure to make a demand on the board, because a new board had been elected by the time of the repudiation and demand could not be said to be futile.

In addition, the defendant directors’ attempt to have the suit dismissed based on the exculpation clause in the corporate charter failed because the minority shareholder presented evidence that the directors had breached their duty of loyalty, which cannot be exculpated under 8 Del C. § 102(b)(7). Finally, the defendants’ efforts to have the case dismissed based on a forum selection clause choosing New York courts failed because the breach of fiduciary claims concerned the internal affairs of the corporation and are governed by Delaware law, and not by the contract containing the forum selection clause. The request to have the suit stayed in favor of litigation in New York failed for similar reasons.

Document: C.A. No. 8490-VCG (Del. Ch. February 3, 2014)

Parties to a contract should take care to negotiate specific provisions covering all areas of concern they may have in connection with a transaction because the Delaware courts have made it clear that the implied covenant of good faith and fair dealing will not improve the bargain for them.

The seller of a software company filed suit alleging that the buyer interfered with the acquired company’s ability to meet revenue and profit targets that would have generated additional payments to the seller. The claims fell into two groups: 1) that the buyer did not possess or acquire the technological proficiency promised as part of the deal, and 2) the buyer siphoned business away from the acquired company into another subsidiary. Specific claims included breach of the implied covenant of good faith and fair dealing and breach of contract.

The Delaware Court of Chancery partially granted the defendants motion to dismiss. Regarding the technology-related claims, the Court found that the parties were aware of the technological requirements before entering the purchase agreements and the sellers could have bargained for guarantees on the buyer’s part to ensure full technical integration, but they failed to bargain for such guarantees. The implied covenant, the Court said, is a “gap filler,” and it is not meant to allow parties to renegotiate their contracts after the fact.

However, the Court did not dismiss the claims that the buyer had breached the implied covenant by siphoning business away from the acquired company. The Court found the seller’s allegations “sufficiently specific” to survive the motion to dismiss. Unlike the technology issue, the Court found the seller had not discussed this matter before entering the contracts. The Court said, “had the parties contemplated that the [buyer] might affirmatively act to gut [the acquired company] to minimize payments under the [agreements], the parties would have contracted to prevent” the buyer from doing so.

The Court also found that the complaint sufficiently pleaded that the buyer’s alleged actions to transfer business away from the acquired company interfered with the buyer’s ability to determine the revenue generated by the acquired company, as required by the agreements. However, because there were no provisions in the agreements governing the action to be taken with regards to technology, that breach of contract claim failed. Other claims included in the complaint for fraud in the inducement and civil conspiracy also failed. The first, because fraud was not pleaded with sufficient particularity, and the second, because there was no underlying tort on which to premise a conspiracy.

Document: Blaustein v. Lord Baltimore Capital Corp., No. 272, 2013 (Del. January 21, 2014)

A minority shareholder bought into a corporation upon the alleged oral promise of a director that she could sell her shares back to the corporation for full value after a 10-year period. When the corporation would only offer to buy the shares at a 52 percent discount, the shareholder filed suit. The Delaware Court of Chancery dismissed the suit and refused leave to amend. The Delaware Supreme Court affirmed, stating that the minority shareholder’s direct claim failed because, under the common law, the directors of a closely held corporation have no general fiduciary duty to repurchase the stock of a minority shareholder. The Court noted that “An investor must rely on contractual protections if liquidity is a matter of concern.”

The Court found that the shareholder’s derivative claim also failed because the shareholder had not made a demand on the board. Although the shareholder alleged demand futility, her allegations were conclusory, the Court said: “At best, the allegations create a reasonable doubt as to the independence of three of the seven Lord Baltimore directors . . . Because a majority of the directors are independent, demand is not excused.”

In addition, the shareholder asserted a breach of the covenant of good faith and fair dealing in connection with the buyout provision of the shareholders’ agreement. The Court, however, stated that the buyout provision was permissive only, and in no way obligated the corporation to repurchase the shares of minority shareholders. “The implied covenant of good faith and fair dealing cannot be employed to impose new contract terms that could have been bargained for but were not,” the Court said.

Finally, the Court noted that the allegations that the minority shareholder invested in the corporation based on oral assurances from one of the directors could constitute a claim of fraud in the inducement, but because the she had not brought such a claim before the Court, the Court could not consider whether relief was available under that theory.

Document: Huatuco v. Satellite Healthcare, Civil Action No. 8465-VCG (Del. Ch. Dec. 9, 2013)

A member of a Delaware limited liability company (the “LLC”) filed a complaint seeking to judicially dissolve the LLC under the Delaware Limited Liability Company Act (the “Act”) on the basis that it was not reasonably practicable to carry on the business due to a deadlock between its two members. The defendant member moved to dismiss. The Court granted the motion, agreeing with the defendant member that the express language of the LLC agreement (the “Agreement”) prevented a member from seeking judicial dissolution.

Section 2.2 of the Agreement contained the statement: “Except as otherwise required by applicable law, the Members shall only have the power to exercise any and all rights expressly granted to the Members pursuant to the terms of this Agreement.” While the member seeking dissolution contended that this provision dealt solely with economic rights based on the language surrounding it, the court disagreed with this interpretation. The Court noted that the provision pertained to “any and all rights under the Agreement.” Moreover, unlike the covenant of good faith a fair dealing, which cannot be contracted away, a right to judicial dissolution is not required by law. The Court cited R & R Capital, LLC v. Buck & Doe Run Valley Farms, LLC, 2008 WL 3846318 (Del. Ch. Aug. 19, 2008), in which it “upheld a provision in an LLC agreement purporting to eliminate certain parties’ rights to judicial dissolution otherwise expressly granted in the LLC agreement.” The Court noted that such interpretations are “consistent with the broad policy of freedom of contract underlying” the Act.

The member seeking dissolution also argued that public policy considerations supported his action, but the Court stated that only where the public policy interest is even stronger than the interest in freedom of contract would the Court forego the clear language of an agreement. Moreover, the member seeking dissolution did have a remedy: to pursue an action against the defendant member for breach of the LLC Agreement.

Document: Boris v. Schaheen, C.A. No. 8160-VCN (Del. Ch., December 2, 2013)

The purported directors and majority stockholders of Corporations A and Corporation B signed written consents removing a third director from the board, after which they filed an action pursuant to 8 Del. C. § 225 asking the court to confirm that the removal was valid. Whether the written consent regarding the Corporation A was valid hinged upon whether the two directors were majority stockholders at the time of the consent. Whether the written consent pertaining to the Corporation B was valid hinged on whether the two directors’ oral resignation from the board was a valid resignation. The record-keeping for both corporations was informal, and only Corporation A had a stock ledger. Moreover, even that stock ledger was not maintained after the initial issuance. Both corporations used less formal means such as spreadsheets to track what the directors thought were valid common stock issuances given to the directors as well as various lenders and investors. The two directors claimed that subsequent common stock issuances by Corporation A that had diluted their holdings were void, such that they were able to issue a written consent to remove the third director in their capacity as majority stockholders as permitted in the bylaws. The two directors also claimed 1) that Corporation B had never validly issued stock, and 2) that because there was no written evidence they had resigned from the board, they were still directors of Corporation B entitled to remove the third director.

The Court concluded that the DGCL requires a written instrument evidencing board approval to issue common stock, and a lack of board approval by written instrument renders issued common stock void. Such a conclusion, the Court decided, was necessary to avoid uncertainty, holding that it “must ‘refuse[] to overlook the statutory invalidity of stock even in situations when that might generate an inequitable result,’” quoting Liebermann v. Frangiosa, 844 A.2d 992, 1004 (Del. Ch. 2002). In other words, the Court said, “for changes to the corporation’s capital structure, ‘law trumps equity,’” quoting Blades v. Wisehart, 2010 WL 4638603, at *12, (Del. Ch. Nov. 17, 2010).

Although the third director argued estoppel because the two directors had proceeded with the affairs of the corporations as if all the common stock issuances were valid, the Court agreed with the two directors who said that the application of estoppel would yield the “untenable conclusion that the proper capitalization of a company could differ depending on the person who asks the question.” The Court stated that “even a shared understanding of what was intended is insufficient to satisfy the DGCL’s strict requirement of a written instrument.” Thus, based on the stock ledger of the Corporation A, the two directors were majority stockholders who could remove the third director by written consent.Regarding the Corporation B, the Court found it had no validly issued stock, but that a preponderance of the evidence demonstrated that the two directors had orally resigned from the board some years before executing the written consent, and that oral resignations are valid per Delaware case law. Therefore, the third director was left as the sole director of Corporation B.

Document: Anderson v. Krafft-Murphy Co. Inc., No. 85, 2013 (Del. November 26, 2013)

Tort claimants sought the appointment of a receiver for a dissolved Delaware corporation. The Court of Chancery did not appoint the receiver and the Delaware Supreme Court reversed and remanded. The case raised questions of first impression in the Supreme Court: First, does a contingent contractual right, such as an insurance policy, constitute “property?” Second, does Delaware’s statutory corporate dissolution scheme under the DGCL time-bar claims against a dissolved corporation by third parties after the 10-years limit stated in the statute? The case also raised the question of whether, after the three year statutory winding-up period expires, a dissolved corporation has the power to act on its own, or requires a court-appointed receiver or trustee.

Regarding the first question, the Court concluded that contingent contractual rights do in fact constitute “property” because the rights are capable of vesting. If the dissolved corporation were to be found liable to the tort claimants then the policies would pay out and the rights would be vested. They therefore represent “significant potential indemnification value,” the Court said. Whether this vesting was at all possible hinged on the second question: whether the dissolution scheme found in the DGCL imposes a statute of limitations. The Court found that it does not. Sections 280(c) and 281(b) of the DGCL “require a dissolved corporation to set aside assets for the payment of claims against the corporation that may arise or become known five to ten years after dissolution,” the Court noted. However, the Court concluded that the legislative history revealed that this time period is not a statute of limitations, but rather a guideline so companies can plan for contingent claims. The Court said: “The synopsis of the amendments to §§ 280 and 281 explained that those changes ‘provide[d] a temporal limitation on the claims for which a dissolved corporation . . . must make provision . . . .’ That same synopsis explained that other amended provisions of § 280 . . . ‘barred’ certain claims. Had the General Assembly intended the ten year period to operate as a limitations time bar, that body would have clearly expressed that intent in either the synopsis or in the statutory language.”

Regarding the third question, the Court held that a dissolved corporation may act only through a court-appointed receiver or trustee for litigation commenced after the expiration of the 10-year period. “As a pure matter of statutory law, the Corporation presently lacks any authority to continue managing the winding-up of its business, which includes defending lawsuits brought against it. Only if a receiver is appointed can the Corporation lawfully obtain that authority,” the Court said, adding that the actions of the insurers in continuing to defend lawsuits on the corporation’s behalf “cannot re-infuse the Corporation with a legal existence that by statute has terminated.

Document: Quadrant Structured Products Co., Ltd., v. Vertin No. 338, 2012 (Del., Nov. 7, 2013)

A suit was filed by a company holding long-term notes in an allegedly insolvent Delaware corporation.  The controlling company argued that the suit should be dismissed because the indenture governing the notes had a no-action clause precluding suit unless certain preconditions were met and the note holder had not fulfilled the preconditions.  In an earlier decision, the Chancery Court concluded that the no-action clauses considered in the previous Delaware cases were substantively different from the no-action clause in the instant case.  Specifically, the no-action clauses in the earlier cases barred actions to enforce not only rights arising under the respective indentures, but also “‘any remedy with respect to this Indenture or the Securities.’”  The instant case contained a no-action clause that barred actions to enforce rights “‘upon or under or with respect to this Indenture.’”

The Supreme Court certified questions to the New York Court of Appeals as to whether the no-action clause at issue precludes only actions based on contract law or also precludes all common law and statutory claims related to securities.  The Court of Chancery concluded in its report that the no-action clause precludes only contract claims.  The New York Court of Appeals has been asked to pronounce on whether this is correct.

Document: AM General Holdings, LLC v. The Renco Group, Inc., C.A. No. 7639-VCN, 2013 Del. Ch. Lexis 266 (Del Ch. Oct. 31, 2013)

The Delaware Court of Chancery denied AM General’s motion for summary judgment regarding one of the counts in an action that accused defendants of making investments prohibited by the operating agreement of a jointly-owned limited liability company (“LLC”).  These investments allegedly exposed the LLC to liability arising from the federal Employee Retirement Income Security Act (“ERISA”).

One section of the agreement bestowed some discretion regarding investment activities, while another section “indicated their clear intent to place a blanket prohibition on certain other investment activities to prevent the risks of unintentionally triggering ERISA liability[.]”  Given the clarity of the prohibition, which was broken out in a separate “schedule” defining prohibited investments, the Court held the agreement was not ambiguous.

Summary judgment was denied, however, because the only evidence AM General had was the defendants’ own admission in a compliance report of a “possible violation” of the investment prohibition.  Without additional evidence, the Court was not persuaded that a reasonable fact-finder would conclude that the challenged investments were prohibited by the LLC agreement.

Document: TVI Corporation v. Bernard Gallagher, C.A. No. 7798-VCP (Del Ch. October 28, 2013)

The Court held that shareholders’ claims were not subject to dismissal for failure to make a demand on the board because they had sufficiently pleaded facts that a majority of the directors who voted in favor of the actions challenged in the suit were either personally interested in the decision, or controlled by a party who was interested.  Claims for breach of the duty of loyalty also survived.  The Court noted that determining whether a director is independent or interested is often a difficult and fact-specific inquiry.

The challenged actions included: (i) entering and approving employment agreements between the corporation and three of the defendants that wasted corporate assets; (ii) the retroactive approval of financing from one of the founders on preferential terms; and (iii) removing directors chosen by the shareholders to prevent the founders’ actions from receiving closer scrutiny.  When the court examined the challenged transactions in isolation, it found that one director was interested in each one of them, which would not be enough to establish demand futility as to the entire board.  The Court found, however, that the facts pled by the shareholder plaintiffs supported “an inference that these transactions were interrelated. . . . The facts alleged in the Complaint support a reasonable inference that the Founders may have leveraged their control over the Company to benefit one another in an ‘I’ll scratch your back, you scratch mine’ type of relationship.”  Therefore, demand was excused, and the Court denied the motion to dismiss the breach of the duty of loyalty claims.