In the recent decision of Eames v. Quantlab Group GP, LLCC.A. No. 2017-0792-JRS  (Del. Ch. May 1, 2018), the Court considered an application under Del. C. § 17-110 to determine the validity of the admission of a new general partner to Quatlab Group, LP (“Quantlab LP”), a Delaware limited partnership.

Section 17-110 of the Delaware Revised Uniform Limited Partnership Act (“DRULPA”) provides that a partner may petition the Court of Chancery to, among other things, “determine the validity of any admission, election, appointment or removal or other withdrawal of a general partner of a limited partnership, and the right of any person to become or continue to be a general partner of a limited partnership….” 6 Del. C. § 17-110.

Per the opinion, in November 2017, a voting trustee, acting by written consent on behalf of approximately 96% of Quantlab LP’s voting limited partnership interests, purported to add Quantlab Group GP II, LLC (“Quantlab GP II”) as the general partner of Quantlab LP and then remove Quantlab Group GP, LLC (“Quantlab GP”) from its position as general partner.

The dispute arose over whether the LPA was followed in replacing Quantlab GP with Quantlab GP II. Under Quantlab LP’s limited partnership agreement (“LPA”), Quantlab LP’s general partner may be removed without cause only if at least one other general partner remains, and the addition of a new general partner requires the consent of the then-acting general partner.  Here, the admission and removal of the old and new general partner were done contemporaneously.

In response to the Section 17-110 petition, Defendant Quantlab GP moved for summary judgment that the addition of Quantlab GP II was invalid under the clear and unambiguous terms of the LPA.  Vice Chancellor Slights agreed, finding that under the LPA, it was necessary to admit a second general partner before Quantlab GP could be removed, and admitting a new general partner required Quantlab GP’s consent.  No consent was obtained, as Quantlab GP did not agree in advance to the voting trustee’s actions.  Therefore, Quantlab GP II was not properly admitted as general partner of Quantlab LP, and Quantlab GP remained the sole general partner of Quantlab LP.

Key Takeaway:

This case demonstrates the need for clear and unambiguous language of a limited partnership agreement to be followed carefully in connection with the removal or replacement of a general partner of a limited partnership.  Even though 96% of the voting limited partnership interests of Quantlab LP were in favor of replacing the general partner, and the representative of the original general partner agreed to the succession, the precise steps of the LPA were not followed, thus resulting in an invalid admission of the new general partner.

Carl D. Neff is a lawyer with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes.  You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.

In the recent decision of LVI Grp. Inv., LLC v. NCM Grp. Holdings, LLC, et al., C.A. No. 12067-VCG (Del. Ch. Mar. 28, 2018), the Court of Chancery considered fraud claims in the inducement of a merger.  In ruling on a motion to dismiss filed by certain principals, the Court addressed the scope of director consent statutes, and whether certain conspiracy claims were adequately pled.

The litigation resulted from the combination of two large demolition firms—LVI Group Investments, LLC (“LVI”) and NCM Group Holdings, LLC (“NCM”)—into a single entity, NorthStar Group Holdings, LLC.  Each of the combining entities accuses the other of fraudulently misstating financial statements in the inducement of the transaction. In this opinion, Vice Chancellor Glasscock addressed claims raised in LVI’s amended complaint against third parties associated with NCM, including its president, the limited partnership funds that owned most of NCM’s outstanding units, and the persons and entities that controlled such funds.  Such third-parties moved to dismiss the complaint.

Moving defendants argued, among other things, that the Court lacked personal jurisdiction over them as they were residents of the State of Washington.  Plaintiff argued that defendant consented to jurisdiction by serving as directors or officers of Delaware corporations involved in the transaction at issue, along with participating in a conspiracy to defraud LVI.  The Court held that it had personal jurisdiction under such director defendants under the “necessary or property party” clause of Section 3114 of Title 10 of the Delaware Code.  This is so because such defendants had legal interests separate from the Delaware entities for which they consented to serve as directors or officers.

Of note, the Court rejected moving defendants’ argument that they could not plead conspiracy among a parent, subsidiary and its agents.  The Court noted that NCM was not wholly owned by the moving defendants.

Carl D. Neff is a partner with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes. You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.

Recently, in the decision of Feuer v. Redstone, (Del. Ch. Apr. 19, 2018), the Delaware Court of Chancery considered a motion to dismiss brought in response to a derivative complaint against certain directors of CBS Corporation for excessive compensation paid to media titan, Sumner Redstone, at a time when plaintiff alleged he could no longer render meaningful services to the company.  The derivative plaintiff complained that his receipt of millions in salary from his “at will” employment since 2014 resulted in corporate waste and breaches of the director defendants’ fiduciary duties.

The derivative plaintiff challenged several different payments made to Mr. Redstone, including bonuses and annual salary payments received as executive chairman, and later income received as chairman emeritus.  The complaint alleged that Mr. Redstone, a nonagenarian, was suffering from diminished health and no longer could contribute to the company.

The defendants moved to dismiss pursuant to Rule 23.1 for failure to plead demand futility.  The Court applied the Rales test for determining demand futility, given that plaintiff did not challenge specific decisions by the company’s board of directors.  Plaintiff did not challenge the independence of the directors, but argued that they could not disinterestedly consider a demand because of the potential for personal liability against them, in that, as plaintiff alleged, the payments were not made in good faith, and constituted “waste”.

In denying in part defendants’ motion to dismiss, Chancellor Bouchard found that based upon the “extreme factual scenario” alleged in the complaint, i.e. that millions were paid to an individual who could not provide services to the company, plaintiff successfully plead demand futility as to at least a portion of the contested transfers.  Accordingly, the motion to dismiss was denied in part.

Carl D. Neff is a lawyer with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes.  You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.

By order dated April 16, 2018, the Delaware Supreme Court has amended Delaware Supreme Court Rule 14(g)(i).  The amendments allow parties to cite to cases in Fastcase, a legal research system that members of the Delaware State Bar Association can access for free.  This is in addition to Westlaw and Lexis, which were already contemplated under Rule 14(g)(i).

A copy of the Delaware Supreme Court’s order adopting the rule change can be found here, and the announcement by the Court can be found here.

Carl D. Neff is a lawyer with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes.  You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.

When a derivative lawsuit is brought on behalf of a company, the derivative plaintiff will often times attempt to argue that demand upon the board would be “futile” in order to excuse the demand requirement under Delaware Court of Chancery Rule 23.1.  The reason is that when a demand is in fact made upon the board, the propriety of the board’s refusal of the demand is governed by the “business judgment rule” — which is very unfavorable to the demanding shareholder, and generally leads to the dismissal of the claim.

In order to properly plead demand futility, a derivative plaintiff must allege with particularity that the board members are not disinterested in the subject matter of the demand.  This is almost certainly the case when the demand would ask directors to sue themselves. In order to allege demand futility, a stockholder must meet the heightened pleading standards under Delaware Court of Chancery Rule 23.1.

One way in which to assert that demand is excused is under the progeny of either Aronson or Rales, by asserting that a majority of the Board faces a substantial likelihood of liability for breaching the duty of loyalty by causing the company to violate law. This issue was addressed recently in the Delaware Court of Chancery decision of Wilkin v. Narachi, C.A. No. 12412-VCMR (Del. Ch. Feb. 28, 2018).  There, Vice Chancellor Montgomery-Reeves wrote that: “[B]ecause sophisticated and well-advised individuals do not customarily confess knowing violations of law, a plaintiff following this route effectively must plead facts and circumstances sufficient for a court to infer that the directors knowingly violated positive law.”  (Slip. op. at 27).

Wilkin addressed whether failure to follow not the law, but “best practices”, resulted in demand excusal in a derivative suit.  There, Plaintiff argued that demand should be excused because seven of the eight directors on the board knowingly and/or intentionally caused the Company to violate regulations and breach its confidentiality obligations. In rejecting Plaintiff’s demand futility argument, Vice Chancellor Montgomery-Reeves stated:

A review of Plaintiff’s allegations shows the main deficiency in the entirety of Plaintiff’s demand futility analysis. Plaintiff attempts to plead knowing and intentional violations of the law without any violation of the law. Instead, Plaintiff paints a picture of directors who, at worst, failed to follow best practices. But, a failure to follow best practices does not create a substantial likelihood of liability.

Accordingly, the Court granted Defendants’ motion to dismiss Plaintiff’s derivative complaint.

Carl D. Neff is a lawyer with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes.  You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.

Section 223 of the Delaware General Corporation Law (the “DGCL”) provides an invaluable remedy to stockholders when there are no directors in office, or when, due to vacancies or newly created directorships, the directors in office constitute less than a majority of the board.

Under Section 223(a) of the DGCL, when there are no directors in office, any officer or stockholder (of fiduciary of a stockholder) “may apply to the Court of Chancery for a decree summarily ordering an election as provided in § 211 or § 215 of this title.”

In addition, under Section 223(c) of the DGCL, if, due to vacancies or newly created directorships, the directors in office constitute less than a majority of the whole board, any stockholder holding at least 10% of the voting stock may apply to the Court of Chancery to “summarily order an election to be held to fill any such vacancies or newly created directorships, or to replace the directors chosen by the directors then in office as aforesaid, which election shall be governed by § 211 or § 215 of this title as far as applicable.”

Subsequent posts will address Section 223 election actions in greater detail.

Carl D. Neff is a lawyer with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes.  You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.

It is not uncommon for the Court of Chancery to find that a fiduciary duty was breached, but to award only nominal damages or no damages as a result of such breach.  This is so because damages are not an element of a claim for breach of fiduciary duty under Delaware law.  Rather, the elements are that 1) a fiduciary duty exists, and 2) such duty was breached.  This was demonstrated in the recent decision of The Ravenswood Investment Company LP v. The Estate of Bassett S. Winmill, C.A. No. 3730-VCS (Del. Ch. Mar. 21, 2018).

In this case, plaintiff brought derivative claims on behalf of Winmill & Co., Incorporated (“Company”) against its board, alleging they breached their fiduciary duties by 1) granting overly generous stock options to themselves, and 2) causing the Company both to forgo audits of the Company’s financials and to stop disseminating information to the Company’s stockholders in retaliation for Plaintiff’s assertion of its inspection rights pursuant to 8 Del. C. § 220.

Because the defendant directors stood on both sides of the disputed transaction, the Court found that it was subject to the entire fairness test.  Under the entire fairness test, a defendant must establish both fair dealing and fair price in connection with the challenged transaction. The court found that the board failed the entire fairness test, and the individual defendants breached their fiduciary duty of loyalty.

Despite finding breaches, however, the Court only awarded nominal damages.  Although a breach of fiduciary duty occurred, the burden remains upon plaintiff to prove actual damages or that an equitable remedy would be appropriate.  Vice Chancellor Laster noted that although the Court has broad discretion in fashioning such remedies, it “cannot create what does not exist in the evidentiary record, and cannot reach beyond that record when it finds the evidence lacking.”  (Slip op. at 3.)  Accordingly, the Court awarded nominal damages to plaintiff, although leaving the door open for attorneys’ fees to be recovered, which would be considered separately.

Carl D. Neff is a partner with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes. You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.

The recent decision of In re Appraisal of AOL Inc., C.A. No. 11204-VCG (Del. Ch. Feb. 23, 2018) constitutes yet another Delaware Court of Chancery appraisal decision in which fair value of the corporation fell below the deal price of the merger.  Petitioners beware.

Here, the Court relied solely on its own discounted cash flow (“DCF”) analysis to appraise the fair value of AOL Inc.  This resulted in fair value below the deal price paid in its acquisition by Verizon Communications Inc.

Vice Chancellor Glasscock did indicate that deal price is the best evidence of fair value when appraising “Dell‑compliant” transactions, where “(i) information was sufficiently disseminated to potential bidders, so that (ii) an informed sale could take place, (iii) without undue impediments imposed by the deal structure itself.”  (Slip op., at 20).

However, the Court held this was not such a transaction.  The Court found that certain of the deal protections, combined with informational disparities between potential bidders, and actions of the parties were preclusive to other bidders.  Thus, Vice Chancellor Glasscock assigned no weight to the deal price in the Court’s fair value determination.  Applying its own DCF analysis, the Court ultimately determined fair value to be approximately 3% lower than the deal price.

Carl D. Neff is a partner with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes. You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.

In the recent decision of In re UnitedHealth Group, Inc. Section 220 Litig., C.A. No. 2017-0681-TMR (Del. Ch. Feb. 28, 2018), the Court of Chancery granted plaintiff’s Section 220 demand.  The Court found that allegations raised in a complaint filed by the U.S. Department of Justice (“DOJ”) against the Defendant corporation, UnitedHealth Group, Inc. (“UnitedHealth”) established a credible basis to infer wrongdoing or mismanagement based on the allegations in the qui tam action, when such allegations were sufficiently supported by documentation and testimony.

In 2017, a qui tam action was filed against UnitedHealth under the False Claims Act for alleged pervasive practice of defrauding Medicare. In the complaint, UnitedHealth was accused of “up-coding” patient risk data and failing to delete incorrect diagnoses, resulting in overpayments from Medicare.  The DOJ intervened in the action, alleging that since at least 2005, despite repeat warnings, UnitedHealth has violated both Medicare regulations and the False Claims Act.

Several stockholders of UnitedHealth filed an action under Section 220 of the DGCL in the Court of Chancery to investigate: (i) mismanagement by the D&Os of UnitedHealth, (ii) possible breaches of fiduciary duties by the D&Os, and (iii) the independence of the board of directors, including whether pre-suit demand would be futile.

The Court of Chancery granted the plaintiffs’ books and records request, based upon the extensive allegations raised by the DOJ in the qui tam action against UnitedHealth.  The Court distinguished this from Graulich v. Dell, Inc., 2011 WL 1843813 (Del. Ch. May 16, 2011), which held that a plaintiff cannot rely exclusively on a complaint that has not been found to state a viable claim as evidence
of a credible basis of wrongdoing.  Here, the Court found that the complaint filed by the DOJ was heavily supported by documents and testimony, including depositions from twenty of Defendant’s employees and Defendant’s production of over 600,000 documents after the DOJ conducted a five-year investigation.

While Vice Chancellor Montgomery-Reeves generally ruled in favor of the plaintiff stockholders, their request for email communications from certain high-level executives of the company was denied.  The Court found that “email communications are more the exception than the rule” in a Section 220 action.

Key Takeaway: This decisions demonstrates that the Court may take into account allegations raised in a separate complaint to determine whether there is a credible basis to infer wrongdoing or mismanagement, when such complaint is supported by sufficient and extensive supporting documents and testimony.

Carl D. Neff is a partner with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes. You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.

The implied covenant of good faith and fair dealing was recently addressed by Vice Chancellor Glasscock in the decision of Miller v. HCP & Co., C.A. No. 2017-0291-SG (Del. Ch. Feb. 1, 2018).  The implied covenant applies only when one party “proves that the other party has acted arbitrarily or unreasonably, thereby frustrating the fruits of the bargain that the asserting party reasonably expected.  (Slip op., at 22.)

In this decision, a minority member of an LLC alleged that the controller breached the implied covenant in an LLC operating agreement by selling the company for $43 million to a third party in a private sale, as opposed to conducting an open-market sale or auction to ensure maximum value for members under the operating agreement’s waterfall.  The waterfall provided the controller with the majority of the first $30 million before sale proceeds would be provided to holders of other classes of membership units. The operating agreement also gave the majority-controlled board sole discretion as to the manner of any sale to an unaffiliated third party, waived all fiduciary duties owed by the managers, and required that each member consent to such board-approved sale.

Plaintiffs argued that defendants breached the implied covenant and “pushed through a below-market sale” that “allowed them to achieve a quick exit and a 200% return on their capital investment” but left the plaintiffs and other investors “with little to nothing.”

Vice Chancellor Glasscock disagreed.  The Court held that the operating agreement was not silent as to how the company could be marketed and sold. Taking note of the parties’ waiver of fiduciary duties, the Court found that the operating agreement vested the board with sole discretion as to the type and manner of the sale process subject only to the condition that the LLC be sold to an independent third party. “[I]f the scope of the discretion is specified, there is no gap in the contract as to the scope of the discretion, and there is no reason for the court to look to the implied covenant to determine how the discretion should be exercised.”

Here, the operating agreement only required that sales be made to unaffiliated third parties. Had the plaintiffs “wanted protection from self-interested conduct by the Defendants, they could easily have drafted language requiring the Board to implement a sales process designed to achieve the highest value reasonably available for all of [the LLC’s] members.”

Key Takeaway:

This decision demonstrates the difficulty in asserting a claim for breach of the implied covenant of good faith and fair dealing, a doctrine that is “rarely invoked successfully.”  (Slip op. at 22.)  Parties to a contract in which fiduciary duties are waived should ensure that all reasonable safeguards are contained in the contract itself, rather than assuming that they will be protected through the implied covenant.

Carl D. Neff is a partner with the law firm of Fox Rothschild LLP.  Carl is admitted in the State of Delaware and regularly practices before the Delaware Court of Chancery, with an emphasis on shareholder disputes. You can reach Carl at (302) 622-4272 or at cneff@foxrothschild.com.