Breach of Fiduciary Duty – Page 15

Fiduciary and Contractual Claims Arising from LLC Management Dispute Survive a Motion to Dismiss

Dec 23 2014

In an ongoing dispute between the members of a Delaware limited liability company, Vice Chancellor Parsons was tasked with resolving pre-trial motions filed by both the managing member defendants and the non-managing member plaintiffs. Except for plaintiffs’ claim of waste, V.C. Parsons denied the defendants’ Rule 12(b)(6) motion to dismiss finding that, drawing all reasonable inferences in favor of plaintiffs, facts have been pleaded that make the defendants’ inappropriate at this stage of the litigation. In addition, V.C. Parsons denied plaintiffs motion of summary judgment, which sought to remove the defendant LLC from its position as managing member, finding that the plaintiffs have not yet produced evidence sufficient to meet their burden of showing that they are entitled to judgment as a matter of law.

This case involves an ongoing dispute between the managing member and non-managing members of Dunes Point West, LLC, a Delaware limited liability company (the “Company”). The Company was formed in 2006 to acquire and operate an apartment complex in in the State of Kansas (the “Apartment Complex”). Presently, Louis Cortese and the 2009 Caiola Family Trust (“Plaintiffs”) collectively hold 90% of the membership interests in the Company. Defendants include the Company’s managing member and holder of 10% of its membership interests, PWA, LLC, a Kansas limited liability company (“PWA”) and Ward Katz, the managing member of PWA.

Chancery Court Finds Majority Partner Breached Contractual and Fiduciary Obligations to the Minority

Dec 11 2014

By Scott Waxman and Claire White

In this Chancery Court decision, VC Laster examined damages owing to plaintiffs for claims of breach of contract and breach of fiduciary duties of care and loyalty in connection with the sale of a partnership’s assets. The plaintiffs, partners in a D.C. partnership, had proved at trial that the sale by the majority partners (U.S. Cellular) to a related party was not entirely fair to them, as minority holders.

On the breach of contract claim, VC Laster found that defendants had breached a confidentiality provision in the partnership agreement by sharing confidential information regarding the partnership with a valuation firm, for the purposes of obtaining a valuation for the sale transaction. Notwithstanding the breach, only nominal damages were awarded as plaintiffs failed to show proof of actual injury from the breach. Among other facts, the Count highlighted that the confidentiality provision in the partnership agreement could have been waived by the majority partners.

In re Sanchez Energy Derivative Litig., C.A. No. 9132-VCG (November 25, 2014) (Glasscock, V.C.)

Dec 03 2014

By Priya Chadha and David Bernstein

In In re Sanchez Energy, Vice Chancellor Glasscock granted a motion to dismiss in a shareholder derivative action because the plaintiffs had failed to make a demand on the Board, holding that the plaintiffs failed to meet Rule 23.1’s particularized pleading standards for demand futility. The case centered around a transaction in which Sanchez Energy Corporation (“Sanchez Energy”), a publicly held corporation, purchased property at $2500/acre from Sanchez Resources, LLC (“Sanchez Resources”), a privately held, company, which Sanchez Resources had purchased for $184/acre. Two members of the Sanchez family—A.R. Sanchez Jr. and A.R. Sanchez III—owned a combined 21.5% of the shares of Sanchez Energy and served on its board of directors, which had three other members. Those three members comprised Sanchez Energy’s audit committee, which approved the transaction.

The court rejected the plaintiff’s claim that demand would have been futile because the three members of the Audit Committee were not independent. The Vice Chancellor said the plaintiffs had failed to show the audit committee members’ social and business relationships with the Sanchezes were such that “the non-interested director would be more willing to risk his or her reputation than risk the relationship with the interested director.” He also rejected Plaintiffs’ arguments that the Sanchezes should be treated as controlling shareholders because they failed to show that the Sanchezes controlled the board or the negotiation process for the transaction. Vice Chancellor Glasscock pointed to the fact that transaction was approved by the Audit Committee and that the Sanchezes owned at most a combined 21.5% stake in Sanchez Energy as evidence that the Sanchezes were not controlling shareholders. Lastly, VC Glasscock rejected the idea that because of the huge disparity between what Sanchez Resources paid to acquire the property and what Sanchez Energy paid to acquire the property from Sanchez Resources, the transaction was so facially unfair that it could not have been the product of valid business judgment, noting, among other things, that between Sanchez Resources’ initial purchase and its sale to Sanchez Energy, half of the property had been developed and found to contain proven oil reserves.

Thus, because the Complaint failed to specifically please facts excusing demand, the Court dismissed the Complaint.

In Re Sanchez

In Re Comverge, Inc. Shareholders Litigation

Dec 03 2014

By Sherwin Salar and Whitney Smith

In Re Comverge, Inc. Shareholders Litigation involves a stockholder challenge to a merger between Comverge, Inc. and H.I.G Capital, L.L.C. The plaintiff stockholders of Comverge contend that the Comverge board of directors (the “Board”) breached their fiduciary duties by: (1) conducting a flawed sales process and not suing HIG for an alleged breach of a non-disclosure agreement between the parties (the “NDA”); and (2) agreeing to deal protection measures that precluded the possibility of a topping bid. On November 25, 2014, Vice Chancellor Parsons granted HIG’s motion to dismiss with respect to the first claim, but denied the motion on the second claim. Furthermore, Vice Chancellor Parsons dismissed Plaintiffs’ claim that HIG aided and abetted the Board’s breaches of fiduciary duties, stating that even if there was a predicate breach of fiduciary duties by the Board, the Plaintiffs only allege conclusory facts that do not support a claim that HIG participated in those breaches.

In re: Allergan, Inc. Stockholder Litigation, C.A. No. 9609-CB (Del. Ch. November 7, 2014) (Bouchard, C.)

Nov 10 2014

By David Bernstein and Meredith Laitner

On November 7, 2014, Chancellor Bouchard denied the plaintiffs’ requests for summary judgment in In re: Allergan, Inc. Stockholder Litigation. This ruling comes amid an acrimonious proxy fight in which a company owned by Valeant and Pershing Square are seeking to remove six of the nine members of the Allergan Board and request that the Board engage in good faith discussions with Valeant with regard to a Valeant proposal to merge with Allergan that will come to a head at a special stockholder meeting scheduled for December 18, 2014.

The charter and bylaw provisions challenged by the plaintiffs permitted holders of 25% of Allergan’s stock to call a special meeting or act by stockholder consent, but not with regard to any matter that is identical or substantially similar to one presented at a stockholder meeting held during the previous year (a so-called “Similar Items” provision). In a Supplemental Proxy Statement, Allergan had stated that this would permit stockholders to remove directors, but not to replace them by written consent at a meeting called by stockholders if an election had occurred within the past year. The plaintiffs asked for a declaratory judgment that the Similar Items provisions would not prevent the stockholders from, at a special meeting, both removing the entire Board and electing a new Board so long as the new directors had not been up for election during the preceding year.

Higher Education Management Group, Inc. v. Matthews, C.A. No. 911-VCP (November 3, 2014) (Parsons, V.C.)

Nov 06 2014

By David Bernstein and Max Kaplan

On November 3, 2014, the Delaware Chancery Court granted defendants’ motion to dismiss derivative claims in Higher Education Management Group, Inc. v. Mathews, C.A. No. 911-VCP (Del. Ch. Nov. 3, 2014) (Parsons, V.C.), after finding, among other things, that plaintiffs failed to plead with particularity facts showing demand upon nominal defendant’s board would have been futile. In this case, defendant corporation’s subsidiary, Aspen University, paid out nearly $2.2 million in what were apparently expense reimbursements between 2003 and 2011. These outlays were never recorded in the firm’s accounts—a fact discovered by management through a November 2011 audit. Apparently, rather than recording the expense, which would have required Aspen to restate previous years’ financial statements, management chose to treat the $2.2 million as a secured loan receivable owed by Aspen University’s former CEO—plaintiff Patrick Spada—with the intention of taking a write-off in the future. Spada denied there ever was a loan and alleged that defendant officers and directors materially misrepresented the corporation’s finances by knowingly mischaracterizing the $2.2 million as a loan.

The court did not reach the merits of plaintiffs’ accusations, and it instead found that plaintiffs failed to either make a demand on the board or sufficiently plead that such a demand would be futile. Plaintiffs had argued that the director defendants had made knowing misrepresentations that exposed them to a “substantial likelihood” of liability, and therefore all the directors were “interested” for purposes of satisfying the demand futility test. However, Plaintiffs pled events that, if taken as true, showed only that two directors knew that there was no loan. With regard to all the other directors, plaintiffs alleged only general knowledge of the loan being fake, attributing identical actions to all of the directors as a group without making specific allegations with regard to individual directors. According to the court, “such broad and identical assertions . . . do not meet the requirements of pleading facts with particularity.” Having found that the facts pled by the plaintiffs were only sufficient to show that a minority of directors were “interested,” the court concluded that a demand had not been shown to be futile and dismissed the claim.

Higher Education Management Group, Inc. v. Mathews

In Re: Crimson Exploration Inc. Stockholder Litigation, C.A. No. 8541-VCP (October 24, 2014) (Parsons, V.C.)

Oct 26 2014

By William Axtman and Ryan Drzemiecki

In Re: Crimson Exploration Inc. Stockholder Litigation involved a consolidated class action claim made by certain minority stockholders (“Plaintiffs”) of Crimson Exploration, Inc. (“Crimson”) challenging the completed acquisition of Crimson by Contango Oil & Gas Co. (“Contango”). The transaction was structured as a stock-for-stock merger (the “Merger”), with the Crimson stockholders holding approximately 20.3 % of the combined entity following the merger and an exchange ratio representing a 7.7% premium based on the April 29, 2013 trading price of Contango common stock and Crimson common stock. Plaintiffs also alleged that the members of Crimson’s Board of Directors (the “Directors”) and various entities affiliated with the investment management firm Oaktree Capital Management, L.P. (“Oaktree”) breached their respective fiduciary duties by selling Crimson below market value for self-serving reasons. In total, Plaintiffs brought claims against Crimson, the Directors, Oaktree, Contango Acquisition, Inc. (the “Merger Sub”) and Contango (“Defendants”).

A major premise of Plaintiffs’ complaint is that Oaktree controlled Crimson and thereby had fiduciary duties to the minority stockholders of Crimson. Oaktree owned roughly 33.7% of Crimson’s pre-Merger outstanding shares and a significant portion of Crimson’s $175 million Second Lien Credit Agreement, which Contango agreed to payoff after the signing of the Merger, including a 1% prepayment fee (the “Prepayment”). Also, in connection with the Merger, Oaktree negotiated to receive a Registration Rights Agreement (the “RRA”) so that it had the option to sell its stock in the post-Merger combined entity through a private placement.

Lake Treasure Holdings, Ltd., et al v. Foundry Hill GP, LLC, et al and Foundry Hill Holdings, LP and CP-1 LLC, C.A. No. 6546-VCL (October 10, 2014) (Laster, V.C.)

Oct 15 2014

By Eric Feldman and Porter Sesnon

In Lake Treasure Holdings, Ltd., the plaintiffs, investors in a now-defunct start-up, Foundry Hill Holdings LP (the “Partnership”), sued the Partnership, one of its founders (Ulric Taylor (“Taylor”)), one of Taylor’s subsequent business partners (Christopher Klee (“Klee”)), and various other Partnership-related entities and operating subsidiaries for breach of fiduciary duty and aiding and abetting the breach of fiduciary duty, as well as under the Delaware Uniform Fraudulent Transfer Act (“DUFTA”) and Delaware Uniform Trade Secrets Act (“DUTSA”), in connection with a series of transactions whereby all of the assets of the Partnership were ultimately transferred to entities owned and/or controlled by Taylor and Klee.

Taylor controlled the Partnership through his control of the Partnership’s general partner. As a result, the Court initially found that Taylor owed fiduciary duties, including the duty of loyalty, to the Partnership and its limited partners. In analyzing the transactions at issue, the Court further found that Taylor stood on both sides of such transactions and that therefore the entire fairness standard applied in analyzing such transactions. In applying the entire fairness test, the Court held that Taylor had breached his duty of loyalty when he granted a security interest in all of the assets of the Partnership, including its primary asset, high frequency trading software, to Klee in exchange for a $28,000 loan from Klee to the Partnership. Prior to the $28,000 loan by Klee, Taylor and Klee had previously contemplated Klee purchasing the software for $500,000 with an enterprise valuation of $3 million. 3 months following the granting of the security interest, as foreseen by Taylor and Klee at the time the loan was made, the Partnership defaulted on the loan, Klee foreclosed on the security interest, and Taylor amicably surrendered all of the assets of the Partnership, including all interest in the software, to an entity controlled by Klee. The Court determined that Taylor and Klee “acted in concert to move the Partnership’s high frequency trading software out of the Partnership and into an entity where Taylor and Klee could enjoy its benefits.” Upon finding the fiduciary duty breach by Taylor, the Court then also found that Klee had aided and abetted such breach of fiduciary duty.

In re Nine Systems Corp. S’Holders Litig., Consol. C.A. No. 3940-VCN (September 4, 2014) (Noble, V.C.)

Sep 23 2014

By Marisa DiLemme

In re Nine Systems Corp. S’Holders Litig. involves the 2002 recapitalization of a two-year-old start-up company, Streaming Media Corporation, later known as Nine Systems Corporation (the “Corporation”). The Corporation was going to have to liquidate unless it could carry out two acquisitions, and the purpose of the 2002 recapitalization was to fund these acquisitions. The recapitalization was approved by four of the directors of the Board of the Corporation, one the CEO of the Corporation and the other three employees of three private equity funds, two of which provided the financing needed for the acquisitions through the recapitalization, and the third of which was given a 90-day option to participate in the recapitalization but did not do so. The fifth director, whose firm had brought in minority stockholders, was not kept informed regarding the recapitalization, which was highly dilutive to the minority stockholders, and never fully approved it. The terms of the recapitalization were proposed by the director whose firm was the largest participant in the recapitalization based on his estimate that the Corporation was worth $4 million, without any independent valuation of the Corporation. After the acquisitions, the Corporation became successful, and it was sold four years later for $175 million.

Zutrau v. Jansing, C.A. No. 7457-VCP (Del. Ch. July 31, 2014) (Parsons, V.C.)

Aug 07 2014

By David Bernstein and Meredith Laitner

On July 31, 2014, the Delaware Chancery Court issued its decision in Zutrau v. Jansing, C.A. No. 7457-VCP (Del. Ch. July 31, 2014) (Parsons, V.C.), requiring the parties to recalculate the payment to which the plaintiff was entitled because her 22% minority interest in a Delaware corporation was squeezed out through a reverse split that reduced her holding to less than one full share. The plaintiff in this case, a former employee of Ice Systems, Inc., brought a derivative suit in which she challenged numerous business decisions made by Ice Systems after her employment terminated and challenged compensation and expense reimbursement payments made to the CEO, who was also the 78% stockholder and the sole director. The plaintiff also (a) asked the Court to set aside the reverse split on the ground that it was made for the improper purpose of depriving her of the ability to bring a derivative suit, or alternatively (b) to increase the sum to which she was entitled as a result of the cancellation of her 22% interest through the reverse split.

The Court did not decide whether the plaintiff no longer had standing to sue derivatively because she was no longer a stockholder when she commenced the suit, because the defendant acknowledged that if Ice Systems would have been entitled to recover sums if the plaintiff had been able to sue derivatively, the corporation’s right to recover those sums would increase the amount to which the plaintiff is entitled because of the cancellation of her stock interest, and therefore, the outcome of her suit would be the same whether or not she was permitted to sue derivatively.

Catagory:Breach of Fiduciary Duty