Demand Futility – Page 5 – Delaware Docket

Sound the Alarm? Not so Fast as Chancery Court Dismisses Derivative Suit Alleging Self-Interested “Pump-And-Dump” Scheme Arising Out of Alarm Company’s Repurchase of $450 Million in Stock from Hedge Fund Investor

May 05 2015

By Lauren Garraux and Phillip Kardis

In his April 28, 2015 Memorandum Opinion, Vice Chancellor Parsons dismissed a derivative suit brought by ADT Corp. stockholder Walter E. Ryan, Jr. (“Plaintiff”) against the Company’s board of directors, Corvex Management LP (“Corvex”), a hedge fund investor, and Corvex’s principal arising out of the Company’s repurchase of $450 million in stock held by Corvex, a move that led to a drop in the Company’s stock price. Citing Chancery Court Rule 23.1, Vice Chancellor Parsons dismissed the suit because Plaintiff had neither made a pre-suit demand on the Company’s board nor met his burden of proving that demand should be excused as futile under Aronson.

Plaintiff commenced this derivative action on August 1, 2014 and filed an amended complaint on October 3, 2014, asserting claims of breach of fiduciary duties of care and loyalty against ADT’s board of directors, aiding and abetting those breaches against Corvex and unjust enrichment against Corvex and Corvex principal Keith Meister (“Meister”) who, during the time period relevant to the complaint, held a seat on ADT’s board and audit committee. Plaintiff’s claims arose out of what Plaintiff characterized as a self-interested “pump-and-dump” scheme pursuant to which Meister managed to “pump up” the price of ADT’s stock and then convinced his fellow board members to repurchase most of Corvex’s ADT stock in November 2013 at $44.01 per share for an approximate total of $450 million, the alleged “dump.” Following the repurchase, ADT was left in a “far-worse-than forecasted financial condition,” with “diminished future prospects” and a slipping stock price that ultimately settled around $28 per share in the first few days of February 2014.

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

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

Catagory:Demand Futility