In this post-trial decision in a proceeding pursuant to 8 Del. C. § 225, the Court of Chancery invalidated stockholder action by written consent on the ground that the proxy solicitation materials failed to disclose an agreement by which a bankruptcy trustee, who had control of a substantial block of the company’s stock, agreed to provide a proxy in exchange for a seat on the company’s board.
The case arose out of a struggle for control of CardioVascular BioTherapeutics, Inc. (“Cardio”) between its founder, Daniel Montano, and a large creditor, Calvin Wallen. Thirty million shares of Cardio stock were held by Vizier Investment Capital Limited (“Vizier”), an entity jointly owned by Montano and his ex-wife. Following Montano’s personal bankruptcy filing, Montano’s interest in the shares held by Vizier were under control of a bankruptcy trustee.
In November 2013, Wallen began soliciting stockholder written consent to (i) amend Cardio’s bylaws with respect to removal and appointment of directors, and (ii) remove all but two of Cardio’s directors and add Wallen and two of his designees to the board. Wallen also began negotiations with the bankruptcy trustee in an attempt to secure Vizier’s proxy. On November 22, 2013, Wallen and the Trustee agreed (the “Agreement”) that (i) the trustee would deliver Vizier’s proxy to Wallen, (ii) Wallen would purchase 1 million Cardio shares from the Montano bankruptcy estate for approximately five times their estimated value, and (iii) if the consent action was successful, Wallen would use his “best efforts,” consistent with his fiduciary duties, to secure an additional seat on Cardio’s board for the trustee’s designee, Al Moran. On November 18, 2013, the bankruptcy court approved a motion by the trustee seeking authority to enter into the Agreement.
The proxy solicitation materials circulated by Wallen on November 11, 2013 failed to describe the negotiations leading up to the bankruptcy court’s November 18 order. They instead disclosed that Wallen expected to secure Vizier’s proxy, and that “[i]t is anticipated that the Board might appoint one or two additional directors . . . .” On November 15, Montano sent “proxy revocation materials,” but did not describe the Agreement, although he had notice of, and objected to, the trustee’s motion in bankruptcy court seeking approval of the Agreement.
The plaintiff, a Cardio director, filed suit under Section 225 seeking confirmation of the validity of the consent action. The defendants, who were other Cardio directors, contended that the consent action was invalid because (i) the Vizier proxy was secured by improper vote buying, and (ii) Wallen failed to disclose material information pertaining to the Agreement.
The Court first addressed the allegation that the Agreement constituted improper vote buying. It noted that, while vote buying is not necessarily illegal in all circumstances, it is illegal per se if its purpose is to disenfranchise stockholders. The Court found that the Agreement did not result in a “misalignment” between the voting and economic interests of the shares held by Vizier because Wallen had a substantial economic interest in Cardio’s success. The Court recognized the possibility, however, that the Agreement could nevertheless be found to constitute improper vote buying because it was conceivable that Wallen secured Vizier’s proxy in exchange for an asset of the corporation in the form of a board seat.
Ultimately, however, the Court did not resolve the vote buying issue because it concluded that the consent action was invalid, as the solicitation materials failed to disclose the Agreement. The Court explained that (i) directors acting in their capacity as stockholders are not relieved of their duty of candor to other stockholders, and (ii) the board itself had a duty to update stockholders regarding its participation in the Agreement. The Court then held that the term in the Agreement securing a board seat for the trustee was material information. In reaching its decision, the Court found that stockholders would likely have found it material to know that delivering a proxy in support of the consent action also, in effect, meant supporting Moran’s appointment to the board as the trustee’s representative, a fact not disclosed in the proxy materials. The Court also found it important that stockholders received no biographical information regarding Moran, whereas they did receive that information for the other people Wallen sought to seat on the board. The Court further concluded that stockholders would likely have found information about the Agreement germane in assessing Wallen’s credibility, since Wallen found it necessary, in a closely divided proxy contest, to rely on the Agreement to obtain the requisite number of proxies.
The Court rejected the plaintiff’s argument that Wallen could not have possibly disclosed the contents of the Agreement because the Agreement had not yet been approved and executed when Wallen sent his proxy materials. The Court suggested that negotiation of the Agreement was sufficiently advanced to warrant disclosure in Wallen’s November 11 proxy materials, but held that, in any event, Wallen and the board should have provided supplemental disclosure immediately upon execution of the Agreement.
Finally, the Court noted that Cardio had not held an annual meeting to elect directors since 2008, and ordered Cardio to conduct an annual election pursuant to Section 225(a), under the oversight of a special master appointed by the Court.
The full opinion is available here