Freedman v. Adams, et al., C.A. No. 4199-VCN (Del. Ch. Mar. 30, 2012) (Noble, V.C.)

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In this memorandum opinion, the Court of Chancery denied the plaintiff’s motion for an award of attorneys’ fees and expenses on the basis that her derivative complaint, which had been largely mooted and thereafter dismissed by stipulation, failed to plead facts sufficient to excuse demand and therefore would not have survived a motion to dismiss.

On November 26, 2008, the plaintiff, then a shareholder of XTO Energy, Inc. (“XTO”), filed an eight-page derivative complaint against XTO and its board of directors challenging the fact that cash bonuses paid to certain XTO executives were not tax-deductible, as such bonuses did not meet the requirements of Section 162(m) of the Internal Revenue Code (“Section 162(m)”).  The plaintiff alleged that the defendants’ approval of the non-tax-deductible bonuses constituted waste and a breach of their fiduciary duties, and that the defendants also caused XTO’s proxy statements to contain material omissions and misstatements concerning these bonus payments.  The plaintiff did not make a demand upon XTO’s board pursuant to Court of Chancery Rule 23.1 prior to filing suit. 

On February 17, 2009, less than three months after the complaint was filed, XTO’s board approved a Section 162(m) plan for cash bonuses, thereby mooting most of the plaintiff’s derivative claims.  XTO’s shareholders approved this Section 162(m) plan on April 17, 2009.  The plaintiff sold her XTO stock in early 2010.  On June 25, 2010, XTO was merged with and into a subsidiary of ExxonMobil Corporation (the “Exxon Transaction”).  Due to the timing of the Exxon Transaction, XTO received no tax benefits from its adoption of the Section 162(m) plan.  The parties ultimately agreed to a stipulated order of dismissal on April 6, 2011.  Shortly thereafter, the plaintiff moved for an award of $1 million in attorneys’ fees and reimbursement of approximately $5,000 in expenses, premised in large measure upon the prospective tax savings that XTO would have purportedly attained but for the Exxon Transaction.

Applying the corporate benefit doctrine, the Court noted that the plaintiff would be entitled to an award of attorneys’ fees and expenses if:  (i) her suit was meritorious when filed; (ii) the action that provided a benefit to the corporation was taken by the defendant before a judicial resolution was achieved; and (iii) the resulting corporate benefit was causally related to her lawsuit.  The Court reached only the first prong of this analysis, determining that the plaintiff’s complaint failed to plead facts sufficient to excuse demand and therefore would not have survived a motion to dismiss.  The Court summarized its own ruling as follows:  “[A]n arguably poor business judgment, without more, does not excuse demand on the board of directors in a derivative action.”

The plaintiff contended that demand would have been excused because she sufficiently pled all or any of the following:  (i) that a majority of XTO’s board was interested or lacked independence; (ii) that the defendants’ decision to not implement a Section 162(m) plan was not protected by the business judgment rule; or (iii) that XTO’s proxy statements contained material misstatements or omissions.  The Court considered and rejected each of these arguments.  First, the Court held that the plaintiff failed to plead particularized facts to support her allegations that a majority of XTO’s directors were either interested or lacked independence with regard to the board’s decision not to implement a Section 162(m) plan.  Second, the Court held that the plaintiff’s allegations were insufficient to rebut the presumption of the business judgment rule, as the plaintiff could not establish that XTO’s board was inadequately informed, acted in bad faith or committed waste in adopting the non-tax-deductible bonus plans.  The Court deferred to the directors’ “particularly broad” business judgment in relation to matters of executive compensation, noting that Delaware law does not recognize a “general fiduciary duty to minimize taxes.”  Finally, the Court held that the plaintiff had failed to plead a viable disclosure claim, as the plaintiff’s claims were premised upon idiosyncratic readings of XTO’s proxy statement or alleged omissions which a reasonable shareholder would not have considered material.  The Court thus concluded that the complaint would not have survived a motion to dismiss, thereby foreclosing the plaintiff’s motion for an award of attorneys’ fees and expenses.

The full opinion is available here.