Garfield v. BlackRock Mortgage Ventures, LLC, C.A. No. 2018-0917-KSJM (Del. Ch. Dec. 20, 2019).
Under Delaware law, when a controlling stockholder benefits personally from the transaction in a manner not shared by minority stockholders, a stockholder vote does not trigger Corwin and restore the protections of the business judgment rule. This decision considers whether a stockholder-plaintiff sufficiently alleged a “control group” to avoid Corwin deference.
During the financial crisis of 2008, BlackRock and Highfields Capital Management (“HC Partners”) formed an entity (“PennyMac, LLC”) to acquire mortgages from financial institutions that were seeking to reduce their exposures. In 2013, BlackRock, HC Partners, and former PennyMac, LLC CEO Stanford L. Kurland took the overall structure public in an “Up-C” transaction, whereby a new public corporation (“PennyMac, Inc.”) sat above PennyMac, LLC. Public stockholders owned 15 percent of the voting rights and 100 percent of the economic rights in PennyMac, Inc. (via Class A common stock); the existing PennyMac, LLC unitholders owned no economic rights in PennyMac, Inc. but did own 85 percent of its voting rights (via Class B common stock).
The Up-C transaction was designed in part to enable the LLC unitholders to realize tax benefits when exchanging their LLC units for Class A common stock. Yet 2017 changes in federal tax law rendered the tax benefits irrelevant. In response, Kurland raised the idea of a corporate reorganization, in which LLC unitholders could exchange their units for Class A common stock and realize certain tax benefits. Existing Class A common stockholders would enjoy none of these tax benefits. Management’s analysis indicated that the reorganization would reduce PennyMac, Inc.’s book value by roughly $1 per share. A special committee recommended the reorganization, conditioned on the Class A common stockholders receiving a special dividend of $0.40 per share. While a stockholder vote was required, the LLC unitholders, as Class B common stockholders, had the voting power to approve the transaction. The transaction was approved by a stockholder vote. A Class A stockholder then brought suit.
The Court declined to grant the defendants’ motions to dismiss, because the plaintiff had sufficiently alleged that BlackRock and HC Partners should be considered a “control group” with fiduciary duties. Together, they controlled 46.1 percent of the vote, they had unilateral rights under the LLC agreement to veto the reorganization, and they had the right to designate four of eleven members of PennyMac, Inc.’s board of directors. In total, this supported the inference that they at least had transaction-specific control for the reorganization if they worked together. Following recent Delaware decisions – including Sheldon v. Pinto and In re Hansen Medical Shareholders Litigation – the Court also examined the ties between BlackRock and HC Partners to find that they had agreed to act as a group. This included their joint investment and past conduct in PennyMac, LLC and their joint conduct during the negotiation of the reorganization. The Court concluded that plaintiff had alleged facts sufficient to infer that they were a “control group” as well as facts sufficient to question whether the reorganization was entirely fair. Accordingly, the Court denied the defendants’ motions to dismiss.