Delaware Chancery Court Upholds Fiduciary Duty Breach Claims Regarding Self-Tender Against Controlling Stockholder Group And Affiliated Directors, But Dismisses Claims Against Independent Directors And Financial And Legal Advisors

by Shearman & Sterling LLP
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On July 24, 2017, Vice Chancellor Sam Glasscock III of the Delaware Court of Chancery denied a motion to dismiss former stockholders’ claims for breach of fiduciary duty brought in connection with a self-tender by R. L. Polk and Co., Inc. (“Polk”) against the family that held approximately 90% of Polk shares (the “Controlling Family”) and affiliated directors, but dismissed related claims against the company’s independent directors and its financial and legal advisors on the transaction.  Buttonwood Tree Value Partners, L.P. v. R.L. Polk & Co., C.A. No. 9250-VCG (Del. Ch. Ct. July 24, 2017).  The Court concluded that plaintiffs pled facts sufficient to allege that the self-tender was “a self-dealing transaction” by a controlling group of stockholders “as part of an overall scheme to later sell the Company for three times the self-tender valuation.”  Therefore, the Court held that an “entire fairness” standard of review was applicable and declined to dismiss the claims against the Controlling Family and their affiliated directors.  The Court nevertheless dismissed fiduciary duty breach claims against the independent directors, finding bad faith inadequately pleaded.  The Court also dismissed aiding and abetting claims against the outside advisors, finding the complaint inadequate “to support an inference of scienter or knowing participation in a breach” (emphasis in original).     
    
According to the complaint, on March 31, 2011, Polk engaged in a self-tender at $810 per share.  Thereafter, by the end of 2012, the company had declared special dividends aggregating to $290 per share.  In June 2013, Polk was sold via short-form merger for $2,675 per share.  Plaintiffs, former minority stockholders who sold their shares in the self-tender, brought claims for breach of fiduciary duty, alleging that the Controlling Family “collectively owned better than 90% of the common stock of Polk; that directors allied with the Polk Family exercised that collective power as a control block; that they engineered a self-tender in a way that maintained their degree of control; that they set the price through use of a financial advisor that also did work for Polk Family members; and that within around two years of the self-tender, remaining stockholders had received extraordinary dividends amounting to one third of the self-tender price, together with merger consideration of 300% of the self-tender price” (emphasis in original).

Declining to dismiss the breach of fiduciary duty claims against the Controlling Family and their directors, the Court held:  “It is reasonably conceivable that the Control Group controlled the Company and engineered—and stood on both sides of—the Self-Tender.  Accordingly, the entire fairness standard applies at the pleading stage to the Self-Tender.”  Moreover, according to the Court, even though the company’s certificate of incorporation contains an exculpatory provision barring director liability for violations of the duty of care, “it does not apply to [a defendant] in his capacity as [a] controlling stockholder.”  Further, emphasizing the allegations that the tendering stockholders “forwent, as a result, extraordinary dividends amounting to over one-third of the sale price they received, together with merger consideration in an amount three times the Self-Tender price, within a period of around two years,” the Court found the complaint adequately pleaded that that the self-tender transaction was not “entirely fair.”

As to the independent directors, however, the Court explained that “plaintiffs must plead non-exculpated claims—that is, a breach of the duty of loyalty—against each defendant to avoid dismissal of that defendant in an action for damages even if entire fairness applies to the underlying transaction.”  The Court dismissed the claims because the complaint did not adequately plead “specific facts that imply” that the independent directors acted in “bad faith.” 

Likewise, the Court rejected plaintiffs’ argument that Polk’s legal and financial advisors aided and abetted breaches of the directors’ fiduciary duties merely by preparing the relevant disclosures and valuations and advising the company.  The Court thus dismissed the claims because the complaint did not adequately allege that the advisors “knowingly provided substantial assistance to any fiduciaries’ breach of duty.”  In this regard, the Court noted that “[a] general duty on third parties to ensure that all material facts are disclosed, by fiduciaries to their principals, is, so far as I am aware, not a duty imposed by law or equity,” and highlighted that there was no allegation that the advisors “worked a fraud on the directors.”

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