Yesterday, attorneys for the shareholders of News Corporation announced an agreement in principle to settle derivative claims filed in various U.S. jurisdictions, including Delaware, against officers and directors of the corporation for $139 million (minus attorney fees, TBD). The payment will be made to the corporation from the various D&O insurance policies. The Memorandum of Understanding is here. The amended complaint is here. The parties agreed to file a stipulation with the Delaware Chancery Court within 14 days for approval. Kevin La Croix's expert commentary on the D & O issues is here.
So, what were the claims? The claims fall roughly into two big groups, both under the Duty of Loyalty: (1) the conflicted $615 million acquisition by News Corp. of an entity owned by (controlling shareholder, CEO and Chair) Rupert Murdoch's daughter; and (2) lack of oversight related to the illegal surveillance scandal involving News Corp.'s 100% owned subsidiary, News of the World. Sprinkled around these claims are accusations of Murdoch using the corporation as a vehicle for supporting his political agenda. The overarching thesis of the complaint is that the board allowed Murdoch to use News Corp. for his own personal purposes: family and political.
Historically, conflict-of-interest claims have teeth; oversight (Caremark) claims do not: waste claims don't even have a mouth. Something here had a lot of teeth given that the parties agreed to go to mediation prior to a ruling on a motion to dismiss and given the $139 million figure. For those of us waiting to see a winning Caremark claim, failure to oversee an ongoing pattern of illegal news-gathering activity that was well-known internally might be it. But, we may never know if the settlement is all about the acquisition or a little bit of both. Perhaps the oral argument for the motion to dismiss last year held some clues that the court thought the oversight claim was not going to be dimissed, at least.
The remedy section of the MOU has not only the monetary award but also positive remedial changes, such as more compliance, a compliance officer, an independent Chairman of the Board, and new definitions of "independent" for board members, etc., that might match up to oversight if the money merely lines up with the acquisition. And, interestingly, a new "Political Activity Policy":
Stay tuned to see if this is a throw-away provision (like most remedial changes in derivative settlements, or something to see.
2. The Company has or will implement a policy requiring annual public disclosure to its shareholders of political conributions made directly by the Company to state or local candidates, political party committees, political committees (e.g., PACs) or other political organizations exempt from federal income taxes under Section 527 of the IRC; payments to any other entity that is earmarked to be used for independent expenditures for a candidate or political party; or to a ballot measure committee. . . .
3. The Company will notify the Board (for its information and not approval) on an annual basis of payments in excess of $25,000 (including special assessments) that are not deductible under Chapter 162(e) of the IRC . . . and are. . .made to any US-based trade association, Section 501(c)(4) organization, or Section 501(c)(3) organization that coordinates directly with the Company in drafting proposed legislation or grassroots lobbying activities. . . .
Thanks to Usha for asking me to guest blog about the proposed Public Benefit Corporation amendments to Delaware’s General Corporation Law. This summer one of my planned projects is writing an article tentatively entitled Governing Public Benefit Corporations, and I will be floating some of my early ideas here. Comments will be appreciated.
On March 20, I mentioned the proposed Delaware Public Benefit Corporation (“PBC”) amendments on the Social Enterprise Law Blog (“SocEntLaw”)* shortly after I received word from Professor Brian Quinn and some of my friends in Delaware. Last week, both Usha and Stephen Bainbridge added thoughtful posts about the PBC.
For this guest blogging stint, I plan on authoring three additional posts, starting next week. Each post will compare and contrast the proposed PBC amendments with the model benefit corporation legislation. The twelve states that currently have benefit corporation statutes follow the structure and main provisions of the model legislation without too much variation. (The variations can be seen in my chart that Usha mentioned). Delaware, however, cuts its own path. In the three posts, I will focus on private ordering, director guidance, and brand strength.
* I will cross-post my guest posts on the Conglomerate at my permanent blogging home over at SocEntLaw. Last year, Cass Brewer (Georgia State), Deborah Burand (Michigan), Alicia Plerhoples (Georgetown), Dana Brakman Reiser (Brooklyn), a handful of practicing attorneys, and I (Regent) joined social enterprise lawyer Kyle Westaway (who is a Regent Law alum and a Lecturer on Law at Harvard Law School) at his blog. We welcome any and all readers.
From the Harvard Law School Forum on Corporate Governance and Financial Regulation, via Allen M. Terrell, Jr. of Richards, Layton & Finger, comes a summary of proposed amendments to the Delaware General Corporation Law. I had heard about the elimination of the vote in second-step mergers, but the public benefit corporation was news to me.
It sounds a lot like the benefit corporation legislation that's been spreading across the country (see this chart by Haskell Murray. At first blush I was surprised to see Delaware contemplating this kind of social enterprise legislation, since it's not really a stakeholders' rights kinda state. But on further reflection I guess a "let a thousand flowers bloom" attitude makes sense for Delaware's let-the-market-decide, opt-in attitude. Here's the description:
In general, under the proposed legislation, a public benefit corporation would be a corporation managed in a manner that balances the stockholders’ pecuniary interests, the interests of those materially affected by the corporation’s conduct, and one or more public benefits identified in its certificate of incorporation. To this last point, each public benefit corporation would be required, in its certificate of incorporation, to identify itself as a public benefit corporation and to state the public benefits it intends to promote. The proposed legislation generally defines “public benefits” as positive effects (or minimization of negative effects) on persons, entities, communities or interests, including those of an artistic, charitable, cultural, economic, educational, literary, medical, religious, scientific or technological nature.
Central to the proposed new subchapter’s operation is the statutory mandate that would be imposed on directors. The new subchapter would provide that directors, in managing the business and affairs of the public benefit corporation, shall balance the pecuniary interests of the stockholders, the interests of those materially affected by the corporation’s conduct, and the identified public benefits. The new subchapter also would provide that directors shall not have any duty to any person solely on account of any interest in the public benefit and would provide that, where directors perform the balancing of interests described above, they will be deemed to have satisfied their fiduciary duties to stockholders and the corporation if their decision is both informed and disinterested and not such that no person of ordinary, sound judgment would approve.
The new subchapter would impose special notice requirements on public benefit corporations, mandating periodic statements to stockholders regarding the corporation’s promotion and attainment of its public benefits. The new subchapter also would provide a means of enforcing the promotion of the public benefits. By statute, stockholders holding at least 2% of the corporation’s outstanding shares (or, in the case of listed companies, the lesser 2% of the outstanding shares or shares having at least $2 million in market value) would be able to maintain a derivative lawsuit to enforce specified requirements in the subchapter.
Update: Steve Bainbridge makes a good point: Delaware is moving to protect its market share.
Jesse Fried, Brian Broughman, and Darian Ibrahim have an excellent paper on Delaware's dominance in the market for corporate charters, arguing "that firms often choose Delaware corporate law because it is the only law 'spoken' by both in-state and out-of-state investors." Jesse described the paper in a recent blog post, and you can download it on SSRN. Jesse's summary of the evidence:
To test for a lingua-franca effect, we exploit a database of 1,850 VC-backed firms that provides precise information on the firm’s location, the identity and location of its investors, and changes in the firm’s domicile as its investor base evolves over time. We find, consistent with the lingua-franca effect, that the presence of out-of-state investors in each round of financing significantly increases the likelihood of Delaware incorporation or reincorporation. We also find that a startup is less likely to incorporate in Delaware if its out-of-state VC investors have already invested in firms incorporated in the startup’s home state, and thus have greater familiarity with home-state corporate law.
News today of a shooting in the Newcastle County Courthouse, which houses the Chancery Court. I was lucky enough to clerk down the street in the federal courthouse, and experienced firsthand the wonderfully close knit Delaware legal community. This news sickens me.
Our thoughts are with the victims, the Chancery Court, and those who go to work every day in courthouses around the country. It shouldn't be a dangerous job, but all too often we're reminded that it can be.
This past February, I blogged about Chancellor Leo Strine's opinion in Auriga Capital Corp. v. Gatz Properties, LLC. The case was particularly interesting because Chancellor Strine expressed his view that a manager in a manager-managed LLC owes fiduciary duties, even if the participants in the LLC are silent about fiduciary duties. In other words, the manager has fiduciary duties by default.
But Chief Justice Myron Steele has expressed a different view in his article, Freedom of Contract and Default Contractual Duties in the Delaware Limited Partnerships and Limited Liability Companies, 46 Am. Bus. L.J. 221, 223-224 (2009).
So when the Delaware Supreme Court issued an en banc opinion in Auriga earlier this week, we were all curious what Chief Justice Steele would say. The result was a per curium decision and it was surprising. The Court affirmed Chancellor Strine's decision, then added:
[W]e pause to comment on one issue that the trial court should not have reached or decided. We refer to the court’s pronouncement that the Delaware Limited Liability Company Act imposes “default” fiduciary duties upon LLC managers and controllers unless the parties to the LLC Agreement contract that such duties shall not apply. Where, as here, the dispute over whether fiduciary standards apply could be decided solely by reference to the LLC Agreement, it was improvident and unnecessary for the trial court to reach out and decide, sua sponte, the default fiduciary duty issue as a matter of statutory construction. The trial court did so despite expressly acknowledging that the existence of fiduciary duties under the LLC Agreement was “no longer contested by the parties.” For the reasons next discussed, that court’s statutory pronouncements must be regarded as dictum without any precedential value.
First, the Peconic Bay LLC Agreement explicitly and specifically addressed the “fiduciary duty issue” in Section 15, which controls this dispute. Second, no litigant asked the Court of Chancery or this Court to decide the default fiduciary duty issue as a matter of statutory law. In these circumstances we decline to express any view regarding whether default fiduciary duties apply as a matter of statutory construction. The Court of Chancery likewise should have so refrained.
Third, the trial court’s stated reason for venturing into statutory territory creates additional cause for concern. The trial court opinion identifies “two issues that would arise if the equitable background explicitly contained in the statute were to be judicially excised now.” The opinion suggests that “a judicial eradication of the explicit equity overlay in the LLC Act could tend to erode our state’s credibility with investors in Delaware entities.” Such statements might be interpreted to suggest (hubristically) that once the Court of Chancery has decided an issue, and because practitioners rely on that court’s decisions, this Court should not judicially “excise” the Court of Chancery’s statutory interpretation, even if incorrect. That was the interpretation gleaned by Auriga’s counsel. During oral argument before this Court, counsel understood the trial court opinion to mean that “because the Court of Chancery has repeatedly decided an issue one way, . . . and practitioners have accepted it, that this Court, when it finally gets its hands on the issue, somehow ought to be constrained because people have been conforming their conduct to” comply with the Court of Chancery’s decisions. It is axiomatic, and we recognize, that once a trial judge decides an issue, other trial judges on that court are entitled to rely on that decision as stare decisis. Needless to say, as an appellate tribunal and the court of last resort in this State, we are not so constrained.
Fourth, the merits of the issue whether the LLC statute does—or does not— impose default fiduciary duties is one about which reasonable minds could differ. Indeed, reasonable minds arguably could conclude that the statute—which begins with the phrase, “[t]o the extent that, at law or in equity, a member or manager or other person has duties (including fiduciary duties)”—is consciously ambiguous. That possibility suggests that the “organs of the Bar” (to use the trial court’s phrase) may be well advised to consider urging the General Assembly to resolve any statutory ambiguity on this issue.
Fifth, and finally, the court’s excursus on this issue strayed beyond the proper purview and function of a judicial opinion. “Delaware law requires that a justiciable controversy exist before a court can adjudicate properly a dispute brought before it.” We remind Delaware judges that the obligation to write judicial opinions on the issues presented is not a license to use those opinions as a platform from which to propagate their individual world views on issues not presented. A judge’s duty is to resolve the issues that the parties present in a clear and concise manner. To the extent Delaware judges wish to stray beyond those issues and, without making any definitive pronouncements, ruminate on what the proper direction of Delaware law should be, there are appropriate platforms, such as law review articles, the classroom, continuing legal education presentations, and keynote speeches.
Parts of this passage surfaced on Above the Law and generated a story today in the NYT, but neither story mentioned the underlying dispute between Chief Justice Steele and Chancellor Strine on default fiduciary duties.
Those stories also didn't note that this was not the first time the Delaware Supreme Court had warned Chancellor Strine about dicta. Ironically, the issue in Gotham Partners, L.P. v. Hallwood Realty Partners, L.P., 817 A.2d 160, 167 (Del. 2002) was then-Vice Chancellor Strine's assertion that fiduciary duties could be eliminated in a limited partnership. On that occasion, the Court observed, "we are constrained to draw attention to ... the underlying general principle in our jurisprudence that scrupulous adherence to fiduciary duties is normally expected."
Finally, inspired by the reaction of Brett McDonnell when we discussed this story yesterday, I wonder what Ed Rock thinks of this opinion. See Edward B. Rock, Saints and Sinners: How Does Delaware Corporate Law Work?, 44 UCLA L. Rev. 1009 (1997).
The world of corporate law was abuzz yesterday with the story that a U.S. District Court struck down the Delaware Chancery Court's recent foray into arbitration as unconstitutional. DealProf Steven Davidoff provides a typically incisive summary and analysis. I'm not sure quite where I come down on the question, but to me it boils down to would Chancery Court's proposed arbitration mechanism merely substitute the sophisticated vice chancellors and chancellor for other arbitrators? In which case, we shouldn't care so much. Or might it encroach on areas that are the typical subject of civil litigation? In which case there's real harm to the public from a loss of transparency.
Davidoff says much the same:
In some ways the arbitration provisions may be a victim of Delaware’s success. The court’s five Chancery Court judges are really the best in the country at adjudicating corporate law disputes involving shareholders. The reason is not only their competence but their experience in deciding these matters.
So, it is no surprise that to the extent companies want to extend arbitration to previously public domains, these provisions would come into play. The likely reasons they have not been used more often are the pending litigation and the fear that companies have of their validity. But had the provisions really been confined to purely private disputes without affecting shareholders, they might have been more defensible in the federal court
Davidoff points to two events, the Skyworks Solutions/Advanced Analogic Technologies arbitration and the Carlyle's attempt to go public but require shareholder fiduciary duty and securities law claims to be arbitrated in Delaware, as reasons for unease with Chancery Court arbitration. In each case, shareholders lost out on valuable information that traditionally would have been theirs.
It's hard to say from this vantage point how much of the Chancery Court's arbitration procedure would merely substitute for private arbitration, and how much would displace civil litigation--only 6 proceedings have occurred so far. I'm torn because I'm sympathetic both to Delaware's desire to capitalize on the value of the Chancery Court's expertise, and to the idea that the Court's opinions are a rich, fundamentally public resource. I'm no arbitration expert, but perhaps there is a way for Delaware to tie its own hands, limiting its arbitration proceedings to disputes in which the public has traditionally not been afforded access? Might that pass constitutional muster?
1. Federalism And Corporate Law: Reflections Upon Delaware, 1974 83 Yale L. J. 663 William L. Cary
2. The Proper Role Of A Target's Management In Responding To A Tender Offer, 1981 94 Harv. L. Rev. 1161 Frank H. Easterbrook , Daniel R. Fischel
3. Do The Merits Matter? A Study Of Settlements In Securities Class Actions, 1991 43 Stan. L. Rev. 497 Janet Cooper Alexander
4. Understanding The Plaintiff's Attorney: The Implications Of Economic Theory For Private Enforcement Of Law Through Class And Derivative Actions, 1986 86 Colum. L. Rev. 669 John C. Coffee, Jr.
5. The Plaintiffs' Attorney's Role In Class Action And Derivative Litigation: Economic Analysis And Recommendations For Reform, 1991 58 U. Chi. L. Rev. 1 Jonathan R. Macey , Geoffrey P. Miller
6. Corporate Control Transactions, 1982 91 Yale L.J. 698 Frank H. Easterbrook , Daniel R. Fischel
7. A Structural Approach To Corporations: The Case Against Defensive Tactics In Tender Offers, 1981 33 Stan. L. Rev. 819 Ronald J. Gilson
8. A Team Production Theory Of Corporate Law, 1999 85 Va. L. Rev. 247 Margaret M. Blair , Lynn A. Stout
9. Shareholder Passivity Reexamined, 1990 89 Mich. L. Rev. 520 Bernard S. Black
10. The “Race To The Bottom” Revisited: Reflections On Recent Developments In Delaware's Corporation Law, 1982 76 Nw. U. L. Rev. 913 Daniel R. Fischel
11. Piercing The Corporate Veil: An Empirical Study, 1991 76 Cornell L. Rev. 1036 Robert B. Thompson
12. Toward An Interest-Group Theory Of Delaware Corporate Law, 1987 65 Tex. L. Rev. 469 Jonathan R. Macey , Geoffrey P. Miller
13. Beyond Metaphor: An Analysis Of Fiduciary Obligation, 1988 Duke L.J. 879 Deborah A. Demott
14. Shareholders Versus Managers: The Strain In The Corporate Web, 1986 85 Mich. L. Rev. 1 John C. Coffee, Jr.
15. Empowering Investors: A Market Approach To Securities Regulation, 1998 107 Yale L.J. 2359 Roberta Romano
16. Fair Shares In Corporate Mergers And Takeovers, 1974 88 Harv. L. Rev. 297 Victor Brudney , Marvin A. Chirelstein
17. Federalism And The Corporation: The Desirable Limits On State Competition In Corporate Law, 1992 105 Harv. L. Rev. 1435 Lucian Arye Bebchuk
18. Corporate Governance, Agency Costs, And The Rhetoric Of Contract, 1985 85 Colum. L. Rev. 1403 Victor Brudney
19. The Political Economy Of Takeover Statutes, 1987 73 Va. L. Rev. 111 Roberta Romano
20. Corporations, Corporate Law, And Networks Of Contracts, 1995 81 Va. L. Rev. 757 Michael Klausner
Honorable Mention: Legal Implications Of Network Economic Effects, 1998 86 Cal. L. Rev. 479 Mark A. Lemley , David McGowan (“network theory may help explain Delaware's dominance in the market for corporate charters”)
This was assembled through WestlawNext's Law Reviews and Journals database, with non-corporate articles mentioning Delaware discarded (there were only three of those). Lemley & McGowan would have been about 10th, and theirs is the second youngest of the articles on the list, which range in publication date from 1974 to 1999. The oldest, and most-cited, is Cary’s; Ralph Winter’s article responding to Cary's did not make the list, suggesting it is not in Westlaw’s database. Fischel wrote three of 20, Coffee, Romano, Brudney, and Easterbrook two (both of Easterbrook’s co-written with Fischel).
Delaware Vice Chancellor Laster issued a new corporate opportunity opinion yesterday, Dweck v. Nasser. It's not going to replace Broz v. Cellular Info. Sys., Inc., 673A.2d 148 (Del. 1996) in my casebook, but it's an interesting case nonetheless.
Gila Dweck was CEO and 30% stockholder of Kids International Corporation. Albert Nasser was Chairman of the Board and the controlling stockholder. Kids was a successful manufacturer of private-label clothing for discount retailers, like Wal-Mart and Target. Dweck wanted to own a larger share of the company, but Nasser declined to accommodate her, so Dweck took matters into her own hands, establishing two competing companies and eventually appropriating many of Kids' accounts.
In 2005, Dweck and Nasser split, accusing each other of breaching their fiduciary duties in various ways. The claim that most interests me is a corporate opportunities claim against Dweck. Although some of the background facts relating to Kids' ownership structure are complicated, VC Laster describes Dweck's treachery with admirable simplicity: Dweck established "competing companies that usurped Kids' corporate opportunities and converted Kids' resources to the point of literally using Kids' own employees, office space, letters of credit, customer relationships, and goodwill to conduct their operations."
If this seems like a pretty easy corporate opportunity case, that's because it is (with all due respect to VC Laster, who had to deal with 930 exhibits!). The first defense offered by Dweck was a rather lame "line of business" argument: because Kids manufactured private-label clothing, the other companies could enter the market for branded clothing. As VC Laster noted, this was not much of a defense to the claim of disloyalty: "Although Kids primarily operated in the private label business, Kids easily and readily could have expanded into the branded business."
Dweck also claimed that Nasser consented to the branded-label businesses, but VC Laster rejected Dweck's testimony, stating that Nasser was never informed of the new companies.
The most interesting defense was based on an operating agreement of Essential Childrenswear, a company formed by Nasser, Dweck and Dweck's brother, Haim. That agreement had a so-called "free-for-all provision," which read as follows:
Any Member and any of their respective affiliates may engage in or possess any interest in other business ventures of any kind, independently or with others, including but not limited to any business similar in nature to or competitive with the business of [Essential]. The fact that a Member or any of their respective affiliates may encounter business opportunities and may take advantage of such opportunities himself and/or herself and/or itself or introduce such opportunities to entities in which he/she/it has or has not any interest, shall not subject such Member or affiliate to liability to [Essential] or any of the other Members on account of the lost opportunity. Neither [Essential] nor any Member shall have any right by virtue of this Agreement or otherwise in or to such ventures, or to the income or profits derived therefrom, and the pursuit of such ventures, even though competitive with the business of [Essential], shall not be deemed wrongful or improper. . . . [Essential] and each Member hereby waives all right or remedy against the Members with respect to any damage, injury, lost profits or revenue as a result of any competitive business activities on the part of any Member.
Waivers of fiduciary duties have become common in Delaware LPs and LLCs -- see Mohsen Manesh's forthcoming paper, Contractual Freedom under Delaware Alternative Entity Law: Evidence from Publicly Traded LPs and LLCs -- but I haven't seen as much discussion of waivers in the corporate context, outside of DGCL Section 102(b)(7), which permits a waiver of sorts (allowing corporations to include an exculpation clause in a corporation's certificate of incorporation, limiting or eliminating the personal liability of a corporation's director for a breach of fiduciary duty).
The provision above would probably be analyzed under DGCL 122(17) (which I blogged about a long time ago). This provision permits a corporation to "[r]enounce, in its certificate of incorporation or by action of its board of directors, any interest or expectancy of the corporation in, or in being offered an opportunity to participate in, specified business opportunities or specified classes or categories of business opportunities that are presented to the corporation or one or more of its officers, directors or stockholders." (emphasis added)
In Dweck, the provision was in an operating agreement, which may have been authorized by Essential's board of directors (the court doesn't say). But VC Laster rightly observed that even if this provision were effective for Essential's affairs, it could not "eliminate broadly the duty of loyalty for all other business entities formed by the same parties."
Unfortunately for Dweck, a Kids stockholders' agreement, which had a similar provision, was never signed by Nasser. According to VC Laster, "The free-for-all provision never became effective, and Dweck cannot rely on it to justify her conduct. I therefore need not reach the complex legal issues that the provision would raise."
Would the "free-for-all provision" survive under DGCL Section 122(17)? I found only one case citing this code section -- Wayne County Employees' Retirement System v. Corti, 2009 WL 2219260 (Del.Ch.2009) -- and Chancellor Chandler did not rule on the provision because there was no actual controversy touching on the provision. Nevertheless, the issue raised in that case is the same issue that would likely have arisen in Dweck: are the opportunities pursued by Dweck "specified business opportunities or specified classes or categories of business opportunities"? My view is that the identification of "other business ventures of any kind" is not sufficient specification.
Thanks to Kurt Heyman for the tip on the case and to Mohsen for an insightful email on the free-for-all provision.
Earlier this year, Chief Justice Roberts again displayed his antipathy towards the legal academy when he said, "What the academy is doing, as far as I can tell, is largely of no use or interest to people who actually practice law." Gordon responded with a nice post, which included the quote: "legal scholars often are not writing for practicing lawyers." However, I think one of the very special things about the Delaware Chancery, and the once and future chancellors, is their openness to corporate law scholarship. Not only do Chancellor Chandler and Chancellor Strine have SSRN pages, but their opinions reflect a willingness to engage with the academic literature that goes beyond any other court in the nation. It's not even close.
The Airgas opinion provides a recent example. Central to Chancellor Chandler's opinion is his discussion of the "substantive coercion" standard first set forth in Ronald Gilson & Reinier Kraakman, Delaware's Intermediate Standard for Defensive Tactics: Is There Substance to Proportionality Review?, 44 Bus. Law. 247, 258 (1989). Chancellor Chandler quotes at length from the article, and discusses how the standard (first used by Chancellor Allen in City Capital Assocs. Ltd. P'ship v. Interco Inc., 551 A.2d 787 (Del.Ch.1988)) had developed both in the case law and the academic literature. The opinion noted:
At least one of the professors, it seems, is unhappy with how the Supreme Court has apparently misunderstood the concept of substantive coercion as he had envisioned it, noting that “only the phrase and not the substance captured the attention of the Delaware Supreme Court” such that the “mere incantation” of substantive coercion now seems sufficient to establish a threat justifying a board's defensive strategy.
Air Products & Chemicals, Inc. v. Airgas, Inc., 16 A.3d 48, 100 (Del, Ch. 2011) (citing Ronald J. Gilson, Unocal Fifteen Years Later (And What We Can Do About It), 26 Del. J. Corp. L. 491, 497 n. 23 (2001)). This is a remarkable passage: a lower court is using a law review article to (indirectly?) criticize a higher court. One can only imagine Chief Justice Roberts' reaction to such a move. But it demonstrates the respect the Chancery has for the analysis that corporate law scholars bring to a problem.
David Marcus from the Deal Magazine has a terrific interview with Chancellor Chandler upon his stepping down from the Chancery. I found this exchange to be reflective of the chancellor's views on legal scholarship:
[Q:] It was clear in reading the [Airgas] opinion that you had thought very deeply about that question, but except for your decision in Unitrin, you hadn't had the chance to write about it until Airgas.
I got the views of all of my colleagues on the court on both the pill question, which was Airgas II, and on the bylaw question, which was Airgas I. They were very helpful to me in writing it and getting it out in a timely way. If the question is, "Would I have written this as long or in the same way?" probably not, because back when I wrote Unitrin in the mid-1990s, there hadn't been as much ink spilled by academics. You saw a lot of academic references in the opinion, and that probably resulted in a slightly different approach to how to write it, because I was writing it for the parties but also acknowledging the views of various academics on this question from professor [Lucian] Bebchuk to others.
There are a lot of examples of the dialogue, synergy, and even good-natured humor between the two groups -- Larry Ribstein's riff on Chancellor Strine's Three Times a Lady reference comes to mind. (And I'd add "Fee Tines a Mady.") I don't expect this to change with Chancellor Strine. But Chancellor Chandler carried on and fostered the relationship during his term as chancellor, and we can only hope to keep returning the favor.
Chancellor Chandler was involved in two of the cases which crucially shaped the emerging doctrine of good faith over the last ten or fifteen years. Steve Davidoff and Matt Bodie have already discussed Disney. Claire Hill and I have written on the case at length, but long story short, I think the Chancellor got things basically right. He struck a delicate balance. On the one hand, executive compensation is a real corporate governance problem, both in general and at the Disney board in particular. On the other hand, the court cannot usefully replace the board in crafting appropriate compensation packages. So what to do? The Chancellor used good faith to allow the case to continue for a while, and to lecture the board on the shortcomings in its process (Matt reproduces some of that lecturing in his post), but in the end the board escaped liability, as it should.
I am less satisfied with what happened in the Citigroup opinion. It did allow the case to continue for a while (on the waste claim), and it will presumably avoid imposing liability, as it should. But the rhetoric is wrong. It is all about the vital importance of the business judgment rule and the inappropriateness of the Court second-guessing the board. The Chancellor is not willing to state that the Caremark duty to monitor extends to business risk as well as legal violations, although he does not quite exclude the possibility either. Even Steve Bainbridge believes that Caremark should apply to enterprise risk management, although he stresses that it should be almost impossible to succeed on this theory. I agree with Bainbridge that plaintiffs should be fated to fail, but the thin sliver of space for making a claim should allow courts to sternly lecture boards that have been clearly remiss in their duty to monitor. And surely the Citigroup board was an instance of that. Where is the lecture to this board that was asleep at the wheel as it allowed its traders and others to gamble the future of the company, taking both Citgroup and the U.S. economy as a whole to the brink of catastrophe (and for the U.S. as a whole, maybe beyond the brink)? Where is the outrage?
I also find the weak rhetoric in Citigroup a bit puzzling in its institutional politics. I have speculated that the Chancellor's 2003 Disney opinion, along with several other Delaware opinions at about the same time that were surprisingly skeptical of management, represented in part an attempt to show some spine in the face of the Enron and Worldcom scandals and pressure to extend federal regulation of corporate governance. When times get hard, Delaware needs to show it is up to the job of regulating boards or else it will lose that role to the federal government. Yet, here we are in the midst of a much worse crisis, and I see very little evidence of vertebral columns in Wilmington. What gives?
Since Afra stole my original idea (!), I will not use my Master's Forum posting to cover the Airgas opinion. I agree with what Afra says about the decision in that case and am adding excerpts from it to the second edition of the business associations casebook that I coauthor.
Instead, I will comment briefly on Chancellor Chandler's remarks issued in connection with the dedication of the Adolf A. Berle, Jr. Center on Corporations, Law and Society two years ago. These remarks sit at the intersection of several topics important to current and future legal professionals (especially those of us engaged with Delaware corporate law), among them:
- the ex post and immortal nature of judicial decision making;
- Adolf Berle's contributiions to the theory, doctrine, and practical aspects of corporate governance as a compinent of corporate law; and
- the Delaware judicial tradition of public service to the bench, bar, students, and law academy through law review and law journal commentary.
On the first of these three topics, Chancellor Chandler initially observes that "[l]aw is, in many ways, a backwards-looking field. We litigate over facts that have already occurred, challenge deals that have already been signed, and apply rules of decision based on previously-established precedent or statutes already enacted." He says nothing groundbreaking here, but he uses this observation as a jumping-off point for commentary on the value associated with actively using the past to shape the present and future (rather than merely memorializing the past). His conclusion? "It is through . . . ongoing dialogue with the text that the subject matter still lives." A great thought that I will keep in mind as I go back into the classroom in the morning.
On Adolf Berle's contributions to corporate governance, Chacncellor Chandler notes that "Berle was one of the original scholars to recognize the core concern of corporate law: the separation of ownership from control." He goes on to say that "Berle articulated the governing premise of the fiduciary duties that now inform nearly every aspect of Delaware corporate law." He adds that "Berle put this notion of fiduciary duties in context by articulating a two-part test for review of managerial action. The first level of review is the technical power conferred on managers by articles of incorporation, bylaws, and statutory law. The second level of constraint consists of the common law fiduciary duties." Chancellor Chandler characterizes these matters as meaningful to his work. These legacies of Adolf Berle also are instrumental in my teaching of corporate law. I have especially been harping on the last point this semester--the one about the two-part test for managerial action. The Chancellor's summary is both pointed and apt.
The third important topic that I identified is illuminated (and refuted) in, among other places, J.W. Verret's 2007 article with Justice Myron Steele of the Delaware Supreme Court and a Renee Jones's posting here at The Glom from back in January 2008 (and the related comments). I will not expand on those commentaries here. I will add, however, that I always have found my conversations with Delaware jurists to be informative and helpful (even where I disagree with the substance of what they say), and I see their authorship of pieces in law reviews and journals as extensions of those conversations. Chancellor Chandler's remarks on the Center's dedication are part of that tradition.
So . . . thanks, Chancellor Chandler, for engaging us with these topics and the many others that you have taken on in your years on the Chancery Court. As we say here in East Tennessee, "I appreciate you."
Like many other corporate law academics and lawyers, I have long admired Chancellor Chandler’s work. His contributions to the development of Delaware corporate law have enriched both my thinking and my teaching. For purposes of this post, I will focus on my use of Chancellor Chandler’s opinions in teaching M&A.
M&A casebooks are filled with opinions from the Delaware courts. In particular, the opinions of the Delaware Chancery court reflect sophisticated and nuanced explanations of both Delaware corporate law and the M&A deal-making process. Moreover, Delaware jurisprudence has come to dominate judicial thinking with respect to issues that often arise in M&A litigation, particularly issues related to the fiduciary duties of boards in the contexts of takeover transactions.
The strengths of the Delaware courts in carefully explaining how deals are planned and executed, what is at stake and why the law has developed in the way that it has are reflected in Chancellor Chandler’s recent 158-page opinion which upheld the right of Airgas' board to use its poison pill as a defensive mechanism against Air Products’ hostile tender offer. Chancellor Chandler started out the case with a concise summary:
This case poses the following fundamental question: Can a board of directors, acting in good faith and with a reasonable factual basis for its decision, when faced with a structurally non-coercive, all-cash, fully financed tender offer directed to the stockholders of the corporation, keep a poison pill in place so as to prevent the stockholders from making their own decision about whether they want to tender their shares—even after the incumbent board has lost one election contest, a full year has gone by since the offer was first made public, and the stockholders are fully informed as to the target board’s views on the inadequacy of the offer? If so, does that effectively mean that a board can “just say never” to a hostile tender offer?
The answer to the latter question is “no.” A board cannot “just say no” to a tender offer. Under Delaware law, it must first pass through two prongs of exacting judicial scrutiny by a judge who will evaluate the actions taken by, and the motives of, the board. Only a board of directors found to be acting in good faith, after reasonable investigation and reliance on the advice of outside advisors, which articulates and convinces the Court that a hostile tender offer poses a legitimate threat to the corporate enterprise, may address that perceived threat by blocking the tender offer and forcing the bidder to elect a board majority that supports its bid.
Like other commentators, I admire this opinion for the meticulous work that it does in laying out the facts. Almost 65 pages of Chancellor Chandler’s opinion explains the complex twists and turns of the courtship, negotiation, battle and downright hostility that ensues in an attempted takeover transaction. A review of the opinion’s account of the factual developments of the Air Products/Airgas saga could easily take an entire class and be a useful tool for explaining the financial incentives that drive deals and the way the law frames the deal planning and execution process.
Also, like other commentators (see Professor Bainbridge here and here), I expected that Chancellor Chandler would uphold the pill. What I didn’t quite expect was Chancellor Chandler’s frank articulation of how decades of Delaware case law on the poison pill essentially gave him no choice but to reach the result that he did. As he explained:
Although I have a hard time believing that inadequate price alone (according to the target’s board) in the context of a non-discriminatory, all cash, all-shares, fully financed offer poses any “threat”—particularly given the wealth of information available to Airgas’s stockholders at this point in time—under existing Delaware law, it apparently does. Inadequate price has become a form of “substantive coercion” as that concept has been developed by the Delaware Supreme Court in its takeover jurisprudence. That is, the idea that Airgas’s stockholders will disbelieve the board’s views on value (or in the case of merger arbitrageurs who may have short-term profit goals in mind, they may simply ignore the board’s recommendations), and so they may mistakenly tender into an inadequately priced offer. Substantive coercion has been clearly recognized by our Supreme Court as a valid threat.
Trial judges are not free to ignore or rewrite appellate court decisions. Thus, for reasons explained in detail below, I am constrained by Delaware Supreme Court precedent to conclude that defendants have met their burden under Unocal to articulate a sufficient threat that justifies the continued maintenance of Airgas’s poison pill. That is, assuming defendants have met their burden to articulate a legally cognizable threat (prong 1), Airgas’s defenses have been recognized by Delaware law as reasonable responses to the threat posed by an inadequate offer—even an all-shares, all-cash offer (prong 2).
For my M&A class next semester, Chancellor Chandler’s summary of the current legal regime in Delaware will be required reading. His summary illuminates the development of Delaware jurisprudence in this area, as well as its continued shortcomings. Hopefully from his perch as a partner at Wilson Sonsini Goodrich & Rosati, Chancellor Chandler will continue the critical discussion he undertook in the Airgas opinion.
Just to begin a theme sure to be repeated throughout the day: Chancellor Chandler is a terrific person. Like Gordon, my wife and I had the chance to visit the Court of Chancery in Georgetown, and we were treated to a tour as well as a wonderful chat with our host. He could not have been more gracious. It is often said that the strength of the Delaware corporate law lies as much (if not more) in its judges as in its statutes, and Chancellor Chandler has exemplified the combination of corporate savvy with down-to-earth sense that makes the court so successful.
The Disney case was an extraordinary event, even for the Delaware Chancery. However, when the case was first presented to Chancellor Chandler, he found that "the issues presented by this litigation, while larger in scale, are not unfamiliar to this Court." In granting the motion to dismiss, he began his opinion with the following analogy:
Just as the 85,000–ton cruise ships Disney Magic and Disney Wonder are forced by science to obey the same laws of buoyancy as Disneyland's significantly smaller Jungle Cruise ships, so is a corporate board's extraordinary decision to award a $140 million severance package governed by the same corporate law principles as its everyday decision to authorize a loan. Legal rules that govern corporate boards, as well as the managers of day-to-day operations, are resilient, irrespective of context. When the laws of buoyancy are followed, the Disney Magic can stay afloat as well as the Jungle Cruise vessels. When the Delaware General Corporation Law is followed, a large severance package is just as valid as an authorization to borrow. Nature does not sink a ship merely because of its size, and neither do courts overrule a board's decision to approve and later honor a severance package, merely because of its size.
In re Walt Disney Derivative Litigation, 731 A.2d 342, 350 (Del. Ch. 1998). This comparison has always fascinated me. Just to give you the visuals, here's the Jungle Cruise ship:
And here's the Disney Magic:
Compare that language to this language, seven years later:
In re Walt Disney Derivative Litigation, 907 A.2d 693, 762-63 (Del. Ch. 2005).
To be certain, the evidence available to Chancellor Chandler in 1998 was much more limited than it was after the trial, due in part to the plaintiffs' initial failure to request corporate records. In fact, the chancellor showed a remarkable openness to seeing the case afresh once the minutes of the board meetings came to light. The Disney case was our transition from the Internet boom to the post-Enron era. And Chancellor Chandler was our Virgil.
One ongoing question about the Delaware Chancery Court is its responsivness to the prevailing corporate and political winds. Is the Chancery successful, at least in part, because it tempers its judgment with a sense of the national mood? And if so, is that an appropriate role for the judiciary? In this regard, I think the Disney case is instructive. Chancellor Chandler had this to say about the role of corporate governance norms within the law:
. . . [T]here are many aspects of defendants' conduct that fell significantly short of the best practices of ideal corporate governance. Recognizing the protean nature of ideal corporate governance practices, particularly over an era that has included the Enron and WorldCom debacles, and the resulting legislative focus on corporate governance, it is perhaps worth pointing out that the actions (and the failures to act) of the Disney board that gave rise to this lawsuit took place ten years ago, and that applying 21st century notions of best practices in analyzing whether those decisions were actionable would be misplaced.
Unlike ideals of corporate governance, a fiduciary's duties do not change over time. How we understand those duties may evolve and become refined, but the duties themselves have not changed, except to the extent that fulfilling a fiduciary duty requires obedience to other positive law. This Court strongly encourages directors and officers to employ best practices, as those practices are understood at the time a corporate decision is taken. But Delaware law does not --indeed, the common law cannot -- hold fiduciaries liable for a failure to comply with the aspirational ideal of best practices, any more than a common-law court deciding a medical malpractice dispute can impose a standard of liability based on ideal-rather than competent or standard-medical treatment practices, lest the average medical practitioner be found inevitably derelict.
Fiduciaries are held by the common law to a high standard in fulfilling their stewardship over the assets of others, a standard that (depending on the circumstances) may not be the same as that contemplated by ideal corporate governance. Yet therein lies perhaps the greatest strength of Delaware's corporation law. Fiduciaries who act faithfully and honestly on behalf of those whose interests they represent are indeed granted wide latitude in their efforts to maximize shareholders' investment. Times may change, but fiduciary duties do not. Indeed, other institutions may develop, pronounce and urge adherence to ideals of corporate best practices. But the development of aspirational ideals, however worthy as goals for human behavior, should not work to distort the legal requirements by which human behavior is actually measured. Nor should the common law of fiduciary duties become a prisoner of narrow definitions or formulaic expressions. It is thus both the province and special duty of this Court to measure, in light of all the facts and circumstances of a particular case, whether an individual who has accepted a position of responsibility over the assets of another has been unremittingly faithful to his or her charge.
Id. at 697-98. The Enron era and the 2008 Financial Crisis have given us many opportunities to see failures of those in a position of responsibility to remain unremittingly faithful to their charges. As we grapple with how to address that faithlessness, and how to minimize it in the future, we will miss having Chancellor Chandler as our guide.
Thanks to Usha for plugging the Columbia Law School conference on the Delaware Court of Chancery. The conference is partly aimed at honoring Bill Chandler, the recently retired Chancellor, but it is also looking forward to the court under new Chancellor Leo Strine.
On the first panel, Bill Savitt of Wachtell argued that "dictum" in the Delaware Court of Chancery is different than dictum for other courts. In some ways, he argued, the Court of Chancery is more like a legislator or regulator than a common law court because the judges are so engaged with and knowledgeable about the issues. Thus, they are not subject to the same "availability heuristic" that troubles other courts. See Fred Schauer's article, Do Cases Make Bad Law?, 73 U Chi L Rev 883 (2006).
According to Savitt, one reason the Delaware courts are in a better position than other courts to legislate or regulate, rather than just deciding incrementally, is that Delaware decisions are subject to extensive commentary from academic bloggers! Here is the photo:
You can see our banner in the bottom right-hand corner of Bill's slide. Thanks for the plug!
UPDATE: If you want a blow-by-blow account of the conference, you might try Alison Frankel's Twitter feed.