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In most situations, permitting pending derivative claims to survive a merger would be inefficient and overly costly for public investors. Under Delaware law, equity holders confronted by a merger in which derivative claims will pass to the buyer have the right to challenge the merger itself as a breach of the duties they are owed. To make the general rule one where derivative plaintiffs can continue to sue after a merger would raise overall transaction costs and barriers to mergers, with obvious costs to public investors, with no gain substantial enough to compensate them. Thus, the Delaware Supreme Court adheres to Lewis v. Anderson and its progeny. Along with the rest of the partnership's assets, ownership of the claim passes to the partnership's successor by operation of law in the merger. A derivative plaintiff's recourse is to file a money damages challenge to the merger and prove that the failure to accord value to the limited partnership in the merger was somehow violative of his rights.
The Court of Chancery held that a conflicts committee approved a conflict transaction that it did not believe was in the best interests of the limited partnership it was charged with protecting. In fact, the court found that the committee—and the committee's financial advisor in particular—knew the transaction was unduly favorable to the limited partnership's general partner. In its post-trial opinion, the Court of Chancery undertook a detailed analysis explaining why $171 million was a conservative estimate of the overpayment approved by the committee and used that figure as the basis for its damages award. But the problem for the derivative plaintiff who won at trial is that, after the trial was completed and before any judicial ruling on the merits, the limited partnership was acquired in a merger. Under 6 Del. C. § 17-211(h) and analogous judicial authority governing these situations, the claims brought by the plaintiff on behalf of the limited partnership were transferred to the buyer in the merger. The plaintiff's standing was extinguished, and his only recourse was to challenge the fairness of the merger by alleging that the value of his claims was not reflected in the merger consideration. The Court of Chancery, however, rejected the defendants' argument to this effect and issued a thoughtful opinion arguing that the derivative plaintiff's claims, although always treated by him as derivative before the merger was announced, could also be considered direct, or, even if derivative, should survive the merger for the core policy reason that dismissal would leave the unaffiliated limited partners without recompense for the general partner's prior unfair dealing.
Did the Court of Chancery err in granting judgment to the limited partner?
The court held that the Court of Chancery erred in granting judgment to a limited partner upon finding that a conflicts committee approved a conflict transaction that it did not believe was in the best interests of the limited partnership it was charged with protecting, as the limited partnership was acquired by merger after the trial was completed and before any judicial ruling on the merits, such that the limited partner lacked standing under Del. Code Ann. tit. 6, § 17-211(h) because the claims were transferred to the buyer in the merger. The court further held that the limited partner’s claims could not be considered direct under the Tooley test, as the limited partnership agreement directed that it owned the claim and equitable principles did not control to determine that outcome, such that the limited partner could only challenge the fairness of the merger through allegations that the value of his claims was not reflected in the merger consideration.