New Jersey Carpenters Pension Fund v.
infoGROUP, Inc., C.A. No. 5334-VCN (Del. Ch. Sept. 30, 2011),
read opinion here.
Whether directors breached their duty of loyalty in
connection with the sale of a company based on their domination and/or
intimidation by the largest shareholder.
This case involved the claim that the directors of
infoGROUP in March 2010 breached their fiduciary duty of loyalty in connection
with the sale of the company. The allegations which survived the motion to
dismiss were, in essence, that the sale of the company was orchestrated by
the largest shareholder, Vinod Gupta, because he desperately needed liquidity.
His need for liquidity was derived largely from his debt
of millions of dollars that he owed in connection with
settlements of prior derivative actions and SEC investigations. See,
e.g., In re: infoUSA, Inc. S'holders Litig., 953 A.2d 963 (Del. Ch.
2007) (See highlights of this decision on blog here).
The record indicated that Gupta did not have a material source of cash flow
since he resigned as CEO several years ago, and more than half of his
net worth was invested in his infoGROUP stock, which had ceased paying a
The Court reviewed allegations that only a sale of the
company would generate the liquidity that Gupta needed because he would have
suffered a substantial discount if he were to sell only his non-controlling
shares, and it was observed also that if he sold all of his shares on the open
market it would likely exert a downward pressure on the share price due to the
large percentage of his ownership.
The allegations were that the other board members
capitulated to Gupta's demands for a sale after succumbing to pressure exerted
through his pattern of threats and bullying, and unauthorized efforts to
promote a sale of the company. His methods to campaign for a sale included what
the Court referred to as "rather indelicate methods of persuasion," such as
threatening other board members with lawsuits. One chairman allegedly resigned
as a result of Gupta's bellicose behavior.
Gupta also allegedly disrupted the sale process by
influencing the list of potential bidders, conducting unsupervised negotiations
and leaking information about the sale of the various parties.
The Deficiencies in the Sale Process and
The alleged deficiencies included not treating all the
bidders equally and favoring one bidder over another, as well as refusing to
consider a counteroffer from another bidder and refusing to provide information
to all interested bidders.
The Court referred to a recent Delaware Supreme Court
decision in which motions to dismiss under Court of Chancery Rule 12(b)(6)
would be viewed from the traditional standard which requires a denial of a
motion "unless the plaintiff could not recover under any reasonably conceivable
set of circumstances susceptible of proof."
(1) Duty of Loyalty Claims
The claims included a breach of the fiduciary duty of
loyalty against Gupta, as a director, because of his receipt of a unique
financial benefit, namely liquidity, at the expense of other shareholders.
Moreover, the allegations include that the remaining members of the board
approved the sale in breach of their duty of loyalty and that they were
controlled and bullied by Gupta and were therefore not independent.
(2) Business Judgment Rule and Entire Fairness
The Court reiterated the truism that the business
judgment rule "is a presumption that directors of a corporation act
independently, with due care, in good faith and in the honest belief that
[their] actions were in the stockholders' best interests."
The Court recited the method to overcome that burden by
alleging facts which, "if accepted as true, establish that a majority of the
individual board members had a financial interest in the transaction or were
dominated or controlled by a materially interested director." If that
presumption is rebutted, the "entire fairness standard of review" is
applicable, with the initial burden of proving the entire fairness of the
transaction to be borne by the defendants.
(3) Liquidity as a Special Benefit to Gupta Only
The Court noted prior case law (at footnote 32) which
recognized liquidity "as a benefit that may lead directors to breach their
fiduciary duties." The record was replete with evidence that Gupta had
substantial cash requirements but very little cash flow. Gupta ultimately
received over $100 million in cash for the sale of his shares in the company
and the Court, in an understatement, based on the facts of this case, stated
that: "It would be naive to say, as a matter of law, that $100 million in cash
is immaterial to a man in need of liquidity."
The Court found that the liquidity benefit received by
Gupta was a personal benefit not equally shared by other shareholders even
though there was no allegation that Gupta received any additional compensation
for his shares as the result of the merger from either side deals or other
special terms such as compensation as an executive with the surviving company
or golden parachutes.
Although all shareholders received cash in the merger,
liquidity was a unique benefit to Gupta based on the illiquidity that resulted
from the larger percentage of his ownership in the company, which was
approximately 34%. The next largest shareholder had only 6% of the stock and
all other shareholders also held relatively small, liquid positions, and
therefore liquidity was not a benefit to them as it was to Gupta. Therefore,
the Court found that Gupta suffered a disabling interest when considering how
to cast his vote in connection with the sale.
4) Directors' Lack of Independence
The Court found that in addition to Gupta who was an
"interested director," the other directors also lacked independence because
they were dominated by a pattern of threats that intimidated them, even though
there was no allegation that they were financially dependent upon Gupta or that
there were disabling family or business relationships. The Court found that the
intimidation by Gupta so dominated the other board members that it could be
reasonably inferred that they capitulated to his demands through a pattern of
threats that rendered them non-independent for purposes of voting.
(5) Direct v. Derivative
The Court performed an analysis about whether the claims
were direct or derivative and concluded that the claims against the directors
were of a type that allowed them to be pursued as direct claims and not as
Read more Delaware business
litigation case summaries and commentary on Delaware
Corporate and Commercial Litigation Blog, a blog hosted by Francis G.X.
Pileggi, of Eckert Seamans.
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