Delaware Business Litigation Report

The plan of allocation approved in Ginsburg v. Philadelphia Stock Exchange et. al., C.A. No. 2202-CC is a landmark decision for those in the business of litigation arbitrage, buying shares of a company that is involved in a class action that may lead to substantial settlement proceeds.

Hildreth v. Castle Dental Centers, Inc., Del. Sup. C.A. No. 195, 2007 (November 15, 2007).

A tricky issue arises when a defective certificate of incorporation causes stock to be void. Here, the preferred stock was validly authorized but there was not enough common stock to fulfill the conversion rights of the preferred. The Supreme Court held that the defect was with the common stock, not with the preferred. Hence, one defect in the "contract" will not invalidate the whole contract.

Law Debenture  Trust Company of New York v. Petrohawk Energy Corp., C.A. No. 2422-VCS (August 1, 2007).

Change of control provisions are common in employment contracts and other contexts. Here the provision was in a debenture. While primarily focusing on the specific language involved, this opinion is useful to others to see how to avoid triggering a change in control provision while at the same time implementing a merger.

Energy Partners Ltd. v. Stone Energy Corporation, C.A. No. 2402-N (Del. Ch. October 11, 2006).

The Court of Chancery may be called upon to decide the scope of a board of director's duties in appropriate cases. Here, the Court interpreted a common merger agreement provision that limited the board's options in considering third party bids while the merger was pending. The Court held the provision permitted contact with the new bidder.

Superior Vision Services, Inc. v. Reliastar Life Insurance Company, C.A. No. 1668-N (Del. Ch. August 25, 2006).

This decision answers the question of when a minority shareholder may block a dividend payment pursuant to the authority to do so in the company's certificate of incorporation. The Superior Vision charter provided that a dividend could not be paid absent the consent of 2/3 of the shareholders. As a 44% owner, the defendant refused to consent to the dividend. The company sued alleging that the defendant had violated a fiduciary duty to consent to the dividend and its duty of good faith and fair dealing.

The Court first held that absent actual control over the board of directors, a minority shareholder would not be deemed to be in control of the board just because it can block a board decision to pay a dividend. As a result, the Court concluded that the defendant did not owe a fiduciary duty to the company or its shareholders. In addition, the Court held that when, as here, the certificate of incorporation confers a power to veto a transaction and does not condition the exercise of that right, then there is no duty to act reasonably in that regard. Hence, the duty of good faith and fair dealing was not implicated and the Court dismissed the complaint.

Benihana of Tokyo, Inc. v. Benihana, Inc., No. 36, 2006, 2006 WL 2465412 (Del. Aug. 24, 2006).

The Delaware Supreme Court affirmed post-trial ruling by Court of Chancery that $20 million issuance of preferred stock to a third-party holding company was authorized by the corporate charter and that the directors acted properly in approving that transaction.

Blue Chip Capital Fund II Limited Partnership v. Tuberger, C.A. No. 1611-N (Del. Ch. August 22, 2006).

The Court of Chancery frequently is called upon to interpret a corporate certificate of incorporation. In this decision, the Court held that a certificate provision permitting a corporation to withhold a reserve for contingent liabilities in connection with calculating the liquidation preference for preferred shareholders did not automatically authorize the board to hold back the highest possible amount, even if doing so was unreasonable based on objective factors. The Court also held that the authority granted by 8 Del C. §281 to hold back a reserve for continent liabilities did not authorize the board to do so under the charter. Instead, the terms of the certificate need be interpreted on its own terms.

Thoughtworks, Inc. v. SV Investment Partners, LLC, C.A. No. 1695-N, 2006 WL 1903127 (Del. Ch. June 30, 2006).

It is often said that preferred stock has only the rights granted to it in the certificate of incorporation. This case illustrates that the Court of Chancery will not, however, hesitate to enforce those rights when the certificate of incorporation is clear. Here, the certificate stated that the preferred was entitled to be redeemed and to consent to an extension of the company line of credit. The Court enforced those rights.

Harbinger Capital Partners Master Fund I, Ltd. v. Granite Broadcasting Corporation, C.A. No. 2205-N, 2006 WL 1875918 (Del. Ch. June 29, 2006).

The Court of Chancery has held that convertible preferred stock, even with a mandatory redemption date, is still to be considered equity under the Delaware General Corporation Code. This remains true even if under the revised GAAP rules the preferred would be treated as debt.

Lions Gate Entertainment Corp.v. Image Entertainment Inc., C.A. No. 2011-N, 2006 WL 1668051 (Del. Ch. June 5, 2006).

The Court of Chancery has again ruled that provisions in corporate bylaws or certificates of incorporation that violate the Delaware General Corporation Law are invalid. Thus, the Court struck down a bylaw provision that attempted to give the directors the power to amend the bylaws when that power was not conferred by the certificate of incorporation as required. The Court also voided a certificate of incorporation provision that tried to give the directors alone the right to amend the certificate.

Caudill v. Sinex Pools, Inc., C.A. No. 04C-10-090 WCC, 2006 WL 258302 (Del. Super. Ct. Jan. 18, 2006).
In his complaint, the plaintiff, Ken Caudill, alleged that Sinex Pools, Inc. breached its contract to build Caudill an in-ground swimming pool. Subsequently, plaintiff amended his complaint to include Romie Bishop and Shirley Bishop, individually, based on the theory that Sinex Pools, Inc. was not a legal entity. The Bishops moved for summary judgment, arguing that Sinex Pools, Inc., while not formally incorporated, amounted to a de facto corporation. A de facto corporation is a company that was not properly incorporated despite a good faith and bona fide effort, but is still treated as a corporation by the courts. Granting the Bishops' motions for summary judgment, the Superior Court found that they had met the three-pronged test to establish a de facto corporation.

Unisuper v. News Corp., C.A. No. 1699-N, 2005 WL 3529317 (Del. Ch. Dec. 20, 2005).

In the context of converting from an Australian corporation to a Delaware corporation, News Corp.'s board adopted a policy that if a shareholder rights plan was adopted following reincorporation, the plan would have a one-year sunset clause unless shareholder approval was obtained for an extension. The policy also provided that if shareholder approval was not obtained, the company would not adopt a successor shareholder rights plan having substantially the same terms and conditions. Several weeks later, News Corp.'s board adopted a poison pill in response to a specific third-party takeover threat. One year later, the board extended the poison pill without a shareholder vote, in contravention of its prior policy.

Benihana of Tokyo, Inc. v. Benihana, Inc., C.A. No. 550-N, 2005 WL 3753046 (Del. Ch. Dec. 8, 2005).

Stockholder sought rescission of an agreement to issue $20 million of preferred stock to a third-party holding company. Plaintiff alleged that the transaction violated 8 Del. C. - 151 and corporation's certificate of incorporation by granting the holding company shares with preemptive rights and was therefore void as ultra vires. Plaintiff also alleged that a majority of the corporation's directors breached their fiduciary duties in approving the transaction and that the transaction had an improper primary purpose to dilute Plaintiff's interest in the corporation and entrench certain director defendants. Plaintiff further alleged that the acquirer aided and abetted the director defendants in their actions.

Matthews v. Groove Networks, Inc., C.A. No. 1213-N, 2005 WL 3529317 (Del. Ch. Dec. 8, 2005).

Subsequent to merger between corporate Defendant and Microsoft, common stockholder objected to payment of liquidation preference in favor of the corporation's preferred stockholders. The certificate of incorporation stated that, in the event of a merger, the preferred stockholders would be paid from the corporation's "Distributable Assets," "whether from capital, surplus or earnings." The certificate clarified that in the event of a sale of a majority of the corporation's assets, the Distributable Assets would be the net proceeds of such sale. But the certificate did not contain a corollary statement clarifying what would constitute Distributable Assets in the event of a merger. The common stockholder sued, arguing that the merger consideration was not intended to be part of the assets of the corporation.

The Capital Group Companies, Inc. v. Armour, 2005 WL 678564 (Del. Ch. Mar. 15, 2005).

A Delaware corporation brought suit against the two trustees of a trust, who are husband and wife, seeking a declaration that certain contractual stock transfer restrictions alleged to apply to shares of its common stock owned by the trust were valid and enforceable. The two defendants were parties to a divorce proceeding and, in connection with that proceeding, the wife claimed an interest in the stock owned by the trust. The issue was whether the stock transfer restrictions could reasonably operate to prevent the transfer to, or disposition in favor of, the wife of any legal or beneficial interest in the stock.