July 24, 2024

Major Delaware Court Of Chancery M&A And Corporate Law Cases – October 2022 – Contracts and Commercial Law

Major Delaware Court Of Chancery M&A And Corporate Law Cases – October 2022 – Contracts and Commercial Law

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Elon Musk’s decision to lay down his sword and purchase
Twitter allowed the Delaware Court of Chancery to resume its work
out of the national spotlight. While we miss out on learning if the
Court of Chancery would compel specific performance and order the
world’s richest man to pay $44 billion for a company he
ostensibly didn’t want, the court continued to issue many
important decisions in October, highlighted below:

▪ Members of an Allegedly Manager-Managed LLC Still Owed
Fiduciary Duties

Jung v. El Tinieblo International, Inc.,
C.A. No. 2021-0798 (Del. Ch. Oct. 31, 2022)

The defendants hired Jung to be the Chief Marketing Officer of a
tequila-importing business. The defendants also gave Jung a 2%
ownership interest in the underlying limited liability company
(LLC). The defendants terminated Jung’s contract six months
later but never bought out her 2% ownership interest. The
LLC’s members later caused their Delaware company to acquire
100% of the LLC’s interests. Jung sued the members, the LLC,
and the Delaware company for breach of contract and breach of
fiduciary duties.

The defendants moved to dismiss Jung’s fiduciary-duty
claims. First, the defendants argued the LLC was manager-managed
and, thus, the LLC members did not individually owe her fiduciary
duties. Members of a manager-managed LLC do not typically owe
fiduciary duties. The court analyzed the LLC’s operating
agreement. The operating agreement appointed a person as manager,
but only afforded that person the power to sign checks. The court
concluded the LLC’s operating agreement otherwise vested the
members with all management responsibility. The court allowed
Jung’s claims against the members to proceed. Second, the
court dismissed Jung’s claims against the LLC because the
company itself owed her no fiduciary duties. And third, the court
found the members’ Delaware company could have plausibly
aided and abetted the fiduciary-duty breach, so that claim

Key Takeaway: A threshold question for many
LLCs is whether they are member-managed or manager-managed.
Founders wanting to insulate themselves from fiduciary-duty claims
must clearly vest the LLC’s management with a manager in the
operating agreement. Otherwise, members remain exposed to
fiduciary-duty claims in Delaware.   

▪ Appraisal Action Challenges Discounted Cash Flow
Analysis and Yields Nearly Four Times Greater Valuation

Ramcell, Inc. v. Alltel Corporation, C.A.
No. 2019-0601 (Del. Ch. Oct. 31, 2022)

Appraisal proceedings give stockholders dissenting from a merger
the opportunity to receive a judicially determined fair value for
their shares of the company. In this case, the plaintiff challenged
a short-form merger under 8 Del. C. § 253 where its stock was
canceled and converted into the right to receive merger
consideration of $2,963 per share. The plaintiff filed a lawsuit
challenging that valuation.

Both parties agreed that the plaintiff’s shares should be
valued exclusively using a discounted cash flow approach, which
analyzes the value of a company as equal to the present value of
its projected future cash flows. However, the parties’
experts sharply disagreed over the inputs to the
discounted-cash-flow (DCF) model and how they should be calculated.
The experts’ valuations ranged from $5,000/share to over
$30,000/share. In a dense, 86-page opinion, the court analyzed all
relevant factors focused on (a) an estimate of future cash flows,
(b) the discount rate, (c) the future cash flow’s terminal
value, and (d) costs and interest.

The court concluded that the plaintiff’s per share fair
value was $11,464.57 as of the valuation date. The plaintiff was
awarded $1.7 million.

Key Takeaway:  The opinion is a must-read
for any business or consulting expert utilizing DCF for purposes of
valuation. The plaintiff’s wager that it was underpaid and
the decision to challenge the appraisal yielded it an additional
$8,500/share value.   

▪ Tortious Interference With Contract is Easier To Plead
Than Aiding and Abetting a Fiduciary Duty Breach

Atlantic NWI, LLC v. The Carlyle Group
, C.A. No. 2021-0944 (Del. Ch. Oct. 31, 2022)

Atlantic NWI and REDCO formed a joint venture (JV) to pursue
real estate investment opportunities. Atlantic NWI later discovered
that REDCO was competing with the JV by offering investment
opportunities to Carlyle in ways that breached REDCO’s
contractual and fiduciary duties. Atlantic NWI settled its claims
against REDCO, then asserted third-party claims against Carlyle for
(a) tortious interference with the JV’s LLC agreement and (b)
aiding and abetting REDCO’s breach of fiduciary duty.

Vice Chancellor Glasscock’s decision illustrates that the
differences in two related claims often plead together in similar
circumstances. Atlantic NWI’s tortious interference claim
required Carlyle’s knowing interference with a contractual
right. The court found this allegation was adequately pled in light
of the plaintiff-friendly inferences available at the motion to
dismiss phase. Atlantic NWI’s equitable claim for aiding and
abetting required Carlyle’s knowing assistance in
REDCO’s breach of a fiduciary duty, “with a specific
pleading of facts indicating the required scienter.” The
court found Atlantic NWI could not make sufficient non-conclusory
allegations of fact from which the court could infer
Carlyle’s knowledge of REDCO’s fiduciary duties and
dismissed the aiding and abetting claim.

Key Takeaway:  Tortious interference with
contract claims need only allege generally that a defendant acted
with a specific state of mind, such as knowledge. Aiding and
abetting claims requires a heightened scienter pleading, with the
burden on the plaintiff to plead “specific facts from which
[the] court could reasonably infer” that the defendant had
“actual or constructive knowledge” of its participation
in the specified breach.

▪ Court of Chancery Has Jurisdiction Over Officers,
Directors, and De Facto  Managers in SPAC Merger

In re P3 Health Group Holdings, LLC, C.A.
No. 2021-0518 (Del. Ch. Oct. 14, 2022)

P3 Health Group Holdings (P3 Health) was a privately held
Delaware LLC that engaged in the business of population health care
management. P3 Health was a portfolio company controlled by a
private equity firm, Chicago Pacific. Hudson Vegas Investment SPV
(Hudson Vegas) was a minority investor in P3 Health. P3 Health
merged with a special purpose acquisition company (SPAC) in the
summer of 2021 – a transaction challenged by Hudson Vegas.
Hudson Vegas sued for breach of fiduciary duty, naming various
corporate officers, directors, and private equity principals. In a
series of separate opinions, the court found Delaware had
jurisdiction over each:

  1. The court found P3 Health’s General Counsel
    impliedly consented to jurisdiction in Delaware through her role as
    a senior manager of a Delaware LLC and her direct involvement in
    the underlying transaction. As P3 Health’s General Counsel
    and Chief Legal Officer, the court concluded that the General
    Counsel “participated materially in the management” of
    P3 Health and the underlying transaction by directing Latham &
    Watkins’ work.

  2. The court ruled that the founder of the SPAC
    consented to jurisdiction in Delaware. Chicago Pacific used the
    SPAC to raise public capital through an initial public
    offering and subsequent merger with P3 Health. As the court
    summarized, “An individual who causes the formation of a
    Delaware entity for the purpose of engaging in a transaction must
    expect to be subject to suit in Delaware for claims based on the
    resulting transaction.”

  3. The court held that one of the Chicago Pacific
    principals, Sameer Mathur, who oversaw the fund’s investment
    in P3 Health was subject to Delaware’s jurisdiction. Mathur
    was not a manager and “held no official role with the
    Company, such as an officer title or a position as an
    employee.” Nevertheless, the court found jurisdiction was
    proper under concepts of de facto management:
    “Mathur made decisions on behalf of the Company, directed the
    Company’s management to take action, instructed the
    Company’s advisors to perform work without authorization from
    Company management, berated the Company’s outside counsel for
    not running documents by him before sending them out, and enjoyed
    access to information that even formal managers of the Company did
    not have.”

Key Takeaway:  The reach of
Delaware’s long-arm statute is long. Officers, private equity
fund principals, and executives engaging in complex corporate
transactions using Delaware entities cannot escape a Delaware
court’s jurisdiction when the businesses they formed and ran
are challenged. 

▪ Seller’s Restrictive Covenant Agreed to as Part
of Acquisition Deemed Unenforceable

Kodiak Building Partners, LLC v.
Adams, C.A. No. 2022-0311 (Del. Ch. Oct. 6, 2022)

See Taft’s in-depth discussion of this case here.

Kodiak was a Delaware LLC. Kodiak owned several companies in the
construction industry specializing in lumber and building
materials, roof trusses, wall board, construction supplies, and
kitchen interiors. Kodiak acquired a roofing company managed
by Adams. Adams agreed to a restrictive covenant as part of the
purchase. Adams promised not to compete with any of Kodiak’s
portfolio companies within the states of Washington or Idaho or
within a 100-mile radius of any other Kodiak company location.
Adams also promised not to solicit any of Kodiak’s portfolio
companies’ prospective clients or customers. Adams later
accepted employment with a Kodiak competitor, and Kodiak filed suit
to block his competitive activity.

Kodiak argued Adams’ restrictive covenant was reasonable
because it had a legitimate interest not only in Adams’
company’s goodwill but also that of Kodiak and its other
portfolio companies. The court rejected this argument. It held that
an “acquirer’s valid concerns about monetizing its
purchase do not support restricting the target’s employees
from competing in other industries in which the acquirer also
happened to invest.”

Key Takeaway:  Restrictive
covenants must be tailored to protect a buyer’s legitimate
business interest in the purchased company or assets, not a
buyer’s pre-existing business or assets.  

Save The Date

Taft’s M&A Litigation team will be hosting a webinar
on Dec. 14, 2022, to discuss the year’s most significant
M&A developments. One hour of free CLE will be provided.

The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.