In re Alloy, Inc., C.A. No. 5626-VCP (Del. Ch. Oct. 13, 2011) (Parsons, V.C.)
In this memorandum opinion, the Court of Chancery granted defendants’ motion to dismiss plaintiffs’ consolidated class action claim, finding that plaintiffs failed to allege facts sufficient for the Court to reasonably infer that defendant directors of Alloy, Inc. (“Alloy”) breached their fiduciary duty of loyalty and did not act in good faith. The Court also found insufficient evidence indicating that defendants breached their duty of disclosure to stockholders, given the exculpatory protections afforded by Alloy’s certificate of incorporation, and the Court’s view that the disclosure omissions alleged by plaintiffs were not made in bad faith.
In fall 2009, Alloy, one of the country’s largest providers of media and marketing programs, received an expression of interest from an undisclosed financial buyer. On November 16, 2009, the board of directors of Alloy (the “Board”) formed a special committee, consisting of four independent directors, to review, evaluate, negotiate, approve or disapprove any proposals received by Alloy. The special committee excluded the CEO and COO of Alloy, who both served on the Board (the “Management Directors”), and collectively held approximately 15% of Alloy’s outstanding stock. The special committee subsequently engaged outside legal counsel and Macquarie Capital (USA) Inc. (“Macquarie”) as financial advisor to both the special committee and to Alloy. Following its retention, Macquarie presented a range of strategic options to the Board, and after independently evaluating the options provided by Macquarie, the special committee decided to focus its efforts on a management-led going private transaction.
In December 2009, following a communication from the undisclosed financial buyer stating that it was no longer interested in acquiring Alloy, ZelnickMedia expressed interest in acquiring Alloy, and in March 2010, delivered a written proposal to acquire Alloy for $9.00 per share in cash. Between March 2010 and June 2010, the special committee and its advisors succeeded in raising the offer price to $9.80 per share, contingent upon the Management Directors (i) retaining their roles as CEO and COO of the surviving entity, (ii) assuming an approximately 15% equity stake in the surviving entity, and (iii) receiving a profit interest in the surviving entity representing 3.5% of such entity’s fully diluted equity. On June 23, 2010, Macquarie delivered a fairness opinion to the special committee indicating that the terms of the merger were fair to Alloy’s unaffiliated stockholders, and the special committee recommended that the Board approve the transaction. The special committee also recommended that the chairman of the special committee (the “Chairman”) receive a one-time payment of $100,000 as compensation for his service to the committee. Following Board approval of both the merger and the one-time payment to the Chairman, Alloy announced the merger, noting that the $9.80 per share offer price represented a 14% premium over Alloy’s June 23 closing price, and a 27% premium over Alloy’s average 30-day closing price.
Alloy subsequently filed its preliminary proxy statement, which disclosed two potential conflicts of interest between Alloy and Macquarie, including the possibility that Macquarie and its affiliates might co-invest in the surviving entity, and the fact that a large portion of Macquarie’s fees were contingent upon the completion of the merger. Alloy’s stockholders approved the merger at a special meeting held on November 8, 2010, and the transaction closed the next day.
In analyzing plaintiffs’ claims that director defendants breached their fiduciary duties in negotiating the merger by remaining “subjugated to the wills” of the Management Directors, the Court first considered whether members of the special committee were disinterested and independent. Addressing plaintiffs’ factual allegations, the Court determined that claims that the special committee “blindly” focused on a going private transaction in lieu of other strategic alternatives did not implicate director self-interest and “at best” implicated a duty of care claim that was exculpable pursuant to the protections afforded by Alloy’s certificate of incorporation and DGCL Section 102(b)(7). The Court also dismissed plaintiffs’ allegation that the Management Directors exerted control over the Board based solely upon their 15% stock ownership interest in Alloy, noting that the Board’s seven outside directors had the ability to remove the Management Directors, and there was no evidence suggesting that the Management Directors exerted actual control over the special committee or the Board. Characterizing as “conclusory” plaintiffs’ allegation that the special committee was unable to negotiate effectively with the Management Directors as a result of such directors’ “superior knowledge” of Alloy, the Court also found no facts evidencing any threats made by the Management Directors, or indicating that the actions of the Management Directors chilled potential competing offers. Finally, the Court dismissed plaintiffs’ arguments that prior personal and professional relationships between the Chairman and the Management Directors and the $100,000 one-time payment to the Chairman affected the Chairman’s independence, noting the absence of facts indicating that the prior relationships affected the Chairman’s view of the merger, or that the $100,000 payment was material from a financial standpoint.
The Court then examined whether the Board and the special committee had acted in good faith, reaffirming that in order to demonstrate bad faith, plaintiffs were required to show that the decision to approve the merger was “‘so far beyond the bounds of reasonable judgment that it seems essentially inexplicable on any ground other than bad faith.’” (citing Crescent/Mach I Partners, L.P. v. Turner, 846 A.2d 963, 981 (Del. Ch. 2000)). In support of its claim, plaintiffs argued that the Board could not have relied upon the fairness opinion rendered by Macquarie since (i) Macquarie was retained by the special committee and Alloy, and the Management Directors controlled Alloy by virtue of their management roles, (ii) the Management Directors participated in most if not all due diligence meetings held by Macquarie, (iii) Alloy’s proxy statement disclosed that Macquarie and its affiliates might co-invest in the surviving entity, and (iv) Macquarie’s compensation was largely contingent on the consummation of the merger. Dismissing plaintiffs’ arguments, the Court first cited the absence of evidence suggesting that Macquarie’s representation of Alloy caused Macquarie to further the personal interests of the Management Directors, and affirmed that senior managers routinely attend due diligence meetings with investment advisors given the institutional knowledge such managers possess. Citing case law requiring the disclosure of contingent financial advisor fee arrangements, the Court nonetheless reiterated “the need to disclose does not imply that contingent fees necessarily produce specious fairness opinions.” The Court also discounted Macquarie’s possible co-investment in the surviving entity, noting the broad nature of Macquarie’s investment activities disclosed in Alloy’s proxy statement, and finding insufficient facts to support an inference that Macquarie altered its valuation of Alloy in light of a potential future investment in the surviving entity. With no basis to determine that the merger consideration was inadequate or that the Board acted in bad faith as a result of the benefits conferred to the Management Directors, particularly since the benefits flowing to the Management Directors were originally proposed by ZelnickMedia, the Court held that defendants did not breach their fiduciary duty of loyalty.
Turning to plaintiffs’ disclosure claims, Vice Chancellor Parsons noted that the Court had denied plaintiffs’ motion to expedite after finding that plaintiffs failed to assert a colorable claim that disclosures contained in Alloy’s preliminary proxy statement were deficient. Following the filing of Alloy’s definitive proxy statement, plaintiffs failed to amend their complaint to assert that material omissions continued to exist in the proxy statement at the time of the stockholder vote approving the merger, and made no attempt to refute defendants’ argument that monetary damages are not available for disclosure violations once a merger has been consummated. Despite plaintiffs’ disclosure claims being “virtually abandoned” as a result of plaintiffs’ actions, the Court analyzed the disclosure claims in the context of the directors’ fiduciary duties, finding no evidence that the directors breached their duty of loyalty, and affirming that the exculpatory protection afforded by DGCL Section 102(b)(7) precluded the recovery of money damages for any disclosure claims implicating the directors’ fiduciary duty of care.