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Nemec v. Shrader, Civ. A. No. 3787-CC (Del. Ch. Apr. 30, 2009) (Chandler, C.)

April 30, 2009

In this case, the Court dismissed claims by two retired officers of Booz Allen Hamilton Inc. (“Booz Allen” or the “Company”) challenging a decision by the Company’s directors to redeem shares held by the officers, thereby depriving them of the benefit of consideration received in connection with the Company’s sale of its government consulting business. Plaintiffs Joseph Nemec and Gerd Wittkemper were “founding fathers” of the modern business and officers of Booz Allen. Nemec and Wittkemper retired from Booz Allen in March 2006. Throughout their tenure, the plaintiffs (and other officers of the Company) were partially compensated with annual stock rights that could be converted into Booz Allen common stock (the “Stock Plan”). Under the Stock Plan, each retired officer held a “put right,” for a period of two years from the date of his or her retirement, to sell his or her shares back to the Company for book value. After the put right expired, the Company could redeem all or part of the retired officer’s stock at book value.

Nemec chose to retain all of this Booz Allen stock during the two-year period, and Wittkemper chose to retain most of his stock. Booz Allen was divided into two lines of business — a government consulting business and a commercial consulting business. In late 2007, The Carlyle Group (“Carlyle”) submitted a proposal to purchase the government business for $2.54 billion. In March 2008, the Booz Allen board of directors departed from its usual practice and preserved the status quo of the Company’s stock ownership so as not to disfavor any existing stockholder. By this time, the price for the transaction with Carlyle was set and would generate a price of more than $700 per share to Booz Allen stockholders. Plaintiffs were aware of this price and were assured by Booz Allen’s chairman and CEO that they would remain as Booz Allen stockholders until the close of the transaction. Nevertheless, in April 2008, before the formal approval of the transaction with Carlyle, Booz Allen redeemed plaintiffs’ shares at the pre-transaction book value of $162.46 per share. At the time of the redemption, nothing was expected to impede the closing of the transaction. Indeed, on May 16, 2008, one day after the signing of the merger agreement, Booz Allen publicly announced the sale of its government business to Carlyle for $2.54 billion. The defendant directors collectively owned more than 300,000 shares of Booz Allen stock, and the redemption of plaintiffs’ shares resulted in an additional $6 million being distributed to the directors in connection with the transaction. Plaintiffs brought suit, alleging (i) that the directors breached their fiduciary duty of loyalty by effectively awarding themselves millions of dollars at plaintiffs’ expense, (ii) that the Company breached the implied covenant of good faith and fair dealing, and (iii) that the defendants were unjustly enriched. Defendants filed a motion to dismiss for failure to state a claim under Court of Chancery Rule 12(b) (6).

Although the Court “sympathized with plaintiffs’ sense of betrayal,” the Court granted defendants’ motion to dismiss. As to plaintiffs’ claim that the directors breached their fiduciary duty of loyalty when they redeemed plaintiffs’ shares, the Court found that the relationship between the plaintiffs and directors was governed by the Stock Plan, and therefore should be governed by contract law, not fiduciary duty principles. The Court continued, however, by noting that even if it were to analyze whether the directors breached their fiduciary duties, the plaintiffs’ claim must still fail because plaintiffs did not allege sufficient facts to show that the directors owed them distinct fiduciary duties, or that the directors’ decision to redeem plaintiffs’ shares was not in the best interest of the Company or its stockholders as a whole, or otherwise contrary to the exercise of reasonable business judgment.

The Court also granted defendants’ motion to dismiss as to plaintiffs’ claim that the Company breached the implied covenant of good faith and fair dealing by failing to exercise its option to redeem the shares. The Court noted that Booz Allen received the fruits of its bargain under the contract by exercising its redemption option, and the plaintiffs received their negotiated benefit through a substantial payment from the Company upon redemption of their shares. The parties understood the nature of their bargain, including the negotiated risk that the outcome may benefit one party over another.

Finally, the Court granted defendants’ motion to dismiss plaintiffs’ claim for unjust enrichment, noting that Delaware courts have consistently refused to permit claims for unjust enrichment when the alleged wrong arises from a contractual relationship. Because Booz Allen properly exercised its option to redeem under the Stock Plan, the Court held that plaintiffs could not maintain their unjust enrichment claim.

The full opinion is available here