Dieckman v. Regency GP LP, et al., No. 208, 2016 (Del. Jan. 20, 2017) (Seitz, J.)
In this opinion, the Supreme Court of the State of Delaware relied on the implied contractual covenant of good faith and fair dealing (the “Implied Covenant”) to reverse the Delaware Court of Chancery’s dismissal of a unitholder’s challenge to a merger (the “Merger”) of two affiliated, publicly traded master limited partnerships, Regency Energy Partners LP (“Regency”) and Energy Transfer Partners L.P. (“ETP”).
The general partners of both Regency and ETP were under common ownership and control. The Regency partnership agreement contained a resolution of conflicts provision insulating conflicted transactions from unitholder challenge if, among other things, the transaction was approved by “Special Approval” of a majority of the members of a conflicts committee made up of independent directors of the general partner, or by a majority of unitholders not affiliated with the general partner (“Unaffiliated Unitholder Approval”). The Regency general partner employed these “safe harbors” in the partnership agreement in order to resolve the conflict inherent in the Merger. The Merger was ultimately approved by Special Approval and also received Unaffiliated Unitholder Approval. A Regency unitholder sued, claiming that the safe harbors were not satisfied because a member of the conflicts committee was not independent and because the general partner made false and misleading statements in the proxy statement used to solicit Unaffiliated Unitholder Approval. The Court of Chancery held that the Unaffiliated Unitholder Approval safe harbor was satisfied because the partnership agreement eliminated the fiduciary duty of disclosure and expressly required only minimal disclosure in connection with a merger (i.e., including a copy of the merger agreement with the notice of meeting). The Court of Chancery also found that the elimination of fiduciary duties and the express merger disclosure provision of the partnership agreement precluded application of the Implied Covenant. As a result, the Court of Chancery dismissed the case.
On appeal, the Delaware Supreme Court found that the Court of Chancery focused too narrowly on the merger disclosure provision, and instead should have focused on the Implied Covenant’s application to the safe harbor provisions. The Court reasoned that implied in the safe harbor provision is a requirement that the general partner not act to undermine the protections afforded unitholders through the safe harbor process. More specifically, with respect to the Unaffiliated Unitholder Approval, when the general partner issues a proxy statement in order to secure such approval, an obligation not to mislead unitholders is implied in such safe harbor provision. Similarly with respect to the Special Approval, implied in such safe harbor provision is a condition that the conflict committee members be genuinely qualified as unaffiliated with the general partner and independent at all relevant times, and that deceptive conduct not be used to create the false appearance of an unaffiliated, independent conflicts committee.
Applying the Implied Covenant, the Delaware Supreme Court found that the plaintiff pled facts sufficient to doubt the general partner’s satisfaction of the safe harbor requirements. Regarding Special Approval, the plaintiff alleged that one of the conflict committee members started reviewing the transaction while still a member of an affiliate board, and during the review process resigned from that board and became a member of the general partner’s board and conflict committee, and that both members of the conflicts committee reviewing the Merger joined an affiliate’s board after the Merger closed. Regarding Unaffiliated Unitholder Approval, the plaintiff alleged that the proxy statement contained a misleading assurance that the Merger was negotiated and approved by unaffiliated and independent conflict committee members, and that a reasonable investor may have considered such assurance to be a material fact in favor of the transaction’s fairness. The Court held these allegations raised sufficient doubt that the general partner could use the safe harbors to shield the Merger from judicial review.