In re Cellular Telephone Partnership Litigation, C.A. No. 6885-VCL (Del. Ch. March 9, 2022)
In this post-trial memorandum opinion, Vice Chancellor Laster held that defendant AT&T breached its fiduciary duty of loyalty by engaging in an unfair and self-interested transaction in an attempt to freeze out the minority-partner plaintiffs.
During the 1980s, the Federal Communications Commission (the “FCC”) conducted lotteries to award the rights to construct cellular telephone networks in particular geographic areas. To increase their odds of winning, some lottery participants entered into an arrangement similar to an office pool: If one member of the pool won the FCC’s lottery, then the winner would contribute its rights to a partnership and receive a 50.01% interest in the partnership. The other members of the pool would receive shares of the remaining 49.99% interest. Accordingly, one of the group members won the lottery for the Salem, Oregon market and sold her rights to a predecessor of AT&T.
In 1988, AT&T and the other members of the pool formed a partnership (the “Partnership”) and executed a partnership agreement to govern its affairs. Under the agreement, AT&T, as the majority owner, controlled (i) the outcome of any partner-level vote, (ii) the Partnership’s Executive Committee via the right to appoint two of three representatives, and (iii) the Partnership’s daily operations. In 2005, in response to the developments affecting the cellular industry, AT&T caused the Partnership to enter into a Management and Network Sharing Agreement (the “Management Agreement”), which specified how AT&T would operate the Partnership as part of its national cellular business. Despite having written the Management Agreement, AT&T pervasively disregarded it. Around 2007, with evolutions in the cell phone industry, including the launch of smartphones, AT&T foresaw an explosion in data usage that would lead to profitable new businesses and products, causing the value of the Partnership to increase significantly.
To capture the increase in value, AT&T began to explore ways to eliminate its minority partners. As part of that process, AT&T obtained a valuation of the Partnership and offered to buy out the minority partners’ interests based on a 5% premium over the $219 million valuation, which five of the twelve minority partners accepted. Although the remaining seven partners rejected the offer, they were unable to stop a freeze-out transaction, at the $219 million valuation, due to AT&T’s control over the Partnership. The objecting partners brought suit against AT&T in 2011, contending that AT&T, as a clearly conflicted controller standing on both sides of the transaction, had the burden of proving the transaction’s entire fairness.
After trial, the Court found that AT&T breached its duty of loyalty by engaging in an unfair process under a number of factors, including: timing the freeze-out to occur before the minority partners could realize any value from the projected data revolution; failing to negotiate with the minority partners in order to intentionally keep them in the dark; declining to condition the freeze-out on a majority-of-the-minority vote; either refusing to respond to minority partner questions or providing false answers during the special meeting where AT&T used its controlling interest to approve the freeze-outs; withholding information requested by its financial advisor to properly value the Partnership; and ultimately creating a coercive, two-tier offer that pressured the minority partners to accept a 5% premium or be cashed out at a lower price. The Court also noted the fact that so many minority partners rejected the offer, even with a 5% premium, was “strong evidence” of an unfair price.
As to the Court’s fair price analysis, AT&T relied, unsuccessfully, on its expert witness, rather than its valuation firm, to show that the price was fair. AT&T’s expert, however, was unable to overcome the overwhelming evidence that the freeze-out price was unfair, including that: the price failed to account for value that the partnership was entitled to under the Management Agreement; the price failed to account for the value of the partnership’s litigation asset from AT&T’s past breaches of the Management Agreement; AT&T’s own contemporaneous documents showed that the partnership was worth considerably more than the freeze-out price; and the Court found the valuation methods AT&T relied on were unpersuasive. Accordingly, the Court held that AT&T failed to prove the transaction’s entire fairness, and AT&T therefore breached its fiduciary duty of loyalty to the minority partners. The Court held that the partnership’s actual fair value should have been $714 million and granted the minority partners their pro rata value of the partnership, plus pre- and post-judgment interest.
Finally, the Court declined to award Plaintiffs’ attorney’s fees under the bad faith exception to the American Rule. The Court held that the minority partner plaintiffs failed to show abuse of process or clear evidence of subjective bad faith by AT&T, despite the Court’s prior statement giving AT&T “the distinction of being the party most obstructive of the discovery process in this Court’s experience.”